Beruflich Dokumente
Kultur Dokumente
of Economics
MEANING OF ECONOMICS
The word Economics originates from the Greek work Oikonomikos which can be
divided into two parts:
(a) Oikos, which means Home, and
(b) Nomos, which means Management.
Thus, Economics means Home Management. The head of a family faces the
problem of managing the unlimited wants of the family members within the limited
income of the family. In fact, the same is true for a society also. If we consider the whole
society as a family, then the society also faces the problem of tackling unlimited wants
of the members of the society with the limited resources available in that society. Thus,
Economics means the study of the way in which mankind organises itself to tackle the
basic problems of scarcity. All societies have more wants than resources.
DEFINITIONS OF ECONOMICS
We have now formed an idea about the meaning of Economics. This at once leads to a
general definition of Economics. Economics is the social science that studies economic
activities
These definitions can be classified into four groups:
1. Wealth definitions,
2. Material welfare definitions,
3. Scarcity definitions,
Ada m Smith s De f inition
Adam Smith, considered to be the founding father of modern Economics, defined
Economics as the study of the nature and causes of nations wealth or simply as the study of
wealth.
MACROECONOMICS
MICROECONOMICS
Aggregate consumption
Individual consumption
Individual expenditure
M.H. Spencer and Louis Siegelman have defined managerial economics as the
integration of economic theory with business practice for the purpose of facilitating
decision-making and forward planning by management.
Prescriptive in nature: Managerial economics actually prescribes the ways through which
a business firm can achieve its goal within its constraints. It prescribes the policies that
should be undertaken by any business firm for achieving its specific target. Hence,
managerial economics is not concerned with mere description of economic theories.
Every business firm has to produce different products keeping an eye on the demand
pattern. So demand analysis is necessary for any business firm.
The production and cost analysis are necessary to undertake proper project planning. In
fact, in a competitive business environment, the existence of a firm depends much on
its cost-competitiveness.
Generally, the main objective of a business firm is to earn maximum profit. However, a
modern firm many have some other objectives such as maximisation of sales revenue,
minimisation of risk component, etc. Thus, an analysis of the alternative objectives of
any business firm becomes relevant.
Any business firm has to fix its product-price in such a manner that it can cover not
only its average cost of production but also create some profit margin.
Thus, analysis of pricing policy becomes pertinent. Capital-investment decisions or
capital budgeting refers to the process of planning expenditure (by any business firm)
which would generate returns over a particular time span.
So, the exercise of capital budgeting also comes under the purview of managerial
economics.
Steps in the Process of Managerial Decision-Making
Simply speaking, there are two broad steps in the process of managerial decision-making:
1. Define Objective
2. Research
3. Prepare Alternatives & choose the best
4. Implement
5. Evaluate
Functional Aspects of Decision-Making
The decision-making process in managerial economics can also be analysed from the view
point of various functions of any entrepreneur (viz., production, finance, marketing, purchase
of inputs, etc.)
The decision variables can be identified for each of those functions.
6. Legal Tax laws, pollution control regulations, labour laws, licensing policies, export-
import policies, etc.
While economic profit includes theoretical estimations of loss based on opportunity cost and
value, accounting profit is the actual revenue calculations generated by bookkeepers.
In other words, bookkeepers see accounting profit in dollars that have actually been spent and
earned. As a result, a firm might generate a noticeable accounting profit, but if it experiences
a hefty loss in opportunity cost, its economic profit could be negligible.
Definition of Profit Maximization
Profit Maximization is the capability of the firm in producing maximum output with the
limited input or it uses minimum input for producing stated output. It is termed as the foremost
objective of the company.
It has been traditionally recommended that the obvious motive of any business organization is
to earn profit, it is essential for the success, survival and growth of the company. Profit is a
long term objective, but it has a short term perspective i.e. one financial year. Profit play a
vital role in the profit maximization.
It can be calculated by deducting total cost from total revenue. Through profit maximization a
firm can be able to ascertain the input output levels, which gives the highest amount of
profit. Therefore, the finance officer of an organization should, take his decision in the
direction of maximizing profit, although it is not the only objective of the company.
