Economics
Q1. Managerial economics refers to the
integration of economic theory with business practice. It deals with
application of economic principle to the problems of business firms it modifies
or reformulates already existing economic models to suit the specific
conditions and serve the specific problem of the business firms .it helps to
solve real complex business problems using other related branches.
Definition:
According to Prof. Joel
Dean “The purpose of Managerial Economics is to show how economic analysis can
be used in formulating business policies”
Nature of Managerial Economics :
· It aims in providing help in
making decisions by the firms as it
draws heavily on the propositions of macro economics
· It assists the firm in forecasting as macro economics
studies the economy at the aggregate level .It also helps to identify the level
of demand at some future point based on the
relationship between level of national income & demand for a particular
product
· It helps on those propositions
which are likely to be useful to the management, as decision has to be made
without delay. Besides more accurate forecast may not justified on cost considerations
· Managerial economics prescriptive in nature and character. It recommends that which should be done on
alternative conditions. E.g. if the
distribution of income has become more uneven it is stated without indicating
what should be done to correct this phenomenon.
·
Managerial economics to an extent is an applied
science e.g. empirical study may suggest
that for every one percent raise in
expenditure on advertising the demand
for the product shall increase
by 0.5% .
Scope of
Managerial Economics
·
Demand analysis and forecasting : Demand
forecasting is the process of finding the values for demand in future time
period. The current values are needed
to make optimal current pricing and promotional policies, while future values are necessary for planning
future production inventories, new product development etc. Correct estimates of demand is essential for
decision making , strengthening market position and enlarging profits. Regression analysis is one of the most common
methods of estimating an economic variables which are explanatory variables
with the view to estimate and credit the average value of dependent variable.
·
Cost and Production Analysis: Production
deals with the physical aspects of the business investment. It is the process whereby inputs are
transformed into outputs. Efficiency of production depends on ratio in which
various inputs are employed absolute
level of each input and productivity of each input. A production function is the relation which
gives us the technically efficient way of producing the output given the
inputs. Actually cost is the monetary
side of production . Given the production function, one can go for cost
estimation and forecasting. While the
former refers to the present period cost levels, cost forecasting refers to the
levels of cost in a future period. The
firm must undertake cost estimation and forecasting to judge the optimality of
present output levels and assess the optimal level of production in future.
·
Inventory Management: It refers to stock of raw materials which a
firm keeps. If it is high, capital is
unproductively tide up which might, if stock of inventory is reduced, be used
for other productive purpose . On the
other hand, if the level of inventory is low, production will be hampered. Hence, managerial economics with methods such
as ABC analysis a simple simulation
exercise and some mathematical models with a view to minimize
inventory cost. It also helps in aspects of inventory control and cost of
carrying them.
·
Advertising: Managerial economics helps in determining the total advertising
cost and budget, the measuring of economic effects of advertising and form an
integral part of decision making
and forward planning.
·
Market Structure and Pricing Policies: Managerial economics helps to clear surplus
and excess demand to bring market equilibrium as there is continuos
changes in market. Success
of business firm depends on correctness of price decisions. Price theory
works according to the nature of the market depending on the number of sellers, demand conditions
etc.
·
Resource Allocation: Managerial economics with the help of
advanced tools such as linear programming are used to arrive at the best course of action for
the maximum use of the available resources and its substitutes.
·
Capital Budgeting: Capital is scarce and it costs something
. Hence, managerial economics helps in decision making and forward planning
on allocation of capital to various factors of productions , marketing and
management.
·
Investment Analysis: It involves planning and control capital expenditure. Whether or not to invest funds in purchase of assets or other
resources in an attempt to make profit
and how to choose among
completing uses of funds.
Managerial economics help in analysis and decision making on the investment of funds.
·
Risk and Uncertainty Analysis: As business firm have to operate under
conditions of risk and uncertainty both
decision making and forward planning becomes difficult. Hence managerial economics helps the business firm in decision making
and formulating plans on the basis of
past data, current information and future prediction.
