F O R M B A B A T C H O F 2 0 2 3 - 2 5

MANAGERIAL
ECONOMICS
Based on the Curriculum of Dr. A. P. J. Abdul Kalaam Technical
University , Lucknow, Uttar Pradesh

Drafted by: Atul Raghuvanshi

No. of New
Businesses Starting Every Year
No. of Applications (in millions)
6

0
2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022

The Global Data

Competitive Business World
Business Managers are required to do:

Allocate Determine Forcast Demand Analyze Market

Resources Pricing Strategies Trends
Wisely
 Competitive Business World

+
ECONOMIC PRINCIPLES BUSINESS PRINCIPLES
 Managerial Economics

• Economic Theory • Managerial Practices

• Problems of Logic that • Problems of Policy that
intrigue Economic Theorists plague Practical Managers
• Social Aspect of Economic • Decision Making Challenges
Science
 Managerial Economics

• Economic Theory • Managerial Practices

• Problems of Logic that • Problems of Policy that
intrigue Economic Theorists plague Practical Managers
• Social Aspect of Economic • Decision Making Challenges
Science
Second World War(1939-1945)
Tremendous Pressure on Scarce Economic
Resources
Scarcity of resources results from two
fundamental facts of life:
• Human wants are virtually unlimited and
insatiable
• Economic resources to satisfy these human
demands are limited.
An analysis of scarcity of resources and
choice making poses three basic questions:

What to
produce and How to
how much produce?
to produce?

For whom to
produce?
Definitions of Managerial Economics-
“Managerial Economics is economics applied in decision-
making.
It is a special branch of economics bridging the gap between
the economic theory and managerial practice.
Its stress is on the use of the tools of economic analysis in
clarifying problems in organizing and evaluating information
and in comparing alternative courses of action.”
-W. W. Haynes
Definitions of Managerial Economics-

“Managerial Economics is the integration of economic

theory with business practice for the purpose of
facilitating decision-making and forward planning by
management.”
- Spencer & Siegelman
Micro Economics Applied to Operational
Issues-
• Choice of business and nature of product, i.e., what to
produce;
• Choice of the size of the firm, i.e., how much to
produce;
• Choice of technology, i.e., choosing the factor
combination;
• Choice of price, i.e. ,how to price the commodity;
Micro Economics Applied to Operational
Issues-
• How to promote sales, i.e., sales promotion measures;
• How to face price competition;
• How to decide on new investment;
• How to manage profit and capital;
• How to manage inventory, i.e., stock of both finished
goods and raw material
Macro Economics Applied to Business
Environment-
• The type of economic system- capitalist, socialist
or mixed economic system.
• General trends in production, employment,
income, prices, saving and investment.
• Volume, composition and direction of foreign
trade.
Macro Economics Applied to Business
Environment-
• Structure of and trends in the working of financial
institutions- Banks, NBFCs, insurance companies an
other financial institutions.
• Trends in labour and capital market.
• Economic policies of the government- Fiscal policy,
Monetary policy, EXIM policy, Industrial policy, Price
policy etc.
Macro Economics Applied to Business
Environment-
• Social factors- value system, property rights, customs and habits.
• Social organizations- Trade unions, consumer unions and consumer
cooperatives and producers unions.
• Political environment is constituted of the following factors:
• Political system-democratic, socialist, communist, authoritarian or any
other type.
• State‘s attitude towards private sector
• Policy, role and working of public sector
• Political stability
Nature of Managerial Economics-
• Both Science and Art
• Positive and Normative Science
• Beyond tool making
• Close to Microeconomics
• Operates against the backdrop of Macroeconomics
• Prescriptive Actions
• Decision Support System
• Organizations can’t sustain without it
• Overall a dynamic discipline
Five types of Resource Decisions made by
Organizations-
• The selection of product or service to be produced.
• The choice of production methods and resource combinations.
• The determination of the best price and quantity combination
• Promotional strategy and activities.
• The selection of the location from which to produce and sell goods or
service to consumer
Tasks of a Managerial Economist
Tasks of Managerial Economist-
• Demand Forecasting
• Capital Budgeting
• Risk Analysis
• Pricing and Competitive Strategies
• Profit Planning
• Following Government Regulations
• Cost Analysis
• Strategic Planning
Fixed Cost
• A cost that does not change with an increase or decrease in
the number of goods and services produced or sold.