Wealth maximization is the ability of a company to increase the market value of its common
stock over time. The market value of the firm is based on many factors like their goodwill,
sales, services, quality of products, etc.
It is the versatile goal of the company and highly recommended criterion for evaluating the
performance of a business organization. This will help the firm to increase their share in the
market, attain leadership, maintain consumer satisfaction and many other benefits are also
there.
It has been universally accepted that the fundamental goal of the business enterprise is to
increase the wealth of its shareholders, as they are the owners of the undertaking and they buy
the shares of the company with the expectation that it will give some return after a period of
time. This states that the financial decisions of the firm should be taken in such a manner that
will increase the Net Present Worth of the companys profit. The value is based on two
factors:
Key Differences Between Profit Maximization and Wealth Maximization
The major differences between profit maximization and wealth maximization are:
The process through which the company is capable of increasing is earning capacity is
known as Profit Maximization. On the other hand, the ability of the company in
increasing the value of its stock in the market is known as wealth maximization.
Profit maximization is a short term objective of the firm while long term objective is
Wealth Maximization.
Profit Maximization ignores risk and uncertainty. Unlike Wealth Maximization, which
considers both.
Profit Maximization avoids time value of money, but Wealth Maximization recognizes
it.
Profit Maximization is necessary for the survival and growth of the enterprise.
Conversely, Wealth Maximization accelerates the growth rate of the enterprise and
aims at attaining maximum market share of the economy.
Objectives of Firm;
Major objectives that a firm wants to achieve apart from earning profit are as follows:
An objective is something that the firm wants to achieve over a specific period of time. It is
presumed that business has the only objective of earning profit.
But today one cannot deny the fact that along with profit maximization the business also has
certain objectives towards the society as well as the nation. The business unit can prosper only
if it enjoys the support of the society. It also aims at contributing to the national goals.
a. Survival
b. Utilization
c. Growth
d. Profit
e. Revenue
a. Survival:
Profit earning is regarded as a main objective of every business unit. But it is essential for the
survival and growth of every business enterprise. To survive means, to live longer.
Survival is the primary and fundamental objective of every business firm.
The business cannot grow until and unless it survives in a competitive business world. Due to
intense global competition, survival has become extremely difficult for the organisation.
b. Growth:
Growth comes after survival. It is the second major business objective after survival. Growth
refers to an increase in the number of activities of an organisation. It is an important organic
objective of an organisation. Business takes place through expansion and diversification.
Business growth benefits promoters, shareholders, consumers and the national economy.
Resources comprises of physical, human and capital that has to optimally utilise for making
profit. The availability of these resources is usually limited. So the firm should make best
possible use of these resources, wastage of the limited resource should be avoided.
d. Profit:
The primary objective of every business is to earn profit. Profit is the lifeblood of business,
without which no business can survive in a competitive-market. Profit is the financial gain or
excess of return over investment.
It is the reward for bearing risk and uncertainty in the business. It is a lubricant, which keeps
the wheels of business moving. Profit is essential for the survival, growth and expansion of the
business.
UNIT -2
Demand Forecasting Techniques
There are several methods of demand forecasting applied in terms of; the purpose of
forecasting, data required, data availability and the time frame within which the demand is to
be forecasted. Each method varies from one another and hence the forecaster must select that
method which best suits the requirement.
Survey Methods: Under the survey method, the consumers are contacted directly and are
asked about their intentions for a product and their future purchase plans. This method is
often used when the forecasting of a demand is to be done for a short period of time. The
survey method includes:
Statistical Methods: The statistical methods are often used when the forecasting of demand
is to be done for a longer period.
The statistical methods utilize the time-series (historical) and cross-sectional data to estimate
the long-term demand for a product. The statistical methods are used more often and are
considered superior than the other techniques of demand forecasting due to the following
reasons:
The estimation method is scientific and depends on the relationship between the dependent
and independent variables.
The estimates are more reliable Also, the cost involved in the estimation of demand is the
minimum.
Barometric Methods
Econometric Methods
These are the different kinds of methods available for demand forecasting. A forecaster must
select the method which best satisfies the purpose of demand forecasting.
