Managerial Economics (Lecture 01)

Managerial Economics

PGDM : 2015 17 Term 1 (June September, 2015)(Lecture 01 and 02)

Course DescriptionThis course seeks to provide students with a rigorous exposure to underlying economic concepts and principles, explaining both the strengths and limitations of these theories

Such a holistic understanding is important for managers to be able to meaningfully apply the tools of economic analysis to real life situations.

2Course Objectives/ExpectationsThis course makes no claim to train students to become professional economists

Be familiar with the basic principles of economic decision-making

Comprehend the methods, content and scope of economic principles in managerial decision-making

Apply the principles and concepts discussed to real life problems

3PedagogyThe class will be centered around the class lectures

Students are however strongly encouraged to participate in proceedings, both by feeling free to seek clarification and asking pertinent questions.

Students are required to regularly review the material covered in class, stay in-step with readings and complete assignments, where applicable.

4Text Book & ReferencesText: Salvatore and Srivastava, Managerial Economics, 7th Edition

References:Besanko et al., Economics of StrategyAllen, Bruce, W., Weigelt, Keith, Doherty, Neil and Mansfield, Edwin, "Managerial Economics: Theory, Applications and Cases", 7th Edition, Viva-Norton Student Edition, 2013. McGuigan, Moyer and Harris (MMH), Economics for Managers, 12th Edition, Cengage Learning, IndiaDominick Salvatore, Managerial Economics in a Global Economy, 7th EditionJames Brickley, Clifford W Smith, Jerold Zimmerman, Managerial Economics & Organizational Architecture, 4th Edition,

5Quizzes & ExamsGrades for the course will be mainly based on a weighted average of quizzes, a midterm and a final exam.

There will be no make-up quizzes or extra-credit opportunities.

Make-up opportunity for missed mid-term/end-term will be allowed only for genuine reasons (as per the rules defined in the Student Handbook) with prior approval from Dean, Academic.

6Grading Method

ComponentsWeight (%)End Term35Mid Term20Quizzes (4)40Class Participation57Class RulesClass rules include

Punctuality,

No bilateral communication in class,

Texting is strictly prohibited, and

Using laptops in class is strictly forbidden (unless and otherwise required). 8Topical Outline & Tentative Teaching Plan

Module 1: Introduction to Managerial Economics: Lecture 1Rationale and Objectives of a firm, Concept of Profit : Lectures 2 and 3

Module 2: Analysis of Demand and Supply: Lectures 4 through 8

** Quiz 1: On Materials Covered from 1st through 3rd Session** Quiz 2: On Materials Covered from 1st through 4th Session

Module 3: Production and Cost Analysis : Lectures 9 through 13

MID TERM EXAMINATION : Covers up to 10th Lecture

9Topical Outline & Tentative Teaching Plan

Module 4: Market Structure and Pricing Strategy : Lectures 14 through 20

**Quiz 2: On Materials Covered from 11th through 15th Session

**Quiz 3: On Materials Covered from 16th through 19th Session

END TERM EXAMINATION : Cumulative

10What is Economics?Economy oikonomos (Greek)One who manages a household

Household - many decisionsAllocate scarce resourcesAbility, effort, and desire

Society - many decisionsAllocate resourcesAllocate output

11Scarcity - limited nature of societys resources

EconomicsStudy of how society manages its scarce resources

Economists study:How people make decisions; How people interact with one another; and Analyze forces and trends that affect the economy as a whole.What is Economics?12Decision MakingPrinciple 1: People face trade-offs

Making decisionsTrade off one goal against anotherStudent timeParents incomeSocietyNational defense vs. consumer goodsClean environment vs. high level of incomeEfficiency vs. equality 13Decision MakingPrinciple 1: People face trade-offs

EfficiencySociety - maximum benefits from its scarce resourcesSize of the economic pie

EqualityBenefits - uniformly distributed among societys membersHow the pie is divided into individual slices14Decision MakingPrinciple 2: The cost of something is what you give up to get it

People face trade-offsMake decisionsCompare cost with benefits of alternatives: Cost-Benefit Analysis

Opportunity costWhatever must be given up to obtain one item15Principle 3: Rational people think at the margin

Rational peopleSystematically & purposefully do the best they can to achieve their objectives

Marginal changesSmall incremental adjustments to a plan of action

Rational decision maker take action only ifMarginal benefits > Marginal costs The Golden RuleDecision Making16Decision MakingPrinciple 4: People respond to incentives

IncentiveSomething that induces a person to act

Higher priceBuyers - consume lessSellers - produce more

Public policyChange costs or benefitsChange peoples behavior17Decision MakingPrinciple 4: People respond to incentives