• Commonly related to recurring expenses that aren't directly

related to production, such as rent, interest payments, and
insurance.

• These costs are set over a specified period of time and do not
change with production levels.
Variable Cost
• A variable cost is a corporate expense that changes in proportion
to how much a company produces or sells.

• Variable costs increase or decrease depending on a company's

production or sales volume—they rise as production increases and
fall as production decreases.

• Example- A manufacturing company's costs of raw materials and

packaging—or A retail company's shipping expenses, which rise or
fall with sales.
Variable Cost
• When production or sales increase, variable costs increase;
when production or sales decrease, variable costs decrease.

• Variable costs are a central part in determining a product's

contribution margin, the metric used to determine a
company's break-even or target profit level.

• Examples of variable costs include- raw materials, labor,

utilities, commission, or distribution costs.
Marginal Cost
• Marginal cost is the change in total production cost that comes
from making or producing one additional unit.

• The purpose of analyzing marginal cost is to determine at what

point an organization can achieve economies of scale to optimize
production and overall operations.

• If the marginal cost of producing one additional unit is lower than

the per-unit price, the producer has the potential to gain a profit.
Marginal Cost
• A company can maximize its profits by producing to where
marginal cost (MC) equals marginal revenue (MR).

• Marginal cost is the change in the total cost of production upon

a change in output that is the change in the quantity of
production.

• The change in total cost arises when the quantity produced

changes by one unit.
Economies of Scale
• Economies of scale are cost advantages reaped by
companies when production becomes efficient.

• Companies can achieve economies of scale by increasing

production and lowering costs.

• This happens because costs are spread over a larger

number of goods. Costs can be both fixed and variable.
ABC Ltd. is a toy company that produces robot toys. Every
month, they produce 2,000 robot toys for a total cost of Rs.
2,00,000. They expect to produce 4,000 robot toys next month
for Rs. 2,50,000.
Total Number of Robots = 2000
Total Cost = Rs. 2,00,000
Expected Number of Robots to be produced = 4000
Expected Total Cost = Rs. 2,50,000
Marginal Cost = (Change in Total Cost)/ (Change in Quantity)
• Change in total cost = (2,50,000-2,00,000) = Rs. 50,000
• Change in total units = (4000-2000) = 2000
So, the marginal cost equals 50,000/2000 = Rs. 25
Opportunity Cost
• Opportunity cost represents the potential benefits
that an individual, investor, or business misses out
on choosing one alternative over another.

• To properly evaluate opportunity costs, the costs and

benefits of every option available must be
considered and weighed against the others.
Opportunity Cost
• Example-

Investing in a new manufacturing plant in Lucknow as opposed to

Prayagraj, deciding not to upgrade company equipment, or opting for
the most expensive packaging unit.

Opportunity Cost=FO−CO
where: FO=Return on best forgone option
CO=Return on chosen option​
Sunk Cost
• A sunk cost, sometimes called a retrospective cost,
refers to an investment already incurred that can’t be
recovered.
• Examples of sunk costs in business include marketing,
research, new software installation or equipment,
salaries and benefits, or facilities expenses.
• By comparison, opportunity costs are lost returns from
resources that were invested elsewhere.
Sunk Cost

