PART C

1. Discuss the important concepts of economics. (APRIL 2012)

Wants : Simply the desires of citizens. Wants are different from needs as we will see below.
Wants are a means of expressing a perceived need. Wants are broader than needs.
Needs: These are basic requirements for survival like food and water and shelter. In recent
years we have seen a perceived shift of certain items from wants to needs. Telephone service,
to many, is a need. I would argue, however, that they are wrong.
Scarcity : The fundamental economic problem facing ALL societies. Essentially it is how to
satisfy unlimited wants with limited resources. This is the issue that plagues all government
and peoples.
Factors of Production/Resources : these are those elements that a nations has at its disposal
to deal with the issue of scarcity. How efficiently these are used determines the measure of
success a nation has. They are
 Land - natural resources, etc.
 Capital - investment monies.
 Labor - the work force; size, education, quality, work ethic.
 Entrepreneurs - inventive and risk taking spirit.
The "Three Basic Economic Questions" - these are the questions all nations must ask when
dealing with scarcity and effcientlly allocating their resources.
 What to produce?
 How to produce?
 For whom to produce?
Economics - Economics is the study the production and distribution of goods and services, it
is the study of human efforts to satisfy unlimited wants with limited resources.
Opportunity Cost - the cost of an economic decision. The classic example is "guns or butter."
What should a nation produce; butter, a need, or guns, a want? What is the cost of either
decision? If we choose the guns the cost is the butter. If we choose butter, the cost is the guns.
nations bust always deal with the questions faced by opportunity cost. It is a matter of
choices. Resources are limted thus we cannot meet every need or want.
Free Products: Air, sunshine are and other items so plentiful no one could own them.
Economists are interested in "economic products" - goods and services that are useful,
relatively scarce and transferable.
Good: tangible commodity. These are bought, sold, traded and produced.
Consumer Goods: Goods that are intended for final use by the consumer.
Capital Goods: Items used in the creation of other goods. factory machinery, trucks, Durable
Goods: Any good that lasts more than three years when used on a regular basis.
Non Durable Goods: Any item that lasts less than 3 years when used on a regular basis.
Services: Work that is performed for someone. Service cannot be touched or felt.
Consumers: people who use these goods and services.
Conspicuous Consumption: Use of a good or service to impress others.
Value: An assignment of worth. The assignment is usually based upon the utility (usefulness)
or scarcity of the item (supply and demand).
Utility: capacity to be useful.
Paradox of value: assignment of the highest value to those things we need the least, like
water and the highest things we often don't need at all like diamonds. Why do we do this?
Good question. I do not have an answer.
Wealth: the sum collection of those economic products that are tangible, scarce and useful.
Productivity - the ability to produce vast amounts of goods (economic products) in an
efficient manner. The American capilist economy is productive because:
 We use our resource efficiently.
 We specialize to increase efficiency and productivity.
 We invest in Human Capital (our labor pool)
2. An efficient business manager should have a thorough knowledge of business
environment- Explain. (APRIL 2013)
Business environment is the sum total of all external and internal factors that influence
a business. The manager should keep in mind that external factors and internal factors can
influence each other and work together to affect a business.
A health and safety regulation is an external factor that influences the internal environment of
business operations. Additionally, some external factors are beyond your control. These
factors are often called external constraints.
External Factors
Political factors are governmental activities and political conditions are known by business
manager. Examples include laws, regulations, tariffs and other trade barriers, war, and social
unrest.
Macroeconomic factors are factors that affect the entire economy. Examples include things
like interest rates, unemployment rates, currency exchange rates, consumer confidence,
consumer discretionary income, consumer savings rates, recessions, and depressions.
Microeconomic factors are factors such as market size, demand, supply, relationships with
suppliers and our distribution chain, such as retail stores that sell our products, and the
number and strength of your competition.
Social factors are basically sociological factors related to general society and social relations
that affect your business. Social factors include social movements, such as environmental
movements, as well as changes in fashion and consumer preferences. For example, clothing
fashions change with the season, and there is a current trend towards green construction and
organic foods.
