Introduction
Business decisions are made in an environment where resources are limited, consumer needs are constantly changing, and future conditions cannot always be predicted with certainty. A business firm must decide what to produce, how much to produce, how to control costs, how to respond to changes in demand, and how to use its available resources effectively. Business economics provides an economic framework for making these decisions.
Business economics deals with
decision-making and forward planning under conditions of uncertainty. It
integrates economic theory with business practice for the purpose of
facilitating decision-making and forward planning by management. It applies
economic theories, principles, concepts, and techniques to business management
in order to address business and management problems.
Meaning of
Economics
Economics is a social science
that covers the actions of individuals and groups of individuals in the process
of producing, exchanging, and consuming goods and services to achieve
optimization of resource use.
These activities involve
production decisions, exchange decisions, and consumption decisions. At the
heart of economics is the problem of choosing how scarce means should be used
to satisfy different ends.
According to Lord Robbins,
economics is the science that studies human behavior as a relationship between
ends and scarce means which have alternative uses. This idea provides an
important foundation for understanding why economic decision-making is necessary.
Meaning of
Business Economics
Business economics is concerned
with applying economic thinking to the practical problems of business
management. It deals with decision-making and forward planning in uncertainty
and integrates economic theory with business practice.
Business economics therefore
provides a link between economic theory and business practice. Economic
principles help explain consumer behavior, demand, costs, supply, markets, and
other economic relationships, while business economics uses these principles to
support managerial decisions and forward planning.
Business economics can be
applied to improve organizational decisions, understand individual and market
demand for demand forecasting, analyze cost and supply structures, understand
markets, and examine external factors such as unemployment and inflation.
Characteristics
of Business Economics
Microeconomic
Nature
Business economics is
microeconomic in nature because it deals with matters concerning a particular
business firm. Its focus is therefore placed on the economic problems and
decisions faced by individual firms.
Use of
Economic Theories
Business economics uses economic
theories relating to profits, distribution of income, and other matters
relevant to business. These theories provide a basis for analyzing business
situations and making decisions.
Normative
Science
Business economics is a
normative science because it studies the aims and objectives of a business firm
and determines the methods to be adopted for achieving those objectives. It
also makes an enquiry into what is good and bad in decision-making.
Macroeconomic
Uses
Although business economics has
a microeconomic nature, it also uses macroeconomic approaches frequently.
Matters such as business cycles, national income, public finance, and foreign
trade are important to business economics because broader economic conditions
influence business decisions.
Economics
as a Science and an Art
Economics can be considered a
science because it is a systematized body of knowledge that studies
relationships between cause and effect. It is also an art because art
represents the practice of knowledge. Science teaches us to know, whereas art
teaches us to do.
Business economics is therefore
science in its methodology and art in its application.
Scope of
Business Economics
Demand
Forecasting
Every business firm initiates
and continues its production process on the basis of anticipated future demand
for its goods. A firm conducts research and market surveys to understand the
tastes and fashions of consumers. It then pools its resources and starts
production to meet future demand.
Business economics analyzes
demand behavior and forecasts the quantity demanded by consumers. Demand
forecasting therefore forms an important part of business planning.
Cost
Analysis
Business economics deals with
the analysis of different costs incurred by business firms. Every firm seeks to
minimize its costs and increase its output by securing economies of scale. Cost
estimates and cost analysis provide entrepreneurs with knowledge about the cost
structure of their firms.
Profit
Analysis
Every business firm aims to
secure maximum profits, but obtaining profits involves uncertainty and risk.
Business economics deals with matters related to profit analysis, including
profit techniques, profit policies, and break-even analysis.
Capital
Management
Capital management is another
important area of business economics. It deals with matters such as the cost of
capital, rate of return, and selection of the best project.
Importance
of Business Economics
Business economics is useful for
analyzing and understanding various economic problems and has applications
across different sections of society. Its knowledge provides both an
understanding of economic problems and a basis for taking decisions that produce
practical results.
Business
Economics and the Finance Minister
The study of business economics
is useful to the Finance Minister and personnel working in the finance
department. It provides knowledge about public revenue, public debt, and public
expenditure and helps in forming sound financial policy and result-oriented
budgets.
Business
Economics and Planning
Business economics is also
useful to the Minister for Planning and related personnel. It provides
knowledge about various types of plans, mobilization, plan implementation,
capital-output ratio, investment strategy, and related matters.
Business
Economics and Banking
Business economics is useful to
bankers because it enables them to understand the nature, purpose, and
implications of different economic policies implemented by business firms.
Business
Economics and Trade Union Leaders
Knowledge of business economics
is significant for trade union leaders. It helps them understand the nature and
causes of industrial disputes and wage problems.
