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Micro Economcs

The document discusses key concepts in managerial economics including: 1. Managerial economics analyzes business problems using economic theories and concepts to help managers make rational decisions. It aims to maximize profits and minimize costs given objectives and constraints. 2. Managers face uncertainty due to factors like demand, costs, and government policies. Managerial economics reduces this uncertainty by analyzing market conditions. 3. Theories of demand, production, pricing, and other microeconomic concepts are important tools for addressing issues like choosing products, prices, and managing inventories. Both micro and macroeconomic analysis can inform managerial decision-making.

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sarabjee sandhu
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64 views

Micro Economcs

The document discusses key concepts in managerial economics including: 1. Managerial economics analyzes business problems using economic theories and concepts to help managers make rational decisions. It aims to maximize profits and minimize costs given objectives and constraints. 2. Managers face uncertainty due to factors like demand, costs, and government policies. Managerial economics reduces this uncertainty by analyzing market conditions. 3. Theories of demand, production, pricing, and other microeconomic concepts are important tools for addressing issues like choosing products, prices, and managing inventories. Both micro and macroeconomic analysis can inform managerial decision-making.

Uploaded by

sarabjee sandhu
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© © All Rights Reserved
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Download as DOC, PDF, TXT or read online on Scribd
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Organisations & Economic Environment

NATURE AND SCOPE

The concern of Economics is with the economic problem and its


identification, description, explanation and solution, if possible.

 An economic problem is a problem of CHOICE and VALUATION.


The problem of choice arises because limited means (resources)
with alternative uses are to be utilised to satisfy ends (wants) which
are unlimited and of varying degree of importance.
 Scarcity is at the root of all economic problems of choice., We have
to choose between ends, between means, between use of means
and satisfaction of ends.
 The optimal economic activity is to maximise the attainment of ends,
given the means and their scarcities or to minimise the use of
resources, given the ends and their priorities.
 Firm’s Objective: Maximise revenue and minimise cost.

How does economics contribute to management.

 In performing his functions, a manager has to take a number of


decisions in conformity with the goal of the firm.

 Many of the decisions are taken under the condition of


UNCERTAINTY and therefore involve RISK.

 Uncertainty and risk arise mainly due to uncertain behaviour of the


market forces i.e. the demand and supply, changing business
environment, government policy, external influence on the domestic
market, social and political changes in the country etc.

 The complexity of the modern business world adds complexity to the


business decision-making. However, the degree of uncertainty and
risk can be greatly reduced if market conditions could be predicted
with a high degree of reliability.

 Managerial economics may be defined as the study of economic


theories, logic and methodology which are generally applied to seek
solution to the practical problems of business. ME is thus constituted
of that part of economic theories which is used as a tool of analysing
business problems for rational business decisions.

 To quote MANSFIELD :
ME is concerned with application of economic concepts and
economic analysis to the problems of formulating rational
managerial decision.
 Decision-making by management is truly economic in nature
because it involves choice from among a set of alternatives –
alternative courses of action. A manager, in any function at any level
in any organisation, always exercises choice in the name of
decision-making.

 A Manager’s choice is dictated by his objective and constraints. The


optimal decision-making is an act of optimal economic choice,
considering objectives and constraints. This justifies an evaluation of
managerial decisions through concepts, precepts, tools and
techniques of economic analysis.

DECISION PROCESS

ME is concerned with decision-making at the level of the firm. Systematic


efforts are made to arrive at the right decisions. The following steps should
be followed for the purpose :

a) establish objectives
b) specify the decision problem
c) identify alternatives
d) evaluate alternatives
e) select the best alternative
f) implement the decision
g) monitor the performance.

Some of the basic internal issues of a firm are :

a) Choice of commodity
b) Choice of size of the firm
c) Choice of technology i.e. choosing factor-combination
d) Choice of price.
e) How to promote sales
f) How to face price competition
g) How to manage profit and capital
h) How to manage inventory i.e. stock of both finished goods and raw
materials.

The branches of economic theories which deal with most of these


questions are following :

a) Theory of Demand
b) Theory of Production
c) Theory of Exchange / Price Theory
d) Theory of Profit
e) Theory of Capital & Investment
MICRO & MACRO ECONOMICS

Micro economics deals with the behaviour of individual economic units,


such as the consumers, the producers, the suppliers of various factors –
labour, land, capital, entrepreneurial services.

