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Managerial economics involves applying mathematical and statistical equations to help managers find the most optimal allocation of limited resources. Analysts analyze the data from the results of previous decisions to predict or forecast future decisions. A classic example is analyzing data associated with customer buying habits and behavior patterns to predict what customers will buy in the future. To accomplish this, according to the website Reference for Business, "managerial economics uses a wide variety of economic concepts, tools and techniques in the decision-making process." These concepts, tools and techniques can be organized under three primary categories referred to as the theory of the firm, the theory of consumer behavior and the theory of market structure and pricing. Theory of the Firm Theory of the firm deals with the primary decision motive of a firm which is to make a profit. The profit motive is the goal of all decisions. Of course, to make a profit, the firm must provide a product or service that consumers want to buy, treat employees well, satisfy demands of stockholders and meet the demands of society, such as environmental concerns. Theory of Consumer Behavior Theory of consumer behavior involves consumer buying habits. Many factors feed this theory such as income, demographics and socioeconomic issues. While a firm's focus is to maximize profit, consumers' primary objective is to maximize the utility of satisfaction, such as purchasing and consuming the maximum amount of goods for the minimum amount Theory of Market Structure and Pricing When companies seek to maximize profits, they must consider the competitive market structure. There are four basic market structures: perfect competition, monopolistic competition, oligopoly and monopoly. Each of these identify the level of competition that exist in a given market. Competition affects pricing and the amount of profit companies can make by entering a market. Application
Using these theories and the formulations that economists have come up with based on them, managerial economics can be applied to any business
within any industry. Companies can integrate their own customer buying habits and behavior data into the applicable formulation and get useful decisionmaking results. The results can help decision makers determine the most optimal allocation of scarce resources in finance, marketing, inventory management and production. Application Example Wal-Mart has a very sophisticated supply chain where managers have to make purchase decisions regarding thousands of suppliers and the decision variables vary per location. This is an "allocation of capital resources problem" they have to address and solve on a daily basis, and managerial economics concepts and analytical tools play a critical role.
DIFFERENCE BETWEEN MANAGERIAL ECONOMICS AND ECONOMICS
Managerial Economics is micro in character Pure Economics is both micro and macro in character 2) Managerial Economics study only practical application of the Economic principle to the problem of firm Pure Economics deals with the study of principles itself 3) Managerial Economics deals with the Economic problems of the firm while Pure Economics deals with Economic problems of both firm and individuals 4) Managerial Economics deals with profit theory only Pure Economics deals with all distribution theories like rent, wages, interests, and profits.
NATURE AND IMPORTANCE OF MANAGERIAL ECONOMICS
Nature of Managerial Economics: Following points constitute nature of managerial economics 1. Micro Economics 2. Theory of the firm 3. Managerial Economics is Pragmatic (practical in outlook) 4. Managerial economics is normative 5. Using inputs from Macroeconomics 6. It is concerned with Normative Economics Scope of managerial economics:
Operational issues 1. Resource Allocation 2. Demand Analysis and Forecasting 3. Cost and Production Analysis 4. Pricing Decisions, Policies and Practices 5. Profit Management 6. Capital Management 7. Strategic Planning Environmental or external issues · Economic Environment: · Social environment · Political Environment · Technological Environment · International environment
IMPORTANCE OF MANAGERIAL ECONOMICS SCOPE & IMPORTANCE OF MANAGERIAL ECONOMICS:
Out of two major managerial functions served by the subject matter under managerial economics are decision making and forward planning: Lets explore the scope for decision making: 1. Decision relating to demand. 2. Decision related to Cost and production. 3. Decision relating to price and market. 4. Decision relating to profit management. 5. Macro economic factor.
MANAGERIAL ECONOMICS AND BUSINESS ECONOMICS
Managerial Economics is often interchangeable with Business Economics, though there is some difference between these two terms: i) Business Economics - means Economics necessary to be understood for running any business. ii) Managerial Economics - lays more emphasis on the managerial functions in any business firm. Managerial functions are decision making and forward planning.
1. FORWARD BACKWARD STOCHASTIC DIFFERENTIAL EQUATIONS. Optimization problems in continuous-time financial models are typically equivalent to a system of Forward-Backward Stochastic Differential Equations (FBSDEs), for which the existence theory has not been fully completed. It is possible that a good way to approach the optimization problems numerically is to try to solve the corresponding FBSDE.
2. NUMERICAL METHODS One of the hardest practical problems of quantitative financial methods is to solve high-dimensional optimization problems. The most famous example of these is pricing high-dimensional American options. In principle, at least in diffusion models, these problems can be solved by solving nonlinear partial differential equations or free boundary problems. However, with many variables (interest rates, volatilities, various stocks and other financial variables), these PDE's are high-dimensional and standard numerical methods do not work. 1. CONTRACT THEORY Many of the above mentioned problems become both more theoretically interesting and more practical when considered in a context of two or more market participants. For instance, in the Principal-Agent problems, the principal hires the agent to perform certain tasks (such as managing an investment fund or running a company). The principal must then design a compensation contract which gives to the agent the incentives to realize the maximal effort for the assigned task. The problem becomes even more interesting (and more challenging) in a dynamic context and in presence of asymmetric information in the sense that the agent may have more information than the principal about the underlying activity risk to which the principal is exposed. 2. PORTFOLIO ALLOCATION Perhaps the most classical optimization problem in finance is the problem of optimal portfolio allocation. Many problems of this type have been solved in complete markets explicitly, and in Markovian models of incomplete markets numerically. Still, in high-dimensions numerical methods are not yet satisfactory, and for practical applications it is often useful to have analytic solutions, especially for problems related to risk management and hedging in incomplete markets.
INPUT AND OUTPUT ANALYSIS
Input-output analysis is a basic method of quantitative economics that portrays macroeconomic activity as a system of interrelated goods and services. In particular, the technique observes various economic sectors as a series of inputs of source materials (or services) and outputs of finished or semi-finished goods (or services). The field is most identified with the work of Wassily
. Suppose there are three industries. flour. and the chain continues. Léon Walras's work Elements of Pure Economics on general equilibrium theory is both a forerunner and generalization of Leontief's seminal concept. Rows 2 and 3 do the same for the other industries. in essence. Columns 2 and 3 do the same for those industries. shows how dependent each industry is on all others in the economy both as customer of their outputs and as supplier of their inputs." And hence. and 3. Leontief put forward the display of this information in the form of a matrix. and applications. There are cooking recipes for all the industries in the economy. 2. Row 1 reports the value of outputs from Industry 1 to Industries 1. which includes "improvements in basic data. of input-output techniques. one industry's output is another's input. Leontief won the Nobel Memorial Prize in Economic Sciences for his development of this model. In economics." Input-output depicts inter-industry relations of an economy. Francois Quesnay developed a cruder version of this technique called Tableau économique. It shows how the output of one industry is an input to each other industry. and foreign suppliers on the economy. A given input is typically enumerated in the column of an industry and its outputs are enumerated in its corresponding row. you need eggs. This format. The International Input-Output Association is dedicated to advancing knowledge in the field of input-output study. And. and 3. Leontief's contribution was that he was able to simplify Walras's piece so that it could be implemented empirically. who was awarded the 1973 Nobel Prize in Economics for his pioneering work in the area.Leontief (1906-1999). Wassily Leontief (1905-1999) is credited with the development of this analysis. Column 1 reports the value of inputs to Industry 1 from Industries 1. you must use more eggs. 2. both traditional and novel. Leontief once explained input-output analysis as follows: "When you make bread. an input-output model uses a matrix representation of a nation's (or a region's) economy to predict the effect of changes in one industry on others and by consumers. therefore. Each column of the input-output matrix reports the monetary value of an industry's inputs and each row represents the value of an industry's outputs. and milk. And if you want more bread. government. theoretical insights and modelling.
