Economics connecting Theory and Real world Best Practices.

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ECONOMICS AND
THE BUSINESS WORLD
By Sudhanshu Bhushan

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ECONOMICS AND BUSINESS WORLD
LET’s MAKE ECONOMICS GREAT !!

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A woman hears from her doctor that she has only half a year to
live.
The doctor advises her to marry an economist and move to
Mumbai.
WOMAN: “Will this cure my illness?
DOCTOR: “No, but the half year will seem pretty long.

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What comes to your mind when you think of WORD –
“ECONOMICS” ..... ??? !!!

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What comes to Sudhanshu’s mind when he thinks of the word –
ECONOMICS !!!!
ECONOMICS IS THE MOTHER TONGUE OF PUBLIC POLICY, THE
LANGUAGE OF PUBLIC LIFE, AND THE MINDSET THAT SHAPES
SOCIETY…….. !!!!

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WHAT QUESTIONS COME TO YOUR MIND
WHEN YOU THINK
OF
ECONOMICS AND BUSINESS ??

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Questions of economics and economic policy are central to the present crisis.
Is there something that can be done to boost growth?
Should that even be a priority for the Governments ? And what else?
What about exploding inequality everywhere?
Is international trade the problem or the solution?
What is its effect on inequality?
What is the future on trade--can countries with cheaper labor costs lure global
manufacturing away from China?
And what about migration?
Is there really too much low-skilled migration?
What about new technologies?
Should we, for example, worry about the rise of artificial intelligence (AI) or celebrate it?
And, perhaps most urgently, how can society help all those people the markets have left
behind?

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The answers to these problems take more than a tweet. So there is an
urge to just avoid them. And partly as a result, nations are doing very
little to solve the most pressing challenges of our time; they continue to
feed the anger and the distrust that polarize us, which makes us even
more incapable of talking, thinking together, doing something about
them. It often feels like a vicious cycle.
Economists have a lot to say about these big issues. They study
immigration to see what it does to wages, taxes to determine if they
discourage enterprise, redistribution to figure out whether it encourages
sloth. They think about what happens when nations trade, and have
useful predictions about who the winners and losers are likely to be.
They have worked hard to understand why some countries grow and
others don't and what, if anything, governments can do to help. They
gather data on what makes people generous or wary, what makes a man
leave his home for a strange place, how social media plays on our
prejudices.

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SNIPPET 1 -Economics
• “The tools of economics are indispensable to help
societies find the golden mean between an efficient
market mechanism and publicly decided regulation and
redistribution … But those who would reduce
government to the constable plus a few lighthouses are
living in a dream world. An efficient and humane
society requires both halves of the mixed system—
market and government. Operating a modern economy
without both is like trying to clap with one hand.”
• “International trade has replaced empire-building and
military conquest as the surest road to national wealth
and influence.”

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Snippet 2- In a nutshell
• Markets don’t always deliver prosperity, and
government interventions are often flawed. To
be really useful, economics must be built on
common sense, not ideology.

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Snippet 3 - In a similar vein
SCRIPTURES OF ECONOMICS
• John Maynard Keynes The General Theory of
Employment, Interest, and Money
• Paul Krugman The Conscience of a Liberal
• Alfred Marshall Principles of Economics
• PAUL SAMUELSON - ECONOMICS

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Snippet 4- BEYOND IDEOLOGY
• Samuelson wrote a frontispiece to the nineteenth edition of Economics,
entitled “A Centrist Proclamation.” In his mind centrism celebrates “an
economy that combines the tough discipline of the market with fair-
minded governmental oversight.” It was obvious to Samuelson and
Nordhaus that, in the wake of the 2008 meltdown in the financial and
housing markets, lax regulation of both, inspired by a “lazy but misguided
libertarianism,” had brought the world close to economic disaster. The
centrist approach is not ideological but looks at the evidence, and events
of the previous 20 years had clearly shown that neither unregulated
capitalism, nor a centrally planned economy, were viable routes to
prosperity. If economies had been run along Hayek-Friedman lines, there
would have been no welfare system, no minimum wage, no national parks,
nor any regulation of pollution and global warming—yet citizens had voted
for such things “in large majorities” around the world. What people want,
the authors say, is the rule of law to achieve certain social objectives,
combined with a sufficient amount of freedom to compete in markets.

