1. UNIT -1
Introduction to Business Economics
• Meaning, Nature and Scope of Business
Economics – Micro and Macro
• Basic Economic Problems
• Market forces in solving economic problems.
• Circular Flow of Income and Expenditure

2. Meaning , Nature & Scope of B.E
 Business Economics, also called Managerial Economics, is the
application of economic theory and methodology to business.
• Decision making means the process of selecting one out of two or more
alternative courses of action. The question of choice arises because the
basic resources such as capital, land, labour and management are limited
and can be employed in alternative uses.
• Forward Planning means establishing plans for the future. Once the
decision is made about the particular goal to be achieved , plans as to
production, pricing, capital & labour etc. are prepared.
Business
Economics
Decision
Making
Forward
Planning

3. Business Economics ( Application of Economic theory & Methodology to
solving Business Problem)
Optimal Solutions to business problems
Business Problems
Decision Making & Forward Planning
Economic Theory & Methodology

4. Nature of Business Economics
 Traditional economic theory has developed along two lines; viz.,
normative and positive.
 Positive economics is objective and fact based, while normative
economics is subjective and value based.
For Example :
• The unemployment rate is currently at 9 percent. (Positive
Statement )
• The unemployment rate is too high. ( Normative Statement)
• The government must take action in order to reduce the
unemployment rate. (Normative statement)
 Business economics combines the essentials of the normative and
positive economic theory, but the emphasis being more on the
former than the latter.

5. Scope of Business Economics
 As regards the scope of business economics, the following aspects
are said to generally fall under business economics.
1. Demand Analysis and Forecasting
2. Cost and production Analysis.
3. Pricing Decisions, policies and practices.
4. Profit Management.
5. Capital Management

6. ECONOMICS VS BUSINESS ECONOMICS:
1. Economics has both micro and macro
aspects. But Business Economics is
essentially micro in character.
2. Economics studies both firm and
individual while Business Economics
studies only the problems of a business
firm.
3. In Economics we study the concepts and
theoretical aspects of economic analysis.
But Business Economics is an applied
part of the study.
4. Economics is both positive and normative
science. But Business Economics is
essentially normative in nature.
5. Economics studies only economic aspects
of the problem whereas Business
Economics studies both Economic and
non economic aspects.
6. Economics studies the principles
underlying rent, wages, interest and
profit. But Business Economics studies
mainly the principles of profit only.
7. In Economics, before explaining a
concept or theory certain assumptions
are being made. But in Business
Economics these assumptions disappear
due to practical situations.

7. Basic Economic Problems
• Business economics helps in reaching a variety of business decisions
in a complicated environment. Certain examples are :
(i) What products and services should be produced?
(ii) What input and production technique should be used?
(iii) How much output should be produced and at what prices it should
be sold?
(iv)What are the best sizes and locations of new plants?
(v) When should equipment be replaced?
(vi) How should the available capital be allocated?

8. Branches of economics & nature of Business Economic
 Micro Economics : (MIKROS)
Microeconomics is that branch of
economics which is concerned with
the decision-making of a single
unit of an economic system. For
e.g Individual Demand, Supply of a
firm, Consumption of an Individual
and Pricing etc.
 Macroeconomics (MARKROS)
Is that branch of economics which
is concerned with the economic
magnitudes relating to the
economic system as a whole,
rather than to the microeconomic
units like individuals or firms. It
has, therefore, been called
„aggregative economics‟
 According to Mc Nair and
Meriam, “Business economic
consists of the use of economic
modes of thought to analyze
business situations.”
 Siegel man has defined managerial
economic (or business economic) as
“the integration of economic theory
with business practice for the
purpose of facilitating decision-
making and forward planning by
management.” Economics
Macro
Micro/
Business
Economics/
Managerial
Economics

9. Differences between Microeconomics and Macroeconomics
Micro Economics
• It is that branch of economics
which deals with the economic
decision-making of individual
economic agents such as the
producer, the consumer, etc.
• It takes into account small
components of the whole economy.
• It deals with the process of price
determination in case of
individual products and factors of
production.
• It is known as price theory
• It is concerned with the
optimization goals of individual
consumers and producers
Macro Economics
• It is that branch of economics
which deals with aggregates and
averages of the entire economy,
e.g., aggregate output, national
income, aggregate savings and
investment, etc.
• It takes into consideration the
economy of any country as a
whole.
• It deals with general price-level in
any economy.
• It is also known as the income
theory
• It is concerned with the
optimization of the growth process
of the entire economy.

