UNIT Introduction to Business and Economics Introduction to Business and Economics: Business: Structure of Business Firm, Theory of Firm, Types of Business Entities, Limited Liability Companies, Sources of Capital for Company, Non-Conventional Sources of Finance. Economics: Significance of Economics, Micro and Macro Economic Concepts, Concepts and Importance ‘of National income, Inflation, Money Supply in Inflation, Business Cycle, Features and Phases of Business Cycle. Nature and Scope of Business Economics, Role of Business Economist, Multidisciplinary Noture of Business Economics. LEARNING OBJECTIVES > — Concept, Characteristics and Factors of Business. > — Concept of Structure of Business Firm, Theory of Firm. > Types of Business Entities Le., Limited Liability Companies. > — Concept of Sources of Capital for a Company, Non-Cenventional Sources of Finance. > — Concept of Economics, Micro and Macro Economics, National Income, Money Supply and Inflation. > — Concept of Business Cycle and Business Economics. INTRODUCTION Business is an economic activity. A business is started with the sole objective of earning profits. Efficient uiilisation of resources helps in carrying out the business successfully. ‘A firm is an organisation which transforms the hired inputs into outputs for sale. Two types of inputs ore used by the firms .e,, human resources (such as labour resource and entrepreneurial resource) and capital resources (such as land, man made capital, forests rivers etc.). The most important task of the firm is to purchase the resources or inputs and transform them into goods or services for sale. The limited liability company is also known as joint stock company. “A corporation is an artificial being, invisible, intangible and existing only in contemplation of the law. As an artificial person created by law, it possesses the characters of perpetual succession and 0 separate legal entity”. ‘According to 1.S. Mill, "Economics is the practical science of the production and distribution of wealth”. Business cycle implies @ consistent variations in economic activities of capitalist economies. It is also called 05 Trade Cycle. In trade cycle, expansions, recessions, contractions and revivals of aggregate economic tokes place again and again in a constant pattern. SPECTRUM ALL-IN-ONE JOURNAL FOR ENGINEERING STUDENTS12 BUSINESS ECONOMICS AND FINANCIAL ANALYSIS [JNTU-HYDERABAD] PART-A SHORT QUESTIONS WITH SOLUTIONS Qt. Sole Proprietorship. Answer : May-17, (R13), 1) Sole trader can be defined as “an individual who carries «a business or trade exclusively by and for himself” James Stephenson When the business unit is owned and managed by a single person, itis called a sole trader firm. The person who owns and controls the business is known as sole trader, Inthis form of business organization, sole trader supplies ‘necessary capital to the business, usc his own savings or borrows ‘money from his friends and relatives on his own responsibility. Ail the business decisions are taken by himself. He enjoys all the profits and bears all the losses of business. He may loss his, personal property also, Hence, sole trader is rightly described as owner, manager, controller, financier, organizer, decision ‘maker and risk taker Q2. Micro and Macro Economi Answer : Micro Economics According to Left Witch, “Micro economics is concemed inthe economic activities of such economic units as consumers, resource owners and business firms”. Macro Economics Macro Economics is the study of the aggregates. It is also known as “Aggregative Economics According to Gardner Ackley, “Macro economics deals Aprikt8, (R16), O16) Apri 18, (R16), Qa) ‘A general theory of firm offers a micro economic framework wherein entrepreneurs, organizations, markets and firms are domestic. This framework is useful in explaining. the existence of firms, establishment and their contribution to ‘economy. It also assists in explaining the occurrence of market and their performance. It also facilitates basic evaluation of formation and design of firms. The structure of theory of firm. includes consumers their preferences, intellectual property and endowments which are external to this model. The theory of firm depends on characteristics and actions of individual ‘consumers and their relationship. 4. Business Answer : (Medel Papers, Qt(a) | Dec-18, (R16), Ma) Business is an economic activity. A business is started with the sole objective of earning profits. Efficient utilisation of resources helps in carrying out the business successfully. “Business unit isa concem, company or enterprise which buys and sells, owned by one person or group of persons and is, ‘managed under a specific set of operating policies”. 1.0. Wheeler Q5. Non-conventional Sources of Finance. (Model Papers, (a) | May-19, (R16), (a) ‘The sources which are different from the traditional sources are considered as non-conventional sources. The various ‘non-conventional sources of finance are, Non-Conventional ‘Sources of Finance Q6. National Income Answer : Answer : ii Factoring Services Dec.18, (R16), a1) National income is the money value of all the finished ‘goods and services which are produced in an economy during ‘a specific period of time, ‘The concept of National Income can be interpreted in three ways. Itis atotal receipt, a total expenditure and it results ‘out of the fact that expenditure by one is a receipt by another. The rate of growth of national income indicates whether economy is improving, stagnant (constant) or declining. A growth in national income indicates that there is a faster growth in per ‘capita income and the standard of living of people is improving. Q7. Business cycle and its Phases Answer + (Model Papers, Q1(o) | May-19, (R16), @1(0)) Business Cycle Business cycle implies a consistent variations in ‘economic activities of capitalist economies. It is also called as ‘Trade Cycle. In rade cycle, expansions, recessions, contractions and revivals of aggregate economic activity takes place again ‘and again in a constant patter. Phases of Business Cycle ‘The phases of business cycle are, 1, Trough/depression phase 2. Expansion/recovery phase 3. Peak/Prosperity phase and 4, Contraction/recession phase. Business Economics a8. Answer : Model Papert, (0) According to Spencer and Siegelman, “Business ‘economics is the integration of economic theory with business practice for the purpose of facilitating decision making and forward planning by management Business economics isan application of economic theory ‘and business methodology. Business economics is also known ‘as managerial economics. It helps in decision making and also inmaking choices in personal life and professional life. Its the ‘combination of economic principles and business practices. SIA Posiisnors and bitributors Pt 1d.UNIT-1 Introduction to Business and Economics 1.3 PART-B_ ESSAY QUESTIONS WITH SOLUTIONS 1.1 BUSINESS - CONCEPT, CHARACTERISTICS AND FACTORS Q9. What is Business? Explain its characteristics. Answer : Now/Dee.-12, (ROS), Q5(a) Business Business is an economic activity. A business is started with the sole objective of earning profits. Efficient utilisation of resources helps in carrying out the business successfully Definition “Business unit is a concem, company or enterprise which buys and sells, owned by one person of group of persons and is ‘managed under a specific set of operating policies”. L.O. Wheeler Characteristics of a Business Unit Following are some of the characteristics of a business unit, 1. Exchange of Goods and Services Every business involves exchange of goods or services. 2. Profit Motive Profit maximization is the ultimate objective of every business 3. Economic Activities In economic sense, business is to work. Efforts and acts of people which are linked with the production of wealth comes under economic activities 4. Risk and Uncertainty In every business, there isa chance of risk as future is uncertain 5. Continuity of Transactions Business is a continuous and long term process. 6. Consumer Satisfaction Satisfaction of consumer is the ultimate aim of every business, Q10. What are the various factors that influence the choice of business organization? Answer : ‘The various factors which influence the choice of a suitable form of business organisation are discussed below, 1. Easy and Economical to Form ‘The business organization selected should be easy to form. Each and every businessman intends to form a business through simple and economical method. 2 Coverage Area Ifthe area to be covered is small and needs personal attention then selecting sole proprietorship form of business organization would be an appropriate decision, On the other hand, ifthe area of service to be covered is large, then company form of business ‘organization should be selected. 3. Flexibility of Operations ‘Compared to company form of business organization, the operations of sole proprietorship or partnership form of business ‘organization are very flexible. SPECTRUM ALL-IN-ONE JOURNAL FOR ENGINEERING STUDENTS.BUSINESS ECONOMICS AND FINANCIAL ANALYSIS [JNTU-HYDERABAD) 4. Percentage of Risk Carrying out sole proprietorship and partnership form of | business organization isa risky affair. People who do not like putting their personal property in risk and intend to have limited ibility, select company form of business organization. 5. Secrecy ‘One should select the business where there isa scope of | ‘maintaining and protecting the scerets of business. Compared to sole proprietorship or partnership form of business organization, company form of organization require more disclosure of business secrets 6. Rules and Regulations of Government Company form of business organizations are obliged to follow rules and regulations imposed by the government, Those who intend to stay away from rules and regulations of the government may go for sole proprietorship or partnership form of business organization. 7. Life of a Business ‘Company form of business organization goes on forever inrespective of the uncertainties in the future. Companies follow ‘going-concem concept. Unlike company form of organization, sole trader or partnership form of organization may get close down at any point of time. 8 Size and Nature of the Business Size and nature of business also influence the choice of organization. Small sized business with low risk will choose sole proprictorship. Big sized businesses with higher risk and wider scale of operations choose company form of business ‘organization. 1.2 STRUCTURE OF BUSINESS FIRM Q11. Explain the structure of business firm. Model Paper+ a2(a) A firm selects an appropriate structure based on the size of the business and the requirement of capital. The following figure shows the different structures that may be adopted by a business firm. Answer : Figure: Structure of Business Firm Sole-Proprictorship A small business operates asa sole-proprietorship firm. In this firm, equity capital is provided by the individual. At the time of liquidation, if there is shortage of value of assets for the claims of creditors, then the fresh capital is bought by the equity holder to pay to creditors. The creditors have claim on the assets of equity holder that are not invested in the business. 2. Partnership In India, according to Partnership Act 1932, section 4, “Partnership is the relation between persons who have agreed to share profits of a business carried on by all or any of them acting for all” Inthistype of structure, there are two or more individual who provide risk capital. These equity holders are also called s partners, they share the profit and loss at a specified ratio. ‘The partners have unlimited liability and they are responsible to combinely pay the claims of creditors. 3. Limited Liability Company/Joint Stock Company This structure is commonly adopted by large firms In limited liability company, equity holders are required to contribute the limited share capital. Limited liability company is further divided into private limited companies and public limited companies (Public Limited Company {In public limited company, large number of individuals or public contribute the risk capital. Apart from an individual, the risk capital can also be contributed by a {joint family, a body corporate, a partnership firm or any other entity (ii) Private Limited Company Its also called as closely held company in which less ‘number of individuals provide equity. Here the “public” is ‘ot invited to raise risk capital and become the company's ‘equity shareholder. 4. Other Types ‘The other types of organization structures include, Statutory Corporation ‘The legislative body ofthe country frames virtue of statue by which a statutory corporation is formed. @) (>) Guarantee Company ‘A guarantee company is the one in which the liability of a ‘member is limited to the sum that the member guarantees to contribute to the capital if necessary. SIA Pavisners ana oisiibutors Pvt. 1s.UNIT-1 Introduction to Business and Economics ———oerer—erer 1.3 THEORY OF FIRM Q12. Define Firm. What are its objectives? Discuss the prominent theories on objectives of firms. Answer: Firm AA firm is an organisation which transforms the hired inputs into outputs for sale. Two types of inputs are used by the firms ie., human resources (such as labour resource and entrepreneurial resource) and capital resources (such as land, ‘man made capita, forests rivers etc.). The most important task (of the firm is to purchase the resources or inputs and transform them into goods or services for sale, Objectives of a Firm Initially, profit maximization was considered as the single most objective of firm. But now the scholars have also considered sales maximization and growth maximization as the objectives of the firm. All the organisations have certain objectives which help in providing a structure for all the functions, strategies and managerial decisions of that firm. ‘Theories on Objectives of Firm ‘The following are the various theories on objectives of firm, 1. Profit Maximization Theory Profit maximization is one of the most common and widely accepted objective of a firm. According to the profit ‘maximization theory the main aim of the firm sto produce large ‘amount of profits. Profit is considered as the internal source of funds and the market value of the firm also relies mainly on the profits eamed by the firm. In order to survive in the market, it is very essential forthe firms to earn profits. Profits are obtained by deducting total revenue from the total cost ie. Profit = Total revenue ~ Total cost ‘The profit maximisation theory is supported by Nobel Laureate Milton Friedman. He considered it as valid for anticipating future business trends and practise. 