Managerial Economics (GC-104) UNIT 1 PDF

2/26/2023 Sanjivani College of Engineering, Kopargaon Department of MBA MANAGERIAL ECONOMICS (GC-104)...

2/26/2023 Sanjivani College of Engineering, Kopargaon Department of MBA MANAGERIAL ECONOMICS (GC-104) Course Instructors: MANAGERIAL UNIT 1: INTRODUCTION Dr. Ritesh K. Patel Associate Professor, Department of MBA, Sanjivani College of Engineering(SCOE), ECONOMICS Kopargaon, Maharashtra, Affiliated with TO MANAGERIAL SPPU. E: [email protected] ECONOMICS T: +91-0-9687100199 www.sanjivanimba.org.in www.sanjivanimba.org.in What Is an Economy? An economy is the large set of inter-related production and consumption activities that aid in determining how scarce resources are allocated. The production and consumption of goods and services MANAGERIAL ECONOMICS= are used to fulfill the needs of those living and operating within the economy, which is also referred to ECONOMICS+MANAGEMENT as an economic system. www.sanjivanimba.org.in www.sanjivanimba.org.in What is Economics ECONOMICS The study of economies and the factors ►DEFINATION affecting economies is called economics. Study of nature and uses of national wealth. By ADAM SMITH The discipline of economics can be broken The science which studies human behavior as a into two major areas of relationship between ends and scarce resources which focus, microeconomics, have alternative uses. and macroeconomics. By Prof Lionel Robbins www.sanjivanimba.org.in www.sanjivanimba.org.in 1  2/26/2023 ►Salient Features of economics Difference between Micro and Macro Economics 1.Unlimited wants 2.Scarce resources 3.Alternative uses 4.Choice www.sanjivanimba.org.in www.sanjivanimba.org.in Basic Economic Problems MANAGEMENT DEFINATION ►What to produce? And How Much to Produce Management is the science of getting things done through the ►How to produce? people in formally organized groups. ►For whom to produce? Management includes number of functions: ► How to achieve fuller utilization of resources ►Planning ►How to attain efficiency in production and distribution ►Organizing ►How to accelerate Economic growth ►Staffing ►Directing ►Controlling www.sanjivanimba.org.in www.sanjivanimba.org.in MANAGERIAL ECONOMICS Microeconomics: ►DEFINATION The study of individual consumer or firm is “The integration of economic theory with business practice for the purpose of facilitating decision making and forward planning by the management.” called microeconomics. Spencer and Siegelman. “The application of economic theory and methodology to business administration practice.” Macroeconomics: Brigham and Pappas. The study of aggregate or total level of “The study of how to direct scarce resources in a way that most efficiently economic activity in a country is called achieves a managerial goal.” Michael R. Bay macroeconomics. www.sanjivanimba.org.in www.sanjivanimba.org.in 2  2/26/2023 NATURE OF MANAGERIAL ECONOMICS ►Close to microeconomics ► A model is a theoretical construct representing ►Operates against the backdrop of macroeconomics economic processes by a set of variables and a set of logical and/or quantitative relationships between them ►Normative statements ►Prescriptive actions ►Variables, relations and predictions. ►Applied in nature ►Exogenous variable: A variable whose value is taken as given ►Offers scope to evaluate each alternative in the analysis of an economic system. ►Interdisciplinary ►Endogenous variable: A variable whose value is determined ►Assumptions and limitations within the economic system being studied. www.sanjivanimba.org.in www.sanjivanimba.org.in SCOPE OF MANAGERIAL ECONOMICS Tools of Managerial Economics ►Demand decision ►Supply decision ►Constrained Optimization ►Pricing ►Marginal Analysis ►Cost ►Production ►Equilibrium ►Profit ►Investment decisions ►Comparative Statistics ►Economic forecasting and forward planning www.sanjivanimba.org.in www.sanjivanimba.org.in Economic models Constrained optimization ►To study real phenomena in a world that is ►An analytical tool for making the best (optimal) exceedingly complex, economists construct and choice, taking into account any possible limitations analyze economic models, or formal descriptions, or restrictions on the choice. of the problems they are addressing. ►Objective function: The relationship that a decision ►An economic model is like a roadmap. maker seeks to maximize or minimize. ►A Model must