A 2.2 M.

Economics 2023

Unit-1: Introduction to Managerial Economics

1.1. Meaning, Nature & Scope of Managerial Economics
1.2. Nature of the Firm
1.3. Objectives of Firm
1.4. Managerial Economic & Micro Economics
1.5. Managerial Economic & Macro Economics
1.6. Application of Economics in Managerial Decision Making

1.1. Meaning, Nature & Scope of Managerial Economics (ME):

Meaning: ME is used synonymously with Business Economics.
 It deals with the application of Microeconomic analysis to Decision-making techniques of
businesses.
 It acts as the via media between economic theory & pragmatic (व्यावहारीक) economics.
 It bridges the gap between "theory & practice".
Difference between Economic Theory & Managerial Theory:

Economic Theory Managerial Theory

Economic Theory is a system of inter- Managerial theory refers to those aspects of
relationships. Among the social sciences, economic theory & application which are
economics is the most advanced in terms of directly relevant to the practice of
theoretical orientations. management & decision making process.
There are well defined theoretical structures in Managerial theory is pragmatic ( क). It
economics. One of the most widely discussed is concerned with those analytical tools
structures is axiomatic ( ) method of which are useful in improving decision
theory formulation. It insists that, there is a making.
logical core of theory consisting of postulates
( , ) & their predictions which
forms the basis of economic reasoning &
analysis.

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Economic Theory Managerial Theory

This logical core of theory cannot easily be Managerial theory provides necessary tools
detached from the empirical part of the which can be of considerable help to the
theory. Economics has a logically consistent manager in taking scientific decisions. The
system of reasoning. The theory of competitive managerial theory provides the maximum
equilibrium is entirely based on axiomatic help to a business manager in his decision
method. Both in deductive inferences & making & business planning. The managerial
inductive generalizations, the underlying theoretical concepts & techniques are basic
principle is the interrelationships. to the entire gamut of managerial theory.
Economic theory deals with the body of But managerial theory deals with the applica-
principles. tion of certain principles to solve the problem
of a firm.
Economic theory deals with a study of But managerial theory studies only about
individual firm as well as individual consumer. individual firm.
Economic theory deals with a study of But managerial theory deals with a study of
distribution theories of rent, wages, interest & only profit theories.
profits.

Economic theory has the characteristics of But managerial theory has only micro
both micro & macro-economics. characteristics.
Economic theory is based on certain But in managerial theory these assumptions
assumptions. disappear due to practical situations.
Economic theory is both positive & normative Managerial theory is essentially normative in
in character nature.
Economic theory studies only economic aspect Managerial theory studies both economic &
of the problem non-economic aspects.

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Characteristics of Managerial Economics (ME):

It studies the problems & principles of an individual business firm or an individual industry. It
aids the management in forecasting & evaluating the trends of the market.
1. It is concerned with varied corrective measures that a management undertakes under
various circumstances. It deals with goal determination, goal development &
achievement of these goals. Future planning, policy making, decision making & optimal
utilization of available resources, come under the banner of managerial economics.
2. ME is pragmatic. In pure microeconomic theory, analysis is performed, based on certain
exceptions, which are far from reality. However, in managerial economics, managerial
issues are resolved daily & difficult issues of economic theory are kept at bay.
3. ME employs economic concepts & principles, which are known as the theory of Firm or
'Economics of the Firm'. Thus, its scope is narrower than that of pure economic theory.
4. ME incorporates certain aspects of macroeconomic theory. These are essential to
comprehending the circumstances & environments that envelop the working conditions
of an individual firm or an industry. Knowledge of macroeconomic issues such as
business cycles, taxation policies, industrial policy of the government, price &
distribution policies, wage policies & antimonopoly policies & so on, is integral to the
successful functioning of a business enterprise.
5. ME aims at supporting the management in taking corrective decisions & charting plans &
policies for future.
6. Science is a system of rules & principles used for attaining given ends. Scientific methods
have been credited as the optimal path to achieving one's goals. ME has been is also
called a ‘scientific art’ because it helps the management in the best & efficient utilization
of scarce economic resources. It considers production costs, demand, price, profit, risk
etc. It assists the management in singling out the most feasible alternative. Managerial
economics facilitates good & result oriented decisions under conditions of uncertainty.
7. ME is a normative & applied discipline. It suggests the application of economic principles
with regard to policy formulation, decision-making & future planning. It not only
describes the goals of an organization but also prescribes the means of achieving these
goals.

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Nature of Managerial Economics (ME):

ME is a science applied to decision making. It bridges the gap between abstract theory &
managerial practice. It concentrates more on the method of reasoning. In short, ME is
“Economics applied in decision making”.

