BBA I Semester Nature Scope Managerial Economics Study Material Notes

BBA I Semester Nature Scope Managerial Economics Study Material Notes: Meaning and Definition Nature of Managerial Economics Profit Forecasting and Managerial Pricing Decision Policies and Practices Advertising Production Analysis Cost Analysis Positive and Normative Analysis Micro Economic Nature Macro Economics nature Scope of Managerial Economics Multi-Disciplinary Nature Managerial Economics and Statistics Capital Management and Budgeting Consumer Behavior Business Cycles New Areas :

MCom I Semester Managerial Economics Capital Budgeting Study Material Notes

NATURE AND SCOPE OF MANAGERIAL ECONOMICS

MEANING AND DEFINITION

Managerial economics generally refers to the integration of economic theory with business practice. Economics provides tools, managerial economics applies these tools to the management of the business. In simple terms, managerial economics means the application of economic theory to the problem of management.

Managerial economics has been defined in a variety of ways:

According to E.F. Brigham and J.L.Pappar, Managerial Economics is the application of economic theory and methodology to business administration practice.”

To Christoper Savage and John R. Small : “Managerial Economics is concerned with business efficiency”.

Milton H. Spencer and Lonis Siegelman define Managerial Economics as “the integration of economic theory with business practice for the purpose of facilitating decision making and forward planning by management.”

In the words of Mc Nair and Meriam, “Managerial Economics consists of the use of economic modes of thought to analyse business situations.”

D.C. Hague describes Managerial Economics as “a fundamental academic subject which seeks to understand and analyse the problems of business decision making.”

The above definitions emphasise the interrelationship of economic theory with business decision making and forward planning.

NATURE OF MANAGERIAL ECONOMICS

The nature or basic features of managerial economics are:

1 Decision Making

Managerial economics is a science applied to decision making. It is supposed to enrich the technical skill of a manager. It is concerned with economic behaviour of the firm. It concentrates on the decision process, decision model and decision variables at the firm level. It is the application of economic analysis to evaluate business decisions.

The primary function of a manager is decision making and forward planing under uncertain business conditions. Some of the important management decisions are production decision, inventory decision, cost decision, marketing decision, financial decision, person decision and miscellaneous decisions. The quality of a good manager is his ability to take quick decisions. He must have the clarity of goals, use all the information he can get, weigh pros and cons and make fast decisions.

2. Positive and Normative Analysis

A positive analysis is concerned with “what is” whereas a normative analysis is concerved with “what should be”. Most of the managerial economists are of the opinion that managerial economics is normative in nature. It is concerned with what decisions ought to be made. This analysis involves value judgement. In managerial economics, we are interested in what should happen rather than what does happen. Besides explaining what a firm is doing. we explain what it should do to make its decision effective. Thus managerial economics studies the activities and problems of a firm and also tries to find solutions. Thus it is both normative and positive in nature.

3. Micro Economic Nature

Managerial economics is microeconomic in nature. It studies the behavior of particular firms and industries relating to their prices, demands, supplies, costs, profits, etc. It also makes use of price theory under different market structures such as perfect competition, monopoly, monopolistic competition, oligopoly, etc.

4. Macro Economic Nature

Managerial economics is also macro economic in nature. Macro economics is related to the determination and fluctuations of total income, total employment and general price level which affect business decisions. Macro economics is very useful to the managerial economist in the formulation of business policies and decisions.

5. Applied Science

Managerial economics is applied science in nature. Its tools and theories are used empirically in analysing and evaluating the working of firms and business managers.

6. Multi-Disciplinary Nature

Managerial economics is multi-disciplinary in nature. It uses many topics from other related disciplines such as mathematics, statistics, management tools and techniques, etc.

SCOPE OF MANAGERIAL ECONOMICS

The scope of managerial economics is very vast. It includes the following topics:

(1) Demand Analysis and Forecasting

Demand analysis is very important in managerial economics because a firm is guided by the demand for its products. A major part of managerial decision making depends on accurate estimates of demand. When the current demand is estimated, the manager estimates future demand as well. This is demand forecasting. This forecast serves as a guide for maintaining and increasing market position and enlarging profit. The main topics in demand analysis are : demand determinants, changes in demand, types of demand, elasticity of demand and demand forecasting.