specify variables ( What is given or ►Constraints: The restrictions or limits imposed on a known and what is to be determined) decision maker in a constrained optimization problem. www.sanjivanimba.org.in www.sanjivanimba.org.in 3  2/26/2023 ►Suppose a farmer plans to build a rectangular fence as ►(b) The constraint will describe the restriction a pen for his sheep. imposed on the farmer. We are told that the farmer ►He has F feet of fence and cannot afford to purchase has only F feet of fence available for the rectangular more. However, he can choose the dimensions of the pen. pen, which will have a length of L feet and a width of W ►The constraint will describe the restriction that the feet. perimeter of the pen 2L +2W must not exceed the ►He wants to choose the dimensions L and W that will amount of fence available, F. maximize the area of the pen. ►He must also make sure that the total amount of ►Therefore, the constraint can be written as 2L+2W fencing he uses (the perimeter of the pen) does not ≤ F. exceed F feet. www.sanjivanimba.org.in www.sanjivanimba.org.in Problem ► (a) What is the objective function for this ►(c) The farmer is given only F feet of fence to problem? work with. Thus, the perimeter F is an exogenous variable, since it is taken as given in ►(b) What is the constraint? the analysis. ►(c) Which of the variables in this model (L, W, ►The endogenous variables are L and W, since and F) are exogenous? their values can be chosen by the farmer ►Which are endogenous? Explain. (determined within the model). www.sanjivanimba.org.in www.sanjivanimba.org.in Solution Constraint Optimization Problem ► (a) The objective function is the maxLW relationship that the farmer is trying to maximize—in this case, the area (L,W) LW. In other words, the farmer will choose L and W to maximize the Subject to: 2L+2W≤ F objective function LW. www.sanjivanimba.org.in www.sanjivanimba.org.in 4  2/26/2023 Constrained Optimization: Consumer Choice ►Suppose a consumer purchases only two types of (a)The objective function is the relationship goods, food and clothing. The consumer has to that the consumer seeks to maximize. In this decide how many units of each good to purchase example she will choose the amount of food each month. and clothing to maximize her satisfaction, ►Let F be the number of units of food that she measured by FC. Thus, the objective function purchases each month, and C the number of units is FC of clothing. She wants to maximize her satisfaction with the two goods. www.sanjivanimba.org.in www.sanjivanimba.org.in ►Suppose the consumer’s level of satisfaction when she purchases F units of food and C units of clothing ►(b) The constraint represents the amounts of food is measured by the product FC and clothing that she may choose while living within ►But she can purchase only limited amounts of her income. If she buys F units of food at a price of PF goods per month because she must live within her per unit, her total expenditure on food will be (PF)(F). budget. If she buys C units of clothing at a price of PC per unit, ► Goods cost money, and the consumer has a limited her total expenditure on clothing will be (PC)(C). income. Consumer has a fixed monthly income I, Therefore, her total expenditure will be and she must not spend more than I during the (PF)(F)+(PC)(C). month. www.sanjivanimba.org.in www.sanjivanimba.org.in ►Each unit of food costs PF and each unit of clothing costs PC. ►Since her total expenditure must not exceed her total (a)What is the objective function for this problem? income I, the constraint is (b)What is the constraint? (PF)(F)+(PC)(C)≤ I. (c)Which variables (PF, F, PC, C, and I) are exogenous? c) The exogenous variables are the ones the consumer takes (d)Which are endogenous? Explain. as given when she makes her purchasing decisions. Since (e) Write a statement of the constrained optimization her monthly income is fixed, I is exogenous. The prices of problem. food PF and clothing PC are also exogenous, since she cannot control these prices. www.sanjivanimba.org.in www.sanjivanimba.org.in 5  2/26/2023 Amount Spent Total New Sales Generated (Amount in Thousands) For Advertise Amt. in Crores Kapil Sharma Show Big Boss d) The consumer’s only choices are the amounts of food and clothing to buy; hence, F and C are the endogenous 0 0 0 variables. 