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Snippet 5
• The market system gives feedback to producers in
the form of profits or losses. By seeking profits, a
company naturally produces more of what
people want or need, so society’s resources are
allocated efficiently. But the invisible hand of
efficiency only works when the market itself is
open and functions well. If there are market
failures, you can still get negative externalities
such as pollution, or monopolies. Perfect
competition rarely, if ever, exists.

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Snippet 6 - Samuelson’s economics: the
“neoclassical synthesis”
• In the fourth edition (1958), Samuelson first used the
term “neoclassical synthesis” to describe his approach,
arguing that economics could no longer be divided into
Keynesian or anti-Keynesian camps; Keynes’ thinking
had become part of mainstream economics. There was
no mechanism in a laissez-faire economy that naturally
balanced investment and employment, as classical
economics held, and if that did happen it was pure
luck. It was necessary for government to spend when
the private sector was not, and for central banks to
keep inflation down through manipulating and setting
interest rates, and acting as lender of last resort.

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Snippet 7
• Fiscal policy in the form of higher government
spending or lower taxes certainly stimulates
spending and investment in the short run,
increasing use of society’s idle resources, but this
is often balanced out by the need for central
banks to raise interest rates to head off inflation
caused by the spending, and by financial markets
which put pressure on exchange rates. So
government intervention is often self-sabotaging

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Snippet 8 - GROWTH AND GOVERNMENT
• The goal of macroeconomics is not just stability, Samuelson and Nordhaus
stress, but the creation of rising living standards through growing output
per worker.
• But how does growth happen? The authors cite the “four wheels” of
growth: human capital, natural resources, capital, and technological
capacity and innovation. Neoclassical growth models say that if you just
build more factories like the first, or expand the number of farms farming
the same way, without using new technologies, then you enter a “long-run
steady state.” The economy may get larger, but standards of living will not
rise. You need both capital deepening and technological change for rising
productivity and wages. So what puts one country at the frontier of
creating and adopting new technologies, while others lag? The key,
Samuelson says, is competition. If there is vigorous competition,
companies need to keep ahead of the curve to survive and thrive, and this
usually means developing or adopting new technologies to increase
productivity.

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Snippet 9
• The goal of macroeconomics is not just stability, Samuelson and Nordhaus stress, but the
creation of rising living standards through growing output per worker. Growth is not just about
“getting out of the way of business,” as conservatives and libertarians believe, but seeing what
role there may be for the state given the reality of market failures. “New growth theory”
(exponents include Paul Romer) points out that technology doesn’t just happen, but requires a
combination of private market forces, institutions and public policies for it to really benefit the
wider economy. Companies can reap big profits from inventions, but many innovations and
research would not be carried out were it not for government providing money for research,
which is not economic for companies to do, and through fostering innovation through the
establishment of intellectual property rights, including patents and copyright. What Keynes
called the “spirit of enterprise” is probably universal, but sustained growth and productivity
invariably need the soil of good government to take root.
• But how does growth happen? The authors cite the “four wheels” of growth: human capital,
natural resources, capital, and technological capacity and innovation. Neoclassical growth
models say that if you just build more factories like the first, or expand the number of farms
farming the same way, without using new technologies, then you enter a “long-run steady
state.” The economy may get larger, but standards of living will not rise. You need both capital
deepening and technological change for rising productivity and wages. So what puts one country
at the frontier of creating and adopting new technologies, while others lag? The key, Samuelson
says, is competition. If there is vigorous competition, companies need to keep ahead of the
curve to survive and thrive, and this usually means developing or adopting new technologies to
increase productivity.

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Snippet 10
• Growth is not just about “getting out of the way of business,” as conservatives and libertarians
believe, but seeing what role there may be for the state given the reality of market failures.
“New growth theory” (exponents include Paul Romer) points out that technology doesn’t just
happen, but requires a combination of private market forces, institutions and public policies for
it to really benefit the wider economy. Companies can reap big profits from inventions, but many
innovations and research would not be carried out were it not for government providing money
for research, which is not economic for companies to do, and through fostering innovation
through the establishment of intellectual property rights, including patents and copyright. What
Keynes called the “spirit of enterprise” is probably universal, but sustained growth and
productivity invariably need the soil of good government to take root.