“In sunk cost theory, we will often decide to

stay with something because we’ve put time
or resources into it. We believe that because
we have ‘sunk’ that cost into it, we somehow
need to recoup it. That’s a fallacy.”
Fundamental Principles of Managerial
Economics
Marginal Principle-
• A decision is profitable-
• if revenue increases more than costs;
• if costs reduce more than revenues;
• if increase in some revenues is more than
decrease in others; and
• if decrease in some costs is greater than increase
in others.
Marginal Principle-
• Marginal analysis implies judging the impact of a unit change
in one variable on the other.
• Marginal generally refers to small changes.
• Marginal revenue is change in total revenue per unit change
in output sold.
• The decision of a firm to change the price would depend upon
the resulting impact/change in marginal revenue and marginal
cost. If the marginal revenue is greater than the marginal cost,
then the firm should bring about the change in price.
Marginal Principle-
• Marginal analysis is an examination of the additional
benefits of an activity compared to the additional costs
incurred by that same activity.
• Marginal refers to the focus on the cost or benefit of the
next unit or individual
Marginal Principle-
• XYZ Sounds Ltd. Produces • Here the firm is changing the
lightweight headsets for $100, control variable.
but it costs $70 to produce each • With this increase in production-
headset.
• Marginal Benefit=$100
• If 100 units produced,
• Another Employee to hire---------
• Total Revenue=$10,000
• Total Cost Increases to- $15,000
• Total Cost=$7000
• Cost of producing one unit=$149
• Profit=$3000
• Marginal Cost of 100th unit=$70
• At the point when 101 units are
sold- • Marginal Cost of 101th
Unit=$149
• Total Revenue=$10,100
Incremental Principle-
• A decision is profitable-
• if revenue increases more than costs;
• if costs reduce more than revenues;
• if increase in some revenues is more than
decrease in others; and
• if decrease in some costs is greater than increase
in others.
Incremental Principle-
• Main objective- Maximization of profits or to raise the
profits in the business
• Incremental analysis is a decision-making technique
• Determines the true cost difference between alternatives
• Also called the relevant cost approach, marginal analysis,
or differential analysis
• Disregards any sunk cost or past cost
Incremental Principle-
• The incremental concept is closely related to the
marginal costs and marginal revenues
• Incremental concept involves two important activities-
1. Estimating the impact of decision alternatives on costs
and revenues.
2. Emphasizing the changes in total cost and total cost and
total revenue resulting from changes in prices, products,
procedures, investments or whatever may be at stake in
the decision
Incremental Principle/Analysis-
• Change in output due to change in process,
product or investment is considered as
incremental change.

Process Product Investment Output

Incremental Principle/Analysis-
• Change in the firm's performance for a given
managerial decision

• Refers to changes in cost and revenue due to a

policy change
Difference between Marginal &
Incremental Principle-
Marginal
• Implies judging the impact of a unit
change in one variable on the other
• Generally refers to small changes
• Refers to change in total costs per
unit change in output produced
• Marginal revenue is greater than the
marginal cost, then the firm should
bring about the change in price.
Incremental
• Analysis the change in the firm's
performance for a given
managerial decision
• Incremental analysis is
generalization of marginal concept
• Refers to change in total costs due
to change in total output
• Refers to changes in cost and
revenue due to a policy change
Equi-Marginal Principle
• Marginal Utility is the utility derived from the additional unit
of a commodity consumed.
• A consumer will reach the stage of equilibrium when the
marginal utilities of various commodities he consumes are
equal.
• According to the modern economists, this law has been
formulated in form of law of proportional marginal utility.
• Also known as- Principle of maximum satisfaction
Equi-Marginal Principle
• A consumer will spend his money/­income on different
goods in such a way that the marginal utility of each
good is proportional to its price.

• MUx / Px = MUy / Py = MUz / Pz Where, MU

represents marginal utility and P is the price of good.
Equi-Marginal Principle
• Similarly, a producer who wants to maximize profit (or reach
equilibrium) will use the technique of production which
satisfies the following condition:

MRP1 / MC1 = MRP2 / MC2 = MRP3 / MC3

*Where, MRP is marginal revenue product of inputs and

MC represents marginal cost.
Equi-Marginal Principle
• You have 3 examinations tomorrow-
• You only have 9 hours to study today (a usual case for
students who cram during exams!)
• Subjects are –Economics, Management and
Accounting
• Objective- To maximize the average of your grades in
these 3 subjects with your limited study time.
Equi-Marginal Principle
• How should you allocate your 6 hours of study time?