0.5 10 4 (e) The statement of the constrained optimization problem is 1 15 6 max FC 1.5 19 8 (F,C) 2 20 9 subject to: (PF)(F)+(PC)(C)≤ I www.sanjivanimba.org.in www.sanjivanimba.org.in Constraint Optimization Problem -3 ►A major automobile manufacturer is considering how ► The manufacturer’s goal is to allocate its 2 Crore Rs. to allocate a 2 Crore Rs. of advertising budget (AB) advertising budget to maximize the number of between two types of television programs: The Kapil vehicles sold. Let K be the amount of money devoted Sharma Show and Big Boss. The following table shows the number of new vehicles sales generated when a to advertising on Kapil’s Show, B the amount of given amount of money is spent on advertising during money spent on advertising on Big Boss show, and an the “Kapil Sharma Show” and “Big Boss” C(K,B) the number of new vehicles sold. www.sanjivanimba.org.in www.sanjivanimba.org.in Amount Spent Total New Sales Generated (Amount in Thousands) For Advertise Amt. in Crores Kapil Sharma Show Big Boss ►a) What is the objective function for this problem? ►b) What is the constraint? 0 0 0 ►c) Which of the variables are exogenous? Which are 0.5 10 4 endogenous? Explain 1 15 6 ►d)Write a statement of the constrained optimization 1.5 19 8 problem. 2 20 9 ► e) In light of the information in the table, how should the manufacturer allocate its advertising budget? www.sanjivanimba.org.in www.sanjivanimba.org.in 6  2/26/2023 Answers Circular flow of Economy : Leakages and Injections a) Objective function is maximize sales by selecting Optimal combination of (K,B) b) Constraint is Advertising Budget ( 2 Cr.) c) Exogenous Variable is (AB) Advertising Budget. Endogenous variables are K and B C(K,B) d) max KB (K,B) Subject to: C(K+B)≤ AB (2 Cr) www.sanjivanimba.org.in www.sanjivanimba.org.in e) He should allocate 1.5 Cr. In K and 0.5 Cr. In B to Circular flow of income????? maximize sales which would be 23000 units of sales. The term circular flow of income or circular flow of economic activity refers to “a simple economic model which ►The solution to any constrained optimization describes the circulation/flow of income between producers problem depends on the Marginal impact of the and consumers”. decision variables on the value of the objective In the circular flow model, producer and consumer are function referred to as "firms" and "households" respectively. ►The term marginal in microeconomics tells us how a dependent variable changes as a result of adding one unit of an independent variable. www.sanjivanimba.org.in www.sanjivanimba.org.in Sanjivani College of Engineering, Kopargaon Department of MBA Significance of Study of Circular Flow of Income Measurement of National Income- National income is an estimation of aggregation of any of economic activity of the circular flow. It is either the income of all the MANAGERIAL ECONOMICS factors of production or the expenditure of various sectors of economy. (GC-104) Course Instructors: Knowledge of Interdependence- Circular flow of income signifies the Dr. Ritesh K. Patel interdependence of each of activity upon one another Associate Professor, Circular flow of Department of MBA, Sanjivani College of Engineering(SCOE), Unending Nature of Economic Activities- It signifies that production, income and expenditure are of unending nature, therefore, economic activities in an Economy: Kopargaon, Maharashtra, Affiliated with SPPU. economy can never come to a halt. National income is also bound to rise in future. Leakages and Injections E: [email protected] T: +91-0-9687100199 To understand about the leakages and injections in the economy www.sanjivanimba.org.in www.sanjivanimba.org.in 7  2/26/2023 Models of circular flow of economy Four Sector Model Two sector model Three Sector Model Four Sector Model Five Sector Model www.sanjivanimba.org.in www.sanjivanimba.org.in Two Sector Model Five Sector Model www.sanjivanimba.org.in www.sanjivanimba.org.in Three Sector Model Foreign Household sector Determinants Firms/ business Financial institutions www.sanjivanimba.org.in www.sanjivanimba.org.in 8  2/26/2023 Leakages and Injections Government Just like households and firms the government also earns incomes and makes expenses. Two major functions played are: Government earns revenue either from tax or non-tax sources both from households and firms. Government provides essential public services such as maintenance of law and order, defense services, judiciary