Gold Standard

Gold Standards

Country is said to have gold standard when gold the standard of value or when gold is the basis of all currency. There are four types of gold standard.
Gold Currency Standard
This is the oldest type of gold standard and is called full gold standard. A country is said to be full gold standard when gold serves not only as a standard of value but also circulates as coins. Britain, U.S.A, France, Germany and other European countries had this type of gold standard before 1914.
Gold Bullion Standard
Under this system the value of the currency is fixed in terms of gold by making such currency convertible in to gold (bullion, not coins). Gold does not circulate as coins. The countries where this system prevailed gold may move freely into or outside the country. No gold coins circulated. The idea was to make it available only for foreign payments.
Gold Exchange Standard
It is the gold standard for making foreign payments only; inside the country the people use token coins and paper notes. For making foreign payments the external value of the home currency convertible in to gold and the currency authority of the home country is ever prepared to make available the foreign currency in exchange of home currency. When the home country’s nationals receive payment from abroad in the form of currencies convertible into gold the currency authority of the home country converts it into home currency.
Two reserves are kept to ensure the smooth working of this system. One reserve is kept in the form of home currency inside the country and another reserve is kept at a foreign center in gold. When the home country has to receive payments from abroad then gold or foreign currency convertible in to gold is paid in to the reserve kept at the foreign center and in exchange the international currency is issued from home reserve.
When payments have to be made abroad then the internal currency is paid to the currency authority with in the home country and is and is put in to the home reserve. The currency authority give in exchange gold out of the reserve kept at the foreign center.
One of the greatest defects of gold exchange standard is that it is too complicated. It is not automatic. It requires unnecessary duplication of reserves.
Gold Parity Standard
It is latest to enter the gold standard. It is the type, which prevails under the aegis of IMF. In this system the internal currency consist largely of notes and some form of metallic coins but not of gold, nor these notes are convertible in to gold coins, gold bullions a foreign currency based on gold. But the only respect that gold comes in to play under this system is that the currency authority takes upon itself, the obligation of maintaining the exchange rate of the domestic currency stable in terms of certain quantity of gold. This is the type of gold standard, which the member countries of the IMF are supposed to have.

Advantages of Gold Standard

1. It is an objective system and is not subject to changing policies of the government or the currency authority.
2. It enables the country to maintain the purchasing power of its currency for a very large time.
3. It preserves and maintains the external value of the currency (rate of exchange) within narrow limits. It provide fixed exchanges which is great bourn to traders and investors.
4. It gives the advantages of an international foreign currency. It creates an international measure of value.
5. It inspires confidence and contributes to national prestige.

Market

In ordinary language market means a place where things are bought and sold, but in Economics the market does not mean a particular place or bazar, it only means a commodity and a group of buyers and sellers of the same. Thus we speak of cotton market or share market etc. Same are willing to buy and others are willing to sell. The buyers and sellers can with one another by verbal, by letter, telephone, internet etc but place does not matter.
Classification of Market
Categories of market are:
1. Perfect market
2. Imperfect market
Again categories are classified into:
Market on the Basis of Time
On the basis of time market could be classified into the following kinds:
1. Day–to-Day Market
This type of market is concerned with goods that are perishable like milk, fish, vegetable, fruits etc. The price in this market is determined by the demand of the market. If the demand expands the period is short that the supply can’t be increased immediately at all, therefore the price will increase similarly if demand decrease the time is so short that the surplus supply can’t be stored due to the perishability of the goods, obviously the price will decrease.
2. Short Period Market
It is the market when time allows supply to adjust with the demand of the market to the extent of available size of the firm or producing units. For example: If market demand is so goods per day and particular firm of the same goods could produce max: 100 units by using its full production capacity .If demand increases from 50 to 75 units the firm can supply utilising the unused capacity, but if demand becomes 120 it can’t be satisfied by existing production capacity because total size of firm is 100 units per day.
3. Long Period Market
When the period is so long that the supply can adjust with the demand of the market by changing the size of the firm. If the demand of the market increases immediately the prices will also increase. This increase of price will expand the margin of profits of the producers therefore the firm can increase the production through employing more labor, more machines , raw material etc. By increasing supply reduces the increased prices and they come again on the previous point. Similarly if demand falls the price also decrease and producers curtail their production due to decrease in margin of profits. As consequence of curtail in production the depressed price goes up again on the previous point.
Market on the Basis of Location
Markets can be classified on the basis of location.
1. Local Market
If the goods are sold and purchased in a limited area is called local market. For example: If the goods produced in Karachi are sold in Landhi or Malir, it will be the example of local market. Local market generally is concerned with the perishable good like milk, fish, bricks etc.
2. National Market
This is the kind of the market which covers the whole of the country. For example: the textiles of Karachi are sold in all the four provinces of Pakistan. Similarly sports goods produced in Sialkot are supplied in whole the country.
3. International Market
When the goods produced locally are sold in all the countries of the world is called International market. For example: the cars produced in Japan are sold in whole of the world. The buyers and sellers from all over the world compete with one another therefore prices are influenced by the world environment.
Market on the Basis of Nature of Goods
1. General Market
Market is said to be general where not a specific but general goods are sold and purchased. For example: if cloth, pots, shoes, vegetable, fruit are sold at a time it will be called general market.
2. Specialised Market
In this market special or specific goods are brought to sale in this kind of the market. For example: grains are sold in grain market similarly fruits are sold and purchased in fruit market. These markets provide facility to the buyers that they could purchase goods of their

Barter System

Introduction

Barter economy means the exchange of commodities. It consists if a bargain of commodity with the other with out the help of another of exchange, such as money. Therefore we can say that buying goods against goods is called barter system.
The barter system can easily be understood with the help of the following example. Suppose Mr. A is a farmer and produces wheat in his fields. When the crop is ready A finds that he can stock as much wheat as his family need for the whole year and still he will have a surplus which he can use for exchange purpose. Now he has to get his plough repaired through a carpenter. After availing the services of the carpenter, Mr. A makes him the payment in the form of wheat in exchange of his services. Again Mr. A wants to purchase cloth and goes to merchant’s shop. Here he exchanges the desired quantity of cloth with surplus wheat. Thus the process will keep on continuing and the needs and wants will be satisfied by making use of any commodity as the medium of exchange.

Defects of Barter System

Following are some of the difficulties of the barter system.
1. Double Coincidence of Wants
Barter requires a double coincidence of wants. If a person for insistence has wheat and wants to exchange it with cotton, he has to find a person possessing cotton and requiring wheat. It was possible only when the people lived in small areas and their wants were too limited.
2. Lack of Common Measures
There was no fixed measure in which two things could be exchanged. It means every one did not derive complete satisfaction out of his deal. The ratios of exchange were fixed accordingly to the necessities and demands of the parties. One party had to suffer under these conditions were each transaction is an isolated transaction.
3. Lack of Divisibility
Another great disadvantage of barter system was the lack of divisibility. Suppose a man possess horse and requires wheat and cotton in exchange but both of these commodities may not be obtained from one man. One person may have wheat another has rice in surplus and both of them want to exchange their commodities with the horse. Now the horse cannot be divided and fence the transaction may not be completed.
4. Lack of Store of Value
Under the barter system wealth consisted of non-durable goods, which are quickly perished or detoriated with the passage of time. There value may not be stored for long period. Hence no body could think of storing something to provide against future.
5. Inconvenient Media of Exchange
Commodities like little wheat or other things alike cannot be easily transported and thus have little value. Therefore under barter system the mediums of exchange were really inconvenient.

How Money Removed The Difficulties of Barter

With the help of money it has now become possible to over come the inconveniences of barter system.
1. Standard of Value
Under the system of exchange i.e. sales and purchase the value of each commodity is expressed in terms of standard of value such as gold or silver.
2. No need of Double Coincidence
Under monitory economy there is no such need of such two persons whose surplus suits with each other wants.
3. Sub-Division of Articles is Not Necessary
Money has solved the difficult of sub-divisibility of some of the commodities with out any loss. Under this system if any one needs urgent cash and has some valuable he can simply sell it in the market and get the desired money.
4. Store of Value
Money has provided man an opportunity to save money in the form of liquid cash that helps him to preserve his assets for a longer period of time and avoid any unseen stringencies.
5. Large-scale Production
Large scale of production is possible by the use of money, which was not possible under barter economy.
Summing Up
Thus money or sale and purchase system has removed all the difficulties of barter economy.

