MEANING AND SCOPE OF BUSINESS ECONOMICS

Business Economics is comparatively a new discipline. It is a special branch of Economics applied in business decision making. Business Economics means the application of economic theory to the problem of management. It is primarily concerned with the applicability of economic concepts and analysis to decision making in business.

The perspective of business economics is quite different from that of conventional microeconomics, in studying decisions.

The emphasis of business economics is on managerial economics, rather than on predicting the equilibrium position of an industry.

Business Economics thus lies on the border line of management and economics and serves as a bridge between the two disciplines. Moreover, a basic understanding of definitions and scope Economics is most essential for a greater understanding of business economics.

Definitions of Economics

The science of Economics was born with the publication, in 1776, of Adam Smith’s magnum opus, “An enquiry into the Nature and Causes of Wealth of Nations.” At its birth, it was baptized as Political Economy – and appellation which remained in use for nearly a century after its birth. No doubt, sporadic attempts were made in the early part of the 19^th century to bestow new names upon it. Whately suggested Catallactics or the science of exchanges; Hearn called it Plutology or the science of wealth; and Ingram insisted on naming it as Chrematistics or the science of money – making. Despite these attempts, the original appellation of Political Economy continued to survive the early and the middle part of the 19^th century. Towards the close of the century, however, there was a definite change from Political Economy to Economics. In this connection, it is worth remembering that the word ‘Economics’ was derived from the Greek words Oikos (a house) and nemein (to manage) which, in effect, meant managing a household, using the limited funds available in the most economical manner possible. Thus, the term ‘Economics’ was applied to a frugal use of one’s limited resources and the term ‘Economy’ to the manner in which a particular society organized its resources for the maximum production of desired goods and services.

At present, there is a plethora of definitions of Economics available in the field. Broadly speaking, the various definitions of Economics can be lumped together under four heads; (i) ‘Wealth’ (ii) ‘Welfare’ (iii) ‘Scarcity’, and (iv) “Growth’.

Wealth Definition

Adam Smith is commonly known as the Father of Economics. He is associated with the Classical School of Economics. Adam Smith defines ‘Economics as the Science of Wealth’. He laid emphasis on material wealth, the wealth being the object of man’s desires.

According to Adam Smith, the main purpose of all economics activities is to acquire as much wealth as possible. Thus he emphasized the production and expansion of wealth as the subject – matter of economics. Wealth is, therefore, regarded as the be-all end-all of all economic activities.

Other Classical economists like J.B. Say, David Ricardo, Nassau Senior, J.S. Mill, F.A. Walker and J.E. Cairnes too regarded economics as the study of wealth.

Though wealth definition was a pioneering attempt made by Adam Smith to define economics, it is not free from criticism. Since Adam Smith laid exclusive stress on material wealth, it was severely criticized by men of letters like Ruskin and Carlyle as ‘Gospel of Mammon’ ‘a pig science’, ‘a dark and dismal science’, and also was dubbed as the ‘bread and butter science’. Ruskin went to the extent of criticizing Economics as ‘a bastard science, the science of getting of getting rich’.

Besides, by restricting the definitions of wealth to material wealth and the neglect of immaterial service in his study Adam Smith narrowed down the scope of economics.

Thus, wealth definition was considered unsatisfactory, unscientific and incomplete and as such discarded towards the close of the 19^th Century.

Welfare Definition

Alfred Marshall, a prominent English economist is associated with the Neo-Classical School of Economics. He published his celebrated book “Principles of Economics” in the year 1980. In this book, Marshall defines ‘Economics as the Science of Material Welfare’. The credit goes to Alfred Marshall for shifting the emphasis from wealth to man and also from wealth to welfare. He laid emphasis on man and his welfare. By shifting from ‘Wealth’ to ‘Welfare’, Marshall has not only enlarged the realm of economics, but also elevated it to the status of social science.

Marshall pointed out that Wealth is not an end in itself, but only a means to an end, the end being the promotion of human welfare. He gives primary importance to ‘Man and his Welfare’ and only secondary importance to Wealth.

According to him, economics is a practical science since it deals with man’s actions in the ordinary business of life, and studies how man gets his income, how he uses is and how he makes the best use of his resources. Thus it is, on the one side, a study of wealth; and on he other and more important side, a part of the study of man. To him, economics examines that part of individual and social action which is most closely connected with the attainment and the use of material requisites of well – being.

