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Managerial Economics 1 A. Meaning and Scope Sources: Salvatore Geetika et al 1 76% of senior executives say that it is important they have the knowledge and skills to respond to trends like resource scarcity, the low carbon economy and doing business in emerging markets 2 What is Economics? Unlimited wants and scarce resources CHOICE Science or Art? 3 Basic Assumptions Ceteris Paribus- Other things remaining equal • “ The existence of other tendencies is nor denied, but their disturbing effect is neglected for a time “- Marshall • Easier to handle, if issue is narrowed, but less closely corresponds to real life 4 Basic Assumptions Rationality • Implies that consumers and producers measure and compare costs and benefits before taking decisions • Consumers: Maximising utility and minimising sacrifice • Producers : Maximising profits and minimising costs 5 Types of Economic Analysis A. Micro(individual consumers and firms) Macro (Aggregates- Industry, not firm) B. Positive (factual statements- “What is”) Normative (Value judgments- “What ought to be”) 6 Types of Economic Analysis C. Time period Short run -A time period not long enough for consumers and producers to adjust to a new situation- K/L Long run- Planning horizon- A time period long enough for consumers and producers to adjust to a new situation- All inputs can be varied- K and L- Whether to change product lines, build new plant etc 7 Types of Economic Analysis Marshall • Market Period- Prices adjust to clear marketperishable goods • Short Period- industry capacity is assumed to be given • Long Period- Stock of equipment and machinery (K) changeable • Very Long Period-Tech, population, tastes etc change 8 Types of Economic Analysis: Partial and General Equilibrium D. Equilibrium: State of balance Partial: Looks at internal outcome of any policy action in a single market or consumer (the one that is directly affected) – say, a single cement firm in Indian cement industry may be in equilibrium, whereas others may not beunrealistic General Equilibrium: Explains economic phenomena like production, consumption and prices in the economy as a whole 9 Types of Economic Analysis: Partial and General Equilibrium • A petroleum company may hike petro prices without considering the effects on prices of other commodities • Under general equilibrium, this won’t be analysed in isolation but taking into account linkages with other sectors. 10 Kinds of Economic Questions 1. 2. 3. 4. 5. What to Produce? (Micro) How to Produce? (Micro) How much to produce? (Micro) For Whom to Produce? (Micro) Are Resources Used optimally? (Micro) 11 6. Are Resources fully employed? (Macro) 7. Is the economy Growing? (Macro) 8. In what phase of business cycle is the economy? (Macro) 12 Managerial EconomicsMeaning & Nature “Application of economic theory and tools of analysis of decision science to examine how an organization can achieve its objectives most efficiently”- Salvatore 13 Meaning & Nature Spencer and Siegelman: “… Integration of economic theory with business practice for the purpose of facilitating decision making and forward planning by management” Evan Douglas: “Application of economic principles and methodologies to the decision-making process within the firm or organization…under conditions of uncertainty” 14 Decision Making Process 5 Stages of Decision making Process: 1. 2. 3. 4. 5. Define the problem Determine the objective Identify possible solutions Select the best possible solution Implement the decision 15 Meaning & Nature Importance of Quantitative Tools • Analysis of variables is a key procedure in economic analysis. • Economic research and policy-making require up-to-date data and extensive analysis. • Use of Mathematical tools 16 Meaning & Nature Use of Statistical Techniques • Time Series: For Demand forecasting • Regression: Two or multiple variables used to study interrelationships, estimation and prediction • Measures of central tendency and variation 17 Meaning & Nature Managerial Economics is essentially - Applied economics - Normative bias- Why? - Decision-making under partial equilibrium 18 Role of Economics What is the role of Economics in Business? Costs, prices, output, compensation, strategic behaviour, importantly, ethics The Big Picture- Whose job? Economic theory forms the basis for different management areas such as accounts, finance, marketing, systems and operations. 