Engineering Economics & Financial Accounting Question Bank - 2014
UNIT 1 INTRODUCTION
PART A1. Define Managerial Economics
By combining the basic definition of the two terms “Manager” and “Economics” you get the definition of “managerial economics”. “Managerial Economics” is the study of directing resources in a way that it most efficiently achieves the managerial goals.
Managerial Economics is also the application of the tools of economics analysis in decision making in actual business situations.
2. What is meant by Micro economic analysis?
Micro economic analysis deals with the problems of an individual firm, industry or consumer etc. It helps in dealing with issues which go on within the firm such as putting the resources available with the firm to its best use, allocating resources within various activities of the firm to its best use, allocating resources within various activities of the firm and also deals with being technically and economically efficient.
3. What is meant by Prescriptive approach?
Prescriptive or normative approach tells “How things ought to be done”.
4. What is meant by descriptive approach?
Descriptive approach tells “how things are done”.
5. Scope of Managerial Economics:
The following aspects constitute the scope of managerial economics:
1. Objectives of a business firm
2. Demand analysis and forecasting
3. Cost analysis
4. Production management
5. Supply analysis
6. Pricing decisions, policies and practices
7. Profit management
8. Capital budgeting and investment decisions
9. Decision theory under uncertainty
6. Give the Objectives of a business firm
The objectives of a business firm may be varied. Apart from generating profits a firm has many other objectives like being a market leader, being a cost leader, achieving superior efficiency, achieving superior quality, achieving superior customer responsiveness etc.
7. What is meant by Supply Analysis?
Supply analysis deals with the various aspects of supply of a commodity. Certain important aspects of supply analysis are supply schedule, curves and function, elasticity of supply, law of supply and its limitations and factors influencing supply.
8. What is meant by Capital Budgeting?
Capital budget is the planning of expenditure on assets.
9. Use of Engineering Economics:
Engineering economics accomplishes several objectives. It presents the aspects of traditional economics that are relevant for business and engineering decision making in real life.
10. Define Logistics:
It is the movement of goods from one place to the other.
11. Define Inbound Logistics:
It is the movement of raw materials to the factory premises.
12. Define outbound logistics:
It is the movement of finished goods to wholesale or retail outlets and to the final consumers.
13. Define Statistics:
Statistics provide the basis for empirical testing of theory. Generalizations or theory cannot be accepted for practice unless these theories are checked against the data from the reality. This way, theories become more practical and useful in real life business situation.
14. Define Economics and define the divisions of Economics:
Economics has two division’s namely micro economics and macro economics. Micro economics is the branch of economics where the unit of study is an individual or a firm while macro economics is branch of economics where the unit of study is aggregative in character and considers the entire economy.
15. Define Accounting:
Accounting can be defined as the recording of financial operations of an organization. Managerial decisions on profits and sales etc. derive input largely from the accounting statement of a firm.
UNIT 2 DEMAND AND SUPPLY ANALYSIS
1. Define Demand.
Demand indicates the quantities of products (goods service) which the firm is willing and financially able to purchase at various prices, holding other factors constant.
2. Define Determinants of Demand:
An individual’s demand for a commodity depends on his desire and capability to purchase it. Apart from the desire to purchase, there are many other factors which influence the purchase of a product (demand). These are known as demand determinants.
3. What is meant by Tastes and preferences of Consumers?
The change of tastes and preferences of consumers in favor of a commodity will result in a greater demand for the commodity. The opposite also holds good i.e. if the tastes and preferences of consumer change against the commodity, the demand will suffer.
4. What are the two kinds of Consumers expectations?
Consumers have two kinds of expectations one pertains to their future income and the second is related to the future prices of the goods and its related goods.
5. Define Advertising
Advertisements provide information about the presence of quality products in the market and induce customers to buy more. It also promotes the latest preferences of the general public to masses.
6. Define the Law of Demand:
The relation of price to quantity demanded / sales is known as the law of demand. Law of demand states that the higher the price is the lower the demand is and vice versa, holding other factors as constant.
7. Define the price quantity relation.
This price quantity relation can be expressed as demand being a function of price
8. What Highlights of the law of demand:
1. The relationship between price and quantity demanded is inverse.
2. Price is the independent variable and demands the dependent variable.
3. Law of demand assumes that except for price and demand, other factors remain constant.
9. What is Demand Shift: (Change in demand?)
Factors shift the demand for a particular product either on the right side of the demand curve or to the left side of the demand curve based on the changes in price. These factors, other than the price of a good that influence demand are known as demand shifters. The shift in the demand either to the left or right is called the demand shift.
10. What are the Exceptions to law of demand?
1. In share markets on would have noticed that the rise in price of the shares increases, the sales of the shares while decrease in the price of the shares results in decrease of sale of the shares.
2. Some goods which act as status symbol and have a snob appeal fall under this category. Here when the price of the product raises then the appeal of the product also rises and thus the demand. Some example is diamonds and antiques.
3. Finally, ignorance on the part of the consumer may cause the consumer to buy at a higher price, especially when the rise in price is taken to mean an improvement in quality and a reduction in price as deterioration in quality.
11. Define Individual demand:
The quantity of a product demanded by an individual purchaser at a given price is known as individual demand.
12. Define Market demand:
The total quantity demanded by all the purchasers together is known as the market demand.
13. What are the types of Demand Function?
1. Consumption function
2. Product consumption function
3. Differences in regional incomes
4. Income expectation and demand
14. What are the Characteristics of demand function?
1. The long run relationship between consumption and income is some what stable, and expenditure on consumption is usually about 85 to 90% of the income.
