What is Managerial Economics. Nature, Scope, Importance & Definitions 2024

Managerial economics is a branch of management studies which stress solving business problems and decision-making by applying the theories and principles of microeconomics and macroeconomics. It is a specific stream dealing with the organization’s internal issues by using various economic theories.

Managerial Economics is the fusion of economic theory and business operations to help management make better decisions and plan for the future. Managerial Economics aids a firm’s management in finding reasonable solutions to problems that arise over the course of the firm’s operations. It employs economic concepts and theory. It assists managers in making judgments about the firm’s customers, competitors, and suppliers, as well as the firm’s internal operations. It uses statistical and analytical tools to evaluate economic theories in the context of real-world business challenges.

Managerial Economics is a relatively new field of study. Corporate managers have become increasingly concerned with identifying rational and ways of reacting to and exploiting environmental change as the business environment has gotten more variable and unpredictable. From 1950 onward, the issues of the commercial world drew the attention of academics. After Joel Deans book “Managerial Economics” was published in 1951, managerial economics became prominent in the United States.

Managerial Economics studies aid in the development of analytical skills, as well as the rational configuration and solution of problems. Microeconomics is the study of decisions made about the allocation of resources and the prices of products and services, whereas macroeconomics is the study of the economy’s overall behavior (i.e. entire industries and economies).

DEFINITIONS of Managerial Economics

Spencer and Siegelman think:

“It is the integration of economic theory with business practice for the purpose of facilitating decision making and forward planning by management.”

Joel Dean says:

“The purpose of managerial economics is to show how economic analysis can be used in formulating business policies”.

McNair & Meriam declare:

“Managerial economics deals with the use of economic modes of thought to analyze business situations”.

Henry and Hayne think:

“Managerial economics is economics applied in decision making. It is a special branch of economics. That bridges the gap between abstract theory and managerial practice.”

Nature of Managerial Economics

Managers study managerial economics because it gives them insight to reign the functioning of the organization. If the manager uses the principles applicable to economic behavior reasonably, then it will result in smooth functioning of the organization.

1. Managerial Economics is a Science

Managerial Economics is an essential scholastic field. It can be compared to science in a sense that it fulfills the criteria of being a science in following sense:

• Science is a corpus of knowledge that is organized in a systematic way. It is founded on scientific observation. Managerial economics is also a science that deals with making decisions about finite resources with multiple uses. It is a set of skills that determines or observes the internal and external surroundings in order to make decisions.
• Any scientific conclusion is reached after a long period of experimentation. Managerial economics policies are also developed after extensive testing and trialing. Because the economic environment is made up of human variables that are unpredictable, the policies put in place are not rigid. Managerial economists make judgments based on their extensive previous expertise and observations.

2. Managerial Economics requires Art

Managerial economists must be skilled in combining their abilities, knowledge, and understanding to fulfill the organization’s goals. Managerial economists should have the ability to put their theoretical knowledge of economic environment factors into practice.

3. Managerial Economics for administration of organization

Managerial economics helps the management in decision making. These decisions are based on the economic rationale and are valid in the existing economic environment.

4. Managerial economics is helpful in optimum resource allocation

Managerial economists must be adept at combining their skills, knowledge, and understanding to achieve the goals of the firm. Managerial economists should be able to apply their theoretical understanding of economic environment aspects in real-world situations.

5. Managerial Economics has components of micro economics

Managers research and manage the organization’s internal environment in order to ensure the organization’s profitability and long-term viability. This component pertains to the study of microeconomics. Managerial economics is concerned with the issues that each organization faces, such as the organization’s main goal, demand for its product, price and output determination, available substitute and complementary goods, supply of inputs and raw materials, target or prospective consumers of its products, and so on.

6. Economics has components of macro economics

None of the organizations operate in a vacuum. Government policies, general price levels, income and employment levels in the economy, stage of the business cycle in which the economy is operating, exchange rate, balance of payment, general expenditure, saving and investment patterns of consumers, market conditions, and so on all have an impact on them. These factors have to do with macroeconomics.

7. Managerial Economics is dynamic in nature

Managerial Economics deals with human beings (i.e. human resource, consumers, producers etc.). The nature and attitude differs from person to person. Thus to cope up with dynamism and vitality managerial economics also changes itself over a period of time.

IMPORTANCE OF MANAGERIAL ECONOMICS

The significance or importance of business/managerial economics can be discussed as:

1. Business economics is concerned with parts of classical economics that are applicable to real-world business decision-making. These are adapted or changed so that the manager can make better decisions. As a result, business economics achieves the goal of constructing a useful tool kit from classical economics.

