foundation eco. intro. docs

7/29/2019 Foundation Eco. Intro. Docs

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Principles of Economics

SUPPLY DEMAND


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Overview

Introduction Nature & Scope of Economics

The Economic Perspective

The Economics & The Management Disciplines Eco. For Effective Mgmt. (Basic Questions)

Identify Goals & Constraints

Understand incentives Understand Markets

Use Marginal Analysis


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SCOPE & METHOD OF ECONOMICS

Economics: A behavioral, or social science

The study of how individuals & societies choose to use the scarceresources for optimization ..

Why Economics: To make decisions

- Opportunity Cost - Marginalism - Efficient Markets

- Respond to incentives - Trading off - for voting/electing

- understand global affairs - understand society

Firms Consumers Governments Intl. Organizations

Buy Car Dinner in Restaurant Marry sweetheart admissions

Produce & sell goods & services Buy inputs & factors of productions

Levy taxes Income inequalities Policies Economic affairs


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Introduction to Economics

PREMISE: Mans motivation SELF-SATISFACTION / VALUE CREATIONTrade offs Costs - paid to get Rationale for margins

Respond to incentives Gains from trade (win-win)

Mkt. Economy for Eco. Activity Efficiency v. Equity

Opportunity Costs Marginalism (Cost benefit analysis) Mkt . Power

Mkt. Failures, inflation recession, Externalities & Govt. Role

Standard of Living & Productivity Money,. Growth & Employment

THE GOAL OF ECONOMICS IS TO REDUCE TRANSACTION COST

Greek word - one who manages a household .

- house - household management

A HOUSEHOLD, A FIRM, AN ECONOMY /GOVT. & DECISIONSWho will work? What to produce? How much to produce?

For whom to Produce? What resources to use in production?

At what price to be sold?

SOCIETY & SCARCE RESOURCES: How to manage these resources?


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Economics & Theory

Economics:

science of making decisions in the presence of limited resources

Microeconomics:

deals with the decisionsmade by individuals & groups, the factorsthat affect these decisions, & how these decisions effect others".

Managerial economics:

applies economics theory to business problems, i.e., how to direct

given resources through economic analysis to make decisions in

achieving the managerial goals efficiently.

Macroeconomics:

deals with economics decisions made at macro or aggregate level.


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Economics &

Role of Manager

The use of economic analysis to make business

decisions involving the best use(optimizing allocation) of an organizationsscarce resources


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EconomicsThe social science that studies the problem of

allocation of scares resources for optimizationof production, distribution, consumption &

minimization of cost of goods & services.

Science which studies human behavior

as a relationship between ends and scarce

means which have alternative uses.

Alternative uses of available resources involves the study of

choices as they are affected by incentives and resources.Micro Economics Macro Economics

-Positive Approach: (What is, what was or will be?)

-Normative Approach: (What ought to be?)


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Microeconomics

Assumptions:ceteris paribus-other things remains unchanged, i.e.,

partial-equilibrium analysis.

General-equilibrium theory: allows for changes in different markets

& aggregates across all markets, including theirmovements & interactions toward equilibrium.

Deals with the economic behavior & problems of individual agents

(firm, industry, consumer etc.) & their interactions with markets,

given scarcity, govt. regulation for a given market, product & service& factors of production.

The Theory: considers aggregates of qty. demand & qty. supply at

each possible price per unit to describe the mkt. equilibrium

on price & quantity or respond to market changes over time.Broadly termed as demand-& -supply/ market forces analysis.

Market structures, such as perfect competition & monopoly, are

examined for implications for behavior & economic efficiency.


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Also considers factors affecting the long-term level & growth ofnational income within a country & across countries.

MacroeconomicsExamines the economy as a whole to explain broad aggregates and

their interactions and effects.

Such aggregates include:

- National income & output,

- Unemployment rate,

- Price inflation &

- Sub-aggregates like total consumption & investment & theircomponents.

Now Macro economics has integrated micro-based modeling of

sectors, including rationality of players, efficient use of market

information, & imperfect competition.