Technological factors are technological innovations that can either benefit or hurt your
business. Some technological innovations can increase your productivity and profit margins,
such as computer software and automated production. On the other hand, some technological
innovations pose an existential threat to a business, such as Internet streaming challenging the
DVD rental business.
Internal factors:
Value System:
The value system of an organisation means the ethical beliefs that guide the organisation in
achieving its mission and objective. The value system of a business organisation also
determines its behaviour towards its employees, customers and society at large.
Mission and Objectives:
The objective of all firms is assumed to be maximization of long-run profits. But mission is
different from this narrow objective of profit maximization.
Organisation Structure:
The nature of organisational structure has a significant influence over decision making
process in an organisation. An efficient working of a business organisation requires that its
organisation structure should be conducive to quick decision making.
Corporate Culture and Style of Functioning of Top Management:
Corporate culture is generally considered as either closed and threatening or open and
participatory.
Quality of Human Resources:
The success of a business organisation depends to a great extent on the skills, capabilities,
attitudes and commitment of its employees.
Labour Unions:
Labour unions are other factor determining internal environment of a firm. Unions
collectively bargain with top managers regarding wages, working conditions of different
categories of employees. Smooth working of a business organisation requires that there
should be good relations between management and labour union.
Physical Resources and Technological Capabilities:
Physical resources such as plant and equipment, and technological capabilities of a firm
determine its competitive strength which is an important factor determining its efficiency and
unit cost of production.
3. Elaborate the role of cost in managerial decision making. (APRIL 2014)
The costs which should be used for decision making are often referred to as "relevant costs".
CIMA defines relevant costs as 'costs appropriate to aiding the making of specific
management decisions'.
To affect a decision a cost must be:
a) Future: Past costs are irrelevant, as we cannot affect them by current decisions and they are
common to all alternatives that we may choose.
b) Incremental: ' Meaning, expenditure which will be incurred or avoided as a result of
making a decision. Any costs which would be incurred whether or not the decision is made
are not said to be incremental to the decision.
c) Cash flow: Expenses such as depreciation are not cash flows and are therefore not relevant.
Similarly, the book value of existing equipment is irrelevant, but the disposal value is
relevant.
Other terms:
d) Common costs: Costs which will be identical for all alternatives are irrelevant, e.g. rent or
rates on a factory would be incurred whatever products are produced.
e) Sunk costs: Another name for past costs, which are always irrelevant, e.g. dedicated fixed
assets, development costs already incurred.
f) Committed costs: A future cash outflow that will be incurred anyway, whatever decision is
taken now, e.g. contracts already entered into which cannot be altered.
Opportunity cost
Relevant costs may also be expressed as opportunity costs. An opportunity cost is the benefit
foregone by choosing one opportunity instead of the next best alternative.
Example
A company is considering publishing a limited edition book bound in a special leather. It has
in stock the leather bought some years ago for $1,000. To buy an equivalent quantity now
would cost $2,000. The company has no plans to use the leather for other purposes, although
it has considered the possibilities:
a) of using it to cover desk furnishings, in replacement for other material which could cost
$900
b) of selling it if a buyer could be found (the proceeds are unlikely to exceed $800).
In calculating the likely profit from the proposed book before deciding to go ahead with the
project, the leather would not be costed at $1,000. The cost was incurred in the past for some
reason which is no longer relevant. The leather exists and could be used on the book without
incurring any specific cost in doing so. In using the leather on the book, however, the
company will lose the opportunities of either disposing of it for $800 or of using it to save an
outlay of $900 on desk furnishings.
The better of these alternatives, from the point of view of benefiting from the leather, is the
latter. "Lost opportunity" cost of $900 will therefore be included in the cost of the book for
decision making purposes.
The relevant costs for decision purposes will be the sum of:
i) 'avoidable outlay costs', i.e. those costs which will be incurred only if the book project is
approved, and will be avoided if it is not
ii) the opportunity cost of the leather (not represented by any outlay cost in connection to the
project).
This total is a true representation of 'economic cost'.

