MANAGERIAL

ECONOMICS
FUNDAMENTALS OF MANAGERIAL ECONOMICS

In this lesson we will be able to:

• Discuss the importance of studying economics
• Understand what is managerial economics
• Explain the relationship between production and division of
labor
• Evaluate the significance of scarcity
FUNDAMENTALS OF MANAGERIAL ECONOMICS

“Managerial economics…is the integration of economics theory with

business practice for the purpose of facilitating decision-making and
forward planning by management.” -Spencer and Siegelman.
 WHAT ECONOMICS IS AND WHY YOU SHOULD CARE
Economics is the science that studies how people and societies make
decisions that allow them to get the most out of their limited resources.
And because every country, every business and every person has to deal
with constraints, economics is literally everywhere.
 WHAT ECONOMICS IS AND WHY YOU SHOULD CARE
Economics is the study of how humans make decisions in the face of
scarcity. These can be individual decisions, family decisions, business
decisions and societal decisions.

Scarcity means that human wants for goods, services and resources
exceed what is available. Resources, such as labor, tools, land and raw
materials are necessary to produce the goods and services we want but
they exist in limited supply.
 WHAT ECONOMICS IS AND WHY YOU SHOULD CARE

Economics is the study of human activity both at individual and national

level. Any activity involved in efforts aimed at earning money to satisfy
our wants such as food, clothing, shelter, and others are called
"economic activities".

It was only during the eighteenth century that Adam Smith, the Father
of Economics, defined economics as the study of nature and uses of
national wealth.
 WHAT ECONOMICS IS AND WHY YOU SHOULD CARE

"Economics is the study of man's actions in the ordinary business of life:

it enquires how he gets his income and how he uses it." - Dr. Alfred
Marshall

Economics as "the science, which studies human behavior as a

relationship between ends and scarce means which have alternative
uses." - Prof Lionel Robbins
 THE MANAGER
The manager is a person who directs resources to achieve a
stated goal. This definition includes all individuals who (1)
direct the efforts of others, including those who delegate tasks
within an organization such as a firm, a family or a club; (2)
purchase inputs to be used in the production of goods and
services such as the outut of a firm, food for the needy, or
shelter for the homeless; or (3) are in charge of making other
decisions such as product price.
 THE MANAGER
A manager generally has responsibility for his or her own
actions as well as for the actions of individuals, machines and
other inputs under the manager's control. This control may
involve responsibilities for the resources of a multinational
corporation or for those of a single household. In each
instance, however, a manager must direct resources and the
behaviour of individuals for the purpose of accomplishing
some task.
 ECONOMICS
Economics is the science of making decisions in the presence
of scare resources. Resources are simply anything used to
produce a good or service or, more generally, to achieve a
goal.

Decisions are important because scarcity implies that by

making one choice, you give up another.
 ECONOMICS
A computer firm that spends more resources on advertising
has fewer resources to invest in research and development.

A food bank that spends more on soup has less to spend on

fruit. Economic decision thus involve the allocation of scarce
resources, and a manager's task is to allocate resources so as to
best meet the manager's goals.
 MANAGERIAL
ECONOMICS
is the study of how to direct scarce resources in
the way that most efficiently achieves a
managerial goal. It is a very broad discipline in
that it describes methods useful for directing
everything from the resources of a household to
maximize welfare to the resources of a firm to
maximize profits.
 EXAMPLES OF DECISIONS
MANAGERS MAKE
• Should you purchase components such as disk drives
and chips from other manufacturers or produce them
within your own firm?
• Should you specialize in making one type of computer
or produce several different types?
• How many computers should your produce, and at
what price should you sell them?
 EXAMPLES OF DECISIONS
MANAGERS MAKE

The key to making sound decisions is to know what

information is needed to make an informed decision and
then to collect and process the data.
THE ECONOMICS OF EFFECTIVE
MANAGEMENT

The nature of sound managerial decisions varies

depending on the underlying goals of the managers.
Since this course is designed primarily for managers
of firms.
 THE ECONOMICS OF EFFECTIVE
MANAGEMENT
Overview of the basic principles that comprise effective management. In
particular, an effective manager must:

• Identify goals and constraints;

• Recognize the nature and importance of profits;
• understand incentives;
• Understand markets;
• Recognize the time value of money; and
• Use marginal analysis
 IDENTIFY GOALS AND CONSTRAINTS

Overview of the basic principles that comprise effective management. In

particular, an effective manager must:

• Identify goals and constraints;

• Recognize the nature and importance of profits;
• understand incentives;
• Understand markets;
• Recognize the time value of money; and
• Use marginal analysis
 IDENTIFY GOALS AND
CONSTRAINTS

The first step in making sound decisions is to have well- Notice that in both instances, the
defined goals because achieving different goals entails making decision maker faces constraints
different decisions. If your goal is to maximize your grade in that affect the ability to achieve a
this course rather than maximize your overall grade point goal. Contraints are an artifact of
average, your study habits will differ accordingly. Similarly, if scarcity.
the goal of a food bank is to distribute food to needy people in
rural areas, its decisions and optimal distribution network will
differ from those it would use to distribute food to needy
innder-city residents.
 IDENTIFY GOALS AND
CONSTRAINTS