2. The consumption function is highly unstable in short runs and the relationship between income and consumption cannot be predicted by any mathematical formula.
3. During the periods of economic prosperity, there is an absolute increase in the expenditure on consumption, but decrease as a percentage of income during periods of depression, the consumption declines absolutely but the expenditure on the consumption increases as a percentage of income.
4. In the periods of economic recovery, the rate of increase in consumption is higher than the rate of the decline in consumption in times of recession.
15. Define Product consumption function:
This function can be defined as the relationship between the total income of the consumer and sales of particular products. It means that when there is a change in income there is a change in the demand for particular product
1. Say some of the main cost concepts.
1) Actual costs and opportunity costs
2) Incremental costs and sunk costs
3) Explicit costs and implicit costs
4) Past costs and future costs
5) Accounting costs and economic costs
6) Direct cost and indirect cost
7) Private costs and social costs
8) Controllable costs and non controllable costs
9) Replacement costs and original costs
10) Shutdown costs and abandonment costs
11) Urgent costs and postponable costs
12) Business costs and full costs
13) Fixed costs and variable costs
14) Short run and long run costs
15) Incremental costs and marginal costs
2. What are actual costs and opportunity costs?
Actual costs which a firm incurs for producing or acquiring a product or a service. As example for this is the cost on raw materials, labor, rent, interest.
3. What are incremental costs and sunk costs ?
Incremental cost is the additional cost due to change in the level of nature or business activity. Sunk costs are the costs that are not altered by a change in quantity produced and cannot be recovered.
4. What are Explicit costs and implicit costs ?
Explicit or paid out costs are those expenses which are actually paid by the firm. Implicit costs are the theoretical costs in the sense that they go unrecognized by the accounting system.
5. What are past costs and future costs ?
Past costs are the actual costs incurred in the past are generally contained in the financial accounts. Future costs are costs that are expected to occur in some future period or periods.
6. What are accounting costs and economic costs ?
Accounting costs are the actual outlay costs. Economic cost relate to the future,
7. What is direct and indirect cost ?
Direct cost are traceable cost or assignable cost are the ones that have direct relationship with a unit of operation like a product, a process or a product, or a department of the firm. On the otherhand, indirect costs or non traceable costs or common or non assignable costs are the costs whose course cannot be easily and definitely traced to the plant.
8. What are private costs and social costs ?
Private costs are those which are actually incurred or provided for the business activity by an individual or the business firm. Social costs on the otherhand are the total costs to the society on account of production of a good.
9. What are controllable and non controllable costs ?
Controllable costs are those which are capable of being controlled or regulated by the managers ant = d it can be used to assess the managerial efficiency in controlling the cost in his department. Non controllable costs are those which cannot be subjected to administrative controls and supervision.
10. What are replacement costs and original costs ?
Original costs or the historical costs are the costs paid for assets such as land, building, cost of plant, equipment and materials. Replacement costs are the costs that the firm incurs if it wants to replace or acquire the same assets now.
11. What is shut down cost and abandonment cost ?
Shutdown costs are costs in which the firm incurs if it temporarily stop its operation. Abandonment costs are the costs of retiring altogether a fixed asset from use.
12) What is level of capacity utilization?
The higher the capacity utilization fixed cost per unit of output in bound to be low.
13) What is output stability?
Stability of output leads to savings in various kinds of hidden cost interruption and learning.
14)what is size of plants?
Production costs are usually lower in bigger plants than smaller plants.
15)what is cost?
Cost is the money spent on producing and selling a product to the customers.the cost of a product starts from the raw materials through production costs till selling costs include the cost in maintaining outlets.
UNIT 4 PRICING
1) what are the two factors in pricing strategies?
1) external factors – Raw materials, substitute prices, national regulations
2) internal factors – Labour cost, Facility cost
2)what are the external factors in pricing strategies?
i. The competition in the market
ii. The elasticity of supply and demand
iii. Trends of the market
iv. purchasing power of buyers.
v. government policies towards prices.
3)what are the two factors in pricing strategies?
1) The costs
2) Management policy towards the gross margin and the sales turnover
4)what are the determinants?
1)objectives of business
3)product and promotional strategies
4)Nature of price sensitivity
5)influence of middle men
6)Routinisation of pricing
5)What is objectives of business?
The fundamental objective of a firm is to survive in the business and then thrive.The pricing strategy adopted by a firm is very much by these factors.
6)what is competition in pricing strategy?
To come out with a pricing policy that will be advantages to the firm,managers require a perfect understanding of the competitive environment in which the firm is placed.
7)what are product and promotional strategies?
i. product itself
iii. promotion activities
iv. distribution of products through the channel to the consumer.
8)what is nature of price sensitivity?
We know that many factors contribute to the increase of price sensitivity,but managers should not ignore the factors that minimize price sensitivity .when designing pricing strategies.
9)what is influence of middlemen?
Middlemen are the ones who stock the finished product of the manufacturer to sell it to the customers.these are also called the channel for distribution.
10) What is routinization of price?
This strategy of pricing relies on the tried and trusted pricing strategies which the organization has followed all along. This pricing practice is often routinized but the extend varies from company to company and from product to product.
11) What is the government regulation in pricing?
Inorder to safeguard the interests of the public the government acts on their behalf to prevent the abuse of the monopolistic power and collusion among business.
