COURSE NUMBER: SOCIAL SCIENCE 3

COURSE TITLE: BASIC ECONOMICS (WITH LAND REFORM & TAXATION)

DEGREE SOUGHT: ALL COLLEGE STUDENTS
PREREQUISITE: NONE
CREDIT: 3 units
CONTACT HOURS: 3hours per week lecture
INSTRUCTOR: Mae O. San Agustin
Master of Science in Resource Management (units),
CBSUA
BS Agriculture major in Ag. Econ, CBSUA
Civil Service Licensed
Licensed Teacher

MOBILE NUMBER: 0947-892-7537

EMAIL ADDRESS: sanagustinmae@gmail.com

COURSE DESCRIPTION:
Basic and general economics concept, theories and
principles, concepts of land reform and taxation in the
Philippines.

GENERAL OBJECTIVE:
The course aims to provide students with an understanding of
the principles of economics with backgrounds in land reform
and taxation

LECTURE TOPICS:
Orientation
A. Philosophy, Vision, Mission and Goals
B. Core Values
C. Overview of the Course
D. Requirements of the Course
E. Faculty & Student Expectation

CHAPTER I. Introduction to Economics

A. Definition
B. Ten Principles of Economics
C. Key Elements
D. Branches of Economics
E. Economic System
F. Market

CHAPTER II. Demand, Supply and Market Model

A. Elements of Demand
B. Elements of Supply
C. Market Equilibrium

CHAPTER III. Basic Application of the Market Model

A. Minimum Price Policy
B. Maximum Price Policy
C. Tax Incidence Problem

CHAPTER IV. Theory of the Firm

A. Principles of Production
B. Theory of Cost

CHAPTER V. Introduction to Macroeconomics

A. Microeconomics vs. Macroeconomics

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 1
 B. Target Goals of an Economy
C. Measure of Economics Performance

CHAPTER VI. Agrarian Reform

A. Concepts of Land Reform and Agrarian Reform
B. Philippine Agrarian Reform Programs: Issues, Problems and
Prospects
C. Comprehensive Agrarian Reform Program: Salient, Features,
and Program Implementation
D. Opinions on Agrarian Reform

CHAPTER VII. Taxation

A. General Principles of Taxation
B. Nature and Power of Taxation
C. Basic Principles of a Sound Tax System
D. Uniformity of Taxation
E. Local Taxation

LABORATORY EXERCISES:

1. Introduction to Economics
2. Demand
3. Utility
4. Demand Elasticity
5. Supply
6. Market Equilibrium
7. Production Function
8. Cost and Profit Maximization
9. Consumer Price Index and Inflation Rate
10. National Income Accounting
11. Unemployment
12. Land Reform
13. Taxation

REFERENCES:
Tan-Garcia, Yolanda., Economics 11 Workbook,3rd edition, CEM,UPLB
Sicat,Gerardo P., Economics, National Bookstore, Manila, 1983.
Pagoso,Cristobal M. et.al., Principles of Economics, Rex
Bookstore, Quezon City, 2008
COURSE REQUIREMENTS:

1. Workbook/ Exercises
2. Seminar before the Final Exam
3. Long /Chapter Quizzes
4. Midterm Examination
5. Final Examination

MODE OF EVALUATION:
Long (Chapter) Quiz 25%
Class Participation 15%
Midterm/Final Exam 40%
Project/Exercises 15%
Attendance 5%
Total 100%

FINAL GRADE COMPONENTS: 50% Midterm standing;

50% Final Standing

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 2
TEN PRINCIPLES OF ECONOMICS

Economics………
- came from the word “oikonomia” a Greek word which means
management of the household

A household and an economy face many decisions:

1. Who will work?

2. What goods and how many of them should be produced?
3. What resources should be produced in the production?
4. At what price should the goods be sold?

Society and scarce resources:

The management of society’s resources is important because
resources are scarce
Scarcity… means that society has limited resources and
therefore cannot produce all the goods and services people wish
to have.

Economics is the study of how society manages its scarce

resources.

How People Make Decisions:

 People face tradeoffs
 The cost of something is what you give up to get it
 Rational people think at the margin
 People respond to incentives

How people interact with each other:

 Trade can make everyone better off
 Markets are usually a good way to organize economic activity
 Government can sometimes improve economic outcomes

The Forces and Trends that Affect How the Economy as a Whole
Works:
 The standard of living depends on a country’s production
 Prices rise when the government prints too much money
 Society faces a short run trade-off between inflation and
unemployment

Principle # 1: People face tradeoffs

“There is no such thing as a free lunch”

To get one thing, we usually have to give up another thing.

 Guns vs. butter
 Food vs. clothing
 Leisure time vs. work

Making decisions requires trading off one goal against

another.

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 3
 Efficiency vs. Equity

 Efficiency – means society gets the most that it can

from its scarce resources
 Equity – means the benefits of those resources are
distributed fairly among the members of the society

Principle # 2: The cost of something is what you give up to get

it

Decisions require comparing costs and benefits of

alternatives:
 Whether to go to college or to work?
 Whether to study or go out on a date?
 Whether to go to class or sleep in?

Opportunity Cost – of an item is what you give up to obtain

that item

LA Laker basketball star Kobe Bryant chose to skip college

and go straight from high school to the pros where he has
earned millions of dollars

Principle # 3: Rational people think at the margin

Marginal changes are small, incremental adjustments to an

existing plan of action

People make decisions by comparing costs and benefits at the

margin

Principle # 4: People respond to incentives

Marginal changes in costs or benefits motivate people to

respond

The decision to choose one alternative over another occurs

when that alternative’s marginal benefits exceed its
marginal costs!

Principle # 5: Trade can make everyone better off

People gain from their ability to trade with one another

Competition results in gains from trading
Trade allows people to specialize in what they do best

Principle # 6: Markets are usually a good way to organize

economic activity

 A market economy is an economy that allocates resources

through the decentralized decisions of many firms and
households as they interact in markets for goods and
services.
 Households decide what to buy and who to work for.
 Firms decide who to hire and what to produce.

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 4
  Adam Smith made the observation that households and firms
interacting in markets act as if guided by an “invisible
hand.”
 Because households and firms look at prices when
deciding what to buy and sell, they unknowingly take
into account the social costs of their actions.
 As a result, prices guide decision makers to reach
outcomes that tend to maximize the welfare of society
as a whole.

Principle #7: Governments Can Sometimes Improve Market Outcomes

 Market failure occurs when the market fails to allocate

resources efficiently.

 When the market fails (breaks down) government can intervene
to promote efficiency and equity.
 Market failure may be caused by
 an externality, which is the impact of one person or
firm’s actions on the well-being of a bystander.
 market power, which is the ability of a single person
or firm to unduly influence market prices.

Principle #8: The Standard of Living depends on a Country’s

Production

 Standard of living may be measured in different ways:

 By comparing personal incomes.
 By comparing the total market value of a nation’s
production.
 Almost all variations in living standards are explained by
differences in countries’ productivities.
 Productivity is the amount of goods and services produced
from each hour of a worker’s time.

Principle #9: Prices Rise When the Government Prints Too Much
Money

 Inflation is an increase in the overall level of prices in

the economy.
 One cause of inflation is the growth in the quantity of
money.
 When the government creates large quantities of money, the
value of the money falls.

Principle #10: Society Faces a Short-run Tradeoff Between

Inflation and Unemployment

 The Phillips Curve illustrates the tradeoff between

inflation and unemployment:

Inflation Unemployment

It’s a short-run tradeoff!

Summary:

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 5
  When individuals make decisions, they face tradeoffs among
alternative goals.
 The cost of any action is measured in terms of foregone
opportunities.
 Rational people make decisions by comparing marginal costs
and marginal benefits.
 People change their behavior in response to the incentives
they face.
 Trade can be mutually beneficial.
 Markets are usually a good way of coordinating trade among
people.
 Government can potentially improve market outcomes if there
is some market failure or if the market outcome is
inequitable.
 Productivity is the ultimate source of living standards.
 Money growth is the ultimate source of inflation.
 Society faces a short-run tradeoff between inflation and
unemployment

CHAPTER I

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 6
 INTRODUCTION TO ECONOMICS

I. Definition of Economics

1. Ferguson and Gould

Economics is a social science that is concerned with

the means by which scarce resources are used to satisfy
competing ends.

2. Richard Leftwich

Economics is concerned with humanity’s well-being or

welfare. It encompasses the social relationship or social
organization involved in allocating scarce resources among
alternative human wants and in using those resources towards
the end of satisfying wants as fully as possible.

3. Paul Samuelson

Economics is the study of how people and society end up

choosing, with or without money, to employ scarce productive
resources that could have alternative uses, to produce
various commodities and distribute them for consumption, now
or in the future, among various persons and groups in
society.

4. Michael Todaro

Basically, economics in general is the study and

exercise of choice. It is concerned with the manner in
which the wants and desires of people are converted into a
limited number of material goods and services, etc.,
(goods) rice, corn, radios, bicycles and clothes
(services) education, medical care, police protection
music, dance and entertainment through the judicious
use of scarce productive resources, i.e., land,
mechanical capital goods, labor, materials, managerial,
technical and administrative know how.

5. Gerardo Sicat

Economics is a scientific study which deals with how

individuals and society generally make choices. Individuals
and groups in society have innumerable wants. To satisfy
those wants, there are resources that can be used. These
resources are not freely available. They are therefore
scarce and have alternative uses. Dimension of choice
includes present and future use of available resources.
Moreover, the uses of these resources carry with them costs
and corresponding benefits. Concern with costs and benefits
requires efficiently in resource use.

In general economics is defined as:

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 7
 A social science that deals with the allocation of scarce
resources to the production of goods and services to satisfy
unlimited human wants.

SUMMARY:

ECONOMICS
- is a scientific study concerned with human behavior. It
is therefore a social science
- its principal concern is with choices, in the present and
over time. Choices covers the production of commodities,
their distribution, and the consumption of the
commodities
- advantages of economics over other social sciences:
a. the economic motives of human beings are more regular
and therefore predictable
- economic problems arises due to the scarcity of goods
except goods that are valuable to life that maybe
abundant and may become free (air)
- economics can be useful in the understanding of why
countries grow or remain poor

Economic Activity

-is the interaction among economic units involved in the

production, exchange and consumption of goods and services

II. Key elements of economic activity

1. human wants
2. resources
3. techniques of production

A. Human wants – the motivating force of economic activity;

their fulfillment may be thought of as the end or goal of
an economic activity.

a. Characteristics of human wants

1. varied
2. insatiable (in the aggregate over time)

b. Origin of wants

1. They arise for what the human organism must have in order
to continue functioning.
2. They arise too, from the culture in which we live, for
every society dictates certain requisite for the “good
life”.
3. Finally, wants are generated by the activity necessary to
satisfy other wants.

B. Resources (factors of production) – are the means available

for the production of goods that are used to satisfy human
wants.

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 8
 a. Types of resources
1. land resources – consists of the lands and natural
resources used to produce goods
2. labor resources – consists of labor power or the
capacity for human effort, both of mind and
muscles, used in producing goods

3. capital resources – consists of all goods that are

used to produce other goods

b. Characteristics of resources
1. most resources are limited in quantity or scarce
2. they are versatile
3. they can be combined in varying proportions

c. Techniques of production- know-how and the physical

means of transforming resources into want-satisfying
form.

III. Branches of Economics

a. Microeconomics – deals with the problems and analysis of

individual economic units, i.e.,

i) a consumer/household
ii) a producer/seller
iii) a resource owner
- deals with the problem of individual choice, demand,
costs of production of the firm and the structure of the
firms

b. Macroeconomics – deals with the problems of the whole

economy and interrelationships of aggregate economic units,
i.e.,

i) household sector
ii) business sector
iii) government sector
iv) foreign sector

- study of national income, consumption, investment,

savings, and general price levels

Consumption expenditures

goods and services

BF
HH

factors of production
income

Figure 1. Circular Flow Diagram

IV. Economic System – an institutional framework with which
economic activity is carried out.

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 9
 a. General types of economic systems
1. free enterprise economy – characterized by private
ownership of resources as well as goods and
services
- prices set by the conditions of demand & supply;
competition is supreme; price is the guiding
factor for producers to know what & how much to
produce

2. command economy – resources, goods and services

are owned by the state and controlled by the
government
- government dictates what, how, and for whom to
produce

b. Four basic problems of any economy/economic system

1. what to produce?
2. how to produce?
3. how much to produce?
4. for whom the goods are to be distributed?

