FUNDAMENTAL

CONCEPTS/ PRINCIPLES/
METHODS
OF
MANAGERIAL
ECONOMICS
Marginal Cost: Marginal cost represents the
incremental costs incurred when producing additional
units of a good or service. It is calculated by taking the
total change in the cost of producing more goods and
dividing that by the change in the number of goods
produced. 
Formula is:
Marginal Cost = Change in Costs / Change in
Quantity
Incremental Cost: Incremental cost is the total cost incurred due
to an additional unit of product being produced. Incremental cost is
calculated by analyzing the additional expenses involved in the
production process, such as raw materials, for one additional unit
of production. 

• You calculate incremental cost by multiplying the number of

Smartphone units with the manufacturing cost per Smartphone
unit.

• 20,000 x 100 = 2,000,000

• So, incremental cost is $2,000,000.

 The Incremental Concept:

“Incremental concept is closely related to the marginal cost and

marginal revenues of economic theory. The two concepts in this

analysis are incremental cost and incremental revenue. Incremental

cost denotes change in total cost, whereas incremental revenue

means change in total revenue resulting from a decision of the

firm.

It involves estimating the impact of decision alternatives on

costs and revenues, changes in total cost and total revenue that

result from changes in prices, products, procedures, invest­

A decision is surely profita­ble if:
1. It increases revenues more than it increases cost.
2. It reduces some cost more than it increases oth­
ers.
3. It increases some revenues more than it de­
creases others.
4. It decreases costs more than it decreases reve­
nue.
 Discounting Concept:

• This concept is an extension of the concept of time perspective.

Since future is unknown , there is lot of risk and uncertainty in

future. Everyone knows that a rupee today is worth more than a

rupee will be two years from now.

• In technical parlance, it is said that the present value of one rupee

available at the end of two years is the present value of one rupee

available today. The mathematical technique for adjusting for the

time value of money and computing present value is called

‘discounting’.
• The following example would make this point clear.
Suppose, you are offered a choice of Rs. 1,000 today or Rs.
1,000 next year. Naturally, you will select Rs. 1,000 today.
That is true because future is uncertain. Let us assume you
can earn 10 per cent interest during a year. You may say
that I would be indifferent between Rs. 1,000 today and Rs.
1,100 next year i.e., Rs. 1,100 has the present worth of Rs.
1,000.
The formula of computing the present value is given
below: V = A/1+i
• The formula of computing the present value is
given below:
• V = A/1+i
• where:
• V = Present value
• A = Amount invested Rs. 100
• i = Rate of interest 5 per cent
• V = 100/1+.05
• = 100/1.05
• =Rs. 95.24
 Equi-Marginal Concept:

• One of the widest known principles of economics is the equi-

marginal principle. The principle states that an input should be
allocated so that value added by the last unit is the same in all
cases. This generalization is popularly called the equi-marginal.

• Let us assume a case in which the firm has 100 unit of labour at
its disposal. And the firm is involved in five activities viz., А,
В, C, D and E. The firm can increase any one of these activities
by employing more labour but only at the cost i.e., sacrifice of
other activities.
• If, for example, the value of the marginal product of
labour in activity A is Rs. 50 while that in activity В is
Rs. 70 then it is possible and profitable to shift labour
from activity A to activity B. The optimum is reached
when the values of the marginal product is equal to all
activities. This can be expressed symbolically as
follows:

• VMPLA = VMPLB = VMPLC = VMPLD = VMPLE

• Where VMP = Value of Marginal Product.

 The Opportunity Cost Concept:

• Both micro and macro economics make abundant use of the fundamental

concept of opportunity cost. In Managerial Economics, the opportunity

cost concept is useful in decision involving a choice between different

alternative courses of action. Resources are scarce, we cannot produce all

the commodities. For the production of one com­modity, we have to

forego the production of another commodity.

• Opportunity cost of a decision is the sacrifice of alternatives required by

that decision. Sacrifice of alternatives is involved when carrying out a

decision requires using a resource that is limited in supply with the firm.
• The concept of opportunity cost implies three things:

1. The calculation of opportunity cost involves the measurement of sacrifices.

2. Sacrifices may be monetary or real.

3. The opportunity cost is termed as the cost of sacrificed alternatives.

• In managerial decision making, the concept of opportunity cost occupies an

important place. The economic significance of opportunity cost is as

follows:

1. It helps in determining relative prices of different goods.

2. It helps in determining normal remuneration to a factor of production.

3. It helps in proper allocation of factor resources.

MANAGERIAL
ECONOMICS
• Meaning: Managerial economics is a stream of management studies
which emphasizes solving business problems and decision-making
by applying the theories and principles of microeconomics and
macroeconomics. It is a specialized stream dealing with the
organization's internal issues by using various economic theories.
• According to Spencer and Siegelman: “The integration of
economic theory with business practice for the purpose of
facilitating decision-making and forward planning by management”.
• D.C. Hague describes Managerial Economics as “a fundamental
academic subject which seeks to understand and analyse the
problems of business decision making.”