10. Circular flow of Income
 Meaning of Circular Flow:
• The terms circular flow refer to a simple economic model which
describes the reciprocal circulation of income between producers
and consumers.
• In the circular flow model, the inter-dependent entities of producer
and consumer are referred to as "firms" and "households“
respectively and provide each other with factors in order to facilitate
the flow of income.
• Firms provide consumers with goods and services in exchange for
consumer expenditure and "factors of production" from
households .

11. Assumptions
The basic circular flow of income model consists of seven assumptions:
1. The economy consists of two sectors: households and firms.
2. Households spend all of their income (Y) on goods and
services or consumption (C). There is no saving (S).
3. All output (O) produced by firms is purchased by households through
their expenditure (E).
4. There is no financial sector.
5. There is no government sector.
6. There is no overseas sector (no exports or imports)
7. It is a closed economy

12. Two sector model
House & Firm
 In the simple two sector circular flow of income model the state of
equilibrium is defined as a situation in which there is no tendency
for the levels of income (Y), expenditure (E) and output (O) to
change, that is:
Y = E = O
 This means that the expenditure of buyers (households) becomes
income for sellers (firms). The firms then spend this income on
factors of production such as labour, capital and raw materials,
"transferring" their income to the factor owners. The factor owners
spend this income on goods which leads to a circular flow of
income.

13. Circular Flow – 2 Sector model
House Hold
(Consumers)
Firm
(Producers)
Consumption spending (C)
Income (Y) – Wages, Salaries, Rent, Interest & Profit
Labour, Land, Capital and
Enterprise
Goods and Services

14. Two Sector Model
Financial Sector
• Financial Sector that consists of banks and non-bank intermediaries
who engage in the borrowing (savings from households) and lending
of money.
• In terms of the circular flow of income model the leakage that
financial institutions provide in the economy is the option for
households to save their money. This is a leakage because the saved
money can not be spent in the economy and thus is an idle asset that
means not all output will be purchased.
• The injection that the financial sector provides into the economy is
investment (I) into the business/firms sector.

15. Circular Flow – 2 Sector model
Financial sector
Consumers Producers
Consumption spending (C)
Income (Y) – Wages, Salaries, Rent, Interest & Profit
Savings (S) Investment (I)
Financial Sector

16. • As long as Savings equals Investment the economy will not expand or
contract
• If Savings is larger than Investment the leakage will contract the economy
• If Investment is larger than Savings then the economy will expand (There is
an injection of extra funds)

17. Three sector Model
• It includes household sector, producing sector and government
sector. Here flows from household sector and producing sector to
government sector are in the form of taxes.
• The income received from the government sector flows to producing
and household sector in the form of payments for government
purchases of goods and services as well as payment of subsides and
transfer payments. Every payment has a receipt in response of it by
which aggregate expenditure of an economy becomes identical to
aggregate income and makes this circular flow and unending.
• It will study a circular flow income in these sectors excluding rest of
the world i.e. closed economy income.

18. Circular Flow of Income : Three Sector Model
Consumers, Producers, Financial and Government Sectors
Consumers Producers
Savings (S)
Government Sector
Investment (I)
Consumption spending (C)
Income (Y)
Taxation (T)
Government
Spending (G)

19. • As long as Taxation equals Government Spending the
economy will not expand or contract
• If Taxation is larger than Government Spending there is a
leakage and the economy will contract
• If Taxation is less than Government Spending there is a
injection into the economy and it will expand

20. Four Sector Model
External Sector
• A modern monetary economy comprises a network of four
sector economy these are- 1.Household sector 2.Firms or
Producing sector 3.Government sector 4.Rest of the world
sector.
• Each of the above sectors receives some payments from the
other in lieu of goods and services which makes a regular flow
of goods and physical services. Money facilitates such an
exchange smoothly.

21. Circular Flow of Income
Four Sector Model
Consumers, Producers, Financial, Government and Overseas
Consumers Producers
Savings (S)
Government Sector
Investment (I)
Taxation (T) Spending (G)
Overseas Sector
Imports (M) Exports (X)
Consumption spending (C)
Income (Y)

22. • Savings, Taxation and Imports are leakages
• Investment, Govt. Spending and Exports are injections into the
economy
• Savings and Investments can be altered by the Reserve Bank‟s
control of interest rates
• Taxation and Govt. Spending can be adjusted by the Govt.‟s
Budget.
• Imports and Exports is very difficult to make adjustments –
market forces prevail.