12) Say some of the objectives of the pricing policy?
i. profit maximization.
ii. long term welfare of the firm.
iii. facing competition.
iv. flexibility to economic changes.
v. satisfying rate of returns.
13) What are the cost oriented pricing method?
i. cost plus pricing or full cost pricing.
ii.marginal cost pricing or incremental or direct cost pricing.
iii.target pricing or rate pricing.
iv. programme pricing.
14) What are the competition oriented pricing method?
i.going rate pricing.
ii.loss reader pricing.
iv.price leadership pricing.
v.trade association pricing.
15) What are the praising based methods?
iii.price discrimination or differential pricing.
UNIT 5 FUNDAMENTALS OF ACCOUNTING
1) What is fixed assets?
Their life period is very long, these are purchased for carrying out the operation in a company. Using this the company can generating revenue.
2) What is investment?
The long term and short term financial securities owned by a company comes under this category. Here lomg term investments means buying shares of the other companies.
3) What is current assets?
Any asset that can be converted into cash within one year of time is called as current asset. They would be converted into cash at the end of the operating cycle of a firm.
4) What are the items come under this current assets?
5) What is loans and advances?
It is the amont that a company loans to its employees, advances given to supplies, government contractors and other agencies it is also include prepaid expenses.
6) What are the types of liabilities?
ii.resreves and surpluses.
7) What is meant by share capital?
It includes both equity share capital and preference share capital. Equity share holders are the owners of a company they take risk and their dividend is not fixed but is case of preference share capital the dividend rate is fixed.
8) What is meant by Reserves and Surpluses?
It is nothing but the profit that is retained by accompany not by not paying it as dividend to the shareholders.
9) What are the types of reserves ?
10) What is meant by secured loans?
Loan amount borrowed by the firm by pledging assets (ie) securities are provided for these loans.
11) What is meant by unsecured loans?
In this case nosecurity is provided examples are fixed deposits, loans and advances.
12) What is meant by current liabilities?
This consists of amount that is to the suppliers when goods are purchased on a credit basis, advance payments received accured expenses, provisions for tax.
13) What is meant by income statement?
The companies act does not any particular way in which the profit and loss account or the income statement has to be prepared. This statement reflects the performance of a company over a period of time.
14) Who are all the users of financial statement?
ii.shareholders, investors, anlyst.
vii.government and regularity agencies.
15) What is meant by cash flow statement?
A firm would enter into trouble if it spends more cash than it is able to generate. The firm should generate adequate capital for it survival.
UNIT 1 INTRODUCTION
1. Define scope of economics?
Economics is the study of how societies use scarce resources to produce valuable commodities and distribute them among different people.
SCOPE OF ECONOMICS
a. Consumption: Satisfaction of human wants is called consumption which forms one of the important branches of economics. This tells how people behave in consumption of goods and services in order to maximize their satisfaction.b
b. Production: Goods and services have to be produced with the help of factors of production. So, production is another branch of economics. It concerned with how maximum goods are produced with minimum cost or how the scarce factors could be utilized economically for better results.
c. Exchange: Goods and services cannot be produced at one place or at one point of time. Goods produced by one are exchanged for the goods produced by the others. So, exchange forms another branch of study in economics
d. Distribution: Goods and services are produced with efforts, i.e., by combining the factors of production. These efforts have to be paid for or rewarded. The land gets rent, the labor get wages, the capital gets interest and the organizer gets profit. This branch of study is called distribution in economics.
e. Public Finance: This branch of study in economics studies about the sources of revenue to the government and the principles governing the expenditure for the benefit of the people. It also studies about public debt and financial administration.
2. Is economics Science or an Art. Please discuss.
Economics as a Science: A science is a systematized body of knowledge ascertainable by observation experimentation. It is a body of generalizations, principles, theories or laws which races out a casual relationship between cause and effect.
Economics is a systematized body of knowledge in which economic facts are studied and analyzed in a systematic manner. For instance, economics is divided into consumption, production, exchange, distribution and public finance which have their laws are theories on whose basis these departments are studied and analyzed in a systematic manner.
Hence economics is a science like any other science which has its own theories and laws which establish a relation between cause and effect. Economics is also a science because its laws possess universal validity such as the law of diminishing returns, the law of diminishing marginal utility the law of demand, Gresham’s law, etc.
Again, economics is a science because of its self corrective nature. It goes on revising its conclusions in the light of new facts based on observations. Economic theories or principles are being revised in the fields of macro economics, monetary economics, international economics, public finance and economic development.
Economics as an Art: Unlike natural science, there is no scope for experimentation in economics because economics is related to man, his problems and activities. Economic phenomena are very complex as they related to man whose activities are bound by his tastes, habits, and social and legal institutions of the society in which he lives.
Economics is thus concerned with human beings who act irrationally and there is no scope for experimentation in economics. Even though economics possess statistical, mathematical and econometric methods of testing its phenomena but these are not so accurate as to judge the true validity of economic laws and theories. As a result, exact quantitative predication is not possible in economics.
Economics as both a Science and an Art: Economics is not only a science but also an art. It is a science in its methodology and an art in its application. It has a theoretical aspect and is also an
applied science in its practical aspects
3. Discuss about the fundamental economic problems?
Economic Problem: Due to the scarcity of means and the multiplicity of ends, the economic problem lies in making the best possible use of our resources so as to get maximum output satisfaction in the case of a consumer and maximum output or profit for a producer. Hence economic problem consists in making decisions regarding the ends to be pursued and the goods to be produced and the means to be used for the achievement of certain ends.
