42 ECO SAT-1 from vikash agrawal

8/3/2019 42 ECO SAT-1 from vikash agrawal

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Masters of Business Administration- Semester 1

MB0042 Managerial Economics - 4 Credits

(Book ID: B1131)

Assignment Set- 1 (60 Marks)

Note: Each question carries 10 Marks. Answer all the questions.

1. Explain what is price elasticity of demand and outline the determinants of price

elasticity of demand with examples.

Answer: Elasticity of demand is generally defined as the responsiveness or sensitiveness of

demand to a given change in the price of a commodity. It refers to the capacity of demand

either to stretch or shrink to a given change in price.

Elasticity of demand indicates a ratio of relative changes in two quantities.ie, price anddemand.

According to Prof Boulding Elasticity of demand measures the responsiveness ofdemand to changes in price.

In the words of Marshall The elasticity (or responsiveness) of demand in a market isgreat or small according to the amount demanded much or little for a given fall in price, and

diminishes much or little for a given rise in price.

Determinants of price elasticity are:

1. Nature of commodity commodities coming under category of necessaries andessentials tend to be inelastic since people them irrespective of price.Ex. Grains, Milk, Vegetables, Refrigerators

2. Existence of Substitutes economically interchangeable goods are considered assubstitutes by buyers. If commodity has no substitute in market, demand tends to be

inelastic and buyers pay high price for such goods.

Ex. Salt, Tooth pastes, Soaps etc.

3. Number of uses of the commodity Single-use goods is those that can be used for

only purpose and multi-use goods are those that can be used for variety of purposes.Ex. Eatables, Seeds are single-use goods and Electricity, Coal are multi-use goods

4. Level of knowledge Demand in case of enlightened customer would be elastic

and in case of ignorant customers, it would be elastic


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5. Range of prices Goods for which a small fall or rise in prices will haveinsignificant effect on their demand.

Ex. Cars, Computers are costly in price while Needles, Nails are low priced

6. Habits When people are habituated for use of a commodity, they do not careabout the price

Ex. Tobacco, Alcohol

2. In the newspapers we read about mergers between companies in the same line of

business. What are the economies of scale that can be availed of with mergers?

Ans. 2 Merger refers to the process of combination of two companies, whereby a newcompany is formed. An acquisition refers to the process whereby a company simply

purchases another company. In this case there is no new company being formed. Benefits

of mergers and acquisitions are quite a handful.

Mergers and acquisitions generally succeed in generating cost efficiency through the

implementation of economies of scale. It may also lead to tax gains and can even lead to a

revenue enhancement through market share gain.

Economies of Scale

The study of economies of scale is associated with large scale production. To-day there is a

general tendency to organize production on a large scale basis. Mass production of

standardized goods has become the order of the day. Large scale production is beneficial

and economical in nature. The advantages or benefits that accrue to a firm as a result of

increase in its scale of production are called Economies of Scale?. They have close

relationship with the size of the firm. They influence the average cost over different ranges

of output. They are gain to a firm. They help in reducing production cost and establishing

an optimum size of a firm. Thus, they help a lot and go a long way in the development and

growth of a firm. According to Prof. Marshall these economies are of two types, viz Internal

Economies and External Economics. Now we shall study both of them in detail. Economiesof scale give information about the various benefits that a firm will get when it goes for

large scale production. Economies of scope on the other hand tells us how there will be

certain specific advantages when one firm produces more than two products jointly than

two or three firms produce them separately. Diseconomies of scale and diseconomies of

scope tells us that there are certain limitations to expansion in output Cost analysis on the

other hand, indicates the various amounts of costs incurred to produce a particular


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quantity of output in monetary terms. The various kinds of cost concepts help a manager to

take right decisions. Cost function explains the relationship between the amounts of costs

to be incurred to produce a particular quantity of output. Short run cost function gives

information about the nature and behavior of various cost curves. Long run cost function

tells us how it is possible to obtain more output at lower costs in the long run. Thus, the

knowledge of both production function and cost functions help a business executive to

work out the best possible factor combinations to maximize output with minimum costs.

Economies of scale, in merger, refers to the cost advantages that a business obtains due to

expansion. There are factors that cause a producers average cost per unit to fall as the

scale of output is increased. Economies of scale is a long run concept and refers to

reductions in unit cost as the size of a facility and the usage levels of other inputs increase.