Decision Making: ME is supposed to enrich the conceptual & technical skill of a manager. It
is concerned with economic behaviour of the firm. It concentrates on the decision process,
decision model & decision variables at the firm level. It is the application of economic
analysis to evaluate business decisions.
 The primary function of a manager in business organization is decision making & forward
planning under uncertain business conditions.
 Some of the important management decisions are production decision, inventory
decision, cost decision, marketing decision, financial decision, personnel decision &
miscellaneous decisions.
One of the hallmarks of a good executive is the ability to take quick decision. He must have
the clarity of goals, use all the information, weigh pros&cons and make fast decisions. The
decisions are taken to achieve certain objectives. Objectives are the motivating factors in
taking decision. Several acts are performed to attain the objectives quantitative techniques
are also used in decision making. But it may be noted that acts & quantitative techniques
alone will not produce desirable results. It is important to remember that, other variables
such as - human & behavioural considerations, technological forces, environmental factors,
influence the choices & decisions made by managers. Thus the Nature of ME is reflected in:
a. Applied Economics: The term ME as an applied economics seem correct here; in fact,
economics contains a lot of abstract theories & ideas. Unless these abstract concepts are
used in real life, they remain just academics. The ME provides analytical techniques
which help us to apply economic principles in our sphere of work, private or public. We
can witness results of the application & even come up with new conclusions.
b. For Business Issues
 It is evident for managers in the private sector.
 What about the public managers?
 It means a lot to them too!

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Govt. get involved with economic issues like subsidies, price ceilings/flooring, tariffs,
quotas, taxes, grants, budgets, revenue generation, health, education, waste mgmt. etc.
So, the underlying principles of ME are equally applicable to the public sector. (We are
differing here with the maxim, ‘the government had no business to do business.’). So, ME
is an analytical engine with tools to apply to economic issues in public or private sectors.
c. Choice/Decision Making: Naturally, when managers apply economic principles on
business situations, they find some alternatives. You may have to use the ME principles
& tools for analysis of production, risks & pricing, demand & forecasting, capital
budgeting, minimization of costs, opportunity costs, etc. One has to make choices
amongst from the available options with the scarce resources.
d. Attainment of Desired Economic Goals: The primary goal of a firm, industry, factory,
company & an organization is profit maximization. Manager has to make choices which
can help the organization for profit maximization.
e. Future Policies/Planning
 Not only govt. but also the private companies & organizations have to plan for future.
 They may be using demand & forecasting tools to know which product shall have
better demand etc.
 They may be thinking which durable raw material is going to be costlier during the
next couple of months.
 They might be worried about 3D printing (or nano-technology) & how it is going to
affect their mass production of items.
 The ME helps the managers to come forward with such policies & planning which can
help the organization to attain its desired goal i.e., the maximization of profit.
f. Conditions of Uncertainty: You know the conditions of risk & uncertainty are involved in
all business situations. Uncertainty is a condition where there is a possibility of more
than one result. You can talk about the probability of outcomes, but no judgment can be
given. The managerial economics provides us tools which help us to make the best
choice. In a nutshell, we may define managerial economics as an application of
economics analytical tools to make the best choices for the attainment of desired goals
& future policies, under the condition of uncertainty.

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Key Points in ME: After analyzing various aspects of ME we may reach the following key points:
It is application/integration of principles & methodologies of economics on business issues
to make choices for the attainment of desired economic goals, & future policies/planning
under the current condition of uncertainty.
Scope of Marginal Economics:
ME is a developing subject. The scope of ME refers to its area of study, since it has its roots
in economic theory. The empirical nature of ME makes its scope wider. ME provides
management with strategic planning tools that can be used to get a clear perspective of the
way the business world works & what can be done to maintain profitability in an ever
changing environment. At the same time ME refers to those aspects of economic theory &
application which are directly relevant to the practice of management & the decision making
process within the enterprise. Its scope does not extend to macro-economic theory & the
economics of public policy which will also be of interest to the manager. While considering
the scope of managerial economics we have to understand whether it is positive economics
or normative economics.
The scope of managerial economics includes following subjects:
i) Theory of Demand & Supply
ii) Theory of Production
iii) Theory of Exchange or Price Theory
iv) Theory of Profit
v) Theory of Capital & Investment

Importance of Managerial Economics:

Business & industrial enterprises aim at earning maximum proceeds. In order to achieve this
objective, a managerial executive has to take recourse in decision making, which is the
process of selecting a specified course of action from a number of alternatives. A sound
decision requires fair knowledge of the aspects of economic theory & the tools of economic
analysis, which are directly involved in the process of decision-making. Since managerial
economics is concerned with such aspects & tools of analysis, it is pertinent to the decision
making process.

