Study Material. For M.B.A. Based on Latest Syllabus of MBA prescribed By Maharshi Dayanand University, Rohtak (DDE) 1st Semester.

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1 Study Material For M.B.A. Based on Latest Syllabus of MBA prescribed By Maharshi Dayanand University, Rohtak (DDE) 1st Semester (Part-1) By : Expert Faculties Publications SCF-181, HUDA Complex, Near New Telephone Exchange, Rohtak (Haryana)

2 Publications SCF-181, HUDA Complex, Near New Telephone Exchange, Rohtak (Haryana) Reserved No Part of this book can be reproduced, stored in or introduced into a retrieval system or transmitted in any form, or by any means (Electronic, mechanical, photocopying, recording or otherwise), without the prior written permission of the publisher of this book. All possible efforts have been made in the prepration of this book yet for any kind of errors and omissions, the publisher is responsible. In case of any dispute it will be subjected to Rohtak Jurisdiction Only. Price : Rs Published By : ZAD Publications, Rohtak

3 The Zad stars & their family are shining stars on the earth, being blessed by the stars in the sky to celebrate the spirit of success as I am writing this success story, there is no substitute of hard-work, punctuality and disciplined efforts. It is relatively easy to achieve success, but difficult to maintain it. The best way to achieve the success is to do the ordinary things with extra ordinary enthusiasm. Because of our quality work and the sense of commitment to do something different, the institute is enhancing its number of branches, IT and management and in other fields of education. I assure you that our courses will propel you to reach the heights that you wish to seek. A machine can do the work of fifty ordinary men. But no machine can do the work of one extra ordinary man. Based on this assumption, at Zad institute, our mission is to make the professionals equipped with knowledge and skills. This institute provides various amenities to its students for the sake of their overall development. The vision of Zad Institute is be not afraid of growing slowly, be afraid of standing still, so do not stand still. Success will surely come to you and remain with you forever. Our mission is to achieve excellence through people and this reflects in all our endeavors. It's the storehouse of skills and knowledge that transforms our students as true global leaders. I welcome you all with a promise to transform your future. With best wishes

4 CONTENTS Syllabus UNIT I UNIT II UNIT III UNIT IV Past ear Question Paper Worksheet ACCOUNTING FOR MANAGERS Syllabus UNIT I UNIT II UNIT III UNI IV Past ear Question Paper Worksheet INDIAN ETHOS AND VALUES Syllabus UNIT I UNIT II UNIT III UNI IV Past ear Question Paper Worksheet

5 SLLABUS MBA 1st SEMESTER, M.D.U., ROHTAK External Marks : 70 Time : 3 hrs. Internal Marks : 30 UNIT-I Nature of managerial economics; significance in managerial decision making, role and responsibility of managerial economist; objectives of a firm; basic concepts - short and long run, firm and industry, classification of goods and markets, opportunity cost, risk and uncertainty and profit; nature of marginal analysis. UNIT-II Nature and types of demand; Law of demand; demand elasticity; elasticity of substitution; consumer's equilibrium utility and indifference curve approaches; techniques of demand estimation. UNIT-III Short-run and long-run production functions; optimal input combination; short-run and long-run cost curves and their interrelationship; engineering cost curves; economies of scale; equilibrium of firm and industry under perfect competition, monopoly, monopolistic competition and oligopoly; price discrimination. UNIT-IV Baumol's theory of sales revenue maximisation basic techniques of average cost pricing; peak load pricing; limit pricing; multi-product pricing; pricing strategies and tactics; transfer pricing. 5

6 MBA 1st Semester (DDE) UNIT I Q. What do you mean by Managerial Economics. Explain its Nature and Scope. Ans. Meaning of Managerial Economics : Managerial economics is the study of economic theories, logic and tools of economic analysis that are used in the process of business decision making. Economic theories and techniques of economic analysis are applied to analyse business problems, evaluate business options and opportunities with a view to arriving at an appropriate business decision. Managerial economics is thus constituted of that part of economic knowledge, logic, theories and analytical tools that are used for rational business decision-making. Managerial economics is that subject which describes how economic analysis is used in taking business decisions. The purpose of Managerial Economics is to show how economic analysis can be used in formulating business policies. Managerial economics is that discipline which uses economic concepts, principles and economic analysis in taking business decision and formulating future plans. It integrates economic theory with business practice for choosing business policies. Managerial economics lies on the borderline between economics and business management and bridges the gap between the two. Definition of Managerial Economics : According to McNair and Meriam : Managerial economics is the use of economic modes of thought to analyse business situation. According to Mansfield : Managerial economics is concerned with the application of economic concepts and economics analysis to the problems of formulating rational decision making. Nature or Characteristics of Managerial Economics : 1. Managerial Economics is a Science : Managerial economics is a science because it establishes relationship between causes and effects. It studies the 6