Diseconomies of scale are the opposite. The common sources of economies of scale are

purchasing (bulk buying of materials through long-term contracts), managerial (increasing

the specialization of managers), financial (obtaining lower-interest charges whenborrowing from banks and having access to a greater range of financial instruments),

marketing (spreading the cost of advertising over a greater range of output in media

markets), and technological (taking advantage of returns to scale in the production

function). Each of these factors reduces the long run average costs (LRAC) of production by

shifting the short-run average total cost (SRATC) curve down and to the right. Economies of

scale are also derived partially from learning by doing.Economies of scale is a practical

concept that is important for explaining real world phenomena such as patterns of

international trade, the number of firms in a market, and how firms get too big to fail. The

exploitation of economies of scale helps explain why companies grow large in some

industries. It is also a justification for free trade policies, since some economies of scale

may require a larger market than is possible within a particular country for example, it

would not be efficient for Liechtenstein to have its own car maker, if they would only sell to

their local market. A lone car maker may be profitable, however, if they export cars to

global markets in addition to selling to the local market. Economies of scale also play a role

in a natural monopoly.

3. Discuss the features of monopolistic competition and the method of price

determination in monopolistic competition.

Ans. Monopolistic Competition

Perfect competition and monopoly are the two extreme forms of market situations, rarely to be

found in the real world. Generally, markets are imperfect. A number of attempts have been made by

different economists like Piero Shraffa, Hotelling, Zeuthen and others in the early 1920s, Mrs Joan

Robinson and Prof Chamberlin in 1930s to explain the behavior of imperfect competition.

Characteristics of Monopolistic Competition


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1. Existence of a large Number of firms:Under Monopolistic competition, the number of firms producing a product will be large. The

size of each firm is small. No individual firm can influence the market price. Hence, each

firm will act independently without worrying about the policies followed by other firms.

Each firm follows an independent price-output policy.

2. Market is characterized by imperfectionsImperfections may arise due to advertisements, differences in transport cost, irrational

preferences of consumers, ignorance about the availability of different brands of products

and prices of products etc., sellers may also have inadequate knowledge about market and

prices existing at different segments of markets.

3. Free entry and exit of firmsEach firm produces a very close substitute for the existing brands of a product. Thus,

differentiation provides ample opportunity for a firm to enter with the group or industry.

On the contrary, if the firm faces the problem of product obsolescence, it may be forced togo out of the industry.

4. Element of monopoly and competitionEvery firm enjoys some sort of monopoly power over the product it produces. But it is

neither absolute nor complete because each product faces competition from rival sellers

selling different brands of the product.

5. Similar products but not identicalUnder monopolistic competition, the firm produces commodities which are similar to one

another but not identical or homogenous. For E.g. toothpastes, blades, cigarettes, shoes etc,

6. Non-price competitionIn this market, there will be competition among Mini-monopolists for their products and

not for the price of the product. Thus, there is product competition rather than price

competition.

7. Definite preference of the consumersConsumers will have definite preference for particular variety or brands loyalty owing to

the special features of a product produced by a particular firm.

8. Product differentiationThe most outstanding feature of monopolistic competition is product differentiation. Firms

adopt different techniques to differentiate their products from one another. It may take

mainly two forms:

a. Real product difference:It will arise


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i. When they are produced out of materials of higher quality, durability andstrength.

ii. When they are extraordinary on the basis of workmanship, higher cost ofmaterial, color, design, size, shape, style, fragrance etc.

iii. When personal care is taken to produce it.b. Imaginary product difference:

Producers adopt different methods to differentiate their products from that of other

close substitutes in the following manner.

i. Proper location of sales depots in busy and prestigious commercial centers.ii. Selling goods under different trade marks, patenting rights, different brands and

packing them in attractive wrappers or containers.

iii. Providing convenient Working hours to customers.iv. Home delivery of goods with no extra cost.v. Courteous treatment to customers, quick and prompt delivery of goods in time

and developing cordial, personal and friendly relations with them.

vi.

Offering gifts, discounts, lucky dip schemes, special prices, guarantee of repairsand other free services, guarantee of products, fair dealings, sales on credit or

credit cards & debit cards etc.

vii. Agreement to take back goods if they are unsatisfactory.viii. Air conditioned stores etc.