Fundamental problems facing the economy:
1. What to produce: The first major decision relates to the quantity and the range of goods to be produced. Since resources are limited, we must choose between different alternative collection of goods and services that may be produced. It also implies the allocation of resources between the different types of goods. Example: Consumer goods and capital goods.
2. How to produce: Having decided the quantity and the type of goods to be produced, we must next determine the techniques of production to be used. Example: labor – intensive or capital – intensive.
3. For whom to produce: This means how the national product is to distributed, i.e., who should get how much. This is the problem of the sharing the national product. Are the Resources Economically Used? This is the problem of economic efficiency or welfare
maximization. There is to be no waste or misuse of resources since they are limited.
4. Problem of Full employment: Fullest possible use must be made of the available resources. In other words, an economy must endeavor to achieve full employment not only of labor but of all its resources.
5. Problem of Growth: Another problem for an economy is to make sure that it keeps expanding or developing so that it maintains conditions of stability. It is not to be static. Its productive capacity must continue to increase. If it is an under – developed economy, it must accelerate its process of growth.
4. Explain decision making, its features and steps in decision making process?
Decision making is the process of selection from a set of alternative courses of action which is thought to fulfil the objective of the decision problem more satisfactorily than other.
FEATURES OF DECISION MAKING
1. Selection process: Decision making is a selection process. The best alternative is selected out of many available alternatives.
2. Goal-oriented process: Decision making is goal-oriented process. Decisions are made to achieve some goal or objective.
3. End process: Decision making is the end process. It is preceded by detailed discussion and selection of alternatives.
4. Human and Rational process: Decision making is a human and rational process involving the application of intellectual abilities. It involves deep thinking and foreseeing things.
5. Dynamic process: Decision making is a dynamic process. An individual takes a number of decisions each day.
6. Situational: Decision making is situational. A particular problem may have different decisions at different times, depending upon the situation.
7. Continues or Ongoing process: Decision making is a continuous or ongoing process. Managers have to take a series of decisions on particular problems.
STEPS IN DECISION MAKING PROCESS IN AN ORGANIZATION
1. Identification of problem: Decision making process begins with the identification of problem that means recognition of a problem. The managers have to use imagination, experience, and judgment in order to identify the real nature of the problem.
2. Diagnosis and analysis of the problem: In order to diagnose the problem correctly, a manager must obtain all pertinent facts and analyze them correctly. The most important part of the diagnosing problem is to find out the real cause or source of the problem. After analyzing the problem next phase of the decision making is to analyze problem. This process involves classifying the problem and gathering information.
3. Search for alternatives: A problem can be solved in many ways. All possible ways cannot be equally satisfying. Managers are advice to limit him to the discovery of the alternatives which are strategic or critical to the problem. The principle of limiting factor is given as “By recognizing and overcoming that factor that stand critically in the way of a goal, the best alternative course of action can be selected”. Creative thinking is necessary to develop alternatives such as decision makers past experience, practices followed by others, and using creative techniques.
4. Evaluation of alternatives: Evaluation is the process of measuring the positive and negative consequences of each alternative. Some alternatives offer maximum benefit than others. An alternative is compared with the others. Management must set some criteria against which the alternatives can be evaluated. Criteria to weigh the alternative courses of action includes Risk- Degree of risk involved in each alternative, Economy of effort- Cost, time and effort involved in each alternative, Timing or Situation- Whether the problem is urgent & Limitation of resources- Physical, financial and human resources available with the organization.
5. Selecting an alternative: In this stage, decision makers can select the best alternatives. Optimum alternative is one which maximizes the results under given conditions.
6. Implementation and follow-up: Once an alternative is selected, it is put into action in systematic way. The future course of action is scheduled on the basis of selected alternatives. When a decision is put into action, it may yield certain results. These results provide the indication whether decision making and its implementation is proper. The follow-up action should be in the light of feedback received from the results.
5. Discuss importance and characteristics of engineering economics?
It is the application of economic principles to engineering problems. For example, in comparing the comparative costs of two alternative capital projects
IMPORTANCE OF ENGINEERING ECONOMICS:
1. Engineering economics is concerned with the monetary consequences (or) financial analysis of the projects, products and processes that engineers design.
2. Engineers are required to use economic concepts in the major fields such as increasing production, improving productivity, reducing human efforts, increasing wealth by maximizing profit, controlling and reducing cost.
3. Engineering economics provides has very important role to play in all engineering decisions.
4. Engineering economics provides a number of tools and techniques to solve engineering problems related to product-mix, output level, pricing the product, investment, quantum of advertisement, etc.
5. Engineering economics helps in understanding the market conditions, general economic environment in which the firm is working. Engineering economics provide basis for resource allocation problem.
6. Engineering economics deals with identification of economic choices, and is concerned with the decision making of engineering problems of economic nature.
CHARACTERISTICS OF ENGINEERING ECONOMICS
1. Engineering economics is a traditional and important part of engineering practice.
2. Engineering economics is concerned with application of economic principles in technical and managerial decision making.
3. Engineering economics embarrasses both micro and macroeconomic principles when applied to engineering problems. For example, the study of demand analysis is mostly concerned with individual or household as a small unit of study. Whereas, the study of impact of taxes on raw- materials will influence engineers to look for alternative materials for manufacturing or designing a product or processes which is of course a macro economic issue. The demand analysis is microeconomic principle.
4. Engineering economics also take in its fold certain concepts and principles from other fields such as statistics, accounting, management, etc.
5. Engineering economics aids decision making aspect of an engineer and it avoids the abstract nature of economic theory.
