Managerial economics UNIT-4
Managerial Economics Unit-4
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Let's move to our first heading🤷♂️
Macro economics
The term macro in English has been originated from the Greek term "makros" which means "large".
Therefore, "macroeconomics is the study of economic problems of the entire economy."
It involves the study of aggregrates or average and hence, it is a cumulative economics.
Theory of income and employment is another name of macroeconomics or simply it is also known as income analysis.
Nature of macroeconomics
1. Short run nature
The time period in which production cannot be increased even by purchasing new assets or opting new technologies is referred to as short run period and macroeconomics on whole level studies this short run period.
2. Study of economy as a whole.
A systematised and comprehensive body of thought.
3. Reformed capitalism OR neo- liberalism
The features of macroeconomics prior to World War 2 are now not in existence. Today's macroeconomics is reformed.
4. A monetary economics
Because it studies everything which is about the flow of money like national income, GDP, etc.
5. Mainly institutional
As it acts as a guide for politicians and economist of the world.
6. Plays a crucial role in investment decisions.
7. It involves element of static(simple equilibrium study) and dynamic analysis(study of complex variables).
8. Based on practical experiences.
9. Technically, macroeconomics is a General Theory
Scope of macroeconomics
Theory of income and employment
Theory of general prices level
Theory of economic growth
Modern theory of distribution
Importance of macroeconomics
●Helpful in understanding the function of any economy.
●Study of national income.
●Helps in formulation of economic policies.
●Helps in study of trade cycles.
●Helps in determining general price level.
●Stimulates economic growth.
●Useful in the study of microeconomics.
●Helps in economic plannings.
●Shows the inter-relationship between different sectors (primary, secondary, tertiary)
Limitations of macroeconomics
■Several conclusions of macroeconomics are based on some total of individual units which may not necessarily be true for the whole economy.
■Heterogeneous units are involved.
■Position of structure of aggregate is more important than the aggregate itself.
■Limited applications
Now moving onto the next very very very important to topic of unit 4😌🤷♂️
National income
"The assessment of money value of all goods and services produced by a country during a period of 1 year is the national income of that country."
Trends of national income
》Excessive dependence on agriculture
》Poor growth rate of GDP and per capita income
》Unequal distribution of wealth
》Poor standard of living
》Growing contribution of tertiary sector
》Unequal growth of different sectors
》Regional disparity
》Urban and rural disparity
》Public and private sector disparities
Video explanations to these topics are also available😌🤷♂️
National income aggregate
There are basically three most important terms of national income🤷♂️
1. GNP (Gross National Product)
2. GDP (Gross Domestic Product)
3. NNP (Net National Product)
1. GNP(Gross National Product)
GNP = GDP + NFIA
☆NFIA = Factor income received from abroad - Factor income paid to overseas residents
☆GNP = C + G + I + NX + NFP
•Consumption expenditure (C)
•Government Expenditure (G)
•Investment Expenditure (I)
•Net Exports (NX)
[Exports - Imports]
•Net Factor Payments (NFP)
[Salaries paid to foreign employees]
2. NNP(Net National Product)
NNP = NDP + NFIA
IMP CONVERSIONS
Market price -----------》Factor price
= MP - NIT
Factor price -----------》Market price
= FC + NIT
[NIT is Net Indirect Taxes = Indirect Taxes - Subsidies]
NDP/NNP -------------》GDP/GNP
Net Income + Depreciation
GDP/GNP -------------》NDP/NNP
Gross Income - Depreciation
3. GDP (Gross Domestic Product)
GDP at factor cost is NATIONAL INCOME.
"Gross Domestic Product is the equivalent value of all products and services produced within the national boundary in the present financial year."
A) Nominal GDP
When GDP is calculated at current market prices then it is termed as Nominal Gross Domestic Product.
It is also referred to as current a dollar GDP or chained dollar GDP.
B) Real GDP
When GDP is evaluated after having all adjustments related to the inflation is termed as Real Gross Domestic Product.
Real GDP is also referred to as a fixed cost price, inflation rectified GDP or fixed GD.
It is the most trustworthy indicator to identify the economic growth of any nation.
Other terms related to National Income
● Private income = National Income/NNP(fc) + Transfer payments + Interest on public debt - Social security - Profit and surplus of public undertakings
●Personal income = NNP(fc)/National income.- undistributed profits - corporate taxes + Transfer payments
●Per capita income = National Income of any year ÷ Population of that year
● Residual income/ Disposable income/ Disposable personal income (DPI) = Personal income - Personal taxes
●Purchasing power parity(PPP)
It is a method through which one can identify the virtual value of two different currencies.
●Growth rate
It is the percentage change in the GDP of a nation annually.
》Positive growth represents expanding economy OR boom period.