9. Selling CostsAll those expenses which are incurred on sales promotion of a product are called as selling

costs. In the words of Prof. Chamberlin selling Costs are those which are incurred by the

producers (sellers) to alter the position or shape of the demand curve for a product. In

short, selling costs represents all those selling activities which are directed to persuade

buyers to change their preferences so as to maximized the demand for a given commodity.

Selling costs include expenses on sales depots, decoration of the shop, commission given to

intermediaries, window displays, demonstrations, exhibitions, door to door canvassing,

distribution of free samples, printing & distributing pamphlets, cinema slides, radio, T.V.,

newspaper advertisements (informative and manipulative advertisements) etc.

10.The concept of Industry & Product GroupsProf. Chamberlin introduced the concept of group in place of industry. Industry in

economics refers to a number of firms producing similar products. Under monopolistic

competition no doubt, different firms produce similar products but they are not identical.

Hence, Prof. Chamberlin has made an attempt to redefine the industry. According to him,

the monopolistically competitive industry is a groupof firms producing a closely related

commodity referred to as product group thus group refers to a collection of firms thatproduce closely related but not identical products.

4. If you were to buy a car, what are the factors that would affect the demand for your

purchase.


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Ans. The term demand is different from desire, want, will or wish. In the language of

economics, demand has different meaning. Any want or desire will not constitute demand.

Demand = Desire to buy + Ability to pay + Willingness to pay

The term demand refers to total or given quantity of a commodity or a service that are

purchased by the consumer in the market at a particular price and at a particular time.

Demand for the car is determined by numerous factors known as Demand Determinants:

1. Price of the given commodity, price of substitutes and/or future expected trend in prices

2. General price level existing in the country-inflation or deflation

3. Level of income and living standards of the people

4. Size, rate of growth and composition of population

5. Tastes, preferences, customs, habits, fashion and styles

6. Publicity, propaganda and advertisements

7. Weather and climatic conditions

Hence, the demand to buy a car will be affected by:

1. Price of the car

2. My income3. The price of other substitutes

4. Population

5. Habits

5. When factors of production are combined to produce a particular level of output,

what would be the effect on total product when all factors are kept fixed and only

one factor is varied. For example, when the amount of land used for producing a

particular crop is kept the same, and the other factors of production like labour,

fertilisers, etc is increased

Answer:

The factors affecting production can be explained using the Law of variable proportions:

This law is one of the most fundamental laws of production. It gives us one of the key insights to the

working out of the most ideal combination of factor inputs. All factor inputs are not available in

plenty. Hence, in order to expand the output, scarce factors must be kept constant and variable

factors are too increased in greater quantities. Additional units of a variable factor on the fixed

factors will certainly mean a variation in output. The law of variable proportions or the law of

nonproportional output will explain how variation in one factor input give place for variations in

outputs.

The law can be stated as the following as the quantity of different units of only one factor input is

increased to a given quantity of fixed factors, beyond a particular point, the marginal, average and

total output eventually decline.

The law of variable proportions is the new name for the famous Law of Diminishing Returns of

classical economists.

According to Prof. Benham as the proportion of one factor in a combination of factors is increased,

after a point, first the marginal and then the average product of that factor will diminish.


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According to Prof.Marshall -an increase in the quantity of a variable factor added to fixed factors, at

the end results in a less than proportionate increase in the amount of product, given technical

conditions.

ASSUMPTIONS OF THE LAW

Only one variable factor unit is to be varied while all other factors should be kept constant.

Different units of a variable factor are homogeneous.

Techniques of production remain constant.

The law will hold good only for a short and a given period.

There are possibilities for varying the proportion of factor inputs

Q6A company wishes to project the production requirements of a particular

product in the coming years. How will the company forecast the demand in the

coming years, using the trend projection method.

Ans. . A company wishes to project the production requirements of a particular product

in the coming years. How will the company forecast the demand in the coming years,

using the trend projection method?

Answer:

An old firm operating in the market for a long period will have the accumulated

previous data on either production or sales pertaining to different years. If we arrange

them in chronological order, we get what is called as time series. It is an orderedsequence of events over a period of time pertaining to certain variables. It shows a

series of values of a dependent variable say, sales as it changes from one point of time to

another. In short, a time series is a set of observations taken at specified time, generallyat equal intervals. It depicts the historical pattern under normal conditions.