6. Engineering economics is mostly an application tool, whereas economics is a social science with broad characteristics,
7. Economic theory conveniently ignores the significant backgrounds which are common to individual firms but engineering economics take in to consideration the individual firms’ environment of decision making. Engineering economics provides an analytical and scientific approach resulting in qualitative decisions.
UNIT 2 DEMAND AND SUPPLY ANALYSIS
1. Discuss about demand and its various types of demand?
The demand for a commodity is its quantity which consumers are able and willing to buy at various prices during a given period of time. Demand is a function of Price (P), Income (Y), Prices of related goods(PR) and tastes (T) and expressed as D=f(P,Y,PR,T). When income, prices of related goods and tastes are given, the demand function is D=f (P). It shows quantities of a commodity purchased at given prices.
THE VARIOUS TYPES OF DEMAND
i. Price demand: Price demand refers to various quantities of a commodity or service that a consumer would purchase at a given time in a market at various hypothetical prices. It is assumed that other things, such as consumer‘s income, his tastes and prices of inter- related goods, remain unchanged. The demand of the individual consumer is called individual demand and the total demand of the entire consumer combined for the commodity or service is called industry demand. The total demand for the product of an individual firm at various prices is known as firms demand or individual sellers demand.
ii. Income demand: Income demand indicates the relationship between income and the quantity of commodity demanded. It relates to the various quantities of a commodity or service that will be bought by the consumer at various level of income in a given period of time, other things equal. The income demand function for a commodity increases with the rises in income and decreases with fall income. The income demand curve has a positive slope. But this slope is in the case of normal goods. In the case of inferior goods the demand curve id is backward sloping
iii. Cross demand: In case of related goods the change in the price of one affects the demand of the other this known as cross demand and its written as d=f(pr). Related goods are of two types, substitutes and complementary. In the case of the substitutes or competitive goods, a rise in the price of one good a raises the demand, arise in the price of one good a raises the demand for the other good b, the price of remaining the same the opposite holds in the case of a fall in the price of a when demand for b falls.
2. Discuss about various demand distinctions?
i. Derived demand and autonomous: Those inputs or commodities which are demanded to help in further production of commodities are said to have in further production of commodities are said to have derived demand. For example, raw material, labour machines etc are demanded not because they serve only direct consumption need of the purchaser but because they are needed for the production of goods having direct demand (say , food , scooter . building ,etc)
ii. Demand for producer’s goods and consumer’s goods: The difference in these two types of demand is that consumer‘s goods are needed for producing other goods (consumer‘s goods or further producer‘s goods)
iii. Demand for durable goods non durable goods: Durable goods whether producer‘s durable or consumer‘s durable are the ones which can be stored and whose replacement can be postponed. On the other hand, the non durables are needed as a routine and their demand is their fore made largely to meet day– to- day needs.
iv. Industry demand and firm or company demand: The term company demand denotes demand for a particular product of a particular firm Industry demand refers to the total demand for the product of a particular industry.
v. Total demand and market segment demand: Demand for the market segments is to be studied by breaking the total demand into different segments like geographical areas , sub-products, product use, distribution channels, size of customer groups, sensitivity to price etc. The market segments are so demarcated that each segment has its own homogenous demand characteristics. Further, each of these market segments must differ significantly in terms of delivered prices, net profit margins, and number of substitutes, competition, seasonal, patterns and cyclical sensitivity.
vi. Short run demand and long run demand: Short run demand refers to demand with its immediate reactions to price changes, Income fluctuations etc. Whereas long run demand is that which will ultimately exist as a result demand of the change in pricing promotion or products improvement , after enough time is allowed to lat the market adjust itself to the new situation.
3. Discuss elasticity of demand?
Elasticity of demand may be defined as the ratio of the percentage change in demand to the percentage change in price. Ep= Percentage change in amount demanded Percentage change in price
TYPES OF ELASTICITY DEMAND
i. Price elasticity of demand:
Elasticity of demand may be defined as the ratio of the percentage change in price.
Ep = percentage change in quantity demanded / percentage change in price
ii. Income elasticity of demand:
The income elasticity of demand (Ey) express the responsiveness of a consumer demand or expenditure or consumption) for any good to the change in his income .it may be defined as the ratio of percentage change in the quantity demanded of a commodity to the percentage in income. Thus
Ey = percentage change in quantity demanded / percentage change in income
iii. Cross elasticity of demand:
The cross elasticity of demand is the relation between percentage change in the quantity demanded of a good to the percentage change in the price of a related good. The cross elasticity good A and good B is
Eba= percentage change in the quantity demanded of B/ percentage change in price of A
4. Discuss the importance of Elasticity of Demand?
i. Taxation: The tax will no doubt raises the prices but the demand being in elastic, people must continue to buy the same quantity of the commodity. Thus the demand will not decrease.
ii. Monopoly prices: In the same manner, the businessman, especially if he is a monopolist, will have to consider the nature of demand while fixing his price. In case I is in elastic, it will pay him to him to change a higher price and sell a smaller quantity. If, on the other hand, the demand is elastic he will lower the prices, stimulate demand and thus maximize his monopoly net revenue
iii. Joint products: In such cases separate costs are not ascertainable the producers will be guided mostly by demand and its nature fixing his price. The transport authorities fix their rates according to this principle when we say that they charge what the traffic will bear‘
iv. Increasing returns: When an industry is subject to increasing returns the manufacturer lowers the price4 to develop the market so that he may be able to produce more and take full advantage of the economies of large scale production.
v. Output: Elasticity of demand affects industrial output reduction in price will certainly increases the sale in the market as a whole.
vi. Wages: Elasticity of demand also exerts its influence on wages. If demand for a particular type of labour is relatively inelastic, it is easy to raise wages, but not otherwise.
vii. Poverty in plenty: The concept of elasticity explains the paradox of poverty in the midst of plenty. This is specially so if produce is perishable. A rich harvest may actually fetch less money a poor one.
