Managerial Economics

Cheat Sheet
Presented by: Sandeep Kaur
 Introduction

Managerial economics is the study of how scarce resources are

directed most efficiently to achieve managerial goals. It is a
valuable tool for analyzing business situations to take better
decisions.

According to Mc Nair and Miriam, Managerial Economics

consists of the use of economic modes of thoughts to analyse
business situations

Prof. Evan J Douglas defines Managerial Economics as

Managerial Economics is concerned with the application of
economic principles and methodologies to the decision
making process within the firm or organization under the
conditions of uncertainty
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 Circular Flow Of Economic Activity

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 Demand Analysis

Demand: Demand means the ability and willingness to buy a

specific quantity of a commodity at the prevailing price in a
given period of time. Therefore, demand for a commodity
implies the desire to acquire it, willingness and the ability to
pay for it.

Law of demand: The quantity of a commodity demanded in a

given time period increases as its price falls, ceteris paribus.
(I.e. other things remaining constant)

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 Demand Schedule

Price Quantity Demanded

50 1

45 2

40 3

35 5

30 7

25 9

20 15

15 20

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 Demand curve

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 Shifts in Demand:

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 Extension And Contraction Of Demand Curve:

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 Determinants Of Demand:

1.Price of the good

2.Price of related goods
3.Consumers Income
4.Taste, preference, fashions and habits
5.Population
6.Value of money
7.Weather Condition
8.Advertisement and Salesmanship
9.Consumers future price expectation
10.Government policy (taxation)
11.Credit facilities

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 Types Of Demand:

1.Direct and Derived demand 2.Durable and non durable goods

demand

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 Types Of Demand (Contd.):

4.Firm and industry demand

5.Total market and market segment demand

6.Short run and long run demand

7.Joint demand and Composite demand

8.Price demand, income demand and cross demand

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 The law of demand does not apply in every case and
situation
Giffen paradox/Giffen goods
Conspicuous Necessities
Ignorance
Emergencies
Veblen Effect

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 The law of demand does not apply in every case and
situation

Future Changes In Prices

Change In Fashion
Demonstration Effect
Seasonal Goods
Goods In Short Supply
Snob Effect

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 Elasticity Of Demand

1. The elasticity of demand may be as follows:

Price Elasticity,
Income Elasticity, and
Cross Elasticity

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 Price Elasticity

The response of the consumers to a change in the price of a

commodity is measured by the price elasticity of the
commodity demand. The responsiveness of changes in
quantity demanded due to changes in price is referred to as
price elasticity of demand.

Percentage change in quantity demanded

= ----------------------------------------------
Percentage change in price

Q / Q
Ed = ----------------
P / P
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 Degrees of PED

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 Degrees of PED(contd.)

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 Income Elasticity

Income elasticity of demand measures the responsiveness of

quantity demanded to a change in income. It is measured by
dividing the percentage change in quantity demanded by the
percentage change in income.

Percentage change in quantity demanded

= ----------------------------------------------
Percentage change in income

Q / Q
Ey = --------------
Y/ Y

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 Cross Elasticity

The quantity demanded of a particular commodity varies

according to the price of other commodities. Cross elasticity
measures the responsiveness of the quantity demanded of a
commodity due to changes in the price of another commodity

% change in quantity demanded for commodity X

= -------------------------------------------------------
% change in price of commodity Y

Qx / Qx
Ec = ----------------
Py / Py

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 Supply Analysis

Supply is what the seller is able and willing to offer for

sale. The Quantity supplied is the amount of a
particular commodity that a firm is willing and able
to offer for sale at a particular price during a given
time period.

Law of Supply: is the relationship between price of

the commodity and quantity of that commodity
supplied. i.e. an increase in price will lead to an
increase in quantity supplied and vice versa.