It also studies effects of Monetary, Fiscal & Trade policies


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Managerial Economics It applies economic theory to business problems:

- How to use economic analysis to make decisions of achievinggoal of profit maximization & cost minimization?

-Extensive use of QT/QM like operations research,

programming & statistical tools like regression analysis in the

absence of certainty & perfect knowledge.

- It unifies theme & attempt to optimize business decisions,

including unit-cost minimization & profit maximization, given

the firm's objectives & constraints imposed & supported bytechnology & market conditions.

Reliance:Upgrading technology to achieve EoS

Samsung, LG, Sony, BMW: Entry in India

P&G and HUL: Consumer preferences & Segmentation


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Nature & Scope of Economics

Why Economics:To make decisions- Opportunity Cost - Marginalism - Efficient Markets

- Respond to incentives - Trading off - For electing- Understand global affairs - Understand society

Firms Consumers Govts. Intl. Organizations

- Buy Car Dinner in Restaurant Marry sweetheartAdmissions Medicines & treatment etc.

- Produce & sell goods & services Buy factors & inputs productions

Inventory, Storage, Disposing etc.

- Levy taxes Generating Employment Economic Justice Policies

Interest rates, Growth, EXIM, Economic affairs etc.

Economics: A behavioral, or social science

The study of how individuals & societies choose to use the scarceresources for optimization ..


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How Is Economics Useful?

Evaluating Choice Alternatives Identify ways to efficiently achieve goals.

Specify pricing and production strategies.

Provide production and marketing rules to

help maximize net profits.

Making the Best Decision Economics can be used to efficiently meet

management objectives. Managerial economics can be used to

understand logic of company, consumer, andgovernment decisions.

S i & B i


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Scarcity & Basic

Choice Problem


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Economics : Tool for Improving Mgmt. Decision Making


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Theory of the Firm

Expected Value Maximization Owner-managers maximize short-run profits.

Primary goal is long-term expected value maximization.

Constraints and the Theory of the Firm Resource constraints. Social constraints

Limitations of the Theory of the Firm Alternative theory adds perspective.

Competition forces efficiency.

Hostile takeovers threaten inefficient managers.

Th C i


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The Corporation

- a Legal Device


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Profit Measurement

Variability of Business Profits

Business profits vary widely.

Accounting ProfitsTotal revenue (sales) minus cost of producing

goods or services.

Reported on the firms income statement.

Economic Profits

Total revenue minus total opportunity cost.


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Opportunity Cost

Accounting CostsThe explicit costs of the resources needed to produce

produce goods or services.

Reported on the firms income statement. Opportunity Cost

The cost of the explicit andimplicit resources that are

foregone when a decision is made.

Economic Profits

Total revenue minus total opportunity cost.


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Why Do Profits

Vary Among Firms?

Disequilibrium Profit Theories Rapid growth in revenues.

Rapid decline in costs.

Compensatory Profit Theories

Better, faster, or cheaper than the competition is

profitable.

R l f B i


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Role of Business

in Society

Why Firms ExistBusiness is useful in satisfying consumerwants.

Business contributes to social welfare

Social Responsibility of Business

Serve customers.Provide employment opportunities.

Obey laws and regulations.


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Value Maximization: a Complex Process


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Economics & The Mgmt. Disciplines

Marketing

Finance

Human resources Operations

Accounting

Business schools are basically

schools of applied economics- James March


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Economics & Mgmt. Disciplines Relationship to other business disciplines

Marketing:demand, price elasticityFinance:capital budgeting, breakeven

analysis, opportunity cost, value added

Management Science:linear programming,regression analysis, forecasting

Strategy:types of competition, structure-

conduct-performance analysisManagerial Accounting:relevant cost,

breakeven analysis, incremental cost analysis,

opportunity cost


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Questions that managers must answer:

Eco. For Effective Mgmt. (Basic Questions)

What are economic conditions in particular market?

- market structure? - supply & demand?

- technology? - government regulations?

- intl. dimensions? - future conditions?

-macroeconomic factors? etc.