7 effects of a change in price of a commodity factors and forces on the demand of a particular product. It also studies the effects and implications of the plans, policies and programmes of a firm on its sales and profit. 2. Managerial Economics is an Art : Managerial economics may also be called an art. Because it also develops the best way of doing things. It helps management in the best and most efficient utilization of limited economic resources of the firm. 3. Managerial Economics is a Micro Economics : Entire study of economics may be divided into two segments- Macro economics and Micro economics. Managerial economics is mainly micro-economics. Microeconomics is the study of the behaviour and problems of individual economic unit. In managerial economics unit of study is firm or business organization and an individual industry. It is the problem of business firms such as problem of forecasting demand, cost of production, pricing, profit planning, capital, management etc. 4. Managerial Economics is the Economics of firms : Managerial economics largely use that body of economic concepts and principles which is known as Theory of the Firm or Economics of the Firm. 5. Managerial Economics uses Macro-economic Analysis : Managerial economics also uses macro-economics to analysis and understand the general business environment in which the business firm must operate. Business management must have the adequate knowledge of external forces that affect the business of the firm. The important macro-factors that affect the firm are trends in national income and expenditure, business cycles, economic policies of the government, trends in foreign trade etc. 6. Managerial Economics is Progmatic : It is concerned with practical problems and results. It has nothing to do with abstract economic theory which has no practical application to solve the problems faced by business firms. 7. Managerial Economics is Normative Science : There are two types of science-normative Science and Positive Science. Positive science studies what is being done. Normative science studies what should be done. From this point of view, it can be concluded that managerial economics is normative science because it suggests what should be done under particular circumstances. Scope of Managerial Economics : Managerial economics is the application of economic theories in the process of decision-making and formulation of future plans. The management will have to analyse the business problems that are faced by the firm. Thus, the principles relating to following topics constitute the scope of subject matter of managerial economics: 1 Demand Analysis : A business firm is in an economic organization which is engaged in transforming productive resources into goods that are to be sold 7

8 in the market. A major part of managerial decision-making depends on accurate estimates of demand. A forecast of future sales serves as a guide to management for preparing production schedules and employing resources. It will help management to maintain or strengthen its market position and profitbase. Demand analysis also identifies a number of other factors influencing the demand for a product. Demand analysis and forecasting occupies a strategic place in Managerial Economics. 2 Cost Analysis : Cost estimates are most useful for management decisions. The different factors that cause variations in cost estimates should be given due consideration for planning purpose. There is the element of uncertainty of cost as other factor influencing cost are either uncontrollable or not always known. 3 Pricing Practices and Policies : As price gives income to the firm, it constitutes as the most important field of Managerial Economics. The success of a business firm depends very much on the correctness of the price decision taken by it. The various aspects that are deal under it cover the price determination in various market forms, pricing policies, pricing method, different pricing, productive pricing and price forecasting. 4 Profit Management : The chief purpose of a business firm is to earn the maximum profit. There is always an element of uncertainty about profits because of variation in cost and revenue. If knowledge about the future were perfect, profit analysis would have been very easy task. But in this world of uncertainty expectations are not always realized. Hence profit planning and its measurement constitute the most difficult area of managerial economics. Under profit management we study nature and management of profit, profit policies and techniques of profit planning like Break Even Analysis. 5 Capital Management : The problems relating to firm s capital investments are perhaps the most complex and the troublesome. Capital management implies planning and control of capital expenditure. The main topics deal with under capital management are cost of capital, rate of return and selection of projects. 6 Analysis of Business Environment : The environmental factors influence the working and performance of a business undertaking. Therefore, the managers will have to consider the environmental factors in the process of decision-making. The factors which constitute economic environment of a country include the following factors: Economic System of the Country Business Cycles Fluctuations in National Income and National Production 8

9 Industrial Policy of the Government Trade and Fiscal Policy of the Government Taxation Policy Licensing Policy etc. Political Environment Social Factors Trend in labour and capital markets. Q. What do you mean by Managerial Economics? Explain its significance in Managerial Decision Making. Ans. Meaning of Managerial Economics : Managerial economics is the study of economic theories, logic and tools of economic analysis that are used in the process of business decision making. Economic theories and techniques of economic analysis are applied to analyse business problems, evaluate business options and opportunities with a view to arriving at an appropriate business decision. Managerial economics is thus constituted of that part of economic knowledge, logic, theories and analytical tools that are used for rational business decision-making. Managerial economics is that subject which describes how economic analysis is used in taking business decisions. The purpose of Managerial Economics is to show how economic analysis can be used in formulating business policies. Managerial economics is that discipline which uses economic concepts, principles and economic analysis in taking business decision and formulating future plans. It integrates economic theory with business practice for choosing business policies. Managerial economics lies on the borderline between economics and business management and bridges the gap between the two. Definition of Managerial Economics : According to McNair and Meriam : Managerial economics is the use of economic modes of thought to analyse business situation. According to Mansfield : Managerial economics is concerned with the application of economic concepts and economics analysis to the problems of formulating rational decision making. Significance of Managerial Economics in Managerial Decision Making : The most important function of management of a business firms is decision making and future planning. Business decision-making is essentially a process of selecting the best out of alternative opportunities open to the firm. The process of decision-making comprises following phases : (i) Determining and defining the objective to be achieved 9