This method is not based on any particular theory as to what causes the variables to

change but merely assumes that whatever forces contributed to change in the recent

past will continue to have the same effect. On the basis of time series, it is possible to

project the future sales of a company.

Further, the statistics and information with regard to the sales call for further analysis.

When we represent the time series in the form of a graph, we get a curve, the sales

curve. It shows the trend in sales at different periods of time. Also, it indicates

fluctuations and turning points in demand. If the turning points are few and their

intervals are also widely spread, they yield acceptable results. Here the time series

show a persistent tendency to move in the same direction. Frequency in turning pointsindicates uncertain demand conditions and in this case, the trend projection breaks

down.

The major task of a firm while estimating the future demand lies in the prediction of

turning points in the business rather than in the projection of trends. When turning

points occur more frequently, the firm has to make radical changes in its basic policy

with respect to future demand. It is for this reason that the experts give importance to

identification of turning points while projecting the future demand for a product.


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The heart of this method lies in the use of time series. Changes in time series arise on

account of the following reasons:

1. Secular or long run movements: Secular movements indicate the general conditions

and direction in which graph of a time series move in relatively a long period of time.

2. Seasonal movements: Time series also undergo changes during seasonal sales of a

company. During festival season, sales clearance season etc., we come across mostunexpected changes.

3. Cyclical Movements: It implies change in time series or fluctuations in the demand for

a product during different phases of a business cycle like depression, revival, boom etc.

4. Random movement: When changes take place at random, we call them irregular or

random movements. These movements imply sporadic changes in time series occurring

due to unforeseen events such as floods, strikes, elections, earth quakes, droughts and

other such natural calamities. Such changes take place only in the short run. Still they

have their own impact on the sales of a company.

An important question in this connection is how to ascertain the trend in time series? A

statistician, in order to find out the pattern of change in time series may make use of the

following methods:-

1. The Least Squares method

2. The Free hand method

3. The moving average method

4. The method of semi averages

Masters of Business Administration- MBA Semester 2


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MB0042 Managerial Economics - 4 Credits(Book ID: B1131)

Assignment Set- 2 (60 Marks)

Note: Each question carries 10 Marks. Answer all the questions.

1. The supply of a product depends on the price of the product. This determines the

supply curve. What are the factors other than price that cause shifts in the supply

curve.

Ans. Supply and demand is an economic model ofprice determination in a market. It concludes

that in a competitive market, the unit price for a particular good will vary until it settles at a point

where the quantity demanded by consumers (at current price) will equal the quantity supplied by

producers (at current price), resulting in an economic equilibrium of price and quantity.

The four basic laws of supply and demand are:[1]

1. If demand increases and supply remains unchanged, then it leads to higher equilibriumprice and quantity.

2. If demand decreases and supply remains unchanged, then it leads to lower equilibriumprice and quantity.

3. If supply increases and demand remains unchanged, then it leads to lower equilibrium priceand higher quantity.

4. If supply decreases and demand remains unchanged, then it leads to higher price and lowerquantity.

Although it is normal to regard the quantity demanded and the quantity supplied as functions of theprice of the good, the standard graphical representation, usually attributed to Alfred Marshall, has

price on the vertical axis and quantity on the horizontal axis, the opposite of the standard

convention for the representation of a mathematical function.

Since determinants of supply and demand other than the price of the good in question are not

explicitly represented in the supply-demand diagram, changes in the values of these variables are

represented by moving the supply and demand curves (often described as "shifts" in the curves). By

contrast, responses to changes in the price of the good are represented as movements along

unchanged supply and demand curves.

A supply schedule is a table that shows the relationship between the price of a good and the

quantity supplied. A supply curve is a graph that shows the same relationship.

Under the assumption of perfect competition, supply is determined by marginal cost. Firms will

produce additional output as long as the cost of producing an extra unit of output is less than the

price they will receive.

By its very nature, conceptualizing a supply curve requires that the firm be a perfect competitorthat is, that the firm has no influence over the market price. This is because each point on the
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supply curve is the answer to the question "If this firm isfaced with this potential price, how much

output will it be able to and willing to sell?" If a firm has market power, so its decision of how much

output to provide to the market influences the market price, then the firm is not "faced with" any

price, and the question is meaningless.

