Business Economics - I (As per Revised Syllabus for F.Y. B.Com., Semester I, of Mumbai University w.e.f. 2016-17) V.K. Puri (Retd.) Shyam Lal College, University of Delhi, Delhi. ISO 9001:2008 CERTIFIED © Author No part of this publication may be reproduced, stored in a retrieval system, or transmitted in any form or by any means, electronic, mechanical, photocopying, recording and/or otherwise without the prior written permission of the publishers. First Edition : 1996 Ninth Edition : 2012 Tenth Edition : 2013 Reprint : 2015, 2016 Eleventh Edition : July 2016 (As per Revised Syllabus) Published by : Mrs. Meena Pandey for Himalaya Publishing House Pvt. Ltd., “Ramdoot”, Dr. Bhalerao Marg, Girgaon, Mumbai - 400 004. Phone: 022-23860170/23863863, Fax: 022-23877178 E-mail: [email protected]; Website: www.himpub.com Branch Offices : New Delhi : “Pooja Apartments”, 4-B, Murari Lal Street, Ansari Road, Darya Ganj, New Delhi - 110 002. Phone: 011-23270392, 23278631; Fax: 011-23256286 Nagpur : Kundanlal Chandak Industrial Estate, Ghat Road, Nagpur - 440 018. Phone: 0712-2738731, 3296733; Telefax: 0712-2721216 Bengaluru : Plot No. 91-33, 2nd Main Road Seshadripuram, Behind Nataraja Theatre, Bengaluru-560020. Phone: 08041138821, 9379847017, 9379847005 Hyderabad : No. 3-4-184, Lingampally, Besides Raghavendra Swamy Matham, Kachiguda, Hyderabad - 500 027. Phone: 040-27560041, 27550139; Mobile: 09390905282 Chennai : New-20, Old-59, Thirumalai Pillai Road, T. Nagar, Chennai - 600 017. Mobile: 9380460419 Pune : First Floor, "Laksha" Apartment, No. 527, Mehunpura, Shaniwarpeth (Near Prabhat Theatre), Pune - 411 030. Phone: 020-24496323/24496333; Mobile: 09370579333 Lucknow : House No. 731, Shekhupura Colony, Near B.D. Convent School, Aliganj, Lucknow - 226 022. Phone: 0522-4012353; Mobile: 09307501549 Ahmedabad : 114, “SHAIL”, 1st Floor, Opp. Madhu Sudan House, C.G. Road, Navrang Pura, Ahmedabad - 380 009. Phone: 079-26560126; Mobile: 09377088847 Ernakulam : 39/176 (New No.: 60/251) 1st Floor, Karikkamuri Road, Ernakulam, Kochi - 682011, Phone: 0484-2378012, 2378016; Mobile: 09344199799 Bhubaneswar : 5 Station Square, Bhubaneswar - 751 001 (Odisha). Phone: 0674-2532129, Mobile: 09338746007 Kolkata : 108/4, Beliaghata Main Road, Near ID Hospital, Opp. SBI Bank, Kolkata - 700 010, Phone: 033-32449649, Mobile: 09883055590, 07439040301 DTP by : Sunanda Printed at : Rose Fine Art, Mumbai. On behalf of HPH. PREFACE The present book has been prepared for students of F.Y. B.Com., Semester I of University of Mumbai. The discussion in this book is divided into four modules. The structure, organisation and contents of these modules are as follows: Module I on ‘Introduction’ discusses meaning and nature of business economics, basic tools of analysis, basic economic relations, use of marginal analysis is decision-making, the concepts of demand and supply, and market equilibrium and price determination. Module II on ‘Demand Analysis’ discusses the nature of demand curve under different market structures, the concepts of price elasticity, income elasticity promotional elasticity, and issues pertaining to demand forecasting. Module III on ‘Supply and Production Decisions’ discusses the concept of production function, the law of variable proportions, isoquants and producer’s equilibrium, returns to scale, economies and diseconomies of scale, and economies of scope. Module IV on ‘Theory of Cost’ discusses the concept of costs, the nature of cost function in short-run and long-run, short-run and long-run cost curves, learning curve and break-even analysis. Keeping in view the fact that the book is meant for first year students, language has been kept simple and analysis direct. All difficult concepts have been explained carefully in a concise way. Keeping in view the requirements of the syllabus, case studies and applications have been discussed in various chapters. Questions at the end of different chapters have been split into three parts: (i) objective type questions, (ii) core questions, and (iii) questions requiring students to write explanatory notes. In writing this book, we have depended considerably on the standard reference texts of a number of authors and the works of a number of scholars. We gratefully acknowledge our intellectual debt to all of them. We also express our deep sense of gratitude to Dr. Divya Misra, Lady Shri Ram College, Delhi University and Mrs. Kiran Puri for rendering assistance in various forms. We are deeply indebted to our publisher M/s Himalaya Publishing House Pvt. Ltd. for their active and wholehearted co-operation at all stages in the preparation of the book. Suggestions for improvement in the book are welcome from all quarters. V.K. Puri SYLLABUS BUSINESS ECONOMICS - I Sr. No. Modules No. of Lectures 1 Introduction 10 2 Demand Analysis 15 3 Supply and Production Decisions 10 4 Cost of Production 10 Total 45 1. Introduction [10 Lectures] Scope and Importance of Business Economics: Basic Tools – Opportunity Cost Principle – Incremental and Marginal Concepts. Basic Economic Relations – Functional Relations, Equations – Total, Average and Marginal Relations – Use of Marginal Analysis in Decision- making. The Basics of Market Demand, Market Supply and Equilibrium Price – Shifts in the Demand and Supply Curves and Equilibrium. 