and econometric analysis. in contrast. Advertising costs. The method includes selecting a set of feasible service offerings to offer for sale to the market from a set of candidate service offerings. The resulting total is the advertising budget that will maximize advertising profits in the short run Nature of Advertising Costs. Production costs (and physical distribution costs that behave like them) are functionally related to output (or sales) and can therefore be budgeted and controlled by such relationships. barometric economic indicator analysis. Determination of the advertising budget as a percentage of past or expected sales is a method that was dominating in the past and is still widely used. Sales are forecasted through the application of three separate procedures -time series analysis. Demand estimation for the firm's products is performed by forecasting the firm's sales. have no necessary functional relationship to output. Each service offering of the set of feasible service offerings and the set of candidate service offerings is defined by a price and a service level. and estimating a demand of the market for the service based upon the observed response. superior to other methods. (end of abstract) This research estimates the demand for the goods and services offered by the Wal-Mart chain of retail stores. Economic analysis of the role of advertising (and other pure selling costs) in the competitive adjustment of the enterprise has developed concepts that can be made useful in planning and controlling advertising outlays. METHODS OF DETETMINING TOTAL ADVERTISING BUDGET Percentage-of-sales Approach. The distinctive nature of advertising costs makes the analytical problem of determining the most profitable advertising outlay much more complex than an analysis using only production costs. . they are a cause. and it is. It says that advertising expenditure for each product should be pushed to the point where the additional outlay equals the profit from the added sales caused by the outlay. not a result of sales.DEMAND ESTIMATION METHOD A method to estimate demand of a market for a service is disclosed. including the determination of the total advertising outlay. observing a response of the market to the set of feasible service offerings offered for sale. at least logically. Economical analysis is a basic economic approach to all business problems.
so you add $10 (20% x $50) to the cost and come up with a price of $60 per unit. The most extreme variation on this is "pay for performance" pricing for services. TYPES OF PRICING Cost-plus pricing . and customers would gladly pay it. if you can achieve it. $300 or more for it. Your expected sales volume is 1. or $10 profit per unit. Incremental production costs The rising phase of the advertising cost curve represents the important part of our problem since. you could easily charge $200. This is usually the most profitable form of pricing.000 units.000 profit on 1. and assume that you have $10.Set the price at your production cost.Price your product based on the value it creates for the customer. So long as you have your costs calculated correctly and have accurately predicted your sales volume. For example. In that case. your fixed costs come to $30 per unit. in which you charge on a variable scale according to the results you achieve. You decide that you want to operate at a 20% markup. $60 seems like a bargain . since they would get their money back in a matter of months. your widgets cost $20 in raw materials and production costs.000 invested in the company. • . you will always be operating at a profit. there is one more major factor that must be considered. For example. including both cost of goods and fixed costs at your current volume. • Target return pricing . You want to recoup all your investment in the first year. However. Advertising cost is assumed to include only pure selling costs.Simplified Marginal Approach. Let's say that your widget above saves the typical customer $1. If your product reliably produced that kind of cost savings.000 a year in. Your total cost is $50 per unit. giving you again a price of $60 per unit. energy costs. so you need to make $10. it should be expanded until diminishing returns set in. • Value-based pricing .000 units in the first year. and at current sales volume (or anticipated initial sales volume). if advertising is to be done at all. say. physical distribution costs being included in production costs. let's use the same situation as above.maybe even too cheap.Set your price to achieve a target return-oninvestment (ROI). plus a certain profit margin.
the prices and availability of related goods. even if you don't have any direct competition. There is simply a limit to what consumers perceive as "fair".Psychological pricing .people would just feel like they were being gouged. Popular price points .000 in value.There are certain "price points" (specific prices) at which people become much more willing to buy a certain type of product. individual and social tastes. Now explain these one by one: 1. even if prices don't change.99 "value menu"). says by the population. California 32 million people tend to buy 32 times more apples and cars than do Rhodes island's 1 million people. because it's "one bill" that people commonly carry. you must be priced lower than your competition. For example. average level of income.Ultimately. and clearly affects the market demand curve. Fair pricing . but more than enough increase in sales to offset it. • FACTORS ON WHICH MARKET SIZE DEPENDS A whole array of factors influences how much will be demanded at a given price. figuring things like: • Positioning . Automobile purchases tend to rise sharply with higher levels of income. you must take into consideration the consumer's perception of your price. . as are entree or snack items under $1 (notice how many fast-food places have a $0. the size of the population. "under $100" is a popular price point. The average income of consumers is a key determinant of demand. If you want to signal high quality. and special influences. As people's income rise. 2. A little market testing will help you determine the maximum price consumers will perceive as fair. even if it delivered $10. "Enough under $20 to be under $20 with sales tax" is another popular price point. Dropping your price to a popular price point might mean a lower margin. If it's obvious that your product only cost $20 to manufacture. you'd have a hard time charging two or three thousand dollars for it -.If you want to be the "low-cost leader". individuals tend to buy more of almost everything. The size of the market measured. Meals under $5 are still a popular price point. you should probably be priced higher than most of your competition.Sometimes it simply doesn't matter what the value of the product is.
the demand for air conditioners will rise in hot weather. such as cornflakes and oatmeal. The demand for umbrella is high in rainy Seattle but low in sunny Phoenix. the incremental cost principle can be applied in a sound and practical way. The remaining common costs are then allocated to the incremental party or parties. Duplication Costs Adjusted for Line Loadings Assuming a decision to price actual rather than fictitious uses of the system. or that would occur. or oil and natural gas.3. prices need to be set for the real transmission services that are provided based on the actual flows resulting from each transaction. ones that tend to perform the same function. A particularly important connection exists among substitute goods. the demand for automobile will be low in New York. adjusted by the line's loading when the transmission service is committed. small cars and large cars. In its "Impacted Megawatt-Mile" pricing method. In other words. pens and pencils. INCREMENTAL COST PRICING METHODS Variation of the stand-alone technique establishes a priority among users and allocates common costs to the primary party up to the amount of that user's stand-alone costs. Finally special influences will affect the demand for particular goods. What must be priced is the changes that occur in transmission system conditions. Dominion Resources proposes to price the megawatt-miles that flow over each line segment based on the duplication costs of each line. where public transport is plentiful and parking is a nightmare. Actual Flows. from the use or reservation of the transmission system for each incremental power transaction. Not Contract Paths Efficient transmission prices based on incremental costs are possible. 4. But first they require a new understanding about what must be priced. . The price and availability of related goods influence the demand for commodity.
Both positive and normative statements must be combined to make a policy statement. if their disagreement is on positive grounds. but it is a positive statement because it is a statement about what exists. If economists limit . Libertarians and socialists. "The moon is made of green cheese" is incorrect. A positive statement is a statement about what is and that contains no indication of approval or disapproval. However. and testing may bring them closer together. POSSITIVE AND NORMATIVE ANALYSIS Positive analysis uses economics to explain why things work the way they do in the real world. Christians and atheists may have very different ideas about what is desirable. Economists often see cases in which people propose courses of action that will never get them to their intended results. If their disagreement is on normative grounds. Economists can confine themselves to positive statements. then further discussion. Notice that there is no way of disproving this statement. and decide on a way of attaining those goals (the positive part). they can try to learn whether their disagreement stems from different normative views or from different positive views. you have no sure way of convincing someone who believes the statement that he is wrong. When they disagree.Prices That Make Sense Incremental pricing makes basic economic sense. Notice that a positive statement can be wrong. they know that their disagreement lies outside the realm of economics. so economic theory and evidence will not bring them together. study. but few are willing to do so because such confinement limits what they can say about issues of government policy. Incremental cost pricing under the Impacted Megawatt-Mile proposal creates strong incentives for efficient use of the existing transmission system and efficient additions to transmission capacity. One must make a judgment about what goals are desirable (the normative part). If you disagree with it. Normative analysis uses economics to make statements about how things should be. "The world would be a better place if the moon were made of green cheese" is a normative statement because it expresses a judgment about what ought to be. Economists have found the positive-normative distinction useful because it helps people with very different views about what is desirable to communicate with each other. A normative statement expresses a judgment about whether a situation is desirable or undesirable.
Managers must make choices on the basis of limited or bounded rationality. introducing a controversial policy. And therefore: MRP = MPP * P Where MRP is the marginal revenue product. Some decisions that managers make may be daily and routine such as delegating a task. managers must make choices of action among alternatives. they are like tips of an iceberg. Other decisions made may be more complex such as adopting a new process. DERIVED DEMAND AND DIRECT DEMAND . This may occur as the former is a part of production of the second. which may not be everything they should know. they confine themselves to positive analysis. authorizing a vendor request. Most statements are not easily categorized as purely positive or purely normative. as coal must be mined for coal to be consumed. where demand for one good or service occurs as a result of demand for another. For example. Nobel Prize winner Herbert Simon identified two definitive types of decision-making. That is. with many invisible assumptions hiding below the surface. and P is the price of the physical product. DERIVED DEMAND Derived demand is a term in economics. they must make decisions in light of everything they can learn about the situation. MPP is the marginal physical product. The increase in price leads to a higher demand for the resources involved in mining coal. As the demand for coal increases. Rather. so does its price. allocating resources during a crisis. demand for coal leads to derived demand for mining. DECISION MAKING AS MANAGERIAL FUNCTION Decision Making is the core of planning. or creating a work schedule. or negotiating the terms of a contract.themselves to evaluating whether or not proposed actions will achieve intended results.
