Managerial Economics (ECO 824)

K. S Ibrahim,
Department of Economics
Ahmadu Bello University
Zaria Kaduna
 Outline
 Introduction
 Importance of Managerial Economics

 Phases of Decision Making

 Scope of Managerial Economics

 Profit (Accountant/Economist View)

 Theories of Profit
 Introduction
 Managerial Economics is the use of economic
theory, logic and tools for business decision
making.
 Managerial economics deals with
microeconomic reasoning on real world
problems such as pricing decisions, selecting
the best strategy in different competitive
environments, and making efficient choices.
Importance of Managerial Economics

 It helps in analyzing the structure of managerial

problem
 It helps in enhancing analytical capability of the
analyst
 It helps in conceptual clarification
Phases of Decision Making
 Defining the objectives to be achieved
 Collection and analysis of information (socio-

political and technological environment)

 Analyzing possible course of action

 Selecting the best course of action from available

alternatives
For instance, to launch a new product entails looking
at production related issues as well as sales prospect
of the product to be launched
 With regards to production, issues like production
techniques, cost of each technique, supply of
available inputs, inputs prices, availability of
foreign exchange etc will be analyzed
 With regards to sales prospect, data on market
trend, existing and potential competitors and their
pricing policies, market structure and the degree of
competitors
Scope of Managerial Economics

 Managerial Economics has a more narrow scope -

it is actually solving managerial issues using micro-
economics. The areas to which economic theory
can be applied include operational or internal issues
and environmental or external issues
 Operational problem (scarcity of resources give
rise to the following fundamental problems which
include: what to produce, how much to produce,
choice of technology, product pricing etc)
Microeconomic theories are mostly used in solving
internal or operational problems.
Environmental or external issues: relates to the entire
business ecosystem (economic, social and political
atmosphere). The factors include; economic system,
government policies, social organization, political
environment etc. The general business climate is
mostly within the ream of macroeconomics.
 Profit

 Conceptually, profit refers to the difference

between the total cost of production and the total
revenue brought by the sale of the products. While
the total revenue is a clear-cut concept (referring to
the naira value of the product sold, as generated by
multiplying the product market price by the
quantity sold), the concept the total cost introduces
the divergence between business profit and
economic profit
Economist and Accountant Profit
 In the business culture, the total cost consists of all the
explicit expenditures on the major factors of
production such as land, capital, and labor. However,
the economists tend to think of the
opportunity cost of all these resources and include
their foregone value as an implicit part of the total
cost. Therefore, the business profit or the
accountant’s profit (πa) would be different from the
economist’s profit (πe) by


Where the later include implicit total cost (ITC) in

addition to explicit total cost (ETC)
Theories of Profit
 Walker’s Theory of Profit: F. A. Walker believes
that profit is the difference between the earnings of
the least and the most efficient entrepreneurs.
Walker assumes a state of perfect competition, in
which all firms are presumed equal managerial
ability. In Walker’s view, under perfectly
competitive conditions, there would be no pure or
economic profit and all firms would earn only
marginal wages, which is popularly known in
economics as ‘normal profit’.
 Clark’s Dynamic Theory: According to Clark profit
occurs in a dynamic economy. A static economy is
characterized by competition, homogenous good
and free movement of factors of production and
firms make only the ‘normal profit’ or the wages of
management. A dynamic economy on the other
hand, is characterized by the generic changes. In
the dynamic world the factors undergo a process of
change.
 The risk theory of profit. According to Hawley,
profit simply refers to the price paid by society for
assuming business risk. He suggests that business
people would not assume risk without expecting
adequate compensation in excess of actuarial value,
that is, premium on calculable risk.
 Knight profit theory: Profit according to Knight, is
the reward of bearing non-insurable risks and
uncertainties. It is a deviation arising from
uncertainty. Knight divided risk into calculable and
non-calculable risks.
Schumpeter Innovation Theory of Profit

 According to Schumpeter, profit is embedded in the

process of economic growth which began with a
stationary equilibrium under which total receipt
equals cost outlay of the firm. In the case profit can
be made via innovation.