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 Supply curve:

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 Determinants Of Supply:

1. The cost of factors of production

2. The state of technology
3. External factors
4. Tax and subsidy
5. Transport
6. Price
7. Price of other goods

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 Elasticity of Supply

Elasticity of supply of a commodity is defined as the

responsiveness of a quantity supplied to a unit
change in price of that commodity.

Qs / Qs
Es = ------------
P / P

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 Demand Forecasting

Demand forecasting is a systematic process that

involves anticipating the demand for the product and
services of an organization in future under a set of
uncontrollable and competitive forces.

An organization faces several internal and external

risks, such as high competition, failure of technology,
labor unrest, inflation, recession, and change in
government laws. An organization can lessen the
adverse effects of risks by determining the demand or
sales prospects for its products and services in future.

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 Techniques of demand forecasting

Survey method (Buyers point of view)

Collective opinion (Sellers point view)
Delphi technique (Group decision making)
Trend projection (Statistical technique)

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 Trend Projection Method

The Trend Projection Method is the most classical method of business

forecasting, which is concerned with the movement of variables through
time. This method requires a long time-series data.

Example : The annual sales of the company are as follows:

Year 2011 2012 2013 2014 2015

Sales 45 56 78 46 75
(000)

Using the method of least squares, fit the Straight line trend
and estimate the annual sales for the year 2016 & 2017.

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 Trend Projection Method(contd.)

Year Sales (y) x x2 xy

(000)
2011 45 -2 4 -90

2012 56 -1 1 -56

2013 78 0 0 0

2014 46 1 1 46

2015 75 2 4 150

n=5 y = 300 x2 = 10 xy = 50

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 Trend Projection Method(contd.)

Solution:
Y = a + bX (Linear equation) ------- (1)
a = y/n
b = xy/ x2
Substituting the calculated values:
a = y/n = 300/5 = 60
b = xy/ x2 = 50/10 = 5
Putting the values of a and b in eq. 1,
Y = 60 + 5X

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 Trend Projection Method(contd.)

Y(2011), x = -2 => 60 + 5(-2) => 60-10 = 50

Y(2012), x = -1 => 60 + 5(-1) => 60 - 5 = 55
Y(2013), x = 0 => 60 + 5(0) => 60 - 0 = 60
Y(2014), x = 1 => 60 + 5(1) => 60 + 5 = 65
Y(2015), x = 2 => 60 + 5(2) => 60 +10 = 70

Trend projection for 2016 & 2017,

Y(2016), x = 3 => 60 + 5(3) => 60 + 15 = 75
Y(2017), x = 4 => 60 + 5(4) => 60 + 20 = 80

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 Production
Production is the result of co-operation of four factors of production viz.,
land, labour, capital and organization. This is evident from the fact that no
single commodity can be produced without the help of any one of these four
factors of production.

Production Function:
Production function refers to the functional relationship between the
quantity of a good produced (output) and factors of production (inputs).
Mathematically, such a basic relationship between inputs and outputs may
be expressed as:
Q = f( L, K, N )
Where
Q = Quantity of output, L = Labour
K = Capital, N = Land.
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 Law of variable proportions

Law of variable proportions occupies an important place in

economic theory. This law examines the production function
with one factor variable, keeping the quantities of other factors
fixed. In other words, it refers to the input-output relation when
output is increased by varying the quantity of one input.

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 Tabular presentation of the Law

Units of Labour Total Product Marginal Product Average Product

1 2 2 2

2 6 4 3

3 12 6 4

4 16 4 4

5 18 2 3.6

6 18 0 3

7 14 -4 2

8 8 -6 1

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 Graphical representation of the Law

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 Isoquant
An isoquant is a firms counterpart of the consumers indifference
curve. An isoquant is a curve that shows all the combinations of
inputs that yield the same level of output. Iso means equal and
quant means quantity. Therefore, an isoquant represents a constant
quantity of output. The isoquant curve is also known as an Equal
Product Curve or Production Indifference Curve or Iso-Product
Curve.