Survey the market for competitive and similar products.Direct Demand: Goods that yield direct satisfaction to the consumers are said to have a direct demand. capital. This is particularly true for high-end. yielding depressed response and lower sales. Consider whether new products. Derived Demand: Goods that are needed by the producers are said to have derived demand. potential customers will think it can't be that good. All factors of production have derived demand. This demand comes from the producers side. new uses for existing products. • • • This demand comes from the consumers side. Segments are important for positioning and merchandising the offering to ensure maximized sales at the established price point. Assess the product's availability and near substitutes. • All the finished goods have a direct demand. Demand for land. If the price is too low. labor. are the examples of direct demand. One client underpriced its subscription product. Underpricing hurts your product as much as overpricing does. are the examples of derived demand. FACTORS INFLUENCING PRICING POLICIES Pricing Factors to Consider Determine primary and secondary market segments. Demand for food. cloth and house etc. etc. or new technologies can compete with . This helps you better understand the offering's value to consumers. prestige brands.
The electricity of demand must be different in different markets.g. leapfrog your offering. MarketingExperiments. Monitor the market and your competition continually to reassess pricing. • CONDITIONS ESSENTIAL TO MAKE PRICE DISCRIMINATION 1. Different markets must be separable for a seller to be able to practice discriminatory pricing. Market dynamics and new products can influence and change consumer needs.or.. doctor service • Lack of distribution channels e. remember to incorporate the cost of forgone revenue. It found the highest price yielded the greatest product revenue.comtested three different price points for a book. ad-free site should generate more revenue than a free ad-supported one.. This is important if you enter a new or untapped market. Examine all possible ways consumers can acquire your product. I recommended a content client promote its advertising-supported free e-zines to incent readers to register. domestic versus foreign markets. or enhance an offering with consumer-oriented benefits. Interestingly. I've worked with companies that only take into account direct competitors selling through identical channels. A paid. the middle price yielded greater revenue over time.g. Markets are separated by :- Geographical distance involving high cost of transportation i. The purpose of pricediscrimination is to maximize the profit by . • Exclusive use of the commodity e. so it didn't advertise them. • Test different price points if possible. transfer of electricity from domestic use (lower rate) to industrial use (higher rate) • 2. worse.. Examine market pricing and economics. The client believed the e-zines had no value as the content was repurposed from another product. as it generated more customers to whom other related products could be marketed. The market for different classes of consumer must be so separated that buyers form one market are not in position to resell the commodity in the other. for example.e. Calculate the internal cost structure and understand how pricing interacts with the offering. especially as advertisers find paying customers more attractive. To determine price. In considering this option.
it can be quite useful.  For example. perhaps. There are two conditions that must be met if a price discrimination scheme is to work. regardless of academic training or field of endeavour. First the firm must be able to identify market segments by their price elasticity of demand and second the firms must be able to enforce the scheme. The firm must have monopoly over the supply of the product to be able to discrimination between different class of consumers.business travelers and discount prices for tourist who have relatively elastic demand. 3. If priceelasticities of demand in different markets are the same . It is the difference in the elasticity which provides an opportunity for price discrimination. Profit maximizing output is much larger than the quantity demand in a single market or section of consumers. As a stand-alone tool to compare an investment to "doing nothing. airlines routinely engage in price discrimination by charging high prices for customers with relatively inelastic demand .exploiting the market with different price elasticities. When used carefully or to compare similar investments. . There must be imperfect competition in the market. price discrimination would reduce the profit by reducing the demand in the high price markets. 4. The airlines enforce the scheme by making the tickets non-transferable thus preventing a tourist from buying a ticket at a discounted price and selling it to a business traveler (arbitrage). Airlines accomplish this by imposing advance ticketing requirements or minimum stay requirements conditions that it would be difficult for average business traveler to meet PAYBACK PERIOD AND LIMITATIONS Payback period as a tool of analysis is often used because it is easy to apply and easy to understand for most individuals. and change different prices. Airlines must also prevent business travelers from directly buying discount tickets. that the payback period should be less than infinity)." payback period has no explicit criteria for decision-making (except.
The typical algorithm reduces to the calculation of cumulative cash flow and the moment in which it turns to positive from negative. Additional complexity arises when the cash flow changes sign several times. The modified payback period algorithm may be applied then. except the simple and unrealistic case of the initial cash outlay and further constant cash inflows or constantly growing cash inflows. it is generally agreed that this tool for investment decisions should not be used in isolation. Then the cumulative positive cash flows are determined for each period. Alternative measures of "return" preferred by economists are net present value and internal rate of return.. The modified payback period is calculated as the moment in which the cumulative positive cash flow exceeds the total cash outflow. Discounted cash flow criteria • Net present value (NPV) • Internal rate of return (IRR) • Profitability index (PI) Non discounted cash flow criteria • Payback period . APPRAISAL CRITERI OF CAPITAL INVESTMENT A number of investment appraisal criteria or capital budgeting techniques are in use of practice.The payback period is considered a method of analysis with serious limitations and qualifications for its use. it contains outflows in the midst or at the end of the project lifetime. The payback period only considers revenue. the sum of all of the cash outflows is calculated. does not consider profits. financing or other important considerations. The payback period is to dependent on cash inflows which are hard to predict.e. risk. It is easily applied in spreadsheets. such as the opportunity cost. There is no formula to calculate the payback period. An implicit assumption in the use of payback period is that returns to the investment continue after the payback period. They may be grouped in the following two categories: 1. 2. Whilst the time value of money can be rectified by applying a weighted average cost of capital discount. First. i. because it does not account for the time value of money. Payback period does not specify any required comparison to other investments or even to not making an investment. To calculate the payback period an algorithm is needed.
Intermediate consumption NNP at factor cost = GDP at market price .• Accounting rate of return • Discounted payback period Discounted payback is a variation of the payback method.Depreciation + NFIA (Net Factor Income from Abroad) . It is consistent with the objective of maximizing the shareholders wealth. NNP and NNI. GNP. There are three approaches through which national income can be calculated including. The method for calculating National Income by Output. It involves discounted cash flows.Net Indirect Taxes The measurement of National Income by Income Method: NDP at factor cost = compensation of employee + operating surplus + Mixed income of self employee National Income = NDP at factor cost + NFIA (net factor income from abroad) The measurement of National Income by Expenditure Method: GDP = C + I + G + (X . National income is the total of the value of the goods and the services which are produced in an economy. The basic measures of national income include GDP. All of these approaches give the same value of the national income. but it is not a true measure of investment profitability. What Are The Methods Of Measurement Of National Income? Measurement of national income in an economy is very important because it gives an estimation of the welfare of the economy. We will show in our following posts the net present value (NPV) criterion is the most valid technique of evaluating an investment project.M) . GNI. income approach and expenditure approach. Value Added method: GDP at market price = Value of Output in a year . output approach.
Many INDIAN industries are closing . and used to pay such things as benefits and pensions. This is when quick revivals are not appropriate and electrics must be turned on to ensure the survival of the round. to avoid paying tax. SAVING PATTERNS IN INDIAN ECONOMY INDIAN economy is in a crisis. This also affects firms as their output/produce is taken account for more than once. Our country like many other ASIAN countries is undergoing a severe economic crunch. Over Recording of incomes (Double Counting) .This is losing all perks as you are not revived and incomes are being counted multiple times. This is a problem as people hide what they earn and firms hide their output.this is a problem in collecting and calculating statistics. if these are also counted sleight of hand is in progress.Where: C = Personal consumption expenditures I = Gross investment G = Government consumption X = Gross exports M = Gross imports What are the problems involved in measuring national income There are 3 main problems involves in measuring National Income These are: Errors and Omissions .As people pay taxes their incomes are taking into account. this is the black economy also known as the "ray gun" Over recording of figures (Double Counting) . as it is used by other Juggernoob production firms.
