Fundamentals of Economics, Master PPT.pptx

Dr. Brijlal Mallik
Fundamentals of Economics, T2212
Dr. Brijlal Mallik
Assistant Professor, SCMS, Nagpur

Take-Home Message from Unit 1
Lesson 1. The Fundamentals of Managerial
Economics
 Why study economics?
 Managerial economics
 Nature of managerial economics
 Circular flow of economic activity
 Objectives of the firm
Lesson 2. Demand Analysis
 Law of demand
 Determinants of demand
 Types of demand
 Exceptional demand curve
 Elasticity of demand
 Price elasticity
 Income elasticity
 Cross elasticity
 Demand forecasting
Lesson 3. Supply Analysis
 Law of supply
 Determinants of supply
 Elasticity of supply
 Factors influencing supply
Lesson 4.Consumer Behavior
 Indifference Curve Analysis
 Budget Analysis/Constraint
 Consumer Equilibrium

To introduce the economic concepts
To familiarize the importance of economic approaches in managerial decision
making To understand the applications of economic theories in business
decisions
Objectives

General Foundations of Managerial Economics - Economic Approach - Circular Flow of
Activity - Nature of the Firm - Objectives of Firms - Demand Analysis and Estimation -
Individual, Market and Firm demand - Determinants of demand - Elasticity measures
and Business Decision Making - Demand Forecasting
Unit - I

Law of Variable Proportions - Theory of the Firm - Production Functions in the Short
and Long Run - Cost Functions – Determinants of Costs – Cost Forecasting - Short Run
and Long Run Costs –Type of Costs - Analysis of Risk and Uncertainty
Unit - II

Product Markets – Determination Under Different Markets - Market Structure –
Perfect Competition – Monopoly – Monopolistic Competition – Duopoly - Oligopoly -
Pricing and Employment of Inputs Under Different Market Structures – Price
Discrimination - Degrees of Price Discrimination
Unit - III

Introduction to National Income – National Income Concepts - Models of National
Income Determination - Economic Indicators - Technology and Employment - Issues
and Challenges – Business Cycles – Phases – Management of Cyclical Fluctuations -
Fiscal and Monetary Policies
Unit - IV

Macro Economic Environment - Economic Transition in India - A quick Review -
Liberalization, Privatization and Globalization - Business and Government - Public-
Private Participation (PPP) - Industrial Finance - Foreign Direct Investment (FDIs).
Unit - V

1. Yogesh Maheswari, Managerial Economics, Phi Learning, New Delhi, 2005.
2. Gupta G.S., Managerial Economics, Tata Mcgraw-Hill, New Delhi.
3. Moyer & Harris, Managerial Economics, Cengage Learning, New Delhi, 2005.
4. Geetika, Ghosh & Choudhury, Managerial Economics, Tata McGraw-Hill, New Delhi,
2011.
Reference Books

(The Fundamentals of Managerial Economics)
Dr. Brijlal Mallik
To understand that economics is the study of mankind’s attempt to satisfy their unlimited wants with the help of limited
resources. Economics: 1) Micro Economics and 2) Macro Economics 3) Monetary Economics and 4) Fiscal Economics.
Microeconomics deals with the basic principles of economics like the law of demand, the law of supply, consumption,
production, etc. Managerial economics deals with the principles of microeconomics as applied to managerial decision-
making. Also to understand the circular flow of economic activity – chain in which production creates income, income
leads to spending, and spending, in turn, leads to production activity.

 Why study economics?
 Managerial economics
 Nature of managerial
economics
 Circular flow of economic
activity
 Objectives of the firm
Lecture Outline…

Needs vis-à-vis Wants
 People have a limited number of needs that must be satisfied for survival (material / psychological/emotional needs etc.)
 To enjoy a better standard of living, people would go beyond the basic level as human wants are unlimited
 Want: desire for the consumption of goods and services
 Therefore the basic economic problem is that the resources are limited but wants are unlimited which forces us to make
choices
 Economics: allocation of resources, the choices that are made by economic agents.
 Economy: system which attempts to solve this basic economic problem. There are different types of economies;
household economy, local economy, national economy, and international economy but all economies face the same
problem
 What to produce?
 How to produce?
 When to produce?
 For whom to produce?

