MANAGERIAL ECONOMICS BEEG5013 PREPARED FOR: LT COL PROF DR ABDUL RAZAK CHIK PREPARED BY: NUR ASIAH MOHD SHARI NUR HADILA ISMAIL

QUESTION 6 The ultimate aim for manager/decision- maker is ‘optimal level of production’. How do Marginal Utility, Marginal Product, Marginal Revenue & Marginal Cost assist their decisions?

INTRODUCTION  Profit maximization is the short run or long run process whereby the price and output level that returns the greatest profit is determined by a firm.  Optimum level of production can be achieved when the production is at the maximum, most efficient and beyond which production is.  Marginal is defined as a small change in total revenue, consumer satisfaction or in total cost  Marginal utility as the gain from an increase or loss from a decrease in the consumption of a good or service.  Marginal product can be define as the change in total product per unit change in labour used.  Marginal revenue is the revenue a company gains in producing one additional unit of a good.  Marginal cost be defined as change in the total cost when the quantity produced has an increment by unit. According to Arthur Sullivan and Steven M. Sheffrin, it is the cost of producing one more unit of a good.

DECISION MAKING MARGINAL UTILITY MARGINAL PRODUCT MARGINAL REVENUE MARGINAL COST

MARGINAL UTILITY  The theory of marginal utility was introduced by William Stanley Jevons ( )  MU –gain from an increase or loss from a decrease of a consumption of a good or service  Amount of happiness brought by the next unit of a good  Can be used to analyze consumer behaviour  The theory of marginal utility was introduced by William Stanley Jevons ( )  MU –gain from an increase or loss from a decrease of a consumption of a good or service  Amount of happiness brought by the next unit of a good  Can be used to analyze consumer behaviour

According to T.R.Jain & O.P.Khanna (Business Economics –for BIM), MU can be positive, negative or zero Positive MU means consumption of an additional item increases the total utility Negative MU – when the consumption of an additional item decreases the total utility Zero MU – consumption of extra units of items have no change on the total utility MU is positive, negative or zero – total utility is always positive

This table shows that, the amount of satisfaction decrease with each addition of apples. Shows the utility of each bundle, the total utility and the marginal utility of adding the apple into the bundle. Marginal utility (MU) is the amount of utility we gain by adding one more unit (increasing Quantity by 1). In short, marginal utility is the increment to total utility. Through this table, if we increase Q from 3 to 4, TU increases by 5, so the marginal utility equals 5 when Q is 3.

MARGINAL PRODUCT Marginal product is described as the additional output that is produced by one more unit of an input. It reflects how the last unit effect the total product. This concept is important to analyse short-run production. Marginal product can be calculated by dividing the change in the total product by the change in the variable input. In the calculation of marginal product, we must hold all factors, with the exception of the increase in units of labour, constant. This means that only the units of labour change and other factors such as property, plants and equipment available for production remains the same. The formula is simplified as follows. Average Product = Quantity / Labor Marginal Product = Quantity / Labor = dQuantity / dLabor

Let’s refer to the simple example. First, we need to calculate the change in total product. Assume that by adding 2 additional worker will increase the population by 25 units. Thus, the total change in the product is 25 units. Next is to calculate the variable input. Continuing with the same example, we added two workers, so the change in variable input is 2. Step 3, is to calculate the change in total product by the change in the variable product. Continuing with the same example, 25/2 = This figure represents the marginal product Example taken from McGuigan 10 th Edition text book Table: Labour, Marginal Product and Average Product example

When marginal greater average, it shows that marginal product is rising and lies above average product. This is consistent with an increasing average product. If we hire an additional worker in this early stage of production, then the marginal product of this worker is greater than that of the existing workers. This, as such, increases the average for all workers. When marginal equals to average, this is the point of intersection and also the peak of the average product curve. Once the marginal product curve moves below the average product curve, then the average product curve declines. When we hire additional worker in the middle of this range, the marginal product of this worker is less than that of the existing workers, which pulls down the overall average.

The law of diminishing marginal productivity shows us that instead of continuing to increase the same input, it might be better to stop at a certain level, increase a different input, or produce an additional or different product or service to maximize profit.

MARGINAL COST  Marginal cost is defined as the change in the total cost, that arises when the quantity produced has an increment by unit.  At each level of production and time period being considered, marginal costs include all costs that vary with the level of production, whereas other costs that do not vary with production are considered fixed.  Marginal costs are variable costs consisting of labour and material costs, plus an estimated portion of fixed costs (such as administration overheads and selling expenses).  In companies where average costs are fairly constant, marginal cost is usually equal to average cost.  The concept of marginal cost is critically important in resource allocation because, for optimum results, management must concentrate its resources where the excess of marginal revenue over the marginal cost is maximum.  Also called choice cost, differential cost, or incremental cost.

MC = Change in Total Cost Change in Quantity  While other cost-related terms are noteworthy, marginal cost is the most important.  The reason is that the increase marginal cost reflects the law of diminishing marginal returns  MR ↓ MC ↑  MC ↑ P ↑  The result is a +ve relation between P and Q supplied – law of supply and supply curve.  Marginal cost tends to be relatively high but declining for small quantities of production. It then reaches a minimum and rises for larger quantities of output. When plotted in a graph, marginal cost traces out a U-shaped pattern. The reason for this shape is directly related to increase and decreasing marginal returns and especially the law of diminishing marginal returns

Marginal cost tends to be relatively high but declining for small quantities of production. It reaches a minimum and rises for larger quantities of output. When plotted in a graph, marginal cost traces out a U-shaped pattern. The reason for this shape is directly related to increase and decreasing marginal returns and especially the law of diminishing marginal returns.

MARGINAL REVENUE Marginal revenue helps to analyse the total potential benegits and consequences associated with increased in production. Additional revenue or benefit gained from producing additional unit of product is measured by MR. Marginal revenue can be defined as the increase in revenue from selling one more unit of a product. The concept is important in microeconomics because a firm's optimal output (most profitable) is where its marginal revenue equals its marginal cost.

Marginal revenue indicates how much extra revenue a firm receives for selling an extra unit of output. Marginal revenue is the extra revenue generated when a firm sells one more unit of output. The marginal revenue curve is a horizontal, or perfectly elastic, line for a perfectly competitive market. For a monopoly, oligopoly, or monopolistically competitive firm, the marginal revenue curve is negatively sloped. Marginal revenue curve

CONCLUSION A combination of marginal cost and marginal revenue allow business owner to find the optimal level of output and price that will lead to maximum profit Marginal analysis is very relevant tool for business owners If the price drops to low, company might want to consider raising prices because there is little to be gained from selling at a low MR, as the extra business does not bring in that much money Tracking MR allows a business to make changes when demand warrants In balancing the costs and benefits of additional actions (whether to produce more, consume more etc) determining whether the benefits will exceed cost and increase utility Marginal analysis is helpful to individuals and businesses… Weighing the costs and benefits can help government officials in determining whether allocating additional resources to a specific public program will generate extra benefits for the general public Marginal analysis also beneficial to government and policy makers