4. Discuss the difference between 'Economics' and 'Managerial Economics'.

(APRIL 2015) (NOV 2016)
Both managerial economics and traditional economics involve the production, distribution,
and consumption of goods and services, and are both reflected from the basic economic
principle of using the factors of production in an efficient manner for the production of output
of goods and services.
The main difference between the branches of economics is that traditional economics is
primitive and is used in underdeveloped and less technologically advanced economies,
whereas managerial economics is a result of globalization and evolution of economics to
include managerial decision making. Managerial economics makes the use of sophisticated
modelling systems and statistical data in decision making regarding production volumes,
pricing and distribution channels, whereas traditional economics involves the use of farming,
hunting, and pastoral activities by individuals to meet their daily consumption needs.
Economics vs. Managerial Economics
• Traditional economics is employed by less developed nations with no sophisticated
management systems, whereas managerial economics is used by modern day high-tech
economies.
• Managerial economics is concerned with modelling systems and complex managerial
decision making, whereas traditional economics is concerned with the production of food and
other necessities to meet daily requirements of individuals.
• Managerial economics represents the development that a traditional economy has been
through with globalization, development in technology and modernization of economic
theories to suit managerial decision making.

5. Discuss the role of Managerial Economist. (APRIL 2016)

1. Study of the Business Environment:
Every firm has to take into consideration such external factors as the growth of national
income, volume of trade and the general price trends, for its policy decision.
A firm works within a business environment. The basic elements of business environment for
a firm are the trend of growth of national economy and world economy and phase of the
business cycle in which the economy is moving.
At what rate and where is population getting concentrated? Where are the demand prospects
for established and new products? Where are the prospective markets? These questions lead
the economists into purposeful studies of the economic environment.
The international economic outlook is a very important environmental factor for exporting
firms. The nature and degree of competition within the industry in which a firm is placed are
also a part of the business environment. The kind of economic policies pursued by the
government constitute a powerful dement of the business environment of a firm.
What are the priorities of the new five-year plan? In which sectors of the economy have the
outlays been increased? What are the budgetary trends? What about changes in expenditure,
tax rates tariffs and import restrictions? What export incentives are being given? For all
purposes, the economists play a significant role.
2. Business Plan and Forecasting:
The business economists can help the management in the formulation of their business plan
by forecasting and economic environment. The management can easily decide the timing and
locating of their specific action. The managerial economist has to interpret the national
economic trends and industrial outlook for their relevance to the firm in which he is working.
He advises top management by means of short, business like practical notes. In a partially
controlled economy like India, the business economist translates the government’s intentions
in business jargon and also transmits the reaction of the industry to propose changes in
government policy.
3. Study of Business Operations:
The business economist can also help the management in decision making relating to the
internal operations of a firm, i.e., in deciding about price, rate of operations, investment and
growth of the firm for offering this advice: the economist has specific analytical and
forecasting techniques which yield meaningful conclusions.
What will be the reasonable sales and profit budget for the next year? What are the suitable
production schedules and inventory policies? What changes in wage and price policies are
imperative now? What would be the sources of finance? Thus, he is trained to answer such
questions posed by the top management.
4. Economic Intelligence:
The business economist also provides general intelligence services by supplying the
management with economic information of general interest so that they can talk intelligently
in conferences and seminars. They are also supplied the facts and figures for preparing the
annual reports of the firm. Those facts and figures are collected by the business economist as
he understands the literature available on business activities.
5. Specific Functions:
Business economists are now performing specific functions as consultants also. Their specific
functions are demand forecasting, industrial market research, pricing problems of industry,
production programmes, investment analysis and forecasts. They also offer advice on trade
and public relations, primary commodities and capital projects in agriculture, industry,
transport and tourism and also of the export environment.
6. Participation in Public Debates:
The business economists participate in public debates organized by different agencies. Both
governments and society seek their advice. Their practical experience in business and
industry gives value to their observation. In nut shell a business economist can play a multi-
faceted role. He is not only an analyst of current trends and policies for his employers but
also a bridge between the businessmen in the specific industry and the government. He acts
as a spokesman of his firm and interpreter of the Government.
6. “Managerial Economics is prescriptive rather than descriptive” (ARIL 2017)
Yes, it is prescriptive. The various reasons are:

 Managerial economics is micro-economic in character. This is because the unit of

study is a firm and its problems. Managerial economics does not deal with the entire
economy as a unit of study.
 Managerial economics largely uses that body of economic concepts and principles,
which is known as Theory of the Firm or Economics of the Firm. In addition, it also seeks to
apply profit theory, which forms part of distribution theories in economics.
 Managerial economics is concrete and realistic. I avoids difficult abstract issues of
economic theory. But it also involves complications ignored in economic theory in order to
face the overall situation in which decisions are made. Economic theory ignores the variety of
backgrounds and training found in individual firms. Conversely, managerial economics is
concerned more with the particular environment that influences decision-making.
 Managerial economics belongs to normative economics rather than positive
economics. Normative economy is the branch of economics in which judgments about the
desirability of various policies are made. Positive economics describes how the economy
behaves and predicts how it might change. In other words, managerial economics is
prescriptive rather than descriptive. It remains confined to descriptive hypothesis.
 Managerial economics also simplifies the relations among different variables without
judging what is desirable or undesirable. For instance, the law of demand states that as price
increases, demand goes down or vice-versa but this statement does not imply if the result is
desirable or not. Managerial economics, however, is concerned with what decisions ought to
be made and hence involves value judgments. This further has two aspects: first, it tells what
aims and objectives a firm should pursue; and secondly, how best to achieve these aims in
particular situations. Managerial economics, therefore, has been described as normative
microeconomics of the firm.
 Macroeconomics is also useful to managerial economics since it provides an
intelligent understanding of the business environment. This understanding enables a business
executive to adjust with the external forces that are beyond the management’s control but
which play a crucial role in the well being of the firm. The important forces are: business
cycles, national income accounting, and economic policies of the government like those
relating to taxation foreign trade, anti-monopoly measures and labour relations.