10 (ii) Developing and analyzing possible course of action; and (iii) Selecting a particular course of action. Economic analysis helps the management in following ways:- (1) Reconciling Theoretical Concepts of economics to the Actual Business Behaviour and Conditions : Managerial economics attempts to reconcile the tools, techniques, models and theories of economics with actual business practices and with the environment in which a firm has to operate. Analytical techniques of economic theory builds models by which we arrive at certain assumptions and conclusions are reached thereon in relation to certain firms. There is need to reconcile the theoretical principles based on simplified assumptions with actual business practice and develop the economic theory, if necessary. (2) Estimating Economic Relationship : Managerial economics plays an important role in business planning and decision making by estimating economic relationship between different business factors- income, elasticity of demand like price elasticity, income elasticity, cross elasticity and cost volume profit analysis etc. The estimates of this economic relationship can be used for purpose of business forecasts. (3) Predicting Relevant Economic Quantities : Sound business plans and policies for future can be formulated on the basis of economic quantities. Managerial economics helps the management in predicting various economic quantities such as: Cost Profit Demand Capital Production Price etc. Since a business manager has to work in an environment of uncertainty, future should be well predicted in the light of these quantities. (4) Understanding Significant External Forces : The management has to identify all the important factors that influence firm. These factors broadly divided into two parts- Internal Factors and External Factors. External factors are the factors over which a firm cannot have any control. Therefore, the plans, policies and programmes of the firm should be adjusted in the light of these factors. Important external factors affecting decision-making process of a firm are: 10 Economic System of the Country Business Cycles Fluctuations in National Income and National Production Industrial Policy of the Government

11 Trade and Fiscal Policy of the Government Taxation Policy Licensing Policy etc. Managerial economics plays an important role by assisting management in understanding these factors. (5) Basis of Business Policies : Managerial economics is the foundation of all business policies. All the business policies are prepared on the basis of studies and findings of managerial economics. It warns the management against all the turning points in national as well as international economy. (6) Clear Understanding of Economic Concepts : It gives clear understanding of various economic concepts (i.e, cost, price, demand etc.) used in business analysis. For example, the concept of cost includes total, average, marginal, fixed, variable, actual cost, and opportunity cost. Economics clarifies which cost concepts are relevant and in what context. (7) Increases the Analytical Capabilities : Managerial Economics provides a number of tools and methods which increases the analytical capabilities of the business analysis. Q. Who is Managerial Economist? Discuss the Role and Responsibility of Managerial Economist. Ans. Managerial Economist : Managerial Economist is an expert who counsels business management in economic matters and problems faced by a business organization. Taking business decision and formulating forward plans are two important jobs of business management. Specialized skills are needed to perform these jobs efficiently. The managerial economist can assist the management in using the specialized skill to solve the problems of business to formulate business policies. Role of Managerial Economist : One of the main functions of any management is to determine the key factor which influences the business over a period of time. This function is performed by a Managerial Economist. In general, the factors which influence the business over a period to come fall under two categories: (A) External Factors : management. The external factors are beyond the control of (B) Internal Factors : The internal factors are well within the control of management. Thus, the role of Managerial Economist are : (A) Analysis of External Factors : The external factors operate outside the firm and firm has no control over these. Such factors constitute business 11

12 environment and include prices, national income and output, business cycle, government policies, international trends, etc. These factors are of great importance to the firm. Managerial economists by studying and analyzing these factors can contribute effectively in determining business policies. Certain relevant question relating to these factors are:- (B) (i) What are the present trends in nations and international economics? (ii) What phase of business cycle lies immediately ahead? (iii) Where are the market and customer opportunities likely to expand or contract most rapidly? (iv) What are the possibilities of demand and prices of finished products? (v) Is competition likely to increase or decrease? (vi) What changes are expected in government policies and control? (vii) What are the demand prospects in new and the established markets? Analysis of Internal Factors : Internal factors are known as business operations. In other words internal activities of a firm are called business operations. A managerial economists can also help the management to solve problems relating the business operation such as price determination, use of installed capacity, investment decision, expansion and diversification of business etc. Relevant questions in this context are as follows:- (i) (ii) What will be the reasonable sales and profit targets for the next year? What will be the most appropriate production schedules and the inventory policy for the next five or six months? (iii) What changes in wage and price policies should be made now? (iv) How much cash will be available in the coming months and how it should be invested? (C) Specific Functions : These Specific functions are as under : (i) Sales Forecasting (ii) Market Research (iii) Economic Analysis of competing firms. (iv) Pricing problem of the industry (v) Evaluation of Capital Projects. (vi) Advice on foreign exchange. (vii) Advice on trade and public relations (viii) Environmental forecasting. (ix) Investment analysis and forecasts (x) Production and inventory schedule (xi) Marketing function. (xii) Analysis of underdeveloped economics Responsibilities of a Managerial Economist : 1. To make reasonable profits on capital employed : He must have 12