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Importance of ME in a business & industrial enterprise as follows:

1. Accommodating traditional theoretical concepts to the actual business behavior &
conditions: ME amalgamates tools, techniques, models & theories of traditional
economics with actual business practices & with the environment in which a firm has to
operate. According to Edwin Mansfield, “Managerial Economics attempts to bridge the
gap between purely analytical problems that intrigue many economic theories & the
problems of policies that management must face”.
2. Estimating economic relationships: ME estimates economic relationship bet. different
business factors such as income, elasticity of demand, cost, volume, profit analysis etc.
3. Predicting relevant economic quantities: ME assists the management in predicting
various economic quantities such as cost, profit, demand, capital, production, price etc.
As a business manager has to function in an environment of uncertainty, it is imperative
to anticipate the future working environment in terms of the said quantities.
4. Understanding significant external forces: The mgmt. has to identify all the important
factors that influence a firm. These factors can broadly be divided into two categories-
a. External factors: A firm cannot exercise any control over these factors. The plans,
policies & programs of the firm should be formulated in the light of these factors.
Significant external factors impinging on the decision making process of a firm are
economic system of the country, business cycles, fluctuations in national income &
national production, industrial policy of the government, trade & fiscal policy of the
government, taxation policy, licensing policy, trends in foreign trade of the country,
general industrial relation in the country & so on.
b. Internal factors: These factors fall under the control of a firm. These factors are
associated with business operation. Knowledge of these factors aids the
management in making sound business decisions.
5. Basis of business policies: ME is the founding principle of business policies. Business
policies are prepared based on studies & findings of managerial economics, which
cautions the management against potential upheavals in national as well as international
economy. Thus, ME is helpful to the management in its decision-making process.

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1.2. Nature of the Firm:

‘The Nature of the Firm’ offered an economic explanation of why individuals choose to form
partnerships, companies & other business entities rather than trading bilaterally
through contracts on a market.
 A firm is a business organization, such as a corporation, limited liability company or LLP
that sells goods or services to make a profit.
 A single firm can consist of one or more establishments, as long as they fall under the
same ownership & utilize the same Registration formality.
 The title ‘firm’ is typically associated with business organizations that practice law, but the
term can be used for a wide variety of business operation units, such as accounting.
 ‘Firm’ is often used interchangeably with ‘businesses or ‘enterprise’, predominantly a
‘Single Business Unit (SBU)’.
In economics, the ‘theory of the firm’ attempts to explain the reasoning behind why firms
exist, why they operate & produce as they do & how they are structured. It asserts that firms
exist in order to maximize profits. This theory changes as the marketplace changes, & more
modern theories stems out w.r.t. long-term sustainability & Growth.

Concept of Firm & Industry: In economics, a firm holds important position since managerial
decisions are taken. In common language a firm is considered as a manufacturing unit
involved in production of goods. The scope of the term firm in economics is broad. It
represents any business organization inhering service & agriculture organization also.
Definition of Firm: Some definitions of firm given by renowned economists are given below.
All these definitions have evolved during different time periods. They try to emphasis the
different economic problems faced by firms.
1. Firm is a unit of production that employs factors of production (or inputs) to produce
goods & services under given state of technology.
2. It is an independently administered business unit – Hanson.
3. It is a center of control where the decisions about - what to produce, how to produce &
for whom to produce are taken.
4. It is a business unit which hires productive resources for the purpose of producing goods
& services.

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Characteristic features of firm:

1. It is a place where all decision making related to production are taken viz. what, where &
how much to produce.
2. It is a place where manpower is hired for production.
3. It is a place where all the resources of production are brought together, production is
done as well as sale & distribution of the manufactured product is carried out.
4. The state of technology is defined by the firms production function.

A firm is required to carry out all diverse functions related to production & marketing at the
same time. While earning profit, firm as a production unit tries to manufacture the goods or
provide service as per the consumer demand. The main objective of any firm is to maximize
profit. Traditionally it was assumed that firm tries to maximize profit in each time period. But
now it is realized that firm’s objective should be to maximize profit in long run irrespective of
profit or loss in short run.

Industry: Industry is a group of related firms. The relationship between the firms is either
based upon product or process criterion, e.g. dairy industry or food processing industry etc.
The concept of industry is helpful to govt. & businessmen to formulate their policies.
Types of industry: The activities which are undertaken to produce, convert, extract &
fabricate raw materials into finished goods are termed as industries. It is the process where
goods are made usable & consumable. There are four different types of industries:
a. Genetic Industry: It involves activities in reproducing & multiplying certain species of
plants & animals for the sake of earning profit from their sale. Fish culture, cattle
breeding, goatery & piggery are included in genetic industries.
b. Extractive Industry: The industries engaged with the discovery or extracting natural
resources like minerals soil, water & forests are called extractive industries. Mining,
agriculture & fishing are best examples of extractive industries.
c. Manufacturing Industries: The industries engaged in the conversion of raw material into
finished products are called manufacturing industries. Cotton textile, sugar, iron & steel
are the best examples of manufacturing industries.
d. Construction Industry: The industries in the construction of infrastructure like building,
dams, roads, bridges & canals are called construction industries.