UNIT- III
Cost Concepts
There are several costs that a firm should consider under relevant circumstances. It is quite
essential for a firm to understand the difference between various cost concepts for the
purpose of production/business decision making. The following are the various cost
concepts/types of costs.
If a firm owns a land, there is no cost of using the land (ie., the rent) in the firms account.
But the firm has an opportunity cost of using the land, which is equal to the rent forgone by
not letting the land out on rent.
Postponable costs are those which if not incurred in time do not effect the operational
efficiency of the firm. Examples are maintenance costs.
Full costs include business costs, opportunity costs, and normal profits. Opportunity costs is
the expected return/earnings from the next best use of the firms resources like capital, land
and building, owners efforts and time. Normal profits is necessary minimum earning in
addition to the opportunity costs, which a firm must receive to remain in its present
occupation.
Average Cost (AC) , refers to the cost per unit of output assuming that production of each
unit incurs the same cost. It is statistical in nature and is not an actual cost. It is obtained by
dividing Total Cost(TC) by Total Output(Q)
AC= TC/Q
Marginal costs(MC), refers to the additional costs that are incurred when there is an addition
to the existing output level of goods ans services. In other words, it is the addition to the Total
Cost(TC) on account of producing additional units.
Short Run Cost: These costs are which vary with the variation in the output with size of the
firm as same. Short run costs are same as variable costs. Broadly, short run costs are
associated with variable inputs in the utilization of fixed plant or other requirements.
Long Run Cost: These costs are which incurred on the fixed assets like land and building,
plant and machinery etc., Long run costs are same as fixed costs. Usually, long run costs are
associated with variations in size and kind of plant.
Break Even Analysis:
Introduction
Total variable and fixed costs are compared with sales revenue in order to determine the level
of sales volume, sales value or production at which the business makes neither a profit
nor a loss (the "break-even point").
In its simplest form, the break-even chart is a graphical representation of costs at various
levels of activity shown on the same chart as the variation of income (or sales, revenue) with
the same variation in activity. The point at which neither profit nor loss is made is known as
the "break-even point" and is represented on the chart below by the intersection of the two
lines:
In the diagram above, the line OA represents the variation of income at varying levels of
production activity ("output"). OB represents the total fixed costs in the business. As output
increases, variable costs are incurred, meaning that total costs (fixed + variable) also increase.
At low levels of output, Costs are greater than Income. At the point of intersection, P, costs
are exactly equal to income, and hence neither profit nor loss is made.
Fixed Costs
Fixed costs are those business costs that are not directly related to the level of production or
output. In other words, even if the business has a zero output or high output, the level of fixed
costs will remain broadly the same. In the long term fixed costs can alter - perhaps as a result
of investment in production capacity (e.g. adding a new factory unit) or through the growth in
overheads required to support a larger, more complex business.
Variable Costs
Variable costs are those costs which vary directly with the level of output. They represent
payment output-related inputs such as raw materials, direct labour, fuel and revenue-related
costs such as commission.
A distinction is often made between "Direct" variable costs and "Indirect" variable costs.
Direct variable costs are those which can be directly attributable to the production of a
particular product or service and allocated to a particular cost centre. Raw materials and the
wages those working on the production line are good examples.
Indirect variable costs cannot be directly attributable to production but they do vary with
output. These include depreciation (where it is calculated related to output - e.g. machine
hours), maintenance and certain labour costs.
Semi-Variable Costs
Whilst the distinction between fixed and variable costs is a convenient way of categorizing
business costs, in reality there are some costs which are fixed in nature but which increase
when output reaches certain levels. These are largely related to the overall "scale" and/or
complexity of the business. For example, when a business has relatively low levels of output
or sales, it may not require costs associated with functions such as human resource
management or a fully-resourced finance department. However, as the scale of the business
grows (e.g. output, number people employed, number and complexity of transactions) then
more resources are required. If production rises suddenly then some short-term increase in
warehousing and/or transport may be required. In these circumstances, we say that part of the
cost is variable and part fixed.