Other neo-classical economists like A.C.Pigou, E.Canan and W.Beveridge too regarded Economics as the study of material welfare.

Though welfare definition of Marshall, no doubt, is a great improvement over the wealth definition, it too is not free from criticism. Robbins criticizes the welfare definition on the ground that it is ‘classificatory’ rather than ‘analytical’ in character. That is, it included only material welfare of human beings but excluded non-material welfare. As such, the welfare definition is highly unsatisfactory.

Scarcity Definition

Prof. Lionel Robbins is associated with the London School of Economics. He provides a new and scientific definition of economics. He published his famous book “An Essay on the Nature and Significance of Economics Science” in the year 1932. In this book, Robbins defines Economics as “the science which studies human behavior as a relationship between ends and scarce means which have alternative uses”.

This definition highlights three fundamental features of human existence. They are:

(1)   Unlimited ends

(2)   Scarce means

(3)   Alternative uses of Scarce means

It is evident that an economic problem arises only when the above conditions are fulfilled simultaneously.

Robbins ‘definition raises a fundamental issue, namely, scarcity of means in relation to unlimited ends and the consequent problem of choice. Whenever the resources are scarce and the wants are many, the question of choice arises. The man has to choose between the wants to which resources are to be allocated.

Economists like Eric Roll, A.P. Lerner, George J. Stigler, Cairncross have defined economics on Robbins lines.

Like the ‘Welfare definition, the ‘Scarcity’ definition too is not free from critism. Critics pointed out that an economic problem does not always arise from scarcity as suggested by Robbins. It can arise from abundance as well. For example, the Great Depression of the ‘Thirties, Robbins’ has also been criticized on the ground that he has made economics neutral between ends. Critics are also of the view that if economics is to serve as an engine of social betterment, it would have to abandon the neutrality between ends.

Growth Definition

Prof. Paul A. Samuelson has given a growth – oriented definition of economics. His definition runs as follows:

“Economics is the study of how men and society end up choosing, with or without the use of money, to employ scarce productive resources that could have alternative used to produce various commodities, now or in the future, among various people and groups in society. It analyses the costs and benefits of improving patterns of resource allocation”.

Samuelson has pointed out three fundamental aspects in his definition. They are:

(1)   Human behavior

(2)   Allocation of scarce resources

(3)   Alternative uses of resources

Economics is not a bundle of theories and principles, it is a practical social science. The study of the subject is not undertaken, merely for the sake of knowledge. It is done to lay down principles and policies for removing poverty and increasing human welfare.

Scope of Economics

The scope of economics means the limits of its subject matter. From the definition we can understand the scope of economics. It studies man in the ordinary business of life and how he earns his income and how he satisfies his wants. It is concerned not with individual actions but with social actions. It studies how wealth is produced with limited resources in order to satisfy human wants. It studies about problems arising out of multiplicity of wants and scarcity of resources which satisfy these wants. It studies how wealth is produced, consumes, exchanged and distributed.

Satisfaction of human want is called consumption which forms one of the important branches of economics. This tells how people behave in consumption of goods and services in order to maximize their satisfaction. Goods and services have to be produced with the help of factors of production. So, Production is another important branch of economics. This tells how maximum goods are produced with minimum cost or how the scarce factors could be utilized economically for better results. Goods and services cannot be produced at one place or at one point of time. Goods produced by one are exchanged for the goods produced b the other. So, Exchange forms another important branch of economics. Goods and services are produced with efforts, i.e., by combining the factors of production. These efforts have to be paid for or rewarded. The land gets rent, the labour gets wages, the capital gets interest and the organizer gets profit. This branch of study is called Distribution.

Besides these four branches, there is another important branch called public Finance. This studies about the sources of revenue to the government and the principle governing expenditure for the benefit of the people. It studies about public debt and financial administration.

Meaning of Business Economics

Business economics or what is also known as managerial economics is concerned with the application of economic theory and methods to the analysis of decision – making problem faced by business firms. The first and most important problem faced by a business firm is the selection of a product to be produced or service to be provided. The second important problem dealt with in business economics is to decide about price and output of the product so as to maximize profits or to attain some other desired goal. The decision regarding price and output requires careful analysis of the demand for a product and costs of its production. The other important decision-making problem that business firms face relate to what methods or techniques of production are to be used in the production of commodities, and how much advertisement expenditure is to be incurred for promoting the sales of a product.