Money

Definition of Money

Definition
“Money is some thing, which has general acceptability in the settlement of debt, or in transfer of ownership of goods and services in a country. The value of exchange of every thing in a country is expressed in terms of money.”

Mr. Robertson defines money in the following words
“Money is a commodity which is widely accepted in payment of goods or in discharge of other kinds of business obligation”.

An English economist Mr. Hawtrey observes that
“Money is one of those concepts which are definable primarily by the use or the purpose which they serve”.
In the words of Goh Cole,
“Money is purchasing power some thing that buys things”
According to Ely,
“Any thing that passes freely from hand to hand as a medium of exchange and is generally received in final discharge of debts”.

One of the simplest definitions of money is given by Mr. Walker who says that
“Money is what money does”.
In the light of the above definitions, it can be said that
“Any thing that is generally accepted as a means of exchange and at the same time acts as a measures and a store of value”.

Functions of Money

Money is said to perform the following functions
1. It serves as a medium of exchange.
2. It is used as a store of value.
3. It acts as an instrument of deferred payment.
4. It is a measure of value.
These are further discussed below
1. Medium of Exchange
The most general function of money is that it serves as a medium of exchange. The ownership in goods and services is exchanged through it. Money is accepted in exchange of goods and services and property rights simply because in its turn money can be exchanged for them at such places and times the possessor wishes. It means any thing can be brought and sold through it. Money acquires the capacity of serving as a medium of exchange also because of legal sanctions behind it and as such it is generally accepted in the settlements of debts or any financial transaction.
2. Measure of value
Money is used as a measure of value in the sense that the value of every thing is demanded in terms of money. As a measure of value money not only facilitates business transactions but is also useful transacting the sale and purchase if immovable properties buying at distant places. Money as a measure of value is also helpful in asserting the financial worth or stability of a business unit or an industrial concern which is possible from the study of their balance sheets containing the value of their assets and liabilities in terms of money. In simple words we can say that function of money as a measure of value helps us almost in every aspect of our daily life.
3. Store of Value
Another function of money is that it serves as a store of value. We can keep our assets in liquid form so that they can be used any time we feel of doing so. A unique feature of our daily life is that the flow of income does not correspond with the expenditure. The income in the majority of cases does not come to us with the same intervals as we have to make payments and consequently their adjustment would have been difficult but money, serving as a store of value makes a happy adjustment possible between the flow of income and expenditure intervals. Due to its value payments for the future can be made.
4. Instrument of Deferred Payment
Money also acts as an instrument of differed payment, which means that transactions requiring deferred payment are made possible through it. It so happens because the value of money having legal sanction behind, is more stable in comparison to other goods the value of which are liable to great fluctuation under the influence of their demand and supply position. The value of money being stable the parties in transaction are assured of getting the same value even after some time if the payments are made in terms of money. It means that money serving as an instrument of deferred payment facilitates credit transactions. Similarly for the same it encourages lending and borrowing which stimulate saving and investment and ultimately accelerates the economic growth of a country.
5. Transfer of Value
Money has simplified the process of transfer of value from one place to another with out losing its worth. Money is readily accepted by all without any difficulty. It is even possible to transfer a billion of rupees from one place to another.

Types of Money

Generally the classification of money is based on the material that is being used for the purpose. According to the material used, the money can be classified as:
1. Metallic Money
The currency in use or to be used when is made of some metal; it is known as metallic money. The metallic money usually consist of coins made up of gold, silver, copper, bronze etc. a characteristic of these coins is that they are properly shaped and stamped by the central issuing authority to prevent any misuse. In today’s modern age of business the coins are Marley used and issued. The metallic money is further classified as:
Classification of Metallic Money
Full Bodied Coin
Full bodied coin is the one, the face value of which is equal to the quantity of metal used in it. In this case the face value of the coins is equal to its intrinsic value.
Token Coins
A token coin or money is the one whose face value is higher than the value of the metal contained in it. It is usually as a subsidiary unit or coin. In token coin the face value is higher than the intrinsic value.
2. Paper Money
Paper currency refers to the currency notes issued or used in a country. These notes are made up of special kind of paper. Paper currency also includes notes (promissory) and cheques but they circulate as money only in the countries where they are used freely for settling business transactions such as U.S.A and U.K.
In early times when notes were introduced they were backed by an exactly equal amount in gold or silver kept by the issuing authority. Paper money is not wholly backed by some precious metal now. only a proportionate reserves are maintained and a good deal of the paper money rests on people’s of people’s confidence in the word of issuing authority generally the government or the central bank. Such a currency is also called fiduciary issue.
Classification of Paper Money
Paper money may be of following types
(i) Representative Paper Money
When the paper money is backed by an exactly equal amount of in gold or silver kept in reserve by the issuing authority it is known as representative money. Such notes could be exchanged for coins when needed and did nothing more then to represent coins.
(ii) Convertible Paper Money
The currency notes which can be exchanged for full bodied or standard coins is called convertible money. Its value is backed by a proportionate reserve of some precious metal and the confidence in the word of eh issuing authority. It is also called fiduciary money.
(iii) Inconvertible Paper Money
The currency notes that cannot be converted in full-bodied coins. The issuing authority gives no promise for its conversion. It can also be called fiat money.
Advantages of Paper Money
Following are some advantages of the paper money
1. Economical
Currency notes are cheapest media of exchange. Paper money practically costs nothing to the government. It does not need to spend anything on the purchase of gold for minting coins. Certain other expenditure or losses associated with metallic coins are also avoided.
2. Convenient
Paper money is the most convenient mean of money. A large amount can be carried conveniently in the pocket with out any body knowing about it. It possessed in very large measure the quality of portability, which a money material should have.
3. Homogenous
Among the coins there are good and bad coins. But currency notes are all exactly similar. It is therefore the substitute medium of exchange.
4. Stability
The value of money can be kept stable by properly regulating its issue. Managed proper currency method is therefore adopted by many countries.
5. Cheap Remittance
Money in the form of currency notes can be cheaply remitted from one place to another in an insured cover.
6. Elasticity
Paper money is absolutely elastic. Its quantity can be increased or decreased at the will of the currency authority. Thus paper money can better meet the requirements of trade and industry.
7. Advantages to the Banks
Paper money is of great advantage to the banks. They can keep their cash reserves against liabilities in this form, for currency notes are full legal tender.
Disadvantages of Paper Money
Its disadvantages are as follows
1. No Value Outside the Country
Paper money is of no value outside the country where it is issued. Gold and silver coins were accepted even by foreigners as they had no intrinsic value.
2. Risk of Damage
There is always a possibility of damage to the paper. Fire may burn it, water may tear it etc.
3. Danger of Over Issue
A serious drawback in paper currency is the ease with which it can be issued. There is always a danger of its over issue when the government is in financial difficulties. Once this course is adapted the momentum leads to further notes printing until it losses all the value. This over issue of notes is called over inflation.
4. Price Increase
Some times especially when the money loses its value there is always an increase in the price of goods. As a result, labours and other people with fixed income suffer greatly. The whole public feels the pinch.
5. Effect on Business
During the days of monetary stringencies in a monetary economy, the business activities are affected very badly. The indirect result of price increase, shortage of currency etc, result in a fall of exports and a rise in imports. It leads to the export of gold from the country, which is not a desirable thing. Its balance of payments gets unfavourable.
3. Bank or Credit Money
Bank money consist of demand deposit, which is drawn by cheques. A deposit is like any other medium of exchange and being payable, on demand, serves as a standard of value or unit of an account as it is convertible into standard of value i.e. money or crash at fixed terms. In the words of J.M. Keynes.

“Bank money is simply an acknowledgment of a private debt expressed in the money of account which is used by passing from one hand to another as an alternative of money to settle transactions.”

