Economics & Business Management (EBM) - Note. Free Download-Pdf - Manu K M

[Economics and Business Management] B.Tech.
kmmanu1987@gmail.com

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B.Tech. Kannur University

ECONOMICS
&
BUSINESS MANAGEMENT

MODULE 1&2
For Semester 5 EC/CS/IT/AEI
& Semester 6 ME/CE/EE

Prepared by:

MANU. K.M
Assistant Professor in Economics
Vimal Jyothi Institute of Management & Research
Chemperi - Kannur



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SYLLABUS

Module I (12 hours)
Definition of economics-nature and scope of economic science-nature and scope
of managerial economics-central problems of an economy-scarcity and choice-
opportunity cost-objectives of business firms-forms of business
proprietorship-partnership-joint stock company-co-operative organization-
state enterprise
Module II (14hours)
Consumption wants characteristics of wants- law of diminishing marginal
utility- demand law of demand- elasticity of demand- types of elasticity-
factors determining elasticity-measurement- its significance in business
demand forecasting-methods of demand forecasting- supply law of supply-
elasticity of supply



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Introduction to Economics
conomics is a social science that deals with human wants and their satisfaction.
People have multiple wants to satisfy. They have to satisfy their want for food,
cloth, shelter, education, medical care etc. Human wants are unlimited. By doing some
work or activity people earn money. This money is used to satisfy their wants. Thus, our
activities have two aspects in common: first, we are all engaged in earning our living, and
secondly, these earnings enable us to satisfy our wants for different goods and services.
This action of earning and spending is called economic activity.
The word Economics is derived from the Greek Word Oikonomia which means
household management.
Definitions of Economics
Economics is an ever growing science. Thus it is very difficult to define economics properly.
It is very clear from the words of the following scholars.
Mrs. Barbara Wootten, wherever six economists gathered, there will arise seven opinions
about economics.
J.M.Keynes, Political economy is said to be strangled itself with definitions.
Prof. Jacob Viner, Economics is what economists do.
From the words of above scholars it is clear that the branch of knowledge economics is
blessed with large number of definitions.
The basic definitions of economics can be classified under 4 heads.
a). Wealth Definition b). Welfare Definition c). Scarcity Definition d).Growth Definition
1. Wealth Definition (Prof. Adam Smith, University of Glasgow, Scotland)
The first economist to attempt a scientific definition of economics was Adam Smith, the
Father of Economics. In his famous book An Enquiry in to the Nature and Causes of
Wealth of Nations published in 1776, Adam Smith defined economics as a science of
wealth.
The Wealth definition of economics has been severely criticised because it assumed wealth
as an end of human activities. Smiths definition has a tendency to make people selfish as
the welfare aspects of human life were neglected.
2. Welfare Definition (Prof. Alfred Marshall, University of Cambridge)
Prof. Alfred Marshall in his famous book Principles of Economics (1890) defined
economics as a study of mankind in the ordinary business of life; it 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.
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MODULE- 1



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Prof. Lionel Robbins and others criticised this definition on the ground that welfare is
subjective and so it cannot be measured or compared.
3. Scarcity Definition ( Prof. Lionel Robbins, University of London )
Prof. Lionel Robbins in his book The Nature and Significance of Economic Science (1932)
gave a new definition to economics. This definition is known as the scarcity definition.
Robbins defined economics in the following lines,
Economics is a science which studies human behaviour as a relationship between ends and
scarce means which have alternative uses.
This definition is base on the following fundamental propositions
a) Human wants are unlimited b) Means/ resources are limited c) Resources have
alternative uses.
4. Growth Definition (Prof. P.A. Samuelson, Massachusetts Institute of Technology)
According to Prof. P. A. Samuelson economics is the study of how men and society choose
with or without the use of money, to employ scarce productive resources, which could
have alternative uses, to produce various commodities over time and distribute them for
consumption now and in the future among various people and group of society.
Nature of Economics
In order to understand the nature of economics we have to indicate the following,
a) Whether economics is a science or an art?
b) If economics is a science, whether it is a positive science or a normative science?
1. Whether economics is a science or an art?
i) Economics as a Science
The systematized body of knowledge regarding a subject is commonly defined as a science.
A science is not a mere collection of facts but indicates a relationship between cause and
effect.
Economics is considered as a full-fledged science. Like any other science economics has its
own generalisations, theories or laws of economics which traces out a cause and effect
relationship between two or more phenomena.
ii) Economics as an Art
The practical application of scientific techniques is the Art of Economics.
Economics is a science in its methodology and an art in its application.
It is considered as newest of sciences and oldest of arts and the
Queen of all the social sciences.
2. Whether economics is a positive science or a normative science?
i) Economics as a Positive Science
A positive science is a body of systematized knowledge concerning what is. As per the
nineteenth century experts, economics is a positive science. Positive economics is free
from value judgment i.e, it describes observed facts without saying whether they are good
or bad Examples of positive statements are given below.
1. An additional tax on goods will raise its price.
2. A rise in the price of a commodity will reduce its demand.



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ii) Normative Economics
A normative science is a body of systematized knowledge concerning what ought to be.
Normative economics or welfare economics is the study of what ought to be or how the
economic problems should be solved.
Examples of normative statements are given below.
1. The distribution of National Income in India should be more equal.
2. The level of government expenditure should be reduced.
In short, economics is both a positive and normative science
Scope of Economics
The scope of economics means the area or boundary of the study of economics. There are
different views regarding the scope of economics. According to Prof. A.C. Pigou, economics
is a positive science of what is. It is not a normative science of what ought to be. Prof.
Viner states that economics is what economists do.
The scope of economics include the following
1. The subject matter of economics
2. Specialized branches of economics
1. The subject matter of economics
The subject matter of economics is divided in to two.
a) Micro economics
b) Macro economics.
Micro Economics and Macro Economics
The term micro and macro were coined by Prof. Ragnar Frisch of Oslo University
(Norway) in 1933. The term micro has been derived from the Greek word mikros which
means small. Micro economics is the study of the behaviour of individual economic unit. It
is also called Price theory. It studies economic activities concerning an individual
consumer, a firm or an industry and the study of individual income, the determination of
product price, factor price etc.
Macro economics is the study of the economy as a whole. The term macro has been
derived from the Greek word makros which means large. It studies aggregate facts like
national income, total expenditure, total investment, level of employment, total
production, general price level etc. It is also called the theory of income and employment.
Micro economics Macro economics
1.Studies only part of the economy
2. Bases on partial equilibrium analysis
3. Takes the assumption, other things
remains equal
4. Use deductive method (General to
Particular)
5. provide worms eye view of the economy
6. It is also known as price theory
7. Study of individual units
1.Studies the economy as a whole
2.Bases on general equilibrium analysis
3.Doesnot taken this assumption

4.Use inductive method (Particular to
General)
5.provide birds eye view of the economy
6. Known as theory of income and
employment
7. Study of aggregates



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2. Specialized branches of economics
Some of the major specialized branches of economics are
1. Microeconomics: This is considered to be the basic economics. Microeconomics may be
defined as that branch of economic analysis which studies the economic behaviour of the
individual unit, may be a person, a particular household, or a particular firm.
2. Macroeconomics: Macroeconomics may be defined as that branch of economic analysis
which studies behaviour of not one particular unit, but of all the units combined together.
Macroeconomics is a study in aggregates.
3. International economics: As the countries of the modern world are realising the significance
of trade with other countries, the role of international economics is getting more and more
significant nowadays.
4. Public finance: The great depression of the 1930s led to the realisation of the role of
government in stabilising the economic growth besides other objectives like growth,
redistribution of income, etc. Therefore, a full branch of economics known as Public Finance or
the fiscal economics has emerged to analyse the role of government in the economy
5. Development economics: As after the Second World War many countries got freedom from
the colonial rule, their economics required different treatment for growth and development.
This branch developed as development economics.
6. Health economics: A new realisation has emerged from human development for economic
growth. Therefore, branches like health economics are gaining momentum. Similarly,
educational economics is also coming up.
7. Environmental economics: Unchecked emphasis on economic growth without caring for
natural resources and ecological balance, now, economic growth is facing a new challenge from
the environmental side. Therefore, Environmental Economics has emerged as one of the major
branches of economics that is considered significant for sustainable development.
8. Managerial Economics
Managerial Economics
Managerial economics studies how economic theories, concepts and tools of analysis can
be applied to business decision making and to understand the business environment of the
country. It is nothing but the application of economics to the real business activities, so as
to get the desired business result.
Definitions of Managerial Economics
McGutgan and Moyer: Managerial economics is the application of economic theory and
methodology to decision-making problems faced by both public and private institutions.
Spencer and Siegelman: Managerial economics is the integration of economic theory with
business practice for the purpose of facilitating decision-making and forward planning by
management.
McNair and Meriam: Managerial economics consists of the use of economic modes of
thought to analyse business situations.