2. Baumol’s Theory of Sales Revenue Maximisation The validity of profit maximisation as an objective of firm was questioned by Baumol. According to Baumol, maximisation of sales revenue is the main objective ofthe firms in the competitive markets. He found that sales volume helps in finding out the market leadership in competition. According to him, in large organisation, the salary and other benefits of the ‘managers are connected with the sales volumes instead of profits. So, managers try to maximise the total revenue of the firms. The volumes of sales represent the position of the firm inthe market. ‘The managers of firm performs the operations of the firm and their performance is measured on the basis of the attainment of sales target. So the management will try to maximise sales and maintain minimum profit. Thus, the main aim of the firm is to maximise sales revenue and maintain minimum profits for satisfying shareholders, Marris Hypothesis of Maximisation of Growth Rate ‘According to Marris, owners/shareholders strive for attaining profits and market share whereas the managers strive for better salary, job security and growth. These two objectives can be attained by maximizing the balanced growth ofthe firm. ‘The balanced growth of the firm relies mainly on the growth rate of demand for the firm’s products and growth rate of capital supplied to the firm. If the demand for the firm’s product and the capital supplied to the firm grows atthe same rate, then the ‘growth rate of the firm will be considered as balanced. Marris found that the firms face two difficulties while attaining the objective of maximisation of balanced growth ic.. ‘managerial difficulties and financial difficulties. For maximizing the growth of the firm, the managers should have skills, expertise, efficiency and sincerity. The prudent financial policy of the firm depends on atleast three financial ratios which restrict the growth of the firm. 4. Williamson Model of Managerial Utility Functions Williamson's model combined profit maximisation and growth maximisation objectives. According to the model of managerial utility functions, managers make use of theit discretionary power for maximising their own utility function and maintain minimum profit for satisfying shareholders. ‘The Williamson's model is written as, X,“ARN.Y) Where, X= Manager's utility function R= Salary N= Managerial emoluments Y,= Power of discretionary investments The utility function of the managers relies on salary ofthe ‘managers, job security, power, status, professional satisfaction and power to affect the objectives of the firm. $. Behavioural Theories ‘According to the behavioural theories, the firm tries to attain a satisfactory behaviour instead of maximisation. There are two important behavioural models ic., Simon's satisfying ‘model and model developed by Cyest and March. ‘The Simon’s satisfying model states that firms carry out their operations under ‘bounded rationality’ and can only attain «8 satisfactory level of profit, sales and growth. Simon carried ‘out a research and found that modern business does not have adequate information and is uncertain about future duc to which itis very difficult to attain profit, sales and growth objectives. ‘The model developed by Cyest and March states that firms should be oriented towards multigoal and multi decision ‘making. Instead of dealing with uncertainty and inadequate information, the firms should fulfill the conflicting goals of various stakeholders such as shareholders, employees, customers, financers, government and other social interest groups).1.6 BUSINESS ECONOMICS AND FINANCIAL ANALYSIS [JNTU-HYDERABAD] 1.4 TYPES OF BUSINESS ENTITIES - LIMITED LIABILITY COMPANIES Q13, What is business entity? What are the different types of business entities? Explain. OR Explain different kinds of business entities. (Refer Only Topic: Types of Business Entities) Answer : May-19, (16), 200) Business Entity ‘An organization that performs some economic activity for the purpose of making profit is referred to as "Business Activity or Entity’. Economic activity is the one that focuses more on money ice, itis carried out with money and performed for money and to eam money. The various business activities include trading, ‘manufacturing and services such as transportation, banking and insurance. ‘Types of Business Entity The three main types of business entity are, 1. Sole enterprise 2. Partnership and 3. Limited liability company i. joint stock company. 1. Sole Enterprise Sole trader can be defined as “an individual who carries 1 business or trade exclusively by and for himself” James Stephenson ‘When the business unit is owned and managed by a single person, itis called a sole trader firm. The person who owns and controls the business is known as sole trader. ‘The important characteristics of sole trading concem are, () Single Owner As sole enterprise is a one-man form of organization, itis easy to start a business unit, (i) Single Owner Contributes to the Capital Factors of production such as money, machines, material, equipment are provided by one person soe sa responsible party Single Owner Bears Risk Sole trader bears profits and losses incur in the business. Heis the risk taker Unlimited Liability of Owner Liability of sole trader is unlimited to such an extent that his personal property is also considered if losses oceur. Non Specific Documents are Required Itinvolves very small legal formalities and no restrictions, are imposed by government for carrying out the business. 2. Partnership Itis an association of two or more than two persons to carry out the purpose of business jointly. These persons are called partners and doing business jointly is known as partnership. (iii) (wy) (o} Following are the characteristics of partnership, ()— Twoor More Owners Minimum two persons are required. The persons should have completed 18 years of age with sound mind. Agreement between Partners ‘They should have an agreement which can be written, coral or implied to conduct business. Sharing Profits Profits on business is shared by all the partners according to agreed ratio of partnership deed. Agency Relationship Partners have an authority to purchase, sale, lend and borrow loans on behalf of the organization and act as agents. Unlimited Liability Liability of partners is unlimited, so if any debt arises, the partners have to pay from their personal savings. Capital Contribution is not Compulsory Partners can contribute fund in the organization. But no compulsion if they do not have. 3. Limited Liability Company (or) Joint Stock Company ‘The limited lability company is also known as joint stock company. ““Acorporation is an artificial being, invisible, intangible and existing only in contemplation of the law. As an artificial person created by law, it possesses the characters of perpetual suecession and a separate legal entit (i (iiiy (wy) o wi, Justice Marshal Q14. List out the advantages and limitations of sole trading concern. Answer + Advantages of Sole Trading Concern ‘The following are the advantages of sole trading concern, 1, Simple and Quick ‘The formation of sole trader is easy and quick. 2. Quick Decision Making Central power for taking decision lies in the hand of one person. He is the controller of activities. 3. Secrecy of Information ‘Secrets are well maintained as only one person handles whole business. 4. Personal Contact with Customer Sole trader can have close eye on the tastes and preferences of the customer. They can have “personal contact with customers”. 5. Least Government Interference Government interference is minimum in sole proprietor, except in matter of public interest 6, Easy Transfer of Business Business can be easly transferable tothe legal hei SIA Pavisners an oistributrs Pt 1.UNIT-1 Introduction to Business and Economics 17 Limitations of Sole Trading Concern The following are the limitations of sole trading concern, 1. Risky The liability of sole trader is unlimited. Any losses ‘occurred in business have to be compensated from the personal ‘savings or properties of sole trader. 2. Low Investment Ashe is the only investor in the business, low amount is contributed and if loans are taken, the rate of interest is high, 3. Uncertainity in Business Business in sole trader’s is uncertain. If any event such as death, solvency or insanity occurred, business comes to an end. 4. Less Profits The scale of operation is limited. So production function will be small and profits generated will be less. S. Lacks Expert View Decisions are taken by single person. So the decisions lack expert view Q15. List out the advantages and limitations of partnership. OR Evaluate partnership form of busin: organization. Answer : Advantages of Partnership The advantages of partnership are as follows, (Easy Formation Formation of partnership firm is easy, quick and flexible. High Investment Capital investment in the business will be huge as many sources are available such as loan can be taken, credibility of partner, security of the firms property ete. Quick Decision-Making decision is taken on any problem as ble. Minimum Wastage Al the partners are involved in business operation that will reduce expenses and minimize wastage. (8) Unlimited Liability of Partners Liability of partners is unlimited, they can raise more finance. (vi) Shared Resources Large resources are available as there are more than one person, May 17, (R13), 71a) wi ii) Limitations of Partnership ‘The limitations of partnership are as follows, (Lack of Mutual Understanding, Lack of mutual understanding may lead to dissolution of partnership firm. Limited Funds ‘The partnership is carried out with small number of ited. In partnership, funds invested wi) No Perpetual Existence ‘Whenever the event such as death, retirement, insanity ‘occurs, the partnership comes to an end and very rarely it will continue its function. (iv) No Secrecy of Information Partner has authority to deal with outsider, itcan be taken as threat to organization asthe partner may cheat other partner by hiding information ™ Risky Partners are always in risky condition. Whenever losses occur if business is not able to meet the loss, the partner's personal properties are put in to meet debt which will slow down ee ee Q16. Whatare the features of limited liability company ‘or joint stock company? Answer : “The features of a company are as follows, 1, Separate Legal Entity ‘The law considers a company as an entity which is separate from its members. Eventhough the company is regulated by the Board of Director, it is a separate legal entity Which is independent from its members. Basically the money and property of the company belongs to the company but not to, the shareholders. For example, Raj and Co_Limited is completely distinct person from Raj. ts property isnot the property of Raj 2. Limited Liability of Owners A company can cither be a company limited by shares or a company limited by guarantee. The company in which the liability of the members i restricted to the unpaid value of the shares, then i is considered as company limited by shares. Whereas the company wherein the liability of the members is restricted to a certain amount which the members may undertake for contributing tothe assets ofthe company atthe process of winding up is considered as company limited by guarantee. 3. Perpetual Succession Even though the members ofthe company change o de, the company exists. A company is developed by a process of law and can be ended only by a process of law. It is considered as a juristic person which has perpetual succession. Acompany does not die and also not affected by the insolvency, mental disorder or retirement ofits members. SPECTRUM ALL-IN-ONE JOURNAL FOR ENGINEERING STUDENTS18 BUSINESS ECONOMICS AND FINANCIAL ANALYSIS [JNTU-HYDERABAD] —————————————————ron—*Ke 4. Common Seal ‘A-company does not possess any physical existence so it performs through its agents, All the contracts of a company which are entered by the agents should be under the common seal of the company. This common seal serves as an offical ignature of the company. 5. Transferability of Shares Generally, the company's capital is divided into parts termed as shares which are freely transferable and the sharcholdes. The shareholders are not required to be devoted toa company permanently. 6 Separate Property Accompany can own, enjoy and dispose the property on its own name as itis a legal person who is different from its members, 7. Capacity to Sue ‘Through its corporate name, a company can sue and can be sued. Acompany can sue one ofits own members for scandal ‘when it incurs any loss, asa company isa separate person from its own members. Qi7. Explain the types of joint stock companies. OR Explain the salient features of public limited company. (Refer Only Topic: Features of Public Limited Company) Answer : ay 18, (R13), O62) The two basic types of joint stock company are, (Public limited company and (ii) Private limited company. () Public Limited Company Public companies are created by a special statute of a state or central government. A public company is a separate legal entity created for a specific purpose. In India the Reserve Bank of India, Damodar Valley Corporation, State Trading Corporation, Industrial Development Bank of India are some of the corporations created by special acts of parliament. ‘According to President Roosevelt, ‘a public company is clothed with the powers ofthe government but possessed of the flexibility and initiative ofa private enterprise Features of Public Limited Company ‘The features of public limited company are as follows, Separate legal entity ‘Government investment Financial autonomy Govemment appointed management Service motive and no government interface. Private Limited Company {A private limited company is defined under section 3 ()Gii) ofthe companies Act 1956 as “a company which has a ‘minimum paid-up capital of & 100,000 or such higher paid-up capital as may be prescribed and by its articles. wy Features of Private Limited Company ‘The private limited company has the following features, 1. limits the right to transfer its shares, 2. Ierestrits its members to 50. 3. It prohibits any invitation to the public for subscribing any shares or debentures ofthe company. 4. Itprohibits any invitation or acceptance of deposits from ‘other persons and allows invitation or acceptance of deposits from its members, directors or thei relatives. ‘The limited liability companies may be further classified based on the control through share holding pattern (Chartered Companies The crown in the exercise of royal privilege has the power to create a corporation by the grant ofa charter to persons assenting to be incorporated. Examples of such type of corporations are Bank of England (1694), East India Company (1600) ete. Holding Company ‘A company which controls another company is called Holding Company. ‘Subsidiary Company ‘A company which is controlled by another is called subsidiary company. Government Company ‘Any company in which more than $1 percent of paid up share capitals held either by the central govemument or any state goverment or governments or partly by the central ‘govemments and partly by one or more state governments is known as government company. Q18. What are the advantages and limitations of joint ‘stock company? Answer: Advantages of Joint Stock Company The merits of a joint stock company are as follows, 1. Financial Strength ‘A public limited company has the ability to acquire large financial resources. The capital of this company is classified into ‘small parts for drawing the attention of the people with limited sources and for inducing them to buy these parts. This helps the ‘company to enjoy the high credit position 2. Economies of Seale AA joint stock company has continuous expansion and deals with large financial resources. So it can acquire the ‘economies of large scale operations. 