Managerial Economics Introduction

I ns t r uc t o r: D r. A m r it a K a m a li n i B ha t t a c ha r y y a
E- m a il : a m b h a t t a c h a r y y @im t . e du
M o b il e: 9 4 3 2 9 4 3 8 5 6
I ns t it u t e O f M an a g e m e n t Te c h no l o g y, G h a zi a ba d
 BASICS OF A BUSINESS

Demand

Production

Market
12/10/2022 2
 WHY STUDY MANAGERIAL ECONOMICS?
You have a business idea

Questions needed to be asked-

1. Is there a demand for the good you want to sell?

2. If there is one, then how large is the demand? That means what is the size of the market?

3. Will the demand grow or stay small?

4. How the demand for that good/service vary with the price?

5. Who are the people that will demand the good?

6. What would be their preference?

7. Will your product be for a niche market or a mass produced one?

 THE NATURE AND SCOPE OF MANAGERIAL ECONOMICS

Module One

 Introduction to Managerial Economics

 Demand-Supply analysis

 Consumer Behavior
These are economic models: An economic model is a theoretical, simplified construct designed to focus on a key set of economic

relationships.
 RELATIONSHIP TO ECONOMIC THEORY

Microeconomics

Study of the economic behavior of individual decision-making units and how

they interact to form larger units- markets & industries.

Macroeconomics

Study of the total or aggregate level of output, income, employment,

consumption, investment, and prices for the economy viewed as a whole.

 RELATIONSHIP TO DECISION SCIENCES

Mathematical Economics

Expresses and analyzes economic models using the tools of mathematics.

Econometrics

Applies statistical tools to real-world data to estimate the models postulated by

economic theory and for forecasting.

 ECONOMIC METHODOLOGY

Economic Models

Abstract from details

Focus only on the most important determinants of economic behavior

Evaluating Economic Models

Evaluation is based on how accurately it predicts and how logically predictions

follow from the assumptions.

 THE THEMES OF MICROECONOMICS
Limitations
 Consumers

Consumers have limited incomes, which can be spent on a wide variety of goods and services, or
saved for the future.
 Workers

Workers also face constraints and make trade-offs. First, people must decide whether and when
to enter the workforce. Second, workers face trade-offs in their choice of employment. Finally,
workers must sometimes decide how many hours per week they wish to work, thereby trading
off labor for leisure.
 Firms

Firms also face limits in terms of the kinds of products that they can produce, and the resources
available to produce them.
Microeconomics tells us ways to make the most of these limits
 It talks about allocation of scarce resources

 Consumers

 Workers

 Firms

Trade-offs

In modern market economies, consumers, workers and firms have much more flexibility and
choice when it comes to allocating scarce resources.

Microeconomics describes the trade-offs that consumers, workers, and firms face and shows how
these trade-offs are best made.
Circular Flow of Economic Activity

• Firms purchase resources or inputs of labor

services, capital, and raw materials and
transforms them into goods & services for sale.
• Resource owners such as households, owners of
capital then use the income generated from their
services to the firms to purchase the goods and
services.
• In the process of supplying goods and services
that citizens demand, firms provide employment
to workers and pay taxes, which government uses
to provide services.
 Prices and Markets

• Microeconomics also describes how prices are determined. Trade-offs described above are
based on prices faced by consumers, workers or firms.

• In a centrally planned economy, prices are set by the government.

• In a market economy, prices are determined by the interactions of consumers, workers, and
firms. These interactions occur in markets—collections of buyers and sellers that together
determine the price of a good.
 Theories and Models

• Economics is concerned with explanation of observed phenomena and try to predict future

individual economic behavior based on theories.

• Theories are developed to explain observed phenomena in terms of a set of basic rules and

assumptions.

• Theory of the firm: begins with one simple assumption firms try to maximize their profits.

Depending upon this assumption firms make decision on amount of raw material, labor, capital
.
that they will use to produce the good, selling which they will achieve that particular goal.

It also explains how these choices depend on the prices of inputs, such as labor, capital and
raw materials and the prices the firm can receive for their product.

• Economic theories are also basis for making predictions.

• These theories tell us whether a firm’s output level will increase or decrease in response to an

increase in wage rates or a decrease in the price of raw materials.

• A model is a mathematical representation, based on economic theory, of a firm, a market, or

some other entity, e.g. a production model of a particular firm or industry can predict by how

much the firm’s output level will change as a result of a 10% drop in the price of raw materials.