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 Returns to Scale
The laws of returns to scale can also be explained in terms of the isoquant
approach. The laws of returns to scale refer to the effects of a change in the
scale of factors (inputs) upon output in the long-run when the combinations
of factors are changed in some proportion.
Constant Returns to Scale:
If by increasing two factors, say labour and capital, in the same proportion,
output increases in exactly the same proportion, there are constant returns
to scale.
Increasing returns to Scale:
In the case of increasing returns to scale where to get equal increases in
output, lesser proportionate increases in both factors, labour and capital, are
required.
Decreasing returns to Scale:
In the case of decreasing returns where to get equal increases in output,
larger proportionate increases in both labour and capital are required.

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 Returns to scale (Graphical representation)

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 Cost function

The relationship between output and costs is expressed in

terms of cost function.
Cq = f(Qf Pf)
Where Cq is the total production cost, Qf is the quantities of
inputs employed by the firm, and Pf is the prices of relevant
inputs. This cost equation says that cost of production depends
on prices of inputs and quantities of inputs used by the firm.

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 Tabular presentation - Short run cost curves

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 Short run Cost curves Graphical representation

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 Relationship between AC and MC Cost curves

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 Long run cost curves
Long run average cost is the cost per unit of output feasible when all factors of
production are variable.

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 Relationship between Short run and Long run Cost
curves

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 Market
Market is a place where people can buy and sell commodities. It may
be vegetables market, fish market, financial markets or foreign
exchange markets.
In economic language market is a study about the demand for and
supply of a particular item and its consequent fixing of prices,
example bullion on market and foreign exchange market or a
commodity market like food grains market etc.

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 Classification Of Market Structure Based On The
Nature Of Competitor:
1. Perfect market

Perfect competition is a market structure characterized by a complete absence of

rivalry among the individual firms. A perfectly competitive firm is one whose output is
so small in relation to market volume that its output decisions have no perceptible
impact on price. No single producer or consumer can have control over the price or
quantity of the product.

2. Imperfect market

Monopoly market
Monopolistic market/ competition
Oligopoly market
Duopoly market

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 Market equilibrium

When the supply and demand curves intersect, the market is in

equilibrium. This is where the quantity demanded and quantity
supplied are equal. The corresponding price is the equilibrium
price or market-clearing price, the quantity is the equilibrium
quantity.
Economic theory suggests that, in a free market there will be a
single price which brings demand and supply into balance,
called equilibrium price. Both parties require the scarce
resource that the other has and hence there is a considerable
incentive to engage in an exchange.

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 Market clearing

Equilibrium price is also called market clearing price because at

this price the exact quantity that producers take to market will
be bought by consumers, and there will be nothing left over.
This is efficient because there is neither an excess of supply and
wasted output, nor a shortage the market clears efficiently.
This is a central feature of the price mechanism, and one of its
significant benefits.

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 Example Market Equilibrium

Price Quantity Quantity

Demanded Supplied
100 100 900
90 200 800 Qs > Qd
80 300 700
70 400 600
60 500 500 Qd =Qs i.e. Equilibrium
50 600 400
40 700 300 Qd > Qs
30 800 200
20 900 100

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 Market Equilibrium

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 Changes in Equilibrium

Demand shifts to the right Demand shifts to the left

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 Changes in Equilibrium

Supply shifts to the right Supply shifts to the left

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 Entry and Exit of firms

There is a chain reaction, starting with an increase in demand, from D to D1.

This raises price to P1, which provides the incentive for existing firms to
supply more, from Q to Q1. The higher price also provides the incentive for
new firms to enter, and as they do the supply curve shifts from S to S1.

