INTRODUCTION TO BUSINESS ECONOMICS – CA FOUNDATION
Before we start with the concept of Business Economics, let’s understand the term Economics through the following situation:
If you have Rs. 2000 in your pocket and you are free to spend the money as you like. What will you do?
You have many options before you, such as:
Option 1: You can spend the whole money with your family/ friends.
Option 2: You can buy clothes/ accessories or anything of Rs. 2000.
Option 3: You can go to a movie and eat in a restaurant of your choice. Option 4: You can save whole money and due spend later on.
You have many options before you. However, you cannot have all of them at the same time because you have only Rs.2000 with you. Now, there will be a puzzle in your mind as to which of the above options to choose. You will have to go for one option or a combination of one or more options. What do you do? You evaluate the various alternatives and choose the one that gives you the greatest satisfaction. Since we cannot have everything we want with the resources we have, we are forever forced to make choices. Therefore, we choose to satisfy only some of our wants leaving many other wants unsatisfied.
These two fundamental facts:
- Unlimited wants, and
- A limited resource for satisfying these unlimited wants; form the subject matter of Economics.
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Now let’s understand the concept of Business Economics with the following situation:
Mr. A, the CEO of ABC Toys Limited, on completion of his presentation, turned to his Board of Directors and raised the question “Well ladies and gentlemen, what you say? Shall we go into kid’s clothes business?”
“Give us some time, Sir” remarked by one of the directors. “You are asking us to approve a major decision which will have long term impact on the direction of the company”.
“I understand your concern for the company but now the time has come for us to expand our business. Kid’s clothes market is growing fast and it is closely related to our business” answered Mr. A.
“But competition from MNO Ltd. and XYZ Ltd. is tough. They are already into this business for years” remarked another board member.
“That is right. But we must not forget that the statistics show that there is still room for growth in this market. And also, toys business is near maturity.” Replied Mr. A.
“Don’t forget that even PP Ltd tried entering the cloth market and failed miserably”, remarked another board member. “What is the guarantee that the trend will continue? He questioned.
“Well friends, all your concerns are logical, and believe me; I have given much thought to these ‘ifs’ and ‘buts’. My people have spent many days analyzing all available data to arrive at a judgment. Our analysis indicates a strong possibility of earning an above-average return on investment in this market, a return that will be more than what we are earning in the toy industry. We are already working on the details of production, cost, pricing, distribution, financing, etc. I fear, if we wait for long, we will be missing an opportunity that may not come again for long. Let’s go ahead and make the most of it” remarked Mr. A.
Now in the above example, the management of the company is facing the problem of decision making.
The survival and success of any business depend on sound decisions. Decision making involves assessment of workable alternatives, logical judgment on the basis of information and choice of a particular alternative which the decision-maker finds as the most suitable. The tools of Economics assist in choosing the best course of action from among the different alternative courses of action available to the decision-maker. Decision making requires that the management be equipped with proper methodology and appropriate analytical tools and techniques. Business Economics meets these needs of the management by providing a large corpus of theory and techniques
Business Economics is the discipline that helps a manager in decision making for achieving the desired results. In other words, it deals with the application of economic theory and methodology to business. Business Economics applies economics tools in the process of business decision making.
Economics has been broadly divided into two major parts i.e. Microeconomics and Macroeconomics.
Microeconomics is the study of the economic behaviour of an individual, firm or organization within an economic system in the national economy. Under this, a small number of or groups of units is considered. It is thus a study of a particular unit rather than all the units combined. Under Micro Economics, trees are examined and not the forest. It is useful in achieving a worm’s-eye view of some very specific component of our economic system.
We mainly focus on the following in Micro-Economics:
- Pricing of a product;
- Consumer behaviour;
- Factor pricing;
- The economic conditions of a section of people;
- Firms behaviour; and
- Industry location
Macroeconomics is the study of the overall economic happenings/ circumstances or the economy as a whole like the focus is not at individual quantities as such but on aggregates of these quantities; not on individual incomes, but on the national income. Thus, Macroeconomics is the study of aggregates. Under this, the forest is examined and not the trees. It gives us a bird’s-eye view of the economy.
We mainly focus on the following in Macro Economics are:
- National Income and Output;
- General price level and interest rates;
- Balance of trade and payments;
- The external value of money;
- Savings and Investment; and
- Employment and Economic Growth.
Usually, there is a gap between the recommendations of economic theory, as these are hypothetical and based on economic models that are built on assumptions and happenings in the real economic world in which the managers make decisions. Business Economics enables the application of economic logic and analytical tools to bridge the gap between theory and practice.
The term Business Economics is also called as Managerial economics or Applied Economics.
NATURE OF BUSINESS ECONOMICS
The following points will indicate the nature of business economics:
1. Business economics is an Art as well as Science – As a Science; it establishes the relationship between cause and effect by collecting, classifying and analyzing the facts on the basis of certain principles. It points out to the objectives and also shows the way to attain the said objectives. At the same time as an Art, it involves the practical application of rules and principles for the attainment of set objectives. It is concerned with what management should do under particular circumstances. It determines the goals of the enterprise. Then it develops the ways to achieve these goals. It is science in its methodology and art in its application. The study of the unemployment problem is science but framing suitable policies for reducing the extent of unemployment is an art.
2. Based on Microeconomics because it studies the problems of an individual business unit. Management is usually concerned towards the attainment of the pre-planned objectives of his organisation so as to secure its long-term survival and successful working of the organization.
3. Incorporates elements of Macro Analysis: Macro-Economics provides a brilliant interpretation of the environment in which the business operates. Business economics takes the help of macro-economics to understand the external conditions such as business cycle, national income, and Economic policies of Government, etc.
4. Normative in nature: This involves value judgments. It is prescriptive in nature and suggests ‘what should be’ a particular course of action under given circumstances. It suggests the application of economic principles with regard to policy formulation, decision-making and future planning. For example, questions like what should be the level of national income, what should be the wage rate, how the fruits of a national product are distributed among people – all fall within the scope of normative science. Thus, normative economics is concerned with welfare propositions.
5. Use of Theory of Markets and Private Enterprises: Business Economics largely uses the theory of the firm and resource distribution in the scenery of a private enterprise economy. In simple words, we can say that business economics largely uses the body of economic concepts and principles towards solving business problems. Business economics is to bridge the gap between economic theory and managerial practice.
6. Realistic in Approach: Micro-Economics is conceptual and purely theoretical and analyses economic phenomena under unrealistic assumptions. In contrast, Business Economics is realistic in its approach as it handles practical problems which the firms face in the real world. Because of this realistic approach, it is management-oriented also. As it helps the management in taking correct decisions and preparing plans and policies for the future. Business economics analyses the problems and gives solutions just as a doctor tries to give relief to the patient.
7. Interdisciplinary in nature: Business Economics is interdisciplinary or multidisciplinary in nature as it incorporates tools from other disciplines such as Mathematics, Operations Research, Management Theory, Production, Accounting, marketing, Finance, Statistics, etc. It makes use of most tools for effective decision making.
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Tag – Microeconomics and Macroeconomics / Business Economics / Nature of business economics