Macro economics deals with the behaviour of the economy as a whole. It


incorporates theories relating to the growth of National Income,
determination of the aggregate consumption demand, aggregate level of
Investment and aggregate Employment, the level of private and
government expenditure, the BOP etc.

The economic principles and methodology of ME are derived largely from


micro economics. Concepts relating to prices, demand, cost behaviour,
laws of returns, elasticity etc. forms the major part of ME.

However, some aspects of macroeconomics are also relevant in decision


making and forward planning. Forward planning regarding expansion of
projects or setting up of new projects, has to be done in the context of the
growth and development of the national economy. Theories about trade
cycles, international trade and BOP have a great relevance to ME for
certain types of decision making problems.

Analysis of five major topics becomes necessary in the study of ME :

1. Demand Analysis and Methods of Demand Forecasting : Study of


determinants of demand is essential for forecasting future demand
for the product as well as for estimating the present sales.

2. Cost Analysis : laws of returns to factors and returns to scale;


behaviour of costs of different inputs as the output is varied; implicit
and explicit costs.

3. Pricing theory and policies : Theories regarding the price


determination under various market conditions enable the firm to
solve the price fixation problems. Marginality principle, mark up
pricing, price discrimination are some of the important factors to be
considered.

4. Profit Analysis : Break even point in production; accounting profit vs


economic profit.

5. Capital budgeting for It decision :


 Calculating with utmost accuracy the profitability of alternative
capital investment project.
 Choice of capital investment project.
 Optimal allocation of capital.
 Scarcity of capital and uncertainty of conditions.

3
PROFIT ANALYSIS & OTHER OBJECTIVES OF FIRMS

Concept of Profit

Distinction between Accounting Profit and Economic Profit : An


accountant looks at profit as a surplus of revenues over costs, as
recorded in the books of accounts. An accountant is interested in
accounting, auditing, planning and budgeting profit. The accountant
does not take care of implicit or opportunity costs.

The economists are very much concerned with the opportunity


costs. From the accounting profit, he takes out these implicit costs
to compute his economic profit.

π = R–C
π = π - OC
= R–C -OC

Where π = Accounting Profit


C = Explicit costs
OC = Opportunity costs

Since every decision involves a sacrifice of alternatives, the


opportunity costs are implied in any decision making. Since in real
world decision situation, assumption of zero opportunity costs is a
highly unrealistic one, economic profit would tend to be less than
accounting profit.

Example

 A trained mechanic has started a repair shop by investing his


own capital of say Rs.50000.

 His shop is located in the garage of his own house such that
he pays no rent.

 Annually, he makes a net income of Rs.100000 i.e. the


difference between the revenue earned (Rs.250000) and his
materials and all other explicit costs (Rs.150000).

 Had he not started and run his business, the mechanic


himself could have earned a monthly wage of Rs.5000 i.e.
an actual salary of Rs.60000

 Similarly, had he invested his capital of Rs.50000 in the


bank, he would have got a 10% return on it i.e. Rs.5000.

4
 His garage would have fetched a monthly rent of Rs.2000
i.e. an annual rent of Rs.24000. Thus, we have :

Total Revenue earned = Rs. 250000


Total costs of operation = Rs. 150000
--------------------------------------------------------------------
Accounting Profit (π) = Rs. 100000
--------------------------------------------------------------------
Opportunity costs of

a) own labour (wages) = Rs. 60000


b) own capital (interest) = Rs. 5000
c) own building (rent) = Rs. 24000
-------------------------------------------------------------------
Total opportunity costs = Rs. 89000
-------------------------------------------------------------------
Therefore Economic Profit (π ) = Rs.100000
(–) Rs. 89000
= Rs. 11000

 The theory of distribution i.e. pricing of factors of


production :

a) Labour = Wages
b) Land = Rent
c) Capital = Interest
d) Entrepreneur = Profit

Profits are residual income left after the payment of the contractual
rewards to other factors of production i.e. profits are non-
contractual income and therefore they may be +ve or –ve, whereas
the contractual income of other factors such as wages, rent and
interest are always positive.
 Pure profits of the entrepreneur are found by subtracting
from the gross residual income the imputed values of rent
and interest on the self-owned land and capital employed by
the entrepreneur and also the imputed wages for his work of
routine management.

Profits appear, disappear and reappear.

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