• Such that the marginal grade (or additional grade) from the last
hour of studying spent in one subject is just equal to the marginal
grade from the last hour of studying spent in any of the other
subjects?

• The marginal grade may be represented by the additional grade

that you expect to get in each of the subjects from each
additional time that you spend studying for each and the level of
difficulty of the subject concerned.
Opportunity Cost Principle
Incremental Revenue
• Profit a business gains from an increase in sales.
• It can be used to determine the additional revenue
generated by a certain product, investment, or direct sales
from a marketing campaign –when the quantity of sales has
grown.
• It is a revenue generated from an additional sales quantity.
• It is used to analyse and compare the revenue generated by
two different strategies.
Change in revenue due to a new
decision.
CASE STUDY
• BOAT Technologies Corporation is in final stage of
developing it’s cutting-edge technology smartwatch.
• The watch is one of its kind and is bound to be a hit in
the market owing to its specifications – that make it
special among its rivals.
• Although BOAT is sure of making it big, they need to
calculate the incremental revenue once launched.
• At Boat –they need to first arrive at a Baseline Revenue
Level.
• Suppose, they estimate a sale of 4000 units.
• The Selling Price per unit = Rupees 2000/-
• The Cost of manufacturing a watch = Rupees 900/-
• Than, Incremental Revenue = 4000 × 2000
= Rupees 80,00,000/-
• And, Incremental Cost = No. of Units × Cost per Unit
= 4000 × 900 = Rupees 36,00,000/-
 Contribution Analysis

• Contribution is the difference between

incremental revenue and incremental cost
associated with a particular project

• Contribution Analysis = IR-IC

Contribution Analysis is Useful For-
• Accepting or rejecting a project
• Introducing a new product
• Accepting a new order
• Establishing a new plant
• Make or buy a product
Incremental Costs are-
• Labour Costs
• Material Costs
• Overheads
• Fixed Costs
• Opportunity Costs
• Sunk Costs
• Committed Costs
Time Perspective Principle-
• A manager/decision maker should give due emphasis,
both to short­-term and long-­term impact of his
decisions, giving apt significance to the different time
periods before reaching any decision.
Time Perspective Principle-
• A decision of the firm should take into consideration
both short run and long run effects on Revenues and
cost & maintain the right balance between the long
run and short run.
Time Perspective Principle-
• There is a firm with temporary idle capacity. An order
for 5000 units comes to management’s attention.
Time Perspective Principle-

Compounding

Present Future
Value Value
Discounting
Discounting Principle-
• Talks about comparison between present and future time.
• Example-
You are to gift Rs. 10,000/- to someone today. But you thought
of gifting it an year later.
Normally a person choses to get it
today only.
Money today is having more value
than money tomorrow.
Time Perspective Principle-

Compounding

Present Future
Value Value
Discounting
Time Value of Money/Method of
Discounting Principle-
• By the concept of compounding-
• Future Value of Money = Present Value (1+Interest rate)

• Where PV= present value

• FV= future value
• T= time period in years
Time Value of Money/Method of
Discounting Principle-
• We commonly see bank and postal departments
advertising that they will give 12% interest for every
year on bank deposits –what we have invested with
them.
• With this 12% interest for one year, if we want to get
1-lakh rupees after one year,
• How much we should deposit at present?
Utility
• Total satisfaction or benefit derived from consuming a
good or service.
• Economic theories based on rational choice usually
assume that consumers will strive to maximize their
utility.
• The economic utility of a good or service is important to
understand because it directly influences the demand,
and therefore price, of that good or service.
• In practice, a consumer's utility is usually impossible to
measure or quantify. However, some economists believe
that they can indirectly estimate what is the utility of an
economic good or service by employing various models.
Ordinal Utility-
• Early economists of the Spanish Scholastic tradition of the
1300s and 1400s described the economic value of goods as
deriving directly from the property of usefulness.