Positive versus Normative Analysis

 What Is a Market?

● Market- Collection of buyers and sellers that, through their actual or potential interactions,

determine the price of a product or set of products.

● Market definition- Determination of the buyers, sellers, and range of products that should be

included in a particular market.

● Arbitrage- Practice of buying at a low price at one location and selling at a higher price in

another.
 Competitive versus Noncompetitive Markets

• Perfectly competitive market: Market with many buyers and sellers, so that no single buyer or

seller has a significant impact on price.

• Many other markets are competitive enough to be treated as if they were perfectly

competitive.

• Other markets containing a small number of producers may still be treated as competitive for

purposes of analysis.

• Finally, some markets contain many producers but are noncompetitive; that is, individual firms

can jointly affect the price.

 Market Price

Market price: Price prevailing in a competitive market.

In markets that are not perfectly competitive, different firms might charge different prices for the

same product. This might happen because one firm is trying to win customers from its

competitors, or because customers have brand loyalties that allow some firms to charge higher

prices than others.

The market prices of most goods will fluctuate over time, and for many goods the fluctuations

can be rapid. This is particularly true for goods sold in competitive markets.
 Market Definition—The Extent of a Market

Extent of a market- Boundaries of a market, both geographical and in terms of range of products
produced and sold within it.
For some goods, it makes sense to talk about a market only in terms of very restrictive
geographic boundaries.
We must also think carefully about the range of products to include in a market.
Market definition is important for two reasons:
A company must understand who its actual and potential competitors are for the various
products that it sells or might sell in the future.
Market definition can be important for public policy decisions.
 Real versus Nominal Prices

 Nominal price- Absolute price of a good, unadjusted for inflation.

 Real price- Price of a good relative to an aggregate measure of prices; price adjusted for

inflation.

 Consumer Price Index(CPI)-Measure of the aggregate price level.

 Producer Price Index(PPI)-Measure of the aggregate price level for intermediate products and

wholesale goods.
 MARKET ANALYSIS
 Market:

An institutional arrangement under which buyers and sellers can exchange some quantity of
a good or service at a mutually agreeable price.
 Not necessarily a physical place

 Perfectly competitive market is characterized by:

 Many buyers and sellers, none of them can affect the price

 Homogeneous or identical goods

 Mobile resources

 Perfect knowledge or information

 MARKET ANALYSIS
 Market Demand Schedule:

A table showing the quantity of a commodity that consumers are willing to purchase over a
given period of time at each price of the commodity, while holding constant all other relevant
economic variables on which demand depends.

 Law of Demand:

 Higher prices reduces the quantity demanded of a good or a service.

 Market Demand Curve:

 Negatively-sloped curve showing various price-quantity combinations given by the market

demand schedule.
 Why study about supply-demand?
Supply-demand analysis is a fundamental and powerful tool that can be applied to a wide variety

of interesting and important problems. To name a few:

• Understanding and predicting how changing world economic conditions affect market price

and production.

• Evaluating the impact of government price controls, minimum wages, price supports, and

production incentives.

• Determining how taxes, subsidies, tariffs, and import quotas affect consumers and producers
Price per Hamburger Quantity Demanded per Day (million
hamburgers)

₹200 2

₹150 4

₹100 6

₹75 7

₹50 8

Market Demand Schedule for Hamburgers

 MARKET DEMAND CURVE FOR HAMBURGERS

Market Demand Curve for Hamburgers Market demand curve D shows that at lower
hamburger prices, greater quantities are demanded. This is reflected in the negative
slope of the demand curve and is referred to as the “law of demand.”
 CHANGES IN DEMAND
 Market Demand Shift:

Movement of the whole curve to the left or right so that more or less of the commodity
would be demanded at any price.

 Entire demand curve for a commodity would shift with a change in:

 Consumers’ incomes

 Consumers’ tastes

 The price of related commodities

 The number of consumers in the market, or in any other variable held constant in drawing a

market demand curve

 CHANGE IN DEMAND FOR HAMBURGERS

FIGURE 2-2 Change in Demand for Hamburgers Consumers demand more hamburgers at each price when the demand curve
shifts to the right from D to D’. Thus, at P = $1.00, consumers purchase 12 million hamburgers with D’ instead of only 6 million with D.
 MARKET SUPPLY
 Market Supply Schedule:

A table showing the quantity supplied of a commodity at each price for a given period of
time.