In a free society. the rupee will devalue further and we will end up paying much more for the same products in the near future. and . and a major chunk of profits from these are sent abroad. we will be in a critical situation. are critical to good decision-making and to the effective use of technology in addressing complex societal issues.. With the rise in petrol prices.and public policy makers -.. ASME International supports advancing the understanding. tea. Risk analysis is a technically sound and socially responsible method to facilitate decision-making by government. The INDIAN economy is in a crisis and if we do not take proper steps to control those. and is intended to include qualitative and quantitative risk assessment. but to protect our own interests we request everybody to use INDIAN products only for next two years. risk management and risk communication. The term "risk analysis" is used in this document in the broadest sense. More than 30000 crore rupees of foreign exchange are being siphoned out of our country on products such as cosmetics. if we do not do this. etc which are grown. use. The benefits of risk analysis will be realized only if the public -. industry. beverages. snacks. This is a serious drain on INDIAN economy. A cold drink that costs only 70 / 80 paisa to produce is sold for NINE rupees. and engagement of the public in the discussion of viable options. RISK ANALYSIS OF DECISION MAKING IN MANAGERIAL ECONOMICS Risk analysis is a powerful tool for helping to make the right decision on many issues.down.support this approach. It is a structured process that is directed toward developing a better understanding of the risks associated with a proposed course of action. We have nothing against Multinational companies. produced and consumed here. Risk is the combination of the probability and consequence of each adverse outcome that could result from a proposed course of action. communication of risks and benefits to the public at large. and the general public. and acceptance of risk analysis.
the law of demand is an economic law that states that consumers buy more of a good when its price decreases and less when its price increases (ceteris paribus). LAW OF DEMAND In economics. The greater the amount to be sold.encourages the larger community to join with us in advancing this critical process. Law of demand states that the amount demanded of a commodity and its price are inversely related. "If the price of the good increases. the smaller the price at which it is offered must be in order for it to find purchasers. other things remaining constant. and tastes and preferences of the consumer remain unchanged. all other factors being equal. prices of the related goods. as the price of a good or service increases. That is. consumer demand for the good or service will decrease and vice versa. its quantity demanded increases. while if price of the good decreases." A microeconomic law that states that. EXCEPTIONS IN LAW OF DEMAND Exceptions to the law of demand are : . the quantity demanded decreases. if the income of the consumer. the consumer’s demand for the good will move opposite to the movement in the price of the good.
are products that people continue to buy even at high prices due to lack of substitute products Veblen effect .conspicuous consumption 6.some buyers have adesire to own unusual or unique products to show that they are different from others Bandwagon effect . habits and customs Population Price of related goods Expectation regarding future prices Level of taxes or Government's policy Weather conditions No new product Distribution of income and wealth and Advertisements.1. Snob effect . Bandwagon effect DEFINITIONS Giffen goods . Speculative products 4. • • • • • • • • • • . Income of the consumer Tastes.prefernce for a particular product increases as the the number of buyers purchasing the product increases the following main factors as a constant one for the validity to its law of demand. Veblen effect 3. Life saving drugs or emergency products 5. Giffen goods 2.people tend to buy expensive goods to show off their status conspicuous consumption Snob effect . preferences.
If a price rise is expected by next week. 3. the law of demand does not hold good. These cases are referred to as exceptions to the general law of demand. • Price illusion: There are certain consumers those who are always guided by the price of the commodity. SO they buy prestige goods like colour T. Prestige goods Speculation Price Illusion These different types of exceptions are described in brief explanation as follows:Inferior goods: Some goods like potato. we find that with a fall in the price demand also falls and with a rise in price demand also rises. Hence they purchase larger quantities of high priced goods. vegetable oil etc. Such inferior goods are named as 'Giffen goods'. better the quality. 2. • Prestige goods: Rich people like to show off their economic status. Some of these exceptions are: 1.. An Irish economist Sir Robert Giffen observed this tendency of the individuals in the 19th century. then they will buy more now itself though at present the prices are quite high. Giffen goods or Inferior goods. this purchasing power is used to buy other superior goods. • . even at a higher price. diamond etc. • Expectations and speculations: When people expect a rise or fall in price in the near future. 4. In the case of these goods when their price falls. are called inferior goods. bread.V. The demand curve in these cases will be an upward sloping. the real income or the purchasing power of the consumer increases.Exception to the Law: Some times. They always believe that higher the price.
In the case of substitutes. So people prefer to buy them even at a higher price. • Quality and Branded Goods: Commodities of good standard and quality give proper value for money. and people buy more at a higher price. Higher the price less is the demand and vice versa. price and demand are inversely related. rise in price of one • . • Ignorance: Sometimes due to ignorance of existing market price. • In the above exceptional cases. They last long and give good service. • Price of related goods: The price of related goods like substitutes and complementary goods also affect the demand. Determinants of Demand: The determinants of demand have been explained in brief as follows: Price: The price of a commodity is an important determinant of demand.Demonstration effect: It refers to a tendency of low income groups to imitate the consumption pattern of high income groups. They will buy acommodity to imitate the consumption of their neighbors even if they don't have the purchasing power. the demand graph curve slopes upward showing a positive relationship between price and demand.
• Taste. • Government policy: High taxes will increase the price and and reduce demand. In a theoretical market withperfect information. If the disposable income increases. price discrimination can only be a feature ofmonopolistic and oligopolistic markets.commodity lead to increase in demand for its substitute. preference. while low tax will reduce the price and extend the demand. the moment the seller tries to sell the same good at different prices. • Weather Condition: It is also an important factor to determine the demand for certain goods. demand will be more and if the salesmanship and publicity is effective then the demand for the commodity will be more. • Speculation: If the consumers expect a change in price in near future then their present demand will not vary inversely with the present change in price. more will be the demand and vice versa. demand will be more. • Population: If the size of the population is more. where market power can be exercised. the buyer at the lower price can arbitrage by selling to the . and no transaction costs or prohibition on secondary exchange (or re-selling) to prevent arbitrage. Income: This is directly related to demand. demand will be more for goods. Otherwise. • Money Circulation: More money in circulation. In the case of complementary goods. fashions and habits: These are very effective factors affecting demand for a commodity. • PRICE DISCRIMINATION Price discrimination or price differentiation exists when sales of identical goods or services are transacted at different prices from the same provider. perfect substitutes. fall in the price of one commodity lead to rise in demand for both the goods. • Advertisement and Salesmanship: If the advertisement is very attractive for a commodity.
Some economists have argued that this is a form of price discrimination exercised by providing a means for consumers to reveal their willingness to pay. typically such behavior leads to lower prices for some consumers and higher prices for others for example Zain. Price discrimination also occurs when the same price is charged to customers which have different supply costs. such as cappuccino compared to regular coffee) have a price differential that is not explained by the cost of production. Price discrimination is thus very common in services. Price discrimination in intellectual property is also enforced by law and by technology. but output can also decline when discrimination is more effective at extracting surplus from high-valued users than expanding sales to low valued users. an example is student discounts at museums. However. price discrimination can reduce efficiency by misallocating output among consumers. even in fully competitive retail or industrial markets. DVD players are designed .by law . competitors. or restricting pricing information. The effects of price discrimination on social efficiency are unclear. In the market for DVDs. Price discrimination requires market segmentation and some means to discourage discount customers from becoming resellers and.with chips to prevent use of an inexpensive copy of the DVD (for example legally purchased in India) from being used in a higher price market (like the US). Output can be expanded when price discrimination is very efficient. The boundary set up by the marketer to keep segments separate are referred to as a rate fence. For example.consumer buying at the higher price but with a tiny discount. This usually entails using one or more means of preventing any resale. keeping the different price groups separate. where resale is not possible. making price comparisons difficult. by extension. Even if output remains constant. market frictions or high fixed costs (which make marginal-cost pricing unsustainable in the long run) can allow for some degree of differential pricing to different consumers. so-called "premium products" (including relatively simple products. The Digital Millennium Copyright Act has provisions to outlaw circumventing of such devices to protect the enhanced monopoly profits that copyright holders can obtain from price discrimination against higher price market segments. Price Discrimination . product heterogeneity. Price discrimination can also be seen where the requirement that goods be identical is relaxed.