V. Market – a place where buying and selling takes place or

a point where the forces of price mechanism
could take place.
- a mechanism through which buyers and sellers
interact in order to determine the price and
quantity of a good or service

Types of Market

1. Perfect competition
Characteristics:
a. homogeneity of the product
b. smallness of buyers and sellers relative to the market
c. absence of artificial restraints
d. mobility – freedom of entry and exit from the industry
e. perfect knowledge of the market
2. Monopoly – is a market situation in which only one firm
sells a product for which there is no good substitute
e.g. CASURECO, PIWAD, PENSUMIL
3. Oligopoly – is a market situation in which the number of
sellers is small enough for the activities of one seller to
affect the activities of the other and vice-versa; few
sellers
e.g. gasoline station, cement, airlines, car industry,
beer market
4. Monopolistic competition – according to Edward H.
Chamberlin it is a market situation in which there are many
sellers of a particular product, but the product of each
seller is in some ways differentiated from the product of
every other sellers
e.g textile products, bath soap, headache medicine,
alcohol

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 10
 CHAPTER II
DEMAND, SUPPLY AND MARKET EQUILIBRIUM

Background:

Demand and Supply are the two words that economists use more
often

Demand and Supply are the forces that make market economies work
Modern economics is about demand, supply and market equilibrium

A market is a group of buyers and sellers of a particular good or

service

The terms demand and supply refers to the behaviour of people……

as they interact with one another in markets

BUYERS DETERMINE DEMAND; SELLERS DETERMINE SUPPLY

2.1 ELEMENTS OF DEMAND

Demand – various quantities of goods and services per unit of

time that consumers are willing and able to take off from
the market at all possible alternative prices, ceteris
paribus.

Law of Demand – states that other things equal, the quantity

demanded of a good falls when the price of the good rises

Demand schedule – listing of all the different quantities of the

commodity that consumers will take off from the market
against the various alternatives prices of the goods or
services.
- is a table that shows the relationship between the price
of the good and the quantity demanded

Example:
Table 1. Demand schedule for product.

Price (Px) Quantity (Qx)

10 1
9 2
8 3
7 4
6 5
5 6
4 7
3 8
2 9
1 10

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 11
Demand Curve – plot of the demand schedule.
- graph of the relationship between the price of the goods
and the quantity demanded

0
Q = f(P)
Demand function:

where:
Q - quantity demanded of the good/service
P – price of the good/service

Demand equation: Q = a – bP

where: a – intercept of the equation

b – slope of the function

example: Q = 15 – 0.5P

Interpretation of the slope and intercept

a = 15 means if the price is zero, the consumer will demand 15

units of the goods

b = 0.5 means that for every one unit change in the price,
quantity demand will change by 0.5 units.

Factors affecting demand:

1. price of the product

2. income of the consumers
3. number of consumers (population)
4. tastes and preferences
5. price of related goods
6. speculation

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 12
 - high price – good quality; low price – poor quality
- income – for normal (superior goods) – high income –
high demand; low income – low demand
for inferior goods – high income – low
demand
- more consumers (population) – high demand
- taste and preferences – depends
- price of related goods
substitutes – high price of calamansi, low demand; high
demand for camatis
complements – high demand for coffee, high demand for
creamer

Some definitions:

I. Types of goods with respect to income:

a. normal (superior) good - good whose consumption or
demand increases as income increases.
b. Inferior good – good whose consumption/demand
decreases as one gets higher income

II. Relationships of two goods:

a. substitutes – two goods are substitute if one of the

goods can be used in place of the other good.
- When a fall in the price of one good reduces the
demand for another good, the two goods are called
substitutes.

b. complements - two goods are complementary to each

other if they are consumed simultaneously.
- When a fall in the price of one good increases the
demand for another good, the two goods are called
complements

III. “Change in demand” vs. “change in quantity demanded”

a. change in quantity demanded refers to a movement along
the demand curve due to changes in the price of the
commodity.
b. Change in demand refers to shift in the entire demand
schedules that were held constant in the definition.

Illustrations: AMPALAYA

Price of X Initial Demand Final Demand (d2)

(per kilo) (d1)
45 100 150
40 150 200
35 200 250
30 250 300
25 300 350
20 350 400

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 13
 50
45
40
35
30
25
20
15 D2
10 D1
5

50 100 150 200 250 300 350 400

Increase in income – shift to the right

Decrease in income – shift to the left
Greater taste/preference – shift to the right
Less taste/ preference – shift to the left
Increase in population – shift to the right
Decrease in population – shift to the left
Greater speculation – shift to the right
Less speculation – shift to the left

IV. Market demand curve – horizontal summation of all

individual demand curves of consumers in the market.

2.2 WHAT IS BEHIND THE LAW OF DOWNWARD SLOPING DEMAND CURVE?

Utility – measures the satisfaction one gets from consuming a

good or a service.

Marginal utility – the additional satisfaction one gets out of

consuming an additional one unit of the good or service.
TU / Q or TU2 – TU1 / Q2 – Q1

Table 2. Total and marginal utility

Quantity consumed Total utility Marginal Utility

0 0 ____0____
1 6 ____6____
2 10 ____4____
3 13 ____3____
4 15 ____2____
5 16 ____1____
6 14 ____-2____

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 14
Law of Consumption:

A person with a given income or budget ends up consuming

different amounts of good with their respective prices. The
consumer can maximize his satisfaction if he balances his
consumption of goods such that:

MUx MUy MUn

————— = ————— = … = —————
Px Py Pn

Quantity = Q(Px)+Q(Py)+Q(Pn)

Example: Maximizing Satisfaction given two goods

Quantity Apple Orange
Mua MUa/Pa(2) MUo MUo/Po(1)
1 75 __37.5____ 45 ___45___
2 66 __33____ 44 ___44___
3 57 __28.5____ 39 ___39___
4 48 __24____ 36 ___36___
5 36 __18____ 33 ___33___
6 30 __15____ 30 ___30___
7 18 __9____ 24 ___24___
8 6 __3____ 18 ___18___

Question: How many units of apples and oranges will give

the consumer maximum satisfaction if his income
is P15 and the prices of the two goods are P2.00
and P1.00 respectively?
Qty = apple – 4; orange - 7
= 4(P2.00)+ 7(P1.00) = 15

Mua = MUo
Pa Po
24 = 24
2.3 DEMAND ELASTICITY

Elasticity of demand - a measure of the degree of

responsiveness of quantity demanded
to price changes.
- reactions of consumers to changes in
the price of the commodity –
decrease in purchase if price
increases; increase if price
decreases
- or the percentage change in the
quantity demanded in response to a
given percentage change in the
price.

Percentage change in quantity % ΔQ

——————————————————————————————— = —————
Percentage change in price % ΔP

Q1 – Q2 P1 – P2
= ————————— —————————
Q1 + Q2 P1 + P2
Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 15
Comparison of slope and elasticity
ΔQ % ΔQ
Slope = ———— elasticity = ——————
ΔP % ΔP

Example: (refer to Table 1, demand schedule for product X)

Let P1 = 9 Q1 = 4
P2 = 8 Q2 = 6

4 - 6 -2 -2
slope = —————— = ————— =
9 - 8 1

4 – 6 9 – 8 -2/10 -0.2
elasticity = —————— ———————— = ———————— = _______= -3.3
4 + 6 9 + 8 1/17 0.06

Interpretation of Slope = -2 and E = -3.3

Slope = -2 means for every 1 unit increase in the

price, quantity demanded will decrease by 2
units.

Elasticity = -3.3 means for every 1% increase in the

price of good X, quantity demanded will
decrease by 3.3%.

Ranges for the values of demand elasticity:

│E│ = 1 unitary elastic % ΔQ = % ΔP

│E│ › 1 elastic % ΔQ › % ΔP

│E│ ‹ 1 inelastic % ΔQ ‹ % ΔP

Factors affecting demand elasticity

1. number of substitutes or the substitution effect of

price changes
- when prices are high, many other products can be
used as substitutes; atis for apple
-when the price drops, the number of substitutes
decreases; more quantity purchased for apple
-the demand for a product is elastic if it has more
substitutes
2. price in relation to the budget
3. location in the demand curve
- elasticity is highest at high prices, decreases as
prices go down; lowest at low prices
-only few number of consumers can afford to pay high
prices for a product while a large number can buy
it at low prices
4. range of uses for the product
- the more uses a commodity has, the more elastic is
its demand

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 16
Relationship of demand elasticity (E) and total revenue (TR)

Total revenue – total cash received by the seller/producer

from the sale of his product.

= Price X Quantity or PQ

Table 4. Total revenue schedule

Price Quantity TR
1 20 20
2 18 36
3 16 48
4 14 56
5 12 60
6 10 60
7 8 56
8 6 48
9 4 36
10 2 20

Graphical relationship of │E│ and TR

D Q

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 17
 Table 5. Summary

Price Price
Increase Decrease

│E│› 1 TR TR

P P

P1
P P2 P1
P P2
D D
0 Q 0 Q
Q1 Q2 Q1 Q2
Q Q
Inelastic Demand Elastic Demand

Examples: infant’s milk, salt Examples: signature bags

electricity, medicine, chocolates, computers,
rice, water, sugar imported shoes, CD’s
-needs perfumes - luxury

-the more essential a good is to the consumer, the more inelastic

will be the demand for the good, the less of a necessity a good
is, the more the elastic is the demand for it.

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 18
 SEATWORK I
DEMAND

Describe what will happen to the demand of the good(s) that

is/are discussed in the following numbers. Indicate/illustrate
whether there will be (a) change in demand or (b) change in the
quantity demanded of the good(s) in each case:

a. A new fad from Paris was just introduced in our

country which made colored garments very fashionable.
Show what will happen to the demand for these
garments. Shift to the right; taste & preference
b. Since 1990, Soc Sci 3 was included in the CBSUA
student curricula. In the future semesters, the
College of Economics and Management is expecting a
significant increase in the enrollment of the
mentioned subject. Show what will happen to the demand
for Economics textbooks like those of Sicat and
Samuelson? Shift to the right; increase in the numbers
of consumers
c. The Roman Catholic Church relaxes its ban on eating
meat during Fridays. Show what will happen to the
demand of the meat. Shift to the left;
d. The government in an effort to improve the prawn
culture in our country revived the “Blue Revolution”
Program. Show what will happen to the demand of the
prawn.
e. It was discovered that apple contains chemical
compounds that are good in preventing heart disease.
Show what will happen to the demand of the apple.

II. Consider the table below:

a. Hypothetical price-quantity demand relationship for

bananas

Quantity purchased

Price (P) Consumer A Consumer B Consumer C

3.50 4 7 0
3.00 7 9 2
2.50 10 12 2
2.00 15 15 3
1.50 18 17 4
1.00 22 19 5

b. Plot the demand curve of each consumer, A, B and C.

c. Solve for the market demand curve assuming there are only
three consumers in the market.
d. Plot the market demand curve.
e. Solve for the elasticity’s of the four demand curves,
i.e., A, B, C and the market demand curve at P3.00 and
P2.00. Characterize each demand curve according to whether
they are elastic or inelastic.
f. Considering the elasticity of the market demand for
bananas, predict what will happen to total revenue of

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 19
 banana farmers if there will be an expected to total
increase in the price of bananas. Explain why?
2.4 SUPPLY AND MARKET EQUILIBRIUM

Supply - various quantities of goods and services that sellers

are willing to place in the market at all possible
alternative prices, ceteris paribus.

Supply schedule – listing of all the various quantities of goods

that sellers are willing to sell at all possible alternative
prices.

Example:

Table 4. Supply schedule of good X

Price (Px) Quantity (Qx)

1 2
2 4
3 6
4 8
5 10
6 12
7 14
8 16
9 18
10 20

Supply curve – plot of the supply schedule.

- a normal supply curve/ function should slope upward and

to the right

- producers presumably are willing to offer larger

quantities as the price rises

Supply function:

Q = f(P)

where:

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 20
 Q – quantity supplied of the good or service
P – price of the good or service

Supply equation:

Q = c + dP
where:
c – intercept of the equation
d – slope of the function

example: Q = 20 + 0.7P

Interpretation of the slope and intercept

c = 20 means if the price is zero, the producer will

supply 20 units of the good in the market.

D = 0.7 means that for every one unit change in the

price, quantity supplied will change by 0.7
units.

Factors affecting supply of a product:

1. price of the product

2. price of the input
3. change in the profitability of substitute
commodities
4. changes in technology
5. objective of the firm
6. weather
7. number of producers/ suppliers
8. tax

- price of the input – an increase in the prices of input

causes an increase in per unit cost and a decrease in
supply vice versa
- the supply curve for a given commodity will shift to the
left if substitute commodities become more profitable; it
will shift to the right if other commodities become less
profitable
- technology influences both yield and costs of production
or efficiency. If there is technological improvement, per
unit costs are reduced and the reduction serves to
increase supply
- weather, pests and diseases causes a change in production
and can be treated as temporary shifts in supply

“Change in Supply” vs. Change in Quantity Supplied”

- change in quantity supplied refers to a movement along

the supply curve due to changes in the price of the
commodity

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 21
 - change in supply refers to shift in the entire supply
schedules that were held constant in the definition.

the rightward shift of the supply curve is the effect

on an increase in supply caused by a change in the non
price factor

the leftward shift of the supply curve will reflect the

decrease in supply

P P
S1 S2
S2
S1

Q1 Q2 Q Q2 Q1 Q
(a)an increase in supply (b) a decrease in supply

The price is established in the market?

