Managerial Economics

An Introduction

Dr. K. Anbumani
Associate Professor
 What is Managerial Economics?
The application of economic theory and
methods of decision sciences to analyze
decision making problems faced by business
firms.

Problem 1: Choice of product to be produced,

services to be offered, technique to be adopted.
Problem 2: Pricing, output and
advert. decisions to maximize
profit.
 Relevance of
ME in Business Decisions
Demand estimations: Crucial for output , price
decisions and profit maximization.

Price and Output decisions: Choice of product

to be produced, services to be offered,
technique to be adopted.
Choice of production technique:
technology and combination of
factors of production: land –
labour – capital-organization
 Relevance of
ME in Business Decisions

Advertising decision: Very crucial in

monopolistic competition and in differentiated
oligopoly sales.
Long run production decisions: Location, size,
technology, economies of scale etc.
Investment decisions: Expansion
policies in long run, time and rate
of investment, RoI, etc.
 Process of Managerial Decisions
Establishing the objectives: The First step is to
decide objectives of the firm – Profit
maximization, wealth maximization.
Define the problem: The second step is to
define the problem (Ex: declining profit in a
cotton textile firm – outdated technology,
wrong pricing policy)
Identify alternative actions:
Identify solutions
available (Ex:
modernization of
machinery, build new
plant).
 Process of Managerial Decisions
Evaluate alternatives: The data collected
analyzed and decision is taken to arrive
optimum results.
Implement and follow up: Implement the action
with required monitoring – revision if required
until best result is obtained.
 Objective of the firm
Profit Maximization: Earning maximum profit is
primary aim of any firm.

Importance of Profit
Firms survival depends on it
It is a measure of efficiency
For future growth &
expansion
To survive competition
To ensure welfare of
employees
Profit Maximization
If Total Profit is given as

Then, the First Order Condition would be

= - =0

i.e., MR = MC

= Slope of TR

= Slope of TC
Profit Maximization
If Total Profit is given as

Then, the Second Order Condition would be

= - < 0

<

i.e., Slope of MR < Slope of MC

= Slope of MR

= Slope of MC
 Profit Maximization : Example
Profit is maximized where both the 1st order and 2nd order conditions are
satisfied.
MC must intersect MR from below.

Suppose the demand function for a product is given as Q = 50-0.5P

From Q = 50-0.5P we can derive that 0.5p = 50-Q therefore P = 100-2Q

As we know TR = P.Q we can calculate TR = (100 – 2Q) Q i.e., TR = 100Q –

2
Also suppose that the TC function is given as TC = 10 + 0.5

We need to check if the 1st condition MR = MC is

ok
MR = = 100 Q - 2 = 100 - 4Q
dQ
 Profit Maximization : Example
MC = = TC = 10 + 0.5 = Q
dQ
The profit is maximum where MR = MC
100 – 4 Q = Q

5 Q = 100 Now the II Order Condition is that

Q = 20 - <0

In other words < 0

or < 0

– 4 -- 1 < 0

The 2nd Order Condition is also

satisfied
 Wealth Maximization
The firms objectives should be maximizing
shareholders wealth.

Constrained Optimization
Legal constraint: Minimum wage act, Anti trust
act, MRTP act, SEBI for share transaction etc.
Input constraint: Limited
physical inputs, factory
space,
storage, etc.
Financial constraint: Issue of
shares, debentures,
availability
 Baumol’s Sales Revenue Maximization
Salary and other earnings depends sales
revenue
Banks and FIs look at sales revenue than profit
Sales trend is a readily available indicator
anytime
Increased SR give perks, reputation to
managers
While profits makes happy only the owners
Consistent Profit max. is difficult to maintain
THANK YOU