19 Role of Economics A manager has to deal with problems pertaining to the individual firm as well as domestic and global environment. • Microeconomics: Deals with individual unit • Macroeconomics: Deals with aggregates 20 Role of Economics Microeconomics: Theory of demand and supply- consumer behaviour, demand theory, demand forecasting and factors affecting individual and market supply- Helps in choice of commodities for production Theory of Production: Production function and laws of returns to scale etc- gives an idea about I/O relations, input requirement size of firm, technology choice of output. Helps producer to plan production, cost and budget. 21 Role of Economics Market Analysis: helps understand degrees of competition, pricing-output decisions, price discrimination, monopoly power, advertising Profit Analysis: Provides logical analysis of break-even point, emergence of profits, profit-maximising output, dealing with risk and uncertainty 22 Role of Economics • Theory of capital: Along with quantitative techniques enables investors to calculate cost of capital, efficiency of capital, efficient allocation of capital, and choice of projects as per risk-return analysis 23 Role of Economics Behaviour of macro economic indicators: GDP, GNP, GDCF, GDS, HDI etc. Business Cycles – Inflation- Employment Fiscal Policy Monetary Policy Foreign Trade: Imports and exports, Exchange rate, trade policies and capital flows Macro economic variables and policies impact business 24 Role of Economics in Business • Economics is a tool, means to an end • To help Efficient allocation and achieve business objectives • Optimising behaviour- Maximise goals, minimize costs under constraint Logic, tools and techniques of economics to analyse business problems, evaluate business options and opportunities with a view to arriving at an appropriate business 25 decision. Role of Economics in Business “The theory of Economics does not furnish a body of settled conclusions immediately applicable to policy. It is a method rather than a doctrine, an apparatus of the mind, a technique of thinking, which helps the possessor to draw correct conclusions” - J.M. Keynes 26 Role of Economics in Business 3 main contributions of economic theory to business economics, according to Baumol: 1. Analytical models: To recognize the structure of managerial problems, eliminate minor details, and concentrate on main issue 2. Ascertaining relevant variables and specifying the dataEven if the models are not directly applicable, they enhance capabilities of business analyst 3. Economic theories offer conceptual clarity to avoid conceptual pitfalls Provides consistency to business analysis 27 Role of Managerial Economist Role Of Managerial Economist: To decide • What to produce? • Where • How • How much • Allocation of resources • For whom to produce • At what price to sell 28 Role of Managerial Economist Plan and control business operations• Cost minimisation • Profit maximisation ?? • Managing competition • Economic intelligence • Market research 29 Role of Managerial Economist Uncertainty & Risk management • Forecast change in environment and policies- domestic and international • To manage change in global scenario • Everything comes at a price- quality is not 30 free Growing Challenges to the Managerial Economist A) Globalization What is Globalization ? People-goods-services- communication- FinanceIdeas 31 Growing Challenges to the Managerial Economist Global corporations - Research & production facilities across countries - Global markets - Global Finance - Employment Diversity - Global work culture 32 Growing Challenges to the Managerial Economist Resource base: Crossing boundaries Global management practices Outsourcing 33 Growing Challenges to the Managerial Economist Increased competition Increased Opportunity Tastes converging internationally? Customising to local tastes Not merely exporters, but need to be insiders in major markets 34 Trans-nationality Index UN’s World Investment Report constructs TNI as the average of 3 Ratios: • Foreign sales to total sales • Foreign assets to total assets • Foreign employment to total employment 35 Global Corporations Company Country TNI (%) Vodafone Group UK 85 British Petroleum UK 82 Nestle Switzerland 74 Honda/ Shell Japan/UK 72 Sony, Volkswagen, IBM > 50 36 Growing Challenges to the Managerial Economist B) Computerisation and Technology Easier model-building and simulation Quick and complicated data analysis Rapid spread of information Internet changing both buyers and sellers Videoconferencing- saving cost and time Paperless administration Speed of dispatch, lower inventories, less waste 37 Growing Challenges to the Managerial Economist C. Dismantling of Traditional Hierarchies Information today can be transmitted directly from top management to workers Middle managers are today increasingly being used to shelter top management from day-to-day activities 38 Growing Challenges to the Managerial Economist D. Changing Basis for Value