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 Market Structure

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 Perfect Competition

A perfectly competitive market is a hypothetical market where

competition is at its greatest possible level. Neo-classical
economists argued that perfect competition would produce the
best possible outcomes for consumers, and society.
Many sellers
Firms are price takers
Homogeneous product
Easy entry and exit
Perfect information about prices

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 Conditions of Equilibrium

The firm is in equilibrium when it is earning maximum profits as the

difference between its total revenue and total cost.
For this, it is essential that it must satisfy two conditions:
(1) MC = MR, and
(2) the MC curve must cut the MR curve from below at the point of
equality and then rise upwards.
The price at which each firm sells its output is set by the market forces of
demand and supply. Each firm will be able to sell as much as it chooses at
that price. But due to competition, it will not be able to sell at all at a
higher price than the market price. Thus the firms demand curve will be
horizontal at that price so that P = AR = MR for the firm.

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 Firm as a Price taker

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 Short run Competition

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 Shut down point

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 Long run Competition Under Perfect Competition

In Long run only

Normal profit is
possible under
Perfect competition

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 Monopoly

A monopoly is a market structure in which there is only one producer/seller

for a product. In other words, the single business is the industry. Entry into
such a market is restricted due to high costs or other impediments, which
may be economic, social or political.
1. One Seller and Large Number of Buyers
2. No Close Substitutes
3. Difficulty of Entry of New Firms
4. Monopoly is also an Industry
5. Price Maker

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 Short run Competition under Monopoly
(Supernormal profit)

Remember that
for Supernormal
profit AC will be
lower than AR

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 Short run Competition under Monopoly
(Normal Profits)

Remember that for

Normal profit AC
will be tangent to
AR

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 Short run Competition under Monopoly
(Loss)

Remember that
for Loss AC will
be higher than
AR

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 Long run Competition Under Monopoly

In Long run A
Monopolist will
have only Super
normal profits.

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 Price Discrimination

Price discrimination means that the producer charges different prices for different
consumers for the same goods and service. Price discrimination occurs when prices
differ even though costs are same.

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 Price discrimination

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 Degrees Of Price Discrimination:

Price discrimination is categorized into three types:

First degree price discrimination - charging what ever the market will
bear. Example- Event tickets, Auctions

Second degree price discrimination - quantity discounts for bulk orders.

Example- Combo offers, Discounts

Third degree price discrimination - segmented markets and separate

customer groups.
Example Students discount, Senior citizen discount

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 Monopolistic Competition

The perfect competition and monopoly are the two extreme forms. To bridge
the gap the concept of monopolistic competition was developed by Edward
Chamberlin.
It has both the elements like many small sellers and many small buyers. There is
product differentiation. Therefore close substitutes are available and at the same
time it is easy to enter and easy to exit from the market.

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 Short run Competition under Monopolistic
Competition

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 Long run Competition Under Monopolistic
Competition

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 Oligopoly

The term oligopoly is derived from two Greek words: oligi

means few and polein means to sell. Oligopoly is a market
structure in which there are only a few sellers (but more than
two) of the homogeneous or differentiated products. So,
oligopoly lies in between monopolistic competition and
monopoly.

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 Kinked Demand Curve (Sweezys model)

It has been observed that in many oligopolistic industries prices remain

sticky or inflexible for a long time. They tend to change infrequently, even
in the face of declining costs. Many explanations have been given for this
price rigidity under oligopoly and the most popular explanation is the
kinked demand curve hypothesis given by an American economist Paul
Sweezy. Hence this is called Sweezy's Model.

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 Collusive oligopoly

In order to avoid uncertainty arising out of interdependence and to avoid

price wars and cut throat competition, firms working under oligopolistic
conditions often enter into agreement regarding a uniform price-output
policy to be pursued by them.
The agreement may be either formal (open) or tacit (secret). When the
firms enter into such collusive agreements formally or secretly, collusive
oligopoly prevails.
Collusions are of two types:
Cartel : In a cartel type of collusive oligopoly, firms jointly fix a price and
output policy through agreements.
Price leadership : under price leadership one firm sets the price and
others follow it. The one which sets the price is a price leader and the
others who follow it are its followers.