P S

equilibrium point

D
Q

Market equilibrium – condition in which there is no

incentive for the seller and the
consumer to change position.
-refers to a situation in which the
price reached the level where quantity
supplied equals quantity demanded

Quantity demanded = quantity supplied

Qs = Qd
Equilibrium Price – the price that balances quantity
supplied and quantity demanded
-on a graph it is the price at which the supply
and demand curves intersect

Equilibrium Quantity – the quantity supplied and quantity

demanded at the equilibrium price
-on a graph it is the quantity at which the
supply and demand curves intersect

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 22
Illustration: Demand and Supply Together

Demand Schedule Supply Schedule

Price of Demand Price of Supply
Product X Product X
0.25 19 0.25 1
0.50 16 0.50 2
1.00 13 1.00 3
1.50 10 1.50 4
2.00 7 2.00 7
2.50 4 2.50 10
3.00 1 3.00 13

At P2.00 Qs = Qd
The Equilibrium of Supply and Demand

S
Equilibrium
Price
2.00 Equilibrium

D
Equilibrium
Quantity

1 2 3 4 5 6 7 8 9 10

Finding Equilibrium:

Demand equation: Q = a – bP

where: a – intercept of the equation

b – slope of the function

example: Q = 15 – 0.5P

Interpretation of the slope and intercept

a = 15 means if the price is zero, the consumer will demand 15

units of the goods

b = 0.5 means that for every one unit change in the price,
quantity demand will change by 0.5 units.

Supply equation:

Q = c + dP
where:
c – intercept of the equation

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 23
 d – slope of the function

example: Q = 20 + 0.7P

Interpretation of the slope and intercept

c = 20 means if the price is zero, the producer will

supply 20 units of the good in the market.

D = 0.7 means that for every one unit change in the

price, quantity supplied will change by 0.7
units.

Finding Equilibrium:

Qd = a – bP Qs = a + bP
Qd = 25-5P Qs = -20 + 10P
Qs = Qd
-20 + 10P = 25 – 5P
5P + 10P = 25 + 20
15P = 45
P = 3

Substituting:

Qs = Qd
-20+10P = 25 – 5P
-20+10(3) = 25 – 5(3)
-20+30 = 25 – 15
10 = 10

How can price be maintained in the market?

P S
Surplus
P1

Peq Equilibrium
P2
shortage

D
Q

At P1 – (greater than Peq)

Quantity supplied is greater than quantity demanded

resulting to building up of inventories called surplus. In order
to eliminate this surplus, the seller must lower down the price.

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 24
At P2 – (lower than Peq)

Quantity demanded is greater than quantity supplied

resulting to a shortage of the commodity. This artificial
shortage will automatically be eliminated by the consumers
themselves who will bid up the price just to get the commodity.

Another Numerical example of the market equilibrium

Suppose the demand and supply schedules for the product X is

as follows:

Quantity Price per unit Quantity

demanded supplied
90 3.00 50
80 4.00 60
70 5.00 70
60 6.00 80
50 7.00 90

Questions?
a. At what price level will quantity demanded equal to
quantity supplied?
b. What is the quantity level where demand and supply be
equal?

Comparative statics:

Suppose some variables that were held constant in the

definitions of demand and supply are allowed to change, how will
this affect the equilibrium combination of price and quantity?

Questions that are important in the analysis

a. Which curve shifts?

b. Will surplus or shortage result from such a shift?
c. Will this cause an upward or downward pressure on
the price?
d. Will this cause the total quantity of goods
exchanged in the market to increase or decreases?
Examples:
Case I - Shift in the demand curve due to increase in
the number of consumers (populations growth)
P

Case II - Shift in the supply curve due to improved

technology
P

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 25
C. III – Simultaneous shift in demand and supply curves due
to case I and case II
P

LAW OF DEMAND AND SUPPLY:

The claim that the price of any good adjusts to bring the
quantity supplied and the quantity demanded for that good into
balance.

EXERCISE II
Supply and Market Equilibrium

1. For each of the following, indicate where the supply curve

will SHIFT RIGHT, SHIFT LEFT, or will have no shift at
all.

a. Supply of jeepney rides: The Land Transportation

Office (LTO) strictly impounds all colorum (illegal)
jeepneys.

b. Supply of fresh potatoes in public markets:

McDonald’s, Wendys and Jollibee, who have been major
buyers of potatoes decide to stop serving French fries
for health reasons.

c. Supply of mangoes: A heavy tax is imposed on all mango

producers.

d. Supply of eggs: A new chicken breed that lays an egg

every two hours is developed by CBSUA BSA 2N students.

e. Supply of rice: Fertilizer prices are reduced as a

result of import liberalization.

2. In each of the following, use supply and demand diagrams

to determine what happens to market equilibrium price and
quantity. In each case, show which curves (s) shifts (s)

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 26
 and how it (they) shifted. Also, label the price and
quantity changes (increase or decrease).

a. (Bread Industry). The price of flour drops as a result

of a large wheat importation by the government.

b. (Peanut Industry) Peanuts are discovered to increase

the probability of catching the disease AIDS.

c. (Corn Industry) Minimum wages are increased by 50%.

3. You are given the following market model:

Demand equation: Qd = 8,000 – 600 P

Supply equation: Qs = 2,000 + 400 P

where:

Qd – quantity demanded
Qs – quantity supplied
P – Price of the product

a. On a graphing paper, draw the demand and supply curves

for prices equal to P3.00, P4.00, P5.00, P6.00, P7.00,
P8.00 and P9.00 respectively.

b. Solve mathematically for the equilibrium price and

quantity.

c. If the price of the product is P5.00, how would you

describe the situation in the market?

d. If the price of the product is P8.00, how would you

describe the situation in the market?

e. Suppose the consumers of the product under consideration

experiences a general increase in incomes, which curve
will be affected? Discuss how this will affect the
equilibrium price and quantity in the market.

f. Now, instead of an increase in consumer incomes, assume

that the price of input used in producing the product
falls, which curve will be affected? Discuss how this
will affect the equilibrium price and quantity in the
market.

g. This time, assume that there is a simultaneous

occurrence of cases stated in letter e and f, discuss
how this will affect equilibrium price and quantity.

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 27
 EXERCISE II
Supply and Market Equilibrium

For each of the following, indicate where the supply curve

will SHIFT RIGHT, SHIFT LEFT, or will have no shift at all.

Supply of jeepney rides: The Land Transportation

Office (LTO) strictly impounds all colorum (illegal)
jeepneys. Left; decrease

Supply of fresh potatoes in public markets:

McDonald’s, Wendys and Jollibee, who have been major
buyers of potatoes decides to stop serving French
fries for health reasons. Right; increase the supply
in the public market

Supply of mangoes: A heavy tax is imposed on all mango

producers. Left; decrease in the supply; less supplier

Supply of eggs: A new chicken breed that lays an egg

every two hours was developed by Filipino scientists.
Right; increase in the supply

Supply of rice: Fertilizer prices are reduced as a

result of import liberalization. Right;increase supply

In each of the following, use supply and demand diagrams to

determine what happens to market equilibrium price and quantity.
In each case, show which curves (s) shifts (s) and how it (they)
shifted. Also, label the price and quantity changes (increase or
decrease).

(Bread Industry). The price of flour drops as a result

of a large wheat importation by the government. Supply
curve; shift to the right; price of the input

(Peanut Industry) Peanuts are discovered to increase

the probability of catching the disease AIDS. Demand;
shift to the left; taste and preference

(Corn Industry) Minimum wages are increased by 50%.

Supply; shift to the right; income of the workers

You are given the following market model:

Demand equation: Qd = 8,000 – 600 P

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 28
 Supply equation: Qs = 2,000 + 400 P

where:

Qd – quantity demanded
Qs – quantity supplied
P – Price of the product

On a graphing paper, draw the demand and supply curves

for prices equal to P3.00, P4.00, P5.00, P6.00, P7.00,
P8.00 and P9.00 respectively.
At P3.00
Qs Qd
2,000 + 400(3) = 8,000 – 600 (3)
2,000 + 1,200 = 8,000 – 1,800
3,200 = 6,200 shortage

At P4.00
2,000 + 400(4) = 8,000 – 600 (4)
2,000 + 1,600 = 8,000 – 2,400
3,600 = 5,600 shortage

At P5.00
2,000 + 400(5) = 8,000 – 600 (5)
2,000 + 2,000 = 8,000 – 3,000
4,000 = 5,000 shortage

At P6.00
2,000 + 400(6) = 8,000 – 600 (6)
2,000 + 2,400 = 8,000 – 3,600
4,400 = 4,400 equilibrium

At P7.00
2,000 + 400(7) = 8,000 – 600 (7)
2,000 + 2,800 = 8,000 – 4,200
4,800 = 3,800 surplus

At P8.00
2,000 + 400(8) = 8,000 – 600 (8)
2,000 + 3,200 = 8,000 – 4,800
5,200 = 3,200 surplus
At P9.00
2,000 + 400(9) = 8,000 – 600 (9)
2,000 + 3,600 = 8,000 – 5,400
5,600 = 2,600 surplus

Solve mathematically for the equilibrium price and

quantity.

Qs Qd
2,000 + 400P = 8,000 – 600P
600P + 400P = 8,000 – 2,000
1,000P = 6,000
P = 6
At P6.00
2,000 + 400(6) = 8,000 – 600 (6)

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 29
 2,000 + 2,400 = 8,000 – 3,600
4,400 = 4,400 equilibrium

If the price of the product is P5.00, how would you

describe the situation in the market? shortage

If the price of the product is P8.00, how would you

describe the situation in the market? surplus

Suppose the consumers of the product under consideration

experiences a general increase in incomes, which curve
will be affected? Discuss how this will affect the
equilibrium price and quantity in the market. Demand
curve will shift to the right; the price will also
increase due to high demand; high demand in qty for
normal goods

Now, instead of an increase in consumer incomes, assume

that the price of input used in producing the product
falls, which curve will be affected? Discuss how this
will affect the equilibrium price and quantity in the
market. Supply curve; more quantity will be supplied
since there is a drop in the price of the input; price
will increase

This time, assume that there is a simultaneous

occurrence of cases stated in letter e and f, discuss
how this will affect equilibrium price and quantity. The
demand curve will shift to the right; the supply curve
will shift to the right also; equilibrium price will
increase
CHAPTER III

BASIC APPLICATIONS OF THE MARKET MODEL

The market (demand-supply) model is very useful in analyzing

the effects of price-fixing arrangements and certain tax policies
of the government. These economic policies aim to correct
inequities in income distribution. In this section, three cases
will be considered:
a. minimum price policy
b. maximum price policy
c. tax-incidence problem

I. Minimum price policy – price support or floor price

policy
- objective of this policy is to
extend subsidy to the producers.
P surplus S

Pmin
Peq

D
Q

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 30
Consequences: If the minimum price policy is effective it
will always result to excess supply or
surplus.

Ways to eliminate or solve the surplus problem:

a. export the surplus
b. donate the surplus as foreign aid
c. keep the surplus as bumper stock

II. Maximum price policy – price ceiling policy

- the objective of this policy is
to extend subsidy to the
consumers
P S

Peq
Pmaxxx
shortage D
Q
Consequences: If the price ceiling is effective it will
always result to excess demand or shortage.
Ways to eliminate or solve the problem of shortage:
a. to ration the limited amount of the commodity
b. to import the commodity

III. Analyzing effects of a tax

When a good/ product is sold, a sales tax has to be paid to

the government on the sale of that product.

Two Kinds of Tax:

i) specific tax – seller’s tax
- amount per unit of the product
ii) ad valorem tax – consumer’s tax
- percentage of the selling price
of the product
- tax based on value

P S+T

P1 Buyers share S
Peq
Seller share
D
Q

QUESTION? Who will shoulder the burden of the tax between

the buyer and the seller?

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 31
ANSWER:
The share of the tax borne by the producer and the consumer
varies according to the elasticity of demand and supply curves
respectively.

Example: Assume that the demand curve for a given product is

inelastic while the supply curve is elastic. Who is
going to bear a larger proportion of the tax, the
consumer or the producer?

P
12 S + T
11
10 .
3 9 Buyer’s
8 share S1
7 .
2 6 Sellers share
5 .
4
3 D
2
1
0
100 200 300 400 500 Q

Inelastic Curve. Higher Tax Burden for

the buyer

Scenario:

Product: Softdrinks
Tax: the government imposed a 100% tax on the product
If the price of the softdrinks is P5.00, the consumer has
to pay P10.00 on account of the tax… But this is not
always the scenario

Demand Curve Consumer Tax Seller Tax Remarks

Burden Burden

Highly lesser higher if the price is

Elastic too high for the
buyer as a result
of the tax, a
decrease in
consumption, non
essential

Inelastic higher lesser buyer cannot do away

Demand Curve w/ the consumption
of the product,
essential

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 32
 CHAPTER IV
THEORY OF THE FIRM

4.1 PRINCIPLES OF PRODUCTION

The theory of production is an analysis of output-input

relationship. The relationship of the output to the size,
combination, and efficiency of resources (land, labor and
capital)
This output function serves as a tool in analyzing cost-
output relationship.