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Nature / Characteristics of Managerial Economics
In a world of competition in the market there exist thousands of rivals; due to this a
businessman or an entrepreneur plans his strategies so as to take control over the market.
The following points constitute the nature of managerial economics.
1. It is a Micro economic analysis: It studies the problems and principles of an individual
business firm or an individual industry. It aids the management in forecasting and
evaluating the trends of the market.
2. Normative economics: It is concerned with varied corrective measures that a
management undertakes under various circumstances. It deals with goal determination,
goal development and achievement of these goals. Future planning, policy-making,
decision-making and optimal utilisation of available resources, come under the banner of
managerial economics.
3. Pragmatic: Managerial economics is pragmatic (practical in outlook). In pure micro-
economic theory, analysis is performed, based on certain exceptions, which are far from
reality. However, in managerial economics, managerial issues are resolved daily and
difficult issues of economic theory are kept at bay.
4. Uses theory of firm: Managerial economics employs economic concepts and principles,
which are known as the theory of Firm or 'Economics of the Firm'. Thus, its scope is
narrower than that of pure economic theory.
5. Takes the help of macro economics: Managerial economics incorporates certain aspects
of macroeconomic theory. These are essential to comprehending the circumstances and
environments that envelop the working conditions of an individual firm or an industry.
Knowledge of macroeconomic issues such as business cycles, taxation policies, industrial
policy of the government, price and distribution policies, wage policies and antimonopoly
policies and so on, is integral to the successful functioning of a business enterprise.
6. Aims at helping the management: Managerial economics aims at supporting the
management in taking corrective decisions and charting plans and policies for future.
7. A scientific art: Managerial economics has been also called as a scientific art because it
helps the management in the best and efficient utilisation of scarce economic resources. It
considers production costs, demand, price, profit, risk etc. It assists the management in
singling out the most feasible alternative. Managerial economics facilitates good and result
oriented decisions under conditions of uncertainty.
Scope of Managerial Economics
The scope of managerial economics includes following subjects:
1. Theory of demand
2. Theory of production
3. Theory of exchange or price theory
4. Theory of profit
5. Theory of capital and investment
6. Environmental issues



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1. Theory of Demand: According to Spencer and Siegelman, A business firm is an economic
organisation which transforms productivity sources into goods that are to be sold in a market.
It includes
a. Demand analysis: Analysis of demand is undertaken to forecast demand, which is a
fundamental component in managerial decision-making.
b. Demand theory: Demand theory relates to the study of consumer behaviour.
2. Theory of Production: Production and cost analysis is central for the unhampered
functioning of the production process and for project planning. Production is an economic
activity that makes goods available for consumption. Production is also defined as a sum of all
economic activities besides consumption. It is the process of creating goods or services by
utilising various available resources.
3. Theory of Exchange or Price Theory: Pricing is an important area in managerial economics.
The accuracy of pricing decisions is vital in shaping the success of an enterprise.
4. Theory of profit: Every business and industrial enterprise aims at maximising profit. Profit is
the difference between total revenue and total economic cost. Profitability of an organisation
is greatly influenced by the following factors:
Demand of the product
Prices of the factors of production
Nature and degree of competition in the market
Price behaviour under changing conditions
5. Theory of Capital and Investment: Capital is the building block of a business. Like other
factors of production, it is also scarce and expensive. It should be allocated in most efficient
manner.
6. Environmental issues: Managerial economics also encompasses some aspects of
macroeconomics. These relate to social and political environment in which a business and
industrial firm has to operate.
Role of a Managerial Economist
The managerial economist plays a vital role in the management of the business. He has to
take so many decisions for the business. A managerial economist with good knowledge of
economic principles is able to obtain and analyse information necessary for profitable
decision making. His main functions are
1. Production scheduling
2. Sales forecasting
3. Market research
4. Economic analysis of competing companies
5. Pricing problems of industries
6. Investment appraisal
7. Security management analysis
8. Advise on foreign exchange management
9. Environmental forecasting



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The Central Problems of an Economy: Scarcity and Choice
Economics is the branch of social science which studies the human wants and their
satisfaction. Human wants are unlimited and resources to satisfy these wants are limited.
The problem of allocating the scarce resources to satisfy the infinite wants is the central
economic problem.
In economics, the term scarcity means that wants are greater than resources. The
resources in an economy refers to the factors of production ie, land, labour, capital and
organization. Since the supply of these factors of production is limited, the goods and
services produced by these resources are also limited. Since the supply of resources and
goods and services are scarce, there arouses the need for choice. The producers have to
decide how factors of production shall be employed and the consumers have to decide
which of their wants are to be satisfied.
Thus scarcity and choice are the central problems of an economy.
Choice at the Personal Level: A consumer cannot buy everything he wants to consume
because his income is limited. Thus the consumer has to decide which goods and in how
much quantities are to be bought. Because of scarcity, the cost of having one thing is the
loss experienced from not having something else. For example, suppose a consumer has to
choose between buying a camera and a book. If his choice is camera, then the cost of
camera is the book forgone. The cost of forgone alternative is called the opportunity cost.
Choice at the National Level: Choice at the national level is due to the scarcity of factors of
production ie, how the limited resources are to be allocated to produce goods and services
efficiently. Here a choice has to be made as to how factors of production shall be
employed. Choice and scarcity at the national level can be illustrated with the Production
Possibility Curve (PPC).
Basic Economic Problems or Decisions
Since there is the problem of scarcity of productive resources in every economy, it has to
take certain basic decisions regarding the production and distribution of goods and services
in the economy. These decision making process is otherwise called as the basic economic
problems of an economy.
The basic economic problems faced by any country are the following.
1. What to Produce? What to produce refers to what goods and services and in how much
quantities are to be produced by the economy. The millions of people living in a country
require many goods and services. But due to the scarcity of resources, the economy is not
capable of producing all these goods and services. Increase in the production of one
commodity will limits the production of other commodities.
2. How to Produce? How to produce refers to the method/technique of production.
Techniques /methods/choice of production
There are mainly two methods used in production;
a) Labour intensive method and
b) Capital intensive method.



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Method of production in which more labour and less capital are used is called labour
intensive method and method of production in which more capital and less labour are used
is called capital intensive method. Labour intensive method is suitable for developing
countries and capital intensive method is suitable for developed countries.
E.g.; Cloth can be produced on hand looms or power looms. If hand looms are used,
relatively more labour and less capital is employed. In the case of power looms, more
capital and less labour is required.
3. For whom to Produce? For whom to produce refers how the total output is divided
among consumers. Since goods and services produced are limited, all wants of the people
cannot be satisfied by a country.
4. How to achieve Economic Growth? The attainment of rapid economic growth is
another basic economic problem. Economic growth refers to an increase in the real per
capita income of a country. Rapid economic growth can be attained by fuller utilization of
the available resources. Economic growth of an economy can be represented by an
outward shift in the Production Possibility Curve.
Opportunity Cost Principle
Suppose a consumer has to choose between buying a camera and a book. If his choice is
camera, then the cost of camera is the book forgone. The cost of forgone alternative is
called the opportunity cost.
If one acre of land produces tapioca worth Rs.4000 or wheat worth of Rs. 5000, a rational
farmer will forgo the production of tapioca for the sake of wheat.
Opportunity cost is the cost of next best forgone alternative. Opportunity cost is one of
the major principles up on which economic theory is constructed.
Business Firm
A firm is an organization owned by one or jointly by a few or many individuals which is
engaged in productive activity of any kind for the sake of profit or some other well
defined aim.
Most of the firms owned by private individuals in manufacturing trade and services will
aspire for profit but there may be some other such as Government companies where profit
motivation is secondary or missing altogether.
Industry
Industry is a group of firms producing a single homogeneous product and selling in a
common market.