2. Cost Analysis

Cost analysis relates to the cost of production of a product by a firm. Cost estimates are very important in decision making. The various concepts used in cost analysis are: real cost, explicit cost, implicit cost, opportunity cost, private cost and social cost. The cost analysis also includes the relationship between cost and output or cost function, the traditional and modern theories of cost, cost control, estimating costs, etc. The success of a firm depends upon a correct estimation of its costs and cost control.

3. Production Analysis

Inputs play a vital role in production. The factors of production or inputs are combined to yield the maximum output and profit. Alternatively, when the price of inputs shoots up, a firm uses a combination of inputs so as to ensure that this combination becomes the least cost combination. The main topics covered under production analysis are production function, least cost combination of factor inputs, factor productiveness, returns to scale, law of variable proportions, etc.

4. Inventory Management

An inventory refers to a stock of raw materials which a firm keeps. Now the problem is how much of the inventory is the ideal stock. If it is high, capital is unproductively tied up. If the level of inventory is low, production will be affected. Therefore, managerial economics will use such methods as Economic Order Quantity (EOQ) approach, ABC analysis with a view to minimising the inventory cost. It also studies motives of holding inventory, cost of holding inventory, inventory control, and main methods of inventory control and management.

5. Advertising

To produce a commodity is one thing and to market it is another. Yet the message about the product should reach the consumer before he thinks of buying it. Therefore, advertising forms an integral part of decision making of a firm. Expenditure on advertising and related types of promotional activities is called selling costs. There are different methods for setting advertising budget : Percentage of Sales Approach, All You can Afford Approach, Competitive Parity Approach, Objective and Task Approach and Return on Investment Approach.

6. Pricing Decision, Policies and Practices

Product pricing is a very important area of managerial economics. When pricing a commodity, the cost of production has to be taken into account. Business decisions are greatly influenced by the prevailing market structure. Pricing is actually guided by consideration of cost plan pricing and the policies of public enterprises. The sales and profits of a firm are influenced by its pricing decision, policies and practices.

7. Profit Forecasting and Management

A business firm aims at maximisation of its profits. Profits are an acid test of a firm’s performance. The concept of profit maximisation is very useful in making a decision by a firm. Profit forecasting is an essential function of any management. It relates to projection of future earnings, and the analysis of actual and expected behaviour of firms, the sales volume,

A Text on-Managerial Economics prices and competitors strategies, etc. It includes the nature and measurement of profit and profit policies of special significance to managerial decision making.

8. Capital Management and Budgeting

Planning and control of capital expenditures is the basic function of a firm. It involves capital management through budgeting. The capital budgeting process takes different forms in different industries. It involves the equi-marginal principle. The objective is to assure the most profitable use of funds, which means that funds must not be applied when the managerial returns are less than in other uses. The main topics dealt with are: Cost of Capital, Rate of Return and Selection of Projects.

9. Investment Decision

A business firm has to make investment decision which involves risks and uncertanties. Investment decision includes problems like the amount of money for capital investment, the source of financing this investment and allocating this investment among different projects over time. These decisions are very important for the growth of a firm.

10. Consumer Behaviour

The study of consumer behaviour is an important part of managerial economics. The utility analysis, indifference curve technique, etc and revealed reference deal with consumer behaviour.

11. Market Structures

Managerial economics also includes types of markets where buyers and sellers deal with various commodities produced by firms. Such markets are perfect competition, monopoly, monopolistic competition and obigopoly.

12. Business Cycles

Business cycles are periods of good and bad trade. In periods of good trade, prices rise. There is inflation. Firms produce and sell more and make profits. During periods of bad trade prices fall, sales decline, and firms incur losses. Business cycles also form part of the scope of managerial economics.