Value of Money

The value of money refers to the purchasing power of one unit of money in terms of goods and services. It indicates the quantity of goods and services that can be had in exchange of one unit of money. If the value of money is studied in relation to the home market, it is called internal value as against external value, which gives the value of money in terms of foreign currency.
Value of Money and Price Level
The price level of a country refers to the value of goods and services in terms of money. It means that value of money is expressed in terms of money. As for example, one unit of money supposes fetches 3 seers of wheat and value of 3 seers of wheat is one unit of money. Suppose the value of money rises and its one unit now fetches 5 seers of wheat. It means that the value of wheat has come down and now 5 seers of wheat will fetch one unit of money, which previously only did 3 seers.
From the above example it is evident that value of money is followed by the fall in price level and vice versa. In other words rise in price level makes the value of money fall and the same quantity of money can be had with more units of money. The above fact can also be interpreted as an increase in the quantity of money brings a corresponding fall in the value of money and the fluctuations in the value of money occurs due to a change in the quantity of money. This relationship between value of money and its quantity is explained by quantity theory of money.

Quantity Theory of Money

Theory
The quantity of money states that other things remaining the same, the value of money falls in proportion to increase in the quantity of money in circulation. It mans that in the case, when the quantity of money increases by 25%, the value of money falls by 25%. Thus the quantity of money and its value of money are inversely related.
Explanation
The value of money like any other commodity is determined by its demand and supply. Thus the quantity theory of money can be explained under these two heads.
1. As Regards Demand of Money
Demand of money according to Fisher is the derived demand i.e. not for direct consumption. Money being a medium of exchange is demanded for the purchasing of goods and services. Demand for money therefore depends upon the demand for goods and services.
2. As Regards Supply of Money
According to Fisher supply of money is represented by the total expenditure made by the people calculated during a given period of time. The total expenditure made by the people is calculated by multiplying the total quantity of legal tender money by its velocity plus the bank money (cheque, drafts etc) multiplied by its velocity. Velocity of money means the number of hands that one unit of money changes during a given period of time. For example a RS 100 note changes 10 hands in a year, its velocity will therefore be 10. It means that total payment made by this note will be .
RS. 100 * 10 = RS. 1000
According to Fisher, supply of money is determined by the following equation.
MV + M‘V’
M represents the actual money and M’ the bank money where as V and V’ represent their respective velocities.
Demand for money is represented by price multiplied by turnover i.e. total quantity of goods and services sold and therefore demand is determined as:
Demand of money = P x T
Where P is the price and T is the turnover.
Since the value of money is determined at a point where its demand is equal to supply and accordingly Fisher gives the following equation of exchange:
PT = M‘V’ + MV
Or
P = (M‘V’ + MV)/T
According to the above definition / equation, the price level is determined by dividing the total supply of money by turnover.
Criticism
The quantity theory of money is theoretically convincing but practically it is consider as a misleading one.
1. The very assumption in the theory that other things remaining same are incorrect. Fisher assumed money as independent variable where as credit (M’) is a function of business activity i.e. the turnover. It means the turnover increases, the supply of bank or credit also increases and consequently money is not an independent variable.
2. Velocity of money and bank money has been assumed is assumed in this theory to be constant where as they are not so because they depend upon business activity which is never constant.
3. The theory fails to explain as to why during depression the increase in supply of money does not bring a corresponding increase in the price level.
4. According to quantity theory high price is the effect of increase in supply of money which is not always true. Scarcity of goods caused by a fall in production or increase in production with respect to an increase in population also raises the price level.
5. It is argued that Fisher’s equation is only valid in a static economy. The economy becomes static beyond full employment level because the physical production does not increase in such a situation. the extra money if introduced in such a stage of economy is not absorbed by increased quantity of output and consequently the price level is directly affected. This shows that Fisher equation in a dynamic economy is of no use.

Importance of Money

In order to have a comprehensive idea of the importance of money, we can classify it as.
1. Importance to individuals in their daily life.
2. Importance to an economy.
1. Importance to Individuals in their Daily Life
Importance to individuals in their daily life is well established under the following heads
i. Removal of Double Coincidence
Money has removed the problems of double coincidence of wants. An individual because of money is in position to exercise his choice and can purchase or consume a commodity according to their liking.
ii. Convenience in Buying and Selling
Money being a measure of value, an individual can sell his goods for money and purchase the goods he needs through it. The sale and purchase of goods is not confined to with in the borders of a country only, but are also conducted abroad.
iii. Ease in Planning
Money has given an opportunity to an individual to plan his consumption in a way that he gets the maximum satisfaction out of his limited income. Because of money price of every thing is known to him on the basis of which he can ascertain that what he can afford and what he cannot.
iv. An Option for Saving
Money being a store of value helps the individual to make provision for rainy days. During the period of his earning, he may have some thing, which he can use in his old age when his earning has reduced.
v. Recovery Options
Money also helps an individual to cover the gap between income and expenditure intervals, which is done either by withdrawing the past saving or by borrowing. Saving and borrowing have become common and a part of our economic activities.
vi. Possibilities of Specialization
Money has made possible the regional specialization of production on the basis of the most favorable condition principle, which has given birth to international division of labour have reduced the cost, improved the quality and increased the verities of products. Individuals are in a position to consume superior goods at a cheaper price.
vii. Transfer of Value
Money being a measure of value helps the individuals to transfer the value of their fixed assets from one places to another in the country or out side the country. In other words even the immoveable assets have become mobile.
viii. A Source of Income
Because of lending and borrowing practices facilitated by money, the individuals saving become a source of income. The individuals make savings, invest them in productive activities and receive a regular income, which increases their welfare by improving their standard of living.
2. Importance to Economy
The economy of a country is however, benefited by money in more than one-way:
i. Enhancing Exchange Facility
Money enhances the exchange facility and extends the market for goods and services produced in the economy. The extension of market creates demand for goods and services and consequently the resources are fully exploited to increase the output so that the inc4reased demand may be adequately met.
ii. Economies of scale
Money oriented demand provides economics of scale. The economy in such a situation produces goods at a cheaper cost because of the reason that input and output ratio rises.
iii. Increased Opportunities of Employment
Increased volume of production increases the level of employment and income level follows suit. Raised income level stimulates saving and investment and consequently the investment rate in the economy rises.
iv. Facilitate International Trade
Through money international trade is facilitated, which makes the resources of an economy more mobile and such resources are exploited to the maximum extent.
v. Introduction of Lending and Borrowing
Because of money lending and borrowing have become a common practice among the nations of the world. The surplus resources o fan economy moves to another economy, which is deficient in such resources. Flow of resources helps an undeveloped to venture into her development plan. Lending and borrowing practices developed through money, exchange saving and stimulate investment n the economy. As a result the economic growth is accelerated.

Dangers of Money

Money has proved dangers in several ways
1. Economic Instability
Some economists of the view that money is responsible for economic instability. When there was no money, saving was not divorced from investment. Those who saved also invested. But in a monetised economy, saving is done by certain people and investment by some other people. Hence, it does not follow that saving and investment should be equal. When savings in a community exceeds investments, then national income output and employment decrease and the economy is engulfed in depression.
2. Danger of Over-Issue
The main danger of money lies in its liability of being aver issued. The over issue of money may result in inflation. Excessive rise in prices hits hard the consuming public. It endangers speculation and inhibits productive enterprises. It adversely effect distribution of income and wealth in the community so that the gulf between the rich and poor widens.
3. Economic Inequalities
Money has proved to be a very continent tool for amassing wealth and exploitation of the poor by the rich. The misery and degradation has gone to a great extant after the existence of money.
4. Moral Depravity
Money has weakened the moral fiber of the man. The social evil like corruption has proved to be a soul-killing weapon. As said by an eminent German economist Von Mises
“Money is regarded as the cause of theft and murder”.
Money is itself is not bad, but its possession or debt facilitates corruption and crime.

Gresham’s Law

Concept
Gresham’s law can be stated, as

“Bad money tends to drive good money out of circulation when both of them are full legal tender”.
Thus when two kinds of money good and bad circulate together, other things remaining constant, bad money will remain in circulation and good money will go out of circulation.
Classification of Good and Bad Money
Good and bad money may be classified as:
1. Good money is full valued coins of standard wealth and fineness while bad money is the one, which is debased or worn out.
2. Good money may be superior money of higher substance while bad money will be inferior money of less intrinsic value.
Explanation
In the light of the first classification the law may be stated as:
“Whenever legal tender coins of the same face value but of different weight or degree of fineness are in continuous circulation, the light weight or bad coins tend to drive out the full weight fine coins out of circulation”.