3. Limited Liability In a company, the liability of the members is restricted tthe degree to which the unpaid amount onthe shares held by them. The personal assets of a member are secure and he will have the knowledge about the degree/extent of his liability. ww (ii) tiv)UNIT-1 Introduction to Business and Economics 1.9 4. Efficient Management ‘A.company can appoint specialists in various areas of business. An integrated experience and judgement of the directors helps in taking stable and effective decisions which leads to efficient management. 5S. Transferability of Interest ‘A public limited company can transfer its shares freely. This gives liquidity to investment and motivates the attentive and ‘conservative investors for buying the shares. A company represents the shares in stock exchange for making the investors aware about the value of their holdings. Limitations of Joint Stock Company The limitations of a joint stock company are as follows, 1. Legal Formalities Generally, the establishment process of a company is difficult, time consuming and costly. It also involves various legal formalities and several documents have to be framed and filed with the registrar. 2. Lack of Personal Interest ‘Asa company is managed by the directors and paid officials, they mostly do not take any personal interest in business. 3. Corrupt Management There are chances that the company has corrupt/fraudulent management. The dishonest/corrupt persons can involve themselves in certain malpractices for cheating the investors on their earned money. 4. Oligarehy In a company, the management is considered as democratic, as the directors are the elected representatives of shareholders. A small group of directors can misuse the powers of shareholders and can work against the shareholders interest. S. Delay in Decisions For taking the crucial decisions of a company, meetings must be conducted and resolutions should be passed which leads to delay in the process of decision making. Q19. Give a comparative view of forms of business organizations. Answer : ‘The following table shows the differences between different forms of business organization, Partnership Limited Liability Company Registration is not required. | Registration is not compulsory. | Registration is required here. But registration may help to solve legal issue taken place between partners, ‘The business is managed and | All partners have equal rights | The board of Directors who controlled by single owner. | and all of them can participate | are generally elected by the in the management. They can | shareholders manage the bind the business by their acts. | company. Sole-enterprise is owned | Partnership is owned by two] The minimum number of] and controlled by only one | or more persons known as | members ina private company person. partners. is 2 and maximum is $0, while the minimum numbers in public limited company is 7 ‘and maximum is unlimited Accounting entity | It isa separate entity. Itis a separate entity, Itis a separate entity Capital Here, the capital is represented | The capital is represented in | The capital is represented by in rupees rupees. shares having face value. 6. | Publication of financial | Financial statements are not | Financial statements are not| Financial statements are statements published here. published here. published inthe form of annual report for the listed company in the newspaper.1.10 BUSINESS ECONOMICS AND FINANCIAL ANALYSIS [JNTU-HYDERABAD] ‘Agency relationship [There is no agency] Partners can act as agent of Here, itis not possible for the relationship. each other, shareholders to act as agent for ‘one another. Perpetual existence | The sole enterprise has| Partnership does not have] A company has long lasting perpetual existence. perpetual existence, existence. Legal status ‘Sole enterprise is a separate | A firm is not considered as a] The company is a different legal entity and does not have | separate legal entity and does | person from its members and| separate legal status. not have separate legal status. | it has a separate legal existence ofits own. ‘The company can be wound |The firm can be wound up| Company windup requires full up without much legal | without much legal procedure. | legal compliance. 1.5 SOURCES OF CAPITAL FOR A COMPANY 20. What is “Joint Stock Company”? Discuss the sources of capital required by a joint stock company. (Model Papers, Q2(e) | Apeib-8, (R16), 2) OR Explain the sources of raising capital. May-15, (R13), 09(0) (Refer Only Topic: Sources of Capital for a Company) OR What are the various sources of capital for a company? Explain. Dee-18, (R16), G2(a) (Refer Only Topic: Sources of Capital for a Company) OR Explain different sources of capital needed for a joint stock company. (Refer Only Topic: Sources of Capital for a Company) Answer : May-19, (R16), 20) Joint Stock Company ‘The limited liability company is also known as joint stock company. “A corporation is an artificial being, invisible, intangible and existing only in contemplation of the law. As an artificial person created by law, it possesses the characters of perpetual succession and a separate legal entity”. ~ Justice Marshal Sources of Capital for a Company ‘The limited liability company (or) joint stock company uses different sources of capital which may be long-term and short-term 1. Long-term Sources Long-term funds are required fora period exceeding five years and are required to purchase fixed assets like plant, machinery, furniture, land and building etc. Long-term sources of capital include, (a) Owner's Capital (Equity shares (i) Preference shares (Equity Shares Equity shares represent ownership position in a company. Equity holders are owners of the company and elect the board of directors and enjoy voting right. Equity share capital is also called as risk capita, because if the company is not performing well, the holders ofthe equity shares are sufferers and if the company is doing well they will reap the benefits (i) Preference Shares Preference shares holds a preferential right over the equity shares with respect to the dividend. This right is also applicable atthe time of payment of capital, repayment of capital or winding up.UNIT-1 introduction to Business and Economics 1a (b) Debt Capital (i) Debentures Gi) Loan from financial institutions. (i) Debentures According to Thomas Evelyn, “A debenture is a document under the company seal which provides for the payment ‘ofa principle sum and interest there on at regular interval which is usually secured by a fixed or floating charge on the company’s property or undertaking and which acknowledges a loan to the company’s property or undertaking and which acknowledges a loan to the company”. (ii) Loan from Financial Institutions Raising long-term working capital in the form of loan from financial institutions such as IDBI, IFCI, SFC, LIC and commercial banks etc, is suitable for demands of working capital. It carries a fixed rate of interest and can be repaid 6 installments basis. 2. Short-term Sources The sources of capital that require the repayment to be done during the short period of time ie., 3-5 years, are referred to as short-term sources. These sources are often in the form of a loan or an instrument that shows the features of loan. Using the following instruments, the company makes the arrangement of short-term capital. (Commercial papers and (ii) Bills of exchange. (Commercial Papers (CPs) (CPs is an unsecured promissory note issued by firm on discount and redeemable on face value in future date. Commercial papers are issued for raising short-term finance. Its maturity period is between 91 to 80 days. The difference that exists between maturity value and issue price is like a compensation for interest forthe holding period. The concept of liquidity arises in these papers as they are issued in negotiable form, (i) Bills of Exchange Using bills of exchange, itis possible to convert the sundry debtors into a negotiable instrument. A bills of exchange is nothing but an unconditional order placed by the seller to his customer, demanding him to pay the amount on the specified ‘due date for the value obtained by him. The drawer/holder of the bill is the seller of goods who is accountable to write the bills. Similarly, the drawee is the buyer of the goods on whom the bill is written. When the accepted bills are received by the drawer, it becomes bills receivable for hiv her. Likewise, it becomes bill payable for acceptor. While bills receivable isa current asset (like sundry debtors), the bills payable is current liability (like sundry creditors). Q21. Give a comparison of different long-term sources of capital. Answer : Model Papers, a3(a) The following table shows the comparison between different long-term sources of capital, The market value of equity | There is no frequent change in| There is no frequent change in shares changes frequently with | preference shares. debenturevloans. time. No conversion is possible here. | In preference shares, conversion | Conversion is possible here. is possible. Equity shareholders have the | Preference shareholders donot | There is no voting right here. voting right. have any voting right. Its maturity is permanent. _ | Itis converted into equity shares | It is converted into equity shares when the maturity period ends. | when the maturity period ends. ‘There is aresidual claim. | There is no residual claim. __| There is no residual claim It is given last preference in| In income distribution, it ]In income distribution, it has income distribution atthe time | has preference over equity | preference over the preference ‘of company shut-down. shareholders and also at the] shareholders and at the time of time of company wind up. | company windup. There is fixed percentage of There is fixed percentage of interest. dividend.1.12 BUSINESS ECONOMICS AND FINANCIAL ANALYSIS [JNTU-HYDERABAD] 1.6 NON-CONVENTIONAL SOURCES OF FINANCE Q22. What are non-conventional sources of finance? Discuss in detail about lease financing. Answer : Non-Conventional Sources of Finance The sources which are different from the traditional ‘sources are considered as non-conventional sources. The various ‘non-conventional sources of finance are, ‘Non-Conventional Sources of Finance Lease Financing/Lease According to James C.Van Home, "lease is a contract whereby the owner of an asset (lessor) grants to another party (lessee) the exclusive right to use the asset usually for an agreed period of time in return for the payment of rent”. Leasing is an agreement which is made between two parties i¢., the leasing company or lessor and the user or lessee ‘wherein the former makes arrangement to buy capital equipment for the usage of the latter for a pre-determined agreed period of | time in return for the payment of rent. ‘Types of Leasing The following are the different types of leasing, 1. Fimancial Lease The financial lease, usually covers the complete economic life of the asset. Infact finance lease is also known as capital lease. Finance lease is generally non-cancellable in nature and the lesser provides for the proper asset maintenance. From the lessee’s perspective it has been viewed that the finance lease assures the lessee an uninterrupted use of the asset. 2. Operating Lease ‘An operating lease is an agreement where in the lessee obtains the use of an asset on a periodical basis, During the lease period, the lease rental payable by one lessee is insufficient to completely cover the asset cost plus return. Therefore, the present value of lease payment is usually lower than the actual price of the asset. 3. Cross Border Lease Across border lease refers to the situation when a lessor leases an equipment to a lessee who does not come under the jurisdiction of the lessors territory. Under the cross border Tease, the attitude of the parties changes on the basis of the circumstances in the international capital market. 4. Leveraged Lease ‘When the lessor borrows a part of the purchase price from any leading institution, then such a lease is known as leveraged lease. For costly assets, the leveraged lease may be more useful 5. Sale and Lease Back Under this lease, firms sell its assets to the leasing company at the market price and take it back on lease, but the title of the asset remains with the lessor. Q23. List out the advantages and disadvantages of lease. Answer : Advantages of Lease Few advantages of leasing are as follows, 1, Allows Alternative use of Funds ‘Aleasing arrangement enables the firm to use and control the asset without investing huge capital. The firm is supposed to make only the periodical rental payments. 2. Faster and Cheaper Credit (On the basis of the tax structure of the lessee, it costs usually less than the other methods of obtaining an asset. It also enables the firms to obtain new equipment without undergoing any formal scrutiny method. 3. Flexibility The leasing arrangements may be designed greatly as per the requirement of the lessee. The lease can be designed in order to meet the lessees cash flows. The leasing can be avoided ‘during those months where the cash flows are below the expected level 4. Protection Against Obsolescence ‘A irm would be able avoid the risk of obsolescence by entering into operating lease agreement. This is greatly useful for those assets which become obsolete very quickly. 5. Hundred Percent Financing The lease financing helps the firm to use the asset without making any down payment i¢., 100% financing is being guaranteed to the lessee. Disadvantages of Lease The following are the disadvantages of leasing, 1, Nota Suitable Mode Incase of project finance, leasing is not considered as a suitable mode. 2. Less Benefits Few tax benefits/incentives like the subsidy would not be present on the leased machinery or the equipment. 