Daily Archives: November 6th, 2012

Concept of Managerial Economics

Managerial economics is the science of directing scarce resources to manage cost effectively. It consists of three branches: competitive markets, market power, and imperfect markets. A market consists of buyers and sellers that communicate with each other for voluntary exchange. Whether a market is local or global, the same managerial economics apply.

The discipline of managerial economics deals with aspects of economics and tools of analysis, which are employed by business enterprises for decision-making. Business and industrial enterprises have to undertake varied decisions that entail managerial issues and decisions. Decision-making can be delineated as a process where a particular course of action is chosen from a number of alternatives. This demands an unclouded perception of the technical and environmental conditions, which are integral to decision making. The decision maker must possess a thorough knowledge of aspects of economic theory and its tools of analysis. The basic concepts of decision-making theory have been culled from microeconomic theory and have been furnished with new tools of analysis. Statistical methods, for example, are pivotal in estimating current and future demand for products. The methods of operations research and programming proffer scientific criteria for maximizing profit, minimizing cost and determining a viable combination of products.

Decision-making theory and game theory, which recognize the conditions of uncertainty and imperfect knowledge under which business managers operate, have contributed to systematic methods of assessing investment opportunities.

Almost any business decision can be analyzed with managerial economics techniques. However, the most frequent applications of these techniques are as follows:

Risk analysis

Various models are used to quantify risk and asymmetric information and to employ them in decision rules to manage risk.

Production analysis

Microeconomic techniques are used to analyze production efficiency, optimum factor allocation, costs and economies of scale. They are also utilized to estimate the firm’s cost function.

Pricing analysis

Microeconomic techniques are employed to examine various pricing decisions. This involves transfer pricing, joint product pricing, price discrimination, price elasticity estimations and choice of the optimal pricing method.

Capital budgeting

Investment theory is used to scrutinize a firm’s capital purchasing decisions.

Managerial economics is linked with various other fields of study like

1. Operations Research.

It is also used in managerial economics to find out the best of all possibilities. Linear programming is a major tool in usage in decision-making in business and industry. This field is used in managerial economics to find out the best of all possibilities. Linear programming is a great aid in decision making in business and industry as it can help in solving problems like determination of facilities on machine scheduling, distribution of commodities and optimum product mix etc.

2. Theory of Decision-Making.

It reduces the risk of uncertainty in business management where figures are required for the utility of managerial functioning. Decision theory has been developed to deal with problems of choice or decision making under uncertainty, where the applicability of figures required for the utility calculus are not available. Economic theory is based on assumptions of a single goal whereas decision theory breaks new grounds by recognizing multiplicity of goals and persuasiveness of uncertainty in the real world of management

3. Statistics.

Statistics helps in empirical testing of theory. With its help, better decisions relating to demand and cost functions, production, sales or distribution are taken. Managerial economics is heavily dependent on statistical methods

4. Management theory and accounting

It helps in the aspects of profit maximization, cost reduction and control etc. Accounting is the language of the business and management theory provides the strategic advent of business management. Accounting data and statements constitute the language of business. In fact the link is so close that “managerial accounting” has developed as a separate and specialized field in itself.