MODULE 1

1.1 Managerial Economics and Decision-Making

Managerial Economics is the application of economic principles and methods to solve problems
and make decisions in a business. It helps managers decide how to allocate resources effectively,
set prices, forecast demand, and maximize profits.

1.2 Fundamental Concepts in Managerial Economics That Aid Decision-

Making

1. Incremental Principle
This principle focuses on the additional costs and benefits of a decision. When choosing,
managers compare the extra revenue (incremental revenue) with the extra cost
(incremental cost).
o Example: A factory decides whether to add a second shift. If the extra
revenue from the change exceeds the additional costs, it's a good
decision.
2. Opportunity Cost
This is the cost of the next best alternative that is given up when a choice is made. It
reminds managers that choosing one option means losing the benefits of the next best
one.
o Example: If a company uses land to build a factory instead of renting it
out, the opportunity cost is the rental income they could have earned.
3. Discounting Principle
Money's value decreases over time because of inflation and the opportunity to invest.
This principle adjusts future costs and benefits to their present value to help managers
compare options fairly.
o Example: Getting $100 today is worth more than getting $100 next year
because you could invest it and earn interest.
4. Time Concept
Decisions often involve time. This principle helps managers account for short-term and
long-term impacts. Short-term actions might help immediately, but long-term strategies
are crucial for sustainability.
o Example: Offering discounts might boost short-term sales but could harm
long-term brand value.
5. Equi-Marginal Principle
Resources should be allocated where they yield the highest marginal benefit. This means
distributing resources across alternatives until the marginal benefit is the same for all
options.
o Example: A company spends on advertising in two regions until the returns
from spending an extra dollar in either region are equal.
1.3 Illustrations on Fundamental Concepts in Managerial Economics

1. Incremental Principle:
A restaurant is considering adding vegan dishes. The cost of new ingredients and training
is $2,000, but the expected extra revenue is $3,000. Since the additional revenue exceeds
the additional cost, the decision is justified.
2. Opportunity Cost:
A manager decides to use funds for marketing rather than upgrading equipment. The
opportunity cost is the benefits that could have come from more efficient equipment.
3. Discounting Principle:
A project will earn $10,000 in five years. Using a 5% discount rate, the present value is
calculated to decide if it’s worth the investment today.
4. Time Concept:
A company cuts costs by reducing R&D spending. While this saves money now, it risks
losing innovation and competitiveness in the future.
5. Equi-Marginal Principle:
A business with a $10,000 budget spends on TV ads, online ads, and flyers. They adjust
spending until the extra profit from each additional dollar spent on any medium is the
same.

These principles guide managers in making informed, rational, and strategic decisions for their
organizations.

MODULE 2
22.1 Demand Analysis – Types of Demand – Law of Demand & Its
Exceptions
Types of Demand

1. Individual Demand: The quantity of a product a single consumer is willing to buy

at a specific price.
2. Market Demand: The total quantity demanded by all consumers for a product.
3. Derived Demand: Demand for a product that arises due to the demand for
another product (e.g., demand for steel because of demand for cars).
4. Joint Demand: When two goods are used together (e.g., printers and ink).
5. Composite Demand: Demand for a product used for multiple purposes (e.g.,
milk for drinking, making butter, or cheese).

Law of Demand

The law states that as the price of a good increase, its quantity demanded decreases, and vice
versa, assuming other factors remain constant.

 Example: If apples become cheaper, people buy more of them.

Exceptions to the Law of Demand

1. Giffen Goods: Inferior goods where higher prices lead to higher demand due to
limited alternatives.
2. Prestige Goods: Luxury items (e.g., designer bags) where higher prices may
signal exclusivity, leading to more demand.
3. Speculation: If people expect prices to rise, they may buy more now despite
higher prices.
4. Necessities: Essential goods (e.g., medicines) have consistent demand,
regardless of price.

2.2 Elasticity of Demand

Types of Elasticity

1. Price Elasticity of Demand: Measures how much the quantity demanded changes when
the price changes.
o Elastic Demand: Large change in demand for a small price change
(luxuries).
o Inelastic Demand: Small change in demand despite price changes
(necessities).
 2. Income Elasticity of Demand: Measures how demand changes with changes in
consumer income.
o Normal Goods: Demand rises with income.
o Inferior Goods: Demand decreases as income rises.
3. Cross Elasticity of Demand: Measures how the demand for one good changes when the
price of another related good changes.
o Substitutes: Positive cross elasticity (tea and coffee).
o Complements: Negative cross elasticity (cars and fuel).
4. Advertisement Elasticity of Demand: Measures how demand changes with advertising
expenditure.