Economics and Managerial Economics
 Economics: how individuals and societies choose to use scarce resources (micro vis-à-vis macro).
 The world’s resources are limited and scarce.
 The resources which are not scarce are called free goods.
 Resources that are scarce are called economic goods.
 Vital for managerial decision making, designing and understanding public policy, and appreciating how an economy
functions.
 Students: What goes on in the world and how it can be used as a practical tool for decision making.
 Managers and CEO’s: Understanding of how market forces create both opportunities and constraints for business
enterprises.
 Managerial Economics: how scarce resources are directed most efficiently to achieve managerial goals. It is a valuable
tool for analyzing business situations to make better decisions. It is well integrated with other disciplines.

Managerial Economics: Definitions
 Prof. Evan J Douglas: Managerial Economics is concerned with the application of economic principles
and
methodologies to the decision making process within the firm or organization under the conditions of
uncertainty
 Milton H Spencer and Louis Siegelman: Managerial Economics is the integration of economic theory with
business
practices for the purpose of facilitating decision making and forward planning by management
 Mc Nair and Miriam: Managerial Economics consists of the use of economic modes of thoughts to
analyze
business situations.

Managerial Economics: Nature
 Concerned with the analysis of finding optimal solutions to decision-making problems of businesses/
firms
(microeconomic in nature)
 Practical subject therefore it is pragmatic
 Describes, what is the observed economic phenomenon (positive economics) and prescribes what ought
to be (normative economics)
 Based on strong economic concepts (conceptual in nature)
 Analyses the problems of the firms in the perspective of the economy as a whole (macro in nature)
 It helps to find an optimal solution to the business problems (problem-solving)
 Important role to play by helping managements in successful decision making and forward planning.
Applies economic principles and concepts towards adjusting to various uncertainties faced by a business
firm.

Circular Flow of Economic Activity
 Individuals own or control the resources
 Inputs – Production Process – Output(s)
 Land – natural, renewable, and non-renewable
 Labour – human capital
 Capital – working and fixed
 Entrepreneurship – organize production and take risks
 Effective allocation of resources
 Consumers (to maximize satisfaction)
 Workers (to maximize wages)
 Firms (to maximize the output and profit)
 Government (to maximize the welfare of the society)
Circular flow of activity is a chain in which production creates income, income
generates spending, and spending, in turn, induces production.
Clockwise
Anticlockwise
: Circular flow of economic activities
: Circular flow of goods and services

Nature of the Firm
 Firm: association of individuals who have organized themselves for the purpose of turning inputs into
output
 Organizes the factors of production to produce goods and services to fulfill the needs of the
households
 Objectives
 To achieve the Organizational Goal
 To maximize the Output
 To maximize the Sales
 To maximize the Profit of the Organization
 To maximize the Customer and Stakeholders Satisfaction
 To maximize Shareholder’s Return on Investment
 To maximize the Growth of the Organization

(Demand Analysis)
Dr. Brijlal Mallik
To understand that demand analysis is an important part of economic analysis. The
manufacturers produce and supply goods to meet demand. When the demand and
supply are equal the economic conditions of the country is in equilibrium position.
This demand and supply are market forces that give dynamism to the economic
conditions of the country. The demand is not always static. The changes in demand or
elasticity of demand give room for managerial decision-making like what to produce,
how much to produce, when to produce, and where to distribute the products.

 Law of demand
 Determinants of demand
 Types of demand
 Exceptional demand
curve
 Elasticity of demand
 Price elasticity
 Income elasticity
 Cross elasticity
 Demand forecasting
Lecture Outline…

Demand
 Demand: Ability and willingness to buy a specific quantity of a commodity at the prevailing price in a given period
of time.
Therefore, demand for a commodity implies the desire to acquire it, willingness, and the ability to pay for it
 Law of Demand: The quantity of a commodity demanded in a given time period increases as its price falls, ceteris paribus.
 Demand Schedule: A table showing the quantities of a good that a consumer is willing and able to buy at the prevailing
price in a given time period.
 Demand Curve: A curve indicating the total quantity of a product that all consumers are willing and able to purchase
at the
prevailing price level, holding the prices of related goods, income and other variables as constant
Price of Coke (200 ml) in INR Quantity Demanded
50 1
45 2
40 3
35 5
30 7
25 9
20 12
15 15
10 20