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 Price and output determination under cartel

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 Duopoly Market:

A situation in which two companies own all or nearly all of the market
for a given product or service. A duopoly is the most basic form
of oligopoly, a market dominated by a small number of companies. A
duopoly can have the same impact on the market as a monopoly if the
two players collude on prices or output.

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 Duopoly Examples

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 Macro Economics
Macroeconomics is a branch of the economics field that studies how the
aggregate economy behaves. In macroeconomics, a variety of economy-wide
phenomena is thoroughly examined such as, inflation, price levels, rate of
growth, national income, gross domestic product and changes in
unemployment.

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 Aggregate Demand

Aggregate demand (AD) is the total demand by domestic and

foreign households and firms for an economy's scarce
resources, less the demand by domestic households and firms
for resources from abroad.
Aggregate demand consists of the amount households plan to
spend on goods (C), plus planned spending on capital
investment, (I) + government spending, (G) + exports (X)
minus imports (M) from abroad. The standard equation is:

AD = C + I + G + (X M)

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 Aggregate Supply

Aggregate supply (AS) is defined as the total amount of

goods and services (real output) produced and supplied by an
economys firms over a period of time.
It includes the supply of a number of types of goods and
services including private consumer goods, capital goods,
public goods and goods for overseas markets.

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 National Income

The purpose of national income accounting is to obtain some

measure of the performance of the aggregate economy.
The major concepts used in the national income calculation are:

Gross Domestic Product (GDP),

Gross National Product (GNP),
Net National Product (NNP),
Personal income and
Disposable income.

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 Gross Domestic Product (GDP)
GDP is the total market value of all final goods and services currently
produced within the domestic territory of a country in a year. It measures the
market value of annual output of goods and services currently produced and
counted only once to avoid double counting.

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 Gross National Product(GNP)

GNP is the market value of all final goods

and services produced in a year.
GNP includes net factor income from abroad.

GNP =
GDP + Net factor income from abroad
(income received by Indians abroad income paid to foreign
nationals working in India)

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 Net National Product(NNP)

NNP at market price is the market value of all final

goods and services after providing for depreciation.

NNP = GNP Depreciation

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Personal income (PI) is the sum of all incomes earned by all
individuals/ households during a given year. Certain incomes
are received but not earned such as old age pension etc.,

Disposable income is calculated by deducting the personal

taxes like income tax, personal property tax from the personal
income (PI).

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 Employment And Unemployment

Employment: When persons are holding a job and they

perform for any paid work. Also if workers hold jobs because
of illness, strike or vacation, they are considered as employed.

Full Employment: When 94-95% of them are employed or

highest sustainable level of employment over the long run is
called as full employment.

Under Employment: Less than full employment is called

as under employment.

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 Unemployment:

When people are not working and are actively looking

for work or waiting to return to work, such a situation
may be called as unemployment.

1. Frictional unemployment
2. Structural unemployment
3. Cyclical unemployment
4. Technological unemployment
5. Seasonal unemployment, and
6. Disguised unemployment
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 Business Cycle

A study of fluctuations in business activity is called business cycle.

Business cycle can be defined as a periodically recurring wave like
movements in aggregate economic activity (like national income,
employment, investment, profits, prices) reflected in simultaneous,
fluctuations in major macro economic variables.

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 Phases Of A Business Cycle:

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 Inflation

Inflation means not only sustainable rise in the price of the

goods and services, but the value of the currency falls in the
market and the supply of money in circulation is more.

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 Methods Of Controlling Inflation

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 Monetary measures

Bank rate
Open market operations
Cash Reserve Ratio
Consumer credit control
Higher margin requirements

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 Fiscal and Other Measures

2. Fiscal measures:
Regulating to Government expenditure
Taxation
Public borrowing

3. Other Measures:
Wage policy
Price control measures and rationing the essential supplies
Moral suasion

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 Monetary policy and its Measures
Monetary policy is how central banks manage liquidity to create economic growth.
Liquidity is how much there is in the money supply. That includes credit, cash,
checks, and money market mutual funds. The most important of these is credit. That
includes loans, bonds, and mortgages.