13 strong conviction that profits are essential and his main obligation is to assist the management in earning reasonable profits on capital invested by the firm. He should always help the management to enhance the capacity of the firm to earn profits. If he fails to discharge this responsibility then his academic knowledge, experience and business skill will be of no use to the firm. 2. Successful Forecasts : It is necessary for the managerial economist to make successful forecasts by making in depth study of internal and external factors that may have influence over the profitability or the working of the firm. A managerial economist is supposed to forecast the trends in the activities of importance to the firm such as sales, profit, demand, costs etc. 3. Knowledge of Sources of Economic Informations : A managerial economist should establish and maintain close contacts with specialists and data sources in order to collect quickly the relevant and valuable information in the field. For this purpose he should develop personal relation with those having specialized knowledge of the field. He should also join professional associations and take active part in their activities. 4. His Status in the Firm : A managerial economist must earn full status in the business ream because only then he can be really helpful to the management in formulating successful business policies. Q. What are the objectives of Business Firms? Ans. Introduction : Conventional theory of firm assumes profit maximization, as the sole objective of business firms. Recent researchers on this issue reveal that the objectives that business firms pursue are more than one. Some important objectives, other than profit maximization, are:- (i) Maximization of Sales Revenue (ii) Maximization of Firm s growth rate (iii) Maximization of manager s utility function (iv) Long-run survival of the firm Therefore the objectives of the Business firms are Objectives of Business Firms Main Objective Alternative Objectives Profit Maximization Maximization of Sales Revenue Maximization of Firm s growth rate Maximization of manager s utility function Long-run survival of the firm 13

14 (A) Main Objectives : 1. Profit Maximization Goal of a Business Firm : According to traditional economic theory profit maximization is the sole objective of business firms. The traditional theory suggests a number of reasons as to why does a firm want to maximize profits. All these reasons essentially fall into the following categories: (i) (ii) Traditional economic theory assumes that the firm is ownermanaged, and therefore maximizing profit would imply maximizing the income of the owner; Owner would like to have adequate return for his activity as n entrepreneur. Firm may pursue goals other than profit-maximization, but they can achieve these subsidiary goals much easier if they aim for profit maximization. Under perfect competition individual firms have to maximize their profits at price determined by industry. Under imperfect competition firms search their profit maximizing price output as they are price makers. The profit can be defined as the difference between total revenue and total cost. A firm will maximize its profit at that level of output at which the difference between total revenue and total cost is maximum. Generally conventional price theory determines profit maximizing price-output in terms of marginal cost and marginal revenue. Marginal Revenue : Marginal revenue is the addition to total revenue from the sale of an additional unit of a commodity. Marginal Cost : Marginal cost is the addition to total cost from the production of an additional unit of a commodity. The two profit maximizing conditions are : 1. MC = MR : We take first condition (i) (ii) If MC<MR total profits are not maximized because firm will earn more profits by increasing output. If MC>MR the level of total profit is being reduced and firm can increase profit by decreasing production. (iii) If MC = MR the profits could not increase either by increasing or decreasing output and hence profits are maximized. (b) Profit = Total Revenue - Total Cost. MC cuts MR from below : Now we take the second condition. The second condition of profit maximization requires that MC be rising at the point of its intersection with the MR curve 14

15 At point E both the conditions are satisfied. Criticism of profit Maximization Approach : a) The real world business environment is more complex than what convention theory of firm thought. The modern business firms face lot of risk and uncertainty. Long-run survival is more important than short-run profit. b) The other objectives such as sales maximization, growth rate maximization etc. describe real business behavior more accurately. c) Profit maximization objective cannot be realized without the exact measurement of marginal cost and marginal revenue. d) Profits are not only measure of firm s efficiency. e) Profit maximization assumption may require expansion of business which means more risks. But firms may prefer less profit instead of bearing additional uncertainties. (B) Cost/Revenue P O A M OUTPUT Alternative Objectives of Business Firms : There are the following objectives: (1) Baumol s Hypothesis of Sales Revenue Maximization : Baumol s theory of sales maximization is an alternative theory of firm s behaviour. The basic premise of his theory is that sales maximization, rather than profit maximization, is the plausible goal of the business firms. He argues that there is no reason to believe that all firms seek to maximize their profits. Business firms, in fact, pursue a number of objectives and it is not easy to single out one as the most common objective pursued by the firms. However, from his experience as a consultant to many big business houses, Baumol finds that most managers seek to maximize sales revenue rather than profits. (2) Maximization of firm s growth rate : According to Robin Marris managers maximize firm s balanced growth rate. He defines firm s balanced growth rate (G) as E Q MC AR=MR 15