Demand
 Change in Demand: Shift vis-à-vis Extension/Contraction
 Shifts in Demand: Shift of the demand curve (rightward/upward/increase or leftward/downward/decrease) occurs
when the determinants of demand change
PC: Google

Demand
 Change in Demand: Shift vis-à-vis Extension/Contraction
 Extension or Contraction in Demand: Movement along the demand curve (only due to
price)
PC: Google

Demand
 Demand Function: describe how much of a commodity will be purchased at the prevailing prices of that commodity and
related
commodities, alternative income levels, and alternative values of other variables affecting demand.
QdX = f (Px, Pr, Y, T, Ey, Ep, Adv…)
Where,
QdX is the quantity demanded of good ‘X’
Px is the price of good X
Pr is the price of a related good
Y is the income level of the consumer
T is the taste and preference of the
consumers Ey is the expected income
Ep is the expected price
Adv is the advertisement cost

Demand
 Determinants of Demand
 Price of the good (-ve relationship)
 Price of related goods (substitutes: -ve and complementary goods:
+ve)
 Consumers income (+ve)
 Taste, preference, fashions, and habits
 Population (+ve)
 Money circulation (+ve)
 Value of money
 Weather condition (tender coconut)
 Advertisement
 Consumer’s future price expectation (disaster)
 Government policy (taxation: -ve)
 Credit facilities
 Multiplicity of uses of goods (+ve)

Demand
 Types of Demand
 Direct (fabric) and indirect (cotton) demand
 Derived demand (petrol  car) and autonomous demand (mobiles)
 Durable (used more than once: TV) and non-durable goods (single use: band-aid)
demand
 Firm (Dove soap) and industry demand (steel)
 Total market (pencil) and market segment (pencil for kids) demand
 Short-run and long-run demand
 Joint demand (car+petrol) and composite (iron for several uses) demand
 Price demand, income demand and cross demand

Demand
 Exceptional Demand Curves
 Giffen Goods: Robert Giffen of Ireland observed some special type of inferior goods like potato (Giffen
paradox)
 Conspicuous Consumption / Veblen Effect: Thorsten Veblen propounded for goods like diamonds
 Conspicuous Necessities: Purchase of smart phones owing to lifestyle
 Ignorance: attributed to brand orientation
 Emergencies: Sanitizer during COVID-19
 Future Changes in Prices: Stock market products
 Change in Fashion: CD to Flash disk
 Demonstration Effect: Low income groups imitating the consumption pattern of high income groups
 Snob Effect: Pride of owing unique products
 Speculative Goods/ Outdated Goods/ Seasonal Goods: Shares/CD/Ice-cream
 Goods in Short Supply: Antique
 Market Demand
 Horizontal summation of the demand curves of all the consumers in the
market
PC: Google

Fundamentals of Economics, Master PPT.pptx

Demand: Price Elasticity
 Elasticity of Demand : degree of responsiveness of the demand for a commodity due to a fall in
its price
 Types : Price, Income and Cross elasticity
A. Price Elasticity (Ep): Proportionate change in the quantity demanded ÷Proportionate change in price
Ep = [ΔQ / Q] ÷[ΔP / P]
 Price Elasticity Determinants: Availability of substitutes and time
 Better substitutes, higher Ep
 Longer period, higher Ep
 Ep is lower for necessities in comparison to luxuries
 Ep depends on nature of the commodity, extent of use, range of substitutes, income level, proportion of income spent
on the commodity, urgency of demand / postponement of purchase, durability of a commodity, purchase frequency
of a product / recurrence of demand, and time.

 Price Elasticity
Types
Relatively Elastic Demand (>1) Perfectly Elastic Demand (∞)
Relatively Inelastic Demand (< 1) Perfectly Inelastic Demand (0)

 Price Elasticity
Types
Unit Elasticity of Demand (1)

B. Income Elasticity: Proportionate change in the quantity demanded ÷Proportionate change in income
[ΔQ / Q] ÷[ΔI / I] =Ei
 Types: Zero, Negative, Unitary, Elastic and Inelastic
 Zero Income Elasticity: The increase in income of the individual does not make any difference in the demand for that
commodity ( Ei = 0)
 Negative Income Elasticity: The increase in the income of consumers leads to less purchase of those goods ( Ei < 0)
 Unitary Income Elasticity: The change in income leads to the same percentage of change in the demand ( Ei = 1)
 Elastic Income Elasticity : The change in income increases the demand for that commodity more than the change in the
income ( Ei >1)
 Inelastic Income Elasticity: The change in income increases the demand for the commodity but at a lesser percentage
than the change in the Income ( Ei <1)
Demand: Income Elasticity