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In introductory & intermediate economics, firms are assumed to exist & are characterized
by production functions, cost curves, demand curves, etc.

Observations:
 Firms transform inputs into outputs, but so do individuals.
 Firms are characterized by employers & employees, but in a way so are market
transactions.
 Firms are legal entities but, this is an uninteresting definition that we won't address.
 One can imagine production w.r.t. firms: individual traders exchanging capital & labor for
payment, these being combined & marketed.
 We normally understand firms as embodying some kind of institutional structure.
 Coordination of economic activity in these imaginary worlds would be via
prices/bargaining.
 Firms exist to economize on the cost of coordinating economic activity.
 Firms are characterized by the absence of the price mechanism.

Scope of the Firm

If it is more efficient for a transaction to take place within the firm than under some other
institutional arrangement, then it will take place within the firm. If not, then it will take place
under some other institutional arrangement:
 In another firm
 Mediated by the market.

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1.3. Objectives of Firm:

An objective is something that the firm wants to achieve over a specific period of time. It is
presumed that, business has only objective of earning profit; but now-a-days along with
profit maximization, the business has other objectives towards the society & the nation. The
business unit can prosper only if it enjoys the support of the society & by contributing to the
national goals.

Main Objective of the firm: Profit Maximization

Alternative Objectives of the firm:
I. Organic objectives: The Organic objectives of the business are classified into:
a) Survival, b) Growth & c) Prestige
II. Economic objectives:
a) Profit,
b) Creating & retaining customers,
c) Innovation &
d) Optimum utilization of the scarce resources
III. Social Objectives:
a) Towards Shareholders, b) Creditors & Financial institutions,
c) Towards the Consumers & Suppliers, d) Towards the Employees,
d) Towards the Government f) Towards the Environment
IV. Human Objectives:
a) Economic well-being of the employees
b) Human Resource development
c) Motivating employees
d) Social & psychological satisfaction of the employees
V. National Objectives:
a) Employment opportunities b) Developing backward areas
c) Promoting social justice d) Raising standard of living
d) Contributes revenue to the government

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I. Organic objectives: Organic objectives can also be termed as threefold objective. In order
to be successful, the business organization has to fulfill its primary objectives i.e. to
survive, to maintain growth & make profit.

The Organic objectives of the business are classified into: Survival, Growth, & Prestige.
a. Survival: Profit earning is regarded as a main objective of every business unit. But it is
essential for the survival & growth of every business enterprise. ‘To survive’ means, “to
live longer”. Survival is the primary & fundamental objective of every business firm.
The business cannot grow until & unless it survives in a competitive business world.
Due to intense global competition, survival has become extremely difficult for the
organization.

b. Growth: Growth comes after survival. It is the second major business objective after
survival. Growth refers to an increase in the number of activities of an organization. It
is an important organic objective of an organization. Business takes place through
expansion & diversification. Business growth benefits promoters, shareholders,
consumers & the national economy.

c. Prestige/Recognition: Prestige means goodwill or reputation arising from success or

achievement. This is the third organic objective after survival & growth. Business
growth enables the firm to establish goodwill in the market. The business firm has to
satisfy the human wants of the society. Along with profit it business wants to create a
distinct image & goodwill in the market.

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II. Economic objectives: Economic objectives stand at the top most in the hierarchy of
business objectives. Economic objectives of business refer to the objective of earning
profit & others that include creation of customers, regular innovations & best possible
use of available resources. The following economic objectives are explained in detail:

a. Profit: The primary objective of every business is to earn profit. Profit is the lifeblood
of business, without which no business can survive in a competitive-market. Profit is
the financial gain or excess of return over investment. It is the reward for bearing risk
& uncertainty in the business. It is a lubricant, which keeps the wheels of business
moving. Profit is essential for the survival, growth & expansion of the business.

b. Creating & retaining customers: Consumer is a king of the market. All the business
activities revolve around the consumers. He is the success of the business. It is not only
necessary to make customers but also to hold the customers. Competition is intensely
rising; hence to face this stiff competition, it is necessary for the businessman to come
out with new concepts & products for attracting the new customers & retaining the
old one.

c. Innovation: Innovation is the act of introducing something new. It means creativity i.e.
to come up with new ideas, new concepts & new process changes, which bring about
improvement in products, process of production & distribution of goods. Innovation
helps in reducing the cost by adopting better methods of production. Reduction in the
cost & quality products increase the sales thereby increasing the economic gain of the
firm. Hence to survive in the competitive world, the business has to be innovative.

d. Optimum utilization of the scarce resources: Resources comprises of physical, human

& capital that has to optimally utilize for making profit. The availability of these
resources is usually limited. So the firm should make best possible use of these
resources, wastage of the limited resource should be avoided.