2. It also combines concepts from other disciplines, such as psychology and sociology. If they are considered to be useful in making decisions. In fact, business economics enlists the support of other disciplines that have an impact on business decisions in respect to numerous explicit and implicit restrictions that must be met in order to optimize resource allocation.

3. Business economics helps in reaching a variety of business decisions in a complicated environment. Certain examples are:

a)      What products and services should be produced?

b)      What input and production technique should be used?

c)       How much output should be produced and at what prices it should be sold?

d)      What are the best sizes and locations of new plants?

e)      When should equipment be replaced?

f)       How should the available capital be allocated?

4. Business economics makes a manager a more competent model builder. It helps him appreciate the essential relationship characterizing a given situation.

5. At the level of the firm. Where its operations are conducted though known focus functional areas, such as finance, marketing, personnel and production, business economics serves as an integrating agent by coordinating the activities in these different areas.

SCOPE OF MANAGERIAL ECONOMICS

Managerial Economics is a new field of study. The term “scope” refers to the research field of management economics. Economic theory is the foundation of managerial economics. Managerial economics has a broader scope due to its empirical orientation. Managerial economics provides strategic planning tools to management with the goal of gaining a comprehensive understanding of how business works and what can be done to preserve profitability in an ever-changing environment. While considering the scope of managerial economics we have to understand whether it is positive economics or normative economics.

1.  Positive versus Normative Economics

The majority of managerial economists believe that managerial economics is fundamentally normative and prescriptive. It’s all about making the right selections. Because it is constantly concerned with the achievement of objectives or the optimization of goals, managerial economics application is inextricably linked to value or norm discussion. We care more about what should happen in management economics than what really happens. Rather than describing what a company is doing, we describe what it should do in order for its decision to be valued.

I.  Positive Economics

The focus of positive science is on ‘what is.’ According to Robbins, economics is a pure study of what is, unconcerned with moral or ethical issues. Between the two ends, economics is neutral. The economist has no authority to judge the wisdom or foolishness of the goals themselves. He’s only interested in the issue of resources in relation to the goals he wants to achieve. Although the manufacture and selling of cigarettes and wine may be harmful to one’s health and hence morally repulsive, the economist has no authority to make such a judgment because both serve human needs and entail economic activity.

II. Normative Economics

The goal of normative economics is to figure out what should be the case. As a result, it’s also known as prescriptive economics. What should be the price of a product, what salary should be given, how should money be distributed, and so on, all fall under the scope of normative economics?

It’s worth noting that normative economics entails making value judgments. Almost all of the world’s best managerial economists believe that managerial economics is fundamentally normative and prescriptive. It mostly pertains to what should and cannot be neutral in terms of the ends. Because management economics is constantly concerned with the achievement of objectives or the optimization of goals, it is inextricably linked to the study of values or norms.

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2. Subject Matter of Marginal Economics

• Demand Analysis and Forecasting:

A firm is an economic entity that converts inputs into outputs that are then sold on the market. Precise demand estimation, based on an analysis of the dynamics operating on demand for the firm’s product, is a critical issue in making effective decisions at the firm level. A large percentage of managerial decision-making is based on accurate demand predictions. When estimating demand, the manager does not stop at assessing present demand; he or she also forecasts future demand. This is what demand forecasting entails. 

Cost and Production Analysis:

Cost analysis is yet another function of managerial economics. In decision making, cost estimates are very vital. The factors causing variation in costs must be acknowledged and allowed for if management is to arrive at cost estimates which are significant for planning purposes.

The factors that influence cost estimation, the link between cost and output, and cost and profit forecasting are all critical to a company’s success. Because all of the elements that determine costs are not always known or controllable, there is an element of cost uncertainty. Managerial economics addresses these parts of cost analysis as useful knowledge whose application is critical to a company’s success. In most cases, production analysis is conducted in physical terms. In the economics of manufacturing, inputs are extremely important. The variables of production, also known as inputs, can be integrated in a specific way to maximize output.

• Inventory Management:

A stock of raw materials held by a company is referred to as an inventory. The problem now is determining how much of the inventory is ideal stock. If it’s too high, the capital is sitting idle. Production will be hampered if inventory levels are low. As a result, managerial economics will employ techniques such as the Economic Order Quantity (EOQ) approach and ABC analysis to reduce inventory costs. It also delves deeper into topics including the reasons for keeping inventory, the cost of keeping inventory, inventory control, and the most common inventory control and management methods.

• Advertising:

To produce a commodity is one thing and to market it is another. Yet the message about the product should reach the consumer before he thinks of buying it. For that reason, advertising forms an essential part of decision making and forward planning. Expenditure on advertising and related types of promotional activities is called selling costs by economists. There are different methods for setting advertising budgets: Percentage of Sales Approach, All You can Afford Approach, Competitive Parity Approach, Objective and Task Approach and Return on Investment Approach.