Marginal Utility is the utility at the point where the consumer stops further consumption of a
commodity.
It is well known that the more we have of a commodity, the less we want to have more of it.
It is the experience of every consumer that as he goes on consuming a particular commodity,
each successive unit of the commodity yields him less and less satisfaction.
In other words, at each step its utility (marginal utility, not total utility) goes on decreasing.
Thus if we are very thirsty and buy a drink to quench our thirst, the drink will yield a great
deal of satisfaction at first. After the consumption of the first drink, however, we would not
like to have another, because our want has been practically satisfied. This is the case with
most of the commodities.
The following table relating to an imaginary consumer consuming rasgullas illustrates the
law:
As the consumer goes on eating rasgullas, the additional or marginal utility goes on
decreasing. At certain point of time say for example at 7th rasgulla yields no additional
satisfaction and the 8th and 9th have a negative utility. Their consumption, instead of giving
satisfaction or pleasure, causes dissatisfaction.
In Taxation:
We have seen that the law is applicable in the sphere of taxation a mans income increases; he
is more heavily taxed, for the utility of money to a rich person is less than that to a poor
person. The principle of progressive taxation is based on this law.
In Determining Prices:
The law also applies to the determination of market price increase in the stock of a
commodity brings a person less satisfaction; therefore he can be induced to buy more only if
the price is lowered. Thus, great the supply, the lower should be the price to clear it, and vice
versa.
In Support of Socialism:
Socialists, take their stand on this law when they advocate a more equal distribution of
Wealth. They argue that excessive wealth in the hands of the rich is not so useful from the
social point of view, as it would be if the excess of wealth is transferred the poor. In the hands
of the poor, it will satisfy more urgent needs. It is due to the law of diminishing marginal uti-
lity that, beyond a certain point, wealth will have less utility for a rich man. If it is transferred
to the poor, it will have much greater utility.
In Household Expenditure:
The law of diminishing marginal utility regulates our daily expenditure. We know that as we
go on buying more of a commodity, its marginal utility falls. Having only a limited amount of
money at our disposal, we cannot waste it unnecessarily on a large quantity of any one
commodity. We, therefore, stop purchasing it at a point where the utility of money spent is
equal to the utility of the last unit of the commodity purchased. We spend the rest of our
money on some other commodities.
Several very important laws and concepts of Economics arc based on the law of diminishing
marginal utility, e.g., the Law of Demand, the concept of Consumers surplus, the concept of
Elasticity of demand, the Law of Substitution. All these laws and concepts have ultimately
been derived from the Law of diminishing Marginal Utility
Law of Variable Proportions occupies an important place in economic theory. This law is also
known as Law of Proportionality.
Keeping other factors fixed, the law explains the production function with one factor
variable. In the short run when output of a commodity is sought to be increased, the law of
variable proportions comes into operation.
Land is a fixed factor whereas labour is a variable factor. Now, suppose we have a land
measuring 5 hectares. We grow wheat on it with the help of variable factor i.e., labour.
Accordingly, the proportion between land and labour will be 1: 5. If the number of laborers is
increased to 2, the new proportion between labour and land will be 2: 5. Due to change in the
proportion of factors there will also emerge a change in total output at different rates. This
tendency in the theory of production called the Law of Variable Proportion.
Definitions:
(iv) Short-Run:
In order to understand the law of variable proportions we take the example of agriculture.
Suppose land and labour are the only two factors of production.
By keeping land as a fixed factor, the production of variable factor i.e., labour can be shown
with the help of the following table:
From the table 1 it is clear that there are three stages of the law of variable proportion. In the
first stage average production increases as there are more and more doses of labour and
capital employed with fixed factors (land). We see that total product, average product, and
marginal product increases but average product and marginal product increases up to 40
units. Later on, both start decreasing because proportion of workers to land was sufficient and
land is not properly used. This is the end of the first stage.
The second stage starts from where the first stage ends or where AP=MP. In this stage,
average product and marginal product start falling. We should note that marginal product falls
at a faster rate than the average product. Here, total product increases at a diminishing rate. It
is also maximum at 70 units of labour where marginal product becomes zero while average
product is never zero or negative.