5. Discuss the importance and limitations of law of equi-marginal utility?
IMPORTANCE OF THE LAW OF EQUI-MARGINAL UTILITY
i. It applies to consumption: Every consumer, if he is wise wants to get maximum satisfaction
out of his limited resource. In arranging his expenditure to that end he must substitute the thing till marginal utilities are equalized. In this way, the consumer‘s satisfaction is maximized.
ii. Its application to production: To the business man the manufactures the law is of special importance. He works towards the most economical combination of the factors of production employed by him for this purpose; he will substitute one factor for another till their marginal productivities are made the same. In case he finds that marginal productivity of one factor, say labour is greater than that of capital it will pay him to substitute the former for the latter in this way he will be able to maximize his profit.
iii. Its application to exchange: In all our exchanger this principle work for exchange is nothing else but substitution of one thing for another. The substitutional character of our exchange is sufficient to basic economic principle.
iv. Price determination: This principle has an important bearing on the determination of value. When there is scarcity of a commodity the law of substitution to our help. We commodity, the law substitution comes to our help. We start substituting the less, scarce goods for the more scarce ones. The scarcity of the latter is thus relived and its price comes down.
v. Its application to distribution: In distribution we are concerned with the determination of the rewards of the various agents of production‘s, determination of rent wages interest and profit these shares are determined-- according to the principle of marginal productivity. The use of each agent of producing is pushed by the entrepreneur to the margin of profitableness till the marginal product in each case in the same in case it is not the same the law of substitution will come into play to equalize their marginal productivity this is how the law of substitution proves useful in the field of distribution of the national dividend among the various agents of production.
vi. Public finance: Public expenditure of the government conforms to this law even a government is under the necessity of deriving maximum amount of the benefit from its public expenditure it must try to maximize welfare of the commodity. For this purpose it must cut down all wasteful expenditure.
LIMITATION OF THE LAW OF EQUI MARGINAL UTILITY
i. The law of equi marginal utility involves very careful calculation of the excepted satisfaction: The fact is that most of our expenditure is governed by habit . there is not much of conscious calculation and careful weighing of the utilities.
ii. Not applicable in case of small purchases: Only in the case of big expenditure a prudent persons goes through a certain amount of thinking here we may take it that this expenditure does roughly conforms to the law of maximum satisfaction but not applicable in case of small purchases
iii. Law will not hold good in irrational purchases: All the rational and prudent persons are excepted to act upon this law consciously or un consciously.
iv. Ignorance of consumer: The consumer may not be aware of other more useful alternatives. Hence, no substitution does not operate.
v. Incapable of rational consumption: People are sometimes slaves of customs or fashion and are incapable of rational consumption. Without being rational and calculating, a consumer cannot substitute one thing for another.
vi. Goods are not divisible into small bits: Another limitation arises from the fact that goods are not divisible into small bots to enable consumers to equalize marginal utilities cannot be equalisied.
vii. Resource are unlimited: The law of substitution has no place when the resource are unlimited as in the case of free goods in such cases there is no need to re-arrange expenditure because no price is to be paid whatever the quantity used.
1. Discuss briefly the different cost concepts relevant to managerial decisions of conitrol.
a)actual cost- these cost are the costs that are generally recorded in the account books.
b)opportunity cost- it is defined as the revenue foregone by not making the best alternative use.
c)incremental cost- it is the additional cost incurred due to a change in the level or nature of business activity.
d)Sunkcost-it is a cost which is not affected or altered due to change in the level or nature of business activity
e)Fixed cost- these cost are those whose total will be constant regardless of changes in volume of production or level of activity.
f)Variable cost- those costs are vary proportionally to the level of activity or changes in volume of production.
g)Semi fixed and semivariable cost- these cost may change in the same directions as volume but not in direct proportions, certain cost may be fixed upto a level of activity and beyond that the begin to change.
h)Short run cost and long run cost- Short run is defined in economics as a period during which at least one factor of production remains fixed in supply, it will be the plant and equipment used in production
i) Long run cost- the cost will be the basis for investment decision-making by the firm when a firm plans for expansion of the plant size, it will take long run cost into consideration. defined as one during which all inputs are variable.
j) Business cost and full cost- it is used to calculate the profits and losses of business for the purpose of filing income tax returns and to meet other legal obligations.
k) Explicit cost and implicit cost- Explicit cost-Those expenses which are actually paid by the firm. These cost appear in the accounting records of the firm. The amount paid out as rent, wages, utility expenses etc.
l) Implicit cost- theoretical cost in the sense that they go unrecognized by the accounting system. They do not require current cash expenditure.
m) Out of pocket cost and book cost- all expenses which involves cash payments are called as out of pocket cost. It is called so since cash physically goes out of the firm.
n)Book cost- this is a cost which does not involve cash payments, but provisions are made for these costs an hence they are entered in the account book.
o) total cost- it refers to the total outlay of money expenditure for the production of goods and service
p) historical cost and replacement cost- cost of assets which have been acquired in the past is termed as historical cost, these cost for accounting purpose.
q) Private cost and social cost, the costs which are paid by the firm and for which the firm makes provision is called as private cost, all the goods and services purchased by the firm are private cost.
r) Social cost- The part of these costs is paid by the society and hence they are called as social cost, for example considers a firm having a textile dying unit. The firm usually discharges its waste in rivers causing water pollution.