2.3 Applications of Elasticity in Business Decision Making

1. Pricing Strategies:
Firms with elastic demand reduce prices to increase sales, while those with inelastic
demand raise prices to boost revenue.
2. Tax Policy:
Governments impose higher taxes on inelastic goods (e.g., cigarettes).
3. Price Floors and Ceilings:
Elasticity helps evaluate the effects of minimum prices (price floors) or maximum prices
(price ceilings).
4. Advertisement Decisions:
High advertisement elasticity encourages businesses to invest more in promotions to
boost sales.

2.4 Demand Forecasting

Process of Demand Forecasting

1. Identify Objectives: Define why the forecast is needed.

2. Collect Data: Gather historical and current market data.
3. Choose a Method: Decide between statistical or non-statistical techniques.
4. Make Predictions: Use the chosen method to estimate future demand.
5. Monitor and Revise: Continuously update forecasts based on real-world
changes.

Forecasting Techniques

1. Statistical Methods:
o Trend Analysis: Study past trends to predict future demand.
o Regression Analysis: Examine the relationship between demand and other
factors.
2. Non-Statistical Methods:
 o Market Surveys: Ask customers or experts about future demand.
o Delphi Technique: Use expert opinions to reach a consensus.

2.5 Utility Analysis and Consumer Behavior

Cardinal Utility Theory

 Assumes utility can be measured numerically.

 A consumer achieves equilibrium when the last dollar spent on each product
gives the same marginal utility.

Ordinal Utility Theory (Indifference Curve)

 Assumes utility cannot be measured but ranked.

 Indifference Curve: Shows combinations of goods that give the same
satisfaction.
 Equilibrium: Achieved where the budget line is tangent to the highest indifference
curve.

By understanding these concepts, businesses can predict demand, price products, and allocate
resources to meet consumer preferences effectively.

MODULE 3
3.1 Theory of Production – Production Function

The production function shows the relationship between inputs (like labor, capital, and raw
materials) and outputs. It tells how much output can be produced with a given set of inputs.

 Example: If you have 2 workers and 1 machine, you can produce 10 units of
goods. With 4 workers and 2 machines, you might produce 25 units.
3.2 Production Function with One Variable Input
Law of Variable Proportions

This law states how output changes when only one input (e.g., labor) varies while others (e.g.,
capital) remain constant.

1. Increasing Returns: Adding more input increases output at an increasing rate.

2. Diminishing Returns: Output increases at a decreasing rate.
3. Negative Returns: Adding more input decreases output.

Returns to Scale

This occurs when all inputs are varied:

1. Increasing Returns to Scale: Doubling inputs more than doubles output.

2. Constant Returns to Scale: Doubling inputs double output.
3. Decreasing Returns to Scale: Doubling inputs less than doubles output.

3.3 Production Function with Two Variable Inputs

Isoquants

An isoquant is a curve showing all combinations of two inputs that produce the same level of
output. It’s similar to indifference curves in consumer theory.

 Example: A company can produce 100 units using 5 workers and 2 machines or
3 workers and 4 machines.

Producer’s Equilibrium

The producer is in equilibrium when:

1. The isoquant is tangent to the budget line (cost constraint).

2. The marginal rate of technical substitution (MRTS) of one input for another
equals the ratio of input prices.

3.4 Economies of Scale and Scope

Economies of Scale

Cost advantages that a firm experiences as it increases production:

 1. Internal Economies: Within the firm (e.g., bulk buying, specialization of labor).
2. External Economies: Due to industry growth (e.g., better infrastructure).

Diseconomies of Scale

When increasing production raises average costs (e.g., management inefficiencies).

Economies of Scope

Cost savings from producing multiple products together rather than separately.

 Example: A bakery produces both bread and cakes using the same equipment.

3.5 Theory of Costs

Classification of Costs

1. Fixed Costs: Do not change with output (e.g., rent).

2. Variable Costs: Change with output (e.g., raw materials).
3. Total Cost: Fixed + Variable Costs.
4. Average Cost: Total Cost ÷ Output.
5. Marginal Cost: The cost of producing one additional unit.

Determinants of Cost

 Input prices.
 Technology.
 The scale of production.
 Efficiency of resource use.

3.6 Short Run & Long Run Cost Curves

Short Run Cost Curves

 Fixed Costs exist, and firms cannot change all inputs.

 Key curves: Total Cost (TC), Average Cost (AC), and Marginal Cost (MC).

Long Run Cost Curves

 All inputs are variable, and firms can adjust the scale.
 The long-run average cost (LRAC) curve is U-shaped due to economies and
diseconomies of scale.
Graphical Presentation

 Short-run curves are smaller U-shaped curves within the long-run curve.
 The LRAC curve envelopes all possible short-run average cost curves.

