module 1 -economics for managers-mba-1st semester mba

05/01/23

KIRAN S, Assistant Professor @ BGS Institute of Technology-MBA1

Module 1

[email protected] Professor at BGSIT,

BG NagarMob:8123849682

05/01/23KIRAN S, Assistant Professor @ BGS Institute of Technology-MBA2

Nature and Scope of Managerial Economics

mailto:[email protected]

What’s Economics


Artha – Money/Income

Shasthra – Body of Knowledge

Economics – Body of knowledge which deals with the management of money

Managerial Economics


According to Milton H Spencer and Louis Siegelman “Managerial Economics is the integration of economic theory with business practice for the purpose of facilitating decision making and forward planning by the management.


Economic Theory and Methodology

Business Management Decision Problems

Business EconomicsApplication of Economics to solve business problems

Optimal solutions to business problems

Nature of Managerial Economics


Micro in nature- concerned with the study of the problems of the firm.

Pragmatic in nature- aims at solutions to problems considering the environment in which the business operates.


Prescriptive in nature rather than descriptive- aims at prescribing solutions to business problems rather than describing theories.

Uses Macro-Economics too – enables an executive to understand the business environment nd adjust with the uncontrollable external factors

Scope of Managerial Economics


1) Demand Analysis and Forecasting: - Forecasting future sales of products and

services. - Identify demand determinants - guidelines to manipulate demand2) Cost Analysis: - Discovering and measuring them for

effective profit planning and cost control - covers cost-output relationships, economies

and diseconomies of scale, cost control and cost reduction


3) Production and Supply Analysis: - deals with planning production and its

managerial uses - supply analysis deals with various aspects of

supply of a commodity - maximize firm’s revenue through proper

planning of production and supply.4) Pricing decisions, policies and practices: - correct pricing decisions form the backbone of

success of the firm - covers price determination in various market

conditions, pricing methods and price forecasting.


5) Profit Management: - high level of uncertainty in variation of costs caused

by sudden change in the internal and external factors - ME helps in estimating considerably such

uncertainties by manipulating costs - covers break even analysis, measurement of profit,

profit policies and techniques etc6) Capital Management: - most complex decisions of business often revolve

around planning and allocation of capital - decisions irreversible in nature - ME helps in planning and control of capital

expenditure. - covers cost of capital, rate of return and selection of

projects


Law of Demand

States the relationship between price and quantity demanded.

Relationship is inverse.

Assumes other things constant.


Ceteris paribus, the higher the price of the good, the smaller is the quantity demanded and the lower the price of a good, the higher is the quantity demanded.

P ↑ Qd ↓P ↓ Qd ↑ ceteris paribus


“As the price of Pepsi-Cola rises, the quantity demanded of Pepsi-Cola falls, ceteris paribus.”

Ceteris paribus -a Latin term that means all other things held constant or nothing else changes.

Four Ways to Represent the Law of Demand


In WordsIn symbolsIn a demand Schedule –(Numerical)As a demand curve.


Why does lower price increases quantity demanded?

-Income Effect (real) -Substitution Effect

Demand Curve


Individual demand curve and Market demand curve


An individual demand curve represents the price-quantity combinations of a particular good for a single buyer.

A market demand curve is derived by “adding up” individual demand curves.

Individual & Market demand schedule


A Change in Quantity Demanded Versus a Change in Demand


Economics often talk about;(1) a change in quantity demanded and

(2) a change in demand.


- A change in quantity demanded refers to movement on the demand curve.

- Quantity demanded at various price levels.- Change in demand brought about by

change in price.A movement from one point to another

point on the same demand curve caused by a

change in the price of the good


Change in demand refers to shift in the demand curve.

Demand can change in two ways: Demand can increase, and demand can decrease. Let’s look first at an increase in demand.

Change in demand refers a shift in the demand curve caused by the factors other than price.

Increase in demand = Rightward shift in the demand curve


Decrease in demand = Leftward shift in the demand curve


DETERMINANTS OR FACTORS of law of Demand


1.Income of the consumer -Key determinant of demand -positively related with the demand.

X is a normal good: If income ↑ then DX ↑ If income ↓ then DX ↓


Y is an inferior good: If income ↑ then Dy ↓ If income ↓ then Dy ↑

-If good is neutral good the income effect is neutral.

For a neutral good, as income rises or falls, the demand for the good does not change.


2.Prices of the related goods -Substitutes -Complementary goods.


X and Y are substitutes: If PX ↑ then DY ↑ If PX ↓ then DY ↓


X and Y are Complements: If PX ↑ then DY If PX ↓ then DY


3.Taste and preference of the consumer - Can have both positive and negative

impact on demand. - A change in preferences in favor of a good

shifts the demand curve rightward.


4.Advertisements -Influence taste and preference of the consumers-This influences the demand.5.Expectations -Related to their future income -Related to the prices of the goodS6. 6.Customs and traditions -Put restrictions on the consumption of certain

commodities.


7.Income distribution -Slow growth in consumption if income is

concentrated than if income is equally distributed.

8.Size of the Population

Exceptions to law of demand


1. Giffen goods: A Giffen good describes an inferior good that as the price increases, demand for the product increases. Giffen goods - are products that people continue to buy even at higher price due to lack of alternatives for the products or no substitutes

ex: Gold jewells2.Speculative products: the law of

demand does not affect to speculative product ex: Lottery


3.Veblen effect: people tend to buy some expensive products in order to show off their status

4. Necessities of life- all the basic material that we usually consume

5.Conspicuous necessities- Refrigerator, coolers, cooking gas inspite of increase in all these it doesn’t show any impact on demand

6. Outdated goods- the sale of air cooler may go down during the winters even if they are sold at reduced prices

Methods


Elasticity of Demand


The law of demand states that price and quantity demanded are inversely related, ceteris paribus.