The third stage begins where second stage ends. This starts from 8th unit. Here, marginal
product is negative and total product falls but average product is still positive. At this stage,
any additional dose leads to positive nuisance because additional dose leads to negative
marginal product.
In the long run all factors of production are variable. No factor is fixed. Accordingly, the
scale of production can be changed by changing the quantity of all factors of production.
Definition:
The term returns to scale refers to the changes in output as all factors change by the same
proportion.
In the long run, output can be increased by increasing all factors in the same proportion.
Generally, laws of returns to scale refer to an increase in output due to increase in all factors
in the same proportion. Such an increase is called returns to scale.
P = f (L, K)
Now, if both the factors of production i.e., labour and capital are increased in same proportion
i.e., x, product function will be rewritten as.
The above stated table explains the following three stages of returns to scale:
1. Increasing Returns to Scale:
Increasing returns to scale or diminishing cost refers to a situation when all factors of
production are increased, output increases at a higher rate. It means if all inputs are doubled,
output will also increase at the faster rate than double. Hence, it is said to be increasing
returns to scale. This increase is due to many reasons like division external economies of
scale. Increasing returns to scale can be illustrated with the help of a diagram 8.
In figure 8, OX axis represents increase in labour and capital while OY axis shows increase in
output. When labour and capital increases from Q to Q1, output also increases from P to
P1 which is higher than the factors of production i.e. labour and capital.
Diminishing returns or increasing costs refer to that production situation, where if all the
factors of production are increased in a given proportion, output increases in a smaller
proportion. It means, if inputs are doubled, output will be less than doubled. If 20 percent
increase in labour and capital is followed by 10 percent increase in output, then it is an
instance of diminishing returns to scale.
The main cause of the operation of diminishing returns to scale is that internal and external
economies are less than internal and external diseconomies. It is clear from diagram 9.
In this diagram 9, diminishing returns to scale has been shown. On OX axis, labour and
capital are given while on OY axis, output. When factors of production increase from Q to
Q1 (more quantity) but as a result increase in output, i.e. P to P1 is less. We see that increase
in factors of production is more and increase in production is comparatively less, thus
diminishing returns to scale apply.
Constant returns to scale or constant cost refers to the production situation in which output
increases exactly in the same proportion in which factors of production are increased. In
simple terms, if factors of production are doubled output will also be doubled.
In this case internal and external economies are exactly equal to internal and external
diseconomies. This situation arises when after reaching a certain level of production,
economies of scale are balanced by diseconomies of scale. This is known as homogeneous
production function. Cobb-Douglas linear homogenous production function is a good
example of this kind. This is shown in diagram 10. In figure 10, we see that increase in
factors of production i.e. labour and capital are equal to the proportion of output increase.
Therefore, the result is constant returns to scale.
The Cobb-Douglas production function represents the relationship between two or more
inputs, typically physical capital and labor, and the amount of outputs that can be produced.
It's a commonly used function in macroeconomics and forecast production.
In 1928, Charles Cobb and Paul Douglas presented the view that production output is the
result of the amount of labor and physical capital invested. This analysis produced a
calculation that is still in use today, largely because of its accuracy.
K represents the amount of physical capital input, such as the number of hours a particular
machine, operation, or perhaps factory.
A (may appear as a lower case b in some versions) represents the total factor productivity
(TFP) that measures the change in output that isn't the result of the inputs. Typically, this
change in TFP is the result of an improvement in efficiency or technology.
The Greek characters alpha and beta reflect the output elasticity of the inputs. Output
elasticity is the change in the output that results from a change in either labor or physical
capital.
For example, if the output elasticity for physical capital (K) is 0.60 and K is increased by 20
percent, then output increases by 3 percent (0.6/0.2). The same is true for the output elasticity
of labor (L): an increase of 10 percent in L with an output elasticity of 0.40 increases the
output by 4 percent (0.4/.1).
The concept of indifference curve analysis was first propounded by British economist Francis
Ysidro Edgeworth and was put into use by Italian economist Vilfredo Pareto during the early
20thcentury. However, it was brought into extensive use by economists J.R. Hicks and R.G.D
Allen.