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The Nature and Scope of Business Economics
• The Scope of Business Economics
• The Basic Process of Decision Making
• The Theory of the Firm
• The Nature and Function of Profits
• Business Ethics
• The Global Economy
• Business Economics and the Internet

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Learning Objectives
• 1.1 Understand the relationship between
Business Economics and other fields of study.
• 1.2 Describe the five steps of the decision-making
process and understand the objectives and the
constraints of the firm.
• 1.3 Understand the theory of the firm, function of
profits and firm’s role in allocating society’s
resources.
• 1.4 Analyze the role of the business ethics,
globalization and the Internet in a modern firm.

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The Scope of Business Economics
• Business Economics refers to the application
of economic theory and the tools of decision
science to examine how an organization can
achieve its aims or objectives most efficiently.
– Applications of economic theory
– Quantitative methods
– Statistical methods
– Computational methods

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The Nature of Business Economics

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Relationship to Economic Theory
• Microeconomis
– Study of the economic behavior of individual
decision-making units.
• Macroeconomics
– Study of the total or aggregate level of output,
income, employment, consumption, investment,
and prices for the economy viewed as a whole.

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Relationship to Decision Sciences
• Mathematical Economics
– Expresses and analyzes economic models using
the tools of mathematics.
• Econometrics
– Applies statistical tools to real-world data to
estimate the models postulated by economic
theory and for forecasting.

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Economic Methodology
• Economic Models
– Abstract from details
– Focus only on the most important determinants of
economic behavior
• Evaluating Economic Models
– Evaluation is based on how accurately it predicts
and how logically predictions follow from the
assumptions.

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The Decision-Making Process

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Theory of the Firm
• The firm:
– combines and organizes resources for the purpose
of producing goods and/or services for sale.
– internalizes transactions, reducing transactions
costs.
• According to economic theory:
– the primary goal of managers is to maximize the
value of the firm.

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Value of the Firm
• The present value of all expected future
profits

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Exercise 1
• What is the value of the firm if it expects to
earn a profit of $10,000, $20,000 and $50,000
in the next three years before it is dissolved if
the discount rate is 5 percent?

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Solving for Present Value
• Apply the value of the firm equation. Take a
note that the further in the future the profit
is, the more it is discounted by the given rate.
𝑃𝑉 =
𝜋1
1 + 𝑟 1
+
𝜋2
1 + 𝑟 2
+
𝜋3
1 + 𝑟 3

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Solution to Exercise 1
• Present value (PV) of the firm is $70,856.28.
𝑃𝑉 =
10,000
1.05 1
+
20,000
1.05 2
+
50,000
1.05 3
=
10,000
1.05
+
20,000
1.1025
+
50,000
1.1576
= 9,523.81 + 18,140.59 + 43,191.28
= 70,856.28

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Constraints on the Operation of the Firm
• Constraints that firms face:
– Resource constraints
– Legal constraints
– Managerial constraints
• Constrained optimization:
– The primary goal or objective of the firm is to
maximize wealth or the value of the firm subject to
the constraints it faces.

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Alternative Theories
• Sales maximization
– Maximize sales after an adequate profit has been
earned
• Management utility maximization
– Aims to resolve principle-agent problem
• Satisficing behavior
– Due to uncertainty and a lack of data, firms strive for
some measurable and attainable goal

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Business vs Economic Profit
• Business or accounting profit:
– Total revenue minus the explicit or accounting costs.
• Economic profit:
– Total revenue minus the explicit and implicit costs.
• Opportunity cost:
– Implicit value of a resource in its best alternative use.

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Understanding Costs
• Explicit or accounting costs:
– Actual out-of-pocket expenditures of the firm to
purchase or hire the inputs.
• Implicit or opportunity costs:
– Value of the inputs owned and used by the firm in
its own production processes.

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Exercise 2
• Emily quits her $80,000 per year job to start a
boutique jewelry store in a building she owns.
She previously rented it for $2,000 per month.
She expects her revenues to be $1100,000
while the accounting costs to be $15,000.
What is the expected business and economic
profit? Is it worthwhile for her to start this
business?

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Recognizing Costs
Business Revenues Accounting (explicit) costs Opportunity (implicit) costs
$110,000 $15,000 $80,000
$2,000*12=$24,000
• Identify accounting (explicit) and opportunity
(implicit) costs.

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Solution to Exercise 2
• Business Profit
𝜋𝑏 = 110,000 − 15,000 = 95,000
• Economic Profit
𝜋𝑒 = 110,000 − 15,000 − 2,000 ∗ 12 − 80,000
= 110,000 − 15,000 − 24,000 − 80,000
= −9,000
• Since she incurs economic loss of $9,000, it is not
worthwhile for her to start this business.

