UNIT I

Economics
The study of the choice making behaviour The study of the logic of choice

DEFINITION & NATURE OF MANAGERIAL ECONOMICS

The integration of economic theory with business practice for the purpose of facilitating decision making and forward planning by management
Science as well as Art Positive as well as Normative Pragmatic

SCOPE
Operational issues Demand function Production decisions Market structure and pricing theory Profit management Capital and investment decision Business environment

IMPORTANCE
Simplifies complex business problems Improves the quality of decision making Thorough analysis of the key elements involved Determining the business competitive advantage Application of economic tool/ models/ techniques to construct optimal production/ cost/ demand forecasting

Assumptions
Ceteris paribus Single goal of firm Perfect market conditions Rational human behaviour

LIMITATIONS
The operation of mutatis mutandis(with the necessary changes having been made), render the predictions from the application of ME as untrue at times
The assumption that each FoP is homogeneous, fully mobile and divisible to the least possible fraction so that optimal production and/ or cost function may be formulated is non-existent in reality

BASIC ECONOMIC PROBLEMS & MKT. FORCES

Scarcity of resources and an overabundance of end uses is the genesis of all economic troubles What to produce? How much to produce? How to produce? Where to produce? Distribution decisions Demand forecasting Supply logistics Government regulations State of the economy

ROLES & RESPONSIBILITIES OF A MANAGERIAL ECONOMIST

Demand estimation & forecasting Directing economic research activity Evaluation of capital budgets Prepare reports to cope with current as well as anticipated future problems and help in making rational choices

Economic concepts & principles applied by ME and useful in Business Decision Making

The Opportunity Cost concept

The scarcity and the alternative uses of the resources give rise to the concept of Opportunity Cost. The OC of availing an an opportunity is the foregone income/ benefit expected from the second best alternative available.

Calculting the OC
Opportunity Cost = Cost of Selected Alternative Cost of Next Best Alternative Now let's see how we can calculate opportunity cost using this equation. Example: Nisha has currently needs to buy at least one among the three a formal shirt (Rs.500), a pair of footwear(Rs700) and a handbag(Rs.650) but doesn't have enough money to buy all three. After much consideration, she decides to forgo the footwear and the bag and buys the shirt, though she wanted the footwear as well. Find out her opportunity cost if she buys the shirt. Solution: Number of Economic Alternatives = 3 (shirt for 500, footwear for 700 and bag for 650) Desired Alternative = Rs.500 (shirt) Next Best Alternative = Rs.700 (footwear) Now, applying the above mentioned opportunity cost formula: Opportunity Cost = 500 700 = -200

Suppose a businessman can buy either a washing machine or a press machine with his limited resources and suppose that he can earn annually Rs. 40,000 and 60,000 respectively from the two alternatives.
A rational businessman will certainly buy a press machine that gives him a higher return. But, in the process of earning Rs. 60,000 he has foregone the opportunity to earn Rs. 40,000 annually from the washing machine. Thus, Rs. 40,000 is his opportunity cost or alternative cost.

The difference between actual and opportunity costs is called economic rent or economic rent or economic profit. For example, economic profit from press machine in the above case is Rs. 60,000 Rs. 4000 = Rs. 20,000.
So long as economic profit is above zero, it is rational to invest resources in press machine.

MARGINAL UTILITY CONCEPT

Underlying the laws of demand and supply is the concept of utility, which represents the advantage or fulfillment a person receives from consuming a good or service. Utility, then, explains how individuals and economies aim to gain optimal satisfaction in dealing with scarcity. Utility is an abstract concept rather than a concrete, observable quantity. The units to which we assign an amount of utility, therefore, are arbitrary, representing a relative value. Total utility is the aggregate sum of satisfaction or benefit that an individual gains from consuming a given amount of goods or services in an economy. The amount of a person's total utility corresponds to the person's level of consumption. Usually, the more the person consumes, the larger his or her total utility will be. Marginal utility is the additional satisfaction, or amount of utility, gained from each extra unit of consumption.

 Thus, the term Marginal refers to the change in total quantity or value due to a unit change in its determinant. Although total utility usually increases as more of a good is consumed, marginal utility usually decreases with each additional increase in the consumption of a good. This decrease demonstrates the law of diminishing marginal utility. Because there is a certain threshold of satisfaction, the consumer will no longer receive the same pleasure from consumption once that threshold is crossed. In other words, total utility will increase at a slower pace as an individual increases the quantity consumed

Example

 The law of diminishing marginal utility helps economists understand the law of demand and the negative sloping demand curve. The less of something you have, the more satisfaction you gain from each additional unit you consume; the marginal utility you gain from that product is therefore higher, giving you a higher willingness to pay more for it. Prices are lower at a higher quantity demanded because your additional satisfaction diminishes as you demand more.

Queries ???

ASSIGNMENT
The equi-marginal principle was originally associated with consumption theory and the law is called the law of equi-marginal utility. The law of equi-marginal utility states that a utility maximizing consumer distributes his consumption expenditure between various goods and services he/she consumes in such a way that the marginal utility derived from each unit of expenditure on various goods and services is the same. The pattern of consumers expenditure maximizes a consumers total utility. The law of equi-marginal principle has been applied to the allocation of resources between their alternative uses with a view to maximizing profit in case a firm carries out more than one business activity. This principle suggests that available resources (inputs) should be so allocated between the alternative options that the marginal productivity gain (MP) from the various activities are equalized.