3. No Capital Gain During Lease Period During the lease period, the value of real assets like land and building would increase. Therefore, in such a case, the lessee ‘would not get the benefit of a prospective capital gain 4. High Cost The cost of leasing is usually greater than that of debt financing, 5. Heavy Fines ‘A manufacturer who wants to discontinue a certain business would not be in a position to end the contract except by paying heavy fines. If in case it is owned asset, then the manufacturer can sell the equipment.UNIT-1 Introduction to Business and Economics 1.13 24. Discuss in detail about hire purchase system. Answer : Hire Purchase Under hire purchase system, two parties i.e., hire purchaser and hire vendor enter into an agreement to let or hire the goods on hire basis. Hire purchase agreement is similar to the contract of ailment but here, the hire purchaser possesses the ‘option of acquiring the goods on payment of last installment, Advantages to Hire Purchase System The main merts/advantages of hire purchase system are, 1. Easy Way to Own Expensive Goods In hire purchase system, people can fulfill their dream of ‘owning luxurious and expensive goods such as cars, machineries, and so on. 2. Easy Mode of Payment In this method, goods are paid in the form of ‘monthly installments which is an easy mode of payment. 3. Imereases Sales People who get attracted are facilitated to valuable goods through the hire purchase financing which also increases the sales of valuable goods in the market. 4. Builds Good Relations Good relationship is established between the buyer and seller due to regular transaction and it helps the seller to get the information about the goods. 5. Improves Standard of Living In hire purchase transaction, there is rise in sales which results in inerease of production, employment, income and standard of living, 6. Payment in Installment In hire purchase, payments are made in installments, which requires less capital in business. So business can be ‘operated easily Limitations of Hire Purchase System Some of the main limitations/disadvantages of hire purchase system are, 1. Additions Ina hire purchase transaction, a buyer has to pay ‘additional charges which are usually more than the actual price of goods. 2. ‘Transfer of Ownership In hire purchase, ownership is transferred after the payment ofthe last instalment. During installments, ifthe buyer sells oF mortgages the goods, then the new party is devoid of ‘getting a better ttle 3. Legal Formalities Seller is entitled to take back the goods from the buyer in case of default in the payment of hire purchase installment. Because, seller has to face a lot of difficulty in fulfilling the legal requirements. 4. Problem of Correspondence and Problem of ‘Accounting Hire purchase system results in more expenses, if it involves selling of goods to customer who are living in remote areas. Asa result, it creates problem of correspondence and also the problem of accounting 5S. Incurs Losses Eventhough seller can take back the goods let out on hire purchase on account of default payment installment, he has to incur actual loss as goods taken back may not yield reasonable price on resale. 6. Problems to the Society Itis easy to get expensive things through hire purchase traders, People of medium and lower income group get attracted to luxury goods and even purchase unnecessary goods. They curtail other necessary expenses which results inthe loss tothe society. 25. Define factoring. What are the different types! forms of factoring? Explain. Answer : Factorin According to Intemational Institute for the Unification ‘of Private Law (Rome), “factoring is defined as an arrangement between a factor and his client which includes atleast two of the following services to be provided by the factor i., finance, ‘maintenance of accounts, collection of debts and protection against credit risk ‘Types/Forms of Factoring ‘The important forms or types of factoring arrangements are as follows, 1. Recourse and Non-recourse Factoring In recourse factoring arrangement, the factor has recourse to the client when the debt purchased/teceivables factored become irrecoverable. The factors do not bear the credit risks involved in the receivables. In case, if the customer defaults in payment, then the client has to take the responsibility of ‘compensating the loss incurred by the factor. The factor is authorized to recover the amount which is paid in advance from the client ifthe customer does not pay on maturity. In case of non-recourse factoring, the factor does not hhave the right of recourse, The loss incurred from irrecoverable receivables is actually bore by factor. So inorder to compensate such loss, he fixes very high commission. The additional amount ‘which is charged by him asa premium for risk-bearing is termed as del eredere commission 2. Advance and Maturity Factoring ‘The factors pay a pre-mentioned part of the factored receivables in advance in the range of three-fourths to ‘nineteenths, and the balance being paid on the collection on the ‘guaranteed payment date, The factor sets a drawing limit as a pre-payment after the factored debts are approved. The client needs to pay interest on the advance/repayment between the date of such payment and the actual date of collection from the ‘customers/or the guaranteed payment date which is ascertained based on the existing short-term rate, the financial position of the client and the volume of the turnover.1.14 BUSINESS ECONOMICS AND FINANCIAL ANALYSIS [JNTU-HYDERABAD) Maturing factoring is also called as collection factoring, But in such type of arrangement, factor does not make any pre- repayment to the client. Such payment is made on the guaranteed payment date or on the collection date 3. Full Factoring Full factoring is also called as old-line factoring. It is considered as the most detailed form of factoring which integrates the features of each factoring services particularly non-recourse and advance factoring, It offers the complete range of services such as collection, credit protection, sales ledger administration and short-term finance. 4. Disclosed and Undisclosed Factoring The supplier-manufacturer of the goods discloses the name of the factor in the invoice in the disclosed factoring by requesting the buyer to make payment to the factor. The supplier without passing the risk tothe factor may continue to bear the risk of non-payment by the buyer. The factors usually bear the risk in non-recourse arrangements In undisclosed factoring, the name of the factor is not disclosed in the invoice even though the factor prepares the sales ledger of the supplier-manufacturer. The whole realization of the business transaction is carried out in the name of the supplier ‘company but all the other control remains with the factor. 5. Domestic and Export/Cross Bord Factoring In domestic factoring, three parties are involved i.e, ‘customer, client and factor, who usually live in the same country. The export factoring process is same like the domestic factoring process except the parties which are involved. Domestic factoring mainly involves three parties, but four parties are involved in a cross-border factoring transaction i.e. exporter, importer, export factor and import factor. International factoring is also known as two-factor system of factoring system. Q26. What are the advantages and disadvantages of factoring? Answer : Advantages of Factoring ‘The advantages of factoring are as follows, Increases the Scope of Operating Leverage Factoring assists in enhancing the scope of operating leverage. 2. Provides Improved Return ‘As factoring provides highly improved return, many users are attracted towards it. 3. Improves Firm's Liquidity Factoring improves the liquidity of the firm by assuring efficient working capital management. 4. Helps in Meeting the Liabilities Quickly ‘The accelerated cash flows assists the clients to meet the iabilities quickly when required. 5. Provides Insurance Against Bad Debts ‘The factoring helps in making quick payments and credits by offering insurance against bad debts. 6 Prevents Delays and Wastage of Time Factoring assures continuous flow of important information for decision making and follow-up. It helps in avoiding delays and wastage of man hours. Disadvantages of Factoring ‘The various disadvantages of factoring are, 1, Indicates Management's Inefficiency ‘The adoption of a factor may indicate inefficiency of the ‘management of the firms receivables, 2. Redundant In case of a nation wide network of branches, factoring may prove to be a redundant, 3. Difficulty in Evaluating the Client Itis very difficult to evaluate the clients financially 1.7 ECONOMICS - CONCEPT AND SIGNIFICANCE Q27. Define economics. Discuss its nature and scope. Answer + Economics ‘The following are some of the definitions of economics, 1, According to J.S, Mill, "Economics is the practical science of the production and distribution of wealth”. 2. According to Harvey, "Economics is the study of how men allocate their resources to provide for their wants", ture of Economics ‘A human being requires many goods and services for survival. The primary goods that a human being consumes include the basic necessities such as water, food, clothes and house. Apart from these basic needs, we like to have other luxurious goods such as cars, diamonds and big bungalows. The services that a human require include health services, education and social security ete All the goods and services are combinely called as ‘commodities. These commodities are produced and distributed in huge amounts all across the world. To produce and distribute such commodities, companies may take several millions of decisions. These commodities not only satisfy the human requirements, but also provide pleasure to the individuals. It is the challenge for the society to acquire the material resources to meet the requirements of individuals.UNIT-1 Introduction to Business and Economics 1.15 To produce the commodities, the economic resources such as land, labour, capital and entrepreneurship are used. These resources are known as factors of production. As these resources are available in limited amount, the society can produce the required commodities in limited amount. Thus, there arise a problem of making specific choices and economics is the study of process wherein the scarce resources are assigned to meet the requirements of society. Scope of Economics According to Stonier and Hague, the economics covers the following subject matters, 1. Economic Theory Economic theory is the theoretical part of economics. Static economics and dynamic economics are the two parts of economic theory. Economic theory is also known as “economic analysis”. 2. Applied Economics In applied economics, the outcomes of economic analysis are applied to descriptive economics. The various examples of applied economics includes managerial economics, industrial economics and agricultural economics. 3. Descriptive Economies Descriptive economics involve considering the actual facts relating to a specific economic subject for the purpose of study. A good example of descriptive economics is the Indian economics. Q28. Discuss the significance of economics. Answer : Economics play an important role in the life of an individual as well as society. Today, economics is concemed with everyone whether he is a businessman, an employee, an advocate, a tailor, a banker or a labourer. Its significance is apparent in both theoretical and practical terms. ‘Theoretical Importance The theoretical importance of economics is discussed as follows, 1. Developing Analytical Attitude Economic analysis helps in studying different data relating to economic events. As economics is a science, it develops logical thinking to deal with different economic problems. 2. Enhances Knowledge The various concepts such as employment, national income, capital formation, savings, investment, consumption, price mechanism, demand and supply etc can be better understood with the help of economics. Practical Importance Some of the benefits provided by economics to the various sections of the society are, 1, Benefits for the Consumers All the consumers have limited resources to meet their unlimited requirements. Economics is advantageous to the consumers as it helps them to utilize their available funds effectively. 2. Significance for Workers The economic analysis allows the workers to understand, the notion of wages and makes them aware of their importance in production process. This encourages the workers to discuss their problems with management and protect themselves from the unfair treatment 3. Importance for Academicians Asascience, economics provides scientific point of view. Economic theories not only explain the concept of production, consumption, distribution and investment, but also discuss the different economic problems, their causes, effects and their solutions. 4. Significance for Producers The major factors of production include land, labour, enterprise and capital. As the producers are interested in producing large quantity of goods at less cost, the economics helps them in determining the remuneration of different factors of production i.e., wages to workers, rent to land, profit to ‘entrepreneur and interest to capital. Iteven assists the producers to set the price of the commodity. 5. Significance for Politicians Itis essential forthe politicians to have a good knowledge of different economic problems like increasing poverty, rising prices, unemployment and economic development of different sectors and regions. The politicians make the wrong use of statistics to prove their viewpoint and they do not highlight the real situations. 6. Effective Man-Power Planning The major problems of the developing economies are unemployment, over population and under-utilisation of resources. Using economics, effective plans can be made regarding the proper utilization of adult people. 7. Significance for Administrators ‘The administrators are the ones who formulate fiscal and monetary policies, so itis important for them to know the theories of finance and taxation. This allows them to better ‘understand the sources of public revenue and debt. 8. Helpful in Fixing Price Economic theories relating to value and equilibrium advise the producers to increase their output to a limit, where ‘marginal cost is same as marginal revenue. To set the price in different conditions, these theories provide assistance to the ‘manufacturers.1.16 BUSINESS ECONOMICS AND FINANCIAL ANALYSIS [JNTU-HYDERABAD] 1.8 micro AND MACRO ECONOMICS CONCEPTS 29. Whatis microeconomics? Discuss its objectives, ‘scope, importance and limitations. Answer : Micro Economics (or) Elementary Theory of Price According to Professor Boulding, micro economics is “the study of particular firms, particular households, particular individual, particular commodities. It mainly deals with the analysis of price determination and resource allocation to specific uses”. According to Left Witch, “Micro economics is concerned in the economic activities of such economic units as consumers, resource owners and business firms” Objective of Micro Economics ‘The objective of micro economics is to study the policies, principles and problems related to the optimum allocation of resources. Scope of Micro Economics ‘fier the world has experienced great depression of 1930, the theory of value and distribution was given higher significance and the micro economics was referred to as the theory of prices. Price and value theory, the theory of the houschold, the theory ‘of firm and industry, the production and welfare theory are ‘considered as a part of micro economics. Hence, the micro economics studies the following, 1. Theory of product pricing with its two elements, the theory of consumer behavior and the theory of production and cost. 2. Theory of factor pricing with its four elements ic. the theory of wages, the theory of rent, the theory of interest and the theory of profits. 