Key Concepts Managerial Economics - Application of Micro-Economic principles and the tools/techniques of decision science to examine how an organisation/

a firm can achieve its objective most effectively. Decision-Making - The primary decision-making role of managerial economics is in determining the optimal course of action where there are constraints imposed on the decision. Managerial decisions are subject to legal, moral, contractual, financial, and technological constraints. Economic Decisions for the Firm - What goods and services should be produced? Is the product decision - how should these goods and services be produced? Is the hiring, staffing and capitalbudgeting decision. For whom should these goods and services be produced? Is the market segmentation decision. How price output should be determined is known as pricing decision. Scarcity - A condition that exists when resources are limited relative to their demand. In the market process, the extent of this is normally reflected by the price of the resources, goods or services. Resources - Also referred as inputs or factors of production - viz. Land, Labour, Capital, Entrepreneurship usually used in economic analysis. Opportunity Cost - The amount or the subjective value foregone in choosing one activity over the next best alternative. Circular Flow - The interaction of individuals and firms, in a market economy, can be described as a circular flow of money, goods and services, and also of resources through product and factor markets.

Economic Profit - Revenue less all relevant costs, both explicit and implicit.

Role of Profit - Profit plays two roles in market economy. 1. A reward to entrepreneurs for taking risks, being innovative in developing new products, and reducing production costs etc. 2. Changes in profit give signal to the producers to change the rate of production. Functional Relationship - Total, Average and Marginal A functional relationship of the form

Y= f (X1, X2, Xn) means that there is a systematic relationship between the dependent variable Y and the independent variables X1, X2, , Xn. And that there is a unique value of Y for any set of values of the independent variables.

For any total function ( e.g. total product, total revenue etc.) there is an associated marginal function and average function. The key relationships among the total, average and marginal functions are: 1. The value of the average function at any point is the slope of a ray drawn from the origin to the total function. 2. The value of the marginal function at any point is the slope of a line drawn tangent to the total function at that point.

3. The marginal function will intersect the average function either at a minimum or at a maximum point of the average function. 4. If the marginal function is positive, the total function will be increasing. If the marginal function is negative, the total function will be decreasing. 5. The total function reaches maximum or the minimum when the marginal function equals zero. Economic Model - Economic model consists of several functional relationships, conditions, or constraints on one or more equilibrium conditions. Generally, economic models are used to demonstrate an economic principle, to explain an economic phenomenon, or to predict the economic implications of some change affecting one or more of the functional relationships. The slope of a function Y= f (X) is the change in Y (i.e. Y) decided by the corresponding change in X (i.e. X) For a function Y= f (X), the derivative, written as dy/dx is the slope of the function at a particular point on the function. Key Concepts Production Function - Maximum quantity of a commodity that can be produced by a set of inputs viz. Capital and Labour. Cobb-Douglas Production Function - A power function in which total quantity produced is the result of product of inputs raised to some power e.g. Q = aLb Kc

 Short-run is that period of time for which the rate of input use of at least one factor of production is fixed. In the long-run the input rates of all the factors are variable. The firm operates in the short-run but plans in the long-run Marginal product is the change in output associated with one-unit change in the variable input (i.e. MPL = Q/ L )

Average product is the rate of output produced per unit of the variable input employed (i.e., APL = Q/L)

The law of diminishing marginal returns states that when increasing rates of a variable input are combined with a fixed rate of another input, a point will be reached where marginal product will decline.

Returns to scale - Increase in output that results from an increase in all the inputs by some proportion (greater, smaller or same)

Isoquant - A curve representing different combinations of two inputs that produce the same level of output.

The slope of an isoquant is the marginal rate of technical substitution or the rate of which one input can be substituted for another so that a given rate of output is maintained.

