INTRODUCTION TO MANAGERIAL

ECONOMICSDefinition, Nature and Scope of

Managerial Economics–Demand Analysis: Demand Determinants, Law of Demand

and its exceptions

UNIT – I(Part – 1)

DEFINITIONS Managerial economics is an offshoot of

two disciplines – economics and management

Adam Smith – economics is the subject which studies as to, how the wealth is produced and consumed as the wealth is the main objective and purpose of every human activity

He considered economics as the study of nature and uses of national wealth

DEFINITIONS Dr Alfred Marshall – Economics is a

study of man’s actions in the ordinary business of life: it enquires how he gets his income and how he uses it

He says, the main aim of economics is to promote “Human Welfare” and not wealth

Promote Human Welfare than wealth

DEFINITIONS A C Pigou – The study of economic

welfare that can be brought directly or indirectly, into relationship with the measuring rod of money

Prof. Lionel Robbins – The science, which studies human behavior as a relationship between ends and scarce means which have alternative uses

Lord Keynes – The study of administration of scarce means and the determinants of employments and income

DISCUSSIONS Economics is defined on the basis of

four major conceptsI. Wealth concept II. Welfare concept III. Scarcity concept and IV. Growth concept.

ECONOMICS

Economics

DISCUSSIONS Economics is mainly concerned with the

description and analysis of economic problems faced by individuals, organizations, nations and the world

Economics aims at giving a solution to this problem by teaching us how to 'minimize' the use of resources and or how to 'maximize' the level of output

Management of an organization uses the tools and techniques from economics to find out the correct solution to the problem in its organization

'minimize' the use

of resources and or

'maximize' the

level of output

NATURE AND SCOPE OF MANAGERIAL ECONOMICS

MICROECONOMICS This is also known as Price Theory or

Theory of Firm Microeconomics The study of individual consumer or a

firm is called microeconomics It deals with behavior and problems of

single individual and of organization. It provides various concepts for the

determination of prices of commodities, services and factors of production.

MACROECONOMICS Macroeconomics evaluates the business

environment, i.e. the total level of economic activity in a country

It deals with total aggregates, for instance, total national income and local employment

The study of ‘aggregate’ or total level of economic activity in a country is called macroeconomics

It studies the flow of economic resources or factors of production from resource owner to the business firms and then from business firms to the households

MANAGEMENT Management is the art of getting the

work done through and with the people It entails the co-ordination of human

efforts and material resources towards the achievement of organizational objectives

MANAGERIAL ECONOMICS Edurin Mansfield – Managerial

Economics is concerned with the application of economic concepts and economic analysis to the problem of formulating rational managerial decisions

Spencer and Siegel man – Business economics is the integration of economics theory with business practice for the purpose of facilitating decision-making and forward planning for management

MANAGERIAL ECONOMICS E F Brigham and J L Pappas – The

applications of economics to business administration policies

C I Savage and T R Small – It is concerned with business efficiency

Managerial Economics thus focuses on those tools and techniques that are useful in making managerial decisions

DISCUSSIONS Application of principles of economics to

solve the managerial problems (minimizing cost and/or maximizing profits)

Utilization of resources in goal oriented manner

Facilitates forward planning Helps in decision making through

analysis and research

NATURE OF MANAGERIAL ECONOMICS Integrates economic theory with

business practice for the purpose of decision-making and forward planning

Managerial economics uses micro economic analysis of the business unit and macro economic analysis of the business environment

CHARACTERISTICS Micro-economics in character Limited by macro economics Prescriptive actions - goal-oriented Part of normative economics -

consequences based on certain relations

Multidisciplinary Application in decision-making Evaluates every alternative Limitation – The theory fails at, when

the firm or buyer does not act rationally

SCOPE OF MANAGERIAL ECONOMICS

Managerial Economics •Concepts•Techniques

Managerial Decisions •Production - Cost control - Determination of price - Make or buy decisions - Inventory decisions - Capital management - Profit planning and control - Investment decisions

Optimal Solutions •Success

DECISIONS Managerial economics suggests the course of

action from the available alternatives for optimal solution to a given managerial problem

Demand Decision - demand and forecasting Cost and production decision - cost minimizing

decisions Pricing decisions - pricing methods, price

determination, differential pricing, product line pricing and price forecasting

Profit decisions – maximizing revenue or minimizing costs of productions

Capital decision - planning and control of capital expenditure

Demand decision

Cost minimizing decisions

PricingDecision Profit decisions

Capital Management Decision

SCOPE OF ECONOMICS Consumption Production Exchange Distribution

SCOPE OF ECONOMICS

Scope

DEMAND ANALYSIS Every want supported by the willingness and ability

to buy; constitutes demand for a particular product or service

The stability and growth of business is linked to the size and structure of demand

Demand, is one of the crucial requirements for the production of a product

If there is no demand for a product, its production is unwarranted and, on the other hand if the demand is high for the product, it can charge a high price

According to economists, the term 'demand' refers to

Desire to have possession and Willingness to pay for that possession Ability to pay the specified price

DEMAND

Desire

Willingness

Ability

Demand

Demand for Pizzas and Burgers:

As fast food offers variety of taste to customers the demand for fast food is on the rise, of them a few noted stores are mentioned here. The demand for fast food arises as it offers; variety, easily available, big store area so that people can sit and talk.