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Objectives/Motives/Goals of Business Firms
Following are the important objectives of business firms.
1. Economic objectives
Economic objective of business refers to the objective of earning profit and also other
objectives that are necessary to be pursued to achieve profit. It includes
a) Profit earning
b) Creation of customers
c) Regular innovations
d) Best possible use of resources
2. Social objectives
Social objectives are those objectives of business which are desired to be achieved for the
benefit of the society. It includes
a) Production and supply of quality goods and services
b) Adoption of fair trade practices
c) Contribution to the general welfare of the society
3. Human objectives
Human objectives refer to the objectives aimed at the well-being as well as fulfilment of
expectations of employees. It includes
a) Economic well-being of the employees
b) Social and psychological satisfaction of employees
c) Development of human resources
4. National objectives
Being an important part of the country, every business must have the objective of fulfilling
national goals and aspirations. It includes
a) Creation of employment
b) Promotion of social justice
c) Production according to national priority
d) Contribute to the revenue of the country
e) Self sufficiency and export promotion
5. Global objectives
Today, because of globalisation, the entire world has become a big market. Goods
produced in one country are readily available in other countries. So to face the competition
in the global market every business unit has certain objectives in mind, which may be called
the global objectives.
a) Raise general standard of living
b) Reduce disparities among nations
c) Make available globally competitive goods and services.



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Forms of Business Organization
Sole proprietorship/ Individual enterprise
Partnership
Joint Stock Company
Co-operative Enterprise
State Enterprise
1. Sole Proprietorship
Meaning
When the ownership and management of business are in control of one individual, it is
known as sole proprietorship or sole tradership. It is seen everywhere, in every country,
every state, every locality. The shops or stores which you see in your locality the
vegetable store, the sweets shop, the STD/ISD telephone booths etc. - come under sole
proprietorship.
Advantages of Sole Proprietorship
1. Easy Formation: The biggest advantage of a sole trader ship business is its easy
formation. Anybody wishing to start such a business can do so in many cases without any
legal formalities.
2. Better Control: The owner has full control over his business. He plans, organises, co-
ordinates the various activities. Since he has all authority, there is always effective control.
3. Prompt Decision Making: As the sole trader takes all the decisions himself the decision
making becomes quick, which enables the owner to take care of available opportunities
immediately and provide immediate solutions to problems.
4. Flexibility in Operations: One man ownership and control makes it possible for change in
operations to be brought about as and when necessary.
5. Retention of Business Secrets: Another important advantage of a sole proprietorship
business is that the owner is in a position to maintain absolute secrecy regarding his
business activities.
6. Direct Motivation: The owner is directly motivated to put his best efforts as he alone is
the beneficiary of the profits earned.
7. Personal Attention to Consumer Needs: In a sole tradership business, one generally
finds the proprietor taking personal care of consumer needs as he normally functions
within a small geographical area.
8. Creation of Employment: A sole tradership business facilitates self employment and also
employment for many others. It promotes entrepreneurial skill among the individuals.
9. Social Benefits: A sole proprietor is the master of his own business. He has absolute
freedom in taking decisions, using his skill and capability. This gives him high self-esteem
and dignity in the society and gradually he acquires several social virtues like self- reliance,
self-determination, independent thought and action, initiative, hard work etc,. Thus, he
sets an example for others to follow.



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10. Equitable Distribution of Wealth: A sole proprietorship business is generally a small
scale business. Hence there is opportunity for many individuals to own and manage small
business units. This enables widespread dispersion of economic wealth and diffuses
concentration of business in the hands of a few.
Disadvantages of Sole Proprietorship
1. Unlimited Liability: In sole proprietorship, the liability of business is recovered from the
personal assets of the owner. It restricts the sole trader to take more risk and increases the
volume of his business.
2. Limited Financial Resources: The ability to raise and borrow money by one individual is
always limited. The inadequacy of finance is a major handicap for the growth of sole
proprietorship.
3. Limited Capacity of Individual: An individual has limited knowledge and skill. Thus his
capacities to undertake responsibilities, his capacity to manage, to take decisions and to
bear the risks of business are also limited.
4. Uncertainty of duration: The existence of a sole tradership business is linked with the
life of the proprietor. Illness, death or insolvency of the owner brings an end to the
business. The continuity of business operation is, therefore, uncertain.
2. Partnership
Meaning
A partnership form of organisation is one where two or more persons are associated to run
a business with a view to earn profit. Persons from similar background or persons of
different ability and skills, may join together to carry on a business. Each member of such a
group is individually known as partner and collectively the members are known as a
partnership firm. These firms are governed by the Indian Partnership Act, 1932. A
minimum of two persons are required to start a partnership business. The maximum
membership limit is 10 in case of banking business and 20 in case of all other types of
business.
Types of Partnership
The partners of a firm are broadly divided into three main categories.
General Partners.
Special Partners.
Other Partners.
1. General Partners:
Basically all the partners of a firm are general partners. General partners are of two types
(a) Active partner, and
(b) Sleeping partner.
a) Active Partner: A partner who takes active part in the day to day management of the
business is called an active partner. An active partner (also called working partner) may
work in different capacities such as manager, organizer, adviser, controller of all the affairs
of the firm. The active partner is rewarded as per agreement between the partners.



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(b)Sleeping Partner: A sleeping partner is one who contributes capital, shares profits and
losses of the firm but takes no part in the day to day management of the affairs of the firm.
A person, who has money to invest but cannot spare time for the business, may become
sleeping partner. A sleeping partner is liable for the liabilities of the business like other
partners.
2. Special Partners
Special partners are partners whose liability is limited to the extent of their capital
contributed in the firm. They are only found in limited partnership. The special partners
cannot take part in the management of the business of the firm.
3. Other Partners
The other types of partners sometimes found in a firm are as follows.
(a) Secret Partner: A partner who takes active part in the affairs of a business but is not
known to the public as a partner is called Secret partner. He, like other partners, is liable
to the creditors of the firm to an unlimited extent He shares profits according to the
agreement signed.
(b) Nominal Partner: Nominal partner lends his name for the goodwill and credit
worthiness to the firm. He neither contributes capital nor takes active part in the
management of business. Such partners are called nominal partners. Nominal partners are
liable for the debts of the firm.
(c) Partners in Profit Only: If a partner is entitled to receive certain share of profit and is
not held liable for the losses, he is known as partner in profit only. He is not allowed to take
part in the management of the business.
Partnership Deed
A partnership deed is written agreement which contains terms and conditions as to the
relationship of the partners among each other. There is no prescribed Performa for
partnership deed but it must be stamped and signed by all the partners. Partnership deed
is drawn to avoid misunderstanding and undesirable litigation. Where it is decided to have
a partnership deed in written form, it should be stamped according to the provisions of
Stamp Act, 1899. It is not regarded as a public document like memorandum of association
and articles of association. It is otherwise known as agreement, deed or articles of
partnership.
Advantages of Partnership Firm
1. Easy Formation: A partnership can be formed without many legal formality and
expenses. Every partnership firm need not be registered.
2. Larger Resources: As compared to sole proprietorship, a partnership firm can pool larger
financial resources. Thus it can enter into bigger operations and can have more credit
facilities. It can also have better managerial talent.
3. Flexibility in operation: There is flexibility of operation in partnership business due to a
limited number of partners. These partners can change their operations and amend
objectives if necessary by mutual consent.