• Pricing Decision, Policies and Practices:

Pricing is a very significant area of managerial economics. The control functions of an enterprise are not only production but pricing as well. When pricing a commodity, the cost of production has to be taken into account. Business decisions are very much influenced by pervading market structure and the structure of markets that has been evolved by the nature of opposition existing in the market. Pricing is in fact guided by consideration of cost plan pricing and the policies of public enterprises. The knowledge of the pricing of a product under conditions of oligopoly is also important. The price system guides the manager to make valid and profitable decisions.

• Profit Management:

A profit-making company is referred to as a business firm. Profits are a litmus test for a company’s performance. We must first grasp how profit is generated before we can appraise a company. The concept of profit maximization is highly useful in deciding between options when making a firm-level decision.

Managerial economics uses factual analysis and logical reasoning to try to figure out what causes what. For example, a large part of economic analysis of this logical premise attempts to draw concrete conclusions about what should be done when marginal revenue equals marginal cost. Deduction of mathematical form is the logic of linear programming. In fine, managerial economics is a branch of normative economics that draws from descriptive economics and from well established deductive patterns of logic.

1. Capital Management

The basic managerial function is to plan and regulate capital expenditures. From an economic standpoint, the managerial problem of capital planning and control is studied. In different industries, the capital budgeting process takes different shapes. The equi-marginal principle is involved. The goal is to ensure that funds are used in the most profitable way possible, which means that funds should not be used when the managerial returns are lower than in other ways.

The following are the primary themes covered: Cost of Capital, Rate of Return, and Project Selection. As a result, we can observe that a company is dealing with uncertainties. Therefore, we can conclude that the subject matter of managerial economics consists of applying economic principles and concepts towards adjusting with these uncertainties of the firm.

3.  Relation to Other Branches of Knowledge

A constructive method of throwing light on the nature and scope of managerial economics is to inspect its relationship with other disciplines. To classify the scope of a field of study is to discuss its relation to other subjects. Managerial economics integrates concepts and methods from these disciplines and brings them to bear on managerial problems.

• Managerial Economics and Economics

Managerial Economics is defined as the application of economics to decision-making. It can be studied as a sub-discipline of economics that bridges the gap between theoretical economics and managerial practice. Microeconomics and macroeconomics are the two primary areas of economics.

Micro-economics

Micro means small. It studies the behavior of the individual units and small groups of such units. It is a study of particular firms, particular households, individual prices, wages, incomes, individual industries and particular commodities. Thus microeconomics gives a microscopic view of the economy.

The micro-economic analysis may be undertaken at three levels:

• The equalization of individual consumers and produces;
• The equalization of the single market;
• The simultaneous equilibrium of all markets. The problems of scarcity and optimal or ideal allocation of resources are the central problem in microeconomics.

Microeconomic theory is where managerial economics gets its start. The components of microeconomics that managerial economics rely on include demand concepts, elasticity of demand, marginal cost, marginal revenue, the short and long runs, and market structure theories. It also employs well-known price theory models such as the monopolistic price model, kinked demand theory, and the model of price discrimination.

Macroeconomics

Macro means large. It deals with the behavior of the large aggregates in the economy. The large aggregates are total saving, total consumption, total income, total employment, general price level, wage level, cost structure, etc. Thus macro­economics is aggregative economics. It examines the interrelations among the various aggregates, and causes of fluctuations in them. Problems of determination of total income, total employment and general price level are the central problems in macroeconomics.

Managerial economics is tied to macroeconomics. Economic decisions are influenced by the environment in which a company operates, fluctuations in national income, changes in fiscal and monetary policies, and variations in the degree of business activity. The managerial economist’s awareness of the entire operation of the economic system is extremely beneficial in the creation of his policies.

The chief contribution of macro­economics is in the area of forecasting. The post Keynesian aggregative theory has direct implications for forecasting general business conditions. Since the prospects of an individual firm often depend greatly on business in general, for casts of an individual firm depend on general business forecasts, which make use of models derived from theory. The most widely used model in modern forecasting is 13 the gross national product model.

• Managerial Economics and Theory of Decision Making

Theorizing decision making is a relatively young subject with important implications for management economics. Decision making is critical throughout the management process and in each of the management activities such as planning, organizing, leading, and controlling. Making decisions is, in fact, an important aspect of today’s corporate management. A manager must deal with a variety of issues related to his or her company, including production, inventory, cost, marketing, pricing, investment, and staff.