Business
Economics and Businessmen
Businessmen can use business
economics to study fluctuations in business, prices, production, and
employment. This knowledge helps them adopt appropriate strategies for
producing goods and services according to changes in demand.
Business
Economics and Statesmen
Statesmen also benefit from
studying business economics because it enables them to understand the nature
and causes of economic problems. It helps in addressing problems such as
unemployment, inflation, and scarcity of goods.
International
Economic Problems
International economics is an
important branch of economics that deals with matters such as terms of trade,
balance of payments, and export and import regulations. Knowledge of
international economic problems enables international agencies to determine the
foreign exchange value of various national currencies.
Demand
The demand for a commodity
refers to the amount of it which will be bought per unit of time at a
particular price. In economics, demand means effective demand. For demand to
exist, a person should have a desire for a commodity or service, willingness to
pay its price, and ability to pay its price.
Demand is therefore more than
simply wanting a product. The desire must be supported by both willingness and
ability to purchase.
Direct
Demand and Derived Demand
Direct demand refers to demand
for consumption goods and services that satisfy consumer desires.
Derived demand refers to demand
for intermediate goods. Such demand arises from the demand for final goods. For
example, demand for steel, which is an intermediate good, is derived from the
demand for final goods such as automobiles.
Individual
Demand and Market Demand
Individual demand refers to the
demand for a commodity from the individual point of view. The quantity of a
good that a consumer would buy at a given price during a given period of time
is the individual's demand for that particular good.
Market demand refers to the
total demand of all buyers taken together. It therefore represents the combined
demand of individual buyers in the market.
Law of
Demand
The law of demand describes the
general tendency of consumer behavior in demanding a commodity in relation to
changes in its price. It states that the consumer demands more of a good at a
lower price and less at a higher price, other things being constant. Thus, the
quantity of a good demanded is negatively related to the price of the good.
The relationship can be
expressed simply: when price goes up, quantity demanded goes down; when price
goes down, quantity demanded goes up.
The law of demand can be
illustrated by a demand schedule. For example, in the demand schedule for
wheat, a price of Rs. 5 per kg corresponds to a quantity demanded of 10 kg per
week. As the price falls to Rs. 4, Rs. 3, Rs. 2, and Rs. 1, the quantity demanded
increases to 20, 30, 40, and 50 kg per week, respectively.
The demand curve represents the
same relationship graphically. Price is shown on the vertical axis and quantity
demanded per unit of time on the horizontal axis. The demand curve slopes
downward, showing the inverse relationship between price and quantity demanded.
Determinants
of Demand
Demand is influenced by several
factors. These include the own price of the commodity, the income of the
consumer, the prices of other goods such as complementary and substitute goods,
tastes and preferences, and expectations of future prices.
These determinants explain why
demand may change even when the price of the commodity itself remains
unchanged.
Change in
Quantity Demanded and Change in Demand
A change in quantity demanded is
a movement along the demand curve. It occurs because of a change in the price
of the commodity while other factors remain constant.
A change in demand is a shift of
the demand curve. It occurs when factors other than the price of the commodity
change. Distinguishing between these two situations is important when analyzing
market behavior.
Assumptions
of the Law of Demand
The law of demand operates under
several assumptions. The consumer's income is assumed to remain unchanged
throughout the operation of the law. If income changes, the consumer may buy
more even at a higher price.
Consumer preferences are also
assumed to remain unchanged. The consumer's tastes, habits, and preferences
should remain constant.
Fashion is assumed not to
change. If the commodity goes out of fashion, a buyer may not purchase more of
it even at a substantial price reduction.
Weather conditions are also
assumed to remain unchanged when considering the demand for certain goods.
Government policy is similarly assumed to remain unchanged. Changes in taxation
and fiscal policy can cause changes in consumer income or commodity prices and
may lead to changes in consumer preferences.
Reasons for
the Downward-Sloping Demand Curve
The downward slope of the demand
curve can be explained through the income effect, the substitution effect, and
the law of diminishing marginal utility.
The income effect occurs because
when the price of a commodity falls, the consumer's real income rises. The
consumer can now purchase more of the commodity with the same income.
The substitution effect occurs
because when the price of a commodity falls, it becomes cheaper than its
substitute goods. Consumers may shift their consumption toward the commodity
whose price has fallen, increasing the quantity demanded.
The law of diminishing marginal
utility states that the satisfaction derived from a commodity diminishes with
every successive unit. Consequently, the consumer would be willing to pay less
and less for each successive unit.
Exceptions
to the Law of Demand
Giffen
Goods
In the case of certain inferior
goods called Giffen goods, when the price falls, quite often less quantity may
be purchased than before because of the negative income effect and people's
increasing preference for a superior commodity with the rise in their real
income. Examples given include cheap potatoes, cheap bread, and vegetable ghee,
in contrast with superior commodities such as good potatoes, cake, and pure
ghee.