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III. Social Objectives: Social objective means objective relating to the society. This objective
helps to shape the character of the company in the minds of the society. The obligation of
any business to protect & serve public interest is known as social responsibility of
business. Society comprises of the consumers, employees, shareholders, creditors,
financial institutions, government, etc. Business has some responsibility towards the
society. Businessmen engage themselves in research for improving the quality of
products; some provide housing, transport, education & health care to their employees &
their families. In some places businessmen provide free medical facility to poor patients.
Sometimes they also sponsor games & sports at national as well as international level etc.

a. Towards Shareholders: Shareholders are the owners of the company. They provide
finance by way of investment in debentures, bonds, deposits etc. They contribute
capital & bear the business risks. The primary responsibility of business towards the
business is to safeguard the capital of the shareholders & provide a reasonable
dividend. Business & Society are interdependent. Society depends on business for
meeting its needs & welfare, whereas, Business depends on society for its existence &
growth.

b. Towards the Creditors/financial institutions: The business has to discharge its duty
towards the stakeholders, who, in turn invest the most imp. resource i.e. Money,
without which nothing shall move.

c. Towards the Consumers: Business has some obligation towards the consumers. No
business can survive without the support of customers. Now-a-days consumers have
become very conscious about their rights. They protest against the supply of inferior &
harmful products. This has made it obligatory for the business to protect the interest
of the consumers by providing quality products at the most competitive price. They
should charge the price according to the quality of the goods & services provided to
the consumers. There must be regularity in supply of goods & services.

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Towards the Suppliers: Suppliers supply raw material, spare parts & equipment’s
necessary for the business. It is the responsibility of the business to give regular orders
for the purchase of goods, avail reasonable credit period & pay dues in time. The
business should maintain good relations with the supplier for regular supply of quality
raw material.

d. Towards the Employees: Employee of a business firm are the most important resource
since they contributes to the success of the business firm. Every business is responsible
towards their employees in respect of wages, working conditions, etc. The interest of
the employees should be taken care of. The authorities should not exploit the
employees.

e. Towards the government: Govt. frame certain rules & regulations with in which the
business has to act. These are the following responsibilities of the business towards
govt. are:
 Paying taxes regularly
 Conducting business in a lawful manner
 Setting up business enterprise as per the government guidelines
 Avoiding indulgence into monopolistic & restrictive trade practices,
 Avoiding indulgence into corruption & unlawful practices.

f. Towards the environment: The business is also responsible towards the environment.
It is the responsibility of the business to keep the environment pollution free by
producing pollution free products. Business is also responsible to conserve natural
resources & wild life & hence promote the culture.

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IV. Human Objectives: Human objective refers to the objectives aimed at well-being of the
employees in the organization. It includes economic well-being of the employees & their
psychological satisfaction. Hence the human objectives of the business organization can
be explained with the following points:

a. Economic well-being of the employees: Employees should be given fair wages &
incentives for their work done. They should also be provided with the benefits of
provident fund, pension & other amenities like medical facilities, housing facilities etc.

b. Human Resource development: The organization should undertake necessary human

resource development programs. Employees always want to grow & prosper.
Employees to grow, the firm must conduct proper training & development programs to
improve their skills & competencies.

c. Motivating employees: Employees need continuous motivation to improve their

performance in their job. It is the job of the organization & managers to motivate their
employees by providing them monetary & non-monetary incentives like bonus,
increments, promotions, job-enrichment, proper working conditions, appreciations
etc. motivated employees put efforts & are dedicated towards their job.

d. Social & psychological satisfaction of the employees: This is the most important
objective of the organization towards their employees. The business should provide
social & psychological satisfaction to their employees. Employees can feel satisfied if
they are put on the right job according to their skill, talent & qualification. The firm
should give prompt attention to the employee grievances & necessary suggestions
should be provided. Psychologically satisfied employees put best efforts in their work.

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V. National Objectives: The business enterprise contributes for the advancement of the
nation by fulfilling national goals such as - increase in employment opportunities, earning
foreign revenue, promoting social justice etc.
a. Employment opportunities: Public benefit shall be the basic national objective of a
business firm. Business creates employment opportunities directly or indirectly by
establishing new business units, expanding markets, widening distribution channels,
transportation, insurance etc.
b. Developing backward areas: Business undertakes projects in the backward region of
the nation & thereby it gets developed. Business also helps in providing infrastructure
facilities in the backward regions - like transportation, banking, communication, &
provide employment opportunities & thus results into balanced regional development.
c. Promoting social justice: The term social justice indicates uniform rights & equality to
all the sections of the society. Business can do justice with the society by providing
them better quality products/services at reasonable prices. They should not undertake
any malpractices & prevent the customers from being exploited. The business should
also provide equal opportunities to all the employees to work & progress.
d. Raising standard of living: Business can raise the standard of living of the people of the
country by making quality goods & services available at reasonable prices. Consuming
quality products enhances the standard of living of the people.
e. Contributes revenue to the govt.: Business helps in earning more foreign exchange by
undertaking export activities. The revenue of the govt. also increases by collection of
taxes by the business entities, which can be used for the development of the nation.