Marshal states the law in the light of second classification as:
“ Money which is inferior in respect to exchange or substance value, commonly shows greater tendency in circulation than those which are superior in this respect”.
Application
The law is applicable in three cases:
Under Mono – Metallism
When coins of same metal but of varying weight or fineness or both circulate together at the same face value, it will be the human tendency to keep a brand new coin and give out the depreciated one. Thus the old and worn out coins will tend to drive newly minted full weight fine coins out of circulation.
Under Bi – Metallism
When gold and silver coins are freely circulated as legal tender, then the over valued coin will drive the under value coin out of the game.
Under Paper Currency
When paper money and metallic money circulate together as standard, however paper money being inferior tends to drive metallic money out of circulation.
The reasons for this are:

• Good money is exported to earn profits.
• Good money is hoarded for later adjustments.
• Good coins are melted and sold as bullion.

Exceptions
The law does not operate when:

• There is a shortage of currency.
• When there is strong public opinion against bad money.

Bi Metallism

Definition
Bimetallism is a system of currency under which the price of the monitory unit is regulated with reference to any two metals (generally gold and silver). Both the metals act as a medium of exchange and the standard of value. The two metals remain in circulation side by side. The ratio between their values is fixed and maintained by the currency issuing authority.
Essential Features
The essential features of bimetallism are:
1. Standard coins of two metals, generally gold and silver remain in circulation side by side.
2. Coins of each of the metals remain unlimited legal tender.
3. Generally free coinage of both metals is considered as legal and allowed. But some times free coinage of only one metal is allowed. If it is so then the system is called limping standard.
4. There is a fixed legal ratio of exchange between the two metals e.g. if an American silver coin has 16 g. of silver for every gram of gold in gold coins, the ratio of exchange between the two would be 16:1. Any payment that would be made it would be made keeping in view the ratio between them.
 

Trade Union

Trade Union

Modern industrialization has given rise to a great number of problems. As a result there has been a clash between the interests of labour and organization, the former claming high wages and latter high profits. Today labour has come to realize that they can improve their conditions of work only through collective bargaining with the employers. In the words of Sydney and Webb
“A trade union is a continuous association of wage earners for improving the conditions of their working lives”.

Functions of Trade Unions

Trade unions perform a number of functions. Some of them are classified in these main groups viz:
1. Militant Function
2. Fraternal Functions
3. Political Functions
1. Militant Function
The main function of a trade union is to fight for the basic rights and interests of its members. In doing this they offer the following benefits to the labour.
Job Security
For achieving this objective seniority rights of the workers, control over hiring of labour, grievance procedure for handling cases of discharge etc is used as devices.
Improving Conditions of Work
Trade unions put a pressure on the employers to provide workers with better conditions of work, sufficient recreation facilities, standardized hours of work etc.
Limitation of Output
If a given number of labours produce more than what they ought to be employed for, trade unions make sure for a standardization plan. Hence the output per worker is standardized.
2. Fraternal Function
Fraternal function consists of mutual help for the welfare of the workers. Under this content the trade unions perform the following functions.
Professional Training
Trade unions arrange for education and professional training opportunities training opportunities for their workers and also assist them in improving their efficiency and skill.
Source of Information
Trade unions serve as a source of information for the workers. The workers are guided and advised by the trade unions. Their leaders defuse information by organizing meetings of the workers.
Insurance Facilities
The trade unions also arrange for insurance facilities against risks, accidents etc. they make the workmen compensation act followed in this regard.
3. Political Functions
Many trade unions fight elections to the rights. In many countries strong; labour parties have grown up and in England especially there has been the government in the hands of labour party many times. The trade unions influence the labour party of the government and often clench some labour seats in the legislature

Importance of Labour Unions

Trade unions are of great significance for an economy because of the reason that they create congenial relation between the workers and the management and help a lot in developing mutual understanding among them. This brings industrial peace, which becomes an effective stimulation for the growth and expansion of industries in a country.
Trade unions help the employers by extending cooperation in settlement of labour disputes. In the absence of trade unions it becomes difficult if it is not possible for the employers to contract the individual workers and find out their views on certain issues related to the disputes. Trade unions also assist the employers in labour administration and control. The efficiency of workers is also improved through trade unions and as such, the employers are benefited.

Profits

Profit, Pure or Net Profit, Gross Profit

1. Profit
In the ordinary language the term profit stands for the excess of income/money earned over costs. But in economics profit is defined as a reward for the entrepreneur for performing the function the function of final decision-making and risk bearing.
Profit differs from return on other factors in three important respects.
1. Profit is a residual income and not contractual or certain as in the case of other factors,
2. There are much greater fluctuations in profit than in the reward of other factors and,
3. Profit may be negative i.e. it may be a loss.

2. Pure or Net Profit
Pure or net profit is the amount that accrues to the entrepreneur for assuming their risk inseparable from business under the system of production in anticipation of demand. The essential function of the entrepreneur is considered to be something, which only he can perform. This something cannot be the task of managers, or the people, which are hired. Thus the entrepreneur receives profit as a reward for assuming the final responsibility, a responsibility that cannot be shifted on the shoulders of any one else.

3. Gross Profit
Gross profit stands for the total earnings of the entrepreneur, not necessarily of the entrepreneurial functions only. Some thing else can also be included in this profit. Apart from the net profit, the following are the main constituents of the gross profit.

1. Interest on entrepreneur’s own capital.
2. Rent of land owned by the entrepreneur.
3. Entrepreneur’s wages of management.
4. Gain as superior bargaining.
Monopoly gains.

Constituents of Gross Profit

The main constituents of the gross profit are as follows:
1. Reward for the Factors Supplied by the Entrepreneur Himself
The entrepreneur may have borrowed capital from other sources for investing in the business, he may be the owner of the business premises and perhaps he may also be working as a manager in the business concern. Besides selling him self as a entrepreneur he would have earned interest on his capital, rent of his land or salary for his responsibilities as a manager. But when he becomes an entrepreneur, he would lost all these incomes. Thus profit is a reward for him for loosing such options of income.
2. Entrepreneur’s wages of Management
The wages of management are the return of the work done by the entrepreneur as a manager an could have been done on a salary basis by him for another firm. This is also an important part of gross profit.
3. Gains as Superior Bargainer
Certain gains accrue to the entrepreneur when he bargains with the labours, capitalists, landlord, suppliers of raw material and consumers. These gains are the resultant of his superior skills in bargaining. They form a part of the gross profit.
4. Monopoly Gains
These gains are due to imperfect competition, which enables the entrepreneur to charge higher prices or to pay reward to the factors of production hired by him. The monopoly gains increase his income and becomes a constituent of gross profit.
5. Reward of the Entrepreneur as a Risk Taker
According to the definition of an entrepreneur the function of risk taking must be perform by the entrepreneur him self. Apart from certain risks, which are insurable, the risks that cannot be insured and are necessary to bear, gives entrepreneur the reward of profit.

Different Theories of Profit

Many theories have been put forward by different economists. Some of them are as follows:
1. Dynamic Theory of Profit
The dynamic theory of profit was given by J.B. Clark. According to him profit accrues because the society is dynamic by nature. Since the dynamic nature of society makes future uncertain and any act, the result of which has to come in future, involves risk. Thus profit is the price of risk taking and risk bearing. It arises only in a dynamic society which means in a society where changes does not occur i.e. it is static by nature the risk element disappears and hence the profit element does not exist there.
Actually, a society is said to be dynamic when there is a change in its population, change in trends of the people, change in stock of the capital, change in the supply of entrepreneurs etc. when all these factors becomes constant, the future also becomes certain and the risk element disappears from the society.
According to Clark, profit is the result of an adjustment, which is brought about by the entrepreneurs themselves. They may find new techniques of production by inventing new machines. Their use reduces the cost of production and reduces the course of time as well and gives the entrepreneur higher profits. But when the use of machinery and production becomes common and used by the other entrepreneur operating in the economy. The supply of goods then increase and the prices fall. Hence the profit margin also goes down. Under this situation the profit is determined by the demand and supply of enterprise at a point where they are equal.
Criticism
This theory completely ignores the future or uncertainty. According to Prof. Knight only those changes, which cannot be foreseen, and which cannot be provided in advance will yield profits and not others. Also this theory often gives a misleading conclusion regarding the competition.
2. Marginal Productivity Theory of Profit
According to this theory, profit always equals to the marginal productivity of the entrepreneur. The marginal productivity of the entrepreneur cannot be evaluated in the case of the firm because there is only one entrepreneur in a firm. It is however can be easily done in an industry where the number of the firms can be calculated and hence the marginal productivity of various entrepreneurs can be measured.
According to this theory the profit depends upon the marginal production. Greater the marginal production greater will be the profit.
3. Wages Theory of Profit
According this theory the services of the entrepreneur are also classified as labour though of a superior type. These entrepreneurs do a lot of work in organizing the business unit as well. The entrepreneurs in the shape of profit pay to themselves for service just as managers are paid for their services. It means that profit is a wage for the entrepreneur for the services rendered by them.
4. Un-Certainty Breaking Theory of Profit
According to Prof. Knight
“Profit is the reward for uncertainty bearing and not the risk bearing”.
Prof. Knight has regarded uncertainty bearing as a factor of production. Knight’s theory classifies the position that profit arises because of the joint action of uncertainty bearing and capital.
5. Risk Bearing Theory of Profit
According to F.B. Hawley, “Profit is reward for risk bearing which is the most important function of an entrepreneur”. Hawley believes that risks are unpleasant and therefore no one likes to bear it, until and unless some reward is insured. Profit is a reward for bearing these risks.