Commodities
Used as Status Symbols
Some expensive commodities, such
as diamonds and expensive cars, are used as status symbols to display one's
wealth. The more expensive these commodities become, the greater their value as
status symbols and hence the greater the demand for them. Such commodities are
also known as Veblen goods.
Expectations
of Changes in the Price of a Commodity
Expectations about future prices
can influence present purchases. If a household expects the price of a
commodity to increase, it may start purchasing a greater amount even at the
presently increased price. Similarly, if the household expects the price to
decrease, it may postpone its purchases.
In such cases, the demand curve
does not follow the usual downward slope and instead presents a backward slope
from the top right to the bottom left. This is known as an exceptional demand
curve.
Supply
Supply of a commodity means the
quantity of a commodity that is actually offered for sale at a given price
during a particular period of time. Supply is always referred to in relation to
both price and time.
Supply
Curve and Law of Supply
Supply states that, with all
other factors remaining unchanged, the supply of a good increases as its price
increases. This relationship can be shown by a supply schedule, a supply curve,
or a supply function.
The law of supply states that
there is a direct relationship between the price and quantity supplied of a
commodity, other things remaining constant.
The supply curve is upward
sloping because of the law of diminishing marginal productivity and the goal of
profit maximization.
Supply
Function
Sx = f [Px, Pf, Py, ........, Pz, O, T, t, s]
Here, Sx represents the supply
of commodity X; Px represents the price of X; Pf represents the set of prices
of the factors; Py to Pz represent the prices of other goods; O represents
factors outside the economic sphere; T represents the technology used; t
represents commodity taxation; and s represents subsidy.
Determinants
of Supply
The major determinants of supply
include the price of the commodity, cost of production, technological progress,
prices of related goods, and government policy.
At a higher price, a producer
offers more quantity, while at a lower price, a producer offers less quantity.
When the price of a related good
increases while the price of the commodity remains constant, the supply of the
commodity decreases, and vice versa.
Upgradation in technology leads
to a reduction in the cost of production. As a result, supply increases, and
vice versa.
Government policy also affects
supply. When government policy is favorable, supply is greater; when government
policy is unfavorable, supply is less.
Supply
Schedule
A supply schedule is a table
showing the quantity of a commodity supplied at various prices during a given
period. There are two types of supply schedules: the individual seller's supply
schedule and the market supply schedule.
|
Price of
commodity X |
Quantity
supplied of commodity X |
|
10 |
150 |
|
15 |
250 |
|
18 |
400 |
|
20 |
600 |
|
25 |
900 |
The individual supply schedule
represents the different quantities of a commodity offered for supply by an
individual seller at alternative prices. The schedule shows that as the price
rises from 10 to 25, the quantity supplied rises from 150 to 900.
Market
Supply
The price-quantity relationship
of a commodity in the market is expressed in terms of market supply. Market
supply is the aggregate supply schedule of all sellers or producers in the
market.
It refers to the total
quantities of a given commodity that sellers in the market are willing to offer
for sale at various prices. Thus, the market supply schedule is derived by
adding together the individual supply schedules of every seller in the market.
Change in
Quantity Supplied
Change in quantity supplied
includes expansion and contraction of supply. A movement along the supply curve
is caused by changes in the price of the goods, while other things remain
constant.
For example, the quantity
supplied shown in the supply curve increases from 1,250 to 1,500 units per unit
of time as the price increases. This represents a movement along the same
supply curve rather than a shift of the curve.
Change in
Supply: Shift of the Supply Curve
A change in supply includes an
increase and decrease in supply. A shift in the supply curve is caused by
changes in factors other than the price of the good.
The factors include the price of
other commodities, the state of technology, the cost of production, and
government policies.
When these factors change, the
entire supply curve may shift. For example, an improvement in technology can
reduce the cost of production and increase supply. A favorable change in
government policy can also increase supply, while an unfavorable policy can
reduce it.
Conclusion
Business economics provides a
framework for applying economic principles to business decision-making and
forward planning. It deals with the economic problems faced by firms and
considers matters such as demand, cost, profit, capital, markets, and the broader
economic environment.
Demand and supply form an
important foundation of this analysis. Demand describes the quantity of a
commodity that consumers are willing and able to purchase at different prices,
while supply describes the quantity producers are willing to offer for sale at
different prices.
The law of demand establishes an
inverse relationship between price and quantity demanded, while the law of
supply establishes a direct relationship between price and quantity supplied,
with other factors remaining constant. Understanding these relationships,
together with the factors that cause movements along or shifts of the demand
and supply curves, provides a basis for understanding market behavior and
business decisions.