Managerial economics

# Managerial economics

Discussion

Encyclopedia
Managerial economics as defined by Edwin Mansfield
Edwin Mansfield
Edwin Mansfield was a professor of economics at University of Pennsylvania from 1964 and until his death. From 1985 he was also a director of the Center for Economics and Technology....

is "concerned with application of economic concepts and economic analysis to the problems of formulating rational managerial decision." It is sometimes referred to as business economics
Business economics as a field in applied economics uses economic theory and quantitative methods to analyze business enterprises and the factors contributing to the diversity of organizational structures and the relationships of firms with labour, capital and product markets...

and is a branch of economics
Economics
Economics is the social science that analyzes the production, distribution, and consumption of goods and services. The term economics comes from the Ancient Greek from + , hence "rules of the house"...

that applies microeconomic analysis to decision methods of businesses or other management units. As such, it bridges economic theory and economics in practice. It draws heavily from quantitative techniques such as regression analysis
Regression analysis
In statistics, regression analysis includes many techniques for modeling and analyzing several variables, when the focus is on the relationship between a dependent variable and one or more independent variables...

and correlation
Correlation
In statistics, dependence refers to any statistical relationship between two random variables or two sets of data. Correlation refers to any of a broad class of statistical relationships involving dependence....

, calculus
Calculus
Calculus is a branch of mathematics focused on limits, functions, derivatives, integrals, and infinite series. This subject constitutes a major part of modern mathematics education. It has two major branches, differential calculus and integral calculus, which are related by the fundamental theorem...

. If there is a unifying theme that runs through most of managerial economics, it is the attempt to optimize
Optimization (mathematics)
In mathematics, computational science, or management science, mathematical optimization refers to the selection of a best element from some set of available alternatives....

business decisions given the firm's objectives and given constraints imposed by scarcity, for example through the use of operations research
Operations research
Operations research is an interdisciplinary mathematical science that focuses on the effective use of technology by organizations...

, mathematical programming
Mathematical Programming
Mathematical Programming, established in 1971, and published by Springer Science+Business Media, is the official scientific journal of the Mathematical Optimization Society. It currently consists of two series: A and B. The "A" series contains general publications. The "B" series focuses on topical...

, game theory
Game theory
Game theory is a mathematical method for analyzing calculated circumstances, such as in games, where a person’s success is based upon the choices of others...

for strategic decisions, and other computational methods
Computational economics
Computational economics is a research discipline at the interface between computer science and economic and management science. Areas encompassed include agent-based computational modeling, computational modeling of dynamic macroeconomic systems and transaction costs, other applications in...

.

Managerial decision areas include:
• assessment of investible funds
• choice of product
• determining optimum output
• determining price of product
• determining input-combination and technology
• sales promotion.

Almost any business decision can be analyzed with managerial economics techniques, but it is most commonly applied to:
• Risk analysis - various models are used to quantify risk
Risk
Risk is the potential that a chosen action or activity will lead to a loss . The notion implies that a choice having an influence on the outcome exists . Potential losses themselves may also be called "risks"...

and asymmetric information
Information economics
Information economics or the economics of informationis a branch of microeconomic theory that studies how information affects an economy and economic decisions. Information has special characteristics. It is easy to create but hard to trust. It is easy to spread but hard to control. It...

and to employ them in decision rules
Decision theory
Decision theory in economics, psychology, philosophy, mathematics, and statistics is concerned with identifying the values, uncertainties and other issues relevant in a given decision, its rationality, and the resulting optimal decision...

to manage risk.
• Production analysis - microeconomic techniques are used to analyze production efficiency
Production theory basics
Production refers to the economic process of converting of inputs into outputs. Production uses resources to create a good or service that is suitable for use, gift-giving in a gift economy, or exchange in a market economy. This can include manufacturing, storing, shipping, and packaging. Some...

