INDIFFERENCE CURVE ANALYSIS

An indifference curve is a locus of point representing the combination of two commodities that provide an individual with a given level of satisfaction. Provided a consumer has more of one commodity he must give up some units of the other commodity to compensate and still maintain the same total satisfaction; therefore an indifference curve must slope downwards from left to right. 

OLIGOPOLY

An oligopoly is a market situation where a few firms dominate the market selling homogeneous or differentiated products interdependent with respect to pricing and output decisions.

PRICE DISCRIMINATION

Price discrimination exists when the same product is sold at different prices to different buyers. The cost of production is either the same or different but not so much as the difference prices charged. The product is basically the same, but it may have slight differences (for example, different binding of the same book; different location of seats in a theatre; different seats in an aircraft or a train). The identical product, produced at the same cost is sold at different prices, depending on the preference of the buyers, their income, their location and the ease of availability of substitutes.

MONOPOLISTIC COMPETITION

Most markets have neither large number of sellers selling homogeneous product necessary to qualify as perfectly competitive market structure nor the single seller required to meet the definition of a monopoly. Where the number of sellers is large and the product differentiated, the model of monopolistic competition is a useful tool for analyzing price and output decisions. An important contribution is the model of monopolistic competition developed by Edward Chamberlin. Chamberline observed that even in markets with a large number of sellers, the products of individual firms are rarely homogeneous.

PRICING UNDER MONOPOLY

Monopoly may be described as a market situation in which there is a single seller, with no close substitutes for the commodity it produces and there are barriers to entry. A monopolist faces a downward-sloping demand curve for the market. For a firm to continue as a monopolist in the long run, there must be factors that prevent the entry of other firms. Absence of close substitutes means that the product of the monopolist must be highly differentiated from other goods.  The monopolized firm constitutes the whole industry and therefore, equilibrium of the monopoly firm signifies the equilibrium of the industry. According to Joel Deal, a monopoly market is one in which ‘ a product of lasting distinctiveness is sold. The monopolized product has distinct physical properties recognized by its buyers and the distinctiveness lasts over many years’

PERFECT COMPETITION

Pricing in the Short Run: Equilibrium of the Firm
Short period is the span of time so short that existing plants cannot be extended and new plants cannot be erected to meet increased demand. However, the time is adequate enough for producers to adjust to some extent their output to the increase in demand by overworking their fixed capacity plants. In the short run, therefore, supply curve is elastic.
Figure 3 shows the average and marginal cost curves of the firm together with its demand curve. Demand curve, in a perfectly competitive market, is also the average revenue curve and the marginal revenue curve of the firm. The marginal cost intersects the average cost at its minimum point. The U-shape of both the cost curves reflects the law of variable proportions operative in the short run during which the size of the plant remains fixed. The firm is in equilibrium at the point B where the marginal cost curve intersects the marginal revenue curve from below.

LARGE NUMBER OF BUYERS AND SELLER

The market under perfect competition includes a large number of small sellers that no single seller is able to exert significant influence over price. Each individual firm supplies only a small fraction of the total supply offered in the market. Sellers are price takers who can sell all that they can produce at market-determined price. Similarly there is large number of small buyers that no buyer can affect the price. All buyers are price-takers too.

HOMOGENEOUS PRODUCT
All firms in the perfectly competitive market produce a homogeneous product. One firm’s output cannot be distinguished from that of other producers. As a result, purchasing decisions are based entirely on price. If the firm sets its price above the market-determined level, its buyers will go away to other sellers. Price-cutting is unnecessary because producers can sell their total output at the market price.

FREE ENTRY AND EXIT
Perfect competition assumes free entry and exit from an industry. If market-determined price is greater than average cost, firm earns super-normal profits, resources can be mobilized to create new firms or to expand the production capacity of existing firms. If profits are below average cost resources can easily be transferred from the industry to produce other products at higher profit rates.

PROFIT MAXIMIZATION
Firms pursue no other goals. The goal of all firms is profit maximization. 

NO GOVERNMENT INTERVENTION
The perfect competition rules out government intervention in the market in the form of tariffs, subsidies, rationing of production or demand.

PERFECT MOBILITY 
The factors of production (labor and capital) can freely move from one firm to another throughout the economy. The assumption implies that workers can move between different jobs and the labor is not unionized. Raw materials and other factors are not monopolized. In brief, there is perfect competition in the factor-market.