etc. www.sanjivanimba.org.in www.sanjivanimba.org.in Financial institutions Households: Financial Institution : It is a person or a group of people that consists of banks and non-bank intermediaries who share their income. The members of engage in the borrowing (savings from households)and households have two functions: lending of money. they supply different factors of production the leakage that financial institutions provide in the members of household also work as economy is the option for households to save consumers their money. www.sanjivanimba.org.in www.sanjivanimba.org.in Firms: An organization that produces goods and services Foreign Market: for sale. It consists of two kinds of international economic main objective is to maximize profit in the production process. transactions i.e. The two main functions are as follows: Produce goods and services and supply them in the market. export and import of goods and services Firms purchase inputs or raw materials from households to use them in the production process inflow and outflow of capital. www.sanjivanimba.org.in www.sanjivanimba.org.in 9  2/26/2023 Three sector model Foreign Market(export and import): Three sector model is created by adding the Government sector to Goods and services produced within the domestic the Two sector model territory which are sold to the foreigners are called exports. Three kinds of monetary flows between the government and the rest Purchases of foreign made goods and services by of the economy i.e.1)direct taxes on both households and domestic households are called as imports. firms2)government expenditure3)transfer payments and subsidies Here we assume that only business forms can interact Government spends a part of its tax revenue as factor payments to with the foreign countries and dealt with the export and the households and a part in the form of transfer payments as import of the country. Money goes through import from the economy again pension and food subsidy etc. return back to the country through export activities. www.sanjivanimba.org.in www.sanjivanimba.org.in Why savings become a leakage?????? This is a leakage because the saved money can not be spent This circular flow of model shows the four macro economic in the economy and thus it is an idle asset, that means no sectors of the economy i.e. household, business firm, output will be purchased. government, and financial institutions. The injection that the financial sector provides into the These four sectors capture four fundamental macroeconomic economy is investment (I) into the business/firms sector. In functions and their expenditures are combined together to terms of the circular flow of income model the leakage that purchase the economy's total production. financial institutions provides an option for households to save their money. www.sanjivanimba.org.in www.sanjivanimba.org.in How tax becomes a leakage????? To introduce the financial market, it is assumed that household saves in the financial market. Tax is paid to Government by households and firms Tax is a leakage because it is a leakage out of the current income and There are no inter-households borrowing reduces the expenditure on current goods and services If the households save a part of their income in The injection provided by Government on this leakage is Government spending( services and welfare payments to the the financial market (such as banks, insurance community) companies, stock market etc), this reduces the expenditure of household on goods and services For e.g.. Income tax collected by Govt is a leakage and Govt spends Ultimately it reduces the flow of money/income of the economy. some amount as food subsidy as an injection. So saving known as the leakage of the economy www.sanjivanimba.org.in www.sanjivanimba.org.in 10  2/26/2023 How Imports becomes a leakage????? Imports are leakage because it is the spending by residents into the Supply and demand are the two words that rest of the world. economists use most often. It becomes a leakage because the money in the home market goes to Supply and demand are the forces that make countries abroad. market economies work. The main injection provided by this sector is the exports of goods Modern microeconomics is about supply, demand, and services which generate income for the exporters from overseas and market equilibrium. residents. www.sanjivanimba.org.in