Production function – physical relationship between a

firm’s inputs of resources and its
output of goods and services per unit
time.
output = f(land, labor, capital)

Marginal product – an additional unit of output produced by

using one additional unit of the input.
ΔTP TP2 – TP1
MP = ——————— = ——————————————
ΔI I2 – I1

Average product – output produced per unit of the input.

TP Total Product
AP = —————— = -———————————————
I Units of Input

Table 6. Total product schedule (using fertilizer as input)

Units of Total Product Marginal Average
fertilizer (TP) Product (MP) Product (AP)
1 6 ___-____ ___6____
2 14 ___8____ ___7____
3 24 ___10____ ___8____
4 32 ___8____ ___8____
5 38 ___6____ ___7.6____
6 42 ___4____ ___7____
7 42 ___0____ ___6____
8 40 __-2_____ ___5____
9 36 __-4_____ ___4____

The Production Function – (Total Product Curve)

Output

Input

The Marginal Product and Average Product Curves

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 33
Output Output

Input Input

MP AP

Law of Diminishing Marginal Productivity/ Return – as the input

of one resource is increased while the inputs
of other resources are held constant, Total
Product (TP) will increase, but beyond some
points the resulting increase in output will
become smaller and smaller.

TP

Fertilizer

MP, AP

Fertilizer
TP,MP,AP

Stages of the Input – separate the technologically

efficient portion of the Total Product
curve from the inefficient portions.

Stage I – TP increases at an increasing rate and then at

diminishing rate

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 34
 - Average Product (AP) – increases and reaches its maximum
- Marginal Product (MP) – initially increases and reaches
the maximum point, thereafter starts decreasing
- Boundary between Stage I and II (delineating points)
 AP = MP

Stage II. – additional use of variable input brings a continuous

increase in the output (TP)and reaches its maximum
- AP starts to diminish; remains above the MP curve
- MP continues to decrease and reaches zero
- Boundary between Stage II and III (delineating points)
 MP = 0
 TP maximum
- most efficient stage in the production function
- optimization occurs

Stage III. additional use of variable inputs leads to a decrease

in the output (TP)
- MP is negative
- AP continues to decrease but always remains above zero
- inefficient stage in the production function

Which is the most relevant stage for economic analysis? Why?

4.2 THEORY OF COSTS

General Concept:

From the point of view of an entrepreneur, a business or

firm exists to reward entrepreneurial efforts. To render this
reward, the firm undergoes a production process the outcome of
which serves the consumers or buyers.
Production embraces the whole process of making the product
available to consumer which therefore, includes the final process
of distribution.
In so doing, the firm pays a price by using its stocks of
assets and the value foregone is called cost.

Objective of the Firm:

The economic goal of any firm is to maximize profits

Total Revenue, Total Cost and Profit:

Total Revenue – the amount a firm receives for the sale of

its output

Total Cost – the market value of the inputs a firm uses in

production

Profit – is the firm’s total revenue minus its total cost

Cost of production of a given product – (in economic context) the

value of foregone alternative products that
Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 35
 resources used in its production could have
produced.
-includes all the opportunity costs of making
its output of goods and services

Opportunity Cost(Alternative cost principle) – value of the

foregone best alternative for the resource.

Financial cost vs. Economic Cost

Explicit cost – (visible cost) actual outlays of money made

by the producer for the use of resource or
inputs

Implicit cost – (invisible cost) cost of self-owned, self-

employed resources/ inputs; do not require an
outlay of money

Components of Cost:

Fixed cost – costs of fixed resources, i.e., resources whose

employment is independent of output level.
-are those costs that do not vary with the quantity of
output produced

Variable cost – cost of variable resources, i.e., resources

whose employment is dependent on output level.
-are those costs that do vary with the quantity of
output produced

Short run vs. Long run viewpoints:

Short Run – planning period of the firm so short that some

resources can be classified as fixed while some
resources are considered variable.

Long Run – planning period of the firm so long that all

resources eventually become variable.

From Production Function to Cost Function:

Output Cost

Input Output
Production Cost
Function Function

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 36
I. Total Cost Curves:

Table 7. Total Cost Schedule for Product X

Output TC TFC TVC

0 5 5 ___0____
1 14 5 ___9____
2 22 5 ___17____
3 27 5 ___22____
4 40 5 ___35____
5 55 5 ___50____
6 78 5 ___73____

a. Total cost = the entire set of obligations per unit of time

incurred by the firm for fixed and variable resources.

TC = TFC + TVC

TC

Output

b. Total Fixed Cost – the entire set of obligations per

unit of time incurred by the firm for fixed
resources.

TFC

Output

c. Total Variables Cost – the entire set of obligations

incurred by the firm for variable resources.

TVC

Output
Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 37
 Relative position of Total Cost curves:

Cost

Output

II. Per Unit Cost Curve

Table 8. Average Cost schedule for product X

Output TC TFC TVC AC AFC AVC MC

0 5 ___5___ ___0___ ___0___ ___0___ __0___ __0___
1 14 ___5___ ___9___ ___14___ ___5___ ___9___ __9___
2 22 ___5___ ___17___ ___11___ ___2.5___ ___8.5_ __8___
3 27 ___5___ ___22___ ___9___ ___1.67___ ___7.33 __5___
4 40 ___5___ ___35___ ___10___ ___1.25___ ___8.75 __13__
5 55 ___5___ ___50___ ___11___ ___1___ ___10_ __15__
6 78 ___5___ ___73___ ___13___ ___0.83___ _12.12_ 23

a. Average cost – Total Cost per unit of product at various

levels of output.

AC = TC /Q
AC = AFC + AVC
AC

Output
b. Average Fixed Cost - Fixed cost per unit of product at
various levels of output.

AFC = TFC/Q
AFC

Output
c. Average Variable Cost – Variable cost per unit of
product at various levels of
output.

AVC = TVC/Q
AVC

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 38

Output
d. Marginal Cost – additional cost resulting from the
production of one additional unit of the
output.

ΔTC
MC = —————
ΔQ

MC

Output
Relative position of Per-Unit Cost Curves:

Cost

Output
CHAPTER V
PROFIT MAXIMIZATION

5.1 CASE OF PERFECT COMPETITION

Profit maximization involves the comparison of total costs

and total receipts/ revenues of the firm at various possible
output levels and the choice of the output level at which total
revenues exceed total costs by the greatest amount.

Profit – the difference between the firm’s total receipts

(TR) and its total costs (TC).

II – TR – TC where: i) II > 0 – profit

ii) II < 0 - loss

a. Total revenue function under perfect markets:

In perfect competition, the firm is said to be a price taker

since price is established by the market and not determined by
the producer, i.e., price is constant at all levels of output.

Total Revenue Schedule for Product X

Quantity Price TR = (P)(Q) TR

0 3 __0___
1 3 __3___
2 3 __6___
3 3 __9___
4 3 __12___ Q
Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 39
 5 3 __15___

b. Total Cost function under perfect markets:

TC

c. Analysis for profit maximization

TC
TC, TR TR

Profit of the firm is maximum if the space between TR and TC

is greatest. This happens when the slopes of the two curves are
equal.
TC
TC, TR TR
A

B
Q

Max II: Slope of TR = Slope of TC

Slope of TR (MR) – additional revenue received by the firm

from selling an additional one unit of the
product.

Slope of TC (MC) - additional cost incurred by the firm in

producing one additional unit of the
product.

Therefore, the condition for profit maximization is:

MC = MR

but in perfect competion, MR = P

.
.. MC = P

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 40
 Now that we have established the condition for profit
maximization, how can this help the producer in his production
decisions. Basically the producer’s concerns are:
a. What quantity level should he produce to maximize profit?
b. For how much should he sell each unit of his product?
c. How much is that maximum profit?
Profit maximization analysis: Using per-unit cost curve

Case I: Price is higher than the average cost (AC).

MC
MR,MC
AC
AVC
P = MR

Example:
TR and TC schedules for profit maximization analysis
Price of the output: P10.00
Q TR MR TC MC II
0 0 - 5 - -5
1 ___10___ ___-___ __14____ ___9___ __-4___
2 ___20___ ___10___ __22____ ___8___ _ -2___
3 ___30___ ___10___ __28____ ___6___ ___2___
4 ___40___ ___10___ __36____ ___8___ ___4___
5 ___50___ ___10___ __45____ ___9___ ___5___
6 ___60___ ___10___ __57____ ___12___ ___3___

Case II: What happens when the price established in the market is
lower than the average cost (AC)? The firm will definitely
be making losses instead of profits. Will the firm continue
production or close-shop?

There are two possible situations where P < AC:

MR, MC MC MC
MR, MC AC
AC AVC
AVC

P = MR
P = MR
Q Q

i) In the first situation, the price P is in between the AC

and AVC curves. What should the firm do? Incidentally, it
has two options:

a. to continue production – yes but in the short run

b. to close-shop – still no need, can still recover some
losses
In which option will the firm be able to minimize his
losses? Let us analyze the components of the firm’s loss:

a. If the firm continues operation

Breakdown of loss:

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 41
 AVC – recovered or lost? recovered
AFC – recovered or lost? All of it?
b. If the firm decides to close-shop
Breakdown of loss:
AVC – recovered or lost?
AFC – recovered or lost? All of it?

ii) In the second situation, the price P is below AC and AVC

curves. What should the firm do? Again it has two
options:
a. to continue operation
b. to close-up
Here, we will ask the same question, “In which option will the
firm be able to minimize losses?”

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 42
 EXERCISE III
PROFIT MAXIMIZATION: PERFECT COMPETITION

Given: Consider a firm producing good X and using only capital

and labor as factors of production. The firm’s capital
stock is fixed and its fixed costs are P300. The firm’s
production function may be summarized as follows:

Quantity Units of Labor

1 40
2 70
3 85
4 120
5 160
6 220
7 300
8 400
9 520
10 660

The existing wage rate in the labor market is P0.00 per

unit of labor.

a. Calculate, tabulate and graph together TC, TFC and TVC.

b. Calculate, tabulate and graph together AC AFC, AVC and MC.
c. If the price of good X is 800 each. What level of output
should the firm produce in order to maximize profit. How
much is that maximum profit?
d. If the price of good X is P350, what level of output should
the firm produce in order to maximize profit? is he making
profit at all or is he loosing? If he is loosing, how much
is his loss? Should he continue production or should he
close-shop? Why?
e. If the price of good X is P300, what level of output should
the firm produce in order to maximize profit? Is he making
profit at all or is he loosing? If he is loosing, how much
is his loss? Should he continue production or should he
close-shop? Why?
f. In your graph, identify the short-run supply curve of the
producer.

5.2 PROFIT MAXIMIZATION

CASE OF MONOPOLY

Monopoly – is a market situation in which only one firm sells a

product for which there is no good substitute.

Since the monopolist is the only seller, he faces the market

demand curves for his product. Unlike the perfect competitor who
takes the market price as given, a monopolist must choose the
output and the price will maximize his profits. For this reason,
the distinction is often made between a “price taker” (the

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 43
perfectly competitive case) and a price dictators (the monopoly
case).

Profit – the difference between TR and TC.

II – TR – TC where: II > 0 – profit

II < 0 – loss

a. Total Revenue Function of the monopolist:

The monopolist faces the market demand curve, therefore

the price of his product is variable. If the price is high
there will be low demand, on the other hand, if the price
is low then demand can be expected to be higher.

P
Total Revenue schedule for product X

Price Quantity TR = P x Q
12 0 _______ Q
10 1 _______
8 2 _______ TR
6 3 _______
4 4 _______
2 5 _______
Q

b. Total Cost function of the monopolist:

It will be assumed that the monopolist will be buying
resources from the same factor market where the perfect
competitors buys. Therefore, they will essentially face the
same cost structures. Their only difference will be on the
manner of selling/marketing the product.
TC

c. Analysis for profit maximization

TR

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 44
 Profit of the firm is maximum if the space between TR and TC
is greatest. This happens when the slopes of the two curves are
equal.

Max II: Slope of TR = Slope of TC

Condition for max II: MR = MC

Now that we have established the profit maximizing

condition, how can this help the monopolist in his production
decisions. Basically, his concerns are:

a. What quantity level should he produce to maximize profits?

b. For how much should he sell each unit of his product?
c. How much is that maximum profit?

Before we go ahead with the analysis for profit

maximization, let us first look at how the MR curve of the
monopolist will look like. Unlike the perfect competitors, the
monopolist faces the market demand curves for its product. The
distinction is shown below:

P P

D
Q Q
Monopolist Perfect Competition

In perfect competition the firm is a price taker and MR = P.

But under the case of monopoly the situation is different, since
the monopolist determines how much output will be produced for
the entire market and for what price each unit will be sold.

