What are the basic concepts of managerial economics?

 

Managerial Economics

Managerial economics involves the application of economic principles to solve the problems arising in business activity. Since it is mostly concerned with managerial decision making, it is known as managerial economics.

Managerial economics is defined by different economists. Some of them are expressed here.

1. "Managerial economics is the integration of economic theory with business practice for the purpose of facilitating decision making and forward planning by management." -Spencer and Siegal

2. "Managerial economics refers to the application of economic theory and the tools of analysis of decision science to examine how an organization can achieve its aims and objectives more efficiently. -Salvatore

3."Managerial economics is the application of economic theory and methodology to business administration practice. -Brigham and Pappas.

Therefore the concept of managerial economics involves certain aspects as follows:

It deals with economic theory.

It is the study of allocation of resources available to a firm.

It facilitate decision making and forward planning

It helps organization to achieve its objective most efficiently.

Nature of Managerial Economics

Important features of managerial economics are as under:

·         Similar to Microeconomics

Managerial economics studies about the firm and scarce resources for maximizing output, finding solutions to the problem of the firm for maximizing profit.

·         Operates against the backdrop of macroeconomics

The limiting conditions of macroeconomics are same for managerial economics. So managerial economist can decide the strateg8y to work considering these conditions such as inflation, government policy etc.

·         Normative statement

The statements are usually based on moral attitude and value judgments.

·         Perspective actions

Managerial economics is goal oriented. The coarse of action is chosen from available alternatives.

·         Applied in nature

The model reflects the real business situations hence are more useful for decision making in diverse fields. Case study methods are also used to identify and understand the problem.

·         Interdisciplinary

Managerial economics uses tools and techniques which are derived from management economics, statistics, accountancy, sociology and psychology.

Scope of Managerial Economics

Managerial economics is focused to find an optimal solution for managerial problem in business activity. The problems are concerned with managerial decisions such as production, costing, capital management, inventory, profit planning, human resource etc.

For evaluation and finding optimal solution various tools, techniques and concepts are suggested. Fig. 1.2.1 shows use of these concepts, techniques of managerial economics for finding optimal solution.

The scope of managerial economics is limited to decision making with an making with an organization.

Characteristics of Managerial Economics

1.       The approach of managerial economics is goal oriented.

2.      Managerial economics uses concepts, tools and techniques for optimum solution of problem.

3.      Managerial economics is concerned with the economic behavior of a firm.

4.      Managerial economic is concerned with managerial decision making.

5.      Managerial economics takes help of other sources to make optimum use of scarce resource.

6.      Managerial economics involves case study method to conceptualize the problem.

Relationship with Other Disciplines

Managerial economics is linked with various other disciplines such as economics accountancy, mathematics, statistics, operations research and psychology.

Economics and Managerial Economics

Economics is concerned with theoretical concepts, methods, principles and managerial economics is the application of all these in real business applications. Both Economics and managerial economics are concerned with problems of scarcity and resource allocation.

Operations Research and Managerial Economics

Both operations research and managerial economics are focused for problem solving and decision making. Also they are used for building economic models.

Mathematics and Managerial Economics

Estimation and modelling are the integral part of managerial economics for decision making and forward planning mathematics provides a set of tool which includes algebra, calculus, exponentials, and vectors. These tools are used managerial economic analysis.

Statistics and Managerial Economics

Statistics are techniques used for analyzing cause and effect relationship. Managerial economics aims at quantifying the past economic activity to predict its future. Average, correlation, regression, time-series interpolation are popularly used statistical techniques.

Principles of Economics in Managerial Decision Making

Decision making is the process of selecting and implementing alternates for achieving a specific goal.

Managerial economics uses on a wide variety of economic concepts, tools and techniques in the decision-making process. These concepts can be categorized as follows

1) The theory of the firm, which explains how businesses make a variety of decisions.

2) The theory of consumer behavior, which describes the consumer’s decision-making process and

3) The theory of market structure and pricing, which describes the structure an characteristics of different market forms under which business firms operate.

Theory of the firm:

A firm can be considered an amalgamation of people, physical and financial resources and a variety of information.

Firms exist because they perform useful functions in society by producing and a distributing goods and services. In the process of accomplishing this, they employ society's scarce resources, provide employment and pay taxes.

If economic activities of society can production and consumption- firms are considered the most basic economic entities on the production side, while consumers form the basic economic entities on the consumption side.

The behavior of firms is usually analyzed in the context of an economic model, which is an idealized version of a real-world firm. The basic economic model of a business enterprise is called the theory of the firm.

Theory of consumer behavior:

The role of consumers in an economy is of vital importance since consumers spend m0st of their incomes on goods and services produced by firms.

Consumers consume what firms produce. Thus, study of the theory of consumer behavior is accorded importance. It is desirous to know the ultimate objective of a consumer.

Economists have an optimization model for consumers, which is analogous to that applied to firms or producers. While it is assumed that firms attempt at maximizing profits, similarly there is an assumption that consumers attempt at maximizing their utility or satisfaction. While more goods and services provide greater utility to a consumer, however, consumers, like firms, are subject to constraints. Their consumption and choices are limited by a number of factors, including the amount of disposable income (the residual income after income taxes are paid for)

A consumer's choice to consume is described by economists within a theoretical framework usually termed the theory of demand.

Theories associated with different market structures:

A firms profit maximizing output decisions take into account the market structure under which they are operate. There are four kinds of market organizations: perfect competition, monopolistic competition, oligopoly and monopoly.

Decision Analysis

Decision analysis is a methodology based on a set of probabilistic which facilitates high-quality, logical discussions, leading to clear a action by the decision maker.

Decision analysis process

Decision analysis is a ten-step, quality process. However, if at any step in the process the decision becomes obvious, one should stop and make the decision

The focus of a decision analysis should be at the strategic level.

The decision criteria can be anything that allows the decision maker to quantitatively differentiate one alternative from another:

1. Net Present Value (NPV)

2. Internal Rate of Return (IRR)

3. Cash flow

Once the problem has been defined we need to brainstorm and sort issues. Brainstorming issues and then separating the issues into decisions, uncertainties, objectives, and facts helps to frame the problem.