》Negative growth rate represents contracting economy OR recession period.
Factors determining level of national income
Natural resources
Labour
Capital
Organisation
Social and political structure
Methods of measurement of National Income
1. Output/Production/Value added method
NI = GNP - depreciation
2.Income method/ National income by distributive shares
NI = Rent + wage + interest + profit + NFIA
Here, GNP = Wages and salaries + rents + interest + dividend + undistributed corporate profits + mixed incomes + Direct taxes + indirect taxes + depreciation + NFIA
3. Expenditure/ Total outlay method
GNP = Individual expenditure + Government expenditure
Importance of measuring national income
1. Reveals overall production performance
2. Helps in analysis of the economy
3. Displays contribution made by various sectors.
4. Shows distribution of national income among different categories(wages, profit, rent, interest, etc).
5. Contains the figure of consumption, saving and investment.
6. Assist in comparison among countries.
7. A valueable guide to economic policy.
Let's move to our next topic inflation
Inflation
"Inflation refers to the substantial and rapid increase in the general price level."
Inflation is generally a monetary phenomenon which is normally associated with high prices which causes decline in the purchasing power of a customer or decline in the value of money.
Features of inflation
●Shows persistent rise in prices.
●It is a state of disequilibrium.
●It is scarcity oriented.
●It is dynamic in nature.
●It is irreversible.
●Inflation is caused by excess demand in relation to supply.
●It is purely a monetary phenomenon.
●It is a post full employment phenomenon (which you will read further).
●It is a long term process.
Types of inflation
There are various types of inflation categorised under different heads:
1. According to rate of price rise
●Creeping inflation
Such kind of inflation, the rise in prices is very slow like that of a snail or creeper
●Walking inflation
It is a such kind of inflation in which rise in price becomes more pronounced as compared to the creeping inflation.
●Running inflation
In such kind of inflation, economy records more than 100% rise in price over a decade.
●Galloping inflation / Hyperinflation
In such kind of inflation, economy records price rise by 100% within a year.
2. According to factors influencing money supply and demand for goods and services
●Excessive money supply inflation
It is a classical type of inflation where money is supplied in excess compared to the actual available goods and services.
●Cost inflation
It is a inflation which emerges on account of rise in factor cost.
●Deficit inflation
It is caused by creating new money, the purchasing power in the community increases and the price rises.
3. According to time
●War time inflation
●Post war inflation
It is a Legacy of War
●Peace-time inflation
It occurs when the production houses decide to be more capital intensive.
4. According to coverage or scope point of view
●Comprehensive inflation
When price of every commodity rises in the economy or when there is a rise in general price level in the economy, then it is comprehensive inflation.
●Sporadic inflation
It is a kind of sectional inflation when prices of only specific goods and services rises.
5. According to governments reactions
●Open inflation
It occurs when government does not attempt to prevent price rise.
●Repressed inflation
It occurs when government interrupts in the price rise and hence, the inflation rate gets suppressed.
6. According to Kenyesian view
Kenyesian economic theory proposes that changes in money supply do not directly affect prices and that visible inflation is the result of pressures in the economy, expressing themselves in prices.
●Built-in inflation
This inflation is linked to price-wage spiral. It happens because of the vicious circle going like when labour demands to increase their wages the producer tries to pass this increased cost to the consumer in the form of raised prices and again the consumer is the labour itself.
●Profit inflation
Kenyesian in his book "Treaties on money" says that, inflation is unjust in its distribution effect, which simply means it makes rich richer and poor poorer.
●Semi inflation/bottle-neck inflation
●True inflation
It occurs post full employment stage.
●Markup inflation
It occurs when industries with monopoly increases the price of their goods and services.
Stages of inflation
1. Pre full employment stage
This stage of inflation is also known as partial or semi inflation or bottleneck inflation.
At this stage the rate of increase in prices is not more than 3% per annum.
2. Full employment stage
Production is optimum at the stage.
The law of constant returns are observed in this stage and when the production starts becoming unable to expand because of all unused factors are fully employeed and thus, price rise is observed more than 10% per annum.
3. Postful employment stage
At this stage true inflation occurs where rise in price is observed without any kind of rise in production and Employment activities the price arise is more than 10% per annum.
Causes of inflation
●Excessive increase in demands for goods and services
●Public expenditure
●Private expenditure
●Increase in exports
●Reduction in taxes
●Rapid growth of population
●Decreased supply of goods and services ●Shortage of factors of production
●Hoarding by traders
●Hoardinh by consumers
●Natural calamities
●International causes
●Law of diminishing Returns
Measurement of inflation
Inflation is measured as the percentage change in a price index.
The consumer price index (CPI) is the most commonly used index for measuring inflation.