E. First Degree Price Discrimination This involves charging consumers the maximum price that they are willing to pay. students with low income will be more price elastic.c. OAPs and peak travellers e. There will be no consumer surplus. Different Types of Price Discrimination 1. If there are 2 sub markets with different elasticities of demand. Conditions Necessary for Price Discrimination 1. after 10 minutes phone calls become cheaper. it must be a price maker with a downwardly sloping demand curve.g. 3. 2.g.the price will be higher For groups like students prices will be lower becaue there demand is elastic . E. E. students. Second Degree Price Discrimination This involves charging different prices depending upon the quantity consumed.g. 3. The firm must operate in imperfect competition.This involves charging a different price to different groups of people for the same good. E. 2. PED is inelastic . Third Degree Price Discrimination This involves charging different prices to different groups of people.t. Different consumer groups must have elasticities of demand.g. The firm will increase profits by setting different prices depending upon the slope of the demand curve. The firm must be able to separate markets and prevent resale. For example: student discounts. stopping an adults using a childs ticket. Therefore for a group like adults. off peak fares cheaper than peak fares. To maximise profits a firm sets output and price where MR=MC.
a bus traveller the firm has an incentive to use price discrimination to sell all the tickets. E. Disadvantages of Price Discrimination 1. Firms will be able to increase revenue. 2. There may be administration costs in separating the markets. old people are more likely to be poor.G. Some consumers will benefit from lower fares. For example price discrimination is important for train companies who offer different prices for peak and off peak.Advantages of Price Discrimination 1. Once the company is due to fly the MC of an extra passenger will be very low. 2. Profits from price discrimination could be used to finance predatory pricing. Some consumers will end up paying higher prices.G. OAPs well off. E. THEORY OD DETERMINATIONS Theory of income determination postulates that the level of national income is determined where aggregate demand equals aggregate supply. This will enable some firms to stay in business who otherwise would have made a loss. 5. Increased revenues can be used for research and development which benefit consumers 3. 3. old people benefit from lower train companies. These higher prices are likely to be allocatively inefficient because P>MC. PRODUCTION FUNCTION . E. Therefore this justifies selling the remaining tickets at a low price. Decline in consumer surplus. adults could be unemployed.g. 4. Importance of Marginal Cost in Price Discrimination In markets where the marginal cost of an extra passenger is very low. Those who pay higher prices may not be the poorest. This is why sometimes prices for airlines can be very low just before their date.
. however. or an entire economy for all combinations of inputs. Almost all economic theories presuppose a production function. it does not represent the result of economic choices. Some nonmainstream economists. based on the current state of engineering knowledge. where a rise in price causes a decrease in demand. The second step is to look at the change in total revenue . food. luxury goods. Limited quantities of inputs will yield only limited quantities of outputs.land.. The ''total outlays'' method has two steps. Inputs are the factors of production -. and capital -. either on the firm level or the aggregate level.g. The most accurate method is the arc method of elasticity. e. Production is the transformation of inputs into outputs. Goods with a small value of elasticity (less than 1) have a demand that is insensitive to price." ELASTICITY OF DEMAND The degree of buyers' responsiveness to price changes. This method is only an approximate method of determining elasticity. an industry. In this sense. labor. where a rise in price has little or no effect on the quantity demanded by buyers. The first is to prepare a total outlay or total revenue table for the good or service under investigation. A large value (greater than 1) of elasticity indicates sensitivity of demand to price.g.plus raw materials and business services. The relationship between the quantities of inputs and the maximum quantities of outputs produced is called the "production function. Elasticity is measured as the percent change in quantity divided by the percent change in price. A simple method of measuring the price elasticity of demand is the total outlays method. The transformation of inputs into outputs is determined by the technology in use. the production function is one of the key concepts of mainstream neoclassical theories. This function is an assumed technological relationship. but rather is an externally given entity that influences economic decisionmaking.a production function is a function that specifies the output of a firm. which will be outlined later in this section. reject the very concept of an aggregate production function. e.
received and compare it with the direction of the price change that caused the change in total revenue. These factors include: Price of the Product There is an inverse (negative) relationship between the price of a product and the amount of that product consumers are willing and able to buy. For . The Consumer's Income The effect that income has on the amount of a product that consumers are willing and able to buy depends on the type of good we're talking about. Consumers want to buy more of a product at a low price and less of a product at a high price. DIFFERENTIAL PRICING Differential pricing occurs when a company attempts to charge different prices to two different customers for what is essentially the same product. One place we all encounter it a lot is air travel. it is important to examine all of the factors that affect the demand for a good or service. FACTORS AFFECTING DEMAND OF A PRODUCT Even though the focus in economics is on the relationship between the price of a product and how much consumers are willing and able to buy. where it seems no two passengers paid the same price for their tickets on any given flight. This inverse relationship between price and the amount consumers are willing and able to buy is often referred to as The Law of Demand.
if you hear that Apple will soon introduce a new iPod that has more memory and longer battery life. For example. The Price of Related Goods As with income. you (and other consumers) may decide to wait to buy an iPod until the new product comes out. For example. In other words. when less students are taking classes. the demand for their product will decrease because the number of consumers in the area has significantly decreased. there is a positive (direct) relationship between a consumer's income and the amount of the good that one is willing and able to buy. We call these types of goods compliments The Tastes and Preferences of Consumers This is a less tangible item that still can have a big impact on demand. this may increase the demand for a product. bagels and cream cheese. a pizza shop located near a University will have more demand and thus higher sales during the fall and spring semesters. when income falls. We call these types of goods normal goods. Think about two goods that are typically consumed together. the demand for the product will decrease. The Consumer's Expectations It doesn't just matter what is currently going on . For example. if a celebrity endorses a new product. for these goods when income rises the demand for the product will increase. The Number of Consumers in the Market As more or fewer consumers enter the market this has a direct effect on the amount of a product that consumers (in general) are willing and able to buy.most goods. In the summers. the effect that this has on the amount that one is willing and able to buy depends on the type of good we're talking about. For example. There are all kinds of things that can change one's tastes or preferences that cause people to want to buy more or less of a product. .one's expectations for the future can also affect how much of a product one is willing and able to buy.
a new business will often have to present a break-even analysis to its bank in order to get a loan. An important factor to consider for an accurate range is safety stock. Its advantages are • • It is cheap to carry out and it can show the profits/losses at varying levels of output. . However. TOOLS USED IN DEMAND FORECASTING Demand forecasting helps companies devise plans for future product sales. Instead. demand forecasting works in a range. A break-even analysis can have some disadvantages • • It assumes that everything produced is sold whereas it is often the case that not all output will be sold. Calculations include lead time. as well as formal methods such as analysis of historical data and data from current test markets. it often ends up with too much of some product and not enough of others. replenishment frequency. It assumes that all of the output is sold at the same price . When working on the integrated inventory planning. Techniques include the informal method of educated guesses. This is product ordered over the forecasted allotment to act as a buffer. If a company uses a fixed order system rather than integrated planning. calculations go into deciding the amount to order. as well as the safety stock. Integrated Inventory Planning Any demand forecasting software must be able to help the user determine the amount of inventory he needs to order. It provides a simple picture of a business .often a business will have to lower its price in order to increase its sales. not an exact number to be ordered. users must understand that ordering is never a fixed amount per month. and forecast error.Advantages And Disadvantages Of Break-Even Analysis Break-even is an excellent method of analysing a business. The goal of demand forecasting is to determine the amount of merchandise that customers will buy.
Among the conditions that are typically required for the optimal sales price to depend only on the variable costs of the one transaction the company now faces are: (1) excess production capacity (so that the sales order does not displace existing orders). In this situation. These opportunities probably occur relatively infrequently (certainly less often. . for example. and (3) a customer not in the company’s normal sales channels (because if other customers learn that the company has given another customer a price break. than one might infer from Eliyahu Goldratt’s popular business novel The Goal). marginal production costs consist of all variable production costs. Typically. accurate information about marginal costs are important. (2) a one-time customer (since the price the customer is willing to pay in the future might depend on the price the customer pays today).FACTORS THAT SHIFT THE DEMAND CURVE • • • • Change in consumer tastes Change in the number of buyers Change in consumer incomes Change in the prices of complementary and substitute goods Change in consumer expectations • ROLE OF COST IN PRICING Short-Run Pricing Decisions: Occasionally. because the company should be willing to set the sales price at any amount in excess of marginal cost (marginal production cost plus any marginal non-manufacturing costs such as distribution and marketing costs). a company faces a sales opportunity for which the only relevant costs and revenues are the incremental costs and revenues for that one transaction. they are likely to demand similar concessions).
the company’s revenues must exceed its costs. Management should consider dropping products that are unable to cover their full costs (manufacturing costs plus non-manufacturing costs). reassigned.Intermediate-Run Pricing Decisions: Over the course of several months to a year or two. but the company can make meaningful decisions about product prices. purchased or sold. if it is to survive. microeconomics provides analytical tools for jointly determining the optimal sales price and production level to maximize profits. or given incentives to resign or retire. The solution to this problem depends on the elasticity of demand and also on variable production costs (marginal production cost. Long-Run Pricing Decisions: In the long-run. and competitors feel compelled to match that price. sell the inkjet printer at or near cost. The timing for eliminating unprofitable products might depend on when the costs of fixed assets associated with those products can be avoided. Salaried employees can be hired. Therefore. For these decisions. The price leader usually has greater capital resources and economies of scale that enable it to risk sustaining lower prices than its competitors. the management accounting system should provide managers information about whether sales prices for products are sufficiently in excess of their full cost of production to cover non-manufacturing costs and still provide the company a reasonable rate of return. production levels and product mix. rebuilt. . In the long-run. Price leadership is effective in the prevention of price wars and in reaching a consensus on pricing without collusion in violation of antitrust laws. Long-term leases and other contracts come up for renewal. in the terminology of economics). Dominant competitor in a market whose price changes are matched by the rest of the competitors. fired. The price leader may also have a distinct product advantage or enough advertising resources to sustain a higher price than its competitors. costs associated with many fixed assets are unavoidable. unless there are extenuating circumstances such as a product that serves as a “loss leader” (e.. and make high profit margins on sales of ink cartridges). If the price leader is not followed by the rest of the market. Factories and warehouses can be built. price leadership Situation in which a market leader sets the price of a product or service. the leader is at risk of losing market share. all fixed costs become relevant costs.g.