16 G = G = G Where G D = Growth rate of demand for firms product (3) Maximization of Managerial Utility Function : According to this concept managers seek to maximize their own utility function subject to a minimum level of profit. (4) Long-Run Survival of the firm : According to this concept, the primary goal of the firm is long-run survival. The managers, therefore, seek to secure their market share and long-run survival. The firms may seek to maximize their profit in the long-run though it is not certain. Q. Write a short note on the following : Ans. (A) Short-Run (B) Long-Run (C) Firm (D) Industry (E) Classification of Goods (F) Classification of Markets (G) Opportunity Cost (H) Risk (I) Uncertainty (J) Profit (K) Nature of Marginal Analysis. D G C = Growth rate of capital supply to the firm In simple words, a firm s growth rate is balance when demand for its product and supply of capital to the firm increase at the same rate. (A) Short-Run : Short-Run refers to that time period in which supply of a commodity can be increased only up to its existing production capacity. If demand has increased, there is not enough time for a firm to install new machines nor for the new firms to enter the industry. The main features of short-run are : (1) In the short-run there are two types of factors of production:- Fixed Factors Variable Factors (2) In the short-run supply can be changed only by varying variable factors. (3) The fixed factors cannot be changed. (4) In short-run demand plays greater role than supply in the determination of price. 16 C

17 (5) The price that is determined in the short period is called Sub-normal price. (6) There are two types of cost in the short-run:- Fixed Cost : The costs of fixed inputs are called fixed costs. Fixed costs are costs which do not change with changes in the quantity of output. Variable Cost : Variable costs are those costs which are incurred on the use of variable factors of production. Example : Supposing you have a carpet manufacturing factory. If you run your factory for full 24 hours, you can produce 10 carpets at the most. Supposing demand for carpets increases to 20 carpets per day for two days only. ou will be unable to meet this additional demand. our maximum production capacity is limited to 10 carpets only. ou do not have time to install new looms to increase your production. (B) Long-Run : Long-Run refers to that time period in which supply of a commodity can be increased or decreased according to the changed conditions of demand. The increased demand can be met with increasing the supply by installing machines. Or new firms can enter the industry. On the contrary, if demand has gone down, some firms will discontinue their production. Price, in the long-run is therefore, more influence by supply than demand. Price that comes to prevail in the long-run is called Normal Price. The main features of long-run are:- (1) In the long-run all factors are variable. (2) In the long-run supply can be changed by varying all factors of production. (3) In long-run demand and supply both plays equal role in the determination of price. (4) The price that is determined in the long period is called Normal Price. (5) In the long-run supply can be increased or decreased according to the demand. (6) In the long-run new firms can enter the industry and old firms can leave it. (C) Firm : A firm is a unit engaged in the production for sale at a profit and with the objective of maximizing the profit. A firm is in equilibrium when it is satisfied with its existing amount of output. A firm is in equilibrium has no tendency either to increase or to decrease its output. The objectives of a firm are:- 17

18 Objectives of Business Firms Main Objective Alternative Objectives Profit Maximization Maximization of Sales Revenue Maximization of Firm s growth rate Maximization of manager s utility function Long-run survival of the firm (D) Industry : The group of firms producing homogenous products is called industry. Homogeneous products are those products in which it is not possible to make any distinction between the units of the commodity being sold by different sellers. Such firms are found only under perfect competition. Perfect competition is that situation of the market in which there are large number of buyers and sellers of homogeneous product. Under perfect competition, price of the commodity is determined by the industry. In perfect competition market firm is a price-taker and not a price-maker. Equilibrium of Industry : An industry is in equilibrium when it has no tendency to change its size. There are two conditions of an industry s equilibrium: (1) Constant Number of Firms : An industry will be in equilibrium when the number of its firms remains constant. In this situation, no new firm will enter and no old firm will leave the industry. (2) Equilibrium of Firms : Another condition of an Industry s equilibrium is that all firms operating in it are in equilibrium and have no tendency either to increase or to decrease their output. Conditions of equilibrium of firm are: (i) (ii) MC=MR MC curve cuts MR curve from below Cost/Revenue P O A M OUTPUT At point E both the conditions are satisfied. E Q MC AR=MR 18