3.7 Revenue Curves

1. Total Revenue (TR): Price × Quantity sold.

2. Average Revenue (AR): TR ÷ Quantity (equal to price under perfect
competition).
3. Marginal Revenue (MR): The additional revenue earned by selling one more
unit.
o In perfect competition: AR = MR = Price.
o In imperfect competition: MR < AR due to the downward-sloping demand
curve.

Understanding these concepts helps businesses optimize production, control costs, and maximize
profits.

MODULE 4
4.1 Classification of Markets – Markets Based on Competition

Markets are classified based on the level of competition:

1. Perfect Competition:
o Many sellers and buyers.
o Homogeneous products (no differentiation).
o Free entry and exit.
o Firms are price takers.
2. Monopoly:
 o Single seller dominates the market.
o No close substitutes for the product.
o High entry barriers.
o The firm is a price maker.
3. Monopolistic Competition:
o Many sellers with differentiated products.
o Free entry and exit.
o Firms have some control over price.
4. Oligopoly:
o Few large firms dominate the market.
o Products may be homogeneous or differentiated.
o High entry barriers.
o Interdependence among firms.

4.2 Theory of Firm–Profit Maximization Rules

Firms aim to maximize profits, calculated as:

Profit = Total Revenue (TR) - Total Cost (TC)

Rules for Profit Maximization

1. Marginal Revenue (MR) = Marginal Cost (MC):

o A firm maximizes profit when the additional revenue from selling one more
unit equals the additional cost of producing it.
2. Price must be greater than or equal to Average Variable Cost (AVC) in the short
run.

4.3 Price and Output Determination Under Perfect Competition

 Price: Determined by market forces of demand and supply.

 Output: Individual firms adjust their production to the point where MR = MC.
 Firms cannot influence prices and produce at the minimum point of the average
cost (AC) curve in the long run.
 Graph: The demand curve is perfectly elastic (horizontal).
4.4 Monopoly – Price and Output Determination
Price and Output in Monopoly

 A monopoly sets prices where MR = MC, but it charges the price based on the
demand curve at that quantity.
 Since the firm is the sole supplier, it faces a downward-sloping demand curve,
meaning higher prices lead to lower demand.

Monopoly Power

 Measured by the firm’s ability to set prices above marginal cost.

Price Discrimination

The practice of charging different prices to different consumers for the same product, based on
their willingness to pay.

 Types:
1. First Degree: Charging each consumer the maximum price they’re willing
to pay.
2. Second Degree: Charging different prices based on quantity purchased.
3. Third Degree: Charging different prices to different consumer groups
(e.g., student discounts).

4.5 Price and Output Determination Under Monopolistic Competition

 Price: Firms set prices based on the demand for their differentiated products.
 Output: Determined where MR = MC.
 In the short run, firms can earn profits or losses. In the long run, the entry and
exit of firms ensure that firms only break even (normal profit).

Key Feature:

Product differentiation allows firms to have some pricing power, but competition limits profits.

4.6 Price and Output Determination Under Oligopoly (Kinked Demand

Curve Model)
Kinked Demand Curve

This model explains why prices in oligopoly markets tend to remain stable.
 1. Above the Kink:
o If a firm raises its price, competitors do not follow, leading to a sharp drop
in demand.
o Demand is elastic.
2. Below the Kink:
o If a firm lowers its price, competitors match the price cut, resulting in only
a small increase in demand.
o Demand is inelastic.

Outcome:

 Firms avoid changing prices to maintain stability.

 Output is determined where MR = MC, but MR is discontinuous due to the kink.

By understanding these market structures, firms can devise strategies to compete, set prices, and
maximize profits effectively.

MODULE 5
5.1 Factors Affecting Price Determination – Pricing Process
Factors Affecting Price Determination

1. Costs:
Fixed and variable costs are key in setting a minimum price to ensure
o
profitability.
2. Demand:
o Higher demand can allow higher prices, while low demand may require
lower prices to attract buyers.
3. Competition:
 o Prices often reflect competitors' pricing to remain competitive in the
market.
4. Customer Perception:
o Prices are influenced by how customers perceive the value of the product.
5. Government Regulations:
o Price controls, taxes, or subsidies can impact pricing decisions.
6. Market Objectives:
o Goals like profit maximization, market penetration, or market share
influence pricing strategies.

Pricing Process

1. Define Pricing Objectives: Identify goals such as maximizing profit, revenue, or

market share.
2. Estimate Costs: Analyze fixed and variable costs.
3. Analyze Demand: Assess customer demand and willingness to pay.
4. Study Competition: Evaluate competitors' pricing strategies.
5. Select Pricing Method: Choose a suitable strategy (cost-based, demand-based,
etc.).
6. Set Final Price: Adjust the price considering market conditions and business
goals.