But it doesn’t tell us by what percentage the quantity demanded changes as price changes.


•Elasticity provides a technique for estimating the response of one variable to changes in another.

•Price elasticity of demand is a measure of the responsiveness of quantity demanded to changes in price.

•More specifically, it addresses the percentage change in quantity demanded for a given percentage change in price.


We know that…

Income elasticity of demand


It is defined as the “ the percentage change in the quantity demanded of a good divided by the percentage change in the income of the consumer

EY=change in q × Y change in y qEY = income elasticity Q= quantityY=income

Types of income elasticity of demand


High income elasticity: whn the qnty demanded increase by a larger proportion as compared with income of the consumer

Unitary income elasticiy: when the percentage change in qty demanded is equal to the percentage change in income, income elasticity of a consumer

Low income elasticity: when the qty demanded of a good increases by a smaller percentage as compared with the income of consumer


Zero income elasticity:When the qty demanded of a good remains

unchanged upon the change of income Negative income elasticity:When the quantity demanded of a good falls

in response to an increase in income

Cross elasticity of demand


A change in the quantity demanded for one good in response to a change in the price of another good represents cross elasticity of demand of the former good for the latter good. It is defined as folows

E c = % change in the qty demanded of good A % change in the price of good B= ^qx ^py *py qx


Substitute goods:Complementary goodsIndependent goods

Advertising and promotional elasticity of demand


The promotional elasticity of demand is a measure of responsiveness of demand for a commodity to the change in the outlay of the advertisements and other promotional efforts

E = % change in demand % change in expenditure on

advertisements and promotional efforts

The greater the promotional elasticity, the more will be the incentive to go in for advertising . The advertisements of sales varies between zero to infinity

Uses of elasticity of demand for managerial decision making


Determination of price policy: while fixing the price of the product. A businessman has to consider the elasticity of demand for the product. He should consider the elasticity of demand for the product.

Price determination-price discrimination refers to the act of selling the technically same products at different prices to different section of consumers or different in different sub markets


Shifting of tax burden: to what extent a producer can shift the burden of indirect tax to the buyers by increasing price of his product depends upon the degree of elasticity of demand.

Taxation and subsidy policy: the government can impose higher taxes and collect more revenue if the demand for the commodity on which a tax is levied is inelastic.

Importance in international trade: the concept of elasticity of demand is of crucial importance in many aspect of international trade. The main objective is to correct the adverse balance of payments


Importance in the determination of factor prices-a factor with an elastic demand can always command a higher price as compared to a factor with relatively elastic demand.

Pricing of joint supply products: the goods that are produced by a single production process are joint supply products.

Effect on use of machines on employment: ordinarily it is thought that use of machines reduced the demand for labour. There fore trade unions often oppose the use of machines fearing unemployment.


Public utilities- the nationalization of public utility services can also be justified with the help of elasticity of demand. Demand for public utilities such as electricity, water supply, post and telegraph, public transportation.

Output decisions- the elasticity of demand helps the businessman to decide about production. The businessman chooses the optimum product mix on the basis of elasticity of demand

Demand Forecasting


Demand forecasting is the activity of estimating the quantity of a product or service that consumers will purchase. Demand forecasting involves techniques including both informal methods, such as educated guesses, and quantitative methods, such as the use of historical sales data or current data from test markets. Demand forecasting may be used in making pricing decisions, in assessing future capacity requirements, or in making decisions on whether to enter a new market.


A) Time series projection methods this includes:

moving average methodexponential smoothing methodtrend projection methodsB) Casual methods this includes:chain-ratio methodconsumption level methodend use method

Importance of Demand forecasting


The significance of demand forecasting is shown in the following points:

i. Fulfilling objectives:Implies that every business unit starts with certain pre-

decided objectives. Demand forecasting helps in fulfilling these objectives. An organization estimates the current demand for its products and services in the market and move forward to achieve the set goals.

For example, an organization has set a target of selling 50, 000 units of its products. In such a case, the organization would perform demand forecasting for its products. If the demand for the organization’s products is low, the organization would take corrective actions, so that the set objective can be achieved.


ii. Preparing the budget:Plays a crucial role in making budget by estimating costs

and expected revenues. For instance, an organization has forecasted that the demand for its product, which is priced at Rs. 10, would be 10, 00, 00 units. In such a case, the total expected revenue would be 10* 100000 = Rs. 10, 00, 000. In this way, demand forecasting enables organizations to prepare their budget.

iii. Stabilizing employment and production:Helps an organization to control its production and

recruitment activities. Producing according to the forecasted demand of products helps in avoiding the wastage of the resources of an organization. This further helps an organization to hire human resource according to requirement. For example, if an organization expects a rise in the demand for its products, it may opt for extra labor to fulfill the increased demand.


iv. Expanding organizations:Implies that demand forecasting helps in deciding about the

expansion of the business of the organization. If the expected demand for products is higher, then the organization may plan to expand further. On the other hand, if the demand for products is expected to fall, the organization may cut down the investment in the business.

v. Taking Management Decisions:Helps in making critical decisions, such as deciding the plant

capacity, determining the requirement of raw material, and ensuring the availability of labor and capital.

vi. Evaluating Performance:Helps in making corrections. For example, if the demand for

an organization’s products is less, it may take corrective actions and improve the level of demand by enhancing the quality of its products or spending more on advertisements.

vii. Helping Government:Enables the government to coordinate import and export

activities and plan international trade.

module 1 -economics for managers-mba-1st semester mba

Education