13. New Areas

In recent years, managerial economics has exteuded to some new areas of study. There has been integration of managerial economics and Operation Reasearch. Hence, techniques such as Linear Programming, Inventory Models, Waiting Line Models, Bidding Models, Theory of Games, etc. have also come to be regarded as part of managerial economics.

RELATIONSHIP OF MANAGERIAL ECONOMICS WITH OTHER SUBJECTS

Managerial economics has a close linkage with other disciplines and fields of study such as economics, mathematics and statistics and accounting. The managerial economics integrates their concepts and methods and brings them to bear on managerial problems.

MANAGERIAL ECONOMICS AND ECONOMICS

Economics and managerial economics are related to each other in the following ways:

(1) Managerial economics uses a large number of economic concepts like demand, cost, production, price, profit, market structures, etc.

(2) Economics deals with the body of principles such as time perspective, incremental, discounting, equi-marginal, etc. Managerial economics applies these principles to solve the problems of a firm.

(3) Economics has the characteristics of both micro and macro economics. But managerial economic has only micro characteristics.

(4) Economics deals with a study of individual firm as well as individual consumer. But managerial economics studies only about individual firm and industry

(5) Economics deals with a study of distribution theories of rent, wages, interest and profits. But managerial economics deals with a study of only profit theories.

(6) Economics theory is based on certain assumptions. But in managerial theory these assumptions disappear due to practical situations.

(7) Economics theory is both positive and normative in character but managerial economics is essentially normative in nature.

(8) Economics studies only economic aspects of the problem whereas managerial economics studies both economic and non-economic aspects.

Managerial Economics and Statistics

Statistics is important to managerial economics. It provides the basis for the empirical testing of theory. Statistics is important in providing the individual firm with measures of functional relationship involved in decision making. Statistics is a very useful for a business executive because a business runs on estimates and probabilities.

Statistics supplies many tools to managerial economics. Suppose forecasting has to be done. For this purpose, trend projections are used. Similarly, multiple regression technique is used. In managerial economics, measures of central tendency like the mean, median, mode, and measures of dispersion, correlation, regression, least square, estimators are widely used. The managerial economics also incorporates probability theory.

Statistical tools are widely used in the solution of managerial problems. For example, sampling is very useful in data collection. Managerial economics makes use of correlation and multiple regression in business problems involving some kind of cause and effect relationship. Managerial Economics and Accounting

Managerial economics is closely related to accounting. It is concerned with recording the financial operation of a business firm. A business is started with the main aim of earning profit. Capital is invested, it is employed for purchasing properties such as building, furniture, etc and for meeting the current expenses of the business. Goods are bought and sold for cash as well as credit. Cash is paid to credit sellers. It is received from credit buyers. Expenses are met and incomes derived. This goes on the daily routine work of the business. The buying of goods, sale of goods, payment of cash, receipt of cash and similar dealings are called business transactions.

The business transactions are varied and many. They are written in a set of books in a systematic manner to facilitate proper study of their results. There are three classes of accounts: (i) personal account, (ii) property accounts, and (iii) nominal accounts. Management accounting provides the accounting data for taking business decisions. The accounting techniques are very essential for the success of the firm because profit maximization is the major objective of the firm.

Managerial Economics and Mathematics

Mathematics is another important subject closely related to managerial economics. For the derivation and exposition of economic analysis, we require a set of mathematical tools. Mathematics has helped in the development of economic theories and now mathematical economics has become a very important branch of the science of economics. Mathematical approach to economic theories makes them more precise and logical. For the estimation and prediction of economic factors for decision-making and forward planning, the mathematical method is very helpful. The important branches of mathematics generally used by a managerial economist are geometry, algebra, and calculus. The mathematical concepts used by the managerial economists are the logarithms and exponential, vectors and determinants, input-output tables. Operations research which is closely related to managerial economics is mathematical in character.

EXERCISES

1 Define managerial economics. Explain its scope.

2. Explain the nature of managerial economics.

3. Explain the relation of managerial economics to economics.

4. Explain the relation between:

(a) Managerial economics and Statistics.

(b) Managerial Economics and Accounting.

(c) Managerial economics and mathematics.

Nature Scope Managerial Economics