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4. Better Management: Partners take more interest in the affairs of business as there is a
direct relationship between ownership, control and profit. They often meet to discuss the
affairs of business and can take prompt decision.
5. Sharing of Risk: In partnership, risk of loss is easier to bear by individual partners as it is
shared by all the partners.
6. Protection of minority interest: Every partner has an equal say in decision making. A
partner can prevent a decision being taken if it adversely affects his interests. In extreme
cases a dissenting partner may withdraw from partnership and can dissolve it.
7. Better Public Relations: In a partnership firm the group managing the affairs of the firm
is generally small. It facilitates cordial relationship with the public.
Disadvantages of partnership Firm
1. Instability: A partnership firm does not continue to exist indefinitely. The death,
insolvency or lunacy of a partner may bring about an unexpected end to partnership.
2. Unlimited Liability: As the liability of partners is joint and several to an unlimited extent,
any one of the partners can be called upon to pay all the debts even from his personal
properties. Further, as every partner has a right to take part in the management of the
firm, any wrong decision by a single partner may lead to heavy liabilities for others.
3. Lack of Harmony: Since every partner has equal right, there are greater possibilities of
friction and quarrel among the partners. Differences of opinion may lead to mistrust and
disharmony which may ultimately result in disruption and closure of the firm.
4. Limited Capital: As there is a restriction on the maximum number of partners, the capital
which can be raised is limited.
3. Joint Stock Company
Meaning:
A Joint Stock Company is a voluntary association of persons to carry on business. Normally,
it is given a legal status and is subject to certain legal regulations. It is an association of
persons who generally contribute money for some common purpose. Members of a joint
stock company are known as shareholders and the capital of the company is known as
share capital. The total share capital is divided into a number of units known as shares.
Eg. Tata Iron & Steel Co. Limited, Hindustan Lever Limited, Reliance Industries Limited,
Steel Authority of India Limited etc.
Advantages of Joint Stock Company:
1. Limited Liability: In a Joint Stock Company the liability of its members is limited to the
extent of shares held by them. This attracts a large number of small investors to invest in
the company. It helps the company to raise huge capital. Because of limited liability, a
company is also able to take larger risks.
2. Continuity of existence: A company is an artificial person created by law and possesses
independent legal status. It is not affected by the death, insolvency etc. of its members.
Thus it has a perpetual existence.
3. Benefits of large scale operation: It is only the company form of organisation which can
provide capital for large scale operations. It results in large scale production consequently



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leading to increase in efficiency and reduction in the cost of operation. It further opens the
scope for expansion.
4. Professional Management: Companies, because of complex nature of activities and
operations and large volume of business, require professional managers at every level of
organisation. And because of their financial strength they can afford to appoint such
managers. This leads to efficiency.
5. Social Benefit: A joint stock company offers employment to a large number of people. It
facilitates promotion of various ancillary industries, trade and auxiliaries to trade.
Sometimes it also donates money for education, health, community service and renders
help to charitable and social institutions.
6. Research and Development: A company generally invests a lot of money on research
and development for improved processes of production, designing and innovating new
products, improving quality of product, new ways of training its staff, etc.
Disadvantages of Joint Stock Company:
1. Formation is not easy: The formation of a company involves compliance with a number
of legal formalities under the companies Act and compliance with several other Laws.
2. Control by a Group: Companies are controlled by a group of persons known as the Board
of Directors. This may be due to lack of interest on the part of the shareholders who are
widely dispersed; ignorance, indifference and lack of proper and timely information. Thus,
the democratic virtues of a company do not really exist in practice.
3. Speculation and Manipulation: The shares of a company are purchased and sold in the
stock exchanges. The value or price of a share is determined in terms of the dividend
expected and the reputation of the company. These can be manipulated. Besides, there is
excessive speculation which is regarded as a social evil.
4. Excessive government control: A company is expected to comply with the provisions of
several Acts. Non-compliance of these invites heavy penalty. This affects the smooth
functioning of the companies.
5. Delay in Policy Decisions: A company has to fulfil certain procedural formalities before
making a policy decision. These formalities are time consuming and, therefore, policy
decisions may be delayed.
6. Social abuses: A joint stock company is a large scale business organisation having huge
resources. This provides a lot of power to them. Any misuse of such power creates
unhealthy conditions in the society e.g. having monopoly of a particular business, industry
or product; influencing politicians and government in getting their work done; exploiting
workers, consumers and investors.
4. Co-Operative Society/ Co-Operative Enterprise
Meaning
Any ten persons can form a co-operative society. It functions under the Cooperative
Societies Act, 1912 and other State Co-operative Societies Acts. A co-operative society is
entirely different from all other forms of organisation in terms of its objective. The co-



17

operatives are formed primarily to render services to its members. Generally it also
provides some service to the society. The main objectives of co-operative society are: (a)
rendering service rather than earning profit, (b) mutual help instead of competition, and (c)
self help in place of dependence. On the basis of objectives, various types of co-operatives
are formed:
a. Consumer co-operatives: These are formed to protect the interests of ordinary
consumers of society by making consumer goods available at reasonable prices. Kendriya
Bhandar in Delhi, Alaka in Bhubaneswar and similar others are all examples of consumer
co-operatives.
b. Producers co-operatives: These societies are set up to benefit small producers who face
problems in collecting inputs and marketing their products. The Weavers co-operative
society, the Handloom owners cooperative society are examples of such co-operatives.
c. Marketing co-operatives: These are formed by producers and manufactures to eliminate
exploitation by the middlemen while marketing their product. Kashmir Arts Emporium, J&K
Handicrafts, Utkalika etc. are examples of marketing co-operatives.
d. Housing Co-operatives: These are formed to provide housing facilities to its members.
They are called co-operative group housing societies.
e. Credit Co-operatives: These societies are formed to provide financial help to its
members. The rural credit societies, the credit and thrift societies, the urban co-operative
banks etc. come under this category.
f. Farming Co-operatives: These are formed by small farmers to carry on work jointly and
thereby share the benefits of large scale farming. Besides these types, other co-operatives
can be formed with the objective of providing different benefits to its members, like the
construction co-operatives, transport co-operatives, co-operatives to provide education
etc.
Advantages of Co-operative Society:
1. Easy Formation: Formation of a co-operative society is easy as compared to a company.
Any 10 persons can voluntarily form an association and get themselves registered with the
Registrar of Co-operative societies.
2. Limited Liability: The liability of the members is limited to the extent of capital
contributed by them.
3. Open Membership: There is no restriction on any individual to be a member of any co-
operative.
4. State Assistance: Co-operatives get a lot of patronage in the form of exemptions and
concessions in taxes and financial assistance from the state governments which no other
organisation gets.
5. Middlemans Profit Eliminated: Through the co-operative the consumers control their
own supplies and by this means the middlemans profit is eliminated.
6. Management: A co-operative functions in a democratic manner. Each member has only
one vote.



18

7. Winding up: The dissolution of a co-operative firm is quite difficult. It does not cease to
exist in case of death, or insolvency or resignation of a member. It has thus a fairly stable
life.

Disadvantages of Co-operatives:
1. Limited Capital: The amount of capital that a co-operative can generate is limited
because of the membership remaining confined to a locality or region or a particular
section of people.
2. Problems in Management: Generally it is seen that co-operative do not function
efficiently due to lack of managerial talent.
3. Lack of Motivation: Co-operatives are formed to render service to its members than to
earn profit. This does not provide enough motivation to manage the co-operatives
effectively.
4. Lack of Co-operation: Co-operatives are formed with the very idea of co-operation. But,
it is often seen that there is lot of friction and bickering among the members due to
personality differences, ego clash etc.
5. Lack of Secrecy: Maintenance of business secrecy is one of the important factors for the
success of enterprise which the co-operatives always lack.
6. Dependence on Government: The inadequacy of capital and various other limitations
make co-operatives dependant on the government for support and patronage in terms of
grants, loans and subject themselves to interference.
5. State Enterprise/ Public Enterprise
The business units owned, managed and controlled by the central, state or local
government are termed as public sector enterprises or public enterprises. These are also
known as public sector undertakings. A public sector enterprise may be defined as any
commercial or industrial undertaking owned and managed by the government with a view
to maximise social welfare and uphold the public interest.
Characteristics of Public Enterprises
Looking at the nature of the public enterprises their basic characteristics can be
summarised as follows:
1. Owned, managed and controlled by Government.
2. Funded by Government
3. Welfare oriented
4. Concentrate on public utility services
5. Responsible to parliament
6. Observance of Government formality is necessary
Forms of Organisation of Public Enterprises
There are three different forms of organisation used for the public sector enterprises in
India. These are (1) Departmental Undertaking; (2) Statutory (or Public) Corporation, and
(3) Government Company.