19 (E) Classification of Goods : There are basically three types of goods : 1. Consumer s Goods : Those goods which are directly put to use are called consumer s goods. These goods are used in our daily life. For example:- Bread, Cloth, Medicines etc. 2. Shopping Goods : This classification includes durable or semi-durable items. Shopping goods purchase are characterized by Pre-Planning, information search & price comparisons. It is divided into: (i) (ii) Homogeneous Goods : Homogeneous products are those goods in which it is not possible to make any distinction between the units of the commodity being sold by different sellers. Heterogeneous Goods : Heterogeneous goods mean that goods are close substitutes but are not homogeneous. They differ in colour, name, packing, shape, size, quality etc. 3. Producer or Capital Goods : Those goods which are used in production by other industries are capital goods. Huge amount is invested in these goods. For Example:- Machinery, Plant, etc. 4. Intermediate Goods : Some industries manufacture such goods as are processed in some other industry to produce some need goods. Such goods are called intermediate goods. For example : Plastic, rubber, aluminum etc. 5. Specialty Goods : The purchase of specialty goods is characterized by extensive search to accept substitutes once the purchase choice has been made. The market for such goods is small but price & profits are high. 6. Normal Goods : Normal goods are those goods the demand for which tends to increase following increase in consumer s income, and tends to decrease following decrease in his income. So, there is a positive relationship between consumer s income and quantity demanded. 7. Inferior Goods : Inferior goods are those goods the demand for which tends to decline following a rise in consumer s income, and tends to increase following a fall in his income. So there is an inverse relationship between income of the consumer and demand for a commodity. 8. Necessaries of Life and Inexpensive Goods : In case of necessaries of life and inexpensive goods, the demand remains almost constant irrespective of the level of income. 9. Luxury Good : A luxury good means an increase in income causes a bigger % increase in demand. (F) Classification of Market : In economics the term market refers not necessarily to a particular place but to the mechanism by which buyers and sellers are brought together. The classification of markets are:- 19

20 Classification of Market Perfect Competition Imperfect Competition Monopoly Monopolistic Competition Oligopoly 1. Perfect Competition : Perfect competition refers to a market situation where there is a large number of buyers and seller. The sellers sell homogeneous product at a uniform price. The price is determined not by the firm but by the industry. Features of Perfect Competition market are : (i) Large Number of Buyers and Sellers (ii) Homogeneous Products (iii) Free entry and exit of firms (iv) Perfect Knowledge (v) Absence of Selling costs (vi) Price Taker. 2. Imperfect Competition : There are two types of market under imperfect competition : (a) (b) Monopolistic Competition : Monopolistic competition is a market structure in which there are many sellers of a commodity, but the product of each seller differs from that of the other sellers on one respect or the other. Thus product differentiation is the main feature of monopolistic competition. The main feature of this market are : (i) Large Number of Buyers and Sellers (ii) Product Differentiation. (iii) Freedom of Entry and Exit of firms (iv) Higher Selling Costs (v) Price Control. (vi) Imperfect Knowledge. (vii) Non-Price Competition Oligopoly : oligopoly is a market structure in which there are few sellers selling a homogenous or differentiated products and large number of buyers. The main features of oligopoly are : (i) Small number of sellers (ii) Interdependence of decision-making. (iii) Barriers to Entry 20

21 3. Monopoly : Monopoly is a market situation in which there is a single seller, there are no close substitutes for commodity it produces, there are barriers to entry. The main features of this market are:- (G) (i) One Seller and Large Number of Buyers (ii) Monopoly is also an Industry (iii) Restriction on the entry of the new firms (iv) Price Maker (v) Price Discrimination Opportunity Cost : The concept of opportunity cost is extremely important in economic analysis. We know that the cost is the value of inputs in the process of production. An input has got value because it is scarce or limited. If we use the input to produce one good, it is not available to produce something else. The cost of producing one thing is measured in terms of what was given up in terms of next best alternative that is sacrificed. If several opportunities are given up for producing a particular commodity, it is the value of the next best foregone opportunity that constitutes cost. Thus it is called opportunity cost. The opportunity cost is the cost of next best alternative foregone. It is also called alternative cost. Example : Supposing a farmer can grow both wheat and gram on a farm. If on a farm measuring one-hectare land he grows only wheat, he foregoes the production of gram. If the price of quantity of gram that he foregoes is Rs. 1,000, then the opportunity cost of growing wheat will be Rs. 1,000. Thus, the price of gram which the farmer has to forgo in order to produce wheat is called opportunity cost of wheat. Definition of Opportunity Cost : According to Leftwitch Opportunity cost of a particular product is the value of the foregone alternative product that resources used in its production, could have produce Diagram of Opportunity Cost : 12 P O P Commodity 21

22 Explanation : In this figure the production line PP shows that if a given quantity of resources is employed to produce both and, it can produce (a) (b) (c) 12 units of and nothing of 6 units of and nothing of Any combination of and long the line. OR OR This line shows that to produce, we must forego the opportunity of producing some of. This is called the opportunity cost of in terms of. In this figure the opportunity cost of one unit of is 12/6 = 2. This means that the same amount of factors of production that can produce 1 unit of can produce 2 units of. Likewise, the opportunity cost of producing one unit of in term of is 6/12= 0.5. The same amount of factors of production employed in the production of 1 unit of can produce 0.5 units of. The opportunity cost of interns of is 0.5. (H) Risk : In common practice, risk means a low profitability of an expected outcome. From business decision-making point of view, risk refers to a situation in which business decision is expected to yield more than one outcome and the profitability of each outcome is known to the decision makers or can be reliably estimated. Example : If a company doubles its advertisement expenditure, there are three probable outcomes:- (i) Its sales may more than double (ii) It may just double (iii) It may less than double. The company has the knowledge of these probabilities of the three outcomes on the basis of its past experience as (i) more than double- 10% (ii) almost double- 40% (iii) Less than double-50% It means that there is 90 % risk in more than doubling the sales and in doubling the sale, the risk is 60% and so on. There are two approaches to estimate probabilities of outcomes of a business decision, viz. (I) (i) (ii) A priori approach : This approach based on intuition. Posteriori approach : This approach is based on past data. Uncertainty : Uncertainty refers to a situation in which there is more than one outcome of a business decision and the probability of outcome is not known or not meaningful. The unpredictability of outcome may be due to : Lack of Reliable market information 22

