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42 ECO SAT-1 from vikash agrawal

42 ECO SAT-1 from vikash agrawal

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Published by: Vikash Agrawal on Oct 11, 2011
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Masters of Business Administration- Semester 1MB0042
Managerial Economics - 4 Credits(Book ID: B1131) Assignment Set- 1 (60 Marks)
Note: Each question carries 10 Marks. Answer all the questions.1. Explain what is price elasticity of demand and outline the determinants of priceelasticity of demand with examples.
Answer: Elasticity of demand is generally defined as the responsiveness or sensitiveness of demand to a given change in the price of a commodity. It refers to the capacity of demandeither to stretch or shrink to a given change in price.Elasticity of demand indicates a ratio of relative changes in two quantities.ie, price anddemand.According to Prof Boulding
“Elasticity of demand measures the responsiveness of 
demand to change
s in price”.
 In the words of Marshall
“The elasticity (or responsiveness) of demand in a market is
great or small according to the amount demanded much or little for a given fall in price, and
diminishes much or little for a given rise in price”.
Determinants of price elasticity are:
Nature of commodity
commodities coming under category of necessaries andessentials tend to be inelastic since people them irrespective of price.Ex. Grains, Milk, Vegetables, Refrigerators2. Existence of Substitutes
economically interchangeable goods are considered assubstitutes by buyers. If commodity has no substitute in market, demand tends to beinelastic and buyers pay high price for such goods.Ex. Salt, Tooth pastes, Soaps etc.3. Number of uses of the commodity
Single-use goods is those that can be used foronly purpose and multi-use goods are those that can be used for variety of purposes.Ex. Eatables, Seeds are single-use goods and Electricity, Coal are multi-use goods4. Level of knowledge
Demand in case of enlightened customer would be elasticand in case of ignorant customers, it would be elastic
 5. Range of prices
Goods for which a small fall or rise in prices will haveinsignificant effect on their demand.Ex. Cars, Computers are costly in price while Needles, Nails are low priced6. Habits
When people are habituated for use of a commodity, they do not careabout the priceEx. Tobacco, Alcohol
2. In the newspapers we read about mergers between companies in the same line of business. What are the economies of scale that can be availed of with mergers?
Ans. 2 Merger refers to the process of combination of two companies, whereby a newcompany is formed. An acquisition refers to the process whereby a company simplypurchases another company. In this case there is no new company being formed. Benefitsof mergers and acquisitions are quite a handful.Mergers and acquisitions generally succeed in generating cost efficiency through theimplementation of economies of scale. It may also lead to tax gains and can even lead to arevenue enhancement through market share gain.Economies of ScaleThe study of economies of scale is associated with large scale production. To-day there is ageneral tendency to organize production on a large scale basis. Mass production of standardized goods has become the order of the day. Large scale production is beneficial
and economical in nature. “The advantages or benefits that accrue to a firm as a result of increase in its scale of production are called „Economies of Scale?. They have close
relationship with the size of the firm. They influence the average cost over different rangesof output. They are gain to a firm. They help in reducing production cost and establishingan optimum size of a firm. Thus, they help a lot and go a long way in the development andgrowth of a firm. According to Prof. Marshall these economies are of two types, viz InternalEconomies and External Economics. Now we shall study both of them in detail.
Economiesof scale give information about the various benefits that a firm will get when it goes forlarge scale production. Economies of scope on the other hand tells us how there will becertain specific advantages when one firm produces more than two products jointly thantwo or three firms produce them separately. Diseconomies of scale and diseconomies of scope tells us that there are certain limitations to expansion in output Cost analysis on theother hand, indicates the various amounts of costs incurred to produce a particular
quantity of output in monetary terms. The various kinds of cost concepts help a manager totake right decisions. Cost function explains the relationship between the amounts of coststo be incurred to produce a particular quantity of output. Short run cost function givesinformation about the nature and behavior of various cost curves. Long run cost functiontells us how it is possible to obtain more output at lower costs in the long run. Thus, theknowledge of both production function and cost functions help a business executive towork out the best possible factor combinations to maximize output with minimum costs.Economies of scale, in merger, refers to the cost advantages that a business obtains due to
expansion. There are factors that cause a producer’s average cost per unit to fall as thescale of output is increased. “Economies of scale” is a long run concept and refers to
reductions in unit cost as the size of a facility and the usage levels of other inputs increase.Diseconomies of scale are the opposite. The common sources of economies of scale arepurchasing (bulk buying of materials through long-term contracts), managerial (increasingthe specialization of managers), financial (obtaining lower-interest charges whenborrowing from banks and having access to a greater range of financial instruments),marketing (spreading the cost of advertising over a greater range of output in mediamarkets), and technological (taking advantage of returns to scale in the productionfunction). Each of these factors reduces the long run average costs (LRAC) of production byshifting the short-run average total cost (SRATC) curve down and to the right. Economies of scale are also derived partially from learning by doing.
Economies of scale is a practicalconcept that is important for explaining real world phenomena such as patterns of international tra
de, the number of firms in a market, and how firms get “too big to fail”. The
exploitation of economies of scale helps explain why companies grow large in someindustries. It is also a justification for free trade policies, since some economies of scalemay require a larger market than is possible within a particular country
for example, it would not be efficient for Liechtenstein to have its own car maker, if they would only sell totheir local market. A lone car maker may be profitable, however, if they export cars toglobal markets in addition to selling to the local market. Economies of scale also play a role
in a “natural monopoly.”
3. Discuss the features of monopolistic competition and the method of pricedetermination in monopolistic competition
Monopolistic Competition
 Perfect competition and monopoly are the two extreme forms of market situations, rarely to befound in the real world. Generally, markets are imperfect. A number of attempts have been made bydifferent economists like Piero
Shraffa, Hotelling, Zeuthen and others in the early 1920’s, Mrs JoanRobinson and Prof Chamberlin in 1930’s to explain the behavior of imperfect competition.
 Characteristics of Monopolistic Competition

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