Hicks and Allen criticized Marshallian cardinal approach of utility and developed
indifference curve theory of consumers demand. Thus, this theory is also known as ordinal
approach.
Indifference curve
An indifference curve is a locus of all combinations of two goods which yield the same level
of satisfaction (utility) to the consumers.
Since any combination of the two goods on an indifference curve gives equal
level of satisfaction, the consumer is indifferent to any combination he
consumes. Thus, an indifference curve is also known as equal satisfaction curve or iso-
utility curve.
On a graph, an indifference curve is a link between the combinations of quantities which the
consumer regards to yield equal utility. Simply, an indifference curve is a graphical
representation of indifference schedule.
The table given below is an example of indifference schedule and the graph that follows is
the illustration of that schedule.
Assumptions of indifference curve
The indifference curve theory is based on few assumptions. These assumptions are
Two commodities
It is assumed that the consumer has fixed amount of money, all of which is to be spent only
on two goods. It is also assumed that prices of both the commodities are constant.
Non satiety
Satiety means saturation. And, indifference curve theory assumes that the consumer has not
reached the point of satiety. It implies that the consumer still has the willingness to consume
more of both the goods. The consumer always tends to move to a higher indifference curve
seeking for higher satisfaction.
Marginal rate of substitution may be defined as the amount of a commodity that a consumer
is willing to trade off for another commodity, as long as the second commodity provides same
level of utility as the first one.
Rational consumers
According to this theory, a consumer always behaves in a rational manner, i.e. a consumer
always aims to maximize his total satisfaction or total utility.
There are four basic properties of an indifference curve. These properties are
An indifference curve can neither be horizontal line nor an upward sloping curve.
This is an important feature of an indifference curve.
When a consumer wants to have more of a commodity, he/she will have to give up
some of the other commodity, given that the consumer remains on the same level of
utility at constant income. As a result, the indifference curve slopes downward from
left to right.
In the above diagram, IC is an indifference curve, and A and B are two points which represent
combination of goods yielding same level of satisfaction.
We can see that when X1 amount of commodity X was consumed, Y1 amount of commodity
Y was also consumed. When the consumer increased the consumption of commodity X to
X2, the amount of commodity Y fell to Y2. And, thus the curve is sloping downward from
left to right.
Also, two goods can never perfectly substitute each other. Therefore, the rate of decrease in a
commodity cannot be equal to the rate of increase in another commodity.
The above table represents various combination of coffee and cigarette that gives a man same
level of utility. When the man drinks 12 cup of coffee, he consumes 1 cigarette every day.
When he started consuming two cigarettes a day, his coffee consumption dropped to 8 cups a
day. In the same way, we can see other combinations as 3 cigarettes + 5 cup coffee, 4
cigarettes + 3 cup coffee and 5 cigarettes + 2 cup coffee.
We can clearly see that the rate of decrease in consumption of coffee is not the same as rate of
increase in consumption of cigarette. Similarly, rate of decrease in consumption of coffee has
gradually decreased even with constant increase in consumption of cigarette.
The level of satisfaction of consumer for any given combination of two commodities is
same for a consumer throughout the curve. Thus, indifference curves cannot intersect
each other.
The following diagram will help you understand this property clearer.
In the above image, IC1 and IC2 are two indifference curves and C is the point where both
the curves intersect.
Higher the indifference curves, higher will be the level of satisfaction. This means, any
combination of two goods on the higher curve give higher level of satisfaction to the
consumer than the combination of goods on the lower curve.
In the above figure, IC1 and IC2 are two indifference curves, and IC2 is higher than IC1. We
can also see that Q is a point on IC2 and S is a point on IC2.
Combination at point Q contains more of both the goods (X and Y) than that of the
combination at point S. We know that total utility of commodity tends to increase with
increase in stock of the commodity. Thus, utility at point Q is greater than utility at point S,
i.e. satisfaction yielded from higher curve is greater than satisfaction yielded from lower
curve.