Most governments therefore try to control monopolies by (1) imposing price controls. OLIGOPOLY Market situation between. access to materials. Examples include airline. DUOPOLY Market situation in which only sellers supply a particular commodity to many buyers. and much more common than. In oligopolistic markets. banking. perfect competition (having many suppliers) and monopoly (having only one supplier). .MONOPOLY Market situation where one producer (or a group of producers acting in concert) controls supply of a good or service. differentiated mainly by heavy advertising and promotional expenditure. thereby creating a seller's market. Mirror image of oligopsony. Sometimes governments facilitate the creation of monopolies for reasons of national security. to realize economies of scale for competing internationally. and petroleum markets. and can anticipate the effect of one another's marketing strategies. patents. or unfair trade practices) almost no firm has a complete monopoly in the era of globalization. Either seller can exert some control over the output and prices. but must consider the reaction of its sole competitor (unless both have formed an illegal collusive duopoly). independent suppliers (few in numbers and not necessarily acting in collusion) can effectively control the supply. and where the entry of new producers is prevented or highly restricted. exclusive tech nologies. (2) taking over their ownership (called 'nationalization'). Although monopolies exist in varying degrees (due to copyrights. or where two or more producers would be wasteful or pointless (as in the case of utilities ). and show little or no responsiveness to the needs of their customers. and thus the price. automotive. or (3) by breaking them up into two or more competing firms. Monopolist firms (in their attempt to maximize profits) keep the price high and restrict the output. They offer largely similar products.
As a general rule." The notion of opportunity cost plays a crucial part in ensuring that scarce resources are used efficiently. pleasure or any other benefit that provides utility should also be considered opportunity costs. ELASTICITY OF DEMAND Responsiveness of the demand for a good or service to the increase or decrease in its price. lost time.OPPURTUNITY COST Opportunity cost is the cost related to the next-best choice available to someone who has picked among several mutually exclusive choices. medicine. basic clothing) show inelasticity of demand (do not sell significantly more or less with changes in price). PRICE DETERMINATIONS Keyenes Model of income determination theory stated that people will put aside the same level of income or save the same amount of money at all possible . Normally. This is due to the ability of other firms to match prices with it and it often leads to a kinked demand curve. Thus. It is a key concept in economics. It has been described as expressing "the basic relationship between scarcity and choice. appliances. opportunity costs are not restricted to monetary or financial costs: the real cost of output forgone. See also cross price elasticity of demand. sales increase with drop in prices and decrease with rise in prices. confectionary and other non-essentials show elasticity of demand whereas most necessities (food. PRICE REDGITY Price Rigidity is a condition where one follows a decrease in price but not an increase in price. Value Maximization The act or process of adding to an individual's net worth by increasing the share price of the common stock in which that individual has invested. cars.
the amount of money people put aside for the purchase of earning assets (or to invest). or for day to day purchases2)Precautionary motives.microeconomic techniques are used to analyse production efficiency. price elasticity estimations. or the amount people put aside for emergency purposes.various uncertainty models.Investment theory is used to examine a firm's capital purchasing decisions. It draws heavily from quantitative techniques such as regression analysis and correlation. (2) Aggregate quantity of a product or service estimated to be bought at a particular price. If there is a unifying theme that runs through most of managerial economics it is the attempt to optimize business decisions given the firm's objectives and given constraints imposed by scarcity. He concluded that the level of a person's income determined the amount of money people demand to hold or save. As such. Lagrangian calculus (linear). Or transaction demand for money. economies of scale and to estimate the firm's cost function. joint product pricing. it bridges economic theory and economics in practice. Production analysis . is a branch of economics that applies microeconomic analysis to specific business decisions. Keyenes theorized the three reasons people demand money to hold (or save). Capital budgeting .rates of interest. Those motives are for 1) Transactional. price discrimination. MANAGERIAL ECONOMICS Managerial economics (also called business economics). costs. Almost any business decision can be analyzed with managerial economics techniques. but it is most commonly applied to: • • • • Risk analysis . optimum factor allocation. Pricing analysis . decision rules.and 3)Speculative motives.microeconomic techniques are used to analyse various pricing decisions including transfer pricing. DEMAND Desire for certain good or service supported by the capacity to purchase it. . for example through the use of operations research and programming. and risk quantification techniques are used to assess the riskiness of a decision. (3) Total amount of funds which individuals or organizations want to commit for spending on goods or services over a specific period. and choosing the optimum pricing method.
There are at least two or three different ways of calculating these numbers. All firms are price takers. They use a system of national accounts or national accounting developed by Simon Kuznets in the 1960s. Sometimes referred to as "pure competition". interest. On the other hand. profits. Gross National Income (GNI). theincome approach and the closely . by summing consumption. Some of the more common measures are Gross National Product (GNP). Gross Domestic Product (GDP). All firms have a relatively small market share. Net National Product (NNP). and Net National Income (NNI). Buyers know the nature of the product being sold and the prices charged by each firm. and pension payments to residents of the nation. MEASURES OF NATIONAL INCOME Measures of national income and output are used in economics to estimate the value of goods and services produced in an economy.PERFECT COMPETITION What Does Perfect Competition Mean? A market structure in which the following five criteria are met: 1. rents. representing the sum of wages. or Gross National Expenditure. The expenditure approach determines aggregate demand. 5. All firms sell an identical product. 2. NATIONAL INCOME The total net value of all goods and services produced within a nation over a specified period of time. 4. The industry is characterized by freedom of entry and exit. 3. investment. government expenditure and net exports.
Similar timing issues can also cause a slight discrepancy between the value of goods produced (GDP) and the payments to the factors that produced the goods (particularly if inputs are purchased on credit). The three methods must yield the same results because the total expenditures on goods and services (GNE) must by definition be equal to the value of the goods and services produced (GNP) which must be equal to the total income paid to the factors that produced these goods and services (GNI). Land Resources like coal. This is because goods in inventory have been produced (and therefore included in GDP). the higher the level of national income or GNP will be. . In other words. there will be minor differences in the results obtained from the various methods due to changes in inventory levels. Factors of Production Normally the more efficient and richer the resources. the geographical location of these natural resources affect the level of GNP. but not yet sold (and therefore not yet included in GNE).related output approach can be seen as the summation of consumption. Factors Affecting National Income 1. savings and taxation. (GNP=GNI=GNE by definition) In actual fact. iron & timber are essential for heavy industries so that they must be available and accessible.
Investment in turn depends on other factors like profitability. Labour & Entrepreneur The quality or productivity of human resources is more important than quantity. strikes and social unrests will discourage investment and business activities. The development in technology is affected by the level of invention and innovation on production. Technology This factor is more important for nations with little natural resources. It provides laws and order.Capital Capital is greatly determined by investment. Government Government can help to provide a favourable business environment for investment. 4. Manpower planning and education affect the productivity and production capacity of an economy. Political Stability A stable economic and political system helps the allocation of resources. the government promotes free trade and competition which encourage economic activities. In HK. political stability etc. Wars. 3. . regulations that affect exchanges. The relationship of the 3 approaches is shown by the diagram below. Measurement of National Income There are mainly 3 approaches to measure GNP. 2.
i. Based on these 3 directions of flows. 1. & a flow of expenditures.e. outputs ) can be found by adding up the total values of outputs produced at different stages of production.e. a flow of income. Output or Value-Added Approach The total value of all final goods & services ( i. . economists develop 3 approaches to measure GNP.The Circular Flow of Economic Activities Expenditures ($) Product Market $ Output Househol d s Income by production $ Factor Costs Firms The 3 arrows in the diagram show the overall level of economic activities. a flow of output.