19

Departmental Undertaking form of organisation is primarily used for provision of essential
services such as railways, postal services, broadcasting etc. Such organisations function
under the overall control of a ministry of the Government and are financed and controlled
in the same way as any other government department. This form is considered suitable for
activities where the government desires to have control over them in view of the public
interest.
Statutory Corporation (or public corporation) refers to a corporate body created by the
Parliament or State Legislature by a special Act which defines its powers, functions and
pattern of management. Statutory Corporation is also Known As Public Corporation. Its
capital is wholly provided by the government. Examples of such organisations are Life
Insurance Corporation of India, State Trading Corporation etc.
Government Company refers to the company in which 51 percent or more of the paid up
capital is held by the government. It is registered under the Companies Act and is fully
governed by the provisions of the Act. Most business units owned and managed by
government fall in this category.
Advantages of Public Enterprises
1. Development of backward areas: Private enterprise cannot satisfy the development
needs of backward areas. Extension of public enterprise is essential for the economic
reconstruction of the backward areas.
2. Public welfare: The aim of public enterprise is not to earn profit, but the social or public
welfare which promote national interest.
3. End of industrial profit: the growth of capitalism is checked by public enterprise
4. Development of basic and heavy industries: private enterprise generally hesitates to
participate in capital intensive investments. E.g. iron and steel plant, fertilizer plant etc.
Therefore public enterprises come to help in the development of basic and heavy
industries.



20

5. Facilities to workers: labour is also provided with more facilities by the public enterprise
as compared to the private enterprise
6. Quality products at reasonable prices: public sector enterprise produces better quality
products and sells them at reasonable prices.
7. Easy credit: It is easy to collect more capital for the state enterprise as compared to the
private enterprise.
8. Economic and social equalities: income from the state enterprise does not go in to the
private pocket but it is spend on public welfare.
9. Able employee: the state enterprises have the advantage of able persons
10. Research: The state enterprises have sufficient funds at their disposal to utilise it for
research of new techniques of production of new machines.
Disadvantages of public enterprises
1. Lack of incentives: The government servants dont have the same incentive to do their
best as a man in private enterprise has. In the government service, promotion is rewarded
by seniority and not by merit.
2. Redtapism: Many decisions have taken in a state enterprise at different high level
meetings. The file concerning these matters generally remains locked-up without any
reason in the different offices for a long time
3. Wasteful expenditure: The government funds of property are used carelessly which
results in little benefits at a great cost.
4. Corruption: corruption and dishonesty are very common things in state enterprise.
5. Unnecessary interference: There is general tendency of ministers and the bureaucrats
to interfere in the transfer of government employee
6. Political favouritism: Every minister and leader uses favouritism and nepotism in the
recruitment and appointment of their near and dears. This cause appointment of
inefficient persons.
7. Frequent and sudden transfer: frequent and sudden transfer adversely hit the normal
functioning of the state enterprise.
**********



21

Consumer
A consumer is one who buys goods and services for personal satisfaction of wants. He will
use his limited income to derive maximum satisfaction.
Consumption
In economics, the term consumption means the act of consuming/purchasing something. It
is the utilization of goods to satisfy needs.
Wants
A want is something that is desired. It is said that every person has unlimited wants, but
limited resources. Thus, people cannot have everything they want and must look for the
most affordable alternatives.
Characteristics of Human Wants
1. Human wants are unlimited: Man is a bundle of desires. Mans mind is so made that he
never completely satisfied and hence there is no end to human wants. When one want is
satisfied another want will crop up to take its place and thus it is never ending cycle of
want.
2. Any particular want is satiable: Though the wants are unlimited, it is possible to satisfy a
particular want, provided the means (resource).
3. Wants are complementary: It is a common experience that we want things in groups. A
single article out of group can not satisfy human wants by itself. It needs other things to
complete its use e.g. pen & ink, car & petrol etc.
4. Wants are competitive: Some wants compete to other. We all have a limited amount of
money at our disposal; therefore we must choose some things and reject the other. E.g.
sugar and jaggery.
5. Wants vary with time place and person: Wants are not always the same. It varies with
individual to individual. People want different things at different times and in different
places.
6. Wants vary in Urgency and Intensity: All wants are not equally urgent and intense.
Some wants are urgent while some are less urgent.
7. Wants multiply with civilization: With the advancement the wants multiply. Therefore
the wants of people living in urban area are more than the villagers. With civilization the
demand for radio, T.V, motor-car etc, are increasing.
8. Wants are recurring in nature: Some wants are recurring in nature, e.g. food we require
again and again.
9. Wants change into habits: If a particular want is regularly satisfied then it may grow
into habit e.g. smoking of cigarette and use of drugs.
MODULE- 2



22

10. Wants are influenced by income, salesmanship and advertisement: If income is higher
more wants can be satisfied. Many things we buy of particular brands due to salesmanship
or advertisement.
11. Wants are the result of custom or convention: As a part of custom and convention we
buy many things. Really they are not required but unlikely we have to purchase it e.g.
expenses on social ceremonies.
12. Present wants are more important than future wants: Future is uncertain and hence
man is more concerned with the satisfaction of the present wants rather than future
wants.
Classification / Types of Wants:
The wants can be classified as under.
1) Necessaries: These can be sub divided as
a) Necessaries of existence: The things without which we cannot exist e.g. water, food,
clothing, shelter.
b) Conventional necessaries: The things which we are forced to use by social custom.
2) Comforts: After satisfying our necessaries we desire to have some comforts. For
example table and chair for a student help to increase the efficiency. But cushioned costly
chair is not a comfort.
3) Luxuries: Luxury means superfluous (more than needed) consumption. After getting
comforts, man desire luxury. e.g. gold and silver, costly furniture, etc.
Utility
The term utility refers to the want satisfying power of a commodity or a service. Utility is a
psychological phenomenon. It is highly subjective and differs from person to person. To
analyse the concept of utility, economists use an imaginary measure called utils. For
convenience we express utils in money terms.
Concepts of Utility
a) Total Utility
Total utility is defined as the total psychological satisfaction derived by a consumer from
the consumption of a given amount of a commodity. In other words, it is the sum of utilities
obtained from consumption of different quantities of a commodity.
b) Average Utility
Average utility is the utility which is derived from per unit of the commodity. In other
words, the utility which is derived by dividing the total utility by the total units of goods and
services consumed is the average utility.
It can be expressed as:
AU=TU/x: where, AU = Average utility
TU = Total utility: x = consumed goods and services.
c) Marginal Utility
Marginal utility may be defined as the addition to total utility by the consumption of an
additional unit of a good.
MUn= TUn- TUn-1



23

Forms of Utility
1. Form utility
If by changing the form of a good, capacity to satisfy wants is created in it, it is called the
form utility. Changing the wheat in the form of biscuit, changing of wood into furniture are
the examples of the form utility.
2. Place utility
Utility is also created by changing the place of a good. It is called place utility. Collecting of
sand from the river-bank and transporting it to the construction site or transporting the
coal to different parts of the country from the coal-mines are examples of place utility.
3. Time utility
With the passage of time, if utility is measured, it is called time utility. E.g., old wine. Thus
storing oranges, apples and other fruits in the cold storages or warehouses until their crop
season is over and their prices increase, is an example of time utility.
4. Service utility
If the service rendered by a man satisfies your want, it is called service utility. A professors
teaching in a class, a lawyers pleading case, a tailors stitching a shirt, are the examples of
service utility.
5. Possession utility
If the change of possession of a good increases its utility, it is called the possession utility.
The utility of sewing machine is not as great for a dealer in sewing machines as it is for a
tailor.
6. Knowledge utility
When the utility of a good increases by increasing peoples knowledge about that good, it is
called knowledge utility. For example, we come to know about the qualities of Lux soap or
Forhans tooth paste through advertisements that is why the demand of these products
goes up.
Law of Diminishing Marginal Utility
The law of diminishing marginal utility i s one of the fundamental l aws i n
economi cs. I t has been devel oped by Jevon, Karl Menger and Leon Wal ras
and was popularised by Prof. Alfred Marshall.
The law states that, the additional benefit which a person derives from a given increase
in the stock of a thing diminishes with every increase in the stock that he already has.
In other words, other things remaining the same, the utility derived from the consumption
of additional unit of a commodity always diminishes.
Assumptions of the law
The law of DMU is based up on the following assumptions.
1. All the units of commodity should be homogeneous in size and quantity
2. There should not be any time lag in consumption of successive units of the commodity
3. The consumer should be rational



24

4. The habits, tastes, income and fashion of the consumer should remain constant
5. There should not be any change in the price of the commodity and related goods
6. Utility is measurable in cardinal numbers
The law can be better explained with the help of the following diagram and table