2. Demand Analysis [15 Lectures] Demand Function: Nature of Demand Curve under Different Markets, Meaning, Significance, Types and Measurement of Elasticity of Demand (Price, Income, Cross and Promotional) – Relationship between Elasticity of Demand and Revenue Concepts. Demand Estimation and Forecasting: Meaning and Significance – Methods of Demand Estimation: Survey and Statistical Methods (Numerical Illustrations on Trend Analysis and Simple Linear Regression). 3. Supply and Product Decision [10 Lectures] Production Function: Short-run Analysis with Law of Variable Proportions – Production Function with Two Variable Inputs, Isoquants, Ridge Lines and Least Cost Combination of Inputs – Long-run Production Function and Laws of Returns to Scale – Expansion Path – Economies and Diseconomies of Scale and Economies of Scope. 4. Cost of Production [10 Lectures] Cost Concepts: Accounting Cost and Economic Cost, Implicit and Explicit Cost, Social and Private Cost, Historical Cost and Replacement Cost, Sunk Cost and Incremental Cost, Fixed and Variable Cost – Total, Average and Marginal Cost – Cost-Output Relationship in the Short-run and Long-run (Hypothetical Numerical Problems to be Discussed). Extensions of Cost Analysis: Cost Reduction through Experience – LAC and Learning Curve – Break-Even Analysis (with business applications) PAPER PATTERN Maximum Marks: 100 Questions to be Set: 06 Duration: 03 Hours All questions are compulsory carrying 15 Marks each. Question No Particular Marks Q.1 Objective Questions 20 Marks (A) Sub-questions to be asked (12) and to be answered (any 10) (B) Sub-questions to be asked (12) and to be answered (any 10) (*Multiple Choice/True or False/Match the Columns/Fill in the Blanks) Q.2 Full Length Question 15 Marks OR Q.2 Full Length Question 15 Marks Q.3 Full Length Question 15 Marks OR Q.3 Full Length Question 15 Marks Q.4 Full Length Question 15 Marks OR Q.4 Full Length Question 15 Marks Q.5 Full Length Question 15 Marks OR Q.5 Full Length Question 15 Marks Q.6 (A) Theory Questions 10 Marks (B) Theory Questions 10 Marks OR Q.6 Short Notes 20 Marks To be asked (06) To be answered (04) Note: Theory question of 15 marks may be divided into two sub-questions of 7/8 and 10/5 Marks. CONTENTS Module I: Introduction 1. Scope and Importance of Business Economics 3 – 28 2. Demand and Supply 29 – 49 Module II: Demand Analysis 3. Demand Function: Nature of Demand Curve under Different Markets 53 – 62 4. Elasticity of Demand 63 – 92 5. Demand Forecasting 93 – 109 Module III: Supply and Production Decisions 6. Theory of Production: Law of Variable Proportions 113 – 126 7. Isoquants and Producer’s Equilibrium 127 – 146 8. Returns to Scale and Economies of Scale 147 – 160 Module IV: Theory of Costs 9. Theory of Costs 163 – 191 MODULE I : INTRODUCTION 1. Scope and Importance of Business Economics 2. Demand and Supply 11 Scope and Importance of Business Economics z Meaning and Nature of Business Economics z Scope of Business Economics z Basic Tools z Risk and Uncertainty z Basic Economic Relations z Total, Average and Marginal Revenue z Use of Marginal Analysis in Decision Making z Case Studies and Applications All business firms are constantly engaged in the process of decision making. For example, a businessman has to decide what to produce and how to produce, what inputs are to be used and in what quantities, how are the various inputs to be combined to produce output, how (and at what level) the price is to be fixed, how are goods to be supplied in various markets, how are finances to be arranged, how are the production facilities (including labour, capital, etc.) to be managed, etc. The ultimate objective of all decision making processes is to maximise profits. Since economic theory provides tools and techniques to ensure this, it plays a central role in the decision making processes. While traditionally, the problem of optimal decision making in the context of a single individual or a single entrepreneur has been discussed under microeconomic theory, in recent decades a special branch of study known as business economics or managerial economics has been developed to tackle this problem. While business economics continues to depend on microeconomic theory in an essential way, it also takes into account certain macroeconomic issues as well. This is due to the reason that business activities do not take place in a vacuum but in an economy. Therefore, the overall economic environment has important consequences for any business entity. MEANING AND NATURE OF BUSINESS ECONOMICS From the above discussion, it is easy to understand the meaning of business economics or managerial economics. We may define it as the application of economic theory and methodology to decision 4 Business Economics - I making problems faced by the business firms. A more accurate definition is provided by Dominick Salvatore.