NAME: EMMANUEL NSIAH-YAMOAH

ROLL NUMBER: PP61895

SUBJECT CODE: MB0042

SUBJECT NAME: MANAGERIAL ECONOMICS

LEARNING CENTRE NAME: KNOWLEDGE WORKZ-SMU ACCRA

ASSIGNMENT NO: 1

DATE OF SUBMISSION AT THE LEARNING CENTRE: 09TH AUGUST, 2010

Q.1. Demand function is the function that relates the quantities demanded to the different valves of prices and incomes. That is it gives the optimal amounts of each of the goods as a function of the prices and income faced by the consumer. We write demand functions as X1 = X1 (P1, P2, m) and X2 = X2 (P1, P2, m). The left hand side of each equation stands for the quality demand. The right-hand side of each equation is the function that relates the prices and income to that quality. Other factors which affect the willingness to play are income, tastes and preferences and prices of substitute. Elasticity of demand measure the responsiveness of the quality demanded to prices. It is

formally defined as the percent change in quality divided by the percent change in prices. If the absolute valve of the elasticity of demand is inelastic at that point. If the absolute valve of plasticity is greater than 1 at some point we say demand is elastic at that point. If the absolute valve of the elasticity of demand at some point is exactly 1, we say that the demand has unitary elasticity at that point. If demand is inelastic, then an increase in quality will result in a redirection in revenue. If demand is in revenue income elasticity measures the responsiveness of the quality demand to income. Determinants of elasticity of demand are: 1. Number of substitute: The larger the number of close substitutes for the good, then the easier the household cans sloth to alternative goods if the price increase. Generally the larger the number of close substitutes the more elastic the price elasticity of demand. 2. Degree of necessity: If the good is a necessity item, then the demand is unlikely to change for a given change in price. This implies that necessity goods have inelastic price elasticities of demand. 3. Proportion of income spent on the good: An increase in the price of a good or service reduces the purchasing power of income, and with less income (in purchasing power terms) people will at back on purchases of all goods. If people spend a large port of their income on a particular good or services, then on increase in the price of that good or services reduce the purchasing power be a relatively great deal, carrying a greater at back than right there wise occur.

4. Time/ period: It will also make a difference how much time people have to adjust to the change in price, for cigarettes, a good for which habit formation is important, the elasticity will probably be greater in the long run, since it will take a long time for people to break their habits and not be replaced by new smokers. For cars, it would work the other way. In a slot period of time, if car prices go up, people can just keep driving their old cars. That is the cars already on the road are substitutes for new cars. But in a longer period of time, the old cars wear out and the elasticity of demand is less. 5. Existence of complementary good: Goods or services whose demands are interrelated so that an increase in the prices of one of products results in a fall in the demand for the other. Example, an increase in the price of Torchlight may tend to decrease the purchase of battery, when the price of battery removes constant, the elasticity is negative. If the product does not have complements in that case, demand tends to be elastic. In this case, the use of a product is not linked to any other products.

Question 2 Demand forecasting is the activity of estimating the quality of a product or services that consumers will purchase. Demand forecasting involves techniques including both informal methods, such as educated guesses, and quantitative methods, such as the use of historical sales data or current data from pricing decisions, in assessing future capacity requirements, or in making decisions on whether to enter a new market. It is the area of predictive analytics dedicated to understanding consumer demand for goods or services. That understanding is harnessed and used to forecast consumer demand. Knowledge of how demand will fluctuate enables the suppliers to keep the right amount of stock on hand. If demand is underestimated, sales can be lost due to the lack of supply of goods. If demand is overestimated, the supplier is left with a surplus that can also be a financial drain. Understanding demand makes a company more competitive in the marketplace. For managers, when forecasting the sales of a particular product, there are factors which affect the demand in the short-run and those which affect it in the long run. In market the potential demand of some products in a function of economic variables affecting consumption. Price, disposable income and expectations as to prices are generally the most important. However, if the produce is a devisable one, or if a lead time is needed to change the rate of output, the demand relationship is altered. For articles of immediate consumption, the variable like price and income are important in altering the demand. The purchase of a consumer durable is a function out only of price and income but also of the function out only of price and income but also of the useful life of the stock of goods rendering similar service. Thus, it is necessary on the short-run to and the prices of substitutes and the available disposable income of possible customers, but also the size of the stock of items or substitutes presently in the hands of customers, the age of that stock, and its probable services. However, in the long run it helps managers in the capital budgeting which helps in successful business planning. Other items such as investment in the stock market and other investment programs helps to plan long run financial requirements that companies may require at a point in time. Another important issue is manpower planning. Staffs are trained from time to time to get