Effects of inflation
●Effects on production
》Misallocation of resources
》Changes in the system of transaction
》Reduction in production
》Fall in quality
》Hoarding and black marketing
》Reduction in savings
》Hinders foreign capital
》Encourages speculations
●Distributional effects
》Inflation re-distributes the income in a way that rich becomes richer and poor becomes poorer.
》Debtors gain and creditors lose.
》Corporate sector welcomes large number of new entrepreneurs.
》Adversely hits the wage earners and salaried people.
》Investors in equities gain and investors in debentures, securities, bonds, etc lose.
》Farmers get immensely benefited.
●Other effects
》Adversely affects the balance of payments (BOP).
》Lowers the exchange rate in relation to foreign currencies.
》Revenue of government increases during price rice.
》Inflation is socially harmful.
》It can lead to the downfall of current government.
Measures to control inflation
●Monetary measures
》Credit control through monetary policies
》Demonetisation of currency
》Issue of new currency
●Fiscal measures
》Reduction in unnecessary expenditure
》Increase in taxation
》Increase in savings
》Passing surplus budgets
》Control over investment
●Other measures
》Increasing production
》Using importable raw materials
》Applying rational wage policies
》Price control
》Setting up the upper limit of general price level.
》Rationing
(It aims at distributing consumption of scarce goods so as to make them available to large number of consumers. Example: rice, wheat, sugar, oil, etc.
Inter-sectoral linkage
The term intersectoral linkages is used for defining the linking pattern among the primary, secondary and tertiary sectors of the economy.
The "Theory of unbalanced growth" given by Hirschman forms the basis for the concept of this intersectoral linkage.
Intersectoral linkage can be grouped into two types:
1. Forward linkage
It determines that how the outputs of one sector are distributed by it to the remaining sector of economy.
2. Backward linkage
It determines that how a sector is dependent on other sectors for the supply of inputs.
●Linkage between primary and tertiary sector
The linkage between primary and tertiary sector is generally backward and one-way because the agricultural sector or primary sector is not significantly dependent upon the tertiary sector but the tertiary sector is dependent on primary sector as it is not directly involved in the production of any kind of product.
●Linkage between secondary and tertiary sector
This linkage is usually two-way because both tertiary sector and secondary sector are interdependent on each other. The growth of tertiary sector depends upon the growth of secondary sector.
Now moving onto next heading🤷♂️
Macro-Economic Aggregates
"A set of policies and programs being formulated and implemented by the national government" by coordinating with the central monetary authority, to ensure proper management of the economy, is termed as Macroeconomic Aggregates.
●Real Sector Policies:
The prime objective of such policies is to enhance the demand for domestic investment by encouraging the participation of private sector and promoting the foreign direct investment(FDI).
●Fiscal Policies:
The prime objective of formulating such policies is to strengthen the economy and take it back to the path of growth by improving the financial soundness of the nation.
●Agriculture Policies:
The prime objective of formulating such policies is to introduce measures for ensuring development of the agricultural sector.
Some full forms🤷♂️
QRS (Quantitative Restrictions)
CIP (Central Issue Price)
APL (Above Poverty Line)
Targeted Public Distribution System (TPDS)
●Policy on Manufacturing, Infrastructure and Services:
Such policies fall under the scope of 'economic liberalisation'.
The main objective of such policies is to support and encourage (manufacturing, infrastructure) secondary and service sector e.g. SEZs and SPVs( special purpose vehicles)
●Trade Policies:
The prime purpose of these policies is to facilitate trade activities.
The most important trade policy with respect to Macro Economic aggregate is the Medium-term Export Strategy(MTES).
It is responsible for establishing a road map for the export sector which works within the framework of 10th 5 year plan made by the planning commission.
The MTES has been used to increase the share of India in the world trade.
●Export and import (EXIM) policy:
The exit policies formulated during the five year plan for the period 2000 to 2007 focuses on removing the quantitative restrictions(QRs) on exports.
Some full forms
Assistant to States for Infrastructure Development for Exports(ASIDE)
Agri-export Zones(AEZs)
Khadi and Village Industries Commission(KVIC) Market Access Initiative(MAI)
Export Promotion Capital Goods(EPCG) scheme Free-On-board(FoB)
Fiscal policy
"The governmental policy which deals with taxation expenditure and borrowing and management of the public debt in the economy is referred to as fiscal policy."
It is the primary tool of managing Public Finance.
Fiscal policy comprises of two most important terms "taxation" and "expenditure".
This simply means that fiscal policy deals with management of and decision making upon the public expenditure and pattern of taxes.
Features of fiscal policy
1. Rationalization of product classification codes
This means setting standard product code for defining the structure of indirect taxes in order to reduce dispute among producers.