It is important to note that business economics has both descriptive and prescriptive roles. Business economics not only explains how various economic forces affect the working of a firm but also predict the consequences of the decisions made by it. This is its positive or descriptive role. In addition to this business economics prescribes the rules for the improvement of decision making by firms or their managers so that they can achieve their objectives efficiently.

It should be noted that business economics also draws heavily on the decisions sciences for the techniques used for decision making. The techniques of decision sciences used especially for business decision making are optimization techniques, particularly differential calculus and mathematical programming. These optimization techniques are used in the analysis of alternative courses of action and the evaluation of results obtained so that best alternative which helps in attaining the objective is chosen. Besides optimization techniques, methods of statistical estimation, game theory of decision sciences are extensively used in business economics for developing decision rules that can help managers in achieving firm’s objectives. It may however be noted that these techniques of decision sciences have now become a part of modern economic theory. Therefore, business economics can be described as the use of theories and techniques of modern economics for decision – making problems of business firms.

It may be noted that business economics deals with not only private firms but also public enterprises. This is because mangers of all types of organizations face similar problems. In the last about three decades business economics has grown rapidly because it has been increasingly realized that economic theory and its methods and concepts can be used by mangers to achieve efficiently the desired objectives of the firm. Economics is primarily concerned with allocation of scarce resources to alternative uses so as to achieve maximum possible satisfaction of the people. Thus, Lord Robins defines economics as a “Sciences which studies human behavior as a relationship between ends and scarce means which have alternative uses”. The type of decision – making by managers of business firms also usually involves question of resource allocation within a firm or organization. The resources at the disposal of a firm are scarce of limited. What product to be produced, what price should be fixed, how much quantity of it should be produced, and what factor combination or production technique be used for the production of goods involve resource allocation by a firm It is the task of manger of a firm that it should take decisions regarding these resource allocation problems in a way that ensure most efficient use of resources. Only this will enable the firm to achieve the goal of profit maximization.

Business Economics and Economic Theory

Economic theory has been broadly divided into microeconomics and macroeconomics. It is important to note that business economics draws on both microeconomics and macroeconomics. Microeconomics explains how an individual consumer chooses among goods so as to maximize their satisfaction and individual business firms decide to fix price and output of their products and what factor combination they use for producing them. The parts of microeconomics which deal with demand, theory, analysis of cost and production, theory of determination of price and output under different market structures are particularly useful in making decisions on such matters.

The study of macroeconomics which focuses on the economy as a whole is also highly useful for business economist who is faced with various decisions – making problems. This is because firms do not work in a vacuum. The levels of overall economic activity, national income and employment, aggregate demand condition, government policies (both fiscal and monetary), the general price level greatly affect business firms. These aggregates of the economy make up the overall economic environment which affects business decisions of managers. Therefore, in recent years macroeconomics for management which is particularly relevant for business decision – making has been developed. Forecasts of future damned, investment decisions by business firms are especially based on the situation of overall economy and its growth prospects. Macro theories of consumption, investment demand, the general price level and business cycles are particularly relevant for making capital investment expenditure which yields returns in future years.

Decision making in Business

An enlightened business management will take scientific decisions after through study of Pros and Cons of a particular decision. The quality of the decision made by the management determines the successes or failure of the business venture. Decision making is the process of selecting particular course of action from among various alternatives. Every business manager has to work on uncertainties and the future cannot be precisely predicted by anyone.

Each type of decision of primary concern to business economics has many manifestations.

1. Selection of Products

The product decision may range from the launching of a major innovation following a long period of research. It may be a decision that is rare made such as the changing of the formula of an established soft drink. It may be made by a new firm or any established firm through a merger, or by building a new plant.

2. The choice of Production Methods

When highly generalized, the choice is the selection of the cost – minimizing combination of labour and capital, necessary to produce a particular output and is dependent on the state of technology and the relative prices of the factors.

3. Promotional Strategy

As long as the assumption of given tastes and preferences of consumers made, economic analysis has no place for a consideration of promotional expenditure.

With the relaxation of this assumption, promotion, defined as expenditure by the firms to shift demand curves, may become important Advertising expenditures involving such media as television, radio, magazines, newspapers and signboards, have run in the range of three percent to four percent of total consumption expenditures.

4. The Determination of Prices and Quantities

Price and quantity can be viewed as two aspects of the same decision. For firms with sufficient market power to have some discretion over price, the quantity that can be sold will be determined by the price charged. When firms have to formulate price policies, a close relationship is likely to exist with product and promotional decisions

5. The Place or Location Decisions

The importance of the decision and the applicability of economic analysis with the spatial dimension added as it has been in location transpiration, regional and international economics, justify treating the place decision as the fifth type of decision with which business economics is primarily concerned.