Interest

Interest, Gross Interest and Net Interest

Interest
In ordinary language, interest refers to the excess amount, which is paid by the borrower above the amount borrowed after a given period of time usually a year to the lender at an agreed percentage. In economics the term interest refers to a return on capital only. Samuelson defines interest as
“The market rate of interest is that percentage return per year which has to be paid on any safe lone of money, which has to be yielded by any safe bond or other type of security, and which has to be earned on the value of any capital asset in any competitive market where are there are no risks or where all risks have already been taken care by special premium payments to protect against risk”.

It therefore can be said that interest in the price of services of capital in the production of wealth.
Gross Interest
The total amount which a creditor charges from a debtor by way of interest is really Gross interest. It includes the services payments of the capital and the cost of capital. The gross interest means the total amount which a debtor pays to the creditor and their Interest includes certain costs and expanses. Gross interest is composed of certain elements such as insurance against risk, return for inconvenience, wages of management etc.
Net Interest
Net interest is the amount, which is paid for the use of capital only as a factor of production. Net interest is rather the price of the productivity of capital. It is equal to the gross interest minus the cost of lending. Net interest is generally equals to the channels of lending.

Constituents of Gross Interest

Gross interest consist of the following elements:
1. Insurance Against Risk
A creditor knows by his experience that some of his debtor will not repay. Thus he sees a risk in lending. This lose which is likely to be faced by this non-payment is equally distributed over the debtors which are not going to fail in making payment s back. Thus good debtors have to pay for the bad once. Every debtor is good debtor is charged a certain percentage as an insurance against risk.
2. Return for Inconvenience
The inconvenience to the lender is mainly of two types
a. He may have to borrow money and pay interest himself when he would need money in some future time.
b. He may get money back when he may not find some lucrative place to invest it and so his money may remain idol and suffer loss.
In order to avoid the above two situations the creditor often charge something extra over and above pure interest.
3. Wages of Management
The creditors do a lot of work for their money lending business. They have to keep accounts, frequently visit the debtors reminding them about the loans etc. It seems to be their whole time job. Similarly in this business they would have lost the chance of making money by doing something else. This lose also has to be borne by the creditor.

Why Interest is Paid?

Interest is paid for the following reasons:
1. Capital is Productive
Capital improves the quality and increases the quantity of out put with in a given time. It means that capital contributes in the national dividend and therefore it is demanded and paid as a share of capital in the national dividend.
2. Capital Involves Lending
Capital has a lending cost behind it. This why interest is demanded and paid to cover the lending cost.
3. Capital is Capable of Alternative Uses
Capital is a secure commodity so it commands price. Therefore interest is demanded because of scarcity of capital.
4. Capital Increases the Efficiency of Land and Labour
Capital increases the efficiency of land and labour and reduces the cost per unit of out put. Interest is therefore demanded and paid because it reduces cost per unit and also brings out a standard in the production.
5. Capital is Mobile
Capital is mobile and it moves easily from one channel of production to another within a country. Sometimes it also moves out side the country. Interest is demanded because of its productivity and scarcity due to mobility and is therefore paid.
6. Capital is a Result of Saving + Lending
Both saving and lending are painful in the sense that saving involves sacrifice of present consumption and lending. It involves the risk of bad debts and it also involves the risk for long term waiting for the amount to be returned. Interest is demanded for such a sacrifice and inconvenience.
7. Capital Serves as a Substitute for Land and Labour
Interest is demanded for the service of capital which substitutes land and labour and is accordingly paid

Liquidity Preference Theory

Concept of the Theory
The liquidity preference theory was first enunciated by Lord Keynes. This theory is based on consumption and saving of an individual given a certain amount of income. According to Keynes an individual has a limited (given) amount of income which require two decisions on his part
a. How much he has to consume? And
b. How much he has to save?
The decision regarding consumption is called propensity to consume in the words of Keynes, which he spends, on consuming goods. After spending the individual has a certain proportion of his income left with him, which is his saving. Again he has to decide that weather he has to hold his saving in the form of cash or in the form of capital for earning interest. This is what Keynes has called liquidity preference. The smaller the desire to lend, the higher the liquidity preference.
Factors Governing Liquidity Preference
The liquidity preference of a particular person depends on a number of conditions. These may be:
1. Transaction Motive
The transaction motive relates to the demand for money or 5the need for cash resulting due to an individual’s current personal and business transaction and exchanges.
2. Precautionary Motive
Precautionary motive refers to the desire of the people to hold cash or sustain the saving for any unseen emergencies.
3. Speculative Motive
It relates to hold cash or resources in liquid form in order to take advantage of the market movements regarding the future changes in prices.
According to Keynes most of the people save money with speculative motive.
Determination of the Rate Interest
In the Keynesian world the demand for money or the liquidity preference and the supply of money determine the rate of interest. It is infect the liquidity preference for speculative motive, which along with the quality of money determines the rate of interest.
Criticism
The liquidity preference theory is often criticized on the following grounds:
1. The rate of interest is not a purely monetary phenomenon. One of the major criticisms made on this theory is that the rate of interest is not purely monetary phenomenon as real forces like productivity of capital etc also play an important role in the determination of the rate of interest.
2. Liquidity preference is not the only factor governing. The agreement for this statement was that there are several other factors that influence the rate of interest by the demand for and supply of investible funds
3. Keynis ignores saving or waiting as a source or means of investible fund
4. Keynis theory explains interest in the short run only and also does not explain the existence of different rates of interest prevailing in the market at the same time.

Wages

Wages and Its Forms

Wages
In very simple words, the remuneration that is made for the service of the labour is called wages. Wage payment is essentially the price paid for the particular commodity viz labour. Berham defines wages as:
“Sum of money paid under contract by an employer to a worker for the service rendered.”
Forms of Wages
Broadly speaking, wages are categorized as:
1. Normal Wages
Normal or money wages are the wages paid or received by the labour in terms of money . Money is the principle factor in normal or money wages. The wages are calculated in terms of money in this regard.
2. Real Wages
Real wages refer to the income of a worker in terms of real benefits. E.g. bonuses, holidays, transport.
In other words, the value of additional income is called real wages. It is the real wages that enable us to clear that the worker really earns.

Factors Determining Real Wages

Some of the factors that determine real wages are as follows
1. Purchasing Power of Money
The purchasing power of money has great influence on the real wages. The value of money keeps on changing constantly which varies inversely with the price level. This purchasing power of money influences the calculation how much the worker a worker earns since all the monitory calculation depends on the value of money. The places where the prices are high the real wage will be low and vice versa.
2. Subsidiary Wages
The worker earning other than regular wages have higher real wages. In order to find the real earnings of a worker, we should not only consider his salary but also the extra earning that he may be able to make. A worker may work part time and in such case his real wage will be higher as compared to the worker working only on regular wages.
3. Working Hours and Holidays
Real wages to a great extant depend upon the working hours and holidays. Obviously a worker working for more time and enjoying less holidays will have higher real wages. His income will always be higher and so will be his real wages.
4. Future Prospects
Future prospects means opportunities for the future. A businessman viewing a good prospect for his business in the future will pay higher real wages to his workers so that they can work more willingly to make best use of the opportunities of the future. However a business not having very bright prospect may even offer higher wages.
5. Nature of Work
The occupation which require great amount of skills and whose nature is quite dangerous offers high wages to the labours. The work requiring more physical and mental capabilities should offer high money and benefits to the labours.
6. Expenses
In order to calculate the real wages the expenses must also be considered. The workers incurs certain expenditures which must be deducted in order to get the final figures.