2. Common accounting year for income-tax.
3. Long term policy
For example: 5 year plans, etc.
4. Formost objective is to impact the ruler employment.
5. Reduction of Black money.
6. Reliance on indirect taxes.
7. Fiscal policy has inflationary potential.
Objectives and roles of formulating fiscal policy
To attain full employment
For economic stabilization
To check on inadequate public sector contribution (corruption, bribery, etc)
Stimulate economic growth
To provide fiscal justice by giving equal distribution of income and wealth
Capital formation
Resource mobilisation
Incentives to private sector
Encouragement of savings
Poverty alleviation and Employment generation
Export promotion
Tools of Fiscal policies
Budget policy
Taxation policy
Public debt
Public expenditure
Monetary policy
Monetary policy is basically an instrument in the hands of Central Bank which is used to control and influence the economic sector trends.
OR simply, it is a policy of Central Bank that helps it to control credit availability, money flow and supply-demand equilibriums.
Features of monetary policy
1. Active policy
Monetary policy of Reserve Bank was a passive policy before the planning a event in 1951 in India.
It means that the monetary policy measures were not used by the Reserve Bank to regulate the credit availability after 1951 and active monetary policy has been followed by the Reserve Bank, since then, all credit control measures have been used.
2. Facilitates flexibility
RBI uses liberal monetary policy
3. Controls money supply
4. Investment and saving oriented
5. Wide range of credit control methods
6. Displays seasonal variations
Objectives of monetary policy
Neutrality of money
Price stabilization
Exchange rate stability
Full employment
Economic growth
Instruments of monetary policies
Broadly there are two types of instruments adopted in monetary policies:
1. Quantitative credit control methods
2. Selective/Qualitative credit control methods
Some methods of quantitative credit control are:
●Bank rate
It is the oldest monetary policy instrument also known as discount rate.
It refers to the minimum rate that Central Bank uses to provide financial accommodation to Commercial Banks as a lender of the last resort in discharge of its function.
It is helpful in discounting bills of exchange and commercial papers and it acts as a long term outlook by providing stability BUT it is the oldest method which is not approached by the commercial banks and hence, it is becoming least used.
●Open market operations
These operations commonly include the sale and purchase of assets like gold, foreign exchange, company shares, etc by RBI.
This stimulates bank rate and supports government credit BUT is unable to benefit every commercial bank in the same way and hence, generating instability within the commercial banks.
●Variations in the Reserve Requirement
The RBI seeks to have impact on the power of commercial banks to avail credit by changing ratios.
Following are the two most important ratios:
1. Cash reserve ratio CRR is the portion of commercial banks' total deposit which is required to be kept as cash reserve with RBI in order to ensure liquidity and regulate the flow of credit.
2. Statutory liquidity ratio SLR is the portion of commercial banks' total deposit which is required to be kept in the form of liquid assets within commercial banks in order to boost economic growth and control inflation rate.
Although these two are clumsy, inflexible and discriminatory methods BUT can be used wisely in order to promote economics stability and steady economic growth.
●Repo rate and reverse repo rate
In case of funds shortage, commercial banks can borrow funds from RBI and the rate of interest at which commercial banks borrow funds from RBI is known as repo rate.
Same process can be adopted by RBI, and the rate of interest at which RBI borrows from the commercial banks is known as reverse repo rate.
●Liquidity adjustment facility
This facility allows commercial banks to borrow money by using repurchase agreements.
Some of these selective qualitative credit control methods are:
●Rationing of credit
Main objective of using this tool is to control and regulate the purpose of using bank credits. This involves setting limit of providing loans, fixing interest on loans, etc.
●Variable interest rates
Different interest rates are charged on different kinds of loan, for example: different interest rates for home loan, personal loan, top-up loan, etc.
●Margin requirement
Margin is the difference between the security value and amount borrowed against that.
Pre-determined margin requirements by RBI helps to keep a control on banks for providing credits to the customers.
Importance of monetary policy
●It eases the availability of supply of money and credit.
●Controls inflation or deflation.
●Promotes effective Central banking.
●Regulates integrated interest rate structure.
●Provides long term loans for industrial development.
Challenges faced by monetary policy
●Poor banking habits of Indians.
●Under developed money market.
●Existence of blank money.
●Limited role in controlling prices.
●Lack of coordination with fiscal policy.
Let's move to the next heading🤷♂️😌
Profit analysis
Profit is taken as an incentive received by risk lover entrepreneurs when the revenue from selling a given amount of output exceeds the total cost incurred in producing that output.
Total Profits = Total Revenue(TR) - Total Costs(TC)
"Profit is defined as a monetary form of benefit."
Nature of Profit
Residual Income
Fluctuates
Can be negative (can suffer losses)
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