 Market Supply Curve:

A positively-sloped curve showing the various price-quantity combinations given by the

market supply schedule.
Price per Hamburger Quantity Supplied per Day (million hamburgers)

$2.00 14

1.50 10

1.00 6

0.75 4

0.50 2

Market Supply Schedule for Hamburgers

MARKET SUPPLY CURVE FOR HAMBURGERS

Market Supply Curve for Hamburgers Market supply curve S shows

that higher hamburger prices induce producers to supply greater
quantities.
 CHANGES IN SUPPLY

 Market Supply Shift:

Movement of the whole curve to the left or right so that more or less of the commodity
would be demanded at any price.

 Entire supply curve for a commodity would shift with a change in:

 An improvement in technology

 A reduction in the price of resources used in the production of the commodity

 For agricultural commodities, more favorable weather conditions

 MARKET SUPPLY CURVE FOR HAMBURGERS

Change in the Supply of Hamburgers When the supply curve shifts to the right from S to S’,
producers supply more hamburgers at each price. Thus, at P = $1.00, producers supply 12
million hamburgers with S’ instead of only 6 million with S.
 MARKET EQUILIBRIUM

 Equilibrium Price of a Commodity:

The price at which the quantity demanded of the commodity equals the quantity supplied
and the market clears.

 Surplus:

Occurs when the quantity supplied exceeds the quantity demanded.

 Shortage:

Occurs when the quantity demanded exceeds the quantity supplied.

Price per Quantity Supplied Quantity Surplus (+) or Pressure on Price
Hamburger per Day (million Demanded per Shortage (-)
hamburgers) Day (million
hamburgers)

₹200 14 2 +12 Downward

150 10 4 +6 Downward

100 6 6 0 Equilibrium

75 4 7 -3 Upward

₹50 2 8 -6 Upward

Market Supply Schedule, Market Demand Schedule, and Equilibrium

for Hamburgers
DEMAND, SUPPLY AND EQUILIBRIUM

FIGURE 2-5 Demand, Supply, and Equilibrium The intersection of D and S at point E defines
the equilibrium price of $1.00 per hamburger and the equilibrium quantity of 6 million hamburgers per
day. At P larger than $1.00, the resulting surplus will drive P down toward equilibrium. At P smaller
than $1.00, the resulting shortage will drive P up 36 toward equilibrium.
 The Algebra of Demand and Supply
1. Suppose and

Q: Find out the equilibrium price and quantity?

2. Suppose that the demand and the supply is characterized by the following equations:

and .

Q.1: What would happen if the price was at ?

Q.2:In which direction would the price tend to go?

Q.3: What is the equilibrium price?

 Difference between demand and Quantity demanded

Demand is defined as the willingness of buyer and his affordability to pay the price for the

economic good or service. Quantity Demanded represents an exact quantity (how much) of a

good or service is demanded by consumers at a particular price.

Demand refers to the graphing of all the quantities that can be purchased at different prices.

On the contrary, quantity demanded, is the actual amount of goods desired at a certain price.

When a person talks about increase or decrease in demand, it means the change in demand.

Conversely, if a person talks about expansion or contraction of demand, he refers to the change

in quantity demanded.
Changes in demand are due to the factors other than price, i.e. income, the price of

complementary goods, the price of substitutes, etc. On the other hand, changes in quantity

demanded is due to price.

Change in demand will result in the shift in the demand curve. As opposed to quantity

demanded, where the change may lead to the movement along the demand curve.

These all characteristic differences are also applicable for supply and quantity supplied.
 ADJUSTMENTS TO CHANGES IN DEMAND

 Suppose, there is an

increase in demand which

leads to higher equilibrium
price.

 First, there is a shortage

after the increase, then

prices bid up.

 Prices keep increasing until

the market clears. Adjustment to an Increase in Demand D and S are the original demand and
supply curves (as in Figure 2.5). The shift from D to D’ results in a temporary
 ADJUSTMENTS TO CHANGES IN SUPPLY
 Suppose, there is an increase in supply

due to new cheaper production

technology which creates a surplus in the
market.

 Suppliers reduce prices to get rid of the

surplus.

 Prices keep decreasing until the market

clears.

 The new equilibrium has a lower Adjustment to an Increase in Supply D and S are the original demand and
supply curves. The shift from S to S’ results in a temporary surplus of hamburgers,
equilibrium price and a larger equilibrium which drives the price down to P = $0.50 at which QS = QD = 8 million hamburgers.

quantity.