Therefore: MR = P
If the monopolist wants to increase his output/sales, he
must lower down the price of his product (remember he faces a
downward sloping market demand curve). But, in lowering the price
for new buyers, the monopolist had to lower it for all previous
buyers. This means some revenues are lost in the process of
increasing sales. Thus, we must subtract this loss in revenue
from the additional revenue gained from selling the last unit.
Because of this, the marginal revenue of the monopolist is less
than the price, i.e.,

MR < P

Example: MR < P in the case of monopoly.

TR and MR schedules for product X

Price Quantity TR = P x Q MR = (TR1-TR2)/(Q1-Q2)

12 0 0 ______
10 1 10 ______

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 45
 8 2 16 ______
6 3 18 ______
4 4 16 ______
2 5 10 ______

Relationship of the demand and MR curves:

P, MR

AR = P - D

Q
MR

Analysis for profit maximization:

P, MR, Cost MC

AC

D = AR
Q
MR

Numerical example: Profit maximization (monopoly case)

Cost and Revenue schedules for product X

Q P TR MR TC MC II
0 12 ______ ______ 3 ______ ______
1 10 ______ ______ 8 ______ ______
2 8 ______ ______ 14 ______ ______
3 6 ______ ______ 22 ______ ______
4 4 ______ ______ 32 ______ ______
5 2 ______ ______ 45 ______ ______

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 46
 EXERCISE IV
PROFIT MAXIMIZATION: MONOPOLY

Wea Recording Company (hereinafter referred to as Wea

Records) decides to release an album by “Keno”. Assume that Wea
Records has the monopoly over the production of long playing
albums over the country. Their marketing division finds that the
demand for the album is as follows:

Price (P) 52 51 50 49 48 47 46 45
No. of albums 650 700 750 800 850 900 950 1000

Wea Records produces the album with P10,000 total fixed

costs and every album requires a constant average variable cost
of P30 per copy.

a. How many copies of Keno’s album should Wea Records

produce in order to maximize its profits?

b. At what price should Wea Records sell each copy?

c. How much will be Wea Records profits?

d. Keno announced that he will collect a bonus of P6,000

for signing the contract. Should Wea Records sign him in
and produce the records? Why?

e. Keno’s manager convinced him to accept royalty of P6.00

per album instead of a bonus. Should Wea Records sign
him in and produce the record?

f. What level of output should Wea Records produce if they

grant Keno’s request of a royalty equal of P6.00 per
copy? At what price should it sell each copy? How much
would the new profits be?

g. However, Keno’s manager does not approve this new level

of production. He wants the original output level. Why
do you think the manager disapproves?

VI. INTRODUCTION TO MACROECONOMICS

Microeconomics vs. Macroeconomics

a) Microeconomics – deals with the problems and analysis

of behavior of individual economic units, i.e. a
consumer, a producer, or a resource owner and how they
interact with one another in the markets

b) Macroeconomics – deals with the problems of the economy

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 47
 as a whole and how aggregate economic units or sectors,
i.e. household sector, business sector, government
sector, and the foreign sector are interrelated
-the goal is to explain the economic changes that
affect many households, business firms and markets at
once
-answers the questions like:
1) Why is average income high in some countries and
low in others?
2) Why do prices rise rapidly in some time periods
while they are more stable in others?
3) Why do production and employment expand in some
years and contract in others?

Major Distinction between these two is the degree of aggregation:

Microeconomics Macroeconomics

HH BF
HH HH HH BF BF BF
HH HH HH BF BF

CAUTION: Aggregate economic behavior does not correspond to

the summation of individual activities

Five “Target Goals” of an economy:

1. full employment
2. full production
3. price stability
4. rapid economic growth
5. balanced trade

CAUTION: These five economic objectives cannot be accomplished

all at the same time by a nation’s economy. Policy
makers therefore must find a compromise on what will
be the best goal or set of goals that is good for the
economy.

Three Measures of Performance of an Economy:

1. rate of employment
2. consumer price index
3. gross national product

A. Rate of employment/unemployment

Unemployment rate – the percentage of the labor force that is

unemployed

unemployment rate = no. of persons of working age unemployed

total size of the labor force

A person is considered employed if he or she has spent most of

the previous week working at a paid job.

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 48
A person is unemployed if he or she is on temporary layoff, is
looking for a job, or is waiting for the start date of a new job

A person who fits neither of these categories, such as a full-

time student, homemaker, or retiree, is not in the labor force.

Labor Force- is the total number of workers, including both the

employed and the unemployed
-part of the population who are at least 15years
old, willing and able to work

Underemployed- part of the labor force who work for less than
40hours per week

Things to consider:

1. What is meant by full employment?

2. Does that mean zero unemployment?
3. Reasons for “frictional “unemployment – time of matching jobs
with worker
a. At a point in time, there are workers in transit between
jobs.
b. Information for job opportunities is imperfect.
c. By nature, labor mobility is sluggish.
Table 16.Comparison of employment and unemployment rates
between 2004 to 2010
Percent of Labor Force
Year Employed Unemployed
2004 88.2 11.83
2005 88.7 11.35
2006 92.0 8.00
2007 92.7 7.33
2008 92.6 7.40
2009 92.5 7.48
2010 92.8 7.20

B.Consumer Price Index (CPI)

A price index is a device for combining movements of many

individual prices for the purpose of estimating the average
movement of some specified group of prices. It is often use
to deflate variables expressed in money terms to take out
the effect of price changes. Also, inflation rate is
reflected in the growth of the price index.

CPI – is designed to measure changes in prices of the goods

and services bought by urban wage earners and clerical
workers.
-intended to provide a general measure of average
monthly and annual changes in the retail prices of
commodities commonly bought by consumers

Example: Table 17. Consumer Price Index 2005-2010

_________________________________________
Year CPI

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 49
 _________________________________________
2005 129.8
2006 137.9
2007 141.8
2008 155.0
2009 160.0
2010 166.1

__________________________________________

Inflation- continuous increase in the general level of

prices

________________________________________
Year Inflation Rate
_________________________________________
2005 7.6
2006 6.2
2007 2.8
2008 9.3
2009 3.2
2010 3.8

__________________________________________

Question: In the above example, what is the rate of inflation

between 2009-2010?

Growth rate formula = CPI1 – CPIo X 1OO

(price index) CPIo

where: 1-present year

0-base year

Inflation rate = --------------- x 100 = ________

(2009-10)

C.Gross National Product (GNP)

GNP- is a measure of the market value of all final goods and

services produced by a nation’s economic resources
during a specified period of time. It is used to measure
aggregate economic activities of a nation.

GNP = ∑ Pi Qi

i= 1

where: Qi – quantity of production of ith commodity for a

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 50
 given year.

Pi – price of the ith commodity in the given year.

Example: GNP for 1986

2011 2011 2011 2011 2011 2011 2011

GNP = P Q + P Q + P Q + ...

corn corn fish fish services services

In the definition of GNP:

a. Why in market values?
b. Why final products?

Current GNP vs Real GNP:

a. current GNP – expressed in present year’s prices

b. real GNP – expressed in base year’s prices

Current GNP
Real GNP = -----------

Price Index

Table 18. Current and real GNP of the Philippines from 1978-
1986 in million pesos
_______________________________________________________________
year current GNP CPI real GNP
2005 129,800 _________
2006 137,900 _________
2007 141,800 _________
2008 155,000 _________
2009 160,000 _________
2010 166,100 _________

_______________________________________________________________

Per capita GNP – GNP share of each person if national income is

to be divided equally among all people in the economy.
GNP
= ----------
population

Table 19.Philippine per capita GNP from 1983-1986

year population per capita per capita
(million) current GNP real GNP
1983 52.1 __________ _________
1984 53.3 __________ _________
1985 54.7 __________ _________
1986 56.0 __________ _________

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 51
 EXERCISE V
GROWTH RATE: GNP AND PRICE INDEX

Table for Gross National Product 1978-1986

current GNP price index real GNP
Year (in million pesos) (base year 1978) (in million pesos)
1978 178,067 100 ______________
1979 220,957 117.5 ______________
1980 265,078 138.9 ______________
1981 303,644 157.1 ______________
1982 335,423 173.2 ______________
1983 378,745 190.5 ______________
1984 527,355 286.4 ______________
1985 594,518 352.6 ______________
1986 614,291 355.3 ______________

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 52
 a. Solve for the real GNP from 1978-1986 using the consumer
price index given at 1978 prices.

b. Plot the current GNP, real GNP and the price index against
time. Put together current GNP and real GNP in one graph
and the price index in another graph.

c. What do you think is the role of the price index in the

wide difference between the current GNP and real GNP?

d. Solve for the growth rates of current GNP, real GNP and
price index between 1978 to 1986 using the growth rate
formula

Table for growth rates (current GNP, real GNP and price index)
Growth rates
----------------------------------------------
current GNP real GNP price index
1978-79 ____________ _________ ____________
1979-80 ____________ _________ ____________
1980-81 ____________ _________ ____________
1981-82 ____________ _________ ____________
1982-83 ____________ _________ ____________
1983-84 ____________ _________ ____________
1984-85 ____________ _________ ____________
1985-86 ____________ _________ ____________
1986-87 ____________ _________ ____________

e. Compare the current GNP and

Which one has the faster growth
f.The annual inflation rate is
rate of the price index,What c
recent trend of our rate of inflation
why?

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 53
 CHAPTER VII
NATIONAL INCOME ACCOUNTING

National Income Accounting (NIA)- official measurement of the

flow of product and income in the economy. Presently, our
national income accounts are maintained by the National
Economic Development Authority (NEDA) and are published
yearly in the “NEDA Statistical Yearbook”

Methods of measuring GNP

1. Expenditure approach
2. Income approach
3. Value-added approach

I. GNP via the Expenditure Approach

In this approach, the national income (GNP) is measured
through the flow of currently produced goods and services by
accounting for all the expenditures of the different sectors
in the economy, i.e.,

a. household sector
b. business sector
c. government sector
d. foreign sector

A. Household sector-expenditure are called “Personal Consumption

Expenditures”

1. durable goods
2. non-durable goods
3. services

B. Business sector-expenditure are called “Gross Private

Domestic Investment”

1. residential construction
2. business fixed investment
3. change in business inventories

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 54
 C. Government sector-expenditure called “Government Purchase of
Goods and Services”

1. national government
2. local government

D. Foreign sector-net export of domestic goods and services

1. export
2. import

GNP = C + I + G + (X-M)
where:

GNP – Gross National Product

C – Consumption
I – Investment
G – Government Spending
X – Exports
M – Imports
(X-M)- Net Exports

Example:

Gross National Product via the Expenditure Approach

CY 1986 (at current prices in million pesos)

Item 2001 2002

1.Personal consumption expenditures 2565022 2750853
2.General government consumption expenditures 444834 488740
3.Gross domestic capital formation 758460 776191
a. Fixed capital formation 720702 774078
b. Increase in stocks 37758 2113
4.Exports of goods and non factor services 1785232 1963534
5.Less: Imports of goods and non- factor services 1899385 19891046
6.Statistical discrepancy 19524 27480
EXPENDITURES ON GROSS DOMESTIC PRODUCT 3673687 4022694

Net factor income from the rest of the world 244992 267505
EXPENDITURES ON GROSS NATIONAL PRODUCT 3918679 4290199
Gross National Product(million U.S. dollars)* 76848 83138

*Derived by dividing GNP in pesos by average annual exchange

rate

II. GNP via Income Approach – measure national income (GNP)

through the factor incomes that are earned by
resources owners in current production, i.e.,
1. land – rents
2. labor – wages and salaries
3. capital – profits and interest
a. Compensation of employees – includes all wages and

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 55
 salaries earned by households, fringe benefits,
private pension and welfare funds.

b. Proprietor’s income – includes net profits of

unincorporated businesses and self – employed
professionals

c. Rental income of persons – includes income in the form

of rent and royalties received from the
ownership of property.

d. Corporate profits – includes the profit of all private

corporations

e. Income from interest – includes interests received by

households and government from capital.

Example:
GNP via the Income Approach, CY 1986
(at current prices in million pesos)

Item 1986

1. Compensation of employees and entrepreneurial

and property income of persons 470,866
2. General government income from property
and entrepreneurship 12,820
3. Corporate income 6,594
a. Corporate tax 8,675
b. Corporate saving (2,081)

NATIONAL INCOME 490,280

4. Indirect taxes 53,955

5. Less: subsidies 1,626

NET NATIONAL PRODUCT 542,609

6.Capital consumption allowance 71,682

GROSS NATIONAL PRODUCT 614,291

III. GNP via Value- added approach

Value added of a firm – measure of the difference between

the market value of all the goods
that it produced and the cost of all
the goods and materials produced by
other producers. It is the net
contribution of the firm to the
total value of production.
of
production.

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 56
Value added = value of final sales – purchase from other firms

Note: GNP measured by final output should be equal to GNP

measured by value added.