5.2 Pricing Strategies – Cost-Oriented

1. Cost-Plus Pricing:
o Add a fixed percentage (profit margin) to the total cost.
o Example: If a product costs $50 to make and the desired margin is 20%,
the price is $60.
2. Mark-Up Pricing:
o A variation of cost-plus, where the selling price is set as a percentage over
the cost price.
o Example: Retailers often use this method.
3. Break-Even Pricing:
o Set prices to cover costs without profit to gain market entry.
4. Target Pricing:
o Price is set to achieve a specific profit target.

5.3 Pricing Strategies – Competition-Oriented

1. Penetration Pricing:
o Set a low price to attract customers and gain market share.
2. Price Skimming:
 o Charge a high price initially and reduce it over time to capture different
customer segments.
3. Match Pricing:
o Set prices equal to competitors to avoid price wars.
4. Premium Pricing:
o Set a higher price to signal superior quality.
5. Predatory Pricing:
o Set very low prices to eliminate competitors (often regulated by law).

5.4 Pricing Based on Other Economic Considerations

1. Psychological Pricing:
o Set prices just below a round number to make them seem lower (e.g.,
$99.99 instead of $100).
2. Value-Based Pricing:
o Prices reflect the perceived value to customers rather than the cost.
3. Dynamic Pricing:
o Adjust prices based on real-time demand (e.g., airline tickets, hotel
bookings).
4. Geographic Pricing:
o Prices vary based on location due to transportation costs or local demand.
5. Bundle Pricing:
o Offer products together at a discounted price to boost sales volume.

5.5 Pricing in Large Enterprises vs. Small Businesses

Large Enterprises

1. Advanced Market Research:

o Use sophisticated tools to analyze demand and competition.
2. Flexible Pricing:
o Large firms may adopt multiple pricing strategies for different markets.
3. Economies of Scale:
o Enable lower costs and competitive pricing.
4. Long-Term Strategies:
o Focus on market share and customer loyalty.

Small Businesses

1. Simple Methods:
o Rely on basic cost-plus or competitor-based pricing.
2. Limited Resources:
o May not afford to implement complex pricing strategies.
 3. Niche Pricing:
o Focus on specialized markets where they can charge premium prices.
4. Personalized Pricing:
o Build relationships with customers to justify higher prices.

These pricing strategies help businesses of all sizes balance costs, competition, and customer
value to achieve their objectives.

Here’s a SIMPLIFIED EXPLANATION of the key points:

Factors Affecting Price Determination – Pricing Process

When setting a price for a product or service, businesses consider:

1. Costs: To avoid losses, the price must at least cover the production cost.
2. Demand: If many people want the product, a higher price can be charged.
3. Competition: If competitors charge lower prices, the business may need to match
or offer better value.
4. Customer Perception: Customers who see the product as high-quality or unique’ll
accept a higher price.
5. Government Rules: Some industries have price limits or taxes that affect pricing.

Cost-Oriented Pricing Strategies

These strategies focus on covering costs and adding a profit margin:

1. Cost-Plus Pricing:
o Add a percentage to the cost of making the product.
o Example: If it costs $50 to produce and you want 20% profit, the price is
$60.
2. Break-Even Pricing:
o Set the price just enough to cover costs, with no profit, often to attract
customers initially.
3. Target Pricing:
o Set the price to achieve a specific profit.
o Example: If you aim for $1000 profit from selling 100 items, you include that
in your price calculation.
Competition-Oriented Pricing Strategies

These strategies consider what competitors charge:

1. Penetration Pricing:
o Start with a low price to attract customers and build a market presence.
o Example: A new internet provider offering cheaper rates to gain users.
2. Price Skimming:
o Start with a high price and lower it over time.
o Example: New smartphones are expensive at launch, then get cheaper
later.
3. Match Pricing:
o Set the price at the same level as competitors to avoid losing customers.

Pricing Based on Economic Considerations

1. Psychological Pricing:
o Prices like $99.99 feel cheaper than $100, even though it’s nearly the same.
2. Value-Based Pricing:
o Price is based on how much customers think the product is worth.
o Example: Customers might pay more for organic products they perceive as
healthier.
3. Dynamic Pricing:
o Prices change based on demand and supply.
o Example: Airlines charge higher for last-minute tickets and lower for early
bookings.

Large vs. Small Business Pricing

1. Large Enterprises:
o Have more resources for market research and can experiment with pricing.
o They often lower costs due to bulk production and long-term strategies.
2. Small Businesses:
o Use simple pricing, like cost-plus, because they lack resources for complex
analysis.
o They might focus on niche markets and justify higher prices through
personalized services.
In Short:

 Pricing depends on costs, competition, and customer expectations.

 Larger businesses can leverage economies of scale and advanced strategies,
while smaller businesses rely on simpler, more personal approaches.