equipped with the job skills and also to manage the business in the long run. Effective training is of so much importance here since cost of recruitment and training are some of the key procedures that managers find time to handled. Finally but not the least, companies move through different cycles during their operations and it is expedited that in the long run, companies should move from the region of losses to the where profit is being optimized effective stabilization policy is therefore necessary at this point in other to adhere this long and objective.

Q.3. For any commodity, the production function is the relationship between the quantities of various inputs used per period of time and the maximum quality of the commodity that can be produced per period of time. More specifically, the production function is a table, a graph or an equation slowing the maximum set of usage rates of inputs. It summarises the characteristics of existing technology at a given point in time and shows the technological constraints that the firm must reckon with. Lets consider the case, where there is one fixed input and one variable input. Suppose that fixed input is the labour, and the output is corn. Assume a farmer decides to find out what the effect on annual output will be if he or she applies various numbers of units of labour during the year to the acre of land, example, by hiring fewer labour or more labour. The concept of a production function applies equally well, if there are several inputs. If for example, we consider the case of two inputs, the production function f(X1, X2) would measure the maximum amount of output y that we could get if we had X, units of factor 1 and X2 units of factor 2. In the two-input case, there is a convenient way to depict production relation known as the isoquant is the set of all possible combinations of inputs 1 and 2 that are just sufficient to produce a given amount of output. Y output

A possible shape for the short-run production function X input Two types of production functions are the short run and the long run production function. In the short run the producer will keep all fixed factors as constant and change only a few variable factor inputs. In the long run, he producer will vary the quantities of all factor inputs, both fixed as well as variable in the same proportion.

The production function is very useful for businesses. It is an important starting point for the analysis of the firms technology. It gives us the maximum total output that can be realized by using each combination of quantities of inputs. Average product of an input is total product divided by the amount of the input used to produce this amount of output. Marginal product of an input is the addition to total output due to the addition of the last unit of the input when the amounts of other inputs used are held constant. It is always expected that marginal product exceeds average product when the latter reaches a maximum and is less than average product when the latter reaches a maximum and is less than average product when the latter is decreasing. It helps in making long run decisions. If the returns to scale are increasing, it is wise to employ more factors units and increase production. If the returns to scale are diminishing, it is unwise to employ more factors inputs or increase production. Manager will be indifferent whether to increase or decrease production, if the production is subject to constant returns to scale. It can be used to work out the least cost combination for a given output or the maximum inputoutput combination for a given cost.