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Theories of Profit
• Risk-bearing theories of profit:
– Above-normal returns are required in fields that are above-average risk.
• Frictional theory of profit:
– Profits arise from friction or disturbances from long-run equilibrium.
• Monopoly theory of profit:
– Firms with monopoly power can restrict output and charge higher prices and earn profits even
in the long-run.
• Innovation theory of profit:
– Profit is the reward for the introduction of a successful innovation.
• Managerial efficiency theory of profit:
– More efficient firms may earn above-normal returns and economic profits in the short-run.

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Function of Profit
• Profit is a signal that guides the allocation of society’s
resources.
• High profits in an industry are a signal that buyers want
more of what the industry produces.
• Low (or negative) profits in an industry are a signal that
buyers want less of what the industry produces.
• Governments sometimes step in to modify the operation of
the profit system to make it more consistent with broad
societal goals.

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Business Ethics
• Identifies type of behavior that businesses and
their employees should not engage in.
• Goes beyond the enforceable law to provide
guidelines as to what is an acceptable behavior.
• Sometimes may not be clear as people have
different values.

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The International Framework
• Rapid movement toward globalization of
economic activity.
– Goods and services
– Capital
– Labor
– Technology
• Managerial economics should be studied in an
international framework.

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The Changing Environment
• The firms operate in the world that has become more:
– Risky
– Crisis-prone
– Sluggish
• Technological change
– Advances in telecommunications
– The Internet
• Cyber attacks
– Arose with advent of Internet
– Requires with firms to invest in security and insurance

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Global Corporations in 2015

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Global Most Admired Companies in 2017

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Appendix: Using Spreadsheets
• Spreadsheets are a great tool to
calculate statistical information for
a given data set.
• Using the test scores in column B
to the right, we can calculate the
mean, median, mode, sample
variance, sample standard
deviation, and coefficient of
variation of the data.
• The next table shows the formulas
used. You can either write out the
entire formula or use Excel
function commands.

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Descriptive Statistics in Excel

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Appendix: Using Spreadsheets
• With Excel you can also create various figures for
visual inspection of the data.
• For a histogram in Excel, choose Data Analysis
under the Data tab. In the resulting dialog box,
select “Histogram” and click “OK.”
• For the input range, select the data from B1 to
B10. Also check the “Chart Output” and
“Cumulative Percentage” boxes.

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Creating Histograms

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Reading Histograms

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Review of Learning Objectives
• 1.1 Understand the relationship between
Business economics and other fields of study.
• 1.2 Describe the five steps of the decision-making
process and understand the objectives and the
constraints of the firm.
• 1.3 Understand the theory of the firm, function of
profits and firm’s role in allocating society’s
resources.
• 1.4 Analyze the role of the business ethics,
globalization and the Internet in a modern firm.

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FINAL COMMENTS
• In “The Perseverance of Paul Samuelson’s Economics” (Journal of Economic
Perspectives, Spring 1997), Mark Skousen noted that successive editions of the
textbook became less overtly Keynesian and gave recognition to competing
schools of economics, including the Chicago and Austrian schools. Yet these were
portrayed as outside “mainstream economics,” that is, the synthesis of neoclassical
market economics and the Keynesian welfare state which has dominated political
economy the last sixty years. As a result, Skousen noted, Economics provides
plenty of examples of market failure, but many fewer corresponding examples of
government failure. Conservatives also complained that Samuelson was taken in
by the liberal view that communism was a durable form of economic and political
organization that could exist alongside market liberalism.

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• “Economics is above all a living and evolving organism,” Samuelson said, and the
success of Economics, in its many changes and iterations over the decades, owes
much to this admission. Even with its frequent updating, though, the work is
strangely light on one of the discipline’s revolutions of the last 20 years: behavioral
economics. Indeed, Deirdre McCloskey invented the term “Samuelsonian” to
denote an approach to the discipline that assumed human beings were much
more rational than they actually are. This flaw notwithstanding, in a discipline of
competing ideologies the book stands out for its moderation. Samuelson died in
2009, but his realism about the role of markets and government lived on in many
of his students, who included George Akerlof, Joseph Stiglitz and Paul Krugman.

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THANK YOU