PERFECT KNOWLEDGE
All buyers and sellers are assumed to have complete knowledge of the market not only of the prevailing conditions in the current period but in all future periods and so rules out the uncertainty about future developments in the market.

Price Determination under Perfect Competition
Perfect competition is defined as a market situation where there are a large number of sellers of a homogeneous product. An individual firm supplies a very small portion of the total output and is not powerful enough to exert an influence on the market price. A single buyer, however large, is not in a position to influence the market price. Market price in a perfectly competitive market is determined by the interaction of the forces of market demand and market supply. Market demand means the sum of the quantity demanded by individual buyers at different prices. Similarly, market supply is the sum of quantity supplied by the individual firms in the industry. Each seller and buyer takes the price as determined. Therefore, in a perfect competition, the main issue for a profit- maximizing firm is not to determine the price of its product but to adjust its output to the market price so that profit is maximized. Price determination under perfect competition is analyzed under three different time periods:

(a) Market period
(b) Short run
(c) Long run 
(i) Market period

In a market period, the time span is so short that no firm can increase its output. The total stock of the commodity in the market is limited. The market period may vary depending upon the nature of the product. For example, in the case of perishable commodities like vegetables, fish, eggs, the period may be a day. Since the supply of perishable commodities is limited by the quantity available or stock in day that neither can be increased nor can be withdrawn for the next period, the whole of it must be sold away on the same day, whatever may be the price. 

Fig. 1  shows that the supply curve of perishable commodities like fish is perfectly inelastic and assumes the form of a vertical straight line SS. Let us suppose that the demand curve for fish is given by dd. Demand curve and supply curve intersect each other at point R, determining the price OP. If the demand for fish increases suddenly, shifting the demand curve upwards to d’d’.

The equilibrium point shift from R to R” and the price rises to OP’. In this situation, price is determined solely by the demand condition that is an active agent.

Similarly if the demand for a product is given as shown in demand curve SS in figure 2 . If the supply of the product decreases suddenly from SS to S’S’, the price increases from P to P’. In this case price is determined by supply, the supply being an active agent. In this case supply curve shifts leftward causing increase in price of the reduced supply goods. Given the demand curve dd and supply curve SS, the price is determined at OP. Demand curve remaining the same, the decrease in supply shifts the supply curve to its left to S’S’. Consequently, the price rises from OP to OP’. 

The firm supplies OQ output. The QC is the average cost and the firm earns total profit equal to the area shown by ABCD. The firm maximizes its profit. Earlier to the point of equilibrium, the firm does not attain the maximum profit as each additional unit of output brings more revenue that its cost. Any level of output greater than OQ brings less marginal revenue than marginal cost. For the equilibrium of a firm the two conditions must be fulfilled:


(a) The marginal cost must be equal to the marginal revenue. But, this condition is not sufficient, since this condition may be fulfilled, yet the firm may not attain equilibrium. Accompanying figure shows that
 marginal cost is equal to marginal revenue at point e’, yet the firm is not in equilibrium as Oq output is greater than Oq’

(b) The second and necessary condition for equilibrium requires that the marginal cost curve cuts the marginal revenue curve from below i.e. the marginal cost curve be rising at the point of intersection with the marginal revenue curve.

Thus, a perfectly competitive firm will adjust its output at the point where its marginal cost is equal to marginal revenue or price, and marginal cost curve cuts the marginal revenue curve from below.

The fact that a firm is in equilibrium does not imply that it necessarily earns supernormal profits. In the short-run equilibrium firms may earn super-normal profits, normal profits or may incur losses.

Whether the firm makes supernormal profits, normal profits or incurs losses depends on the level of the average cost at the short run equilibrium. If the average cost is below the average revenue, the firm earns supernormal profits.

Figure 5 illustrates that the average cost QC is less than average revenue QB, and the firm earns profits equal to the area ABCD.

COST ANALYSIS

Firms make decisions in their quest for profit. Firms in perfectly competitive industries make three specific decisions.

1.      How much output to supply.

2.      Which production technique/technology to use?

3.      What quantity of each input to demand?

All these decisions are made in non-competitive industries as well. Because firms in perfectly competitive markets are price-takers in both input and output markets, many decisions depend on prices over which firms have no control. Cost functions are derived functions. They are derived from the production function, which focuses on the cost of production. To calculate costs, a firm must know two things: the quantity and combination of inputs it needs to produce its output and how much these inputs cost.