Q.4. Economics of scale in production means that production at a larger scale (more output) can be achieved at a lower cost (that is which economics or saving). A simple way to formalize this is to assume that the unit-labour requirement in produced. With a simple adjustment, it is level of output slow that economies of scale in production are equivalent to increasing returns to scale. Increasing returns to scale in production means that an increase in resource usage, by say X%, results in an increase in output by more by say X%. Assume that two factories are built with the same plant and the same types of workers; it would seem obvious that twice as much output will result. However, if a firm doubles its scale, it may be able to use techniques that could not be used at the smaller scale. One large factor may be more efficient than two smaller scales. One large factor may be more efficient than two smaller factors of the same total capacity because it is large enough to use certain techniques that the smaller factories cannot use. Greater specialization also result in increasing returns to scale: as more men and machines are used, it is possible to subdivide tasks and allow various inputs to specialize. Also economies of scale may arise because of probabilistic considerations. For example, because the aggregate behavior of a bigger number of customers tends to be more stable, a firms inventory may not have to increase in proportion to its sales. As firms become large and the scale of operations increases, they are able to experience reductions in their average cost of production. This initially, the firms long run average cost curve slops downed as the scale. These are cost reductions accruing to the firm as a result of the growth of the firm itself. Decreasing returns to scale can also occur. After the firm has reached its optimum scale of output, where the long run average cost curves are at their lowest point, continued expansion means that its average costs may start to rise as the firm now experiences decreasing returns to scale. The long run average cost curve therefore starts to curve operation. It occurs because the firm is now experiencing internal diseconomies of scale. If we get more than twice as much output from having twice as much of each input, there may be something wrong. The usual way in which diminishing returns to scale arises is because we forget to account for some input.

There are two main types of economies of scale: internal and external. Internal economies of scale have a greater potential impact on the costs and profitability of a business. Internal economies of scale relate to the lower unit costs a single firm can obtain by growing in size itself. There are five main types of internal economies of scale. Bulk-buying economies As businesses grow they need to order larger quantities of production inputs. For example, they will order more raw materials. As the order value increases, a business obtains more bargaining power with suppliers. It may be able to obtain discounts and lower prices for the raw materials.

Technical economies Businesses with large-scale production can use more advanced machinery (or use existing machinery more efficiently). This may include using mass production techniques, which are a more efficient form of production. A larger firm can also afford to invest more in research and development.

Financial economies Many small businesses find it hard to obtain finance and when they do obtain it, the cost of the finance is often quite high. This is because small businesses are perceived as being riskier than larger businesses that have developed a good track record. Larger firms therefore find it easier to find potential lenders and to raise money at lower interest rates.

Marketing economies Every part of marketing has a cost particularly promotional methods such as advertising and running a sales force. Many of these marketing costs are fixed costs and so as a business gets larger, it is able to spread the cost of marketing over a wider range of products and sales cutting the average marketing cost per unit.

Managerial economies As a firm grows, there is greater potential for managers to specialise in particular tasks (e.g. marketing, human resource management, finance). Specialist managers are likely to be more

efficient as they possess a high level of expertise, experience and qualifications compared to one person in a smaller firm trying to perform all of these roles.

External economies of scale occur when a firm benefits from lower unit costs as a result of the whole industry growing in size. The main types are:

Transport and communication links improve As an industry establishes itself and grows in a particular region, it is likely that the government will provide better transport and communication links to improve accessibility to the region. This will lower transport costs for firms in the area as journey times are reduced and also attract more potential customers. For example, an area of Scotland known as Silicon Glen has attracted many high-tech firms and as a result improved air and road links have been built in the region.

Training and education becomes more focused on the industry Universities and colleges will offer more courses suitable for a career in the industry which has become dominant in a region or nationally. For example, there are many more IT courses at being offered at colleges as the whole IT industry in the UK has developed recently. This means firms can benefit from having a larger pool of appropriately skilled workers to recruit from.

Other industries grow to support this industry A network of suppliers or support industries may grow in size and/or locate close to the main industry. This means a firm has a greater chance of finding a high quality yet affordable supplier close to their site.