Gasoline taxCar size & fuel efficiency; carpool; public transportation

Unintended consequencesPolicymakers fail to consider how their policies affect incentives

18InteractionPrinciple 5: Trade can make everyone better off

TradeSpecializationAllows each person/country to specialize in the activities he/she does best

People/countries can buy a greater variety of goods and services at lower cost19Principle 6: Markets are usually a good way to organize economic activity

Communist countries central planningGovernment officials (central planners)Allocate economys scarce resourcesDecidedWhat goods & services were producedHow much was producedWho produced & consumed these goods & services

Theory: only the government could organize economic activity to promote economic well-being for the country as a wholeInteraction20Market Failure21

Market Failure is Pervasive and It Comes in Four Main VarietiesMonopolyPublic GoodsExternalitiesInformation22Market FailurePrinciple 6: Markets are usually a good way to organize economic activity

Communist countries central planningGovernment officials (central planners)Allocate economys scarce resourcesDecidedWhat goods & services were producedHow much was producedWho produced & consumed these goods & services

Theory: only the government could organize economic activity to promote economic well-being for the country as a wholeInteraction23InteractionPrinciple 7: Governments can sometimes improve market outcomes

We need governmentEnforce the rules Maintain institutions - key to market economyEnforce property rights

Property rightsAbility of an individual to own and exercise control over scarce resources24InteractionPrinciple 7: Governments can sometimes improve market outcomes

Government interventionChange allocation of resources

To promote efficiencyAvoid market failure

To promote equalityAvoid disparities in economic wellbeing2526Market Failure and Government

What is Microeconomics?Principles 1 through 7 can be considered as the basic principles of Microeconomics.

However, these principles are not confined to Microeconomics only.

Based on these principles Microeconomics deals with the behavior of an Individual Agent or Decision Making Unit (DMU).

The Utilitarianism of Jeremy Bentham [1748-1832] is the foundation of modern microeconomic theory

27How the Economy as a Whole WorksPrinciple 8: A countrys standard of living depends on its ability to produce goods and services

Large differences in living standardsAmong countriesOver time

Explanation: differences in productivity28How the Economy as a Whole WorksPrinciple 9: Prices rise when the government prints too much money

InflationAn increase in the overall level of prices in the economy

Causes for large / persistent inflationGrowth in quantity of moneyValue of money falls29How the Economy as a Whole WorksPrinciple 10: Society faces a short-run trade-off between inflation and unemployment

Short-run effects of monetary injections:Stimulates - overall level of spendingHigher demand for goods and servicesFirms raise prices; hire more workers; produce more goods and servicesLower unemployment

Short-run tradeoff between inflation and unemployment30What is Macroeconomics?Principles 8 through 10 are more aligned with the scope of Macroeconomics.

Macroeconomics deals with the overall economy/country.

Remember, it is impossible to study Macroeconomics ignoring the principles of Microeconomics.

31What is Managerial Economics

Managerial Economics refers to the application of Economic Theory (both Microeconomics and Macroeconomics) and

application of Statistics, Mathematical Economics, and Econometrics

to examine how an organization can achieve its aims or objectives in the most efficient manner.Application of Microeconomic Theory

Study of the economic behavior of individual decision-making units throughunderstanding of consumer behavior, decision making in firms, and market structure. What is Managerial Economics3333Knowledge of Macroeconomic Theory and Policy

Study of the total or aggregate level of output, income, employment, consumption, investment, and prices for the economy viewed as a whole.What is Managerial Economics3434Application of Economic Theory

Economic ModelsAbstract from detailsFocus on most important determinants of economic behavior cause and effectFor example, Model of Demand and Supply, Utility Maximization Model, Cost Minimization Model, Dynamic General Equilibrium Model etc.

Evaluating Economic ModelsA model is accepted if it predicts accurately and if the predictions follow logically from the assumptions.

What is Managerial Economics3535Each economic Model is based on some meaningful assumptions.Therefore the accurateness of the predictions of a model is very much dependent on the underlying assumption(s). For example, while modeling consumer behavior we assume that an individual would behave rationally and there is no uncertaity affecting his or her choice. Whenever we relax the assumption of certainty we get a new model of consumer behavior - consumer behavior under uncertainty.The predictions also change after considering the uncertainty influencing the choice.How to evaluate Economic Models

Mathematical EconomicsExpresses and analyzes economic models using the tools of mathematics. Use of Linear Algebra, Calculus, Real Analysis, Coordinate Geometry EconometricsEmploys statistical methods to estimate and test economic models using empirical data.Depending on the hypothesis we are testing and type of data that best represents the model following are the basic econometric models: Cross Sectional Modeling, Time Series Modeling, Panel Data Modeling

What is Managerial Economics3636