the government started to release GNP data. we have the following terms: C = Private Consumption Expenditure ( of all households ) I = Investment Expenditure ( of all firms) G = Government Consumption Expenditure ( of the local government ) The expenditure approach is to measure the GNP. there are difficulties in the collection and calculation of data obtained.This method is to avoid the so-called double-counting or an over-estimation of GNP. In order to find the GNP. In 1995. Finally. firms and the government. the value of exports must be added to C. government started to collect data by this approach. We could not buy all our outputs because some are exported to overseas. In an economy. we have : G N P at market prices = C + I + G +X-M DEPRECIATION . However. Similarly. 2. I & G whereas the value of imports must be deducted from the above amount. there are 3 main agencies which buy goods & services.K. Expenditure Approach The amount of expenditures refers to all those spending on currentlyproduced final goods & services only. In economics. It is from 1980 that the H. They are the households. our consumption expenditures may include the purchases of some imports.
straight line. C1. In economics. Generally the cost is allocated. Depreciation expense generally begins when the asset is placed in service. obsolescence or changes in the demand for the services of the capital in question. The latter affects net income.D. as depreciation expense. Several standard methods of computing depreciation expense may be used. The advantages of penetration pricing to the firm are: It can result in fast diffusion and adoption. Such expense is recognized by businesses for financial reporting and tax purposes. among the periods in which the asset is expected to be used. not giving them time to react. Penetration pricing is most commonly associated with a marketing objective of increasing market share or sales volume. nation or other entity. often lower than the eventual market price. investment is I and depreciation D. rather than to make profit in the short term. is C0 + I .Depreciation refers to two very different but related concepts: 1. and 2. Methods and lives may be specified in accounting and/or tax rules in a country. the capital stock at the end of the period. Methods of computing depreciation may vary by asset for the same business. decline in value of assets. This can achieve high market penetration rates quickly. This can take the competition by surprise. either through physical depreciation. PENETRATION PRICING Penetration pricing is the pricing technique of setting a relatively low initial entry price. The former affects values of businesses and entities. allocation of the cost of tangible assets to periods in which the assets are used. . If capital stock is C0 at the beginning of a period. Example: a depreciation expense of 100 per year for 5 years may be recognized for an asset costing 500. including fixed percentage. and declining balance methods. depreciation is the decrease in the economic value of the capital stock of a firm. The strategy works on the expectation that customers will switch to the new brand because of the lower price. to attract new customers.
or notional cost. It can create high stock turnover throughout the distribution channel. In other words. It creates cost control and cost reduction pressures from the start. It can be based on marginal cost pricing. is the opportunity cost equal to what a firm must give up in order to use factors which it neither purchases nor hires. In practice. selling. Since economic profit includes these extra opportunity costs. The term also applies to forgone income from choosing not to work. This can create more trade through word of mouth. It is a temporal version of price discrimination/yield management. leading to greater efficiency. then theoretically no customer will pay less for the product than the maximum they are willing to pay. It discourages the entry of competitors. an implicit cost is any cost that results from using an asset instead of renting.It can create goodwill among the early adopters segment. where total costs are the sum of implicit and explicit costs) and accounting profit(total revenues minus only explicit costs). it is almost impossible for a firm to capture all of this surplus. or lending it. Implicit costs also represent the divergence between economic profit (total revenues minus total costs. IMPLICIT COST an implicit cost. SKIMMING PRICE Price skimming is a pricing strategy in which a marketer sets a relatively high price for a product or service at first. It is the opposite of an explicit cost. implied cost. which is borne directly. which is economically efficient. The objective of a price skimming strategy is to capture theconsumer surplus. Price skimming is sometimes referred to as riding down the demand curve. then lowers the price over time. also called an imputed cost. it will always be less than or equal to accounting profit . It allows the firm to recover its sunk costs quickly before competition steps in and lowers the market price. Low prices act as a barrier to entry (see: porter 5 forces analysis). This can create critically important enthusiasm and support in the channel. If this is done successfully.
as fads and trends clearly do. The effect is often called herd instinct. is a phenomenon—observed primarily within the fields of microeconomics. political science. with "the probability of any individual adopting it increasing with the proportion who have already done so". This is the central thesis of value investing philosophy which espouses preservation of capital as its first rule of investing. BANDWAGON EFFECT IN DEMAND he bandwagon effect. Benjamin Graham suggested to look at unpopular or neglected companies with low P/E and P/B ratios. one should buy a stock when it is worth more than its price on the market. also known as the "cromo effect" and closely related to opportunism. investments in other companies) that are potentially unnoticed by the market.. though strictly speaking. The bandwagon effect is the reason for the bandwagon fallacy's success. The margin of safety protects the investor from both poor decisions and downturns in the market. and behaviorism—that people often do and believe things merely because many other people do and believe the same things.g. Using margin of safety. The bandwagon effect is well-documented in behavioral science and has many applications. The general rule is that conduct or beliefs spread among people. One should also analyze financial statements and footnotes to understand whether companies have hidden assets (e. the margin of safety gives the investor room for error. this effect is not a result of herd instinct. Because fair value is difficult to accurately compute.MARGIN OF SAFETY Margin of safety (safety margin) is the difference between the intrinsic value of a stock and its market price. As more people .
Macroeconomists study aggregated indicators such as GDP. MACRO ECONOMICS Macroeconomics is a branch of economics that deals with the performance. unemployment rates. . MICRO ECONOMICS Microeconomics is a branch of economics that studies how the individual parts of the economy. regional. The tendency to follow the actions or beliefs of others can occur because individuals directly prefer to conform. unemployment. which determines prices. be that a national. macroeconomics is one of the two most general fields in economics. output. and how their behavior determines prices and quantities in specific markets. consumption. structure. determine the quantity supplied and quantity demanded of goods and services. int ernational trade and international finance. others also "hop on the bandwagon" regardless of the underlying evidence. inflation. savings. such as firms and consumers. investment. the household and the firms. microeconomics is primarily focused on the actions of individual agents. While macroeconomics is a broad field of study. make decisions to allocate limited resources. and price indices to understand how the whole economy functions. there are two areas of research that are emblematic of the discipline: the attempt to understand the causes and consequences of short-run fluctuations in national income (the business cycle). Both explanations have been used for evidence of conformity in psychological experiments. or the global economy.come to believe in something. typically in markets where goods or services are being bought and sold. or because individuals derive information from others. and how prices. in turn. Microeconomics examines how these decisions and behaviours affect the supply and demand for goods and services. Macroeconomists develop models that explain the relationship between such factors as national income. and the attempt to understand the determinants of long-run economic growth (increases in national income). In contrast. With microeconomics. behavior and decision-making of the entire economy.
including its existence. and relationship to the market. the theory of the firm aims to answer these questions: 1. PERISHABLE GOODS . company. It might also be costly for employees to shift companies everyday looking for better alternatives. for example as to hierarchy or decentralization? What is the interplay of formal and informal relationships? 4. Boundaries – why is the boundary between firms and the market located exactly there as to size and output variety? Which transactions are performed internally and which are negotiated on the market? 3. behavior. in a labor market. Heterogeneity of firm actions/performances – what drives different actions and performances of firms? Firms exist as an alternative system to the market-price mechanism when it is more efficient to produce in a non-market environment. it might be very difficult or costly for firms or organization to engage in production when they have to hire and fire their workers depending on demand/supply conditions. firms engage in a long-term contract with their employees to minimize the cost. Organization – why are firms structured in such a specific way. why are not all transactions in the economy mediated over the market? 2. In simplified terms. or corporation.Macroeconomic models and their forecasts are used by both governments and large corporations to assist in the development and evaluation of economic policy and business strategy. For example. Thus. structure. THEORY OF FIRM The theory of the firm consists of a number of economic theories that describe the nature of the firm. Existence – why do firms emerge.
While non-perishable are items that do not spoil or decay. decay or spoil rapidly. the lower amount of the supply is demanded. the lower the price. Non-perishable foods include canned goods. market price is the economic price for which a good or service is offered in the marketplace. Price is interrelated with both of these measures of value.. and rational expectations. Other measures of value include historical cost.. the greater the supply is demanded . market pricing is primarily determined by the interaction of supply and demand. They last for a long time and don't perish. spices are non perishable as well. NORMAL PRICE Equilibrium price of a good or service in a perfectly competitive market (see perfect competition). the price that is equal to the lowest possible average total cost of production plus normal profit. meaning that the higher the price climbs. Market price is just one of the number of ways to establish the monetary value of a good or a transaction. sugar. seafood. In classical economics. flour. It is of interest mainly in the study of microeconomics. After a certain time they can't be eaten. Shifts due to changing consumer preferences will inherently influence market price. the resource cost of the good or service an appraised value (such as the discounted present value).Perishable foods are something liable to perish. equilibrium. for example.. such as fresh meat. CUT THROAT COMPETITION . MARKET PRICE In economics. The relationship between price and supply is generally negative. Perishable foods include meat. Market value and market price are equal only under conditions of market efficiency. Perishable foods are foods that perish... canned goods. Conversely. curls (and chips if air-sealed). Non-perishable foods is the opposite. economic value and intrinsic value. all pasta types. and ripe fruits.