Relative Wages

The concept of relative wages explains the comparison between money and real wages. It explains that only the wages of labourers of different occupations employment or grades are different from each other. It tells that why some men working at the same place and at same level in different organizations receive different wages.

Causes of Differences

1. Differences in Efficiency of Labour
The labour to a great extant depends on its efficiency. This efficiency may include education, necessary skills to perform a job condition of work etc. As a general rule, the higher will be the wages and lower efficiency, lower will be the wages. It implies that more efficient workers are likely to earn higher wages as compared to inefficient once.
2. Training
Training is one of the important offers for the employees. Most of the organizations after recruiting labour provide them proper training necessary for their jobs. In this way skilled persons get a chance to groom themselves during which they receive very minimum remuneration. But as soon as they get trained they are offered respectable jobs and are absorbed easily at high wages.
3. Regularity of Work
Regularity of work has an important impact on the wages of the worker. Actually there are two categories of businesses viz: Seasonal i.e. for limited period of time and Non Seasonal i.e. for whole or unlimited period of time. Generally the labour workings in seasonal factories are often paid higher wages as compared to those working in non-seasonal ones. The simple reason behind it is that the organizations working seasonally hire the service of the labour for the limited period of time and thus pay them handsomely.
4. Degree of Trust and Responsibility
One of the major reasons of difference in the wages is the degree of trust and responsibility. As a normal course the men working at positions of high responsibility are usually highly paid. This is so because their jobs require high degree of skill; sense of responsibility and good decision-making abilities and this is what they are paid for.
5. Hours of Work
The working hours are also important in determinants of wages. The workers working for more time are paid more wages as compared to the workers working for less period of time even in the same organizations. This is why the working hours are classified as part-time or full time jobs.
6. Extra Benefits
A very interesting fact about wages is that the workers enjoying more fringe benefits are often paid low wages. Usually the wages are high in those occupations or business where such benefits are not offered. For example in a factory a worker may be earning RS 1,800 but he may be getting medical allowance, housing allowance, old age pension, bonuses etc

Rent

Definition of Rent

In ordinary sense the term rent refers to the hiring charges paid to the owner of an asset for using his right of ownership for a specific period of time. In economics the term rent is called economic rent. It is defined as
“That part of the payment by the tenant, who is made only for the use of land i.e. free gift of nature”.

In economics rent is mainly related to agriculture and is mainly distinguished as economic and contact rent.
Economic Rent and Contact Rent
Some times the agriculturist tenant makes the payment which consist on capital made by the landlord such as drainages, wells etc. This part of the payment, which consists of the interest on capital made by the landlord, is called contact rent. Where as the part of the payment which is made for the use of land only is called economic rent.
Rent and Transfer Earnings
The concept of the rent is also explained by the help of transfer earnings. The amount which factor can earn in its next best paid alternative use called transfer earning. In this sense if the factor is earning above its transfer earnings, the surplus or excess earnings is called economic rent.

Recardian Theory of Rent

The British economist Devid Recardo propounded the theory of rent a century ago.
Assumptions
The Recardian theory of rent is based on the following assumptions.
1. Rent is paid to the landlord for the use of original and the indestructible power of land.
2. Rent is a differential return due to the differences in the fertility of land as well as their locations. The more fertile land the higher will be its rent and vice versa.
3. The Recardian theory depends on the historical order of cultivation i.e. the more fertile land is cultivated first and such rent does not pay rent in the beginning but as but as other grades of land come under cultivation it begins to pay the rent.
4. The land on which the cost of production is equal to the amount it produces is a no rent land or marginal land.
Theory
The Recardian theory of rent can be stated as
“Rent is that portion of the produce of earth which is paid to the land lord for the use of original and indestructible power of soil”.

Economic rent according to Recardo is the true surplus left after the expenses of cultivation as represented by payment to labour, capital and enterprise.
Criticism
Recardian theory of rent has been criticized on the following grounds.
1. Recardo’s statement that the properties of soil are indestructible is wrong. The fertility of land often gets exhausted when it is continuously used. However it can be increased by using artificial manures but such fertility is considered to be temporary.
2. Statement of the theory that the superior land is cultivated first is not always true. Actually in general the order of cultivation is not the same as the theory says since a cultivates that land first which is near to him.
3. Recardo assumes that the no rent land exists in a country is also not applicable everywhere. This concept of no rent land is merely imaginary and theoretical.

Quasi Rent

The concept of Quasi rent was first introduced by Marshal according to him, quasi rent is a surplus earned by investments of production other then land. It is the income derived from appliances and machines, which are the product of human effort. Quasi rent stands for whole of the income, which some agents of production yield when demand for them is suddenly increased. It is earned during a period that their supply cannot be increased in response to increase in demand for them. Hence it is a short period concept. It has also been defined as the excess of total revenue earned in the short run over and above the total variable costs.
QUASI RENT = TOTAL REVENUE – TOTAL VERIABLE COST
The concept of quasi rent can be understood with the help of an example. At the time of independence of Pakistan, the demand for houses increased due to sudden increase in population but the supply could not be increased due to the scarcity of building material. The abnormal increase in the return on capital invested in capital (building) is quasi rent.

Modern Theory of Rent

This theory is also known as demand and supply theory of land. It is based on the following assumptions:
1. There is always perfect competition among various cultivations.
2. The fertility of different lands is same.
3. The land is used for a particular job.
Explanation of the Theory
The theory explains the concept of rent in terms of demand and supply. According to the theory rent is payment for the use of land. Demand for the use of land is actually the demand for that product which is produced on it. Demand for the land will increase with increase in demand for that particular product. Since th supply of land is fixed i.e. the supply cannot increase or decrease therefore the rise or fall of rent will be entirely governed by it’s demand. Thus on the side of demand rent of land is determined by its productivity not total productivity, but marginal productivity. And for supply, the supply of land in general is absolutely inelastic, as such in supply is independent of what it earns. From the following figure it is clear that the supply of land is fixed SS, while as demand is increasing from DD to D’D’ and to D’’ to D’’, the rent is also increasing from RR to R’R’ and to R’’R’’.

National Income

Definition of National Income

The term national income has been differently defined by different authors. A very simple definition of national income can be given as :
“The National Income for any period consists of the money value of the goods and services becoming available for consumption during the period.”

National income in the words of Pigou is:
“That part of objective income of the community including income derived from abroad which can be measured in money.”
It is the aggregate factor of income i.e. earnings of labour and property which arises from the current production of goods and services by the nation’s economy.

Concepts of National Income

The various concepts of national income are given below:
1. Gross National Product (G.N.P)
Gross national product is defined as
“ The total market value of all final goods and services produced in a year”
Two things are important with respect to this definition:
Firstly, it measures the market value of amount output. Therefore it is a monetary measure.
Secondly, for calculating national product accurately all goods and services produced during a year must be counted only once.
G.N.P generally includes the following.
(i) Agricultural Product
In agricultural product wheat, rice, cotton, tobacco, jute all types of vegetables pulses, fruits etc are included.
(ii) Industrial Product
By industrial products we mean all types of machineries, means of transportation, furniture, electronic items and other electric equipments.
(iii) Mineral Product
It includes coal, iron, petroleum, natural gas, salts and other materials like gold silver etc.
Since, G.N.P deals in market prices these market prices may be obtained by adding up:
1. What private person spends on consumption?
2. What businessman spends on replacement, renewal or making new investment?
3. What the rest of the world spends on the out put of national economy.
4. What the government spends on the purchase of goods and services.
Equalization of G.N.P can be written as:
G.N.P = CONSUMER GOODS + CAPITAL GOODS + DEPRECIATION + INDIRECT TAXES
2. Net National Product (N.N.P)
During a year the production of gross nation al product some capital goods are consumed i.e. the plants, machinery, and other equipments are brought in use. The se capital goods due to utilization in the production expire its value, commodity known as depreciation allowances are deducted from the gross national product (G.N.P) we get the net national product (N.N.P). Its equation can be given as:
N.N.P = G.N.P – DEPRECIATION
Thus the definition of the N.N.P can be properly written as, “The market value of final goods and services after deducting the depreciation charges is called net national product.
3. Personal Income (P.I)
The some of all incomes actually received by all individuals or households during a given financial year is called personal income. Personal income is different from national income for the simple reason that some incomes such as social security contribution cooperate income taxes and distributed profits which are included in national income are not actually received by the house holds. The equation of personal income thus can be written as:
PERSONAL INCOME (P.I)= NATIONAL INCOME – SOCIAL SECURITY CONTRIBUTION – COOPERATE INCOME TAX – UNDISTRIBUTED PROFITS
4. Disposable Income (D.I)
After payment of personal taxes like income tax, property tax etc. What party of personal income is left for others consumption is called disposable personal income. Its equation is:
DISPOSIBALE INCOME = PERSONAL INCOME – PERSONAL TAXES