The demand is met by placing competitive prices and locating at populated areas

There is always a willingness by people to eat these

Thus demand is fulfilled

DETERMINANTS OF DEMAND Consumer's income Price of the product Consumer's preferences Prices of related goods Population and its distribution Consumer's expectations about the

prices and incomes Advertisement

DEMAND FUNCTIONDx = f ( I, Px, Ps, Pc, T, Sp, Dc, A, O )

Dx= Demand for x. I = Consumer's income. Px = Price of product x. Ps = Price of substitute of x. Pc = Price of complements of x. T = Measure of consumer's tastes. Sp = Size of population. Dc= Distribution of consumers. A = Advertising efforts. O = Other factors A demand function describes the relationship

between the demand for a commodity or service and its determinants

Consumer’s Income - Salary

Price of product

Price of substitute

Price of complements

Advertising efforts

Consumer's tastes

LAW OF DEMAND Other things remaining the same, the

amount of quantity demanded rises with every fall in the price and vice versa

Relationship between price and demand Example

Quantity demanded increases

with

every fall in

price

ASSUMPTIONS Law of Demand is based on certain

assumptions, which are as follows: This law assumes the income of the consumer to

be constant. Preference of the consumer is constant and he is

ready to spend for it even if it is expensive. A change in government policies will influence

demand for the product hence this law assumes a constant government policy.

No change in size, composition and sex ratio of population.

Change in weather conditions is also likely to affect the demand for a product. Therefore this law assumes a stable weather condition.

EXCEPTIONS TO LAW OF DEMAND Giffen's goods Symbol of luxury Consumer's psychology Sale during off-season Uncertain future

Giffen's goods

In economics and consumer theory, a Giffen good is one which people paradoxically consume more of as the price rises, violating the law of demand.

All Giffen goods are inferior goods but not all inferior goods are Giffen goods

Giffen goods are difficult to find because a number of conditions must be satisfied for the associated behavior to be observed

The great recession has raised the possibility that very safe financial

assets (Treasuries, cash, gold) become Giffen goods in liquidity trap

scenarios or during bad economic times. As investors fear lower returns

in equities and other investments they minimize risk by purchasing more of a low return, higher price

asset that is considered safer

Symbol of luxury

Consumer's psychology

Sale during off-season

Uncertain future

INTRODUCTION TO MANAGERIAL

ECONOMICSElasticity of Demand: Definition, Types,

Measurement and Significance of Elasticity of Demand. Price Elasticity of demand –

Factors affecting Price Elasticity of demand

UNIT – I(Part – 2)

ELASTICITY OF DEMANDThe demand function is useful for

managers as it identifies the causal variables for and the direction of their effects on the demand for their products

The manager must know the quantitative relationship between the demand for his product and its determinants for taking certain managerial decisions. This leads to the concept of 'elasticity of demand'

Elasticity is measure of percentage of change in quantity demanded to percentage change in price

MEASUREMENT OF ELASTICITY Perfectly Elastic Demand Perfectly Inelastic Demand Relatively Elastic Demand Relatively Inelastic Demand Unity Elasticity

Relative Elasticity

TYPES OF ELASTICITY There are four important kinds of

elasticity namely:1. Price elasticity of demand.2. Income elasticity of demand.3. Cross elasticity of demand.4. Advertising elasticity of demand

PRICE ELASTICITY OF DEMAND Price elasticity refers to the quantity

demanded of a commodity in response to a given change in the price of the commodity

http://www.youtube.com/watch?v=VhKI8cOaYLI&feature=player_detailpage - Open the video for better understanding

CASES The demand is said to be elastic with respect to price

if the change in quantity demanded is more than the change in price. This implies that the elasticity is more than one (e > I).

The demand is said to be inelastic with respect to price when the change in quantity demanded is less than the proportionate change in price. This implies that the elasticity is less than one (e < 1).

The demand is said to be unity with respect to price when the change in quantity demanded is equal to the change in price (e = I).

The demand elasticity is zero when a change in price causes no change in quantity demanded and the demand elasticity is said to be infinity when no reduction in price is needed to cause an increase in demand

PRICE ELASTICITY OF DEMAND Importance of Price Elasticity

A knowledge of price elasticity helps to guide a firm whether its sales proceeds, decrease or remain invariable under conditions of price variations.

