Ashish Narayan

ReLearners

Managerial

Economics
BBA Semester 3
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Chapter 1

Introduction To Managerial
Economics
Managerial Economics has essentially applied economics in the field of
business management. It is the economics of business or managerial decisions.
It pertains to all economic aspects of managerial decision-making.

Nature of Managerial Economics

1. Use of microeconomics
2. Normative (prescriptive) science
3. Pragmatic (Practical)
4. Use of macroeconomics
5. Uses the theory of the firm
6. Management oriented
7. Multi-disciplinary
8. Art and science

1. Use of microeconomics
Managerial economics is microeconomic in character or in nature. This is so
because it studies the problems of an individual business unit. It does not study
the problems of the entire economy of the world or nation.

2. Normative (prescriptive) science

Managerial economics is a normative science. It is concerned with what
management should do under particular circumstances. It determines the goals of
the enterprise. Then it develops the ways to achieve these goals. Managerial
economics is prescriptive rather than descriptive. It prescribes solutions to various
business problems.

3. Pragmatic (Practical)
Managerial economics is pragmatic. It concentrates on making economic theory
more application-oriented. It tries to solve the managerial problems in their
day-to-day functioning.

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4. Use of macroeconomics
Macroeconomics is also useful to business economics. Macroeconomics provides
an intelligent understanding of the environment in which the business operates.
Managerial economics takes the help of macroeconomics to understand the
external conditions such as business cycle, national income, economic policies of
Government etc.

5. Uses the theory of the firm

Managerial economics largely uses the body of economic concepts and principles
towards solving business problems. Managerial economics is a special branch of
economics to bridge the gap between economic theory and managerial practice.

6. Management oriented
The main aim of managerial economics is to help the management in taking
correct decisions and preparing plans and policies for the future. Managerial
economics analyses the problems and gives solutions just as the doctor tries to
give relief to the patient.

7. Multi-disciplinary
Managerial economics makes use of the most modern tools of mathematics,
statistics and operation research. In decision-making and planning principles
such as accounting, finance, marketing, production and personnel etc.

8. Art and science

Managerial economics is both a science and an art. As a science, it establishes a
relationship between cause and effect by collecting, classifying and analyzing the
facts on the basis of certain principles. It points out the objectives and also shows
the way to attain the said objectives.

Objectives of Managerial Economics

The basic objective of managerial economics is to analyze economic problems of
business and suggest solutions and help the managers in decision-making.
1. To integrate economic theory with business practice.
2. To apply economic concepts: and principles to solve business problems.

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3. To employ (utilize) the most modern instruments and tools to solve

business problems.
4. To allocate the scarce resources in an optimal manner.
5. To make overall development of a firm.
6. To help achieve other objectives of a firm like attaining industry leadership,
expansion of the market share etc.
7. To minimize risk and uncertainty
8. To help in demand and sales forecasting.
9. To help in formulating business policies.
10.To help in profit maximisation

Scope of Managerial Economics

1. Demand analysis and forecasting
2. Cost and production analysis
3. Pricing decisions, policies and practices
4. Linear programming and theory of games
5. Environmental issues
6. Profit management
7. Business cycles
8. Inventory management
9. Capital management
10.Break-even analysis

1. Demand analysis and forecasting

The foremost aspect regarding scope is demand analysis and forecasting. A
business firm is an economic unit which transforms productive resources into
saleable goods. Since all output is meant to be sold, accurate estimates of
demand help a firm in minimizing its costs of production and storage. A firm must
decide its total output before preparing its production schedule and deciding on
the resources to be employed. Demand forecasts serve as a guide to the
management for maintaining its market share in competition with its rivals,
thereby securing its profit.

2. Cost and production analysis

A firm's profitability depends much on its costs of production. A wise manager
would prepare cost estimates of a range of output, identify the factors causing
variations in costs and choose the cost-minimising output level, taking also into
consideration the degree of uncertainty in production and cost calculations. The

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production process is under the charge of engineers but the business manager
works to carry out the production function analysis in order to avoid wastage of
materials and time. Sound pricing policies depend much on cost control.

3. Pricing decisions, policies and practices

Another task before a business manager is the pricing of a product. Since a firm's
income and profit depend mainly on the price decision, the pricing policies and all
such decisions are to be taken after careful analysis of the nature of the market in
which the firm operates. The important topics covered in this field of study are
Market Structure Analysis, Pricing Practices and Price Forecasting.

4. Linear programming and the theory of games

➔ Linear programming and the theory of games have come to be regarded
as part of managerial economics recently.
➔ Linear programming - a mathematical modelling technique in which a
linear function is maximized or minimized when subjected to various
constraints. This technique has been useful for guiding quantitative
decisions in business planning, industrial engineering, and—to a lesser
extent—in the social and physical sciences.
➔ The theory of games - is the study of how and why people make decisions.
(Specifically, it is "the study of mathematical models of conflict and
cooperation between intelligent rational decision-makers".) It helps people
understand parts of science and politics.