Methods of Calculating National Income

To calculate national income the following three methods are generally used:
1. Net output Method or Production Method
For calculating national income under this method the net output or the production of various commodities is estimated and evaluated at the market prices. For this purpose we take two steps,
Firstly we estimate the monetary value of the commodities that are produced internally .The production or output of different sections of the economy i.e. agricultural, manufacturing, trade, commerce, transport etc is analyzed after deducting the depreciation charges.
Secondly; we consider the foreign business transactions that were performed during the financial year. In this regards in this regard we only consider the difference between exports and imports.
These two aggregate are then summoned up to get the gross domestic product which in turn is deducted from the total revenue earned to arrive at national income. In very simple words the contribution, which each enterprise makes to total output, is equal to its total revenue minus what is paid out to other enterprises and the depreciation of equipment used in the process of production. The production method is the most direct method for calculating national income. It s equation can be written as:
NATIONAL INCOME = G.N.P – COST OF CAPITAL – DEPRECIATION – INDIRECT TAXES
2. Income Method
Under this method the various factors of production are classified in a few broad categories. The incomes of various and sectors are obtained from there financial statements. Under this method the national income is also estimated by summing up the income that arrives to the factors of production provided by the national residents. Thus the rate at which the national income is distributed among the various factors of production is estimated. This method of calculating national income is quite complex. Usually the undeveloped countries where most of the people are not directly covered by direct taxation. Equation wise the method can represent national income as:
NATIONAL INCOMER = RENTAL INCOME + WAGES + INTEREST + PROFIT
3. Expenditure or outlay Method
This method gives national income by adding up all public and private expenditures made on goods and services during a year. It is obtained by:

• Personal consumption expenditure of goods and services.
• Gross domestic private investment.
• Government purchase of goods and services.
• Net Foreign investment.

It must however be recognized that it is the final expenditure only which must be counted and not the immediate expenditure.

Difficulties Faced while Calculating National Income

Some of the problems or the difficulties that are usually faced while calculating national income are as follows.
1. Problem of Definition
One of the greatest difficulties while calculating national income is that what should be included and what excluded with respect to the goods and services produced. As a general rule only those goods and services which are bought and sold i.e. enter into exchange must be only considered. For example the service of parents towards their children is not a part of national income on the ground that there is no investment of there market value. But allowances are made for some non-exchangeable goods and services e.g. the national product include the estimated value of food consume on farms. This creates a problem.
2. Calculation of Depreciation
Another problem is the calculation of depreciation. The main reason behind it is that both the amount and the composition of jour capital change from time to time. There are no standard or concept rules of depreciation that can be applied. Since depreciation is an estimate so correct deduction can be made until and unless these accurate depreciation estimates are not deducted from the estimate of net national product the net national income is bound to wrong.
3. Treatment of the Government
Government expenditures:
1. Defiance and administration expenditure.
2. Social welfare expenditure.
3. Payment of interest on national debts
4. Miscellaneous development expenditure.
The real problem that is faced relates to which of the above should be included in the national income.
4. Income from Foreign Firms
One of the major problem relates to the fact that weather the income arising from the activities of the foreign firms operating in a country should be included in the countries national income or not .With the growing trend of doing business globally has increased this problem to a great extant. However the I.M.F has given the viewpoint that the production and income of these foreign forms should go to the owning country while there profit must be credited to the parent concern.
5. Danger of Double Counting
Proper care is required for calculating national income so that double counting may not take place. This problem usually arises in those countries where proper documentation or statistics are not available.
6. Value of Inventories
Since it is not easy to calculate the value of raw materials, semi finished and finished goods in the custody of producers there fore it creates problems.

Importance of National Income Computation in Modern Economic Analysis

The computation of national income is one of the very important statistics for a country. IT has several important uses and therefore there is a great need for there regular preparation. The following are some of the important uses of national income statistics:
Level of Economic Welfare
The national income estimate reveals the overall performance of the country during a given financial year. With the help of this statistics the per capita income i.e. the income earned by every individual is calculated. It is obtained by dividing the total national income by the total population. With this we come to the level of economic welfare in terms of its standard of living.
Rate of Economic Growth
With the help of national income statistics we can know weather the economy is growing or declining. In simple words it helps us to know the conditions of a country economy. If the national income is growing over a period of year it means that the economy is growing and if the national income has reduced as compares to the previous it reveals that the economy is detraining. Similarly the growing per capita income shows an increasing standard o living of the people which is a positive sign of a nations growth and vice versa.
Distribution of Wealth
One of the most important objectives that is achieved after calculating national income is to check its distribution among different categories of income such as wages, profits, rents and interest. It helps to understand that how well the income is distributed among the various factors of the economy and their distribution among the people as well.
Ease in Planning
Since the national income estimates also contain the figures of saving, consumption and investment in the economy so it proves to be a valuable guide to economic policy relating to planning and active government intervention in the economy. The estimates are used as a data for future planning also.
Formation of Budget
Budget is an effective tool for planning and control. It is prepared in the light of the information regarding consumption, saving, and investment which are all provided by the national income estimates. Further we can asses and evaluate the achievements or otherwise of the development targets laid down in the plans from the changes in national income and its various components.
Conclusion
Thus we may conclude that national income statistics chart the movement of a country from depression to prosperity its rate of economic growth and its standard of living in comparison with rest of the world

Importance Of Elasticity Of Demand

Importance

The concept of elasticity is not just an abstract idea its practical importance is very great.
(1) Importance For Government
The concept of elasticity of demand helps the finance minister of the monopolist. When it imposes a tax. When a tax is imposed the price tends to rise. But if the demand is very elastic it will considerably fall when the price has risen and thus the government will not be able to earn expected revenue. Thus this concept of elasticity of demand helps the government to impose the tax on a commodity whose demand lass elastic and hence earn valuable revenue.
(2) Importance for Businessmen
The businessmen also take cue from the nature of demand while fixing his price. IF the demand is inelastic he knows that the people must buy such commodities. Thus he will be able to change a higher price and big profits.
(3) Importance for Monopolist
The concept of elasticity of demand is of special importance to the monopolist. He is in a position to control the price and fix high price when demand is inelastic and low price when it is elastic will bring him the maximum profit.
(4) Application in Case of Joint Products
In case of joint products seperate costs are not ascertainable. Hence the producer will mostly be guided by the nature of demand while fixing the price.
(5) Determinitation of Wages
The concept of elasticity of demand influences the determination of wages of a particular type of labour. If the demand of particular type of labour is inelastic trade union can easily get their wages raised. On the other hand of the demand for labour is relatively elastic trade union trade unions may not be successful in raising wages.
(6) Importance for International Trade
The concept of elasticity of demand is used in calculating the terms of trade. Whenever a country fees an adverse balance of payment the government considers the elasticity of demand for the countries export and imports before devaluing its currency.

Price Determines the Demand

The demand for the commodity is related to price. IT is always at a price. Prof. Beaham defines as under:
“The demand for anything at a given price is the amount of it which will be brought per unit of time at that price.”

Demand varies with price. It varies inversely with price. If the price rises the demand contracts and if the price falls the demand extends. This responsiveness depends on many factors the effective demand for necessaries generally do not change with price. In other words the effective demand for necessaries is inelastic. The may rise or fall but the effective demand for necessaries remain practically the same. The effective demand for comforts is elastic. In other words variation in for comforts is in perpotion to a change in price.