It also helps the firm to estimate the likely demand for its product at different prices

Price elasticity of demand

INCOME ELASTICITY OF DEMAND Income elasticity refers to the quantity

demanded to the commodity in response to a given change in income of the consumer. It can be computed from the following formula

Importance of income elasticity : A knowledge of income elasticity of demand helps

to estimate the likely changes in demand for a product as a result of changes in national income.

It also helps us to know whether a commodity is a superior good, normal or an inferior good

Having Less Income

Having More Income

When a person has less income he tends to buy commodities that he can constitute within his limits but whereas if income is more the same person tries to spend more lavishly, which increases the demand. You can see that in the dressing here, just an example

Income elasticity of demand

CROSS ELASTICITY OF DEMAND It refers to the quantity demanded for a commodity

in response to a change in the price of a related good, which may be a substitute or a complement

Importance of cross elasticity : It is useful in measuring the inter dependence of

demand for a commodity and the prices of its related commodities.

It helps to estimate the likely effect on its sales of pricing decisions, its competitors and helpers

Substitutes

Complement

ADVERTISING ELASTICITY OF DEMAND It refers to the measurement of

proportionate change in demand in response to the proportionate change in promotional efforts. Advertising elasticity is always positive.

Importance: It helps a decision maker to determine his

advertisement outlay and necessary amount to be invested for the advertisement.

Advertising makes people aware of the product or service, which subsequently increases the demand

FACTORS GOVERNING ELASTICITY OF DEMAND Nature of the product Tastes and preferences of the consumer Time period Level of price Government policy

IMPORTANCE OF ELASTICITY OF DEMANDIt helps:

(a) to fix the prices of factors of production,(b) to fix the prices of goods or services,(c) to formulate government policies,(d) to forecast demand, and(e) to plan the level of output and price

WHY DOES THE PRICE OF GOLD RISE AND FALL? Gold is one of the oldest forms of investments available, but many

people do not understand how the price of gold is set. Whether you are interested in diversifying your assets or worried about the consequences of an economic depression, it is important to understand the factors that influence rising gold prices.

At one time, the value of gold was based on the gold standard. Under this monetary system, citizens were able to convert paper money into fixed quantities of gold whenever they wished. However, the gold standard ended on 15 August 1971 when governments were given the freedom to print as much paper money as they saw fit.

Today, the price of gold is set by the Gold Fixing. Also known as the Gold Fix or London Gold Fixing, this is a meeting of five members of the London Gold Pool that is conducted twice a day by telephone, at 10:30 GMT and 15:00 GMT. Officially, the purpose of the Gold Fixing is to settle contracts between members of the London bullion market. However, the Gold Fixing is widely recognized as the benchmark used to price gold and gold products throughout the world.

WHY DOES THE PRICE OF GOLD RISE AND FALL? People can invest in gold directly through bullion ownership or opt for

indirect investments such as certificates, derivatives, or shares. As with most other forms of investments, the price of gold is greatly influenced by supply and demand. Unfortunately, gold is rather unique in that most of the gold ever mined is still in existence and could thus enter the market at any time. This leaves the price of gold open to influences from hoarding and disposal practices.

During times of national crisis, such as a war or a serious natural disaster, the price of gold tends to greatly increase. People start to fear that their paper currency may no longer hold value, but they see gold as a stable asset that can always be used to purchase food and other necessities.

Another common factor influencing rising gold prices is the success of the real estate market. When there are low or negative returns on real estate, the demand for gold and other commodities typically is expected to increase.

Bank failures, although somewhat uncommon today, can also contribute to an increase in the price of gold. The best example of this occurred during the Great Depression, when rising gold prices due to bank failures led President Roosevelt to ban the holding of gold by private citizens.

SUMMARY1. Adam Smith, the father of modern economics told that

economics is the study of wealth.2. Economist associated with welfare concept is Alfred Marshall.3. The two major concepts of managerial economics are decision-

making and forward Planning.4. James Bates and J.R. Parkinson defined business economics as a

study of the behavior of the firm in theory and practice.5. Price theory is the other name for micro economic theory.6. Managerial economics is applied microeconomics to business.7. The contents of ME are based mainly on the theory of firm.8. Prof Amartya Sen won the Nobel prize for economics in 1998.9. The objective of demand analysis is to know consumer behavior.10. The objective of production theory is to know cost behavior.

SUMMARY11. Capital is the foundation of business.12. In ME, the role of government interference is by means of

tax policy, trade policy, industry policy etc.13. According to A. C. Pigou, economic welfare is part of social

welfare.14. Scarcity of Definition is given by Prof Lionel Robbins.15. Managerial economics is also known as economics of firm.16. Managerial economics is considered as a part of

normative economics.17. Production theory explains the relation between output

and cost.18. Managerial economics is prescriptive in nature.19. Management is a function of following areas of

POSDCORB.20. Management is an art of getting things done through

people formally organized groups

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