The goal of maximizing profits

requires the manager to decide the
Different units within a firm may be given different goals; optimal price to charge for a
those in a firm's marketing department might be instructed to product, how much to produce,
use their resources to maximize sales or market share, while
which technology to use, how
those in the firm's financial group might focus on earnings
growth or risk-reduction strategies. much of each input to use, how to
react to decisions made by
competitors and so on.
 SIGNIFICANCE OF
MANAGERIAL ECONOMICS

The goal of maximizing profits

requires the manager to decide the
Different units within a firm may be given different goals;
optimal price to charge for a
those in a firm's marketing department might be instructed to
use their resources to maximize sales or market share, while product, how much to produce,
those in the firm's financial group might focus on earnings which technology to use, how
growth or risk-reduction strategies. much of each input to use, how to
react to decisions made by
competitors and so on.
 There are different projections of the subject matter
on managerial economics by different authorities, but
the following features seem common to these
viewpoints.

1. Concerned with decision-making of economic nature.

This implies that managerial economics deals with identification of
economic choices and allocation.
 There are different projections of the subject matter on managerial economics by
different authorities, but the following features seem common to these viewpoints.

2. Micro-economic in character, where the unit of study is a firm. It concentrates on the study of the firm
and not on the working of the economy.

The chief source of concepts and analytical tools for managerial economics is micro-economic theory,
also known as price theory, some of the popular micro- economic concepts are the elasticity of demand,
marginal cost, the long-run economies and diseconomies of scale, opportunity cost, present value and
market structures. Managerial economics also uses some of the well-accepted models in price theory,
such as model for monopoly price, kinked demand model, the model of price discrimination and the
behavioral and managerial models.
 There are different projections of the subject matter on managerial economics by
different authorities, but the following features seem common to these viewpoints.

3. Concerned with normative micro-economics, where the economist says what he

thinks should happen rather than what does happen to the firm. When applies that the
decisions of the firm are made almost always within the broad framework of
economic environment within which thee firm operates, known as maco-economic
conditions. With regards to these conditions, we may stress these points.
 There are different projections of the subject matter
on managerial economics by different authorities, but the
following features seem common to these viewpoints.

4. Takes the help of macro-economics to understand and adjust to the

environment in which the firm operates.
We know that the decisions of the firm are made almost always within the broad
framework of economic environment within which firm operates, known as
micro-economic conditions.
 There are different projections of the subject matter on managerial
economics by different authorities, but the following features seem
common to these viewpoints.

5. Goal-oriented and prescriptive

It deals with how decisions should be mad e by managers to achieve the

organizational goals. Knowledge of managerial economics helps in
making wise choices—as managers continue to face the problem of
scarcity of resources and making suitable choices to allocate them
appropriately in order to achieve organizational goals.
Circular Flow of Economic Activity
 Circular Flow of Economic Activity
Production (transformation of productive resources into goods and services
occurring at the firm)

Society’s real income is the goods the economic system produces.

Production is the process that transforms productive resources such as capital and
labor into useful goods and services. It is these goods and services that constitute
society’s real income. The more resources and the more productive are those
resources, the more goods and services that are produced.
 Circular Flow of Economic Activity

Income (flows from Firms to Households in payment for productive resources)

Income is the reward the productive resources receive for participating in this production
process. Income and production are similar to two sides of the same coin. Income is the
reward for the resources or inputs and production is the measure of the output resulting from
the combination and transformation of those inputs or resources. Some households have this
income reduced by paying taxes. Others experience transfer payments such as family income
allowances and have a disposable income that is higher than what they have earned as
productive resources.
 Circular Flow of Economic Activity
The Firm (answers the question where — as in where production occurs)

The firm is a place where production occurs. It can be a private sector firm such as
Wal-Mart or a government owned firm such as port authority. Absent productive
resources, nothing happens at the firm such as when a strike or lockout occurs.
The owners are not the firm. In the private sector, the owners are the equity
capitalists who are productive resources just as is labor. Profits are the reward to
the equity capitalists and in economic analysis, are a cost to the firm. Private
sector firms can be organized as a corporation in which the equity capitalists are
the owners as well as a productive resource or in a non-corporate form such as a
partnership or proprietorship. In this latter case, the proprietors and partners are
the equity capitalists but also productive resources employed by the firm they
own. The entrepreneurs are the productive resource that make the decisions for
the firm. Entrepreneurs may or may not also be equity capitalists or labor
supplying more than one type of productive resource to the firm in the
transformation process called production.
 Circular Flow of Economic Activity
The Household (dual role of supplying productive resources and demanding goods and
services —consumer)

In free market capitalism, all resources are owned by the households and supplied to the
firm in the transformation process called production. Conventionally, they are divided into
four categories, labor, debt and equity capital, entrepreneurship, and land. As an economy
develops, labor is increasingly embodied human capital, resulting from education, training
and experience. Capital can be provided by creditors in which case it is debt capital or by
the owners in which case it is equity capital. Entrepreneurship is the decision making
resource that determines what is produced by the firm and the way in which it will be
produced. They also determine the prices to be charged buyers and the prices to be paid
for resources. Land includes all natural resources and location or space. The rewards from
each of the resources are compensation to employees for labor, profits for equity
capitalists, interest for debt capitalists, etc.