Economists distinguish between the supply curve of an individual firm and the market supply

curve. The market supply curve is obtained by summing the quantities supplied by all suppliers at

each potential price. Thus in the graph of the supply curve, individual firms' supply curves are

added horizontally to obtain the market supply curve.

Economists also distinguish the short-run market supply curve from the long-run market supply

curve. In this context, two things are assumed constant by definition of the short run: the

availability of one or more fixed inputs (typically physical capital), and the number of firms in the

industry. In the long run, firms have a chance to adjust their holdings of physical capital, enabling

them to better adjust their quantity supplied at any given price. Furthermore, in the long run

potential competitors can enter or exit the industry in response to market conditions. For both of

these reasons, long-run market supply curves are flatter than their short-run counterparts.

The determinants of supply follow:

1. Production costs, how much a good costs to be produced2. The technology used in production, and/or technological advances3. The price of related goods4. Firms' expectations about future prices5. Number of suppliers

Demand schedule

A demand schedule, depicted graphically as the demand curve, represents the amount of some good

that buyers are willing and able to purchase at various prices, assuming all determinants of demandother than the price of the good in question, such as income, tastes and preferences, the price of

substitute goods, and the price ofcomplementary goods, remain the same. Following the law of

demand, the demand curve is almost always represented as downward-sloping, meaning that as

price decreases, consumers will buy more of the good.[2]

Just as the supply curves reflectmarginal costcurves, demand curves are determined by marginal

utility curves.[3]Consumers will be willing to buy a given quantity of a good, at a given price, if the

marginal utility of additional consumption is equal to the opportunity costdetermined by the price,

that is, the marginal utility of alternative consumption choices. The demand schedule is defined as

the willingness and abilityof a consumer to purchase a given product in a given frame of time.

As described above, the demand curve is generally downward-sloping. There may be rare examples

of goods that have upward-sloping demand curves. Two different hypothetical types of goods with

upward-sloping demand curves are Giffen goods (an inferior butstaple good) and Veblen goods

(goods made more fashionable by a higher price).

By its very nature, conceptualizing a demand curve requires that the purchaser be a perfect

competitorthat is, that the purchaser has no influence over the market price. This is because eachpoint on the demand curve is the answer to the question "If this buyer isfaced with this potential
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price, how much of the product will it purchase?" If a buyer has market power, so its decision of

how much to buy influences the market price, then the buyer is not "faced with" any price, and the

question is meaningless.

As with supply curves, economists distinguish between the demand curve of an individual and the

market demand curve. The market demand curve is obtained by summing the quantities demanded

by all consumers at each potential price. Thus in the graph of the demand curve, individuals'

demand curves are added horizontally to obtain the market demand curve.

The determinants of demand follow:

1. Income2. Tastes and preferences3. Prices of related goods and services4. Consumers' expectations about future prices and incomes5. Number of potential consumers

2. Explain with examples the following types of costs:

a) Fixed costs

b) Variable costs

c) Marginal costs

d) average costs

e) short run costs

A) Fixed costs are those that do not change with the level of sales. If sales increase or decreasebut nothing else changes then fixed costs remain the same. Common examples of fixed costs

include rents, salaries of permanent employees and depreciation.

A high level of fixed costs increases operational gearing. Costs that are not fixed are variable

or semi-variable.

From an analysts point of view, accounts do not always provide enough information to

separate fixed and variable costs, which is needed for financial modelling (to model how

costs will change with revenues). In some cases cost of goods sold can be assumed to be

variable (e.g., for a retailer, whose cost of sales is the cost of buying the goods sold.).

What accountants call variable costs, are roughly the same as what economists call short

run variable costs. From the point of view of financial modelling, costs are likely to be fixed

only over a certain range of conditions: if you are a manufacture who wants to increase

production 5% you might be able to do so with your existing factories, and only pay for the

increased consumption of raw materials, whereas if you want to double production you

may need to twice as many factories so all your costs double.


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B) Variable costs are expenses that change in proportion to the activity of a business .[1]Variable cost is the sum ofmarginal costs over all units produced. It can also be considered

normal costs. Fixed costs and variable costs make up the two components of total cost.