Monopoly

Monopoly is that market from in which the single producer controls the whole supply of a single commodity that has no close substitutes.
Two points must be noted in regard to the definition. First there must be an individual owner it seller if. There will be monopoly. That single producer may be individual owner or group of partners or a joint stock company or any other combination of producers of the state. Hence there must be a sole producer or seller in the market if it is to be called monopoly.
Secondly, the commodity produced by the producer must have no close substitutes. Competing if he is to be called a monopolist this ensures that there must no rival of the monopolist. By the absence of closer substitutes we mean that there are no other firms producing similar products or product varying only slightly from that of the monopolist.
The above two conditions ensure that the monopolist can set the price of his product and can pursue an independent price policy.
“POWER TO INFLUENCE PRICE IS THE VERY ESSENCE OF MONOPOLY.”

Market Price

Market price is the actual price that prevails in the market at any particular time. It never remains constant. It changes from day to day and even from moment to moment. It can change at any time at any moment.
Determination of Market Price
Market price is determined by the relative forces of demand and supply. The demand depends upon the satisfaction, which a consumer drives from the consumption of the commodity. Supply on the other hand depends upon the cost of production of the commodity. The consumer tries to achieve more and more satisfaction least possible expenditure. He does not pay more than the marginal utility of the commodity to him the seller on the other hand tries to maximize his profit by changing as much as he can. He will never accept the price which is less than the marginal cost of production of the commodity and thus marginal utility and marginal cost pf production are the two limits the maximum and the minimum and price is determined between these two limits, so we can say that,
“The price is determined at point where the amounts demanded and offered for sale are equal.”

Law Of Returns

Law of Diminishing Returns

Introduction
In some cases the return due to each successive additional unit, the production goes on diminishing. It is known as Diminishing Returns and is further explained by the Law of Diminishing Returns.
Explanation
This law is one of the most fundamental law of Economics. Usually it is related with agriculture and was also first enumerated by a Scottish Farmer.
Usually an increase in any of the factor of production results in an increase in production but this change is a proportionate change. It means that if the quantity of land and labour is doubled, although there will be an increase in the production but it will not be doubled. And that is what Law of Diminishing Returns states. In the words of Marshall:
“An increase in the capital and labour applies in the cultivation of land causes in general a less than propotionate change or increase in the amount of production raised. Unless it happens to coincide with an improvement in the art of agriculture.”

Law of Increasing Returns

Introduction
In order to increase the production, a producer has to increase the proportion of its fraction of production. However, the returns due to variations in the factors are not fixed. In some cases, return due to each successive unit is increased. This tendency is known as Law of Increasing Returns.
Explanation
This law is mostly found to be operating in manufacturing industries. This law was first propounded by Prof. Marshall, in his words, the law states that:
“An increase of labour and capital leads generally to improved organization, which increases the efficiency of the work of labour and capital.”

According to this law whenever a new dose of labour and capital is applied it yields increasing returns. Also the cost of production diminishes.

Law of Constant Returns

Introduction
Similarly, in some of the cases, the increase in the productive unit keeps the production constant. This tendency is known as law of Constant Returns.
Explanation
When an increase or decrease in the output of an industry makes not alteration in the cost of production per unit, the law of constant returns is said to operate. In other words when fresh doses of productive resources results in an equal return, it is called constant returns.
The law of constant returns operates in those industries where the cost of raw material and manufacturing cost are half and half. In other words the law operates where man and nature dominate equally. It is also said that a point where the opposite tendencies of diminishing returns and increasing returns are in equilibrium is the Constant Returns.
Examples
Possible examples of industries where the law applies are cane growing and sugar making, Iron-ore mining and steel making, cane growing and iron ore are subject to law of diminishing turns whereas sugar making and steel making to law of increasing turns. In these industries the advantage of increasing returns are neutralized by increasing cost of raw materials.

Why does Law of Diminishing Returns apply to Agriculture?

The law of diminishing returns specially applies to agriculture and other extractive industries. One thing that is common to all these industries is the supremacy of nature. It is therefore often remarked that the part that nature plays in production corresponds to diminishing returns and the part which man plays confirms to the law of increasing returns. The reason is that, nature where it is supreme is subject to diminishing returns, while industry where man is supreme, is subject to increasing return. Besides the supremacy of nature, there are several other reasons why agriculture is subject to the law of diminishing returns.The agricultural operations are spread out over a wide area, and supervision cannot be very effective. Scope for the use of specialized machinery is also very limited. Therefore economics of large scale production cannot be reaped.

Does it apply only to Agriculture?

It is wrong to say that the law only applies to agriculture as agriculture is always subject to diminishing and manufacturing to increasing returns. The application of the law is universal. It applies to industries also. If the industry is expanded too much and becomes unwisely supervision will become tax and the cost will go up. The law of diminishing returns thus sets in. The only difference is that in agriculture it sets in earlier and in industry much later.

Theories Of Population

Malthusian Theory of Population

The Malthusian theory of population was first propounded in 1798 by a British economist Robert Malthusian. . In his own words the theory can be stated as,
“By nature human food increases in a slow arithmetical ratio: man himself increases in a quick ratio unless wants and vice stop him”

Malthus based his theory on the biological fact that every living organism tends to multiply to an unimaginable extant while on the other hand production of food increases with less than proportionate change. It is subject to law of diminishing returns. According to Malthus population tends to outstrip food supply.

Propositions of The Theory

The theory propounded by Malthus can be reduced to the following four propositions:
1. Food is necessary for the life of a man and therefore exercises a strong check on population. In other words, the size of population is determined by the availability of food.
2. Human population increases faster than food production which tends to out turn the increase in food production.
3. Population always increases when the means of subsistence increase unless prevented by some powerful checks.
4. There are two types of checks that can keep population on a level with the means of subsistence. They are preventive and positive checks.
Explanation
The explanation of the propositions is:
Means of  Subsistence
According to the first proposition, the population of a country is limited by means of subsistence i.e. the population is determined by the availability of food. The greater the food production, the greater would be the population and vice versa.
Growth or Population Outruns Food Production
According to Malthus, there is no limit to the fertility of man. Man multiplies itself at an enormous rate. But the power of land to produce food is limited. It means that the production of land increases at a lesser rate as compared to production of man. Thus, the continued growth of the population would result in a decrease in output per worker and a decline in the amount of food available per person.
Population Increases When the Means Increase
According to third preposition as the food supply in a country increases, the member of children per family also increases. It, therefore, would result in an increased demand for food and their food per person will diminish. Thus, according to Malthus, the standard of living of the people cannot rise permanently.
Checks
According to Malthus, contain positive and preventive checks can control the population. Preventive checks are those that are applied by man and includes measures for bring down the birth rate. The positive checks on the other hand exercise their influence on the growth of population by increasing death rates. They are applied by nature. Epidemics, wars and famines are some examples of positive checks.
Optimum Or Modern Theory Of Population
According to the theory, given a certain amount of resources, the state of technical know-how and a certain stock of capital, a country must have a certain size of population at which the real income (goods and services) per capital is the highest. This size of population is called optimum population. In other words, optimum population refers to a size of population at which the real income per capital is the maximum. If population exceeds the optimum size, it is said to be over populated. Such a condition develops in a country. When it’s available resources are fully exhausted and there exists no chance of their further exploitation. It is necessary at this stage that the country must practice preventive checks and to escape from the misery of positive checks.
According to this theory, there are three phases population in a country viz.

(a) Under Population
A condition at which real per capital income rises with a rise in the size of population.
(b) Optimum Population
A situation at which real income per capital is the highest.
(c) Over Population
From under and optimum population, a country moves, unless preventive checks are applied, to the level of over population, at which the real income per capital diminishes.

Economics of Scale

Professor Marshall his divided the economics arising from an increase in the scale of production of any kind of goods in the broad classes.
External Economics
The outcomes of the general development of an industry either in a particular locality or a country are called external economics of scale. These economics do not depend upon the organizing capacity of particular business man, rather they are available to all the businessman alike. They depend on external condition and independent of any individual business or establishment and of it’s resource. Some examples are

• Benefits of low freight rates
• Benefits of banking facilities
• Benefits of power development

Internal Economics
The outcomes of the expansion of a particular firm cutting down the production costs and securing increasing returns is called Internal Economics for that firm are not shared by other firms and only a particular business man or firm enjoys the benefits. There can be many casual economics for a firm when it expands itself. Some of them may be:

• Benefit of expert services
• Benefit of construction
• Benefit of use of latest machinery
• Benefit of use of division of labour.