Q.5. The model is based on the assumption that each firm seeks to maximize its profit given certain technical and market constraints. The propositions are that: a. A firm is producing unit and as surly it converts various inputs into outputs of higher value under a given technique of production. b. The basic objective of a firm is to earn maximum profit. c. A firm operates under a given market conditions. d. Affirm will select the alternative course of action which helps to maximize consistent profit. e. A firm makes our attempt to change its prices, inputs and output quantity to maximize profit. However, the model is based on three important assumptions. f. Profit maximization is the main goal of the firm g. Rational behaviors on the part of the firm to achieve its goal of profit maximization h. The firm is managed by owner-entrepreneur. To maximize profits a firm must equate marginal cost and marginal revenuer. To keep the analysis on a general level, we denoted the total cost function as: R = R (Q) and total cost function C = C (Q), both of which are function of single variable Q. Form these, it follow that a profit function may be formulated in terms of Q (the choice variable) as: 1

To find the profit maximizing output level, we satisfy the first order necessary condition for a maximum

Accordingly, let us differentiate ..1 with respect to Q and set the resulting derivative equal to zero. The result is: . = 0 if R (Q) = C(Q) 2

Thus the optimum output (equilibrium output)

must satisfy the equation R(

, or MR =M C.

This is the first order condition for profit maximization. However, the first -order condition may lead to a minimum rather than a maximum; thus, it leads to a minimum rather than a maximum, this , it leads to the second order condition. The is done by differentiating the first derivative in .. 2 with respect to Q:

< 0 if R (Q) < C(Q) For an output level condition R ( such that R ( ) = C ( ) , the satisfaction of the second order

) < C ( ) is sufficient to establish it as a profit maximizing output.

Economically this would mean that, if the rate of change of MR is less than the rate of change of MC, at the output where MC=MR, then that output will maximize profit. These conditions are illustrated in the figure below. Diagram 1 shows the total revenue and a total cost curve, which are seen to interest twice at output levels of Q2 and Q4. In the open interval (Q2, Q4), total revenue R exceeds total cost C, and thus is positive. But in the intervals [O Q2] and [Q4, Q5], where Q5 represents the upper is negative. This is reflected in diagram b, where the

limit of the firms productive capacity,

profit curve obtained by plotting the vertical distance between the R and C curves for each level of output lies above the horizontal axis only in the interval (Q2, Q4). When we set the = O, in line with the first-order condition, then the intention is to locate

point K on the profit curve, at output Q3.where the slope of the curve is zero. However the relative minimum point M (output Q) will also offer itself as a candidate, because it meet the zero slope requirement. To understand the second order condition form point K, the second derivative of the function

will have a negative value, (Q3) < O, because the curve is inverse U- shaped around K; which

means Q3 will maximize profit. At point M, on the other hand, we would expect that O; this Q1 provides a relative minimum for

(Q1) >

instead. The second order sufficient condition for

a maximum can be stated alternatively as R (Q) < C (Q) that is, the slope of the MR curve be less than the slope of the MC curve. From figure 1c, the MR is negative while that of MC is positive at point l. but output Q, violates this condition because both MC and MR have negative slopes, and that MR is numerically smaller than that of MC at point N, which implies that R (Q) is greater than C (Q1) instead. Output Q1 also isolative maximum, but satisfies the second order sufficient condition for a relative minimum
C=c(Q) H

R=R(Q)

MC = C(Q)

MR = R1(Q) Q1 Q3

Justification of profit maximization 1. Basic objectives of traditional economic theory. The traditional economic theory assumes that a firm is owned and managed by the entrepreneur himself and as such he always aims at maximum return on his capital invested in the business. Hence profitmaximization becomes the natural principle of a firm. 2. To predict most realistic price-output behavior. This model helps to predict usual and general behavior of business firms in the real world as it provides a practical guidance. It also helps in predicting the reasonable behavior of a firm with more accuracy. Thus, it is a very simple, plain, realistic, pragmatic and most useful hypothesis in forecasting price output behavior of a firm. 3. Necessary for survival it is to be noted that the very existence and survival of a firm depends on its capacity to earn maximum profits. It is a time-honored hypothesis and there is common agreement among businessmen to make highest possible profits both in the short run and long run. Criticisms 1. It may not always be possible. Profit maximization, no doubt is the basic objective of a firm. But in the context of highly competitive business environment, always it may not be possible for a firm to achieve this objective. Other objectives like sales maximization, market share expansion, market leadership building its own image, name, fame and reputation, spending more time with members of the family, enjoying leisure developing better and cordial relationship with employees and customers etc. also has assumed greater significance in recent years. 2. Difficulty in getting relevant information and data. In spite of revolution in the field of information technology, always it may not be possible to get adequate and relevant information to take right decisions in a highly fluctuating business scenario. Hence profits may not be maximized. 3. Growth of oligopolistic firms. In the context of globalization, growth of oligopoly firms has become so common through mergers, amalgamations and takeovers. Leading firms dominate the market and the small firms have to follow the policies of the leading firms. Hence, in many cases, there are limited chances for making maximum profits.