• Ordinal Utility states that the satisfaction a consumer gets

after consuming a good or service cannot be scaled in
numbers, whereas, these things can be arranged in the
order of preference.
Ordinal Utility-
• Austrian economist Carl Menger, in a discovery known
as the marginal revolution, used a kind of framework
which said that first available units of any economic
good will be put to the most highly valued uses, and
subsequent units go to lower-valued uses –Ordinal
Utility.
• This ordinal theory of utility is useful for explaining the
law of diminishing marginal utility and fundamental
economic laws of supply and demand.
Cardinal Utility-
Relation between order of preferences and
utility
• At businesses, what is produced?
Goods & Services
• Who uses these goods and services?
Consumer
• What does a consumer gets/derives from the
consumption of commodities?
Utility/Satisfaction
Relation between order of preferences and
utility
• Do consumers have limited income?
Yes, Always –due to increasing needs, wants & desires
• What does a consumer need to do than?
Should allocate his limited income among available
goods in order to obtain maximum satisfaction or utility.
• How?
Consumer chooses the best commodity bundle that
he/she can afford
Relation between order of preferences and
utility
• Affordability is determined by what?
Budget Constraint
• Budget constraint depends upon what?
Consumer’s Income & Prices of Commodities
• Choice of best bundle is guided by what?
Consumer’s Preferences
• Would that best bundle be giving the highest utility?
Yes
Relation between order of preferences and
utility
Ordinal Utility can be explained through
Indifference Curve Analysis
Indifference Curve
• An indifference curve is a chart showing various
combinations of two goods or commodities that
leave the consumer equally well off or equally
satisfied—hence indifferent (neutral)
—when it comes to having any combination
between the two items that is shown along the
curve.
 Indifference Curve
• In economics, an indifference curve is a line –drawn
between different consumption bundles, on a graph
charting the
• quantity of good A consumed
versus
• the quantity of good B consumed.
Indifference Curve
• An indifference curve is a contour line where utility
remains constant across all points on the line.

• At each of the consumption bundles, the individual is

said to be indifferent.
Indifference Curve
• if you like both Burger and Pizza, you may be
indifferent to buying either 20 Burgers and no Pizza,
45 burgers and no Pizza, or some combination of the
two—for example, 14 Burgers and 20 Pizza.

• Either/each combination provides the same utility.

Burgers

Pizzas
Indifference Curve
• An entire utility function can be graphically represented
by an indifference curve map,
-where several indifference curves correspond to
different levels of utility.
• In the graph above, there are three different
indifference curves, labeled A, B, and C.
• The farther from the origin, the greater utility is
generated across all consumption bundles on the curve.
Indifference Curve
Properties of Indifference Curves-
• Indifference curves never cross. If they could cross, it
would create large amounts of ambiguity as to what
the true utility is.

• The farther out an indifference curve lies, the farther

it is from the origin, and the higher the level of utility
it Indicates. the farther out from the origin, the more
utility the individual generates while consuming.
Properties of Indifference Curves-
• Indifference curves never cross. If they could cross, it
would create large amounts of ambiguity as to what
the true utility is.

• The farther out an indifference curve lies, the farther

it is from the origin, and the higher the level of utility
it Indicates. the farther out from the origin, the more
utility the individual generates while consuming.
Properties of Indifference Curves-
• Indifference curves slope downwards. The only
way an individual can increase consumption in
one good without gaining utility is to consume
another good and generate the same amount of
utility. Therefore, the slope is downwards
sloping.
Properties of Indifference Curves-
• Indifference curves assume a convex shape.
• The curve gets flatter as you move down the curve to
the right.
• It illustrates that all individuals experience diminishing
marginal utility, where additional consumption of
another good will generate a lesser amount of utility
than the prior.
Marginal Rate of Substitution(MRS)
• The slope of the indifference curve is known as the
marginal rate of substitution (MRS).
• The MRS is the rate at which the consumer is willing to
give up one good for another.
• For example, a consumer who values apples will be
slower to give them up for oranges, and the slope will
reflect this rate of substitution.
Marginal Utility of Money- Through Cardinal
Utility

MU(A)/P(A) = MU(B)/P(B) =…………MU(N)/P(N) = MU(Money)

UNIT-1 Completed