23 (J) Inadequate past experience Some Examples of Uncertainties : (i) Life of new plant and future maintenance are unpredictable. (ii) Technological changes are highly unpredictable. (iii) The size of the market may not turn out to be as anticipated due to a number of reasons like, changes in the pattern or fashions, tastes of the people, etc. (iv) It is not possible to base scientific judgments about the following factors which affect the extent of prospective yields in the distant future: The extent of new competition The prices which may fluctuate from year to year The size of export market during the years to come. Change in fiscal policies particularly in individual taxation and corporate taxation, and policies with regard to labour and wages. Conditions in the labour market, changes in labour legislation, level of wages, the possibilities of lockouts and strikes etc. Political, climate etc. The long term investment involves a great deal of uncertainty with unpredictable outcome. But, in really investment decisions involving uncertainty have to be taken on the basis of whatever information can be collected, generated. For the purpose of decision-making, the uncertainty is classified as : (i) (ii) Complete Ignorance : In case of complete ignorance, investment decisions are taken by the investors using their own judgment. Partial Ignorance : In case of partial ignorance, on the other hand, there is some knowledge about the future market conditions, some information can be obtained from the experts in the field and some probability estimates can be made. The available information can be incomplete and unreliable. Profit : Profit means different things to different people. The word profit has different meaning to businessmen, accountants, tax collectors, workers and economists. In a general sense, profit is regarded as income accruing to the equity holders, in the same sense as wages accrue to the labour, rent accrues to the owners of rentable assets and interest accrues to the money lenders. Concepts of Profit : The two important concepts of profit in business decisions are economic profit and accounting profit. It will be useful to understand the difference between the two concepts of profit. 23

24 (1) Accounting Profit : Accounting profit is surplus of revenue over and above all paid-out costs, including both manufacturing and overhead expenses. Accounting profit may be calculated as follows: Where Accounting Profit = TR (W +R + I + M) TR= Total Revenue W= Wages and Salaries R= Rent I=Interest M=Cost of materials Obvious, while calculating accounting profit, only explicit or book costs, i.e., the cost recorded in the books of accounts, are considered. (2) Economic Profit or Pure Profit : The concept of economic profit differs from that of accounting profit. Economic profit takes into account also the implicit or imputed costs. The implicit cost is opportunity cost. Opportunity cost is the income foregone which a businessman could expect from the second best alternative use of his resources. There are the following examples of opportunity cost: (K) (i) (ii) If an entrepreneur uses his capital in his own business, he foregoes interest which he might earn by purchasing debentures of other companies or by depositing his money with joint stock companies for a period. Furthermore, if an entrepreneur uses his labour in his own business, he foregoes his income (Salary) which he might earn by working as a manager in another firm. (iii) Similarly, by using productive assets (land and building) in his own business, he sacrifices his market rent. These foregone incomes-interest, salary and rent are called opportunity costs or transfer costs. Accounting profit does not take into account the opportunity cost. Economic Profit = Total Revenue (Explicit Costs Implicit Costs) Nature of Margin Analysis : The concept of marginal is widely used in economic analysis. The nature of marginal analysis : (1) Marginal analysis is related to a unit change in independent variable, say, increase in cost as a result of a unit change in output, increase in product as a result of a unit change in labour, increase in revenue as a result of a unit change in sale, increase in utility as a result of a unit change in consumption of units. These are explained in the following: (a) Marginal Utility (MU) : The marginal utility can be defined as the 24

25 (b) (c) (d) change in total utility from the consumption of an additional or less unit of a commodity. MU= Marginal Utility Q = Change in Quantity TU = Change in Total Utility Marginal Cost (MC) : Marginal cost can be defined as the change in to total cost as result of producing one more or less unit of a commodity. MC= Marginal Cost Q = Change in Quantity TC = Change in Total Cost Marginal Product (MP) : Marginal Product can be defined as the change in total product as result of increasing or decreasing one more unit of labour. MP= Marginal Product L = Change in Labour TP = Change in Total Product Marginal Revenue (MR) : Marginal product can be defined as the change in total revenue due to the sale of one additional unit of a product. MR= Marginal Revenue Q = Change in Quantity TR = Change in Total Revenue (2) There are certain cases where marginal analysis is superior to any other analysis. These include the selection of : (a) MR MP TU MU= Q TC MC= Q TP = L TR MR= Q best product-mix, in cases where substitution between products occurs at a decreasing rate., 25