Creation Peter Drucker: World is moving from “economy of goods” to an “economy of knowledge” Creation of value increasingly based on knowledge and communications and not natural resources and physical labour 39 On eBay, ET, 30 Aug 2010 • Gives tech edge to small entrepreneurs from saddle makers of Kanpur to carpet makers of Benares • The Malad shopkeeper goes to Hong Kong to source products to sell on eBay • The $500-mn e commerce market in India is growing at 30% annually • With 3G and broadband rollout, the market is expected to grow even more 40 Growing Challenges to the Managerial Economist Bridging the gap between theory and Practice : • Real world is complex, “chaotic”, interdependent as against simplifying economic assumptions • Not tailor-made solutions but a framework of logical thinking 41 Growing Challenges to the Managerial Economist The Global business Leader has to Imbibe and inculcate essential qualities such as Global outlook Managing diversities Flexibility with efficiency Long-term goals with steps and migration path Speed and stamina for transformation 42 The Global Business Leader Customer-centric Networking and negotiating Interpersonal skills-managing multiple simultaneous relationships Great communicator Understanding technology Innovator Problem Solver Change-maker- not threatened by change Empowering individual employers 43 Growing Challenges to the Managerial Economist • Essentially, 3 sets of skills: • Human- understand, work with and motivate with other people as individuals as well as groups • Technical- Ability to use tools, techniques and processes that are specific to the field • Conceptual-Ability to analyse complex situations and respond effectively to challenges 44 What are the Lessons? 1.Who sells the largest number of cameras in India? 2. Who has the biggest revenue from music business in India? 3. Who gained the most when business of British Airways was affected due to the 2008 recession? 45 What are the Lessons? Ans 1: Nokia (whose main line of business is NOT cameras but cell phones) Ans 2: Airtel (which is not in music business)- by selling caller tunes makes more money than HMV etc Ans 3:videoconferencing and telepresence services of HP and Cisco. 46 What are the Lessons? • Nokia missed the Smartphone bus. Apple's I phone and Google's Android are making life difficult for Nokia. • But Google is not a mobile company • Nokia is a global behemoth, with 35% of the world’s handset market. Silicon Valley’s finest may be good at high-end innovation, BUT….. 47 What are the Lessons? (From Economist, Aug 18th) ….none of them knows much about running a company with R&D facilities in 16 countries and sales in more than 160. • Nokia has a vast distribution system in emerging markets: some 90,000 sales outlets in China, 1,000 customer-service centres and a huge army of sales people 48 What are the Lessons? • But then, there are assaults from low-cost local companies … • According to Economist, One of the biggest dangers for Nokia is that it will devote so much energy to taking on Apple, Google and Research In Motion (the maker of the BlackBerry) that it will lose its edge in emerging markets 49 What are the Lessons? • Products have vanished from the market in the past 20 years: • Black & white TVs • Fountain pens • Type writers • Alarm Clocks 50 What are the Lessons? 51 What are the Lessons? • Lessons for the Managerial economist: • Today's competitor is obvious. Tomorrow's is not- Think beyond conventional framework; think beyond the obvious • Competition lurking in unknown places • Need to identify competition (present) • Need to foresee competition (Future) • Need to beat competition- Strategise 52 • • • • • • Importance of speed & resilience Keep eyes open- small can be big Technology- adapt, innovate or perish Understand your customer Anticipate And many more…. 53 References Text Books: 1. Managerial Economics in a Global Economy – Dominick Salvatore 2. Managerial Economics – Geetika, Piyali Ghosh and Roy Choudhury 3. Managerial Economics –– D. N. Dwivedi 4. The New Managerial Economics -William Boyes 5. Managerial Economics – R. L. Varshney and K.L. Maheshwari 54 Internet Sites for Managerial Economics Current international economic news • http://www.economist.com • http://www.businessweek.com • http://www.ft.com (Financial Times) • http://www.bloomberg.com 55 Internet Sites for Managerial Economics For international economic data • http://www.imf.org • http://www.oecd.org • http://worldbank,org • http://www.wto.org 56 Data For authentic current Indian data: CMIE database For journals and other scholarly articles : ProQuest • Of course, our very own Economic Times or Business Standard must become part of your daily diet. 57