Q2.Law of demand is one of the important laws of economic theory .It
explains the general tendency of the consumers to buy more of a good at a lower
price and less of it at a higher price lower price attracts consumers to buy
more goods .thus law of demand expresses an inverse relationship b/w the price
and the quantity demanded of a commodity other things being equal.According to
Lipsey “A fall in the price of a commodity cause a household to buy more of
that commodity and less of the other commodity which compete with it, while
rise in price causes the household to buy less of this commodity & more of
the competing commodities”
The law of demand indicates
only the direction of change of demand corresponding the change in the price.
This can be illustrated through a demand curve. Price is measured in theY
axis&quantity in the X axis.DD is the demand curve of the good under
consideration.At price OP1the quantiy demanded is OQ1 if price of the good
falls into OP2 the quantity demanded rises to OQ2 the demand curve is
sloping downwards which is in accordance
to the law of demand all the
determinants of demand are assumed to be constant
Y
P M
P
R
I P1
M1
C
E
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O Q Q1 X
Quantity
Law of demand states the inverse relationship between price of a
commodity and quantity demanded, other things remaining the same. The demand of a commodity is more at a lower
price and less at a higher price. That is why the demand curve slopes
downward. The factors responsible for
the downward slope of demand curve are :
(a) Law
of diminishing marginal utility: The law of diminishing marginal utility states
that as the consumption of a commodity by a consumer increases the satisfaction
obtained by the consumer from each
additional unit of the commodity goes on diminishing.
(b) Income
effect: A fall in the price of the commodity increase the purchasing power of
the consumer, in otherwords the consumer has to spend less to buy the same
quantity of the commodity as before. The money so saved because of a fall in the
price of the commodity can be spent by the consumer in ways he likes. He will spend a part of this money on buying some more units of the
same commodity whose price has fallen.
Thus a fall in the price of this commodity increases its demand. This is called income effect.
(c) Substitution
effect: This also increases demand as a result of a fall in the price of the
commodity and viceversa. When the price of a commodity falls it becomes
relatively cheaper than other commodity whose prices have not fallen. So the consumer substitute this commodity
for other commodities which are now relatively dearer. This is know as
substitution or complementarily effect.
(d) Changes in the number of consumers: Many
people cannot afford to buy a commodity at a high price. When price of a commodity falls, the number
of persons who could not afforded at a higher price can purchase it at a
reduced price. This increases the
consumer of the commodity. Thus at a
lower price the quantity demand of the commodity increases because of
increase in the number of consumers of the commodity and vice versa.
(e) Diverse
Uses of the commodity: Many commodities can be put to several uses. The
commodity having several uses is set to have composite demand.
All the above factors are
responsible for the downward slope of demand curve. These factors explain the operations of the
Law of Demand. The important of these
factors depends upon the circumstances of the case.
Exceptions to the Law of Demand:
Under certain circumstances the inverse
relationship between price and demand does not hold good. These are know as the exceptions to the law of demand. Some of the important exceptions are :
(a)Giffen Goods: These are
special type of inferior goods. A rise
in the price of giffen goods leads to a rise in their demand and viceversa. E.g. A poor household who spends a major
portion of his money on an inferior goods like coarse grain, say bajra. If the price of bajra goes up the household
will be forced to maintain the earlier consumption level of consumption of this
good, he will be left with lesser income to spend on other commodities that he
used to consume earlier. The household
will be forced to cut down the consumption of other commodities still further
to compensate itself for the loss of consumption of bajra. Conversely, a fall in price of bajra will enable the household to release
more money for other commodities and may substitute consumption of bajra by
consumption of other superior commodities.
The bajra will be considered as gifen goods to which law demand does not
apply.
(b)Conspicuous necessities:
Another exception occur in case of such commodities as though their constant
use is because of fashion or prestige value attached to them have become
necessity of life. Eventhough their
price rises continuously their demand does show any tendency to fall.
©Conspicuous consumption: A few
goods like diamond etc. purchased by rich persons of the society because the
prices of those goods are so high that they are beyond the reach of the common
man. More of these commodities is
demanded when their prices go up very high.