 Income Elasticity for Superior and Inferior
Goods
Demand: Income Elasticity

Demand: Cross Elasticity
C. Cross Elasticity: Proportionate change in the quantity demanded ÷Proportionate change in price od related Goods
[ΔQA / QA] ÷[ΔPB / PB] =Ec
 Types: Substitutes (+ve) and Complementary (-ve)
Significance of Elasticity of Demand
1. In production i.e. in deciding the quantity of goods to be produced
2. Price fixation i.e. in fixing the prices not only on the cost basis but also on the basis of prices of related
goods.
3. In distribution i.e. to decide as to where, when, and how much etc.
4. In international trade i.e. what to export, where to export
5. In foreign exchange
6. For nationalizing an industry
7. In public finance

Demand: Forecasting
 Forecasting is the estimation of a future situation or event, under given
conditions
 A tool for decision making
The major short run decisions The major long run decisions
Ֆ Purchase of inputs
Ֆ Maintaining of economic Ֆ
Ֆ
Ֆ
Ֆ
Ֆ
Ֆ
Ֆ
Expansion of existing
capacity Diversification of
the product mix
Growth of acquisition
Change of location of
plant Capital issues
Long run borrowings
Manpower planning
level of inventory
Ֆ Setting up sales targets
Ֆ Distribution network
Ֆ Management of working
capital
Ֆ Price policy
Ֆ Promotion policy

Demand: Forecasting
Why Demand Estimation and Forecasting?
 To predict the future demand and assessing its effect on the operation of the firm/market.
 Assessing the magnitude that demand will assume at some future point in time.
 It helps to reducing uncertainty, making production plan, allocation of resources and to
formulate marketing strategies.

Demand: Forecasting
Stages in Demand Estimation and
Forecast

Demand: Forecasting
Factors to be considered in demand estimation
 Time frame
 Short-term, medium-term or long-term
 Level of demand forecasting
 Macro-level, industry-level or firm-level
 General or Product specific forecast
 Demand for new or already established products
 Types of products
 Producer goods, consumer goods, services etc.
 Product or market specific factors
 Competition, market condition, consumer’s
psychology

Demand: Forecasting
Types of Forecasting Methods
 Subjectively using judgment; intuition and commercial knowledge about the
product
 Objectively using statistical analysis of past data
 Combination of both
 Broadly classified into
 A. Qualitative methods
 B. Quantitative methods 1. Survey of buyers’ intension
2. Delphi method
3. Expert opinion
4. Collective opinion
5. Naïve model
6. Smoothing techniques
7. Time series / trend
projection
8. Controlled experiments
9. Judgmental approach

Demand: Forecasting
A. Qualitative
Methods
Executive
Opinion
Market
Research
Delphi
Method
A group of
managers / high
level executives
meet and
collectively develop
a forecast for
demand
This is a more
systematic method
involving
questionnaires,
surveys, sampling,
and information
analysis to determine
the consumer
preferences and
assess demand
accordingly.
Demand forecast is
the product of a
consensus among a
group of experts
while maintaining
their anonymity. A
coordinator sends
data and questions
to the experts, their
comments are
shared, discussed,
and a consensus is
reached. The
process is time
consuming.

Demand: Forecasting
B. Quantitative
Methods
Time Series Models
These models consider
the past patterns of
demand and predict the
future demand based on
the underlying patterns.
Causal Models
These models assume
that the forecast variable
is related to other
variables and predictions
are based upon those
associations.

Demand: Forecasting
Criteria to choose a method for forecasting
 Accuracy
 Plausibility
 Durability
 Flexibility
 Availability
Forecasting vis-à-vis Prediction
 There is a clear distinction between “steady-state forecasting”, where the future is expected to be much like the
past, and “what-if forecasting” where a multivariate model is used to explore the effect of changing policy
variables.