When a consumer consumes one unit of the good (apple) his MU is 10; for the second unit
it is 8, for the 3
rd
unit it is 6 and so on. When the consumer increases consumption to sixth
unit, his marginal utility becomes zero and total utility reaches its maximum. This point is
called the point of inflexion.
When he consumes the seventh unit, his MU is -2. The negative sign of the MU indicates
that, it does not derive any satisfaction, but some dissatisfaction, which may occur in
situations like over eating.
Units of Apple
consumed
Marginal
utility
Total utility
1 10 10
2 8 18
3 6 24
4 3 27
5 2 29
6 0 29
7 -2 27



25

Exceptions of the Law
The law is not applicable under the following situations.
1. The law does not apply to rare collections such as coins, stamps, paintings etc.
2. This law is not (fully) applicable in the case of money. This is because man is not fully
satisfied with money. But it can be said that Marginal utility of money diminishes,
though it will not reach zero or negative.
3. The consumption of liquor is not subject to the law of DMU. The more a person drinks
liquor, the more he likes it.
The Price Mechanism
In a free market economy, the basic economic problems of what to produce and for whom
to produce are settled by price mechanism. Price mechanism refers to the operation of the
forces of demand and supply. The price of any commodity in the market is determined by
the interaction of the forces of demand and supply.
Price: The value of a thing expressed in terms of money is called the price.
Commodity: A commodity is any good produced for sale in the market
Market: In economics, market means all the areas in which buyers and sellers are in a
contact with each other for the purchase and sale of commodities.



26

Demand
Demand is the desire backed by ability to pay and willingness to pay for a commodity.
Mere desire or ability to pay will not form demand. For e.g. a poor man may have desire to
have a car, but does not have the ability to buy it. Similarly a miser may have the desire and
ability but not willingness to pay. In both the cases there is no demand.
Determinants of Demand
Demand for a commodity by a household is determined by the following factors
a) Price of the commodity
Price of the commodity is the most important factor that determines the demand for a
commodity. When price of the commodity rises, less will be demanded and when price
falls, more will be demanded.
b) Income of the household
A rise in income is generally associated with increase in demand for various goods. Both
income and demand will move in the same direction.
c) Taste and preference of the household
Taste and preference of individual may change due to the influence of advertisements,
change in fashion or due to their desire to imitate their neighbour. A change in the taste
and preference of individuals may influence the demand for commodities.
d) Price of other commodities
Price of related commodities affects household demand for a commodity. Related goods
may either be a substitute good or a complementary good.
Substitute good: are those goods which can be substituted for one another. E.g. tea &
coffee.
Complementary goods: are goods which are used together to satisfy a given want. E.g. car
& petrol.
A fall in the price of a substitute good reduces the demand for its related good and vice
versa. A fall in the price of a complementary good will increase the demand for the other
good and vice versa.
Demand Function
The functional relationship between the demand for a commodity and the factors
determining demand is called the demand function.
Dn = f ( Pn, P1....................Pn-1, y, T) ; where
Dn demand for the commodity n
f function of
Pn price of n
P1-Pn-1 price of related
Y money income of the household
T taste & preference of the household.



27

Law of Demand
The relationship between price and quantity demanded is usually referred to as law of
demand. The law of demand states that,
Other things remaining same, the quantity demanded of a commodity varies inversely
with price.
That is, when price rises demand for the commodity falls and when price falls demand for
the commodity rises. That is, there exist an inverse relationship between price and quantity
demanded.
Assumptions of the Law
1. Consumers money income remain constant
2. Price of other goods remain the same
3. Taste and preference of consumers remain the same
4. The commodity has no close substitutes
5. The commodity is a normal commodity
The law of demand can be true only when all the assumptions are valid.
Exceptions / limitations of the Law of demand
1. Fear of future rise in price: if the price of a commodity is increasing and if it is expected
to increase still further, the consumers will buy more of the commodity at a higher price
than they did at lower price
2. Fear of future fall in price: if the price of the commodity is falling and if it is expected to
fall further, the consumer will buy less of the commodity at low price. The consumer will
hold off their purchase until prices reach the bottom level.
3. Ignorance of the consumer: Due to ignorance, consumers buy in the costly market.
4. Demand for necessaries: the law of demand does not apply in the case of absolute
necessaries of life. Even though prices of necessaries rise, the demand for them remains
more or less the same.
5. Giffen goods: A giffen good is a good for which demand decreases as price falls. The
demand curve for giffen good will slope upwards to the right. When the price of inferior
goods (cheap goods.eg. bajra) falls, the real income of the people increases. They will
therefore prefer to substitute superior goods (e.g. rice) for inferior goods even if their
prices have fallen.

Demand Schedule
Demand schedule is a table which shows the amounts of a commodity demanded at a
given period of time at various prices.



28

Demand Curve
Demand curve is a graphical representation of demand schedule.

In the diagram X axis shows quantity of apple demanded per week and Y axis shows price
of apple per kilogram. The points P,Q,R,S,T and U shows the quantities of apple demanded
at various prices. When we join these points we get the household/individual demand
curve DD. The DD curve slope downwards from left to right showing that more will be
demanded at lower prices and less at higher prices.

The major reason for the downward slope of demand curve is that the law of diminishing
marginal utility. A consumer will buy additional units of the commodity only when its price
falls because the satisfaction derived from the consumption of successive units goes on
falling.

Price of Apple/ kg (Rs.) Quantity demanded
/week (kg)
60 1
50 2
40 3
30 4
20 5
10 6

Changes in Demand
Demand for a commodity is determined by many factors. The change in demand may be
due to change in price or due to factors other than price of the commodity.

1. Expansion( Extension)
When demand changes due to change in price, it is a case of expansion or contraction of
demand.
a. Expansion of demand
When quantity demanded of a commodity increases due to a fall in its price, it is called
expansion of demand (movement from A to B)
b. Contraction of demand
A fall in demand due to rise in price is called contraction of demand. (movement from A to
C) . Both Expansion and contraction of demand take place on the same demand curve.
Change in
Expansion of
demand
[Economics and Business Management

ange in price or due to factors other than price of the commodity.
( Extension) and Contraction of Demand
(movement from A to B)
Both Expansion and contraction of demand take place on the same demand curve.

Changes in
demand
Change in
price
Expansion of Contraction
of demand
Change in
assumptions
Increase in
demand
Decrease in
demand
Economics and Business Management] B.Tech.

29
ange in price or due to factors other than price of the commodity.

Both Expansion and contraction of demand take place on the same demand curve.



30

2. Increase and Decrease in Demand ( Shift in Demand )
Change in demand due to factors other than price is called increase and decrease in
demand. It may be due to change in income, taste and preference etc.
a. Increase in demand: Rise in demand due to changes in factors other than price is called
increase in demand. That means, more is demanded at the same price.
b. Decrease in demand: Fall in demand due to factors other than price is called decrease in
demand. That means, less is demanded at same price.

Elasticity of Demand
Elasticity of demand refers to the degree of responsiveness of quantity demanded of a
commodity due to changes in price, income, price of related commodities.
Types of Elasticity of Demand
Following are the important types of elasticity of demand
1. Price Elasticity Of Demand
Price elasticity of demand is the degree of responsiveness of quantity demanded of a
commodity due to change in its price. In other words, price elasticity of demand is the ratio
of percentage change in quantity demanded to percentage change in price. It is denoted by
ep.
ep =
Pcrccntagc Changc In quantIty dcmandcd
Pcrccntagc Changc In PrIcc

ep =
q
p
x
p
q

2. Income Elasticity Of Demand
Income elasticity of demand shows the degree of responsiveness of quantity demanded of a
commodity to a change in the income of the consumer.
Income elasticity (ei) =
Pcrccntagc Changc In Incomc

ei =
q
m
x
m
q



31

3. Cross Elasticity Of Demand
Cross elasticity of demand shows the degree of responsiveness of quantity demanded of
one commodity to the change in price of related goods. In other words, it shows the degree
of responsiveness of quantity demanded of commodity X due to change in price of
commodity Y.
ec =
Pcrccntagc Changc In quantIty dcmandcd oI X
Pcrccntagc Changc In prIcc oI Y

ec =
qX
pY
x
p
qX

Price Elasticity of Demand
Price elasticity of demand is the degree of responsiveness of quantity demanded of a
commodity due to change in its price. The law of demand does not explain at what rate,
demand changes in response to a given change in its price. Price elasticity of demand tells
us exactly how much the quantity demanded would increase or decrease as a result of a
given fall or rise in price.
Types / Degrees of Price Elasticity of Demand
On the basis of the degree of responsiveness of demand to the change in price, elasticity of
demand is generally classified in to five categories.
1. Perfectly elastic demand (ep=)
2. Perfectly inelastic demand (ep=0)
3. Unitary elastic demand (ep=1)
4. Elastic demand (ep>1)
5. Inelastic demand (ep<1)
1. Perfectly Elastic Demand (ep=)
Demand for a commodity is said to be perfectly elastic when a slight change in price causes
infinite change in quantity demanded.