3. Theory of economic welfare. 4. Theory of international trade. Importance of Micro Economics The following points helps in understanding the importance of micro-economics, 1, Helps in Understanding Free Enterprise Economy Micro economics is an essential method which facilitates in understanding operations of free enterprise economy. 2. Provides Analytical Tools Micro economics facilitates the firms by giving the analytical tools such as price or market mechanism for analysing the economic policies of the state. For instance, in India the prices of public utilities such as postal services, railways, electricity, water are determined on no-profit-no-loss basis which in turn affects the prices of other goods and services. 3. Helps in Effective Utilization of Searee Resources Micro economics is concemed with effective utilization of scarce resources, 4. Helps to Understand Positive Effects of Tax Micro economics provides a clear understanding to the people about the positive effects of the tax. 5. Helps to Analyse Economic Welfare Micro economies can be utilized for the analysis of economic welfare (i.,social welfare. assists in understanding \hether the individuals are satisfied with the goods and services which they are consuming. Limitations of Micro Economies The limitations of micro economics are as follows, 1 Uniformity in the Conditions The conditions prevailing in the individual units may not be uniform, 2. Unrealistic Assumptions The main limitation of micro economics is its full ‘employment assumption. Attaining full employment is unrealistic and this makes the micro economic analysis method unrealistic. a \-Existance of Laissez-Faire Policy ‘One of the assumptions of micro economics isthe policy of laissez-faire which does not exist in the current modern world, 4, Impractical Micro economics does not give the exact explanation of the real world, 5. Narrow Scope There are some economic problems which cannot be solved with micro economics Q30. What is macro economics? Discuss its objective, scope, importance and limitations. Answer : Macro Economics/Theory of Income and Employment Macro Economics is the study of the aggregates. It is also known as “Aggregative Economics”. According to Kenneth E. Boulding, “Macro economics deals not with the individual quantities as such but with aggregates of the quantities not with the individual in crores but With the national incomes, not with individual price but with the price level, nt with individual outputs but with the national comput.” According to Gardner Ackl with economic affairs in the larg “Macro economics dealsUNIT-1 Introduction to Business and Economics 1.17 ‘Objective of Macro Economies ‘The objective of macro economic is to study the policies, principles and problems related to the full employment and development of economic resources. ‘Scope of Macro Economies Macro economics is the study of aggregate or averages of complete economy like total employment, national income, ‘ational output, total investment, total consumption, total savings, aggregate supply, aggregate demand and general price level ‘The study of macro economics is necessary for understanding the working of the economy. Macro economics is also called the “theory of income and employment”. It is the study which determines the reasons of ‘unemployment and helps in taking different corrective actions. It analyses the impact of investment on total income, output and aggregate employment. It is extremely helpful in assessing the general price level and in recommending suitable measures for controlling the ill effects, international trade, problems of balance of payment and foreign aid and their effect on the domestic ‘economy and growth of the economy. Hence, macro economics concentrates on determining the problems of a country’s total income and cases ofits fluctuations Importance of Macro Economics ‘The following points help in understanding the importance of macro economics, ‘Acts as an Important Tool Macro economics is an essential tool for the formulation and implementation of economic policies. 2. Helps to Understand Complex Economic Systems ‘To have a clear understanding of detailed and complex economic system, the study of national aggregates such as income, ‘output, expenditure, saving and investment is very essential. 3. Helps in Studying Economic Growth ‘The development of macro economics resulted in the study of economic growth which in tun assists in analyzing and understanding the problems of under developing economics. The macro economic analysis facilitates in analyzing the income generation process and in ascertaining the factors that speed up the economic efficiency. 4, Focuses on Welfare of the Society ‘The growth of the society and its welfare cannot be measured in micro economics. Only macro economics is capable to do it, since its major objective is the welfare of the society. S. Helps in International Comparisons Macro economics provide information concerning aggregate demand, national income, consumption and saving of various ‘countries. This in tum helps in making international comparisons, Limitations of Macro Economics ‘The limitations of macro economics are as follows, 1, The main risk involved in macro economics is the risk of extreme generalization from individual experience to the entire system. 2. The problem of macro economics is its excessive emphasis on aggregates which may not be uniform. 3. The aggregates may not be able to affect all the sectors of the economy in a similar manner. 4, The concept of aggregates results in the human perception that there will be no changes in the economy and no new policies will be introduced in the economy. 5.___Incertain cases, the measurements of aggregates leads to al problems. Q31. Distinguish between Micro and Macro Economics and show their interdependenc: Answer : Differences Between Micro and Macro Economics Following are the differences between Micro and Macro Economics,Criteria Definition Nature Scope Importance Application Theoretical orientation Source of principles Conceptual framework Tools 10, | Assumptions BUSINESS ECONOMICS AND FINANCIAL ANALYSIS [JNTU-HYDERABAD] Micro Economics Micro economies is the study of the individual's ‘consumer behaviour, Micro economics is both analytical and theoretical in nature. ‘The scope of micro economics is limited as it deals, with individual level only. Micro economics is important in resource utilization, public finance and in making business decisions It is applied in both the operational issues (or the internal environment) and extemal issues (or external environment), Micro economics deals with distribution theories along with the economic theory. Micro economics is based on the principles and assumptions of economic theory. ‘The concepts of micro economics are independent in nature. The tools of micro economies include economic analysis, profit management units etc. Micro economics provide certain assumptions of ‘economic theory. “Macro economics is the study of the aggregate or total economic activity of the country. Macro economics is both theoretical and practical in nature. ‘The scope of macro economics is wide as it deals with aggregate economic behaviour. “Macro economics is important in the formulation of| economic policy for the nation as a whole. Itis applied in the business environment or external environment. It deals only with economic theories. Macro economics is based on the principles of economic theory. ‘The concepts of macro economics are interdependent ‘on one another. ‘The tools of macro economics include the national income analysis balance of payments, theories of employment and so on, “Macro economics provide both assumptions as well as principles of economic theory. Interdependence of Micro and Macro Economics Both micro economics and macro economics are considered to be equally important for the study of economics and are related to each other. According to Samuelson, “There is really no opposition between micro economics and macro economics. Both are equally vital. And you are only half educated if you understand the one while being ignorant of the other”. The relationship between the two can be explained as follows, (i) For studying micro economic analysis, one has to rely upon macro economics. For example the decision regarding price ‘of a commodity depends not only on demand for and supply of that commodity but also depends upon demand and supply of other commodities. (ii) ‘The study of micro economics analysis is essential to study macro economic analysis. For instance, for understanding the functioning of the whole economy, studying the functioning of the individual units is essential. (iii) Neither of the two approaches can be ignored. If ignored, then results will be incomplete. ‘Thus, both the micro economics and macro economics are complementary to each other and are interrelated. 1.9 NATIONAL INCOME - CONCEPTS, IMPORTANCE AND PROBLEMS IN MEASURING NATIONAL INCOME Q32. What is national income? Examine the concepts of national income. Answer : Model Papers, 23(b) National According to Paul A. Samuelson, "National income or producti the final figure you arrive at when you apply the measuring rod ‘of money to diverse apples, oranges, battleships and machines that any society produces with its land, labour, and capital resources”. The concept of National Income can be interpreted in three ways. It is a total receipt, a total expenditure and it results ‘out ofthe fact that expenditure by one is a receipt by another. The rate of growth of national income indicates whether economy is improving, stagnant (constant) or declining. A growth in national income indicates that there is a faster growth in per capita income and the standard of living of people is improving.UNIT-1 Introduction to Business and Economics 1.19 ‘Concepts of National Income There are many concepts/determinants of national income. They are as follows, 1, Gross Domestic Product (GDP) Gross Domestic Product (GDP) is a measure of national income which is often used in macroeconomic analysis and policy formulation, GDP is the total flow of goods and services produced by an economy at market prices within a specified period of time, a year, In other words itis the money value of the final products produced annually by an economy at the market prices. It is obtained by an aggregate value of goods and services produced at market prices. It is represented as, GDP =GRO+ (Ey -M) Where, GRO = Gross Retained Output E,= Exports M= Market price. GDP can also be defined as the difference of income eamed locally by non-residents ofa nation (foreigners) and the income ‘eared by the residents of a nation in other countries at market price. ie, GDP=M, +1, -1, Where, M,= Market price of good and services produced by the residents in the nation. 1, = Incomes earned in the country by foreigners. 1= Incomes earned by the residents of the nation in other countries. 2 Gross National Product (GNP) Gross National Product (GNP) is the sum of market value of all final goods and services that are produced in a country uring a given period of time, usually one year. It isthe sum of gross domestic product at market prices and Net Factors Income from Abroad (NFIA)/other countries, ie, GNP = GDP + NFIA Where, NFIA = Net Factor Income from Abroad, GNP can also be defined as the sum of factor payments like wages, interest, profits, rent and depreciation. Thus, itis also called as "GNP at factor cost’. Gross National Product (GNP) is the money value of all goods and services generated within a country and as well as ‘outside the country. 3. Net National Product (NNP) and Net Domestic Product (NDP) Net National Product (NNP) and Net Domestic Product (NDP) are the concepts of national income that play a vital role in microeconomic analysis. It is represented as, NNP = GNP - D Where, D = Depreciation, NNP is the net of depreciation Net Domestic Product (NDP) isthe difference of gross domestic product and depreciation in the course of production. ie, NDP= GDP-D NNP and NDP are the measures ofthe national income that are available for consumption and net investment to the society. Net National Product (NNP)= GNP — Depreciation Net Domestic Product (NDP) = GDP - Depreciation. 4. Real and Nominal National Income ‘When national income is expressed in terms of current prices iti called ‘nominal national income’. But, when itis expressed in terms of constant prices of prices prevailing inthe base year, i is called ‘ral national income’. 5. — Per Capita Income Per capita income is the average income of the individuals in a nation for a specific period of time, Per capita income is siven by, Per capita income of a year ~ National income of that year Population of that year1.20 BUSINESS ECONOMICS AND FINANCIAL ANALYSIS [JNTU-HYDERABAD] 6. Personal Disponsable Income/Disposbale Income Personal disposable income refers to the income which the people get actually to spend. It isthe total income that actually remains with the individuals to dispose off as they wish. Personal disposable income is given by, Disposable income = Personal income ~ Personal taxes 7. Net National Product (NNP) at Market Price It is obtained by deducting the depreciation in the course of production from gross national profit at market price. “+ NNPat market price = GNP at market price ~ Depreciation 8. Net National Product (NNP) at Factor Cost Net national product at factor cost is the net output obtained at factor prices. NNP at factor prices is obtained by deducting, indirect taxes and adding subsidies to NNP at market price. “+ NNP at factor cost= NP at market price ~ Indirect taxes + Subsidies = GNP at market price ~ Depreciation ~ Indirect taxes + Subsidies ). GDP at Market Price ‘GDP at market prices is defined as the sum of gross values added by all the producers within the country at market price, inclusive ‘of taxes minus subsidies on imports. 