Should our firm be in this business?

- if so, at what level/size? - at what price level?

- what output level? etc.


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Eco. & Effective Mgmt. (BasicQuestions)

How to gain & maintain competitive advantage ?

- cost-leader? - product differentiation?- market niche? - outsourcing, alliances, mergers?

- international perspective? etc.

What are the risks involved?

Risk- uncertainty or chance, different from expectations

- shifts in demand/supply conditions?

- technological changes?

- the effect of competition?

- changing interest rates & inflation rates?

- exchange rates fluctuations?

- socio-political risk s? etc.


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Identify Goals & Constraints

Sound decision making involves having well-

defined goals.

Leads to making the right decisions.

In striking to achieve a goal, we often face

constraints.

Constraints are an artifact of scarcity.


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Understanding Firms Incentives

Incentives play an important role within the firm.

Incentives determine:

How resources are utilized?

How hard individuals work?

Managers must understand the role incentives

play in the organization.

Constructing proper incentives will enhance

productivity & profitability.


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Market Interactions Consumer-Producer Rivalry

Consumers attempt to locate low prices, whileproducers attempt to charge high prices.

Consumer-Consumer Rivalry

Scarcity of goods reduces the consumers bargainingpower as they compete for the right to those goods.

Producer-Producer Rivalry

Scarcity of consumers causes producers to compete

with one another for the right to service customers. The Role of Government

Disciplines the market process.


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Firm Valuation and Profit

Maximization

The value of a firm equals the present value of current

and future profits (cash flows).

A common assumption among economist is that it is the

firms goal to maximization profits.

This means the present value of current and future profits, so

the firm is maximizing its value.


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Control Variable Examples:

- Output - Price

- Product Quality - Advertising

- R&D etc.

Basic Managerial Question:

How much of the control variable should be used tomaximize net benefits?

Marginal (Incremental) Analysis

N t B fit


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Net Benefits Net Benefits = Total Benefits - Total Costs

Profits = Revenue - Costs

Marginal Benefit (MB)Change in total benefits arising from a change in the

control variable.

Slope (calculus derivative) of the total benefit curve.

Marginal Cost (MC) Change in total costs arising from a change in the

control variable, Q.

Slope (calculus derivative) of the total cost curve


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The Geometry of Optimization:

Total Benefit and Cost

Q

Total Benefits& Total Costs

Benefits

Costs

Q*

B

CSlope = MC

Slope =MB


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The Geometry of Optimization:

Net Benefits

Q

Net Benefits

Maximum net benefits

Q*

Slope =MNB

The Gap Between Theory & Practice &


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The Gap Between Theory & Practice &

The role of Managerial Economics Gap exists between theory & practice in all walks of life

Economic world is extremely complex because of interdependency

of various factors on each other & economic theories are simplistic

ceteris paribus assumption itself is more unrealistic.

Managerial economics bridges the gap betweeneconomic theory & business practice using economic

logic & analysis of tools by

a) identifying the problems/objectives

b) collecting the relevant facts & related info.c) processing & analyzing the facts & info.

d) drawing the relevant conclusions

e) determining & evaluating the alternative means

f) taking a decision that is viable & feasible for optimizing goals.

C l i


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ConclusionEconomics: A discipline about application of economic theory

& methods to managerial decision making & practices byenriching the analytical skills through developing the logical

structuring of problems & providing adequate solutions.

Business:Transactions between 2 or more parties.

Decision Making: Steps: Identifying of strategies, evaluation ofstrategies & determining of criteria for choosing strategies.

Core elements of economic theory: The theory of firm, consumer

& demand theory, production & cost theory, price theory &

competition theory etc.,

Economics: a discipline that proceeds by making assumptionsin order to build simple models & as the situations being analyzed

become more complex, more sophisticated & advanced methods

of analysis become necessary to relax these assumptions.


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Assignment

Explain the origin, nature, scope and

significance of Economics.

What is Managerial Economics? What are the

techniques or methods used in managerial

economics?

How does the study of Managerial Economics

help in decision making?

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