2. Explain briefly cost output relationship in short run cost curve and long run cost curve.
Short run cost curve- it is clear that in the short run, fixed remains constant. Moreover a firm can increase its output only by increasing its variable cost
The short run cost curve are studied in terms of
Average fixed cost, average variable cost, average total cost and marginal cost
IF both AVC, ATC AND AFC
IF AFC Falls but AVC will fall
If AFC falls but AVC rises.
Long run cost curve- it refers to the cost of producing different levels of output, by changing the size of the plant or scale production. This time period is termed as long run because during this period the firm can alter its assets like plant , building , equipment , machinery etc in order to produce more .
LAC curve is tangential to various SAC curves hence it is an envelope curve.
This is because for any given output the average cost cannot be higher in long run than that in short run. The cost curves are used in understanding how a firm attains optimum size. A firm which is of optimum size produces maximum output at the lowest average cost in the long run.
Here the LAC curve helps the organization to determine the size of the plant to be adopted for producing the given output. When a firm is operating to increasing returns to scale it is more economical to under use a slightly larger plant operating at less than its minimum cost output level than to over use a smaller plant.
3. Write short notes on a) economies of scale b) expansion path c) law of proportions
a) economies of scale arises when the average cost of production goes down as more number of output is produced, this trend will not go on forever because after a certain point, the cost will begin to rise with the increase in output due to the inefficiencies associated with large scale production .
b) expansion path- it refers to the line representing the least cost combination of inputs P,Q,R for different levels of output. Expansion path indicate how production can be expanded along this path if the factor prices are given. The expansion path is also called scale line as it indicates how to adjust the scale of operations as the firm changes its output. The scale line is already reckoned to decide on the issues relating to expansion or contraction of output given the relative prices of inputs,
c) law of proportions- the state of technology remains constant, if there is any improvement in technology, the average and marginal output will not decrease but increase
only one factor of input is made variable and other factor are kept constant. this law does not apply to those cases where the factors must be used in rigidly fixed proportions
all units of the variable factors are homogenous.
It can be used to calculate the least cost input combination for a given output.
It can be used to calculate the maximum input –output combination for a given cost
4. Explain the nature and managerial uses of production function.
Though production functions may seem to be highly abstract and unrealistic in fact they are both logical and useful. There are several managerial uses of production
It can be used to calculate the least cost input combination for a given output.
It can be used to calculate the maximum input –output combination for a given cost
Knowledge of production function is useful in deciding on the value of employing a variable input factor in the production process.
Production functions also aid in long run decision making.
The opposite is true if there is decreasing returns to scale
The producer will be indifferent about increasing or decreasing the production incase of constant returns to scale provided the demand is of no constraint.
5. Explain the various types of isoquants.
Isoquants may take different shapes depending on the degree substitutability of inputs. The various types of isoquants are
2.Input output isoquant or right angled isoquant
3.Kinked isoquant or convex isoquant
4.Smooth convex isoquant
Linear isoquant- this is a production situation where it is assumed that perfect substitutability between the factors of production is possible.
Input output isoquant or right angled isoquant- we assume strict complementarities or zeros substitutability between the inputs. When there is only one method of production for any commodity its isoquants takes the shape of right angle.
Kinked isoquant or convex isoquant-it assumes limited substitutability of capital and labour. Since there are only a few processes available for producing any commodity of input factors is possible only at kinks.
Smooth convex isoquant- this forms of isoquant assumes continuous substitutability of capital labour only over a certain range beyond which input factors cannot substituted for each other before we tool into the long run production function we will first discuss on the optimal combination of input factors.
UNIT 4 PRICING
1. Explain market and classification based on the time periods?
Market is a place where buyers & sellers meet in order to buy & sell goods at a price.
CLASSIFICATION OF MARKETS BASED ON TIME PERIODS
A. Very Short Period or Market period: This type of market is for perishable goods where the time period is very short & the supply of goods is perfectly inelastic. It means that the price alone will change according to demand but the supply will not change.
B. Short Period: This type of market is for Reproducible goods or durable goods where the businessman has got enough time to wait for the right price & the supply of goods is normal in the beginning & it becomes perfectly inelastic only in the later stage.
C. Long Period: During this period all the firms will try to earn normal profits by charging a low price, so that they can be stable in the market.
2. Discuss the various types and conditions of price discrimination?
THE VARIOUS TYPES OF PRICE DISCRIMINATION
i. Personal price discrimination based on the income of the customer: For example, doctors and lawyers charge different fees from different customers on the basis of their incomes. Higher fees are charged to rich persons and lower to the poor.
ii. Price discrimination based on the nature of the product: Paperback is cheaper than the deluxe edition of the same book, for the former is bought by the majority of readers, and the latter by libraries. Unbranded products, like open tea are sold at lower prices than branded products like brooke bond or lipton tea. Economy size tooth pastes are relatively cheaper than ordinary sized tooth pastes. In the case of services too, such price discrimination is practiced when off-season rates of holds at hill stations are very low as compared to the peak season. Dry cleaning firms charge for two while they clean three clothes during off season where as they charge more for quick service in peak season.
iii. Price discrimination related to the age, gender and status: price discrimination is also related to the age, gender and status of the customers. Barbers charge less for children‟s haircuts. Certain cinema halls admit ladies only at lower rates. Military personnel in uniform are admitted at concessional rates in all cinema houses.
iv. Discrimination is also based on the time of service: Cinema houses at certain places, like new delhi, charge half the rates in the morning show than in the afternoon shows.
v. Geographical or local discrimination: There is geographical or local discrimination when a monopolist sells in one market at a higher price than in the other market.
vi. Discrimination based on the use of the product: Railways charge different rates for different compartments or for different services. Less is charged for the transportation of coal than for bales of cloth on the same route. State power boards charge low rates for industrial use than for domestic consumption of electricity.
