Macro Economics Ratios from Managerial Economics for Management of Business

There are only those ratios, which shall come across in the following chapters:

Consumption Income Ratio:

It is general income consumption relationship. It expresses the relationship between income (Y) and consumption (C). The relation is functional. We represent it as:

C = f (Y)
C – Consumption
Y – Income
f – Function

Saving Income Ratio:

Income is either spent or consumed. The saving function can be easily derived by subtracting consumption or spending from income.

S = Y-C

S – Saving

Y – Income

C – Consumption

Capital Output Ratio:

The number of units of capital required for each unit of output produced. More capital is required to produce more output for business and market. This ratio varies from firm to firm and industry to industry.

K = wY

K- Capital Stock

Y – Level of Output

W – Capital-Output Ratio

Capital Labour Ratio:

This ratio indicates factor proportion, the combination of labour and capital in the production process. It can be defined as:

K/L

K – Capital

L – Labour

Output-Labour Ratio:

It means the labour productivity. It can be written as

Y/L

Y – National Income

L – Employment.

Index Number:

Value in economy means value in exchange. The value of money is the buying capacity of money, which is expressed in terms of commodity and services you get in exchange.

If the price is high, then value of money decreases and vice-versa. They are reversely related to each other. Movement of price has two aspects: one is change in relative price and the other is change in overall price, which affects the purchasing power of money. Change in price is not uniform for all goods: for some goods it may decrease and for some goods it may increase. To bring the element of uniformity to the concept of general, price is used. This is done by index number.

Index number is statistical device which indicates relative changes of a variable over a period of time. It shows the general trend of prices. The value of money can be measured by means of price index numbers. We will discuss some types of prices indices. More specific price indices can be constructed which focuses on specific goods and services.

A Discussion on Perfect and Pure Competition of Market

Perfect Competition can be categorized as:

Large number of buyers and sellers:

A market runs on large number of buyers and sellers. Single firm is not able to affect the market supply or the market price. Similarly, there are large numbers of buyers also in market. Even the buyers can’t influence the price by changing their demand because each buyer and seller is like a drop in the ocean.

Homogeneous product:

Homogeneous product is known as the most important feature. According to it, product, which these large number of buyers buy from large number of sellers are identical or we can say perfect substitute. That means if one buyer increase the price, the buyer will buy it from other sellers as the products are identical e.g. rice.

Free entry and exit of firms:

We can take an example to clarify the term. An entrepreneur, who has enough capital and still can start the business and enter the industry and any one who is incurring loss can stop the production and exit the industry.

Firms are price takers:

If there are many buyers and sellers, nobody can influence the price or the supply in the industry. They are just like the drop in the ocean.

No cost of transportation:

In the perfect competition it is assumed that cost of transportation does not exist.

Now we should talk about perfect and pure competition. Perfect competition has all the features of pure competition and some more features. The first three features given under perfect competition constitutes pure competition whereas perfect competition has the features of pure competition and two more features they are perfect knowledge about the market and perfect mobility of inputs and output. Market of competition comes through profit maximization concept.

Property market also runs on the same concept of perfect and pure competition in the modern market. Now, market is not a place where we sell or buy a thing. Now, market is services also where third party takes an entry such as – finance market, property market etc.

Profit Maximization Model and Theory for Market

Profit maximization is the rational behaviour of equilibrium assumption. Any firm which aiming at profit maximization model; will go increasing its output till it reaches maximum profit output. Profit is known nothing but differences between total revenue and total cost. The more the differences between total revenue and total cost will create maximum profit. So, the equilibrium for a firm will be when there is maximum difference between the total cost and total revenue.

Economist Theory of Firm:

According to the Economist Theory of Firm, a firm is a transformation unit, which converts input into output and while doing so, tries to create surplus value. This surplus value is nothing but the difference between the value of the product and the value of the factors of production. The firm aiming for profit maximization reaches its equilibrium only when it produces profit maximizing output. The firm maximizes profit by equating marginal revenue with marginal cost.

Behavioral Theory of Cyert & March:

According to the theory, in a large multi-product firm the management is not the owner. There are forms of business firm which compromises the group of individuals and not controlled by single entity.

Marris Growth Maximization Model:

Robin Marris is the developer of the model. According to this theory, modern firms are managed by both the manager and the shareholders. A manager aims to maximize the rate of growth of the firm and the shareholders will try to maximize the dividend and the increase the share price.

Sales Maximization Model:

This is alternative model for profit maximization model. The model has been propounded by W.J. Baumol who was an American Economist. The assumption in this theory is relation about business behaviour. Baumol thinks managers are more interested in maximizing sales rather than profit.

Williamson’s Managerial Discretionary Theory:

According to the theory, in a firm, shareholders and managers are two separate groups. The firm tries to get maximum returns on investment and get maximum profit, whereas managers try to maximize profit in their satisfying function.

At last, Williamson’s managerial discretion theory shows the utility function of a manager. In this theory, the firm will try to get maximum returns or maximum profit where as manager try to maximum utility satisfying function. They are in equilibrium when the utility has maximum amount.

Concept of Market Equilibrium Theory in Market Demand

Market equilibrium is able to show interaction between the demand and supply. “Equilibrium” is Latin word, which means equal balance. It means there is no tendency to move.

Equilibrium of demand and supply:

Take here interaction between demand and supply. Demand and supply are always depended on price for commodities. Equilibrium price is the match of price of quantity demand and quantity supply. Equilibrium quantity is buying and selling products on equilibrium price. Here is a diagram to represent market equilibrium:

Equilibrium of Demand and Supply

Equilibrium Price:

There is a graph to show equilibrium price of market. Here, supply is P2 S2. There is excess demand of S2 D2. Due to competition in buyers, the price increases and reaches OP.

Equilibrium Price

Market equilibrium:

If there are no changes in demand or supply then equilibrium will go on so long. At first, we should take the change in the demand curve and assume that the supply curve remains shame. For example – if the shift in demand curve is due to change in income.

Market Equilibrium (Shift in demand curve)

Let’s take a view of shift in the supply curve also and assume that the demand curve remains constant.

Market Equilibrium (Shift in supply curve)

At last, in the market equilibrium, everyone who wants to sell, finds a buyer and everyone who wants to buy, gets a seller. This happen when, the market reaches equilibrium when the buyer finds a willing seller and seller finds a willing buyer. This tendency of market to reach equilibrium is not just theoretical, but we can see things happening in our day to day life.