FOREIGN EXCHANGE

The understanding of foreign exchange is a must for Multi- national Enterprises and small export and import companies if they want to be effective. The exchange rate can exercise an influence on a wholesaler or a retailer where they buy or sell products. It also can influence a manufacturer who buys raw materials or components and produces products or can affect the location of capital that a company needs in order to expand.

PRICING STRATEGIES

There are pricing theories based on the profit maximization hypothesis. Firms follow a variety of pricing rules and methods other than the marginal rule depending on the conditions they face. Here we discuss some important pricing strategies and pricing practices.

BALANCE OF PAYMENTS

The balance of payments is a record of one country's trade dealings with the rest of the world. It aims to provide an account of all receipts and payments on account of goods residents of the country export, render services and receive capital and residents of the country import goods, receive services d and transfer capital.

The balance of payments is usually divided into two sections:

1.  The current account that deal with international trade in goods and services;

2.  Transactions in assets and liabilities which deals with overseas flows of money from international investments and loans; 

METHODS OF MEASURING NATIONAL INCOME

There are three angles through which people perform economic activities, earn their living, produce goods and services and distribute the national products.

(1)     The national economy is viewed as an aggregate of producing units combining different sectors.

(2)     The entire national economy is considered as a combination of individuals and households having several factors of production.

(3)     The national economy may also be viewed as an aggregate of consumers, money savers and total investments.  

CONCEPTS OF MANAGERIAL ECONMICS

There are certain  concepts which are significant in Managerial Economics.

Incremental Reasoning

The concept of incremental reasoning involves estimating the impact of a decision alternative on cost and revenues, emphasizing the change in total cost and total revenue resulting from variations in products, prices, procedures, investments or whatever at stake in the decision. Incremental cost and incremental revenue are the two basic components of incremental reasoning. Incremental cost or incremental revenue is the variation in total cost due to a particular decision. 

MANAGERIAL ECONOMICS AND OTHER DISCIPLINES

Managerial Economics is essentially the study of the application of economic tools and techniques to the economic analysis of business problems. In addition to Economics, there are, however, certain other disciplines from which economic analysis draws its tools. The most important of them are Management theory, Theory of Decision-making, Mathematics, Statistics, Accounting, Computer Science, and Operations Research.

MEASURES OF NATIONAL INCOME

The commonly discussed measures of national income are Gross National Product, Gross Domestic Product,  Net National Product,  Personal Income, Disposable Income and Real Income

NATIONAL INCOME

 The national income of a nation is the value of the contribution through the production units in the country and abroad. It is, thus the flow of net final goods and services resulting from the production activities of the normal residents of a country during the year. National Income is the sum total of all the goods and services produced in a country in a period of one year. The level of national income determines the level of aggregate demand for goods and services. National Income is the sum of factor income earned by the normal residents of a country in the form of remuneration to the factors of production in an accounting year. 

OBJECTIVES OF DEMAND FORECASTING

There are various objectives of demand forecasting that may be broadly divided into two categories:
(a) The short term objectives and,
 (b) The long term objectives.

FISCAL POLICY

Fiscal policy refers to the regulation of the level of government spending, taxation and public debt. The government uses its’ expenditure and revenue programs to generate desirable effects and avoid undesirable effects on the national income, production and employment.  It is the most important macroeconomic tool in the hand of government for intervention in the economy which the economists now consider essential in the matter of defeating recession or inflation or promoting and accelerating economic growth

MONETARY POLICY

The central bank’s policy relating to the control of the availability, cost and use of money and credit with the help of monetary measures to achieve the specific objectives of macroeconomic policy is known as monetary policy. It is the Central Bank of a country that formulates and implements the monetary policy in that country.

MARGINAL EFFICIENCY OF CAPITAL

The marginal efficiency of capital means the expected rate of profit, the expected rate of return over cost or the expected profitability of a capital asset. It is the highest rate of return over the cost expected from an additional or marginal unit of that capital asset. It is expressed as the ratio between the prospective yields of additional capital assets and their supply price. Symbolically,   e= Q/P, where, e is the marginal efficiency of capital, Q is the expected yield of return of a capital asset for a unit of time, and, P is the supply price of this asset.  

MARGINAL PROPENSITY TO IMPORT

The multiplier might ignore foreign economic effects that are important for countries with a large foreign trade sector. Consider a rise in UK investment partially spent on imports will increase the national income of another economy and might therefore lead to a further rise in UK exports. This would create further multiplier effects.