The law of demand does not apply.
(d)Future changes in price: Household also act as speculators when the
price are rising, the house hold tend to buy larger quantity of the commodity
out of apprehension that the prices may go up further. Likewise when prices are expected to fall
further a reduced price may not be sufficient incentive to induce the household
to buy more. E.g. share market.
(e)Emergencies: Emergencies like war, famine, flood etc. may
negate the operations of lay of demand.
At such time the household may behave in a abnormal way. Household accentuate scarcity and induce
further price rises by making increase purchases even at higher prices during
such period. During depression, on the
other hand, no amount of falling price is sufficient inducement for consumer to
demand more.
(f)Change in fashion: A change fashion entails effect demand for a
commodity.
(g)Ignorance: Consumer’s
ignorance is another factor that at times induces him to buy more of commodity
at a higher price. This happens when
the consumer thinks that a high price commodity is better in quality than low
price commodity.
Q3. Demand forecasting is an attempt to foresee
the future by examining the past .Business firms can estimate and minimize the future risk & uncertainty through
forecasting &forward planning .It is an essential tool in developing new
products scheduling production determining necessary inventory
levels&creating a distribution system . Its essence is estimating future
events acc to the past patterns and applying judgement to those projections
.Virtually all types of national & intl organisations –Govt ,social &business engage in some type of demand
forecasting the goal of course is better mgt ability to plan &control
operations churches try to predict future revenues from member’s contributions
to develop reasonable budgets. School administrators use
Enrolment forecasts to determine faculty sizes, supplies &classroom
requirements .Demand forecasting is a crucial activity for planning survival
&growth of a corporate unit. Demand forecasts may be passive or active the
former predict the future demand by extrapolating the demands of the previous
years in the absence of any action by the firm Here the things are assumed to
continue the way they have been in the past these forecasts are used only to
assess the impact of new policies on the market while the latter estimate the
future scenario inclusive of own future actions &strategies of the firm
itself
These forecasts are more
meaningful as they take into account the likely changes in the relevant
variable in estimating future demand
here the firm manipulates the demand by
changing price,product quality etc.Demand forecasts methods vary acc to whether
they apply to a large aggregate such as
the whole economy(macro forecasts)or to a component of this aggregate such as
an industry or a co. (micro forecasts) a frequent practice is to translate
forecasts of overall levels into industry forecasts by trade associations
&to use this in turn to generate co. forecasts.However small firms cannot
afford these sophisticated techniques .
Methods of demand forecasting : The imp. Of selecting the right type of forecasting method cannot be overstated
however the choice is complicated bcoz each situation might require a different
method mgt. should be aware of the factors favoring one method over another in
a given demand forecasting situation in some cases mgr’s are interested in the total demand for a
product service in other circumstances the projection may focus on the firm’s
probable mkt share forecasts can also provide inft. on the product mix major decisions in large business houses are generally based
on forecasts on some type in some cases the forecasts may be little more than
an intuitive assessment or value judgement of the future by those involved in
the decision .Thus no forecasting method is suitable for all situations.Selection
of a forecasts has to be appropriate to the situation that is objective,
urgency data availability ,nature of the product etc. The firm can afford
acurracy level required.
Forecasting Methods
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Survey Methods
Statistical Methods
Consumer Collective Market experiment
S.M
opinion method method
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Time
series Analysis Regression analysis
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Graphical Semi-average Moving average Least
square
Survey methods : Under this approach are
conducted about the intentions of the consumers (individuals, firms or
industries) opinion of experts or of mkt .Under census survey, all consumers\
experts mkts are surveyed.While in sample survey a selected subset of them are
surveyed and through their study, inferences abt the whole popln. are drawn .These methods are usually suitable for
short-term forecast due to volatile nature of consumers intentions.New products
demand forecasting also makes use of survey approach,as data availability
problem is overcome through surveys of consumers.