, optimum factor allocation, cost
Cost
In production, research, retail, and accounting, a cost is the value of money that has been used up to produce something, and hence is not available for use anymore. In business, the cost may be one of acquisition, in which case the amount of money expended to acquire it is counted as cost. In this...

s, economies of scale
Economies of scale
Economies of scale, in microeconomics, refers to the cost advantages that an enterprise obtains due to expansion. There are factors that cause a producer’s average cost per unit to fall as the scale of output is increased. "Economies of scale" is a long run concept and refers to reductions in unit...

and to estimate the firm's cost function.
• Pricing analysis - microeconomic techniques are used to analyze various pricing decisions
Pricing
Pricing is the process of determining what a company will receive in exchange for its products. Pricing factors are manufacturing cost, market place, competition, market condition, and quality of product. Pricing is also a key variable in microeconomic price allocation theory. Pricing is a...

including transfer pricing
Transfer pricing
Transfer pricing refers to the setting, analysis, documentation, and adjustment of charges made between related parties for goods, services, or use of property . Transfer prices among components of an enterprise may be used to reflect allocation of resources among such components, or for other...

, joint product pricing
Joint product pricing
Joint Products are two or more products, produced from the same process or operation, considered to be of relative equal importance.Pricing for joint products is a little more complex than pricing for a single product. To begin with there are two demand curves. The characteristics of each demand...

, price discrimination
Price discrimination
Price discrimination or price differentiation exists when sales of identical goods or services are transacted at different prices from the same provider...

, price elasticity estimations, and choosing the optimum pricing method.
• Capital budgeting - Investment theory is used to examine a firm's capital purchasing decisions.

At universities, the subject is taught primarily to advanced undergraduates and graduate business schools. It is approached as an integration subject. That is, it integrates many concepts from a wide variety of prerequisite courses. In many countries it is possible to read for a degree in Business Economics which often covers managerial economics, financial economics
Financial economics
Financial Economics is the branch of economics concerned with "the allocation and deployment of economic resources, both spatially and across time, in an uncertain environment"....

, game theory
Game theory
Game theory is a mathematical method for analyzing calculated circumstances, such as in games, where a person’s success is based upon the choices of others...

Forecasting
Forecasting is the process of making statements about events whose actual outcomes have not yet been observed. A commonplace example might be estimation for some variable of interest at some specified future date. Prediction is a similar, but more general term...

and industrial economics.

## Scope of Managerial economics

Managerial economics to a certain degree is prescriptive in nature as it suggests course of action to a managerial problem. Problems can be related to various departments in a firm like production, finance, accounts, sales, marketing etc.
1. Demand decision
2. Production decision

## Demand decision

Demand
Demand
- Economics :*Demand , the desire to own something and the ability to pay for it*Demand curve, a graphic representation of a demand schedule*Demand deposit, the money in checking accounts...

refers to the willingness to buy a commodity. Demand, here, defines the market size for a commodity i.e. who will buy the commodity. Analysis the demand is important for a firm as it's revenue, profits, income of the employees depends on it.

## Production decision

A firm needs to answer 3 basic questions - what to produce, how to produce and how much to produce and for whom to produce.

What to produce?

A firm will produce according to its perception of the customer demand. It can either produce consumer goods like food, clothing etc. (which are for consumption purpose) or it can produce capital goods like machinery etc. (which are for investment purposes).

How to produce?

Goods can be produced by certain techniques. Firms have the option of producing goods by labour intensive technique and capital intensive technique. Labour intensive technique is the one in which manual labour is used to produce goods. Capital intensive technique is the one in which machinery like forklift, assembly belts etc. are used to produce goods.

How much to produce?

A firm has to decide its production capacity and also how much of their good a consumer needs and produce accordingly.

For whom to produce?
A firm has to decide its target population (i.e. to whom they will serve products and/or services). Example, it will not be viable to produce luxurious goods or middle income or low income group if they can't afford it and produce basic necessity goods for rich class if they don't need it. Therefore, a firm needs to match its produce according to the target population it is serving.

Business economics as a field in applied economics uses economic theory and quantitative methods to analyze business enterprises and the factors contributing to the diversity of organizational structures and the relationships of firms with labour, capital and product markets...

* Personnel economics
Personnel economics
In the 1970s, there was a flurry of research that sought to answer the questions of how prices of goods and services traded within a firm are determined. Many questions about how wages are determined inside a firm, and how the wages of the workers relate to one another within a firm, was raised as...

* Management science