The Demand curve will be a straight line parallel to X axis (horizontal line). Here price
elasticity of demand is infinity ()



32

2. Perfectly Inelastic Demand (ep=0)
Demand for a commodity is said to be perfectly inelastic if quantity demanded does not
change at all in response to a change in its price. The demand curve is thus a straight line
parallel to y axis (vertical line).

Here the price elasticity of demand is zero.
3. Unitary Elastic Demand (ep= 1)
Demand for a commodity is unitary elastic if a given change in price causes an equal and
proportionate change in quantity demanded.

In the diagram when price falls from OP to OP1 quantity demanded expands from OQ to
OQ1. The change is equal and proportional.



33

4. More/Relatively Elastic Demand ( ep>1)
Demand for a commodity more elastic if a given change in price leads to a more than
proportionate change in quantity demanded.

This is otherwise called elastic demand. In the figure when price falls from OP to OP1,
quantity demanded expands from OQ to OQ1. The change in demand is more than the
change in price (QQ1>PP1).

5. Less Elastic Demand/ Relatively Inelastic Demand ( ep <1)
Demand for a commodity is less elastic when a given change in price leads to a less than
proportionate change in quantity demanded. This is also called inelastic demand.

In the diagram when price falls from OP to OP1 quantity demanded expands from OQ to
OQ1. The change in demand is less than the change in price. ( i.e. QQ1< PP1)



34

Measurement of Elasticity of Demand
Generally, three methods are used to measure the price elasticity of demand. They are
1. Percentage/ Proportionate Method
2. Total Expenditure (Total Outlay)Method
3. Point Method or Geometrical Method
1. Percentage/ Proportionate Method
Under this method, we measure elasticity by comparing the percentage change in price
with the percentage change in demand. The formula for measuring price elasticity of
demand under this method may be written as
ep =

=
changc In quanIty dcmandcd (q)
InItIaI quantIty dcmandcd (q)

changc In prIcc ( p)
InItIaI prIcc (p)

=
q
q

p
p
=
q
q
x
p
p

ep =
q
p
x
p
q

Example: if price of apple reduces from Rs.50 to Rs.40 and demand for apple raises from
100 units to 150 units. Then find out the elasticity of demand.
ep =
q
p
x
p
q

=
50
10
x
50
100

=
25
10
= 2.5
P= 50, p1= 40, q = 100, q1= 150 ;
p= pp1 & q = qq1
p = 10 q = 5

2. Total Expenditure(Total Outlay) Method
In this method elasticity of demand is measured by comparing total expenditure on the
commodity before and after the price change. There may be three possibilities.
a) If total expenditure on the commodity increases with a fall in price (or decreases with a
rise in price), the elasticity of demand is said to be greater than unity (ep>1).
b) If total expenditure on the commodity decreases with a fall in price (or increases with a
rise in price) elasticity of demand is said to be less than unity (ep<1).
c) When the total expenditure on a commodity is at its maximum (or remains the same)
the elasticity of demand is said to be unity.



35

ep > 1

ep = 1

ep < 1

3. Point Method or Geometric Method
This is the geometric method for measuring elasticity. Elasticity of demand may different at
points in a straight line. The formula for measuring price elasticity of demand using point
method is
ep =
Iowcr scgmcnt
uppcr scgmcnt

At point c elasticity is unity, since
the lengths of both lower and upper
segment of AB are equal.
At point A ep = , since the
length of the upper segment is zero
A =
L
U
=
100
0
=
At point E ep= 0, since the length
of the lower portion is zero
At any point on AB above C , ep > 1
At any point on AB below C, ep < 1.
Price Quantity Total
Expenditure
10 1 10
9 2 18
8 3 24
7 4 28
6 5 30
5 6 30
4 7 28
3 8 24
2 9 18
1 10 10



36

Factors Determining the Price Elasticity of Demand
The price elasticity of demand depends up on a number of factors. They are given below.
1) Availability of close substitutes
If a commodity has large number of close substitutes, its demand will be more elastic than
commodities having lesser number of substitutes.
E.g. Tea is a good substitute for coffee. If the price of coffee increases people will use more
tea. Therefore, demand for coffee is highly elastic. Common salt on the other hand does
not have any close substitute and hence its elasticity of demand tends to be very low.
Tea & Coffee - more elastic
Salt- less elastic
2) Number of uses of the commodity
If a commodity is used for several purposes, its demand is generally elastic. Eg. Aluminium
which has many uses, its demand is likely to be elastic. But, commodities like pencil, which
has only limited uses, its demand is inelastic.
3) Total expenditure of the commodity
If the total expenditure on a commodity in a household budget is high, its price elasticity of
demand is likely to be high. On the other hand, if the expenditure on it is only small part of
the total expenditure, its demand is likely to be inelastic.
4) Level of price
Demand is generally more elastic at higher level of prices than at lower levels. Thus in case
of straight line demand curve, the upper portion of the demand curve corresponding to the
higher price level has greater elasticity than the lower portion of the curve corresponding
to lower price.
5) Level of income of the household
If the income level of the household is very high, the elasticity of demand for most of the
commodities will be less. But in low income households, the elasticity of demand for most
of the commodities would be high.
6) The nature of the commodities
The demand for necessaries is less elastic than the demand for comforts and luxuries.
7) Other factors
Factors like adjustment of time, habit, taste, customs of people, possibilities of
postponement of consumption, durability of good etc. Also affect the elasticity of demand.
Significance of Elasticity of Demand in Business
The concept of elasticity of demand is of great importance in the sphere of Government
finance as well as in trade and commerce.
1. Price determination
The concept of elasticity of demand is used in explaining the determination of prices under
various market situations. A businessman, if he is a monopolist will have to consider the
nature of demand while fixing the price. In case it is inelastic, it will pay him to charge a
higher price and sell a smaller quantity. If, on the other hand, the demand is elastic, he will
lower the price.



37

2. Classification of goods as Substitutes and Complements
Goods are classified as substitutes and complements on the basis of cross elasticity of
demand. Two commodities may be considered as substitutes if cross elasticity is positive
and complementary when elasticity is negative.
3. Output
Elasticity of demand affects industrial output. The individual demand for news paper is
inelastic. No amount of reduction in the price of news paper will induce the individual to
buy an additional copy of the same paper. But a reduction in the price of news paper will
certainly increase the sale in the market as a whole.
4. Incidence of taxation ( final burden of a tax)
The concept of elasticity of demand is used in understanding the incidence of indirect taxes
like sales taxes and excise duty. Less is the elasticity of demand higher the incidence and
vice versa. In case of inelastic demand the consumer have to buy the commodity and must
bear the tax.

Demand Forecasting
Demand forecasting is the activity of estimating the quantity of a product or service that
consumers will purchase. Demand forecasting may be used in making pricing decisions, in
assessing future capacity requirements, or in making decisions on whether to enter a new
market.
Methods of Demand Forecasting
There are mainly two approaches to forecast demand.
1. Survey methods
2. Statistical methods
I. Survey Methods
In order to forecast the demand for existing product survey methods are often employed.
Under this method the information about the likely purchase behaviour of the buyer is
obtained through collecting experts opinion or by conducting interview with consumers. It
includes the following techniques.
1. Experts Opinion Poll
In this method the experts on a particular product whose demand is under study are
requested to give their opinion about the product. These experts, dealing in the same or
similar product are able to predict the likely sales of a given product in the future periods
under different conditions based on their experience.
2. Delphi Method
This is a variant of the opinion poll method. Under this method opinion of experts is
collected through mail survey.