Consumer Survey Method: Surveys of managerial
plans can be one of the impt. Methods of forecasting .The rationale for
conducting such surveys is that plans generally form the basis for future actions by using this method, a firm
can ask consumers what &
How much they are planing to buy
it at various prices of the product for the forthcoming time period, usually a
year. If the product happens to be a consumer good the consumers are firms or
industries using that product the survey may involve a complete
enumeration of all consumers of the
given product, whose demand is to be forecasted.
Collective Opinion Method:
Under this method(also called sales- force polling), salesman or experts are
required to estimate expected future demand of the product in their respective
territories §ions the rationale of this method is that salesman, being
the closest to the customers, are likely to have the most intimate feel of the
market i.e customer reaction to the product of the firm &their sales trends
the estimates of individual salesman are averaged or consolidated to find out
the total estimated sales the final sales forecast would emerge after these
factors are being taken into account.This method is known as the collective
opinion method, as it takes advantage of the collective wisdom of the
salesmen,departmental heads like prod.mgr sales.mgr etc&the top executives.
Market Experiments Method: Under
this method, the main determinants of the demand of a product like prices,
advt, product design, packaging,etc are identified. These factors are then
varied separately over different markets or time periods holding other
factors constant. The effect of the
experiment on consumer behaviour is studied under actual or controlled mkt
conditions which is used for overall forecasting purpose.
Statistical methods:
These methods make use of
historical data as a basis for
extrapolating quantitative
relationships to arrive at the future demand pattern and trends. The data a
may also be analyzed through econometric models. These are used for long term forecasting and
for products for larger levels of aggregation.
They are based on scientific base of estimation which are logical,
unbiased and proven to be useful.
Time series analysis: It is an arrangement of statistical data in a chronological order, i.e. in accordance with
its time of occurrence. It reflects the
dynamic pace of steady movement of a phenomenon over a period of time. Most of the variables in business, economic
and commerce be it a series related to price, production, consumption,
projects,sales, etc. at all time series data spread over long period of
time.
Graphical Methods: This
method gives the basic tendency of a series to grow, decline or remain steady
over a period of time. This method is
useful in forecasting population, demand etc.where the future is not too much different from average of the
past. Theperiod time in the trend
analysis is always long; but the concept of trend does not include short time
oscillations and fluctuations.
Semi Average Method: According
to this method the date is divided into two parts preferably with the same
number of years. The averages of the
first and second part are calculated separately. These averages are called semi averages which
are plotted as points against middle point of the respective time period
covered by each part.
Moving Averages Method: This
is a very simple and flexible method of measuring trend which consists of
obtaining a series of moving averages of successes overlapping groups of the time series. The averaging process smoothens out
fluctuation as well as the ups and down in the given data.
Least square method:The
principle of least squares provides us an analytical tool to obtain an
objective fit to the trend of the given time series. Most of the data relating to economic and business
time series conform to definite laws of
growth or decay. Thus, in such
situation, trend fittings will be most reliable way of forecasting.
Regression Analysis:This
is also a popular method of forecasting among the economists. It is a mathematical analysis of the average
relation between two or more variables in terms of original units of the
data. Here the data analysis should be
based on logic of economic theory.
Demand Forecasting of New
Products:Projecting demand of new products is different from those of
established products. This requires an
intensive study of the economic and competitive characteristics of the product.
Product Life Cycle Analysis:Many
products ar distinct when it degenerates
over the years into a common product. Innovation
of a new product and its degeneration into a common product is termed as Life
Cycle of a Product. The forecaster must
identify the phase of product cycle at which the industry is operating at the
time of prediction.
Test Markting:Under test
marketing the product is introduced in selected area often at different
prices. Th number of area selected
depends on the representatives and cost of marketing. The selected area must have an average
competition, presence of chain of departmental stores, optimum size of
population, etc. The duration of
testing depends upon the average purchase period, the competitive situation and
cost of testing.
Survey of Consumer Intention:
This method involves interviewing the
consumer by sending questionnaires to elicit replies so as to make short
term prediction of demand. Samples may
be given for this purpose. This method
is most useful when bulk of the sales is made to industrial producers. Here the burden of forecasting is shifted to
consumer.