Diagram showing different objectives of firms

 Q1 =Profit maximization (MR=MC)
 Q2 =Revenue Maximization (MR=0)
 Q3=Marginal cost pricing (P=MC) i.e.,
allocative efficiency
 Q4=Sales maximization: Maximum sales
while still making normal profit (AR=ATC)

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1.4. Managerial Economic (ME) & Micro Economics:

Micro, Macro & Managerial Economics Relationship: Micro-economics studies the actions
of individual consumers & firms; whereas, Macroeconomics deals with the performance,
structure & behavior of an economy as a whole. ME is basically a blend of Economics &
Management. ME is an applied specialty of this branch.
Managerial Economics (ME) & Micro Economics
All the firms operating in the market have to take under consideration the constituent of the
economic environment for its proper functioning. This economic environment is nothing but
the Micro economics elements, such as -
 Micro Economics is a broader concept & forms the foundation of ME. Almost all the
concepts of ME are the perceptions of Micro Economics concepts, such as - ME can be
perceived as an applied Micro Economics.
 Dem& Analysis & Forecasting, Theory of Price, Theory of Revenue & Cost, Theory of
Supply & Production are major back bones of Micro Economics that underpins the ME.

Managerial Economics (ME) on the other hand, applies the theories of Micro Economics to
resolve the issues of the organization & for decision making.
 All Managers want to carry out their function of decision making with maximum
efficiency. Their business planning can be effectively planned & performed with
comprehensive knowledge & understanding of micro economic concept & its
applications.
 Optimum decision making to achieve the objective of the organization i.e. for profit
maximizing or for cost minimizing, is possible with proper compliance of micro economic
know how, regardless of the technological constraints & given market conditions. Micro
Economic Analysis is important as it is applied to day to day dilemma & concerns.

The reliance of ME on Micro Economics is made clearer in the points below:

 Microeconomics is the study that deals with partial equilibrium analysis which is useful
for the manager in deciding equilibrium for his organization.
 Managerial Economics also uses tools of Mathematical Economics & econometrics such
as regression analysis, correlation analysis etc.

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 If a manager wants to increase the price of the product due to increase in cost of
production, he will analyze the price elasticity of demand for that product so that price
rise is not followed by substantial fall in the demand of the product. It is the application
of demand analysis to the real world situation.
 For fixing the price of the products managers applies the pricing, cost & revenue
theories.
 Decisions regarding production & supply in the market, knowledge of availability of fixed
& variable factors of production, availability of raw-material, state of technology to be
used etc. can be determined with the knowledge of theory of production.
 Managerial economics utilizes statistical methods such as game theory, linear
programming etc. for application of Economic Theory in Decision making.
 One of the responsibilities of Manager is to workout budgets for different departments
of the organization which is learned from Capital Budgeting & Capital Rationing.
 Cost & benefit analysis helps the manager in decision making.
 Study of welfare economics helps Manager in taking care of social responsibilities of the
organization.
 Theory of firm, an important element of microeconomics, is one of the most significant
elements of Managerial Economics.
 Economics is concerned with the well-being of all people, including those with jobs &
those without jobs, as well as those with high incomes & those with low incomes.
 It looks at how government spending, taxes, & regulations affect decisions about
production & consumption.

It should be clear by now that economics covers a lot of ground. That ground can be divided
into two parts: Micro-economics focuses on the actions of individual agents within the
economy, like households, workers, & businesses; Macro-economics looks at the economy
as a whole. It focuses on broad issues such as growth of production, the number of
unemployed people, the inflationary increase in prices, government deficits, & levels of
exports & imports. Microeconomics & macroeconomics are not separate subjects, but rather
complementary perspectives on the overall subject of the economy.

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To understand why both microeconomic & macroeconomic perspectives are useful, consider
the problem of studying a biological ecosystem like a lake e.g.,
 One person who sets out to study the lake might focus on specific topics e.g., certain
kinds of algae or plant life; the characteristics of particular fish or snails; or the trees
surrounding the lake.
 Another person might take an overall view & instead consider the entire ecosystem of the
lake from top to bottom; what eats what, how the system stays in a rough balance &
what environmental stresses affect this balance.
Both approaches are useful, & both examine the same lake, but the viewpoints are different.
In a similar way, both microeconomics & macroeconomics study the same economy, but
each has a different viewpoint. Whether you are looking at lakes or economics, the micro &
the macro insights should blend with each other. In studying a lake, the micro insights about
particular plants & animals help to understand the overall food chain, while the macro
insights about the overall food chain help to explain the environment in which individual
plants & animals live. In economics, the micro decisions of individual businesses are
influenced by whether the macro-economy is healthy; for example, firms will be more likely
to hire workers if the overall economy is growing. In turn, the performance of the macro-
economy ultimately depends on the micro-economic decisions made by individual
households & businesses.