10, GDP at Factor Cost GDPat factor costs the sum ofthe net value added by all the producers within the country, plus depreciation during an accounting Year. GDP at factor cost is given by the formulae, GDP at Factor Cost = GDP at Market Price ~ Indirect Taxes + Subsidies 33. Explain the importance of national income. What are the various problems involved in measuring national income? Answer : Importance of National Income ‘The importance of measuring national income can be understood by analysing the following aspects, 1. National income data is one ofthe basic requirement for analysing the various phases of business cycles 2. Ithelps the government in formulating appropriate plans and policies. 3. It facilitates in estimating the level of economic development of a country ic., whether a specific country has an under developed, developing or a less developed economy. Itis helpful in comparing the economic growth of one country with other. Per capita income of a country can be computed by measuring the income. ‘Through national income, it is easy to calculate the real economic growth and the standard of living of population at large National Domestic Product (NDP) is helpful in determining the economic development ofeach state within a country. This facilitates in doing comparison of economic growth of one state with other which is essential for determining the regional imbalance of states, Problems in Measuring of National Income ‘The various problems involved in measuring national income are as follows, 1, Lack of Sophisticated Methods As computation of massive volume of data requires innovative use of advanced methods but most of the developing economies such as Indonesia, India and Peru lacks technical knowledge which is very important for the estimation of national income. 2. Problem of Expertise Absence of experts such as statisticians, analysts, programmers, researchers and others makes it difficult to compute national 3. Provision of False Information In order to avoid high personal income taxes, some businessmen and self-employed people don't show their actual earnings. This will lead to miscalculation of national income. 4. Problem of Estimation ‘As the estimation of depreciation and imputed rent differs from country to country, its overestimation and underestimation distorts the actual value of national income of a country. 5. Problem of Measuring Quality While estimating national income, statistician/experts need to consider both the quality and quantity of goods and services. However, the main problem associated with the actual measurement of national income is the absence of absolute or standardized indicator for measuring quality.UNIT-1 Introduction to Business and Economics 21 1.10 MONEY SUPPLY 34, What is Money? What are the characteristics and functions of money? Answer : Money Money is a medium of exchange for people to trade ‘Some of the characteristics of money are as follows, 1. Money is Generally Acceptable ‘The most notable feature of money is that itis acceptable twall 2. Not Necessary to Have a Physical Attribute It is not necessary that money should have a physical attribute. Today, the most essential form of money is the money in the banks which does not have any physical existence. though itis only the figures in the accounts, everyone accept it for different reasons. 3. Money can be Stored Money can be stored without any decrease in its value provided the prices remain same or unchanged, so ithas almost stable value. 4. Money is Divisible ‘One can divide the money in small units and there will be mo change in the value of each unit. This was impossible in barter system and very difficult in case of metals. 5. Money is Homogenous Money is homogenous across the country. Because of its homogenous attribute, there is no issue of weight, value or standardization. 6. Money is Widely Recognised ‘The residents in a nation are lawfully forced to accept the currency for any use. Few currencies like US dollar are recognised outside their national boundaries. Functions of Money Following are the functions of money: 1, Medium of Exchange ‘The drawbacks of barter system led to the evolution of money. The base for exchange in barter system was dual coincidence of wants. The principal function of money is that is the suitable medium of exchange. 2 Store of Value ‘One can store money for future use without any degradation when compared to other goods which can be stored only for specific period. So, money is a store of value. Money acts as a link from present to future. As gold does not undergo physical deterioration, it was used as store of value. Today, ‘money deposited in banks is safe and its value is stable because of the interest earned on it. 3. AStandard for Measuring Value ‘The main function of money is that it gives a unit of ‘measurement. To measure the comparative values of various goods, a common denominator is required. This common denominator to all kinds of goods and services is given by ‘money. Money transforms the value of all different goods into a common value, soit is considered as the standard for measuring value. 4. AStandard of Deferred Payments Money is considered as a standard of deferred payments, Usually payment for different services are made in future such as payment for post-paid mobile connections, wages and salaries of workers, electricity bills, loans etc. This would have been very complicated in the absence of money. Measurement of all payables is done in terms of the stable store of value which is nothing but money. Therefore, it is money which offers acceptable measure of deferred payments. Q35. Discuss in detail about demand and supply of money. Answer : Demand and Supply of Money Money is used for multiple purposes such as to buy a car, eatables, to pay college fee and medical service expenditure, to buy train ticket, to purchase company shares etc. There is a demand for money because the things which are of use can be obtained in exchange of money. Demand for Money ‘The reason for the demand for money can be understood if the different uses of money are known. Many theories have been put forward by economists to describe the demand for money. The theories include quantity theory of money, cash balance approach and income expenditure approach. According. to Keynes, there are three major reasons for why people hold money. (Precautionary Motive Individuals require money during emergency situations like accidents, sickness and losses. They hold the money as precautionary measure for unpredictable situations. ‘Transactions Motive People need money when they act as consumers and also when they act as producers. As a consumer, they require money in the form of income for their regular Fequirements. As a producer, they require money as a capital for the business for making investments. Hence transactions motive again has two motives ie., "Income Motive” and "Business Motive” ‘Speculative Motive According to Keynes, people require money to make profits by predicting the future value of securities and bonds. (i aii)1.22 BUSINESS ECONOMICS AND FINANCIAL ANALYSIS [JNTU-HYDERABAD] ‘Supply of Money Today money is the piece of paper with which people can purchase or obtain the things of their choice. On behalf of the ‘government, money is issued by Reserve Bank of India (RBI). Money is similar to a promissory note. A currency issued by the ‘government based on trust and confidence is called a fiduciary issue, The money will be valuable as long as people trust the ‘government. In India, the supply and control of money is carried out by Reserve Bank of India (RBI). To control money supply, an Issue Department is maintained by RBI which is separate from banking department. Concepts of Money Supply Money supply is usually indicated in two wide measures i., narrow money and broad money. Most liquid assets come under narrow money i-e., coins and notes carried by public and demand deposits in the banks. Less liquid assets such as term deposits with bank come under broad money. A variety of concepts of money supply, also called as money supply aggregates or ‘measures of monetary aggregates are as under, M, = Money with public (coins and notes) and demand deposits of public with banks. In financial system, these are ‘considered as the most liquid assets. It is also called as narrow money. M, = It includes M, and Post Office Savings Deposits. ime deposits ofthe public with banks and other deposits with RBI. Iti also called as broad money. M, = It includes M, and all other deposits with post office. M, = It includes currency in circulation, banker's deposits with central bank and other deposits with central bank. Itis also known as reserve money. Money Multiplier Its the ratio between broad money and reserve money. It is represented as, M, = It includes M, M, Money Multiplier = “77 Monetization Using the ratio of narrow money to GDP, one can calculate the monetization of money. Monetary Deepening Its the ratio of broad money to GDP. Q36. Write a note on quantity theory of money. Answer : ‘The quantity theory of money was introduced by an American Economist, Irving Fisher. This theory shows the relationship ‘between the money supply and the price level. The monetarists who were led by Fisher believe that based on the quantity of the ‘money, its value changes inversely. According to this theory, if there is a percentage increase or decrease in the quantity of money, then there will also be a same percentage decrease or increase in the general level of price. The basic equation of the quantity theory was as follows, Mv Pr (on) P= ME Where, P= General price level T= Transaction volume of goods and services -M~ Supply of currency V= Velocity with which the circulation of money takes place. The concept of velocity ean be understood from the following example, Assume that a person spent 2,000 on 10 commodities, this money is received by five sellers. Each seller would spend his ‘share on some other commodities and this process will continue. Therefore, the actual amount 2,000 keeps multiplying the number ‘of times it moves from one hand to another.UNIT-1 Introduction to Business and Economics 1.23 There has been a change in the definition of quantity ‘of money over the years. The developed definition is inclusive of all money in circulation including credit and currency. The ‘general price level can now be calculated using the following formula, MV+M ea Where, Af’ = Credit money such as cheques F' = Velocity of credit money. ‘The theory suggests that the T and V remain constant in the short run. Therefore, there will be same percentage of change in P as change in money supply. Keynes criticized this theory by saying that increase in Mf will result in decrease in V and sometimes it does not result in rise in prices 1.11 INFLATION 37. What is inflation? What are the main causes of inflation? Answer : Inflation A continuous rise in the general price level over a long period of time has been the most common feature of both developed and developing economies. Persistent inflation is pethaps the second most serious macroeconomic problem confronting the world economy today ~ second only to hunger and poverty in the ‘third world’. The persistent inflation and the problems associated with inflation have claimed more attention of the economists than any other macroeconomic problem Inflation means a considerable and persistent rise in the ‘general level of prices over a long period of time. ‘Causes of Inflation ‘The various causes of inflation are, 1. Excess supply of money 2. Demand pull inflation 3. Cost push inflation 4. Low increase in supply of goods S. Built-in Inflation, 1. Excess Supply of Money ‘The main reasons forthe rise of price is the excess supply of money because it has a direct link with rise in aggregate demand, 2. Demand Pull Inflation Inflation caused by increase in aggregate demand due to increased private and government spending, is called demand pull inflation. The reason for the emergence of demand pull inflation may be stated as follows, When the quantity of money increase, the interest rates fall and thus, investment will increase. This increase leads to the increase of income of the factors of production. This results in aggregate consumption expenditure which further leads to an increase in effective demand. As the economy has full employment, this will immediately rise prices and inflation prevails in the economy. 3. Cost-Push Inflation ‘This inflation is caused by drop in aggregate supply due to increased prices of inputs. Take for instance, a sudden decrease in the supply of oil leads to increase in oil prices. Producers for whom oil is a part of their costs could then pass this on to ‘consumers in the form of increased prices. 4. Low Increase in Supply of Goods Inflation aso occurs when there is alow increase in supply ‘of goods. Supply depends on factors such as technology, availability ‘of materials, government policies ete (a) Obsolete Technology and Deficient Machinery ‘Generally, countries face inflation because of their poor and ‘old technology which restricts supply. Deficient machinery is another roadblock in the growth of output. (b) Scarcity of Resources and National Calamities Many countries are notable to supply output because they don't have sufficient amount of resources for investment. ‘Supply of output is also affected by natural calamities such as floods, cyclones and droughts. 5S. Built-in Inflation Built-in inflation is caused by adaptive expectation. It reflects events in the past, so it might be seen as a hangover inflation. Built-in inflation may begin duc to continvos demand pull inflation or cost-push inflation inthe past. Built-in Inflation becomes ‘normal aspect of the economy because of the roles of wage price spiral and inflationary expectations. Q38. Define the term inflation and explain its impact ‘on the economics. Answer : ay 19,16), 0300) Inflation For answer refer Unit-l, Q37, Topic: Inflation, Impact of Inflation on Economy Inflation has an impact on various areas of economy. Following points will help you understand the effects of inflation ‘on economy, 1. Uncertainity Inflation results in number of negative effects like increase in the cost of production. Labourers make a demand to increase their wages, changes in demand and prices of the ‘g00ds, regular conflicts among the workers and so on. All these effects results in uncertainty in the economy because of which the economic development is affected badly.1.24 BUSINESS ECONOMICS AND FINANCIAL ANALYSIS |JNTU-HYDERABAD) 2. Adverse Effect on Saving Inflation decreases the purchasing power of money due to which the real value of savings is affected and hence it acts as a disincentive to the savings. 3. Unjust Inflation is regarded as ‘unjust’ as it adversely effects the social welfare, wherein the rich becomes richer and the poor becomes poorer. Although inflation may result in increased national income but still itis not considered as just because it does faster the social welfare. 4. Increase in Consumption Levels As inflation is “unjust” where the rich becomes more richer, these rich people instead of utilizing their increased income in production channel, they misuse it in conspicuous consumption, risky activities, hoardings etc., effecting the economic development adversely. 