Other practices that fall short of the formation of a cartel but are nonetheless against the public interest and illegal include: (a) the setting of minimum prices. there must be some "barrier to entry. The aim of restrictive practices is to raise prices and restrict output to the benefit of the companies practicing them. it seems that any profitable monopoly would quickly attract competitors.Cut-throat competition. This may arise in secularly declining or "sick" industries with high levels of excess capacity or where frequent cyclical or random demand downturns are experienced. CAUSES OF MONOPOLY Most economists regard monopoly as an exceptional case in a modern economy. (c) the refusal to supply retailers that stock the products of other competitors. In an economy populated by alert profit-seekers. For a monopoly to be stable." The assumption of free entry into the industry must not apply. which I will also give and add a fifth. • • • • • patents and other forms of intellectual property control of an input resource government decreasing cost crime RESTRICTIVE TRADE PRACTICE The term restrictive trade practice is used for any strategy used by producers to restrict competition within a given market. also known as destructive or ruinous competition. we ask what might create the exception -what might "cause" a monopoly. what the "barrier to entry" might be. Thus. (d) setting different prices for different buyers (discriminatory pricing). particularly fixed costs. refers to situations when competition results in prices that do not chronically or for extended periods of time cover costs of production. (e) exchanging information. Collusion resulting in the formation of a cartel is one such practice. Most texts give four causes of monopoly. . (b) agreements to share markets.
Resale Price Maintenance . Examples of anti-competitive conduct are market sharing and bid rigging (collusive tendering). Boycotts Competitors are prohibited from getting together and restricting the flow of goods or services to another person. A supplier must not supply goods or services on the condition that the buyer obtains other goods or services from a third party ("third line forcing"). Price fixing Any agreement between competitors fixing the price of goods or services is illegal. which is deemed to be the largest area within which substitutable products are sold. Informal arrangements made over lunch or on the tennis court may be held to be as illegal as formal written agreements.What are restrictive trade practices? These include: Anti-competitive arrangements Competitors must not enter arrangements that will substantially lessen competition in a market. Exclusive Dealing It is illegal to supply goods or services on the condition that the buyer will not acquire those goods or services exclusively or principally from a competing supplier. which have the effect of excluding a person or class of persons from a particular market. where the arrangement is also likely to substantially lessen competition in a market ("tying"). It is illegal to enter agreements (known as primary boycotts). Misuse of Market Power A supplier with substantial market power must not damage a competitor or competitive conduct generally. It is illegal for competitors to get together to fix prices or share markets.
Dumping islegal under GATT (now WTO) rules unless its injurious effect on the importing country's producers can be established. and represents a quantity existing at that point in time (say. cash incentives. in dollars.S. The diagram provides an intuitive illustration of how the stock of capital currently available is increased by the flow of new investment and depleted by the flow of depreciation. These differ in their units of measurement. Flow is roughly analogous to rate or speed in this sense. A stock variable is measured at one specific time. if it is a genuine recommendation. 2004). . accounting. business. In price-cost dumping. including the planning of data collection in terms of the design of surveys and experiments. and related fields often distinguish between quantities that are stocks and those that are flows. of equipment. the exporter is subsidized by the local government with duty drawbacks. etc. economy. and interpretation of data. and has units of dollars/year. For example. Provision of a recommended retail price is not illegal. CONCEPT OF DUMPING Exporting goods at prices lower than the home-market prices. which may have accumulated in the past. U. In price-to-price dumping. buildings. December 31. and has units of dollars. nominal gross domestic product refers to a total number of dollars spent during a specific time period. In contrast. the exporter uses higher home-prices to supplement the reduced revenue from lower export prices. the U. nominal capital stock is the total value. If injury is established. Therefore a flow would be measured per unit of time (say a year). organization. STSTISTICS Statistics is the science of the collection. and other real assets in the U.S. It deals with all aspects of this. A flow variable is measured over an interval of time.S. STOCK AND FLOW CONCEPT Economics.It is illegal for suppliers to try to force resellers not to discount or not to advertise discounts (although they can set maximum prices). Therefore it is a flow variable. inventories. Statistics is closely related to probability theory. such as a year. with which it is often grouped. A supplier must not demand that resellers charge a specified minimum price.
Such forecasting enables the manager to minimize the element of risk and uncertainty. Demand Forecasting in Managerial Economics One of the crucial aspects in which managerial economics differs from pure economic theory lies in the treatment of risk and uncertainty.e. but the real world business is full of all sorts of risk and uncertainty. therefore. Exactly in the same way. Thus prediction and projection-both have reference to future. For practical managers concerned with futurology. which is named forecasting. business forecasting is an essential ingredient of corporate planning. the predicted event of business recession has to be established with reference to the projected course of variables like sales. The likely future event has to be given form and content in terms of projected course of variables. afford to ignore risk and uncertainty.GATT rules allow imposition of anti-dumping duty equal to the difference between the exporter's home-market price and the importer's FOB price. one needs to consider the projected course of general price index (variable). . Suppose. which supports the production of an event. forecasting. Concepts of Forecasting: The manager can conceptualize the future in definite terms. the backward projection of data may be named ‘back casting’. Demand forecasting is a specific type of business forecasting. one supplements the other. in fact. If he is concerned with the course of future variables. Traditional economic theory assumes a risk-free world of certainty. the manager needs to predict the future event. i.like demand. he can predict the future. Thus. By contrast. he can project the future. it is predicted that there will be inflation (event). To establish the nature of this event. If he is concerned with future event. The element of risk is associated with future which is indefinite and uncertain. To cope with future risk and uncertainty.its order. the forward projection of data. inventory etc. a tool used by the new economic historians. intensity and duration. what is relevant is forecasting. It is a forward projection of data variables. Projection is of two types – forward and backward. price or profit. A manager cannot.
short. Demand forecasting is essential for a firm because it must plan its output to meet the forecasted demand according to the quantities demanded and the time at which these are demanded. . For a highly sophisticated automatic plant 3 months time may be considered as short run. supply. while for another plant duration may extend to 6 months or one year. costs and returns from investments.Thus. Sales constitute the primary source of revenue for the corporate unit and reduction for sales gives rise to most of the costs incurred by the firm. price. The purpose of demand forecasting differs according to the type of forecasting. profit. if a marketing manager fears demand recession. Need for Demand Forecasting Business managers. The forecasting demand helps a firm to arrange for the supplies of the necessary inputs without any wastage of materials and time and also helps a firm to diversify its output to stabilize its income overtime. depending upon their functional area. (1) The purpose of the Short term forecasting: It is difficult to define short run for a firm because its duration may differ according to the nature of the commodity. Time duration may be set for demand forecasting depending upon how frequent the fluctuations in demand are. The question may arise: Why have we chosen demand forecasting as a model? What is the use of demand forecasting? The significance of demand or sales forecasting in the context of business policy decisions can hardly be overemphasized. he must establish its basis in terms of trends in sales data. need various forecasts. This trend estimation is an exercise in forecasting. They need to forecast demand. he can estimate such trends through extrapolation of his available sales data.term forecasting can be undertaken by affirm for the following purpose.
It takes time to raise financial Arranging suitable manpower. • resources.• Appropriate scheduling of production to avoid problems of over production Proper management of inventories Evolving suitable price strategy to maintain consistent sales Formulating a suitable sales strategy in accordance with the changing Forecasting financial requirements for the short period. expansion and modernization of an existing Assessing long term financial needs. In fast developing economy the duration may go up to 5 or 10 years. The purposes are. Fluctuations of a larger magnitude may take place in the distant future. unit. • labour force and personnel. More over the time duration also depends upon the nature of the product for which demand forecasting is to be made. • • (2) The purpose of long. It is comparatively easy to forecast the immediate future than to forecast the distant future. diversification and technological up gradation. • Planning for a new project. It can help a firm to arrange for specialized Evolving a suitable strategy for changing pattern of consumption. while in stagnant economy it may go up to 20 years. • • • pattern of demand and extent of competition among the firms. • .production.term forecasting: The concept of demand forecasting is more relevant to the long-run that the short-run. and under.
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