THE VARIOUS CONDITIONS OF PRICE DISCRIMINATION
i. Market imperfection: The individual seller is able to divide and keep his market into separate parts only if it is imperfect. Customers do not move readily from one market to the other because of ignorance.
ii. Agreement between rival sellers: price discrimination also takes place when the seller of a commodity is a monopolist or when rivals enter into an agreement for the sale of the product at different prices to different customers. This is usually possible in the sale of direct services.
iii. Geographical and tariff barriers: The monopolist may discriminate between home and foreign buyers by selling at a lower price in the foreign market than in the domestic market. This type of discrimination is known as dumping
iv. Differential products: Discrimination is possible when buyers need the same service in connection with differential products.
v. Ignorance of buyers: Discrimination also occurs when small manufacturers sell goods made to order. They charge different rates to different buyers depending upon the intensity of their demand for the product
vi. Artificial difference between goods: A monopolist may create artificial difference by presenting the same commodity in different quantities. He may present it under different names and lables, one for rich and snobbish buyers and the other for the ordinary. Thus he may charge different prices for substantially the same product.
vii. Difference in demand: For price discrimination, the demand in the separate markets must be considerably different. Different prices can be charged in separate markets based on differences of elasticity of demand, low price is charged where demand is more elastic and high price in the market with the less elastic demand.
3. Discuss various features of monopolistic competition?
Monopolistic competition refers to a market situation where are many firms selling a differentiated product.
THE VARIOUS FEATURES OF MONOPOLISTIC COMPETITION
i. Large number of sellers: In monopolistic competition the number of sellers is large. No seller by changing its price-output policy can have any perceptible effect on the sales of others and in turn be influenced by them.
ii. Product Differentiation: One of the most important features of the monopolistic competition is product differentiation. “A general class of product is differentiated if any significant basis exists for distinguishing the goods(or services) of one seller from those of another “.
iii. Freedom of Entry and Exit of firms: Another features of monopolistic competition is the freedom of entry and exit of firms. The fact that firms are small size and are capable of producing close subsitiutes make it possible for them to leave or enter the industry or group in the long run. In fact, product differentiation tends to increase rather than reduce the entry of new firms in the group, for each firm produces a distinct product from the other.
iv. Nature of Demand Curve: Under monopolistic competition no single firm controls more than a small portion of the total output of a product. No doubt there is an element of differentiation, nevertheless the products are close substitutes. As a result, a reduction in its price will increase the sales of the firm but it will have little effect on the price-output conditions of other firms, each will lose only a few of its customers. Likewise, an increase in its price will reduce its demand substantially but each of its rivals will attracts only a few of its customers. Therefore, the demand curve (average revenue curve) of a firm under monopolistic competition slopes downward to the right.
4. Discuss on the criticism of excess capacity under monopolistic competition?
i. Restriction of output: One of the workers of imperfect competition is the restriction of output so that price is kept higher than the marginal cost.
ii. Competitive advertisement: Expenditure on competitive advertisement is usually regarded as a waste of competition.
iii. Cross-Transport: Another similar waste is “expenditure” on cross-transport.
iv. Specialization: The failure of each firm is an industry to specialization in the production of those things for which it is best suited.
v. Valuable resources are wasted: Valuable resources are wasted because of excess capacity resulting in idle plant and manpower in each firm.
vi. Prevent Standardization: Imperfect competition may prevent that standardization of commodities which is essential if the most efficient methods of production are to be adopted.
vii. Excess capacity: Monopolistic competition has also been criticized on the ground that the firms under this type of market operate with excess capacity.
5. Define Oligopoly and characteristic features?
It is a market situation in which there are a few firms selling homogenous or differentiated products. It is difficult to pinpoint the number of firms in the oligopolistic market. There may be three, four or five firms. It is also known as competition among the few.
CHARACTERISTIC FEATURES OF OLIGOPOLY
i. Interdependence: There is a recognized interdependence among the sellers in the oligopolistic market.
ii. Advertisement: One producer’s fortunes are dependent on the policies and fortunes of the other producers in the industry. It is for this reason that oligopolistic firms spend much on advertisement and customer services.
iii. Competition: In oligopolistic market, each seller is always on the alert over the moves of its rivals in order to have a counter-move.
iv. Barriers to Entry of Firms: As there is keen competition in an oligopolistic industry, there are no barriers to entry into or exit from it.
v. Lack of Uniformity: In oligopoly market, there is a lack of uniformity in the size of firms.
vi. Demand Curve: Under oligopoly, the exact behaviour pattern of a producer cannot be ascertained with certainty his demand curve cannot be drawn accurately.
vii. No Unique Pattern of Pricing Behaviour: The rivalry arising from interdependence among the oligopolists leads to two conflicting motives. So it is not possible to predict any unique pattern of pricing behavior in oligopoly markets.