BUSINESS ECONOMICS

UNIT – 1
Part - I
 WEALTH VIEW ON ECONOMICS
• In 1776 A.D., Adam Smith published a book entitled "An
Inquiry into the Nature and Causes of Wealth of Nation". In
short, this book is also called "Wealth of Nation".
• The meaning of wealth as used by A. Smith refers to
abundance of money. Smith was among the first to describe
how a free, competitive economy can function without central
planning or government intervention to allocate resources
efficiently.
• According to smith, Economics was the study of wealth, how
to increase its production and how to distribute it. He
defined economics as science of wealth.
• He recognizes that the virtues of the 'invisible hand' that leads
the people's private interest of firm and he was popularly
suspicious of firms that are sheltered from competition. Since,
he recognized the potentially undesirable effects on resources
allocation.
 FEATURES OF WEALTH VIEW
Significance of Wealth: A.Smith assumed that wealth is the only important factor in
human society. It can fulfill all the desires of human being in society. He also
assumed that the entire efforts of human society is found to be directed towards
earning more and more wealth.
Role of Economic Man: Smith claims that economics studies behavior of those
human beings who have only one objective. That objective is the earning of more
and more wealth at any cost by any means. Human being of such nature in the
words of Smith is an "Economic Man".
Priority Given in Definition: In the definition of economics first priority is given to
wealth and the second priority to mankind. He assumes that mankind is for
wealth but wealth is not for mankind. He also believed and argued that wealth
and only wealth can give higher satisfaction to all mankind. Therefore, wealth is of
a primary importance in his definition.
Sources of Wealth: A. Smith in his definition of economics assumed that, wages
earned by active human resources is to be the only one and most important
source of income of a nation. He also suggested that the active labors can earn
high amount of wages only through the division of labor in production and
distribution of goods and services. He conclude that apart from wages, there is
nothing else which can be regarded as sources of wealth of a nation.
 CRITICISM ON WEALTH VIEW
Narrow Definition: A. Smith considered that economics is the science that deals only with
wealth and material goods. Critics pointed out that economics studies not only material
goods and wealth but also some non-material such as services of doctor, teacher, lecturer
also fulfill the human wants. Therefore, services provided by professional human
resources also constitute aspects of wealth. Therefore, services regarded by people
should also be regarded as a part of wealth.
Unnecessary Emphasis on Wealth: A. Smith highly emphasized the importance of wealth in
economic life rather than human beings. He assigned primary role to wealth and only
secondary place to mankind. On the contrary, the critics pointed out that human life
cannot be sacrificed for wealth rather wealth should be used for the betterment of
mankind.
Single Source of Wealth: In the view of A. Smith, the amount of wages that is earned by
employed labors could be the only one source of wealth of nation. The critics of the
definition are however of the view that natural resources, human resources, physical
resources and capital resources also as sources of wealth. All these resources put together
can be utilized to earn maximum wealth by a nation.
Assumption of Economic Man is Wrong: Smith assumed that every human being who wants
to earn money by hook or crook is known as economic man. The critics of the definition
instead pointed out that almost all human beings also own the qualities of human life
such as feelings of love, respect, self-esteem, sympathy, co-operation, friendship, trust
which might provide greater satisfaction rather than wealth in their lives.
 WELFARE DEFINITION OF ECONOMICS
• Welfare definition of Economics by Alfred Marshall (1842-
1924) led the Neo-classical school. Alfred Marshall gave
economics a respectable place among other social
sciences.
• In his book “Principles of Economics" published in 1890,
has defined economics in these terms, “Economics is a
study of mankind in the ordinary business of life. It
examines that part of individual and social action which
is most closely connected with the attainment and use of
material requisites of well being”.
• This definition of economics by Alfred Marshall
neoclassical economist clearly point out that economics is
on the one side a study of wealth and on the other and
more important side a part of study of man.
 SIGNIFICANCE OF WELFARE VIEW
1. Study of an Ordinary Man
According to Alfred Marshall, economics is the study of an ordinary man who lives in society.
It is not concerned with the lives of only rich persons or who is cut away from the society. Its
subject matter is a particular aspect of human behavior i.e. earning and spending of incomes
for the normal material needs of human beings.
2. Economics is not a Useless Study of Wealth
Economics does not regard wealth as the be-all and end-all of economics activities wealth is
not of primary importance. It is earned only for promoting human welfare economics is
studied to analyze the causes of material prosperity of individuals and nations.