Coal 0.5
steel car car
Mines Mill Plant Dealer Buyer
.2 .2 .1

iron 1.5

Total value of output = 2.5

Value added: 2.0 mines

.2 steel mills
.2 car maker
.1 dealer

Example:
Gross National Product via Value Added Approach
CY 1986 (at current prices in million pesos)

Item 1986

1. Agriculture, fishery & Forestry 163,801

2.Industrial Sector 202,786
a.Mining & quarrying 10,198
b.Manufacturing 154,719
c.Construction 22,685
d.Electricity, gas & water 15,184

3. Service sector 260,130

a.Transportation 39,078
b.Trade 121,243
c.Finance &housing 32,291
d.Services 67,518

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 57
Gross domestic product 626,717
Net factor income from abroad (12,426)
Gross national product 614,291

Limitations of GNP as a measure of economic growth:

1. Excludes non-marketed goods and services

2. Measures only tangible income, not happiness or utility
3. Excludes externalities (positive and negative) created by
certain products and services.
4. Does not tell whether one person has more goods and services
compared to another.
5. Does not reflect the characteristic of income distribution
of a society.

EXERCISE VI
GNP ACCOUNTING

I. The table below gives the actual accounts of the

Philippine GNP for 1985.

Item

a. Net factor income from abroad .............. 14,941

b. Compensation of employees .................. 280,159
c. Depreciation allowance ................... 65,295
d. Fixed capital formation ................. 97,920
e. Personal consumption expenditures ........ 485,929
f. Indirect taxes .......................... 49,665
g. Imports ................................. 108,506
h. Statistical discrepancy ................. (32,979)
i. Entrepreneurial and property income of persons186,772
j. Subsidies ............................ 1,267
k. Exports ............................. 126,571
l. General government income from property and entrepreneurship
...... .......... 9,317
m. Corporate tax ...................... 8,350
n. Increase in stocks ................... (1,341)
o. General government consumption expenditure 42,469
p. Corporate savings .................... (3,169)

1. Compute for GNP

a. Via income approach

b. Via expenditure approach

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 58
 2. How much is the National Income (NI) for 1985?
3. How much is the Gross Domestic Product (GDP) for 1985?
4. If the GNP for 1985 is expressed in 1978 prices, it will be
equal to Ρ1, 686 M. In principle, how much was the
percentage increase in prices between 1978 and 1985?
How much is the annual inflation rate?

II. Explain what will happen to this year’s measured GNP,

i.e., increased, decreased or remained the same, if:
a. A doctor marries his medical aide and she continues to
work in the same clinic but
no longer receives her salary.
b. A pickpocket snatched your wallet and got your P100.00.
c. The snatcher spends your P50 to buy marijuana.
d. The same snatcher spends the remaining P50 to pay his
weekly room rent.
e. Suppose the new congress legalized marijuana use and
sale.

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 59
 CHAPTER VIII
THE EQUILIBRIUM OF INCOME

8.1 A Macroeconomic Model

Economic model – a simplification of economic reality. It can be

built into the following forms:
a. Mathematical equations
b. Set of diagrams
c. Schema or flow of charts

Macroeconomic model – systematic guide that permits the

complexities of the operations of the
economy as a whole to be understood and
interpreted.

Objectives of macroeconomic analysis:

1. To diagnose the reason for failure in achieving economic
goals.
2. To point the way toward better performance in the future

Example 1. A simple model for macroeconomic equilibrium

(Circular flow diagram for two sectors)

Assumption: All income earned is spent!

income

resources

HH HH BF BF
HH HH HH BF BF BF
HH HH BF BF

goods and services

consumption expenditures

Equilibrium Condition: Leakages = Injections

S + T + M = I + G +X

Where: S – savings I – investment

T – taxes G – government expenditures
M – imports X – exports

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 60
Mathematical representative of the macroeconomic model:

Y = C + I + G + (X-M)

where: Y – national income

C – consumption expenditures
I – investment expenditures
G – government expenditures
X – exports of goods and
services
M – imports of goods and services
(X-M)- net exports

Equilibrium Condition:

Leakages = Injections

S + T + M = I + G + X

8.2 The Consumption and Saving Functions

Macroeconomic model: Y = C + G + (X-M)

GNP (1985) = P595, 122M

Personal consumption expenditures = P485,929M (82% of total GNP)

I. Consumption function-relationship between consumption

and
disposable income.

C = a + bY

where:
C – consumption expenditures
a – intercept
b – slope

Marginal propensity to consume – slope of the C function (b)

- additional consumption if given
an additional one unit of income –
0<MPC<1

Example: C = 20 + 0.8 Y

Interpretation: a = 20 means if income is zero, consumption is

equal to 20.
b = 0.8 means for every P1.00 additional
income, 80% or 0.8 is spent for consumption
expenditures.

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 61
II. Saving function – relationship between saving and
disposable income.
Y = C + S
Y = (a + bY) + S
Y = a + bY + S
Y – bY – a = S
(1-b)Y – a = S

Saving function: S = -a + (1-b)Y

where: S – saving
a - intercept
(1-b)- slope

S S = -a + (1-b)Y

Marginal property to save – slope of the saving function (1-b)

- Additional saving given an
additional one unit of income
- 0<MPS<1

Example: C = 20 + 0.8 Y

S = -20 + 0.2 Y

Interpretation: a = -20 means if income zero, saving is -20

-b = 0.2 means for every P1.00 additional

income, 20% or P0.20 is saved.

8.3 The Equilibrium Level of Income

Macroeconomic Model : Y = C + I + G + (X-M)

Consider a uni- sectoral model composed of the household sector

alone:
Y = C (one –sector model)

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 62
Assumptions:
1. No business sector
2. No government sector
3. Closed economy

Given: C = 20 + 0.80Y

Questions:

1. What is the equilibrium level income?

2. How much is consumption at the equilibrium level of income?

3. Check: Are all injections equal to all leakages?

Note: injection – income

Leakage-consumption

Solution:

Graphical Illustration:
C 45o

Y
Yeq

8.4 INVESTMENT AND THE MULTIPLIER EFFECT

Macroeconomics model: Y = C + I + G + (X-M)

Consider a two-sector model:

1.Household sector
Model: Y = C + I
2.Business sector

Assumptions

1.Investment is fixed or given

2.No government, to taxes

3.NO closed economy

Given: C = 20 + 0.8Y

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 63
 I = 10

Questions:
1.What will be the equilibrium level of income?
2.How much is consumption a the equilibrium level of income?
3.How much is saving at the equilibrium level of income?
4.Compare thi Yeq of the one-sector case?
Which one are larger?
5.What can you conclude about the effect of investment on
the equilibrium level of income whan added to the system?

C,I 450

C + I

Y
Yeq Yeq1

The Multiplier-factor by which additional investment will grow

in the economic system to generate additional income.

A.Schemetic explanation of the multiplier effect:

Additional increase increase

Employment income consumption
Additional
Investment
Additional increase demand
Production

B.Mathemetical formula for the multiplier

t = Y
t = Y + I
t = Y + I b2I
t = Y + I b2I + b3 I
t = Y + I b2I + b3 I + b4I
:
t = Y + I b2I + b3 I + b4I + .....+ bn I
t = Y + 1 I
1-b

Multiplier = KI = 1 or 1
1-b _____

How much income will be generated by the added investment?

y = 1 I
1-b

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 64
 Example: C = 20 + 0.80 Y
I = 10
Y = 1 (10) = 50
0.8

Summary:
a. one sector model Yeq = 100 Y = 50
b. two-sector model Yeq = 150

Graphical illustration:

C,I 450

C + I

Y
Yeq Yeq1

Chapter IX
GOVERNMENT AND FISCAL POLICY

Macroeconomic model: Y = C + I + G =(X-M)

Consider a three-sector economy:

1. Household sector
2. Business sector Model: Y = C + I + G
3. Government sector

In this model, the government sector wsa incorporated to

perform the following functions:

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 65
 a. to collect taxes from the people
b. to spend/ invest on public utilities like roads/bridges,
public schools and hospitals etc.

Case I: Assumptions
a. investment is fixed or constant
b. government expenditure is fixed

Given: C = 20 + 0.8 Yd
I = 10
G = 30

Questions:
1. What is the equilibrium level of income considering all the
information above?
2. What is the level of consumption at the equilibrium level of
income?
3. What is the level of saving at the equilibrium level of
income?
4. Compare this equilibrium level of income (Yeq2) to the
(Yeq1) of the two sector case.
5. Which Yeq is higher? What can you conclude about the effect
of government spending in the equilibrium level of income of
the economy?

Illustration:
C,I,G
45o

C–I-G

Y Check: injections = leakages

Yeq1 = 150
} ΔY = 150, but injected only G= 30, why?
Yeq2 = 300

1
Government expenditure multiplier: KG =
1-b

Multiplier formula: ΔY = (____) Δ G

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 66
 Example: ΔY = (5) (30)
ΔY = 5(30)
ΔY = 150

Case II: Assumptions

a)Investment is fixed or constant

b)Government expenditure is fixed or determined by the

government

c)Government collects a lumpsum tax = T

d)Closed- economy, i.e., no foreign trade

Given: C = 20 + 0.8 Yd
I = 10
G = 30
T = 30

Questions:
1. What is the equilibrium level of income considering all the
information above?
2. What is the level of consumption at the equilibrium level of
income?
3. What is the level of saving at the equilibrium level of
income?
4. Compare this equilibrium level of income Yeq to the Yeq of
Case I wherein no taxes were collected from the people.
5. Which Yeq is higher? What can you conclude about the effect
of taxation in the equilibrium level of income of the
economy?

Classification:
450
C,I,G
C+I+G (without tax)
C+I+G (with tax)

Check: injections= leakages

Yeq2 = 300

} ΔY = -120, but leakage T= 30, why?

Yeq3 =180

-b -.8

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 67
 Tax Multiplier: KT = = ______ = -4
1-b 1-.8

Multiplier formula: -ΔY = (-4) ΔT

= (-4) (30)

= -4(30)

ΔY= -120
Balanced-budget multiplier:

KG + K T = 1

1 -b 1-b
+ = = 1
1-b 1-b 1-b

Example: Compare equilibrium income of the two-sector model and

the three-sector with both G and T.

Two-sector Yeq = 150 (without G and T, i.e., G=T=0)

Tree-sector Yeq = 180 (with G=30 and Y=30)

Question: How much is the increase in Yeq due to the

incorporation of G and T which are both equal to 30?

G=0 and T=0: Yeq1= 150

} ΔY=30
G=30 and T=30: Yeq3= 180

Balanced-budget theorem - if G and T will both increase by the

same amount, the generated increase in income coming

from these activities will be equal how much G

and T have increase, i.e., Y=G=T

An application: Gap analysis

C,I
450
C+I+-
C+I

Y
Yeq Yf

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 68
Definitions:
Yeq – equilibrium level of income actually achieved
within a given time period.
YF -full employment level of income (an objective)

Types of gap:
YF >Yeq --deflationary gap
YF< Yeq --inflationary gap

Deflationary gap –by how much should aggregate expenditures

increase to achieve the full employment level of income.

Inflationary gap -by how much should aggregate expenditures

decrease to achieve the full employment level of income.

Fiscal policy - operation of the government that changes the

size of the current G and T to achieve objective level
of equilibrium income.

Fiscal tools:
1. Government spending (G)
2. Taxation (T)

Example: Considering the most recent case of our model (three-

sectoral economy where G=30 and T=30)

Yeq - 180
Yeq – 200

1. What kind of a gap?

2. How much is the gap?
3. How to eliminate the gap?

Difference between YF and Yeq = ΔY

ΔY= 200 – 180
ΔY= 20

How the economies can generates this amount of added income?

Reminder:

To maintain equilibrium in the system, the government needs to

engage in “compensatory fiscal policy” i.e.,

1. If investment will fall short of savings, government should

compensate by spending more than it taxes.

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 69
 2. If investment tends to exceed savings, government should try
to offset this discrepancy between saving and investment by
increasing taxes.

Possible fiscal policies:

1. Increase income – expansionary fiscal policy

1. G
2. T
3. G=T
2. Decrease income – contractionary fiscal policy
1. G
2. T
3. G=T

Example: The objective is to increase income by 20.

1. Through increase in G
ΔY = K . (ΔG)
20 = ( ) ΔG
Gap = 20/5 = 4
2.Through decrease in T
ΔY = K . (ΔT)
20 = ( )ΔT
Gap = 20/-4 = -5
3.Through balanced-budget G=T
ΔY = K . Δ (G or T)
20 = (1). ΔG/T
Gap = 20/1 = 20

EXERCISE VI
INCOME DETERMINATION AND FISCAL POLICY

Given the following information for a hypothetical economy:

A.Table showing the difference levels of consumption given

different levels of income:solve the levels of savings).