Evolutionary Approach: The
demand for a new product may be projected as an outgrowth and evolution of an existing old product. This approach is useful when the new product
is nearly an improvement of an existing
product.
Growth Curve Approach:
Roll of growth and demand for new product may be estimated on the basis of
pattern of growth of some existing substitute established product.
Q4. Pure monopoly or
simple monopoly is a market structure in which there is a single seller of a
good with no close substitutes. Being the sole supplier of the commodity, the
monopolist has complete control over the supply of and can independently supply& can independently determine
equilibrium price &output eg.railways, electricity etc.There may be
different reasons for the emergence of monopoly few of the causes for the
emergence of monopoly are:
Natural causes: A firm may
enjoy monopoly bcoz of its control over a crucial raw material or mineral eg
petrol uranium etc.
Legal factor: A firm can
legally procure monopoly power eg patent copy right etc
Cost factor: A firm may produce at such low cost at which no
other firm can produce a commodity
Market factors: Sometimes
the size of market is so small
that it cannot accommodate more than one firm.
Heavy investment: Certain
industries like iron &steel locomotives etc need heavy investment which
only a particular firm can afford to arrange
Protection of public rights:
Motivated by public welfare&public interest the Govt. itself can assume
monopoly power eg.railways post&telegraph etc
Equilibrium of the monopoly Firm
Equilibrium of a monopoly firm is
to maximize its profits or minimise
losses. Equilibrium of a monopoly
firm is attained at that level of output at which it maximizes its profits
& minimises losses there are 2 approaches to study equilibrium of a
monopoly firm, these are (a) total revenue total cost approach,&(b)
marginal revenue marginal cost approach
(a)Total revenue total cost
approach: Acc to this approach a monopoly firm attains equilibrium when the
difference between its total revenue &total cost is the maximum at the
equillibrium point, monopolist get the maximum profit & suffer the minimum
loss.
(b)Marginal revenue marginal
cost approach: According to the marginal revenue marginal cost approach,
equilibrium of monopoly firm is obtained at that level of output at which its
marginal cost equals marginal revenue.
Monopoly price during short-run
During short run monopolist
cannot expand or contract the size of this plant nor can he change the
structure of the fixed costs. In order
to be in equilibrium of monopoly from
would like to product that level of output at which it is marginal
revenue is equal to marginal cost . In
the short run the monopoly firm may get abnormal profit and may suffer loss.
Monopoly
price during long run: The long rum
equilibrium of the monopoly firm is attained at that level of output where its
marginal cost equals the marginal lrevenue.
Monopoly in the long run gets abnormal profit. It is Los because the new firms are not allowed
to enter the market. Monopoly does not
suffer loss in the long run because all the costs in the long run are variable and these must be recovered. In case a monopoly firm fails to recover the
variable in the long run, it would better stop production and quit the market.
Q.5 Opportunity Cost: Opportunity
cost is to cost which is not actually incurred, but would have been incurred in
the absence of employment of self owned factors.As expenditure is not currently
incurred this cost is often incurred
¬ recorded in the books of accounts .Opportunity cost occupies a very
important place in modern economic analysis .Opportunity cost of any input is
the next best alternative use that is sacrificed by its present use it is
measured by the value of factors of prod used in producing a good, when put to
the next best alternative use O.C reflects the benefits we give up to select
the most preferred choice eg if a farmer decides to grow wheat instead of rice, the O.C of the wheat would
be the rice, which he might have grown rather .thus ,O.C is the cost
of foregone alternative. If he produce more of one thing, resources have
to be withdrawn from other uses as these are scrace.Implicit cost incurred by a
firm is actually the O.C of the factor owned by him by employing the factor in
the firm, the producer loses the opportunity of earning the factor income had
it been employed elsewhere. Thus the O.C of a factor input is nothing but a
potential return from the next best alternative use of that factor . O.C is
also the minimum price necessary to retain a factor in the current employment
.O.C of a good is not simply any other alternative good that could be
produced with the same factors it is
only the most valuable good, which the same factor or nearly the same value of
factors could produce. The concept of
O.C has some limitations it is only applicable to those factors which have
alternative uses thus, if no sacrifice is involved then O.C is 0,Eventhough the
actual cost or the acquisition cost or the historical cost was substantial.