3. Economics is a Social Science
It does not study the behavior of isolated individuals but the actions of persons living in
society. When people live together they interact and cooperate to work at firms, factories,
shop and offices to produce and exchange goods or services. The problems about these
activities are studied in economics.
4. Study of Material Welfare
According to Alfred Marshall, economics studies only material requisites of well being or
causes of material welfare. It is cleared from this definition that it is materialistic aspect and
ignores non-material aspects. Alfred Marshall stressed that the man’s behavior and activities
to produce and consume maximum number of goods and services are the main object of
study wealth is not an end or final aim, but only a means to achieve a higher objective of
welfare.
 CRITICISM ON WELFARE VIEW
1. Narrow Down the Scope of Economics
According to Prof. Lionel Robbins the use of the word “Material” in Marshall’s definition narrows down the
scope of economics. There are many things in the world, which are non material but they are very significant
for promoting human welfare. Therefore, in the actual study of economics principles, both the material and
immaterial things are taken into accounts.
2. Classificatory Type of Definition
Marshall’s definition was rejected by Robins as being classificatory because it makes a distinction between
material and immaterial welfare and says that economic is concerned only with material welfare.
3. Relation between Economics and Welfare
Robins said that there are many activities which do not promote human welfare but they can satisfy their wants
and therefore, can be regarded economic activities, for example the manufacturing and sale of alcohol goods or
opium etc. here Robins says “whey talk of welfare at all? Why not throw away the mask along altogether?”
4. Welfare is a Vague Concept
Welfare is a vague concept. It is purely subjective. It differs from man to man, from place to place and from age
to age. Robins says that what is the use of a concept which cannot be quantitatively measured and on which
two persons cannot agree as to what is conducive to welfare and what is not.
5. Involves Value Judgment
“Welfare” involves value judgment. According to Robbins the work of the economists is not to judge the value
of a commodity whether it promotes welfare or not. Economists are forbidden to pass any decision.
6. Impractical
The definition of economics by Alfred Marshall is of theoretical nature. Alfred Marshall definition of economics
is not possible in practice to divide human activities.
 SCARCITY VIEW ON ECONOMICS
• Prof Lionel Robbins of the London School of
Economics criticized Marshall’s emphasis on
welfare and shifted the emphasis from welfare
to scarcity.
• He defined Economics is the science which
studies human behaviour as a relationship
between ends and scarce means which have
alternative uses.
IMPORTANT FEATURES OF ROBBIN’S SCARCITY VIEW
1. Economics is a science of choice: The three components in
Robbin’s definition are: ends, scarce means and alternative
uses.
a. Multiplicity of ends: Ends means human wants. They are
unlimited. When one want gets satisfied, another want crops up.
People have to choose which want satisfaction they desire most.
b. Scarcity of means: The means (resources) are scarce in relation to
want. Human beings have to decide for the satisfaction of which
want the resources should be used.
c. Alternative uses of scarce means: The resources are not only
scarce but they have alternative uses. The economy has to choose
the uses for which resources has to be employed.
2. Economics is neutral between ends: Scarcity view is positive
science as it does not give value judgements. It is concerned
with the manner in which ends are attained.
3. Economics is a human science: The definition explains human
behaviour, i.e. human activity which utilizes scarce resources
for satisfaction of given wants.
 CRITICISM ON ROBBIN’S SCARCITY
DEFINITION
1. Allocation of scarce resources will bring welfare of the
people. So, the concept of welfare is implicit in the
definition but it is not explicitly mentioned.
2. The definition makes economics a human science instead
of social science.
3. The definition is too narrow and restricted in scope. It
discusses economics as a theory of product and factor
pricing and does not talk about economic growth or
economic development.
4. It ignores the formative aspect of economics, i.e. it fails to
deal with what is good or bad for society’s welfare and
what should be done to attain good ends.
5. The definition fails to solve the prevailing economic and
social problems attached with ill-health, illiteracy, poverty,
etc.
 POSITIVE & NORMATIVE ECONOMICS
POSITIVE ECONOMICS
1. It expresses what it is
2. It is based on cause and effect of
facts
3. It deals with actual or realistic
situation
4. It can be verified with actual data
5. It deals with how an economic
problem is solved
6. In this value judgements are not
given.
7. Economists of positive school are
Adam smith and his followers
8. Ex: What determines the price rise? Is 8. Ex: What is a fair price rise? Is
positive economics
NORMATIVE ECONOMICS
1. It expresses what should be
2. It is based on ethics
3. It deals with idealistic situation
4. It cannot be verified with actual data
5. It deals with how an economic
problem should be solved
6. In this value judgements are given
7. Economists of normative school are
Marshall, Pigou, Hicks, Kaldor, Scitovsky
normative economics.