Q.6. Revenue is price of good times the quantity sold of that good. If the price of a good increase, then the quantity sold decrease, so revenue may increase or decrease. Which way it goes obviously depends on low responsive demand is to the price change. If demand drops a lot when the price increase, then revenue will increase. This suggests that the direction of the change in revenue has something to do with the elasticity of demand. The definition for revenue is: R = p*q If we left the price change to of = Subtracting R from we have and the quantity change to q + , we have a new revenue

For small values of

the last term can be neglected, learning the expression as:

That is the change in revenue is roughly equal to the quality times the change in prices plus the original price times the charge in quality. Rate of change in revenue per change in price is: ,>O

Rearranging, we have: The left hand side of this expression is E(p), where is a negative number. Multiplying by -1 reverses the direction of the inequality to give; 1(p)1<1

Thus, revenue increases when price increases if the elasticity of demand is less than 1 in absolute valve. Another way to see this is to write the revenue charge as:

Rearranging:

Another way is to take the formula for

rearranging it as follows:

= q [1 +

(p)]

Since demand elasticity is naturally negative, the expression can be written as:

If the absolute valve of elasticity is greater than 1, then

must be negative and vice verse.

If demand is very responsive to price, the I very elastic, then in increase in price will reduce demand so much that total revenue will fall. If demand is very unresponsive to price it is very inelastic then an increase in price will not change demand very much and overall revenue will increase. The dividing line happens to be an elasticity of -1. At this point, if the price increases by I percent, the quantity will decrease by 1 percent, so the total revenue doesnt change at all. Restating the expression again as:

If we divide both sides of this expression by q, we get the expression for marginalrevenue.

Rearranging :

Reciprocal of elasticity =

Thus, the expression for marginal revenue becomes

Because elasticity is negative, the expression could be writer as:

This means that if elasticity of demand is -1, then marginal revenue is zero revenue doesnt change when you increase output. If demand is inelastic then [ ] is less than 1, which means is greater than 1. Thus, is negative, so that revenue will decrease when you increase output. If demand

isnt very responsive to price, then you have to cut prices a lot to increase output: so revenue goes down.
Y P E>1 TR Price C E=1 E>1 AR X 0 Output Q MR D H

Relationship between AR, MR, TR and Elasticity of Demand In the diagram AR is the average revenue curve, MR is the marginal revenue curve and OD is the total revenue curve. At the middle point C of average revenue curve elasticity is equally to one. One its lower half it is less than one and on the upper half it is greater than one. MR corresponding to the middle point C of the AR curve is zero. This is shown by the fact that MR curve cuts the x axis at Q which corresponds to that portion of the AR curve where e<1 marginal revenue is negative because MR goes below the x axis. Likewise for a quantity less than OQ, e>1 and the marginal revenue is positive. This means that if quantity greater than OQ is sold, the total revenue will be diminishing and for a quantity less than OQ the total revenue TR will be increasing. Thus the total revenue TR will be maximum at the point H where elasticity is equal to one and marginal revenue is zero.

REFERENCES: Varian Hal R., Intermediate microeconomics-6th edition, W.W.Norton and Company, N.Y Edwin Mansfield, Microeconomics, Theory and Applications, Ninth Edition Edward T. Dowling., Introduction to Mathematical Economics 2nd edition