Isocost - A line representing different combinations of two inputs that a firm can purchase with the same amount of money. Also known as budget line. Key Concepts: Total Fixed cost - Cost that remains constant as the level of output varies. In a short-run analysis, fixed cost is incurred even if the firm produces nothing. Total variable cost - The total cost associated with the level of output. This can also be considered as the total cost to a firm for using its variable inputs. Marginal Cost - The cost of producing an additional unit of output. Economies of Scale - Reduction in the unit cost of production as the firm increases its capacity i.e. increases all of its inputs. It is considered to be a long-run phenomenon. Diseconomies of scale - Increase in the unit cost of production as the firm increases its capacity. It is also a long-run phenomenon.

Economies of Scope - Reduction in the total cost resulting from the joint production of two or more goods or services Break - Even Analysis - Also known as cost-volume-profit Analysis. It is a simplification of the economic analysis of the firm that measures the effect of a change in the quantity of a product on the profits of the firm. Break -Even Point - The level of output at which the firm realises no profit and incurs no loss. Key Concepts: Total Fixed cost - Cost that remains constant as the level of output varies. In a short-run analysis, fixed cost is incurred even if the firm produces nothing. Total variable cost - The total cost associated with the level of output. This can also be considered as the total cost to a firm for using its variable inputs. Marginal Cost - The cost of producing an additional unit of output. Economies of Scale - Reduction in the unit cost of production as the firm increases its capacity i.e. increases all of its inputs. It is considered to be a long-run phenomenon.

Diseconomies of scale - Increase in the unit cost of production as the firm increases its capacity. It is also a long-run phenomenon. Economies of Scope - Reduction in the total cost resulting from the joint production of two or more goods or services Break - Even Analysis - Also known as cost-volume-profit Analysis. It is a simplification of the economic analysis of the firm that measures the effect of a change in the quantity of a product on the profits of the firm. Break -Even Point - The level of output at which the firm realises no profit and incurs no loss.

Session 5 Key concepts Economic Profit - Total revenue minus total economic cost. Market Analysis: Long Run - Firms are expected to enter a market in which sellers are earning economic profit. They are expected to leave a market in which sellers are incurring economic losses. Market Structure - The number and the relative size of buyers and sellers in a particular market. Marginal Revenue (MR) = Marginal cost (MC) Rule - The rule states that if a firm desires to maximise its total economic profit, it must produce an amount of output whereby the marginal revenue received at this particular level is equal to its marginal cost. Perfect competition - A market with four main characteristics (a) a very large number of relatively small buyers and sellers, (b) a standardised product, (C ) easy entry and exit, and (d) complete information to all the market participants about the market price. Firms in this type of market have absolutely no control over the price and must compete on the basis of the market price established by the forces of demand and supply. Monopolistic Competition - A market distinguished from perfect competition in that each seller attempts to differentiate its product from those of its competitions (e.g. in terms of location, efficiency of service, advertising etc.) Monopoly - A market in which there is only one seller for particular good or service. Oligopoly - A market in which there is a small number of relatively large sellers. Pricing in this type of market is characterised by mutual interdependence among the sellers. Products may either be standardised or differentiated.

 In markets where there are a large number of small buyers and sellers, individual firm have little control over price. By differentiating its product, a firm can gain some control over price. The firm, in perfect competition, maximise profit by producing at the output where price equals marginal cost. In the short-run, managers of a firm should shut down the operation if price is below average variable cost. If price is greater than average variable cost but less than average total cost, the firm should continue to produce in the short-run because a contribution can be made to fixed cost. Forms market structure of Number of firms Nature of product Price elasticity of demand for an individua l firm 4 Infinite Degree of control over price 5 None Some

1 a) Perfect competition b) Imperfect competition

2 A large no. of firms A large no. of firms

3 Homogeneous Product

I. Monopolistic A large competition no. of firms II. Pure Few firms oligopoly III. Differentia Few firms

Differentiated Large Products but close substitutes to each other Product Large differentiation by each firm Homogeneous Small Product Differentiated Small

Some Some Some

te oligopoly c) Monopoly

One

Products Unique without substitute

Product Very close small

Conside rable