5S. _Debtors and Creditors During inflation, lenders tend to lose and borrowers are likely to gain. 39. Discuss in detail the measures to control inflation. Answer : Inflation can be controlled through various methods. The three important methods are, 1, Monetary measures 2. Fiscal measures 3. Increasing supply of goods and services. 1, Monetary Measures Inflation occurs as a result of excess supply of money. Thus, itis very important to restrict money supply to control inflation. The ‘countrys central bank uses different methods to control credit. The ‘main reason behind using monetary measures to control inflation is that there isa rise in prices due to the gap between money in the ‘hands of people and goods available for purchase. Thus, the supply ‘of money is restricted by goverment through costlier loans. The measures adopted by central bank to control inflation (Increasing the Discount Rate The edible papers offered by commercial banks are rediscounted by the central bank. This is also called bank rate, This way the credit in banks becomes more costlier and commercial banks are forced to raise their ending rates. Therefore, this makes the money costlier to public and reduces money in the hands of people and their purchasing power is thus reduced. (i) Higher Reserve Ratios Central bank uses two main ratios i.e, CR and SLR when these ratios are increased, there will be less cash left with banks to extend as credit Open Market Operations To restrain disposable income, government securities are sold by central goverment to general public. (iii) 2. Fiscal Measures Fiscal measures include, (Government revenue and Gi) Government expenditure (Public Expenditure/Government Expenditure Expenditure is an important tool used by goverment. Income of people increase when government makes more spending on activities such as transport, health communication ete. This inturn increases the aggregate demand. However, reducing public expenditure is not an easy task as many projects may be running simultaneously and one cannot stop them or reduce expenditure on them. (ii) Public Revenue/Government Revenue Government revenue is obtained from sources such as income tax, sales tax, wealth tax, customs and excise. If government decides to restrict spendings of people, it increases different taxes. When there is an increase in income tax, consumers are left with less disposable income. This way government reduces aggregate demand. 3. Increasing Supply of Goods and Services Both monetary measures and fiscal measures focus on demand side and ignore the supply side. Thus, itis also very important to increase supply besides reducing demand. For this purpose, government adopts measures such as, (Increasing imports (i) Decreasing exports of the items which are short in supply. (ii) Public distribution system (iv) Administered pricing of essential commodity groups. Government uses combination of above measures after carefully examining the causes of inflation. 1.12 Business CYCLE - FEATURES AND PHASES 240. What do you mean by business cycle? What are the features of business cycles? Discuss. Answer : Business Cycle Business cycle implies a consistent variations in economic activities of capitalist economies. It is also called as ‘Trade Cycle. Intrade cycle, expansions, recessions, contractions and revivals of aggregate economic activity takes place again and again in a constant pattern According to Keynes, “A business cycle is composed of periods of good trade characterized by rising prices and low ‘unemployment percentages alternating with periods of bad trade characterized by falling prices and high unemployment percentages”.UNIT-1 Introduction to Business and Economics 1.25 Nature/Features of Business Cycle Following are the features of business cycle that are ‘emerged from above definitions, 1. Economy Wide Phenomenon Business cycle is an economy-wide phenomenon, if one sector go through depression it quickly spread to other sectors of economy. 2. Periodicity Business cycle have wave-like variations in economic activity. In business, expansion is always followed by a ‘depression and so on. The economy is similar to pendulum as it moves from one extreme to another. 3. Repetitive ‘The fluctuations in business are repetitive in nature. They take place again and again but the time gap between them and their factors are not same. 4. Self-Reinforcing Trade cycle are self-reinforcing or cumulative in nature. ‘When cyclical movement begins in one direction, it reinforce on itself, The influence of economic crisis increases and go beyond the control of policy makers in prosperity phase. Q41. Discuss the various stages of business cycle. Answer : (Model Papert, 20) | Dec-18, (R16), 03/0) ‘The various phases of business cycle are as follows, ‘Figure: Four Phases of a Trade Cycle 1, Trough Phase/Depression In trade cycle, depression is the unfavourable phase ‘wherein output and employment have a considerable fall. According to Harberler, depression is explained as “a state of affairs in which real income consumed or volume of Producing per head and the rate of employment are fal ‘and are sub-normal in the sense that there are idle resources ‘and unused capacity, especially unused labour”. As output and ‘employment rapidly decline in depression phase, the prices and wages also fall, It is an extreme experience for both producers and the workers. 2. Expansion Phase/Recovery Recovery phase of business cycle shows the upward ‘movement of output and employment from depression phase Recovery is a result of new demand for plant and equipment that emerge from consumer goods industries. The capital goods expire afier sometime and require replacement, which results in recovery process. 3. Peak Phase/Prosperity Recovery phase has a multiplier effect because rise in output and incomes create a significant increase in aggregate spending. Due to increase in effective demand and income, the process becomes self-reinforcing. The confidence level in investors increases and helps to expand their productive activity which moves the economy to prosperity phase. According to Harberler, prosperity is “a state of affairs in which the real income consumed, real income produced and the level of employment are high or rising and there are no idle resources or umemployed workers or very few of either”. 4. Contraction Phase/Recession The prosperity phase comes to an end due to specific movements in the private enterprise economy prevailing in ‘boom conditions. (i) When price increases, wages tend to fall. This results in decline of purchasing power of workers. ‘When production is expanded, it involves shortages of some inputs and obstructions in production. ‘The factor and the product prices are increased due to excessive demand for labour and materials. (i) Due to shortages of finance, firms are forced to liquidate their stocks. When firms get into losses, the production schedules are terminated, workers are removed and orders are cancelled. ‘As time passes on, same conditions prevail in whole economy. Hence, the economic system go through crisis which starts the recession or deflation stage of trade cycle. 42. What are the causes and consequences/effects of business cycle? Answer + Causes of Business Cycle The causes of fluctuations in business cycle like expansion or contraction are due to some reasons, 1. Psychological aspects of entrepreneurs and consumers like optimistic mood and pessimistic mood. 2. Economic factors like over investment, under consumption and over savings. 3. Monetary phenomenon like changes in money supply, rate of interest, etc.1.26 BUSINESS ECONOMICS AND FINANCIAL ANALYSIS [JNTU-HYDERABAD] Consequences/Effects of Business Cycle The effects of trade cycle are explained on the basis of two phases expansion and contraction, 1. Effects During Expansion The expansion phase involves high growth along with increase in many factors like investments, employment, income and expenditure, but it also gives rise to inflation and ‘competition. @ Inflation As inflation is a by-product of growth and expansion, government is engaged in controlling inflation during expansion phase. Because, it creates unpleasant environment in the economy. (ii) Severe Competition In growth process, firms compete for their share and spend huge amount on non productive expenses like advertisement and publicity. Though firms spend huge amount of funds, GNP increases only in money terms and not in real terms. Severe competition among firms is also an effect of expansion. 2. Effects During Recession @ Excess Inventory ‘When there is fall in demand, it leads to recession. Firms which have excess inventory face many problems like ‘maintenance of unsold items, maintenance cost, decrease in investment and unemployment for suppliers of such goods. (i) Retrenchment ‘When production increases, firms recruit many people but ifthere is any fall in investment, workers are the first who are effected. Recession phase results in large scale retrenchment What is a business cycle? Discuss the phases of business cycle and list out the measures to be taken for protecting the interests of the business. Answer : (Model Paper-t, 3a) | April-18, (R16), 03) |. 040, Topic: Business Cycle. Phases of Business Cycle For answer refer Unit-1, Q41 Measures for Controlling Business Cycle The different measures available for controlling trade cycles are as follows, 1 1. Preventive Measures Preventive measures are not used for controlling the trade cycles but for reducing the probability of occurrence of the trade-cycles. Few of such preventive measures are as follows, ()_Rain-fall alone should not be considered as the main source for agriculture. The country must develop sufficient irrigational facilities. Income and wealth inequalities must be brought to the least level. ‘Nationalisation of industries in case when it is required. Attempts must be made in order to maintain balance between demand and supply. There should be proper control and regulation of the ‘monetary and fiscal policies. All business and industrial activities must be monitored carefully. 2. Formal Measures ‘The formal measures facilitate in reducing the primary reasons of trade-cycle and do not completely eliminate the primary reasons. Essential formal measures are as follows, (Monetary Policy Monetary policy consists of those measures with the help ‘of which the central bank of the country/ nation controls the supply of money and credit in the country. In order to succeed the conditions of depression, the policy of credit expansion is implemented with an aim to motivate the entrepreneurs to go for greater number of loans and to raise their investment levels, as this would further raise the production, employment and income levels too. Fiscal Policy In case of money inflation, the fiscal policy basically aims at decreasing the public expenditure. Fiscal policy consists of four important elements or parts namely, Budget Policy, Taxation Policy, Public Expenditure and Public Debt. It acts as a key ingredient in regulating the trade cycles. Fiscal policy must emphasize on increasing the demand at the time of depression. Physical Controls Physical controls consist of price support policy, price control rationing and so on. The government in the depression period must set such minimum price that the increase in price should be monitored properly. The ‘government must buy many products at a predetermined price, whereas in case of inflationary period the ‘government needs to follow the rationing policy to offer ‘goods to the consumers at affordable prices. ‘Other Measures (a) The issues of depression and unemployment must be resolved through international assistance. Eliminating market imperfections in order to climinate the technical unemployment. (i) (ii) (iv) w (vi) (i) ii) tiv) (b)UNIT-1 introduction to Business and Economics 1.27 1.13 BUSINESS ECONOMICS - CONCEPT, NATURE AND SCOPE Q44. What do you understand by business economics? Discuss its nature and scope. Model Papert 3) OR Narrate the nature of business economics. ee-18, (R16), 0300) (Refer Only Topic: Nature of Business Economics) OR Discuss the nature and scope of business economics. (Refer Only Topics: Nature of Business Economics, Scope of Business Economics) Answer : May-19, (R16), 0310) Business Economics According to Spencer and Siegelman, “Business economics is the integration of economic theory with business practice for the purpose of facilitating decision making and forward planning by management”. According to Joel Dean, “Use of economic analysis in formulating policies is known as Managerial Business Economics.” Nature of Business Economics Following points highlight the nature of business economics. 1. Business economics is confined only to a part of business management but it is not directly concemed. with the managerial problems that involve control, implementation, conflict resolution and other management strategies. Business economics mainly relies on the sound framework of traditional economics and decision sciences in analyzing the problems in a business. 3. Business economics is microeconomic in nature. Micro- economics is that branch of economics which deals with the individual units or sections (a person a firm or a group of persons or firms) of an economy. 4. Business economics is pragmatic ic. itis a practical subject. 5. Business economics utilizes some of the theories of ‘macroeconomics. In order to overcome the problems of an organization, the theories of macro-economics are used Business economics is goal-oriented and problem solving in nature. It uses the economic theory and decision- ‘making for solving business oriented problems. 7. Business economics integrates theory into practice i., it converts the theoretical framework of economics into real business practice. Scope of Business Economics The scope of business economics covers the following aspects, 1, Objectives of a Business Firm Business economics provides a sound framework by facilitating a business firm to frame its objectives both in the short-run and long-run. 2. Resource Allocation Business economics provides the methods of effective resource allocation. It mainly aims at achieving high output through limited and proper allocation of resources. 3. Demand Analysis and Forecasting It suggests the methodologies for analyzing the demand ‘of a product. The demand forecasting techniques provided by demand analysis are proven to be efficient for meeting the ‘competition. 4. Competitive Analysis The techniques provided by business economics facilitates a firm to withstand in a competitive situation 5. Strategic Planning Business economics guides a business manager in making. strategic decisions. 6. Production Management Business economics plays a vital role in production management. Its effective tools help to plan the business schedule, regulate the production process and effectively place the output inthe market. 