Production function : It denotes an efficient combination of inputs & output
it shows for a given technological knowledge & managerial ability, the
maximum amount of a good that can be obtained from different combinations of productive
factors per unit of time or minimum quantities of various inputs required to
yield a given quantity of output thus, prod function is a catalogue of output
possibilities prices of factors or of
the product do not enter into the pro function.The pro fuction of a firm shows
the technical methods available to produce a given output of a commodity by
combining the factors of production in various possible ways. A rational
producer always uses technically most efficient method of prod a method of prod
is said to be technically more efficient than other methods, if it uses less of
atleast one factor& no more of other factor inputs to produce one unit of
the commodity.The production function expresses the way out put is produced by
inputs & the way inputs co-operate with each other in varying proportions
to produce any given output these relations between inputs&outputs
&inputs themselves are determined by technology that rules at any given
time the technology is embedded in the production function, which acts as a
constraint on decision making thus production function depicts the present
limits of the firm.A firm can produce higher output only by using more inputs
or with advanced technology at the same time, production function indicates the
manner in which a firm can substitute one input or output for the other without
altering their total amounts respectively prod function differs from firm to
firm, industry to industry any change in the state of technology or managerial
ability disturbs the original prod function .Production function can be
represented in various forms it can be represented by schedules, tables, graphs
total, average etc
Differences between Perfect
competition and Monopoly
Number of sellers:
Under perfect competition there are alarge no. of sellers each selling in a
small quantity of total supply it consists of large no. of firms. Monopoly
consists of of a single seller the total supply of the product is in the hands
of a single seller.
Nature
of the product: The product offered by the
firm in perfect competition is homogenous while in monopoly it not homogenous
i.e it does not have any substitutes
Entry & exit conditions: Entry as well as exit in case of perfect competition is said to be free
but in case of monopoly entry is assumed to be blocked .
Decision Variables:The
decision variables variable of the firm is the determination of of its
output but a monopoly has to determine
eithervits output or price.
Equilibrium: A
perfectly competitive firm equilibrium is possible only when the MC curve is
rising at the point of equilibrium but monopoly equilibrium can be very well
established whether MC curve is rising falling or remaining constant at the
equilibrium curve.
Capacity Utilisation:Perfectly competitive firm is a
long run equilibrium at the minimum point of the long average cost curve.There
are neither unexhausted economies of scale or diseconomies of large scale
production. In case of monopoly the firm may not necessarily produce at minimum
point of of the long run avg cost.
Supply curve: As
perfectly competitve firm produces where MR=Price=Rising MC the firms short run
supply curve is given by the rising portion of its MC curve over &above its
avg variable cost.A monopolist however has no unique supply curve Its maximises
its profits by producing an output at which it isMR=MC
Price output Comparision:Price charged under P.C is
invariably low than the one under monopoly assuming same demand & cost
conditions
Change in demand: In P.C an increase in the in mkt
demand will push the price&
output but it is not the same in case of
monopoly
Change in Variable cost :Increase in variable costs
shifts the marginal cost upward
reduces the output & increases the
price in both the mkt structures.
Differences between perfect competition & pure competition
Pure competition is unalloyed by monopoly elements .It is
much simpler & less exclusive concept than perfect competition
for latter may be interpreted to involve perfect in many other
aspects than in the case of absence of
monopoly .Pure competition involves purity only in one respect i.e absence of
control over the price.It is said to exist in an industry where there are a
large no. of sellers & buyers producing homogenous product. It may be found
in real life situations.
Perfect
competition is a broader term & involves absence of monopoly as well as
presence of other perfections like perfect mobility of the factors of
production , absence of transportation & selling costs etc