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 Economic growth

Economic growth is the foremost objective of

macroeconomic policies. Higher the economic growth higher
the national income which will help solve problems of
poverty, unemployment, inflation, and international trade of
a country.
Y
Growth rate = -------
P

Y = real income
P = population

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Sources Of Economic Growth And Development

Economic Factors:

1. Natural resources
2. Human Resource and population growth
3. Capital formation
4. Technological progress
5. Entrepreneurship
6. Investment Criteria
7. Removal of market imperfection
8. Capital output ratio

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 Non Economic Factors

1.Desire for development

2. Widespread education

3. Social and industrial reforms

4. Good government

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Libralisation, Privatisation And Globalisation (LPG)

History:
In 1991, the country experienced a balance of payments
dilemma following the Gulf War and the downfall of the
erstwhile Soviet Union. The country had to make a deposit of
47 tons of gold to the Bank of England and 20 tons to the
Union Bank of Switzerland. This was necessary under a
recovery pact with the IMF or International Monetary Fund.

Prime Minister of the country, P V Narasimha Rao with the

help of Dr. Manmohan Singh(finance minister at that time)
initiated groundbreaking economic reforms.
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 Structural changes in the Indian economy were

1. End of the private sector

2. Government permitted private sector to set up individual

units without license.

3. The investment ceiling was lifted and hence the private

investment could go up to any level.

4. The Government approved up to 51% FDI. No permission

was required for hiring foreign technicians and technology.

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 Cont..

5. Rehabilitation schemes to reconstruct the sick public sector

enterprises. (board for industrial and financial reconstruction)
BIFR was established.

6. Greater autonomy was given to manage Public sector units.

7. Economy was opened to other countries to encourage

exports. Therefore it encouraged private participation and
expected the rise in exports from India.

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 Liberalization

Relaxation of government restriction in social and economic

policies was called as liberalization. Trade liberalization
means removing the tariff restriction on the flow of goods and
services between countries.

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 Privatization
Privatization means transfer of assets or service functions from public to
private ownership through franchising, leasing, contracting and
divesture. Disinvestment means disposal of public sector units, equity to
the private sectors. Privatization helps the public sector to modernize,
diversify and make their business more competitive.

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 Globalization
Globalization means integrating the domestic economy with the world
economy, moving towards a new world economic order which leads to
integrated financial markets and trade. Globalization improves the
effective allocation of resources and expenditure of a country along with
economic growth.

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Public Private Participation (PPP)

Public Private Participation (PPP) is defined as cooperative institutional

arrangements between public and private enterprise which has gained
wide interest around the world. PPP model is a new way to handle
infrastructure projects. It can benefit both the public and private sector
enterprise.

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 Characteristic Features Of PPPs

1.Cooperative and contractual relationship

2. Shared responsibilities

3. A method of procurement

4. Risk transfer

5. Flexible ownership

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Examples

Salt Lake Water Supply And Sewerage Network-Kolkata

Municipal Development Authority (KMDA)along with the
Nabadiganta Industrial Township Authority (NDITA) planned
a combined water supply-cum-sewerage project.

Mumbai Metro-Reliance Energy Limited, Veolia Transport

and Mumbai Metropolitan Region Development Authority
(MMRDA) holding equity stakes of 69%, 5% and 26%,
respectively.

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 FDI

FDI refers to the net inflows of investments to acquire a

lasting management interest (10% or more of voting stock) in
an enterprise operating in an economy other than that of the
investor.

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 Why FDI in India
Sustaining a high level of investment
Due to poverty and low GDP the saving are low.
Technological gap
Exploitation of natural resources
Understanding the initial risk
Development of basic infrastructure
Improvement in the balance of payments position
Foreign firms helps in increasing the competition
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 THANK YOU

Presented by: Sandeep Kaur