UNIT- IV
Market Analysis
For defining market structure we first need to understand what market is? Market is a place
where buyers and sellers meet and exchange goods or services. And now if we extend this
concept a little more, there are certain conditions which create the structure of a market. Such
conditions can be condensed in the following
Number of Buyers
Number of sellers
Market Share
Competition
The above factors are the quick reference if you need to judge the market structure and under
which one particular firm belongs to.
As there are lot many factors deciding on the market structure, there are lot many variations
as well determining the particular market structure in the economy. If we try to explore that
individually it might not crystallize our concept.
Thus, lets look at the following chart to understand the varied market structures
From the above chart now its clear that how the market structure can be defined by the
various factors and their way of exercising certain power over the market. However if we
consider the gradual increase of competition from least to maximum, we will come up to the
following conclusions
1. Monopoly
2. Oligopoly
3. Monopolistic Competition
4. Perfect Competition
Now lets look at some of the examples of all the market structure mentioned above so that
the concept can dig into your mind and facilitate in your application of market structure
Monopoly Companies which are state owned and entry for other players are not
allowed. If we take example from Indian perspective there is one example we can
think of is Indian railway which is the monopoly as there is no other contributor
exercising in the same market.
Oligopoly In US and other countries people buy their automobiles from different
companies. Here the buyers are many, sellers are few, and competition is high.
In case of Monopsony and Oligopsony there are almost no practical examples though
they are just the opposite of monopoly and oligopoly respectively (buyers rule).
In Conclusion
The importance of market structure in an economy cannot be over emphasized as the effect of
market structure on an economy, its development or degradation is recently been realized.
Thus we as the part of the economy need to understand the value of this concept while
dealing with others (buyers/sellers) in any market place to yield the optimum benefit and to
create win-win situation for all of us.
UNIT- V
National output or GDP is the most important concept of macroeconomics. When GDP
increases, it is a sign that the economy is getting stronger. While a reduction in the GDP
indicates a state of weakening economy. How is GDP really calculated?
One of the most reliable methods to measure the GDP is the expenditure approach which
totals up the following elements to calculate the GDP:
GDP = C + G + I + NX
where:
In short, the GDP is the state of the economy in a snapshot. The year on year GDP growth
rate is closely monitored by investors and white it only indicates what has already happened
in a previous time period, every time the GDP data gets published, analysts alter their stance
on the future prospects of Indian economy.
Inflation
Wholesale Price Index (WPI) measures the price of a representative basket of wholesale
goods including food articles, LPG, petrol, cement, metals, and a variety of other goods.
Inflation is determined by measuring in percentage terms, the total increase in the cost of the
total basket of goods over a period of time. For a list of what is included in the WPI basket
you can view this sample report. Most instruments of monetary policy in India (which are
discussed below) are used by the RBI to keep inflation under check.
Interest rates act as a vital tool of monetary policy when dealing with variables like
investment, inflation, and unemployment. The Central Bank (RBI) reduces interest rates
when it wants to increase investment and consumption in the economy. Reduced interest rates
make it easier for people to borrow in order to buy goods and services such as cars, homes
and other consumer goods. At the same time, lower interest rates can lead to inflation. When
the Central Bank wants to control inflation, it increases the rate of lending. Banks and other
lenders are then required to pay a higher interest rate to the Central Bank in order to obtain
money. They pass this on to their customers by charging a higher rate of interest for lending
money. This reduces the availability of money in the economy and helps in controlling
inflation.
Economic policy-makers are said to have two kinds of tools to influence a country's
economy: fiscal and monetary.
Fiscal policy relates to government spending and revenue collection. For example, when
demand is low in the economy, the government can step in and increase its spending to
stimulate demand. Or it can lower taxes to increase disposable income for people as well
as corporations.
Monetary policy relates to the supply of money, which is controlled via factors such
as interest rates and reserve requirements (CRR) for banks. For example, to control high
inflation, policy-makers (usually an independent central bank) can raise interest rates
thereby reducing money supply.
