Page 10 - DECO405_MANAGERIAL_ECONOMICS

Unit 1: Introduction to Managerial Economics

Study of managerial economics essentially involves the analysis of certain major subjects like: Notes
1. Demand analysis and methods of forecasting
2. Cost analysis
3. Pricing theory and policies
4. Profit analysis with special reference to break-even point

5. Capital budgeting for investment decisions
6. The business firm and objectives
7. Competition.
An analysis of scarcity of resources and choice making poses three basic questions:

1. What to produce and how much to produce?
2. How to produce?
3. For whom to produce?
A firm applies principles of economics to answer these questions. The first question relates to
what goods and services should be produced and in what quantities. Demand theory guides the
manager in the selection of goods and services for production. It analyses consumer behaviour
with regard to:

1. Type of goods and services they are likely to purchase in the current period and in the
future, Goods and services which they may stop consuming,
2. Factors influencing the consumption of a particular good or service, and

3. The effect of a change in these factors on the demand of that particular good or service.
A detailed study of these aspects of consumer behaviour help the manager to make product
decision. At some particular time, a firm may decide to launch new goods and services or stop
providing a particular good or service. Knowledge of demand elasticities helps in setting up of
prices in context of revenue of a firm. Methods of demand forecasting help in deciding the
quantity of a good or service to be produced.
How to produce the goods and services is the second basic question. It involves selection of
inputs and techniques of production. Decisions are made with regard to the purchase of items
ranging from raw materials to capital equipment. Production and cost analysis guides a manager
in personnel practices such as hiring and staffing and procurement of inputs. For example, the
decision to automate clerical activities using PC network results in a more capital-intensive
mode of production. Capital budgeting decisions also constitute an integral part of the second
basic question. Allocation of available capital in long-term investment projects can be done
through project appraisal methods.
Firms' third basic question relates to segmentation of market. A firm has to decide:

For whom it should produce the goods and services. For example, it has to decide whether to
target the domestic market or the foreign market. Production of a premium good is another
example of market segmentation. An analysis of market structure explains how price and output
decisions are taken under different market forms.
Appropriate business decision making with the help of economic tools has gained recognition
in view of complex business environment. Since the macroeconomic environment is dynamic,
it changes over time; managerial decisions have to be reviewed constantly. In this context,
concepts of consumer behaviour, demand elasticities, demand forecasting, production and cost
analysis, market structure analysis and investment planning help in making prudent decisions.

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