www.sanjivanimba.org.in MARKETS AND COMPETITION A market is a group of buyers and sellers of a particular good In five sector circular flow of income model, the state of or service. equilibrium occurs when the total leakages are equal to the total injections that occur in the economy. This can be shown as: The terms supply and demand refer to the behavior of Savings + Taxes + Imports = Investment + Government Spending people... as they interact with one another in markets. + Exports S + T + M = I + G + X. www.sanjivanimba.org.in www.sanjivanimba.org.in Sanjivani College of Engineering, Kopargaon Department of MBA MARKETS AND COMPETITION Buyers determine demand. MANAGERIAL ECONOMICS (GC-104) Course Instructors: Dr. Ritesh K. Patel Associate Professor, The Market Forces of Department of MBA, Sanjivani College of Engineering(SCOE), Supply and Demand Kopargaon, Maharashtra, Affiliated with SPPU. Sellers determine supply E: [email protected] T: +91-0-9687100199 www.sanjivanimba.org.in www.sanjivanimba.org.in 11  2/26/2023 Competitive Markets DEMAND A competitive market is a market Quantity demanded is the amount of a good that buyers are willing and able to purchase. in which there are many buyers Law of Demand and sellers so that each has a –The law of demand states that, other things negligible impact on the market equal, the quantity demanded of a good falls when the price of the good rises. price. www.sanjivanimba.org.in www.sanjivanimba.org.in The Demand Curve: The Relationship between Price and Competition: Perfect and Otherwise Quantity Demanded Perfect Competition Demand Schedule –Products are the same –Numerous buyers and sellers so that each has no –The demand schedule is a table that influence over price shows the relationship between the –Buyers and Sellers are price takers price of the good and the quantity Monopoly demanded. –One seller, and seller controls price www.sanjivanimba.org.in www.sanjivanimba.org.in Competition: Perfect and Otherwise Sanjivani College of Engineering, Department of MBA Oligopoly –Few sellers MANAGERIAL ECONOMICS –Not always aggressive competition (GC-104) Course Instructors: Monopolistic Competition Dr. Ritesh K. Patel Associate Professor, –Many sellers Ten Principles of Department of MBA, Sanjivani College of Engineering(SCOE), Kopargaon, Maharashtra, Affiliated with –Slightly differentiated products Economics SPPU. E: [email protected] –Each seller may set price for its own product T: +91-0-9687100199 www.sanjivanimba.org.in www.sanjivanimba.org.in 12  2/26/2023 TEN PRINCIPLES OF ECONOMICS Society and Scarce Resources: –The management of society’s Ten Principles of resources is important because Economics resources are scarce. –Scarcity... means that society has limited resources and therefore cannot produce all the goods and services people wish to have. www.sanjivanimba.org.in www.sanjivanimba.org.in The Word Economy Comes From… TEN PRINCIPLES OF ECONOMICS …the Greek word for  Economics is the study of how society manages its scarce resources. “one who manages  Economists study how people make decisions:  How much they work a household.”  What they buy  How much they save  How they invest their savings www.sanjivanimba.org.in www.sanjivanimba.org.in TEN PRINCIPLES OF ECONOMICS TEN PRINCIPLES OF ECONOMICS A household and an economy  Economists also study how people interact face many decisions: such as buyers and sellers. –Who will work?  Price determination. –What goods and how many of them  Economists also analyze forces and trends should be produced? that affect the economy as a whole. –What resources should be used in  Growth in average income production?  The rate of price increase. –At what price should the goods be sold? www.sanjivanimba.org.in www.sanjivanimba.org.in 13  2/26/2023 HOW PEOPLE MAKE DECISIONS Principle 3: Rational People Think at the Margin  There is no mystery to what an “economy” is.  Marginal changes: Small incremental  It’s a group people interacting with one another as adjustments to marginal changes. they go about their lives.  Individuals and firms can make better decisions  We start the study of economics with four principles by thinking at the margin. of individual decision making:  By comparing the marginal benefits (MB) with  People face tradeoffs  The cost of something is what you give up to get it. the associated marginal costs (MC) of a  Rational people think at the margin. decision.  