Yd C S
0 50 _______
50 75 _______
100 100 _______
150 125 _______
200 150 _______
250 175 _______
300 200 _______

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 70
B.Level of investment I =100
C.Government spending G =50
D.Lumpsum tax T =100

where: Y –national income

C- personal consumption expenditure
S- saving

To answer the succeeding questions,use the following equations

below:
1.Y= C + I + G
2.C= a + bYd
3.Yd = Y-T

Use graphing paper for illustrations:

a.What is the value of the marginal propensity to consume out

of the disposable income? Specify the consumption
function, the saving function.Grapfh the two functions.
b.What is the equilibrium Y?Illustrate this situation.
c. Solve for the income multiplier to an increase in:
1. investment?
2. government expenditure?
3. tax?
d. If full employment Y?(YF)is 400,then how large is the
(deflationary, inflationary)gap? Illustrate this
situation.
e. We know that this gap can be eliminated by government
action.Assume that the government can only alter
f. Should G be increased and by what amount?
g. Now assume that instead of changing G,the government
decides to change the amount of the lump sum as a method
of eliminating the gap. Should T decrease or increase
and by what amount?
g. Another method of eliminating the gap is though balanced-
budget policy,i.e C=t.By how much should G and T
increase or decrease to eliminate the gap?

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 71
 EXERCISE X
The Central Bank and Monetary Policies

Money – coin, paper bill, demand deposit or anything that is held

by the non-bank private sector that is generally accepted as a
medium of exchange.

Function of money:

1. Medium of exchange
2. Store of value
3. Unit of amount

Examples:
1. Cash
2. Checking amount
3. Credit cards
4. Saving deposit
5. Time deposit
6. Travellers check
7. Bonds
8. Stocks
9. Jewelries, car, house, etc.

Demands for money:

1. Transaction demand
2. Precautionary demand
3. Speculative demand

Md
M

Supply of money:

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 72
 To make the analysis simple, it will be assumed that the
supply of money in the economy is fixed or constant; and is set
by the Central Bank.

Ms

Equilibrium in the money market:

i MS

Md
M

Monetary Policy – operation of the Central Bank that changes the

volume of money supply to achieve the
objective level of interest which will
implicitly affect the equilibrium level of
income of the economy

Synthesis of the Monetary and Fiscal policy:

Objective – to influence the equilibrium level of income of the

economy

i i
MS

MD I

M I

An increase in money supply will decrease the equilibrium

level interest rate

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 73
 encourage investment in the
business sector

thus, increase the equilibrium

level of income

11.2 Central Bank and Monetary Tools

How can the Central Bank after the volume of money supply in the
economy?

Tools of the Central Bank to implement Monetary policies:

a. Reserve requirement
b. Discount rate
c. Open Market Operation

1) Change in the reserve requirement:

i. Legal reserve- percentage of the total demand

deposits by the private sector that must be kept in
the bank vault. This is determined by the “Reserved
Requirement Ratio” that is set by the Central Bank.

ii. Excess reserve- percentage of the total demand

deposits by the private sector that can be released
by the bank as loans.
A. If the reserve requirement is lowered, excess
reserves are released. Banks are free to make new
loans and create new demands deposits. The money
supply increases.

B. If the reserve requirement is raised, a shortage of

reserves results. To correct this shortage, banks
must call in loans and reduce the money supply.

Banks can create money without printing!

Example: assume a fresh deposit of 10,000 and the reserve

requirement ratio of 20%.

New Deposit Loans Reserves

Bank A 10,000 8,000 2,000
Bank B 8,000 6,400 1,600
Bank C 6,400 5,120 1,280
Bank D 5,120 4,096 1,024
Bank E 4,096 . .
. . . .
. . . .
______ ______ _______ _______
Total P50,000 P40,000 P10,000

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 74
 In general, if a certain amount of addition demand deposits
is made available to the banking system, the banking system as a
whole can increase the money supply by an amount equal to the
amount of the additional demand deposit multiplied by the
reciprocal of the reserve requirement ratio.
Multiplier Formula: ____

2) Change in the discount rate

The discount rate is the interest rate which the Central

Bank charges commercial banks who must borrow reserves to correct
a temporary shortage.

a.If the discount rate is high, borrowing from the

Central Bank by commercial banks become prohibitive. It
may therefore be costly for any commercial bank to be
short of reserves. To avoid this cost, banks may hold
excess reserves as sort of insurance against being
caught short. This will lessen the available money
loans of the commercial bank.

b.If the discount rate is lowered, excess reserves will

be freed for new loans.

3) Open market operations

The Central Bank buys and sells government securities

in the “open market”.

a.If the Central Bank buys government securities, it

makes payment with a check to a private person to be
drawn on itself. Hence, the process adds cash in the
hands of the private sector.

b.If the Central bank sells bonds, it receives from a

private individual a check drawn against a commercial
bank’s account. Here, cash in the hands of the private
sector is lessened.

Summary

Expansionary monetary policy - aims to increase volume of money

in circulation.

What to do with:
a.Reserved requirement ratio _______________________
b.Discount rate ___________________________________
c.Open-market operation ___________________________

Contractionary monetary policy – aims to decrease volume of money

in circulation.

What to do with:
a.Reserve requirement ratio _________________________
b.Discount rate ____________________________________
c.Open market operation____________________________
Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 75
 CHAPTER XI

INTERNATIONAL TRADE

Consider an open economy – an economy that engages in

international relations.

Model: Y = C + I + G + ( X – M )

Equilibrium Condition: I + G + X = S + T + M

Items for Trade:

1. Merchandise item (visible) – commodity items for trade.

2. Non- merchandise items (invisible) – services, e.g.,

a.Transportation and insurance
b.Expenditures of tourists
c.Profits, dividends, remittances and gifts

Exports – inflow of foreign money

Imports – outflow of foreign money

Exports > Imports – Trade surplus (favourable balance of trade)

Imports > Exports – Trade deficit (unfavourable balance of
trade)

Why countries trade?

Trade makes countries better-off:
1.Enables a country to reach a point outside its
production possibility frontier.
2.Increase consumer choice for consumption.

Trade theories
1. Theory of Absolute Advantage

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 76
 2. Theory of comparative Advantage

What governs the pattern of trade?

Specialization in production of goods that one country can

make relatively cheaply/easily

Assume:
2 countries - Country 1 and Country 2
2 goods - good A and good B
1 factor - Labor

1) A country has an absolute advantage when it can produce more

of a good with a fixed amount of labour than its trade
partner.

2) A country has a comparative advantage when it compares the

labour productivity in one good that it makes to the
productivity in another good and finds that it has a
relative superiority ever it trade partner.

Example: Look at productivity of labor in each country for each

good

Labor productivity = Q/L = Output/Labor

Absolute advantage:
Country 1 Country 2
Good A 2 1
Good B 6 4

Country 1 is more productive than Country 2 in making both

goods. Why? Can they still gain from Trade?

Comparative advantage:

Solve for the ratio of labor productivity for each good

produced by the two countries and compare. Whichever country will
have the higher ratio will have the comparative advantage in
producing that good.
Q Q
L A L B

Country 1 Country 2

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 77
 Good A _______ _______

Good B

Which country has the comparative advantage in producing good A?

Which country has the comparative advantage in producing good B?

Sources of comparative advantage:

1. Technological differences – the country with better

technology will have more productive labor.
2. Factors endowments- labor could be cheaper in Japan so that
after technology was transferred, Japan can produce more
than the U.S.
3. Demand- a product can be relatively cheaper or more
expensive in some countries because of the interplay of
Demand and Supply.

Arguments against Trade

1. Self – sufficiency
2. Infant industry argument

Barriers to trade
1. Tariffs- a tax to imports
2. Quotas- quantitative limit on the physical volume of imports
of a goods.

LIST OF REFERENCES

Dernberg Yacuas F. and Duncan m. McDougall, Macroeconomics:

The Measurement, Analysis and Control of Aggregate
Economic Activity, 4th Edition, McGraw Hill, Kogakusha

Leftwhich, Richard H., The Price System and Resources

Allocation,7th Edition, Dryden Press, Hinsdale, Illinois,
1979.

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 78
 McConnell, C.R., Economies, 5th edition, McGraw-Hill Book Co.,
1977.

Samuelson, Paul Anthony, Economic, New York: McGraw-Hill,

1977.

Sicat, Gerardo P., Economics, National Bookstore, Manila,

1983.

Torado, Michael P. Economics for a Developing World,

Hongkong, Longman, 1977.

AGRARIAN REFORM

Meaning of Agrarian Reform

Reform - implies the existence of a defect that something is

deformed or malformed and does not suit existing conditions

Land Reform- in a broad sense, refers to the full range of

measures that maybe or should be taken to improve or remedy the
defect in the relations among men (e.g. between the tiller and
the owner of the land, employee and employer in a firm) with
respect to their rights in the land
-is often used interchangeably with agrarian reform but
in actuality, the latter is much broader than the former

Meaning of Agrarian Structure

Agrarian Structure – a complex set of relationships within the

agricultural sector between tenure structure, production
structure and the structure of supporting services

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 79
Meaning of Land Tenure Structure

Land Tenure – a concept which refers to one or more types of land

tenure systems regulating the right to ownership and control and
usage of land and the duties accompanying such rights

Examples of Land Tenure Reform Measures

1.Redistribution of private lands (through expropriation or

purchase).
2.Distribution of lands in the public domain sometimes also
referred to as resettlements or colonization
3. Regulation of tenancy (e.g. provision of penalties for
wrongful eviction of tenants, prohibition of subletting by
tenents, etc,)
4. Regulation of agricultural labor contracts and wages and
5. Elimination of absentee landlordism and transfer of land
ownership to the actual tillers

Meaning of Production Reform Measures

Production Structure – a concept which relates to the nature,

type and modus operandi as well as the actual process of
production or farm operation

Examples of Production Reform Measures

1.Consolidation of small, uneconomic holdings to ensure optimum

utilization
2. Imposition of a floor on holdings of uneconomic size beyond
which subdivision is to be prevented (also as tenure reform
measure)
3. Promotion of cooperative or compact farming among sub-marginal
farmers
4. Imposition of ceiling of holdings of non-cultivating
owners(also as nature reform measure) and;
5. Organization of crop rotation system

Land Tenure and Production Structures Distinguished

The land tenure structure must be distinguished from the

production structure as it is necessary to make a distinction
between the concept of “right in land” (referring to ownership,
lease, etc.) and the concept of “production and use of land”.
Essentially, this implies a clear distinction between the
ownership holding and the operation holding.”

1st Concept

1.Concept referring to the rights over land, whether in terms of

full ownership or as circumscribed by law, irrespective of the
manner in which the holding is operated or managed.
2. Concept referring to the actual management of holding or the
manner in which the land is cultivated or operated irrespective
of ownership

Meaning of Structure of Supporting Services

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 80
The structure of supporting services – is a concept which
involves matters like credit, marketing the supply of
agricultural requisites (such as seeds, fertilizers, and
insecticides), processing, storage, etc. and other technical
assistance and/or services in so far as they have some immediate
bearing on reforms of tenure and production structures.

Meaning of Agrarian Reform

Agrarian Reform – considered widely than land reform. It

comprises not only land reform (i.e. the reform of tenure,
production and supporting services structures) but also the
reform and development of complimentary institutional framework
such as the administrative agencies of the national government
created to undertake land reform, social local governments, rural
educational and social welfare institutions, and voluntary
associations, particularly farmers’ organization.

Examples of Agrarian Reform Measures

1.Public health programs

2.Family planning
3.Education and training of farmers
4.Recognition of land reform
5.Application of labor laws to agricultural workers
6.Construction of infrastructure facilities such as feeder roads,
irrigation systems, etc. and establishment of rural
electrification
7.Organization of various types of voluntary associations
8.Providing employment of opportunities to underemployed or
surplus rural labor
9.Other services of a community development structure

The Comprehensive Agrarian Reform Law of 1988 as Amended

With Introductory Features with R.A. #8532

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 81
GENERAL PRINCIPLES OF TAXATION

Taxation Defined – defined as the power by which the sovereign

raises revenue to defray the necessary expenses of government

Tax defined – defined as the enforced proportional contribution

from persons and property levied by the state by virtue of its
sovereignty for the support of government and for public needs

Attributes/Characteristics of Taxes

a.A tax is a forced charge, imposition, or contribution and as

such it operates in invitum, which means that it is in no way
dependent on the will or contractual assert, express or implied,
but positive acts of government

b.It is a pecuniary burden payable in money such that a tax is

not necessarily confined to those payable in money, as in the
case for instance of back pay certificates which under Rep Act
No. 304 could be used as payment for taxes

c.It is levied by the legislative body of the State because the

taxing power is peculiarly and exclusively legislative in
character. Taxes are obligations created by law.

d.It is assessed in accordance with some reasonable rule of

apportionment which means that conformably with the
constitutional mandate on progressivity of a taxing system, taxes
must be based on ability to pay.

e.It is imposed by the State on persons, property, or excises

within its jurisdiction

f.Finally, a tax is levied for a public purpose as taxation in

itself involves a burden to provide revenue for public purpose of
a general nature.

