Session 1_Introduction.pptx

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Adjunct / Visiting Faculty

B.A (Economics) : Miranda HouseMA (Economics) : Gokhale Institute, PunePhD Aspirant : June’15

Renewable Energy: Suzlon

Thermal Energy: GE

Yoga

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Why Do You

Want To

Study

Economics?It’s a part of the course, that’s why

Managers need to know a little bit of economicsEconomics is about prices, and demand and supply… and you know… all that

Can it be a lot of fun? .. We’ll find out

I get to learn something new

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It helps me to make sense of the newspaper articles!

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Economics: All about these 4!

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What is Managerial Economics all about?

Decision Making

But Why?

Because there are so many paths!

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Steps in Decision Making

ProblemDifferent

ApproachesCollect Data &

Analyse

Select BestImplementFollow up to

Improve 9

Who is a Manager?

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You are working in a manufacturing company. You want to introduce

a new product. You may need to do few/all of the following:

• What should be the price?

• What kind of market are you in and how do we get a

competitive edge?

• How to maximize profitability?

• Maximize Returns/ Minimize Payback period?

So much to do.. In so less time!

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• Not true that all managers must be economists

• But managers who understand the economic dimensions of business problems and apply economic analysis to specific problems often choose more wisely than those who do not.

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Economics: 2 Main Branches

• Economists generally divide their discipline into two main branches:

• Macroeconomics is the study of the aggregate economy.– National Income Analysis (GDP)– Unemployment– Inflation– Fiscal and Monetary policy– Trade and Financial relationships among nations

What these 2 branches tell us?

• Microeconomics is the study of individual consumers and producers in specific markets.– Supply and demand– Different type of markets– Pricing of output in these markets– Production processes– Cost structure– Distribution of income and output

Microeconomics forms the basis of managerial economics 15

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Economics: 2 Main Branches

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Theory of the Firm

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Why do firms exist?• To save on Transactions costs

• They “Internalize” costs

• Also to take benefit of many

government regulations, such

as tax etc

• Essentially procure resources and

convert them into goods that can

be sold

• Create goods/services

• Jobs

• Should a firm, or can a firm, then

grow indefinitely?

• Diseconomies of scale sets in!

• It may not make sense to hire

people internally, but employ

consultants

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Objective of the firm?

Flipkart reported a loss of  281 crore for the FY 2012-13.[42] In July 2013, Flipkart raised USD 160 million from private equity investors

In October 2013, it was reported that Flipkart had raised an additional $160 million from new investors Dragoneer Investment Group, Morgan Stanley Wealth Management,Sofina SA and Vulcan Inc. with participation from existing investor Tiger Global.[44][45][46]

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Valuation : Application of NPV Concepts• A measure of future value of a firm

• Independent of its current form

• Calculated as follows:

• NPV = Sum(TR – TC)/(1+r)^t

• Importance of “r”

• Rate of discount

• Usually the current lending rate/ cost of capital

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Key Takeaways

Managerial Economics is largely the study of Micro Economics

Within Micro – focuses more on the study of the firm

The firm exists to save on transactional costs – and aims to maximize “value”

Course will focus on what strategies the “firm/firms” take to achieve the above

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Some Basic Economic Terms

Demand Curve

• Downward Sloping

• Reflects the consumers willingness to

buy at a price

• Increase in price leads to decrease in

Demand

• Question: Are there positive

sloping demand curves?

• YES!

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Substitution and Income effects

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Substitution Effect

Since X is now cheaper – demand

more

Demand for X increases

Income Effect

You can buy more – Real Income

Increases

Demand for X increases

Assume the Price of a Commodity Falls

Both the SE and IE ensure that as Px falls, Demand Increases

~ Hence the downward sloping demand curve

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Inferior Goods

Violates the law of demand

When Price falls, Real Income Increases ~ encourages you to consume less of this good (Since this is inferior)

Hence if Income Effect > Substitution Effect – with Px falling, Qx is also falling

Results in an upward sloping demand curve

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Giffen GoodA special type of inferior good : As Price rises, demand also rises

Legend: Great Irish Famine (1845 – 52)

Poor people largely dependent on potatoes

As potatoes became more exp, poor people started to substitute meat with potatoes (Since meat was even more expensive)

Thus as Price Increased, Demand also increased!

http://www.economist.com/blogs/freeexchange/2007/07/as_price_goes_up_so_does_deman

Key: Major portion of your budget is spent on this good!

• Upward Sloping

• Reflects the producers

willingness to sell at a

price

• Increase in price leads to

Increase in Supply

Supply Curve

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Price($ per slice)

4

2

3

8 12

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Supply

Demand

Market Equilibrium

• Intersection of demand and supply for

the product

• Equilibrium is at Rs. 3

• No one is left unsatisfied –

demands are met with supply

• What happens when there is

excess of either?

Quantity

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Price($ per slice)

4

2

3

8 16

Supply

Demand

Excess Demand

• Excess demand of 8 Nos.

• Since there is more demand that market

can supply, price starts increasing

• Leads to reduction in demand

• Ultimately equilibrium is restored at

Rs. 3, by moving along the demand

curve

Quantity

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Excess Supply

Price($ per slice)

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2

3

8 12

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Supply

Demand

• Excess supply of 8 Nos.

• Price starts falling – supply also reduces

• Ultimately equilibrium is restored

at Rs. 3, by moving along the

supply curve (only we move

downwards!)

Quantity

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Opposite of Excess Supply? … Scarcity

• Limited resources matched with

unlimited wants

• What does it do to the price?

• How is the equilibrium restored?

• Also a manager’s task – Allocating

the scarce resources to the best

possible use!

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Opportunity Cost

What you give up to get what you have!

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Assuming you have an investible surplus of Rs 1 Lacs. You are looking at investment options that yield 8% per year. And thus, looks good and you invest!

BUT : There are so many more investment products in the market – if you diversify your portfolio – you may get upto 10% a year . What is the opportunity cost here?

10% - 8% : 2 %

In effect, you let go of 2% additional benefit that could have come to you!

Always consider the opportunity cost before deciding!

A Brief Example

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Average & Marginal

Quantity Total Average Marginal1 100 100 1002 180 90 803 210 70 304 220 55 105 230 46 10

• “Marginal” is equivalent to “Incremental”.

• Depicted above is a classic case of Diminishing Marginal Utility (measure of

satisfaction).

• Example: Cup of tea – The first cup in the morning is the most tasty!.

• DMU is used extensively in economics . Concept of marginal costs/ marginal

revenue will be referred to again while discussing market structures and

costs.

• Why is it important for you ? : Marginal costs and revenue

considerations are key in decision making , in different type of

markets that you may work in

• Change in total benefits arising from a change in the control variable, Q:

MB = DB / DQ• Slope (calculus derivative) of the total benefit

curve

Marginal Benefit/ Marginal Revenue

• Change in total costs arising from a change in the control variable, Q:

MC = DC / DQ• Slope (calculus derivative) of the total cost

curve

Marginal Cost

• To maximize net benefits, the managerial control variable should be increased up to the point where MB = MC (Variable could be output , price etc)

• MB > MC means the last unit of the control variable increased benefits more than it increased costs

• MB < MC means the last unit of the control variable increased costs more than it increased benefits

Equilibrium In Marginal Quantities

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The next 2 hours .. When we meet again.

• More concepts on demand and supply – Shifts of curves

• Concepts of Compliments & Substitutes

• Concepts of Elasticity

• Applications of concept of elasticity in real world

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Your Bible for this subject.