7. Cost Analysis Business economics provide various cost concepts and. ‘cost curves that facilitate in determining cost-output relationship both in short-run and long-run. 8 Pricing Strategies Business economics provides certain pricing strategies, that are used in analyzing the price of a product and in ‘determining or setting the price of a product. 9, Market Structure Analysis The techniques and concepts of business economics analyze the market structure and guide in taking necessary decisions that are required for a firm to exist in the market. 10. Investment and Capital Budgeting Decisions The concept of opportunity cost provided by business ‘economics facilitates in making appropriate investment decisions and choose the best alternative that fits the organizational requirements. 11, Marketing Strategies Business economics provide marketing strategies like Product policy, sales promotion, segmentation, targeting and positioning of markets. 12, Profit Management Business economics mainly concentrates on the primary goal of firm ic, profit maximization. It deals with the activities like profit estimation and profit planning.1.28 BUSINESS ECONOMICS AND FINANCIAL ANALYSIS [JNTU-HYDERABAD] Q45. Discuss the importance and limitations of business economics. OR Elucidate the significance of business economics. (Refer Only Topic: Importance of Business Economics) Answer : (Model Papert, Q2(a)|Dee.-18, (R16), 210)) Importance of Business Economics Business economics mainly helps in decision-making. The following points highlight the importance of business economics, 1. Business economics presents those aspects of traditional economics which are relevant for business decision-making. For this purpose, it utilizes the economic theory, concepts, principles and techniques. 2. Business economics checks the effect of alternative courses of action and chooses the optimal course of action among several alternatives. 3. Business economics enables the manager to become more competent model builder by providing a number of tools and techniques. Business economics helps in arriving at a variety of business decisions in a complicated environment. 5. The principles of business economics provide a methodology for evaluating the efficient allocation of resources within a firm under an existing economic environment. 6. The tools developed by business economics increase manager's effectiveness by expanding and sharpening his analytical knowledge to make decisions 7. Business economics help in coordinating different functional areas of an organization to make effective decisions. 8. Business economics integrates the firm and the society by accomplishing the tasks of social welfare. Limitations of Business Economics ‘Though business economics provides solutions to various business problems, itis criticized on the following grounds, 1. Determination of demand and cost ofa particular product is not always easy duc to uncertain marketing conditions. ‘The forecast made by business economist should be accurate. But tis is not possible due to uncertain future. 3. Classifying the markets practicaly is not possible. Even taking decisions related to the market on the basis of analysis is impossible as market conditions change from time to time. 4. While dealing with ever fluctuating market conditions, manager might divert from the objectives of the firm. 1.14 ROLE OF BUSINESS ECONOMIST Q46. Explain the role of business economist. Answer : Economists play an important role in manufacturing, mining, insurance, government departments, public policy making ete, Some general roles of business economists are discussed as follows, 1. Business Analysis Business economics stress on the use of micro economic analysis in decision making. Micro economics is also important in studying the general environment of the business. Therefore, a business economist must have a good idea of the theory and practice of macro economics and micro economics together with decision making skills in different branches of a business. Business cycles have significant influence on the prospects of business and public policy keep altering atthe international and national levels It is very important for the economist to understand the effects of national and global developments on sales, costs, Prices, competition ete which are important to firm. The business economist has the ability to analyse and observe the things that are going on internally in the firm. 2 Collection and Management of Information ‘Any business decision is supposed to be made based on relevant, accurate and detailed information. The firm may not ‘be aware of or be able to control the information as almost all the information is extemal. So, the primary duty of a business economist isto collect the information related to the general business environment, technological developments, macro economic environment, internal activities, actions of rivals etc. 3. Business Performance Monitoring In performance evaluation of business firms, the business economist have a crucial function. For strategic business planning, forecasting and performance appraisal of a firm in the specific macro context is significant. For example, fa firm diverges from its fixed targets, then the cause for deviation must be deeply analysed. This helps in identifying the reasons for good and bad performance. This awareness assists in rectifying previous mistakes and to emphasize on the secret formulas of success. eeUNIT-1 Introduction to Business and Economics 1.29 4. Strategic Business Planning Contributions are made by business economists towards the strategic business planning process. They are capable of ‘creating successful planning system for the most competitive and complicated environment of global business. The function of ‘the business economist increases with the advancement of the firm. He carriers out a wide range of survey in the field of economy, industry, regulation, competition, trade and public policies. For effective implementation of the plans, he assists in developing ‘organisational structure and required management systems. 5. Business Forecasting Business economist plays an important role is predicting future business potential. The baseline of macro economic forecasts given by business economist has important relevance on the sales estimates, profit estimates, annual budget estimates. ‘As the performance of the economy and its different sectors play a key role in future business prospects, the forecasts provided bby economist assist the firms to make precise and reliable targets or decisions on inputs, output, revenue ete. 6 Other Roles (i) He performs macro forecasting for demand and supply. (ii) He performs production planning at micro and macro levels. (ii) He prepares periodical economic reports regarding future growth opportunities, product lines of company, general business, ‘market pricing situation. (iv) He performs capacity planning and determine of product mix. (W)__He checks the economic feasibility of new projects/processes. 1.15 MULTIDISCIPLINARY NATURE OF BUSINESS ECONOMICS Q47. Discuss the multi-disciplinary nature of business economics. OR Discuss how business economics is linked with other disciplines. Answer : ‘Business economics is also known as managerial economics. Managerial economics is multidisciplinary in nature as itis linked with different disciplines discussed as follows, 1. Managerial Economics and Traditional Economics Managerial economics is essentially described as the economics applied in managerial decision-making. Itis viewed as that ‘branch of economics which bridges the gap between pure economic theory and managerial practice. Economics and managerial ‘economics are concerned with the same kind of problems. They both deal with the problems of scarcity and resource allocation. Since labor and capital resources ina business firm are always limited, the best way to utilize these resources has tobe found ‘out inorder to achieve the stated organizational goals. Economics is mainly concerned with the study of types of markets, whereas ‘managerial economics is concerned with the problems like the impact of markets and technological changes on the competitive position of the organization. Managerial economics generally provides solutions to the problems regarding the working of market mechanisms through the application of economic theory only. 2. Managerial Economics and Management Theory and Accounting, Management Theory and Accounting also have a great influence on managerial economics. Managerial economics utilizes the management theories like, (i) Profit maximization theories or theory of firm. ii) Managerial theories of firm. Such as Boumol’s “Sales Revenue Maximization’ Model, Managerial Utility Models and Growth Maximization Models. Accounting is concerned with recording financial transactions of an organization. Accounting provides the cost and revenue ‘data that forms the basis forall the analysis and computations in managerial economics. In the true sense, accounting information is the main source of data required by managerial economics in decision-making 3. Managerial Economics and Theory of Decision-making Decision Theory mainly deals with the problems of selection of alternatives under the uncertainty conditions. It facilitates the manager in taking quick decisions under the conditions of multiple goals. Thus, the theories of decision-making are practical {in nature and are goal-oriented.1.30 BUSINESS ECONOMICS AND FINANCIAL ANALYSIS [JNTU-HYDERABAD] 4. Managerial Economics and Mathematics ‘Mathematics provides various sets of tools which help in the derivation and exposition of economic analysis. Many important methodologies of managerial economics rely on mathematical models. The concepts of mathematics that are used by ‘managerial economics are Geometry, Matrices, Calculus, Algebra, Logarithms, Exponential, Vectors, Determinants, Input-Output Tables ete 5S. Managerial Economics and Statistics ‘Statistical tools and techniques are of great help in business decision-making. Managerial economics mainly aims at estimating the future course of action on the basis of proper analysis of past and present data. Managerial economics uses the statistical tools like-Theory of Probability, Forecasting Techniques, Data Analysis, Regression Analysis etc, for collecting the data, analyzing and processing it, testing its validity and applying it. Statistics helps in empirical testing of theory and helps in ‘making better decisions related to demand and cost functions, production, sales or distribution. 6. Managerial Economics and Operations Research ‘Managerial economics depends upon many models and tools of operations research and quantitative techniques for business decision- making. Managerial economics aims at solving problems of decision-making whereas, operations research aims at solving ‘managerial problems. Managerial economics utilizes the tools of operations research like-Model Building, Linear Programming Models, Inventory Models, Game Theory, Optimization Techniques, Transportation, Queuing Theory, Replacement Models ete. 7. Managerial Economics and Computer Science Development of technology improved the use of computers in business undertakings. Today computers are used for ‘maintaining data and accounts, inventory control, demand and supply predictions etc. Computerization of various business activities has limited their execution time and work load on managerial personnel. So, it is quite essential for a manager to be well acquainted with computers. 8. Managerial Economics and Psychology Psychology is the basis upon which managerial economics is built. Psychology helps in understanding the behavioral implications, attitudes and motivations of macroeconomic variables such as consumers, suppliers, investors, worker or an employee which are very vital in managerial economics. 9. Managerial Economics and Organizational Behavior Organizational behavior facilitates a manager to study and develop the behavioral models of the firm by integrating the ‘managers behavior with that ofthe owner. It further analyses the economic rationality of the firm in a goal-oriented way. ee eve ee ECUay ‘Sole Proprietorship. Refer Q' 2 Micro and Macro Economics. Refer Q2 3. Business cycle and its Phases Refer O7 4. Whatis Business? Explain its characteristics. Refer 08 5. Explain the structure of business fm. Rafer 6. Explain different kinds of business entities. Refer O13 7. Evaluate partnership form of business organization. Rafer 015 8. Explain different sources of capital needed for a joint stock company. Refer 020 8. What is national income? Examine the concepts of national income. Refer O32 10. Discuss the nature and scope of business economics. Refer 044M2 BUSINESS ECONOMICS AND FINANCIAL ANALYSIS [JNTU-HYDERABAD] a onsacrivarvre RE] UNIT -1I 1. Fill in the Blanks 1 is an economic activity started with the sole objective of earning profits. is also known as joint stock company. is defined as the total income received by individuals of a nation from all the sources of income. Inflation occurs when the aggregate demand increases much more rapidly than the aggregate supply. and are the short-term sources of capital to the company. is the study of aggregates. is defined as a contract whereby the owner of an asset grants to another party the exclusive right to use the asset usually for an agreed period of time in return for the payment of rent. 8 isa science that is concerned with the production, distribution and consumption of goods/services in a society. 9. ‘The written document among the partners is referred to as 10, ___implies consistent variations in economic activities of capitalist economy. Multiple Choice 1 is an association of two or more than two persons to carryout the business jointly. C1 (a) Sole enterprise (b)_ Partnership firm (©) Limited liability company (@)_ Joint stock company 2 is the sum of market value of all final goods and services that are produced in a country during a given period of time, usually one year. tl (@) Gross National Product, (b) Gross Domestic Product (©) Gross Value Added. (@)_ Net National Product 3 phase of business cycle shows the upward movement of output and employment from depression phase 0 (@)_ Depression phase (©) Recovery phase (©) Prosperity (@) Recession 4. is not a long-term source of finance for a company. (3) (a) Debentures (b) Shares (©) Loans (@) Commercial paper 5. GNP stands for, Cy (a) Gross Net Product (b)_ Gross National Product (©) Gross National Production (@)_ Gross Net Production 6A refers to the situation when a lessor leases an equipment to a lessee who does not come under the jurisdiction of the lessors territory. tl (@) Financial lease (©) Operating lease (©) Cross border lease (@)_ Leveraged lease 7 is also known as odd-time factoring fe] (a) Recourse factoring (b) Maturity factoring (©) Disclosed factoring (@) Full factoring