38

Steps in Delphi method
a. Prepare the questionnaire
b. Send the questionnaire to experts through mail
c. Collect the filled in questionnaire back
d. Summarise the response
e. Send back again to experts to express their reasons
f. Repeat the process for one or more rounds
Advantages
a. Intelligible to users
b. More accurate
c. Less expensive
Disadvantages
a. What is the value of experts opinion?
b. What is the contribution of additional round or feed back to accuracy?
3. Sample survey method
Under this method, the forecaster select a few consuming units out of the relevant
population and then collects data on their probable demand for the product during the
forecast period.
II. Statistical Methods
Statistical methods include
1. Trend projection method
This method is used to forecast demand for a product whose past sales records are
available for a number of years. Under this method, the time series data of the under
forecast are used to fit a trend line or curve either graphically or through statistical method
of least squares.
2. Leading indicator method
Leading indicators are variables that change ahead of other variable. Hence observed
changes in leading indicators are useful to predict the changes in the lagging variables. E.g.
the change in the level of urbanisation may be used to predict the changes in the demand
for houses or flats.
3. Regression method
In this method, both economic theory and statistical methods of estimation are used
together to estimate the demand for a commodity. The economic theory is used to identify
the demand factors for the commodity and the expected shape of its demand function.
4. Simultaneous equation model
This is a complex method. Here instead of one regression equation showing the demand
for the commodity, a set of equations is to be specified and estimated in a model frame
work.



39

Supply
Supply by an individual seller or firm is the quantity of a commodity he is willing to sell in
the market at a given price, in a given period of time.
Factors Determining Supply of a Commodity
a. Goal of the firm (G): Generally profit maximisation is the goal of the firm. Any change in
the goal of the firm may affects the supply of the commodity.
b. Price of the commodity (P): Supply of a commodity depends up on the price of the
commodity offered in the market. Generally, higher the price, the larger will be the
quantity supplied. If the price of a commodity falls, less of it will be supplied.
c. The price of factors of production (PF): If the price of factors of production of a
commodity increases, its cost of production will increase. If the cost of production
increases, generally, the firm may decide to sell less at a given price. On the other hand,
if the cost of production falls, the firm may sell more at the same price.
d. Level of technology (T): A better technology which reduces cost of production will
increase the supply.
e. Expected change in price (CP): In case producers expect an increase in price, they will
retain or with draw goods from the market. Consequently supply will reduce and vice
versa.
Supply Function
The functional relationship between supply of the commodity and the factors determining
supply is called supply function.
Sn = f( G, P, PF, T, CP,... )
Law of Supply
The law of supply states that other thing being equal, the quantity supplied varies directly
with price of the commodity. It means that there is a direct relationship between price of a
commodity and its supply. In other words, higher the price, the larger the supply; and
lower the price, the smaller the price.
Assumptions of the law
The law of supply is based on the following assumptions
1. There is no change in the goal of producers
2. There is no change in the price of factors of production
3. The level of technology is assumed the same
4. There is no expectations about future change in price
5. Income of the buyers and the sellers remain the same

The law is explained with the help of the following schedule and curve.



40

Supply Schedule
Supply schedule is a table which shows the amount of a commodity supplied at a given
period of time at various prices.
Price of apple in Rs. Per Kg. Quantity Supplied
50 500
40 400
30 300
20 200
10 100
Supply Curve
Supply curve is a graphical representation of a supply schedule.

Price Elasticity of Supply
Price elasticity of supply can be defined as the degree of responsiveness of quantity
supplied of a commodity due to a change in its price. In simple words, it is the percentage
change in quantity supplied divided by the percentage change in price of the commodity.
i.e. price elasticity of supply (es) =
Pcrccntagc Changc In quantIty suppIIcd

=
changc In quanIty suppIIcd (s)
InItIaI quantIty suppIIcd (s)

changc In prIcc ( p)
InItIaI prIcc (p)

=
s
s

p
p
=
s
s
x
p
p

es =
s
p
x
p
s



41

Degrees of Price Elasticity of Supply
1. Perfectly Elastic Supply (es=)
Supply for a commodity is said to be perfectly elastic when a slight change in price causes
infinite change in quantity supplied. The Supply curve will be a straight line parallel to X axis
(horizontal line). Here price elasticity of supply is infinity ()

2. Perfectly Inelastic Supply (es=0)
Supply for a commodity is said to be perfectly inelastic if quantity supplied does not change
at all in response to a change in its price. The supply curve is thus a straight line parallel to y
axis (vertical line).Here the price elasticity of supply is zero.



42

3. Unitary Elastic Supply (es= 1)
Supply for a commodity is unitary elastic if a given change in price causes an equal and
proportionate change in quantity supplied.

In the diagram when price falls from OP to OP1 quantity supplied expands from OQ to
OQ1. The change is equal and proportional.
4. More Elastic Supply/ Relatively Elastic Supply ( es >1)
Supply for a commodity more elastic if a given change in price leads to a more than
proportionate change in quantity supplied. This is otherwise called elastic supply.

In the figure when price rises from OP to OP1, quantity supplied expands from OQ to OQ1.
The change in supply is more than the change in price (QQ1>PP1).



43

5. Less Elastic Supply/ Relatively Inelastic Supply ( es <1)
Supply for a commodity is less elastic when a given change in price leads to a less than
proportionate change in quantity supplied. This is also called inelastic supply.

In the diagram when price rises from OP to OP1 quantity supplied expands from OQ to
OQ1. The change in supply is less than the change in price. (i.e. QQ1< PP1)
Factors determining elasticity of supply
Elasticity of supply is influenced by the following factors.
1. Nature of the commodity
Elasticity of supply depends on the nature of the commodity. Perishable goods like fruits
and vegetables have inelastic supply. Durable goods have elastic supply.
2. Cost of production
If cost of production per unit rises rapidly as output rises, the supply will tend to be rather
inelastic. If on the other hand, unit cost rises slowly as production increases, supply will
tend to be rather elastic.
3. Time period
During short period supply will be less elastic and during long period it will be more elastic.
4. Techniques of production
Goods produced using simple techniques of production will have elastic supply. On the
other hand, goods produced using complex techniques of production will have less elastic
supply.
5. Risk bearing capacity
If producers have a large risk bearing capacity, their goods will have elastic supply. But if
producers are unable to bear risk, the supply will be less elastic

Changes in Supply
Changes in supply can be divided in to two
1. Expansion(Extension)
When supply changes due to change in price, it is a case of expansion or contraction of
supply.
a. Expansion of supply
When quantity supplied of a commodity increases
expansion of supply (movement from A to B)
b. Contraction of supply
When quantity supplied of a commodity decreases with a fall in its price, it is called
contraction of supply. (movement from A to C)
take place on the same supply curve.
Change in
price
Expansion of
supply
[Economics and Business Management
Changes in supply can be divided in to two
(Extension) and contraction of supply
changes due to change in price, it is a case of expansion or contraction of
of a commodity increases with a rise in its
(movement from A to B)
. (movement from A to C) Both Expansion and contraction of
place on the same supply curve.

Changes in
supply
Change in
price
Contraction
of supply
Change in
assumptions
Increase in
supply
Decrease in
Supply
Economics and Business Management] B.Tech.

44

changes due to change in price, it is a case of expansion or contraction of
in its price, it is called
Both Expansion and contraction of supply

Decrease in

[Economics and Business Management] BTech.

45

2. Increase and Decrease in Supply ( Shift in Supply)
Change in supply due to factors other than price is called increase and decrease in supply.
It may be due to change in any of the assumptions of supply.
a. Increase in supply: Rise in supply due to changes in factors other than price (a
technological improvement) is called increase in supply. That means, more quantity is
supplied at the same price or same quantity is supplied at a lower price ( Shift from SS to
S1 S1)
b. Decrease in supply: Fall in supply due to factors other than price (increase in the price
of labour) is called decrease in supply. That means, less is supplied at same price or same
quantity is supplied at a higher price. (Shift from SS to S2 S2)

Market Equilibrium/ Equilibrium Price
Equilibrium literally means balance. It means a position from which there is no tendency
to change. Equilibrium price is the price at which quantity demanded equals quantity
supplied.

Price Quantity demanded Quantity supplied
10 50 10
20 40 20
30 30 30
40 20 40
50 10 50

[Economics and Business Management] BTech.

kmmanu1987@gmail.com 46

In the above figure the demand curve DD and supply curve SS intersect at point E, the
equilibrium point. The price corresponding to this point is called equilibrium price ( Rs.
30).
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