Direct Costs, however, are costs that can easily be associated with a particular cost object.[2]

However, not all variable costs are direct costs. For example, variable manufacturing

overhead costs are variable costs that are indirect costs, not direct costs. Variable costs aresometimes called unit-level costs as they vary with the number of units produced.

C) The marginal cost of production is the increase in total cost as a result of producing one extraunit. The concept of marginal cost in economics is similar to the accounting concept of variable

cost. It is the variable costs associated with the production of one more unit.

Marginal costs are not constant. For example a factory may be operating at the highest capacity it

can with all workers working normal full time hours, so increasing production by one more unit

would mean paying overtime, so the marginal cost would be higher than the current variable cost

per unit.

Conversely, an input may become cheaper as the quantities purchased rise (e.g. quantitydiscounts), so marginal costs may fall as production increases.

The importance of marginal costs vary greatly from industry to industry, and from product to

product. The marginal cost of manufacturing jewellery is likely to be high: the materials and

skilled labour needed are both expensive. On the other hand the marginal cost of producing

software or recorded music is negligible.The concept of marginal cost is very important in areas

of economics such as analysing optimum levels of production for a firm. Profit maximising

output is achieved when marginal cost equals marginal revenue. Selling prices are either constant

(given perfect competition), or fall (the usual situation where the firm has some level of market

influence). Marginal cost usually initially falls as a result of economies of scale, but eventually

rises as a result ofdiseconomies of scale, and increasing demand pushing up prices of inputs.

D) economics, average cost or unit cost is equal to total cost divided by the number of goodsproduced (the output quantity, Q). It is also equal to the sum of average variable costs (total

variable costs divided by Q) plus average fixed costs (total fixed costs divided by Q).

Average costs may be dependent on the time period considered (increasing production may

be expensive or impossible in the short term, for example). Average costs affect the supply

curve and are a fundamental component of supply and demand.

E) short run, in which some factors are variable and others are fixed, constraining entry or exitfrom an industry. In macroeconomics, the long run is the period when the general price

level, contractual wage rates, and expectations adjust fully to the state of the economy, in

contrast to the short run when these may not fully adjust.[1]
http://en.wikipedia.org/wiki/Variable_cost#cite_note-GNB_pp_48-0http://en.wikipedia.org/wiki/Variable_cost#cite_note-GNB_pp_48-0http://en.wikipedia.org/wiki/Variable_cost#cite_note-GNB_pp_48-0http://en.wikipedia.org/wiki/Marginal_costhttp://en.wikipedia.org/wiki/Fixed_costhttp://en.wikipedia.org/wiki/Total_costhttp://en.wikipedia.org/wiki/Cost_objecthttp://en.wikipedia.org/wiki/Variable_cost#cite_note-GNB_pp_51-1http://en.wikipedia.org/wiki/Variable_cost#cite_note-GNB_pp_51-1http://en.wikipedia.org/wiki/Variable_cost#cite_note-GNB_pp_51-1http://en.wikipedia.org/wiki/Overhead_%28business%29http://en.wikipedia.org/wiki/Indirect_costshttp://moneyterms.co.uk/variable-costs/http://moneyterms.co.uk/variable-costs/http://moneyterms.co.uk/marginal-revenue/http://moneyterms.co.uk/economies-of-scale/http://moneyterms.co.uk/diseconomies-of-scale/http://moneyterms.co.uk/diseconomies-of-scale/http://moneyterms.co.uk/economies-of-scale/http://moneyterms.co.uk/marginal-revenue/http://moneyterms.co.uk/variable-costs/http://moneyterms.co.uk/variable-costs/http://en.wikipedia.org/wiki/Indirect_costshttp://en.wikipedia.org/wiki/Overhead_%28business%29http://en.wikipedia.org/wiki/Variable_cost#cite_note-GNB_pp_51-1http://en.wikipedia.org/wiki/Cost_objecthttp://en.wikipedia.org/wiki/Total_costhttp://en.wikipedia.org/wiki/Fixed_costhttp://en.wikipedia.org/wiki/Marginal_costhttp://en.wikipedia.org/wiki/Variable_cost#cite_note-GNB_pp_48-0

42 ECO SAT-1 from vikash agrawal

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