26 (b) least cost input-mix where inputs are substitutable at a decreasing rate. (c) Optimum input-level where input-output relationship faces diminishing returns, and (d) Optimum maturity of assets, having value decreasing over time. (3) Whenever the cost and revenue functions are curvilinear, it is more appropriate to use marginal analysis. Marginal analysis calls for unit-tounit comparison and would, therefore be able to capture the impact of all points. (4) In case of those functions which are linear, in such a case only the end points of a range are to be compared, and marginal analysis would not give any different results. (5) In case of those alternatives, which are discrete, marginal analysis cannot be used. If a producer wants to produce a particular level of output and wants to make a choice between different technologies for the purpose, it is not possible to compare these processes in terms of marginal cost of moving from one process to another. 26

27 MBA 1st Semester (DDE) UNIT II Q. Explain Demand and its various types. Also Explain the Determinants of Demand. Ans. Meaning of Demand : Demand is defined as the quantities of a product which a consumer is not only desiring to purchase and able to purchase but is also ready to purchase at given prices at a given point of time. Definition of Demand : According to Ferguson Demand refers to the quantities of a commodity that the consumers are able and willing to but at each possible price during a given period of time, other things being equal. Constituents of Demand : (i) (ii) Desire for a thing. Money to satisfy the desire. (iii) Willingness to spend the money. (iv) Relationship of the price and the quantity of the commodity demanded. (v) Relationship of time and the quantity of the commodity demanded. Types of Demand : There are various types of demand: 1. Demand for Consumers Goods and Producers Goods : i) Goods and services for final consumption are called consumers goods. These include those consumed by human beings such as food items, clothes, medicines etc. Demand for consumers goods is direct. ii) Producers goods refer to the ones used for the production of other goods such as plant and machines, factory buildings, raw materials etc. Demand for producers goods is derived. 2. Demand for Perishable Goods and Durable Goods : i) Perishable Goods are those goods which can be consumed only once. For example:- bread, milk and vegetables etc. 27

28 ii) (i) (ii) (i) (ii) (i) (ii) (i) (ii) (i) Durable Goods are those goods the utility from which accrues over a period of time. For example refrigerator, car, furniture etc. 3. Direct and Indirect Demand : Direct Demand : Goods that are demanded for their own sake have direct demand. Indirect Demand : Goods that are needed in order to obtain some other goods possess indirect demand. 4. Short-Run Demand and Long-Run Demand : Short Run Demand : Short-run demand represents the existing demand which is based on immediate reaction to price changes, income fluctuations and other explanatory variables. Long Run Demand : Long-run demand on the other hand, is that demand which emerges after the influence of price changes, product improvement, promotional efforts and other factors over time is allowed to adjust the market to the new situation. In the long run, new customers may start purchasing the product. Some products may not be demanded any more. 5. Joint Demand and Composite Demand : Joint Demand : When two goods are demanded in conjunction with one another at the same time to satisfy a single want, they are said to be joint demand. For Example:- Pens and ink, camera and film, Car and petrol etc. Composite Demand : A commodity is said to be in composite demand when it is wanted for several different uses. 6. Individual Demand and Market Demand : Individual Demand : Individual demand schedule is defined as the table which shows quantities of a given commodity which an individual consumer will buy at all possible prices at a given time. Market Demand : Market demand schedule is defined as the quantities of a given commodity which all consumers will buy at all possible prices at a given moment of time. 7. Price Demand, Income Demand and Cross Demand : 28 Price Demand : Price demand refers to the various quantities of a product purchased by the consumer at alternative prices. D= f (P)

29 (ii) (iii) Income Demand : Income demand refers to the various quantities of a commodity demanded by the consumer at alternative levels of his changing money income. D= f () Cross Demand : Cross demand refers to the various quantities of commodity (say coffee) purchased by the consumer in relation to change in the price of a related commodity (say tea) which may either be a substitute or a complementary product. D a = f (P b) Determinants of Demand : Demand of a consumer for a particular commodity is determined by the following factors: (1) Price of Commodity : There is an inverse relationship between price and demand for a commodity. When Price increases, then demand decreases and when price decreases, then demand increases. It is also explained with the help of following diagram : P1 D Price P D (2) Price of Related Goods : Demand for a commodity depends not only on its own price, but also upon the prices of related goods. Related goods are broadly classified into two categories : (i) O Q1 Q Quantity Substitute Goods : Substitutes goods are those goods which can be substituted for each other, such as tea and coffee. Demand of tea is related to the price of coffee. If price of coffee is raised people may shift to tea, and vice-versa. In other words, in case of substitute the demand of one good is positively related to the price of the other good. Price of Coffee D P1 P D O Q Q1 Quantity of Tea 29