Demand: Forecasting
Time Series / Trend
Projection
Linear Trend
Y = a + b X
Y is the demand
X is the time period
a is the intercept
b is the slope coefficient
∑Y = na + b∑X (Eq. 1)
∑XY = a∑X + b∑X2 (Eq. 2)
Solve,

Demand: Forecasting
An
illustration
Year 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011
Sales 22734 24731 31489 44685 55319 91021 146234 107887 127483 97275
Task: Estimate the sales for 2012, 2015 and fit a linear regression equation and draw a trend
line.
Year X Sales (Y) XY X2
2002 1 22734 22734 1
2003 2 24731 49462 4
2004 3 31489 94467 9
2005 4 44685 178740 16
2006 5 55319 276595 25
2007 6 91021 546126 36
2008 7 146234 1023638 49
2009 8 107887 863096 64
2010 9 127483 1147347 81
2011 10 97275 972750 100
∑X = 55 ∑Y= 748858 ∑XY= 5174955 ∑X2= 385
∑Y = na + b∑X (Eq. 1)
∑XY = a∑X + b∑X2 (Eq. 2)
748858 = 10a + 55b (Eq. 1)
5174955 = 55a + 385 b (Eq. 2 )
5242006 = 70a + 385 b (Eq. 1 x 7)
67051 = 15a (Eq. 3 – Eq.
2)
a = 4470.07
b = 12802.8
Substitute the
values,

Demand: Forecasting
Y = a + b X
Y = 4470.07 + 12802.8 X
Sales for 2012 = 4470.07 + 12802.8 (11) = 145300.87
Sales for 2015 = 4470.07 + 12802.8 (14) = 183709.27
Year X Sales (Y) XY X2
2002 1 22734 22734 1
2003 2 24731 49462 4
2004 3 31489 94467 9
2005 4 44685 178740 16
2006 5 55319 276595 25
2007 6 91021 546126 36
2008 7 146234 1023638 49
2009 8 107887 863096 64
2010 9 127483 1147347 81
2011 10 97275 972750 100
∑X = 55 ∑Y= 748858 ∑XY= 5174955 ∑X2= 385

Supply Analysis)
Dr. Brijlal Mallk
To understand that supply is an independent economic activity but it is based on the demand for commodities. The
managers’ ability to make more profits depends upon his ability to adjust the supply to the demand without creating a
surplus while at the same time not creating a scarcity that will spoil the image of the company in the eyes of the public.
Supply is also sometimes inelastic and sometimes elastic. The managers have to take wise decisions to maximize the
profits of the firm.

 Law of supply
 Determinants of supply
 Elasticity of supply
 Factors influencing
supply
Lecture Outline…

Supply
 Supply: Various quantities of the commodity which a seller is willing and able to sell at different prices in a given market at
a point
of time, other things remaining constant.
 Law of Supply: Increase in price will lead to an increase in quantity supplied and vice versa, ceteris paribus.
 Supply Schedule: A table showing the quantities of a good that a producer is willing and able to sell at the prevailing price in
a given time period.
 Supply Curve: A graphical representation of how much of a commodity a firm sells at different prices.
 The supply curve slopes upward from left to right.
 Therefore, the price elasticity of supply will be positive
PC: Google

Supply
Determinants of Supply
 The cost of factors of production
 The state of technology
 External factors
 Tax and subsidy
 Transport
 Price
 Price of other goods
Elasticity of Supply (Es)
 Responsiveness of a quantity supplied to a unit change in price of that
commodity
 Proportionate change in the quantity supplied ÷Proportionate change in price
Es = [ΔQs / Qs] ÷[ΔP / P]
PC: Google

Supply
Kinds of Supply Elasticity
 Perfectly inelastic: If there is no response in supply to a change in price (Es = 0)
 Inelastic supply: The proportionate change in supply is less than the change in price (Es = 0
to 1)
 Unitary elastic: The percentage change in quantity supplied equals the change in price (Es =
1)
 Elastic: The change in quantity supplied is more than the change in price (Es = 1 to )
∞
 Perfectly elastic: Suppliers are willing to supply any amount at a given price (Es = )
∞
Factors influencing the Elasticity of Supply
 Nature of the commodity (perishables: less elastic; durable: more elastic)
 Operational time period for production (short: less elastic; long: more elastic)
 Scale of production (small scale: less elastic; large scale: more elastic)
 Size of the firm and number of products (diverse products: more elastic)
 Natural factors (farm commodities: inelastic)
 Nature of production (artistic works: more elastic)
PC: Google

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