7. Explain the various objective of a modern firm. (NOV 2012)

The main objectives of firms are:
1. Profit maximisation
2. Sales maximisation
3. Increased market share/market dominance
4. Social/environmental concerns
5. Profit satisficing
6. Co-operatives/
Sometimes there is an overlap of objectives. For example, seeking to increase market share,
may lead to lower profits in the short-term, but enable profit maximisation in the long run.
Profit maximisation
Usually, in economics, we assume firms are concerned with maximising profit. Higher profit
means:
 Higher dividends for shareholders.
 More profit can be used to finance research and development.
 Higher profit makes the firm less vulnerable to takeover.
 Higher profit enables higher salaries for workers
Alternative aims of firms
However, in the real world, firms may pursue other objectives apart from profit
maximisation.
1. Profit Satisficing
 In many firms, there is a separation of ownership and control. Those who own the
company (shareholders) often do not get involved in the day to day running of the company.
 This is a problem because although the owners may want to maximise profits, the
managers have much less incentive to maximise profits because they do not get the same
rewards, (share dividends)
 Therefore managers may create a minimum level of profit to keep the shareholders
happy, but then maximise other objectives, such as enjoying work, getting on with other
workers. (e.g. not sacking them) This is the problem of separation between owners and
managers.
 This ‘principal-agent‘ problem can be overcome, to some extent, by giving managers
share options and performance related pay although in some industries it is difficult to
measure performance.
2. Sales maximisation
Firms often seek to increase their market share – even if it means less profit. This could occur
for various reasons:
 Increased market share increases monopoly power and may enable the firm to put up
prices and make more profit in the long run.
 Managers prefer to work for bigger companies as it leads to greater prestige and
higher salaries.
 Increasing market share may force rivals out of business. E.g. the growth of
supermarkets have lead to the demise of many local shops. Some firms may actually engage
in predatory pricing which involves making a loss to force a rival out of business.
3. Growth maximisation
This is similar to sales maximisation and may involve mergers and takeovers. With this
objective, the firm may be willing to make lower levels of profit in order to increase in size
and gain more market share. More market share increases their monopoly power and ability
to be a price setter.
4. Long run profit maximisation
In some cases, firms may sacrifice profits in the short term to increase profits in the long run.
For example, by investing heavily in new capacity, firms may make a loss in the short run but
enable higher profits in the future.
5. Social/environmental concerns
A firm may incur extra expense to choose products which don’t harm the environment or
products not tested on animals. Alternatively, firms may be concerned about local community
/ charitable concerns.
 Some firms may adopt social/environmental concerns into part of its branding. This
can ultimately help profitability as the brand becomes more attractive to consumers.
 Some firms may adopt social/environmental concerns on principal alone – even if it
does little to improve sales/brand image.
6. Co-operatives
Co-operatives may have completely different objectives to a typical PLC. A co-operative is
run to maximise the welfare of all stakeholders – especially workers. Any profit the co-
operative makes will be shared amongst all members.
Diagram showing different objectives of firms

 Q1 = Profit maximisation (MR=MC)

 Q2 = Revenue Maximisation (MR=0)
 Q3 = Marginal cost pricing (P=MC) – allocative efficiency
 Q4 = Sales maximisation – maximum sales while still making normal profit
(AR=ATC)
8. Describe the fundamental concepts of Managerial Economics. (NOV 2015)
Managerial Economics can be defined as amalgamation of economic theory with business
practices so as to ease decision-making and future planning by management. Managerial
Economics assists the managers of a firm in a rational solution of obstacles faced in the
firm’s activities. It makes use of economic theory and concepts. It helps in formulating
logical managerial decisions. The key of Managerial Economics is the micro-economic
theory of the firm. It lessens the gap between economics in theory and economics in
practice. Managerial Economics is a science dealing with effective use of scarce resources.
It guides the managers in taking decisions relating to the firm’s customers, competitors,
suppliers as well as relating to the internal functioning of a firm. It makes use of statistical
and analytical tools to assess economic theories in solving practical business problems.
Study of Managerial Economics helps in enhancement of analytical skills, assists in
rational configuration as well as solution of problems. While microeconomics is the study
of decisions made regarding the allocation of resources and prices of goods and services,
macroeconomics is the field of economics that studies the behavior of the economy as a
whole (i.e. entire industries and economies). Managerial Economics applies micro-
economic tools to make business decisions. It deals with a firm.
The use of Managerial Economics is not limited to profit-making firms and organizations.
But it can also be used to help in decision-making process of non-profit organizations
(hospitals, educational institutions, etc). It enables optimum utilization of scarce resources in
such organizations as well as helps in achieving the goals in most efficient manner.
Managerial Economics is of great help in price analysis, production analysis, capital
budgeting, risk analysis and determination of demand.Managerial economics uses
both Economic theory as well as Econometrics for rational managerial decision making.
Econometrics is defined as use of statistical tools for assessing economic theories by
empirically measuring relationship between economic variables. It uses factual data for
solution of economic problems. Managerial Economics is associated with the economic
theory which constitutes “Theory of Firm”. Theory of firm states that the primary aim of the
firm is to maximize wealth. Decision making in managerial economics generally involves
establishment of firm’s objectives, identification of problems involved in achievement of
those objectives, development of various alternative solutions, selection of best alternative
and finally implementation of the decision. The following figure tells the primary ways in
which Managerial Economics correlates to managerial decision-making.