 Economists are interested in the efficient use of scarce resources that’s why they are naturally interested in business decision problems and they apply economics in management of business problems. Hence managerial economics is economics applied in decision making.

In the real world of management, the theory of decision making recognises the diversity of aims and the pervasiveness of uncertainty. The theory of decision making substitutes the idea of a single best solution with the idea of finding a solution that ‘satisfies’ rather than maximizing. It looks into motivation, the relationship between rewards and aspiration levels, as well as patterns of influence and authority. Economic theory and decision-making theory appear to be at odds, with each relying on a separate set of assumptions. Much of the economic theory is based on the assumption of single goal maximization of utility for the individual or maximization of profit for the firm.

• Managerial Economics and Operations Research

Mathematicians, statisticians, engineers, and others collaborated to create models and analytical tools that have now evolved into operation research, a specialized field. The approach’s main goal is to create a scientific model of the system that can be used to make policy decisions. Linear Programming, Dynamic Programming, Input-Output Analysis, Inventory Theory, Information Theory, Probability Theory, Queueing Theory, Game Theory, Decision Theory, and Symbolic Logic were all developed during this time.

 Linear programming deals with those programming problems where the relationship between the variables is linear. It’s a valuable tool for the managerial economist for reducing transportation costs and allocating purchase amongst different supplies and site depots. It is employed when the objective func­tion is to maximize profit, output or efficiency.

 Dynamic programming helps in solving certain types of sequential decision problems. A sequen­tial decision problem is one in which a sequence of decisions must be made with each decision affecting future decisions.

Queuing is a type of statistical decision theory application. It is used to find the best solution. The idea can be used to solve problems like determining the most cost-effective way to meet a demand or reducing the amount of time spent waiting or idle. The theory of games holds forth the possibility of resolving some oligopolistic indeterminacy issues.

When we apply the game theory, we have to consider the following:

1. The players are the two firms;
2. They play the game in the marketplace;
3. Their strategies are their price or output decision; and
4.  The payoffs or rewards are their profits. The numerical figures are what is called pay­off matrix. This matrix is the most important tool of game theory.

• Managerial Economics and Statistics

Statistics is significant to managerial economics. It provides the root for the empirical testing of theory. Statistics is important in providing the individual firm with measures of the appropriate func­tional relationship involved in decision making. Statistics is a very useful science for business executives because a business runs on estimates and probabilities.

• Managerial Economics and Accounting

Managerial economics is directly related to accounting. It is concerned with recording the financial operation of a business firm. A business is started with the core aim of earning profit. Capital is invested and it is employed for purchasing properties such as building, furniture, etc and for meeting the current expenses of the business.

There are three classes of accounts:

1. Personal account,
2. Property accounts, and
3. Nominal accounts.

Management accounting provides the accounting data for taking business decisions. The accounting techniques are very important for the accomplishment of the firm because profit maximization is the most important objective of the firm.

• Managerial Economics and Mathematics

Another essential discipline that is closely related to managerial economics is mathematics. A collection of mathematical tools is required for the derivation and presentation of economic analysis. Math has aided in the development of economic ideas, and mathematical economics has grown to be a very important part of economic study.

 Mathematical approach to economic theories makes them more accurate and logical. For the estimation and prediction of economic factors for decision making and forward planning, the mathematical method is very supportive. The imperative branches of mathematics generally used by a managerial economist are geometry, algebra and calculus.

The mathemati­cal concepts used by the managerial economists are the logarithms and exponential, vectors and determinants, input­ output tables. Operations research which is closely related to managerial economics is mathematical in character.

FAQ’s

Conclusion

To sum up, studying managerial economics has given us a wealth of knowledge on the complex relationship between administrative decision-making and economic principles. We’ve examined its characteristics in depth, learning how it acts as a link between business management and economics, assisting executives in allocating resources as efficiently as possible and accomplishing organizational objectives. It is clear that managerial economics covers a wide range of topics, including production, demand analysis, cost assessment, and market structure. As a result, it provides a full toolkit for making wise decisions in the business sector.

Moreover, the several definitions we have looked at highlight how complex management economics is. It is not just a theoretical idea; rather, it is a discipline that is both practical and applied and is intricately woven into actual business situations. The diverse definitions offered by academics underscore the flexibility of management economics and its applicability to a wide range of fields and businesses.

A strong grasp of managerial economics becomes essential for leaders to negotiate problems, make wise decisions, and promote sustainable success in the fast-paced and complicated world of modern business. As we get to the end of our investigation, it is clear that managerial economics is more than just a theoretical framework. It serves as a compass for strategic decision-makers, assisting them in navigating the complex economic environment and directing their companies towards resilience and profitability.