Direct regulation:
Cash Reserve Ratio (CRR): Commercial Banks are required to hold a certain proportion of
their deposits in the form of cash with RBI. CRR is the minimum amount of cash that
commercial banks have to keep with the RBI at any given point in time. RBI uses CRR either
to drain excess liquidity from the economy or to release additional funds needed for the
growth of the economy.
For example, if the RBI reduces the CRR from 5% to 4%, it means that commercial banks
will now have to keep a lesser proportion of their total deposits with the RBI making more
money available for business. Similarly, if RBI decides to increase the CRR, the amount
available with the banks goes down.
Statutory Liquidity Ratio (SLR): SLR is the amount that commercial banks are required to
maintain in the form of gold or government approved securities before providing credit to the
customers. SLR is stated in terms of a percentage of total deposits available with a
commercial bank and is determined and maintained by the RBI in order to control the
expansion of bank credit. For example, currently, commercial banks have to keep gold or
government approved securities of a value equal to 23% of their total deposits.
Indirect regulation:
Repo Rate: The rate at which the RBI is willing to lend to commercial banks is called Repo
Rate. Whenever commercial banks have any shortage of funds they can borrow from the RBI,
against securities. If the RBI increases the Repo Rate, it makes borrowing expensive for
commercial banks and vice versa. As a tool to control inflation, RBI increases the Repo Rate,
making it more expensive for the banks to borrow from the RBI with a view to restrict the
availability of money. The RBI will do the exact opposite in a deflationary environment when
it wants to encourage growth.
Reverse Repo Rate: The rate at which the RBI is willing to borrow from the commercial
banks is called reverse repo rate. If the RBI increases the reverse repo rate, it means that the
RBI is willing to offer lucrative interest rate to commercial banks to park their money with
the RBI. This results in a reduction in the amount of money available for the banks
customers as banks prefer to park their money with the RBI as it involves higher safety. This
naturally leads to a higher rate of interest which the banks will demand from their customers
for lending money to them.
The RBI issues annual and quarterly policy review statements to control the availability and
the supply of money in the economy. The Repo Rate has traditionally been the key instrument
of monetary policy used by the RBI to fight inflation and to stimulate growth.
Comparison chart
Definition Fiscal policy is the use of Monetary policy is the process by which the
government expenditure and monetary authority of a country controls the
revenue collection to influence the supply of money, often targeting a rate of interest
economy. to attain a set of objectives oriented towards the
growth and stability of the economy.
Policy Tools Taxes; amount of government Interest rates; reserve requirements; currency peg;
spending discount window; quantitative easing; open market
operations;
The alternating periods of expansion and contraction in the economic activity has been
called business cycles or trade cycles.
The period of high income, high output and high employment is called as the Period of
Expansion, Upswing or Prosperity.
The period of low income, low output and low employment is called as the Period of
Contraction, Recession, Downswing or Depression.
According to Keynes,
"A trade cycle is composed of periods of Good Trade, characterized by rising prices and
low unemployment percentages, shifting with periods of bad trade characterized by falling
prices and high unemployment percentages."
Periodical : Trade cycles occur periodically but they do not show the same
regularity.
Different Types : There are minor and major trade cycles. Minor trade cycles
operate for 3-4 years, while major trade cycles operate for 4-8 years or more.
Though trade cycles differ in timing, they have a common pattern of sequential
phases.
Duration : The duration of trade cycles may vary from a minimum of 2 years to a
maximum of 12 years.
International Nature : Trade Cycles are international in character. For e.g. Great
Depression of 1930s.
1. Short-Time Cycle : This trade cycle occur for a short period of time. It is also known
as minor cycles. It lasts for about 3-4 years.
2. Secular Trends : This trade cycle occurs for a long period of time and is known as
Long term cycle. It lasts for about 4-8 years or more. It is also known as major cycle.
3. Seasonal Fluctuations : This refers to trade cycles, which take place due to seasonal
changes in the economy. For e.g. failure of monsoon can cause a downtrend in the
economy which may be followed by a good monsoon and up to trend.
4. Irregular or Random Fluctuations : These trade cycles are unpredictable and occur
during a period of strikes, war, etc., causing a shock to the economic system.