1. BEC 30325: MANAGERIAL ECONOMICS
Session 01
Introduction to Managerial Economics
Dr. Sumudu Perera

2. Session Outline Nature and scope of Managerial Economics
Goals and Constraints of business organizations
The Theory of the firm
The nature and importance of profit
Economic Profit and Accounting Profit
Quantitative techniques in Managerial Economics

3. Managerial Economics
Managerial Economics is the integration of economic theory with decision science tools, so as to make decision making effective and efficient.
The application of economic theory and the tools of decision science to examine how an organization can achieve its aims or objectives most efficiently.

4. Managerial Economics deals with:
“How decisions should be made by managers to achieve the firm’s goals-in particular, how to maximize profit”

5. Managerial Decision Problems
Economic theory Microeconomics Macroeconomics
Decision Sciences Mathematical Economics Econometrics
MANAGERIAL ECONOMICS Application of economic theory and decision science tools to solve managerial decision problems
OPTIMAL SOLUTIONS TO MANAGERIAL DECISION PROBLEMS

6. Economics Vs. Managerial Economics
Study of economic theory
Belongs to positive economics
Examine the human behavior on using scarce resources on unlimited needs and wants
Limited Scope
Application of economic theory
Belongs to normative economics
Study the way of applying economic theory for decision making in firms
Wide scope

7. Why is Managerial Economics Important?
To estimate economic relationships
To make decisions related to internal issues
Effectively utilize resources (What/how much/how/to whom, to produce)
Pricing
Face price and non-price competitions
Maximizing sales, revenues, profits
To identify the impact of external factors on the firm
To use theoretical concepts in economics to actual behavior of firms
A powerful “analytical engine”.

8. Theory of the Firm
Combines and organizes resources for the purpose of producing goods and/or services for sale.
Internalizes transactions, reducing transactions costs.
Primary goal is to maximize the wealth or value of the firm.

9. Example -Theory of the Firm
Mr. Smith, an entrepreneur decides to set up a company by recruiting people to work for wages, by purchasing a property for the workplace machinery for the factory. He believes that it is very much efficient and less costly to run a business through a firm, rather than him doing everything alone.
He believes that a general contract agreed with laborers to perform a number of tasks for specific wages and benefits is less costly than specific contacts for each task undertaken.
He can also internalize many functions such as Finance, Marketing, IT, Research and Development etc without giving those tasks to external parties.

10. Value of the Firm
The present value of all expected future profits

11. Alternative Theories Sales maximization
Adequate rate of profit
Management utility maximization
Principle-agent problem
Satisficing behavior

12. Definitions of Profit
Business / Accounting Profit: Total revenue minus the explicit or accounting costs of production.
Economic Profit: Total revenue minus the explicit and implicit costs of production.
Opportunity Cost: Implicit value of a resource in its best alternative use.

13. Example –Accounting vs Economic profit
Maya is in the final year of the University and she has lectures only during the evening. Therefore she has free time to engage in an internship programme. She got the opportunity to work at a bank which pays Rs per month. If she is to undertake the internship she has to incur extra travelling and food cost of Rs per month. However Maya decides to bake cakes at home and sell for private parties. She earns Rs per month by making cakes. The costs that she has to incur are given below;
Ingredients Rs.4000
Packaging Rs.500
Electricity Rs.250
Find out the accounting profit and economic profit of carrying out the cake business.

14. Function of Profit
Profit is a signal that guides the allocation of society’s resources.
High profits in an industry are a signal that buyers want more of what the industry produces.
Low (or negative) profits in an industry are a signal that buyers want less of what the industry produces.

15. The Changing Environment of Managerial Economics
Globalization of Economic Activity
Goods and Services
Capital
Technology
Skilled Labor
Technological Change
Telecommunications Advances
The Internet and the World Wide Web

16. Decision Science Tools
Numerical analysis
Statistical estimation
Forecasting
Game theory
Optimization
Simulation
Department of Business Economics, FMSC, USJP

17. Basic Training: Rules of Differentiation
Constant Function Rule: Y = f(X) =0
Power Function Rule:
Sum-and-Differences Rule
Product Rule

18. Quotient Rule
Chain Rule