People respond to incentives. www.sanjivanimba.org.in www.sanjivanimba.org.in Principle 1: People Face Tradeoffs Principle 4: People Respond to Incentive “There is no such thing as a free lunch” Marginal changes in costs or benefits  To get something we like we usually have to motivate people to respond. give up something we don’t like. –When the price of apples rise…  A student and her time: The decision to choose one alternative  Studying vs. napping or cycling. over another occurs when that  Society’s tradeoffs: alternative’s marginal benefits exceed its  Guns vs. Butter marginal costs!  Clean environment and higher income www.sanjivanimba.org.in www.sanjivanimba.org.in Principle 2: The Cost of Something is what You Give Up HOW PEOPLE INTERACT  Making decisions requires comparing The first four principles discussed how the costs and benefits of alternative individuals make decisions. courses of actions. The next three principles concern how  Opportunity cost: Whatever must be people interact with one another. given up to obtain some item. www.sanjivanimba.org.in www.sanjivanimba.org.in 14  2/26/2023 Principle 5: Trade can Make Everyone Better Off People gain from their ability to trade Principle 7: Governments can with one another. Sometimes Improve Market Competition results in gains from Outcomes trading. Trade allows people to specialize in what they do best. www.sanjivanimba.org.in www.sanjivanimba.org.in Principle 6: Markets are Usually a HOW THE ECONOMY AS A Good Way to Organize Economic WHOLE WORKS Activity  Market economy: An economy that allocates resources through the decentralized decisions of  The last three principles concern the many firms and households as they interact in workings of the economy as a whole. markets for goods and services.  Firms decide whom to hire and what to make.  Households decide which firms to work for and what to buy with their incomes. www.sanjivanimba.org.in www.sanjivanimba.org.in Principle 6: Markets are Usually a Principle 8: A Country’s Standard Good Way to Organize Economic of Living Depends on its Ability to Activity Produce Goods and Services  Market economy: An economy that allocates  Standard of Living may be measured in different resources through the decentralized decisions of ways (e.g. personal income or total market value of a nation’s production.) many firms and households as they interact in – Differences in standard of living between countries or even provinces is markets for goods and services. attributable to the productivity of the country or province.  Firms decide whom to hire and what to make.  Productivity: The amount of goods and services produced from each hour of a worker’s time.  Households decide which firms to work for and what to buy with their incomes. Productivity => Standard of Living www.sanjivanimba.org.in www.sanjivanimba.org.in 15  2/26/2023 Principle 9: Prices Rise when the Summary Government Prints Too Much Money Trade can be mutually beneficial.  In Germany… Markets are usually a good way of coordinating trade  In January 1921, a daily newspaper cost 0.30 marks. among people.  In November 1922, the same paper cost 70 000 000 Government can potentially improve market outcomes if marks. there is some market failure or if the market outcome is  Inflation: An increase in the overall level of prices in the inequitable. economy. Productivity is the ultimate source of living standards. One cause of inflation is the growth in the quantity of money. When the government creates large quantities of money, the value of the money falls. www.sanjivanimba.org.in www.sanjivanimba.org.in Principle 10: Society Faces a Short-Run Tradeoff Between Summary Inflation and Unemployment. Money growth is the ultimate source of inflation.  Phillips curve: A curve that shows the short-run tradeoff between inflation Society faces a short-run tradeoff between inflation and unemployment. and unemployment. www.sanjivanimba.org.in www.sanjivanimba.org.in Sanjivani College of Engineering, Kopargaon Summary Department of MBA When individuals make decisions, they face tradeoffs among alternative goals. The cost of any action is measured in terms of foregone opportunities. Rational people make decisions by comparing marginal costs and marginal benefits. People change their behavior in response to the incentives they face. www.sanjivanimba.org.in www.sanjivanimba.org.in 16