 BUSINESS ECONOMICS - DEFINITION
• Business Economics is the application of economic
theory and methodology to business for decision
making and futuristic planning.
• Business involves decision-making. Decision making
means the process of selecting one out of two or more
alternative courses of action.
• The question of choice arises because the basic
resources such as capital, land, labour and
management are limited and can be employed in
alternative uses. The decision-making function thus
becomes one of making choice and taking decisions
that will provide the most efficient means of attaining a
desired end, say, profit maximation.
 SCOPE OF BUSINESS ECONOMICS
1. Demand Analysis and Forecasting
2. Cost and production Analysis.
3. Pricing Decisions, policies and practices.
4. Profit Management.
5. Capital Management
 1. Demand Analysis and Forecasting
• A business firm is an economic organisation which
transform productive resources into goods to be sold in the
market.
• A major part of business decision making depends on
accurate estimates of demand. A demand forecast can
serve as a guide to management for maintaining and
strengthening market position and enlarging profits.
• Demands analysis helps identify the various factors
influencing the product demand and thus provides
guidelines for manipulating demand.
• Demand analysis and forecasting provided the essential
basis for business planning and occupies a strategic place in
managerial economic.
 2. Cost and Production Analysis
• A study of economic costs, combined with the data
drawn from the firm’s accounting records, can yield
significant cost estimates which are useful for
management decisions.
• An element of cost uncertainty exists because all the
factors determining costs are not known and
controllable.
• Discovering economic costs and the ability to measure
them are the necessary steps for more effective profit
planning, cost control and sound pricing practices.
• Production analysis is narrower, in scope than cost
analysis. Production analysis frequently proceeds in
physical terms while cost analysis proceeds in
monetary terms.
 3. Pricing Decisions, Policies and
Practices
• Pricing is an important area of business
economics. In fact, price is the genesis of a firms
revenue and as such its success largely depends
on how correctly the pricing decisions are taken.
• The important aspects dealt with under pricing
include - Price Determination in Various Market
Forms, Pricing Method, Differential Pricing,
Product-line Pricing and Price Forecasting.
 4. Profit Management
• Business firms are generally organised for
purpose of making profits and in the long run
profits earned are taken as an important measure
of the firms success.
• If knowledge about the future were perfect,
profit analysis would have been a very easy task.
However, in a world of uncertainty, expectations
are not always realised so that profit planning
and measurement constitute a difficult area of
business economics.
 5. Capital Management
• Among the various types business problems, the
most complex and troublesome for the business
manager are those relating to a firm’s capital
investments.
• Relatively large sums are involved and the
problems are so complex that their solution
requires considerable time and labour.
• Often the decision involving capital management
are taken by the top management. Briefly Capital
management implies planning and control of
capital expenditure.
 Significance of Business Economics
1. Business economic is concerned with those aspects of
traditional economics which are relevant for business
decision making in real life. These are adapted or
modified with a view to enable the manager take better
decisions. Thus, business economic accomplishes the
objective of building a suitable tool kit from traditional
economics.
2. It also incorporates useful ideas from other disciplines
such as psychology, sociology, etc. If they are found
relevant to decision making. In fact, business economics
takes the help of other disciplines having a bearing on
the business decisions in relation various explicit and
implicit constraints subject to which resource allocation
is to be optimized.
Significance of Business Economics
3. Business economics helps in reaching a variety of
business decisions in a complicated environment.
Certain examples are :
(i) What products and services should be produced?
(ii) What input and production technique should be
used?
(iii) How much output should be produced and at what
prices it should be sold?
(iv) What are the best sizes and locations of new plants?
(v) When should equipment be replaced?
(vi) How should the available capital be allocated?
Significance of Business Economics

4. Business economics makes a manager a more

competent model builder. It helps him appreciate
the essential relationship characterizing a given
situation.
5. At the level of the firm. Where its operations are
conducted though known focus functional areas,
such as finance, marketing, personnel and
production, business economics serves as an
integrating agent by coordinating the activities in
these different areas.
Significance of Business Economics
6. Business economics takes cognizance of the
interaction between the firm and society, and
accomplishes the key role of an agent in
achieving the its social and economic welfare
goals. It has come to be realised that a business,
apart from its obligations to shareholders, has
certain social obligations. Business economics
focuses attention on these social obligations as
constraints subject to which business decisions
are taken. It serves as an instrument in furthering
the economic welfare of the society through
socially oriented business decisions.