All these decisions are closely inter-related.

Chief Characteristics of Business Economics

It would be use full to point out certain chief characteristics of business economics, in as much as they throw further light on the nature of the subject matter and help in a better understanding thereof.

Firstly business economics is micro economics in character. This is because the unit of study is a firm. It is the problems of the business firm, which are studied in it, Business economics does not deal with the entire economy as a unit of study.

Secondly, business economy largely uses the body of economic concepts and principles which is known as “Theory of the firm” or “Economics of the firm”

In addition, it also seeks to apply profit theory, which forms part of the distribution theories in economics. Thirdly, business economics is pragmatic. It avoids difficult abstract issues of economics theory but involves complication in economic theory to face the overall situation in which decisions are made. Fourthly, business economics belongs to normative economics rather than positive economics and also sometimes known as descriptive economics. Fifthly, macro economics is also useful to business economics since it provides and intelligent understanding of the environment in which business must operate.

Scope of Business Economics

The scope of business economics is so wide that it covers almost the problems and areas of the manager and the business firm. Business economics deals with demand analysis, forecasting, production function, cost analysis, inventory management, advertising, price system, resource allocations, capital budgeting, etc,

Demand Analysis and Forecasting

When demand is estimated, the manager does not stop at the stage of assessing the current demand but estimates future demand as well. This is known as demand forecasting.

Productions Functions

It is a well known fact that means are limited and also capable of alternative uses. Inputs play a crucial role in the economics of production.

Factors of production are otherwise known as inputs. So, factors of production may be combined in such a way that there should be ideal combination of factors which yield maximum returns.

When prices of factors go up, a firm is forced to work out a combination of factors in such way to get the least cost combination of factors, which will result in maximum output at the least cost.

Inventor Management

An inventory refers to a stock of raw materials, which a firm keeps. Now, the problem is how much of the inventory is the ideal stock.

If it is high, capital is unproductively tied up, which might be used for other production purposes. On the other hand, if the level of the inventory is low, production will be affected.

Cost Analysis

Cost analysis is yet another function of managerial economics. Managerial economics touches these aspects of cost analysis, such as the determination of cost, the methods of estimating cost, the relationship between cost and output, etc., and an effecting knowledge and application of which is the corner stone for the success of a firm.

Advertising

To produce a commodity is one thing; to market it is another. Yet, the message about the product should reach the consumer before he thinks of buying it. Therefore, advertising firm is an integral part of decision making and forward planning.

Resource Allocations

Resources are not only limited but also capable of alternative used the aim to achieve optimization, for the purpose, some advanced trends, such as liner programming, etc., are used to arrive at the best course of action for a particular period.

Generally speaking, the main concern of the manager is to combine productive resources in such a way to get the least – cost combination of factors or optimum combination of factors.

Price System

The central functions of an enterprise are not only production but pricing as well. While the cost of production has to be taken into account when pricing a commodity, a complete knowledge of the price system is quite essential to the determination of the price.

Pricing is actually guided by considerations of cost plus pricing and the policies of public enterprises. Finally there is such a thing as price – leadership and non – price competition.

Therefore it is clear that the price system touches upon several aspects of managerial economics and aids or guides the manager to take valid and profitable decisions.

Capital Budgeting

If the manager wishes to arrive at meaningful decision, he must have a through understanding of the capital budgeting.

Capital is scarce and it has a price So he has to utilize scarce capital in the best manner possible, so as to get the best out of it. The manger must be capital or arriving at investment decisions under conditions of uncertainty and also to effect a cost – benefit analysis.

From the above analysis we understand that Business economics is applied economics, Business economics therefore plays a very vital role in the successful business operations of a firm.

Related Topics

OBJECTIVES OF PROFIT MAXIMIZATION
SOCIAL RESPONSIBILITY OF BUSINESS
DEMAND ANALYSIS
ELASTICITY OF DEMAND
DEMAND FORECASTING
BUSINESS CYCLES – TYPES AND PHASES 
MARKET STRUCTURE
PERFECT COMPETITION
MONOPOLY
MONOPOLISTIC COMPETITION
PRICE DISCRIMINATION
OLIGOPOLY AND DUOPOLY
ECONOMIC LIBERALIZATION
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