Micro-economics: What determines how households & individuals spend their budgets?
What combination of goods & services will best fit their needs & wants, given the budget
they have to spend? How do people decide whether to work, & if so, whether to work full
time or part time? How do people decide how much to save for the future, or whether they
should borrow to spend beyond their current means?

What determines the products, & how many of each, a firm will produce & sell? What
determines what prices a firm will charge? What determines how a firm will produce its
products? What determines how many workers it will hire? How will a firm finance its
business? When will a firm decide to expand, downsize, or even close?

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1.5. Managerial Economic (ME) & Macro Economics:

Macroeconomics: What determines the level of economic activity in a society? In other
words, what determines how many goods & services a nation actually produces? What
determines how many jobs are available in an economy? What determines a nation’s
standard of living? What causes the economy to speed up or slow down? What causes firms
to hire more workers or to lay workers off? Finally, what causes the economy to grow over
the long term?

An economy’s macroeconomic health can be defined by a number of goals: growth in the

standard of living, low unemployment, & low inflation, to name the most important. How
can macroeconomic policy be used to pursue these goals? Monetary policy, which involves
policies that affect bank lending, interest rates, & financial capital markets, is conducted by a
nation’s central bank. For the United States, this is the Federal Reserve. Fiscal policy, which
involves government spending & taxes, is determined by a nation’s legislative body. For the
United States, this is the Congress & the executive branch, which originates the federal
budget. These are the main tools the government has to work with. Americans tend to
expect that government can fix whatever economic problems we encounter, but to what
extent is that expectation realistic?

The main difference between Managerial and Macroeconomics is that Managerial

Economics uses the concepts of microeconomics to assist rational decision making in a
managerial setup, while Macroeconomics is a dedicated branch to determine economic
correlations that can assist in better policymaking for bigger agencies, nationals and
international bodies.

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Comparison Table between Macroeconomics & Managerial Economics -

Parameter of
Macroeconomics Managerial Economics
Comparison

The branch of economics

The branch of economics dedicated
dedicated to studying the
Definition to using theories of economics for
functioning of economic systems
better management decision making.
& evaluating policy outcomes.

Macroeconomic theories are It borrows theories from

Principle
devised by perspective analysis. Microeconomics.

It is based on the application of

Nature Nature is largely theoretical
principles.

The subject of study in case of Since it derives its principles from

macroeconomics is normally a microeconomics, the subject of study
Size & Spread
very big economic system like a is limited to a smaller setup, usually
country & even multiple nations an organization.

Since the studies are done in a

Study and application are limited to a
Limitations vacuum, practical implications
specific project/ organization.
such as Taxation are ignored.

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1.6. Application of Economics in Managerial Decision Making:

ME is the study of how managers can apply economic principles & analyses as well as
quantitative tools in making an effective business & managerial decisions involving the best
use (allocation) of the organizations scarce resources to achieve their objectives. Thus,
decision making in business is an important topic discussed in Business Economics. It implies
taking decisions, formation of future plans & choosing the best alternative business plan.
Businessmen face the problem of choice due to the scarcity of factors of production.
Besides, the alternative use of the factors of production also creates a problem for them.
Decision making aims at maximizing profits through taking effective & efficient decisions.
Businessmen have to take decisions & fulfill their activities in an atmosphere of uncertainty.
Uncertainty element is considered to be a special feature of business enterprises.

If the businessmen have complete understanding & knowledge regarding the future, they
can take effective decisions. But in reality businessmen find it difficult to get correct
information with regard to the future sales, costs & profits. So they have to make proper
business plans on the basis of the available information. They have to be acquaint with new
matters when they implement the business plans. In order to overcome the problems, they
have to change their plan by adopting new methods. In this way decision making is a
continuous process in business organization. Business analysis & Economic laws: Economic
laws are useful for taking business decisions in times of uncertainty. Economic laws relating
to the demand, profits, costs, prices, competition, production, business cycles, national
income etc. help the businessmen to solve the problems of business organization & business
decisions.
The Application of Economic Theory in Decision Making is explained as follows:
 Economic concepts like price elasticity, income elasticity, cross elasticity, supply
elasticity, costs of production etc. are useful for estimating the volume of business in
future.
 Economic laws are also useful for forecasting the profits, demand, output, costs, price
determination etc. As the business organizers manage their production activities under
uncertainty conditions, such estimates help them for making economic decisions &
plans.