5. Environmental issues
There are certain issues of macroeconomics which also form a part of managerial
economics. These issues relate to the general business, social and political
environment in which a business enterprise operates.

6. Profit management
Each and every business firm are tended for earning a profit, it is profit which
provides the chief measure of success of a firm over the long period. Economists
tell us that profits are the reward for uncertainty-bearing and risk-taking. A
successful business manager is one who can form more or less correct estimates
of costs and revenues at different levels of output. The more successful a
manager is in reducing uncertainty, the higher the profits earned him. It is,

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therefore, profit planning and profit measurement constitute the most challenging
area of business economics.

7. Business cycles
Business cycles affect business decisions. They refer to regular fluctuations in
economic activities in the country. The different phases of the business cycle are
depression, recovery, prosperity, boom and recession.

8. Inventory management
A firm should always keep an ideal quantity of stock. If the stock is too much, the
capital is unnecessarily locked up in inventories At the same time if the level of
inventory is low, production will be interrupted due to the non-availability of
materials. Hence, a firm always prefers to have an optimum quantity of stock.
Therefore, managerial economics will use some methods such as ABC analysis,
and inventory models with a view to minimizing the inventory cost.

9. Capital management
Still, another most challenging problem for a modern business manager is of
planning capital investment. Investments are made in the plant and machinery
and buildings which are very high. Therefore, capital management requires a lot
of effort for the right decision.

10. Break-even analysis

A break-even analysis is a financial calculation that weighs the costs of a new
business, service or product against the unit sell price to determine the point at
which you will break even. In other words, it reveals the point at which you will
have sold enough units to cover all of your costs.

Relationship of Managerial Economics with

other disciplines
1. Managerial Economics with Mathematics
2. Managerial Economics with Economics
3. Managerial Economics with Statistics

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1. Managerial Economics with Mathematics

➔ Mathematics is another important subject closely related to managerial
economics. For the derivation and exposition of economic analysis, we
require a set of mathematical tools. Mathematics has helped in the
development of economic theories and now mathematical economics has
become a very important branch of economics.
➔ A mathematical approach to economic theories makes them more precise
and logical. For the estimation and prediction of economic factors for
decision mak­ing and forward planning, the mathematical method is very
helpful. The important branches of math­ematics generally used by a
managerial Economist are geometry, algebra and calculus.
➔ The mathemati­cal concepts used by the managerial economists are the
logarithms and exponential, vectors and deter­minants, and input-out
tables. Operations research which is closely related to managerial
economics is mathematical in character.

2. Managerial Economics with Economics

Managerial Economics is economics applied to decision-making. It is a special
branch of economics, bridging the gap between pure economic theory and
manage­rial practice. Economics has two main branches—micro-economics and
macro-economics.
1. Micro-economics
2. Macro-Economics

2.1. Micro-economics

➔ ‘Micro’ means small. It studies the behaviour of individual units and small
groups of units. It is a study of particular firms, particular households,
individual prices, wages, incomes, individual industries and particular
commodities. Thus microeconomics gives a microscopic view of the
economy.
➔ The roots of managerial economics spring from microeconomic theory. In
price theory, demand concepts, the elasticity of demand, marginal cost
marginal revenue, the short and long runs and theories of market structure
are sources of the elements of microeconomics that managerial economics
draws upon.
➔ It makes use of well-known models in price theory such as the model for
monopoly price and the model of price discrimination.

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2.2. Macro-economics

➔ ‘Macro’ means large. It deals with the behaviour of the large aggregates in
the economy. The large aggregates are total saving, total consumption,
total income, total employment, general price level, wage level, cost
structure, etc. Thus macroeconomics is aggregative economics.
➔ It examines the interrelations among the various aggregates and the
causes of fluctuations in them. Problems of determination of total income,
total employment and general price level are the central problems in
macroeconomics.
➔ Macro-economies are also related to managerial economics. The
environment, in which a business operates, fluctuations in national income,
changes in fiscal and monetary measures and variations in the level of
business activity have relevance to business decisions. The understanding
of the overall opera­tion of the economic system is very useful to the
managerial economist in the formulation of his poli­cies.
➔ Macroeconomics contributes to business forecasting. The most widely used
model in modern forecasting is the gross national product model.

3. Managerial Economics with Statistics

➔ Statistics is important to managerial economics. It provides the basis for
the empirical testing of theory. It provides the individual firm with measures
of appropriate func­tional relationship involved in decision making.
Statistics is a very useful science for business execu­tives because a
business runs on estimates and probabilities.
➔ Statistics supplies many tools to managerial economics. Suppose
forecasting has to be done. For this purpose, trend projections are used.
Similarly, multiple regression techniques are used. In managerial
economics, measures of central tendency like the mean, median, mode,
and measures of dispersion, correlation, regression, least-square, and
estimators are widely used.
➔ Statistical tools are widely used in the solution of managerial problems. For
eg. sampling is very useful in data collection. Managerial economics makes
use of correlation and multiple regression in business problems involving
some kind of cause and effect relationship.

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