Importance of Taxes

Taxes are important because they are the lifeblood of the

government and so should be calculated without unnecessary
hindrance. The legislator in adopting measures in our tax laws
only wants to be assured that taxes are paid and collected
without delay. Being the lifeblood of the government, their
prompt and certain availability is an imperious need.

Taxes are Personal

Taxes are personal to the taxpayer. A corporation tax delinquency

cannot for instance, be enforced against its stockholders because
not only would this run counter to the principle that taxes are
personal, but it would also not be ascend with the rule that a
corporation is vested by law with a personality that is separate

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 82
and distinct from those of the person composing it as well as
from that of any other legal entity to which it may be related.

Nature of the Taxing Power

The power to tax is an attribute of sovereignty. It is inherent

in the State. Taxation is a power emanating from necessity; a
necessary burden to preserve the State’s sovereignty. As stated
in one case, taxation is a high prerogative of sovereignty the
relinquishment of which is never presumed.

Incidentally, the power to tax is not granted in the

Constitution. Constitutional provisions relating to the power of
taxation to the Government but instead merely constitute
limitations upon a power which would otherwise be practically
without limit.

As already mentioned the taxing power is peculiarly and

exclusively legislative and remains undiminished in the
legislative in the absence of an express surrender thereof, clear
and explicit in its terms. It is subject to inherent and
constitutional limitations.

Purpose and Objectives of Taxation

1.Revenue – basically, the purpose of taxation is to provide

funds or property with which the State promotes the general
welfare and protection of its citizens

2.Regulation – taxes also have a regulatory purpose as in the

case of taxes levied on excises or privileges like those imposed
on tobacco and alcoholic products, amusement places like night
clubs, cabarets, cockpits, etc.

Taxation is not merely a power that is exercised in order to

raise revenue for the support of the government. Taxes may also
be imposed for a regulatory purpose as for instance in the
rehabilitation and stabilization of a threatened industry which
is affected with a public interest like the oil industry.
3.Promotion of General Welfare = in one decided case, the Supreme
Court ruled that taxation might be used as an implement of the
police power in order to promote the general welfare of the
people. Thus in the said case the Supreme Court upheld the
validity of the Sugar Adjustment Act which imposed a tax on
milled sugar since the purpose of the law was to strengthen the
sugar industry which undeniably is an industry so vital to the
economy.

4.Reduction of Social Inequality – this is made possible through

the progressive system of taxation where the objective is to
prevent the undue concentration of wealth in the hands of a few
individuals. Progressivity is keystones on the principle that
those who are able to pay shoulder the bigger portion of the tax
burden. Incidentally, the present rates of the income and estate
taxes present a good example of progressivity.

5.Encourage economic growth – taxation does not ones create

public revenue but in the realm of tax exemptions and tax relief

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 83
for instance, the purpose is to grant incentives or exemptions in
order to encourage investment and thereby promote the country’s
economic growth.

6.Protectionism – in some important sectors of the economy as in

the case of foreign importation, taxes sometimes provide
protection to local industries like protective tariffs and
customs duties.

Theory and Basis of Taxation

There are two reasons why the exercise by the State of its taxing
power is justified. One is necessity and the other is the grant
of protection and benefits by the State to its citizens.

a.Necessity Theory – taxes proceed upon the theory that the

existence of the government is necessity; that it cannot continue
without the means to pay its expenses; and that for those and
property within its limits to contribute.

According to our Supreme Court, taxation is a power

emanating from necessity. It is a necessary burden to preserve
the State is sovereignty and a means to give the citizenry an
army to resist aggression, a navy to defend its shores from
invasion, a corps of civil servants to serve, public improvements
designed for the enjoyment of the citizenry and those which come
within the State’s territory and facilities and protections which
a government is suppose to provide.
b.The Benefits-Protection Theory – according to this theory, the
State demands and receives taxes from the subjects of taxation
within its jurisdiction so that it maybe enabled to carry its
mandate into effect and perform the functions of government and
the citizen pays from his property the portion demanded in order
that he may by means thereof be secured in the enjoyment of the
benefits of organized society. However, the foundation of the
obligation to pay taxes is not the privileges enjoyed or the
protection given to a citizen by the government although the
payment of taxes gives a right to protection; both are enjoyed as
well by those members of a State who do not pay taxes because
they are not able to do so.

Scope of the Legislative Taxing Power

Legislative taxing power or discretion extends the following:

a. The persons, property, or occupation to be taxed. Excises or

privileges provided they are within the taxing jurisdiction
are also included. As stated in a certain case, the taxing
authority can select the subjects of taxation.

b. The amount or rate of tax

c. The purposes for which taxes shall be levied provided they

are public purposes

d. The kind of tax to be collected

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 84
 e. The apportionment of the tax, i.e., whether the tax shall be
general or limited to a particular locality or partly
general and partly local

f. The sites of taxation

g. The method of collection

Aspects of Taxation

Taxation embraces two aspects or phrases:

1.Levy or the imposition of the tax on persons, property, or

excises- levy which is a legislative power includes the
determination of the persons, property, or exercises to be taxed,
the sum to be raised, the rate thereof and the time and the
manner of levying and collecting taxes.
2.Collection of the taxes already levied – including assessment,
consists of the manner of enforcement of the obligation of the
part of those who are taxed.

Basic Principles of a Sound Tax System

1.Fiscal Adequacy – the sources of government revenue must be

sufficient to meet governmental expenditures and other public
needs. This is essential in order to avoid budgetary deficits and
so as to minimize foreign and local borrowings. A court ruling
describes fiscal adequacy as one of the characteristics of a
sound tax system, which requires that sources of revenue must be
adequate to meet government expenditures and their variations.

2.Theoretical Justice – a good tax system must be based on the

taxpayer’s ability to pay. This suggests that taxation must be
progressive conformably with the constitutional mandate that the
congress shall evolve a progressive system of taxation.

3.Administrative Feasibility – taxes should be capable of being

effectively enforced. Hence, it must not lay down obstacles to
business growth and economic development. The value added tax
(VAT) could be cited as an example of administrative simplicity.

Taxation Distinguished from Police Power and Eminent Domain

A.Taxation vs Police Power

1.As to Purpose – taxation is levied for the purpose of raising

revenue; police power is exercised to promote public welfare thru
regulations

2.As to Amount of Exaction- in taxation there is no limit; in

police power the exaction should only be such as to cover the
cost of regulation, issuance of the license, or surveillance

3.As to benefit received- in taxation no special or direct

benefit is received by the taxpayer other than the fact that the
government only secures to the citizen that general benefit
resulting from the protection of his person and property and the
welfare of all. As to police power, however, while no direct

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 85
benefits are received, a healthy economic standard of society
known as “damnum absque injuria” is attained

4.As to non-impairment of contracts- in taxation, taxes paid

become part of the public funds; in police power, no transfer but
only restraint on the exercise of property rights, exists.

B.Taxation vs Eminent Domain

1.As to nature of the power exercise- taxation is exercised in

order to raise public revenue; eminent domain or expropriation is
the taking of property for public use

2.As to Compensation received- in taxation, payment of tax

results in the general benefits of all citizens and inhabitants
of a State; in eminent domain a direct benefit results in the
form of just compensation to the property owner

3.As to non-impairment of contract- in taxation, contract may not

be impaired; this is not so in eminent domain

4.As to person affected- taxation applies to all persons,

property and excises that maybe subject thereto; in eminent
domain, only particular property is comprehended

C.Taxation Distinguish from Other Impositions

1.Toll- is a demand of ownership- an amount charged from the cost

and maintenance of the property used; tax is a demand of
sovereignty for the purpose of raising public revenue. It should
be noted that the Local Government Code authorizes the collection
of tolls by local government units for the use of any public
road, pier, or wharf, waterway, bridge, ferry, or
telecommunication system funded and constructed by them

2.Penalty- tax is civil liability. A person is criminally liable

in taxation only because he fails to satisfy his civil
obligations to pay taxes. On the other hand, penalty is a
punishment for the commission of crime.

3.Compromise or compromise penalty- this is neither an imposition

nor a penalty but is an amount that is collected as a compromise
in lieu of criminal prosecution in cases involving tax
violations. A compromise penalty cannot be imposed by the
commissioner. If a taxpayer refuses to pay the compromise,
criminal action in the remedy. Although compromise penalties
cannot be legally imposed, they may, however, be collected if the
taxpayer has expressed his willingness to pay the same.

4.Special Assessment- (1) a special assessment is levied only on

land unlike a tax which is imposed on persons, property, and
excises; (2) a special assessment cannot be made a personal
liability of the person assessed; (3) a special assessment is
based wholly on benefit; and (4) a special assessment is
exceptional both as to time and locality.
Since special assessment are not taxes within the
constitutional or statutory provisions on the tax exemptions, it

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 86
follows that the exemption under Art VI, Sec 28(3) of the
constitution does not apply to special assessments.

5.License Fee

a)A tax is levied in the exercise of the taxing purpose; license

fee emanates from the police power of the State. It has been
ruled that regulation and taxation are two different things, the
first being an exercise of the police power whereas the latter is
not,

b)The purpose of a tax is to generate, revenue, whereas license

fee is regulatory,

c)The amount of the exaction or charge if it is to be a license

fee must only be a sufficient amount to include expenses of (1)
issuing the license; (2) cost of necessary inspection or police
surveillance

Three Kinds of Licenses are recognized in the Law:

1)license for the regulation of useful occupations;

2)licenses for the regulation or restriction of non-useful
occupations or enterprises; and
3)licenses for revenue only

6.Margin Fee- this is not a tax but a currency measure designed

to stabilize the currency such as the exaction of a certain fee
under R.A. 2069 on the remittance of profits earned in this
country.

7.Debt- a tax is not a debt because it is not an obligation that

is created by contracts express or implied a tax is an obligation
imposed by law. It is therefore, follows that if a taxpayer fails
or refuses to pay a local tax on tenements or apartments, he is
liable for criminal liability under the constitutional provisions
which states that “no person shall be imprisoned for non-payment
of a debt or politax”.

8.Regulatory Taxes- may an exaction be both a tax as well as a

regulatory fee. It would seem that this is possible as in the
case of license taxes. Incidentally, a law like P.D.No.1987 which
regulates the ideogram industry may validly impose a tax of 30%
on the gross receipts of videogram operators.

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 87
A.Concept, Nature, and Characteristics of Taxation and Taxes

Taxation – is the act at laying at

- the process or means by which the sovereign, through
its law-making body raises revenue to defray the
necessary expense of the government
- expressed in another way, it is a method of
apportioning the cost of government among those who
in some measure are privileged to enjoy its benefits
and must, therefore, bear its burdens

Purpose and Importance of Taxation

The purpose on the part of the government is to provide

funds with which to promote the general welfare and protection of
its citizens and enable it to finance its multifarious
activities.

Almost all revenues of the government are derived from the

taxes raised through taxation. Clearly, no government can perform
its function nor continue to exist without funds.

Revenue from taxation, as saying goes, is the lifeblood of a

nation. It is therefore, important that people pay taxes promptly
and willingly. Evasion or non-payment of taxes lessens the
opportunity of the people to receive and enjoy essential
government services.

Taxes – are the enforced proportional contributions from persons

and property levied by the law-making body of the state
by virtue of its sovereignty for the support of the
government and all public needs

Essential Characteristics of Tax

1.It is an enforced contribution – a tax is not a voluntary

payment or donation and its imposition is no way dependent
upon the will or assent of the person taxed.

2.It is generally payable in money – unless qualified by law,

the term “taxes” or “tax” is usually understood to be a
a peculiar burden – an exaction to be discharged in money
which must ne in legal tender

3.It is proportionate in character – a tax is laid by some rule

of apportionment according to which the persons or
property share the public burden. It is ordinary based on
the ability to pay

4.It is levied on persons or property – a tax may also be

imposed on acts or transactions. In each case, however, it
is only a person who pays the tax

5.It is levied by the state which has jurisdiction over the

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 88
 person or property – the person and the property must be
subject to the jurisdiction of the taxing state. This is
necessary in order that the tax can be enforced. The taxing
power of the state necessarily stops at its boundary lines

6.It is levied by the law-making body of the state- the power to

tax is a legislative power which only the legislative body
(national or local) can exercise through the enactment of
statutes or ordinances. The power to tax is also granted to
local governments but the power of the latter is subject to
such limitations as maybe provided by law

7.It is levied for public purposes – taxation involves and a tax

constitutes a charge or burden impose to provide income for
public purposes – the support of the government, the
administration of the law or the payment of public expenses

Theory and Basis of Taxation

The theory of taxation proceeds upon the theory that the

existence of government is necessary; that it cannot continue
without means it has a right to compel all its citizens and
property within its limits to contribute

The basis of taxation is found in the reciprocal duties of

protection and support between the state and its inhabitants. In
return for his contribution, the taxpayer receives benefits and
protection from the government (this is so-called benefits
received principle).

Lecture Notes in Soc Sci 3. Basic Economics (w Land Reform & Taxation)Page 89