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 Economic laws help the businessmen to understand the government’s policy with regard
to business cycles, changes in national income, taxation, foreign trade, industrial
relations, monopoly control, industrial licensing, price control etc. Businessmen can form
their business methods suitable to the policy of the government. They make &
implement business policies after carefully analyzing the impact of the above factors.

But economic laws are formed on the basis of certain assumptions. The assumptions may
not be real e.g., achievement of maximum profits is an important assumption in Economics.
But on the basis of this assumption, economics analyzes how a firm produces maximum level
of output & at what price it sells its goods?

But, in reality business firm does not always aim at achieving maximum profits, so it is
necessary to achieve co-ordination between the economic laws (based on simple
assumption) & real behavior of a business firm.

Business decision making: Any business is essentially an economic activity.

 Economics provides an analytical understanding of the economic activity. Apparently,
business economics is the off spring of economics seed in business arena.
 Economics is a study of men as they live, behave, move & think in the ordinary business of
life. (Economics studies as, “They were people are organized for economic tasks by
corporation, by trade unions & by government”).
 Economics thus essentially pertains to an understanding of life’s principle preoccupation.
 Business economics however is the economics involved in business decision making.
Business economics, in the true sense is the integration economic principles with business
practice.
 The subject matter of business economics, as such should utilize economic analysis that
can be helpful in solving business problems, policy & planning after mastering the basic
contents, principles & logic of economics.
 In business decision making however, the real situation tends to be quite different from
theoretical assumptions.

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Actually-
 There are multiple goals in running a business
 There is a lack of certainty due to dynamic changes
 The pervasiveness (सववव्यापी, व्यापक) of uncertainty may create disappointment in
realization of business expectations.
 As such economic theory cannot provide a clear cut solution to business problems.
 Nonetheless, economic theory does help in arriving at a better decision.
 But there may be number of obstacles & weaknesses of economic analysis in actual
decision making situation.

There exists a wide gap between the theory of firm & business economics in practice:
• In economic theory for instance the firm the decision maker identifies profit maximizing
output by equating marginal revenue with marginal cost. But in actual practice this may
not be possible to attain due to resource constraints. In this case the business decision
should be made with the help of linear programming optimization.
• Economics is logic of choice. It teaches the art of rational decision making. Thus
economics is of significant use in modern business as decision making is the core of
business & the success in the business depends on right decisions. In business also, a firm
or a business unit faces the problem of decision making in the curse of alternative action,
in view of the constraints set by given resources which are relatively scarce.
• Business economics is fundamentally concerned with the art of economizing, i.e., making
rational choice to yield maximum return out of minimum resources & efforts, by making
the best selection among alternative course of action.
• Business economics is however not a branch of economic theory but separate discipline
by itself having its own principles & methods. But essentially business economics rests on
the edifice of economics. Knowledge of economics is certainly useful to the business
people. Business must know the fundamentals of economics & economic theories for a
meaningful business analysis

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Role of Managerial Economist in business: In a knowledge base economy & business those
who contained to be expertise in managerial economics are referred to as managerial
economists. Making decisions & processing information are two primary tasks of mangers. In
order to make intelligent decisions mangers must be able to obtain, process & then use the
information. The purpose of earning economic theory is to help managers know what
information should be obtained & how to process & use the information.

The task of organizing & processing information & then making an intelligent decision based
upon this information & the basic theory can take two general forms-
 Task of making specific decisions by managers ,
 General task of mangers to use readily available information to make a decision or
carry out a course of action that furthers the goals of the organization.

ME is a proven concept & many big firms use it to better manage the different teams. There
exists a set of rules for problem solving which are helpful to better manage the efficiency of
different teams & departments. However these are the four main aspects of decision making
that help managers plan ahead for their team:
i) Resource Allocation: Resources always are the top concern for managers. It is often that
most of them feel that their team has too little manpower to complete the task at hand. It
is also one of the principles that allow the best use of the resources to complete the task.
ii) Inventory: Inventory allocation is another one of the major challenges. But, they must be
on top of these aspects by analyzing the demand and supply models. Managers can get a
better hold of management and transport of inventories by queuing products.
iii) Pricing: Fixing prices for the products in any firm is a crucial part of the decision making
process. Pricing problems involve decisions about various methods of pricing that firms
need to adopt.
iv) Investment: Managers must be aware of the future of their firms. In this manner, they
can have oversight of falling prey to negative market forces. Thus, investment planning is
of the pillars.

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After conducting a study survey following specific functions came to the conclusion that
managerial economist undertakes the:
1. Product scheduling,
2. Dem& Forecasting,
3. Market Research,
4. Economic Analysis of the industry,
5. Investment Appraisal,
6. Security management Analysis,
7. Advise on foreign Exchange management,
8. Advise on trade,
9. Pricing & the related decisions &
10. Analyzing & forecasting environmental factors.

All of these & a myriad ( ) of other managerial decisions required the use of basic
economics.

End of Unit No. 1

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