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Managerial Economics

Fundamental Principles of Managerial


Economics
The incremental concept
Marginal Principle
Equi Marginal Principles
The opportunity cost concept
Discounting concept
Concept of time prospective


Incremental Concept
Its Close Relationship with Marginal Concept
Incremental Cost and Incremental Revenue

A decision is clearly a profitable one if:

It increases revenue more than cost

It decreases some cost to more than it increases others

It increases some revenues more than it decrease others

It reduces costs more than revenues

Suppose anew order is estimated to bring in additional revenue of
Rs. 10,000 the costs are estimated as under
Labor Rs. 3,000
Material Rs. 4,000
Overhead Rs. 3,600
Selling and administrative expense Rs. 1,400
Full Costs Rs. 12,000
The order appears to be unprofitable for it results in a lose of Rs.
2,000 .Now, suppose if the order adds only Rs. 1,000 to overhead
charges and 2,000 by way of labor cost and no extra selling and
administrative costs then the actual incremental cost is as
follows
Labor Rs. 2,000
Material Rs. 4,000
Overhead charges Rs. 1,000
Selling and administrative expense
---------------------------
Full cost Rs. 7,000 (Profit 3000)
Incremental Concept Contd..
Thus there is a profit of 3,000. The order can be accepted on the
basis of incremental reasoning. The concept is mainly used by the
progressive concerns and it has certain limitations.

The concept can not be generalized because observed behavior
of the firm is always variable

The concept can be applied only when there is excess capacity in
the concern

The concept is applicable only during the short period



Marginal Concept of ME
Marginal analysis implies judging the impact
of a unit change in one variable on the other.
MU, MC, MR & MP
Equi-Marginal Principle
One of the widest known principles of economics is the equi-
marginal principle. The principle states that an input should
be allocated so that value added by the last unit is the same
in all cases. This generalization is popularly called the eque-
marginal. Let us assume a case in which the firm has 100
unit of labor at its disposal. And the firm is involved in five
activities viz A,B,C,D and E then firm can increase any one
of these activity by employing more labor but only at the
cost i.e,. sacrifice of other activities. An optimal solution is
reached if the value of the marginal products is greater in
one activity than in other.


Opportunity Cost Principle
The calculation of opportunity cost involves the measurements of
sacrifices
Sacrifices my be monetary or real
The opportunity cost is termed as the cost of sacrificed alternatives
In managerial decision making, the concept of opportunity
cost occupies an important place. The economic
significance of as follows:

It helps in determining relative prices of different goods.
It helps in determining normal remuneration to a factor of
production
It helps in proper allocation of factor resources


Discounting Principle
This concept is an extension of the concept of time
perspective. Since future is unknown and incalculable,
there lot of risk and uncertainty in the future. Everyone
knows that a rupee of today is worth more than rupee
will be two years from now. This appears similar to the
saying that a bird in hand is more worth than two in
the bush. Suppose you are offered a choice of Rs.
1,000 today or Rs. 1,200 next year. Naturally you will
select Rs. 1,000 today. That is true because future is
uncertain. The formula is:

V= (A/1+i)