Module ITB 005

Introduction to
Business
Module No. 005

Monitoring the External
Environment
Assessing Economic Conditions
By
Muhammad Shahid Iqbal
Economic Growth and Business
 Economic conditions reflect the level of production and
consumption for a particular country, area, or industry.
Economic conditions can affect the revenue or expenses of a
business and therefore can affect the value of that business.
 Economic Growth: is the increase in the market value of the
goods and services produced by an economy over time. It is
conventionally measured as the percent rate of increase in real
gross domestic product.
 Economic growth creates more profit for businesses. As a result,
stock prices rise. That gives companies capital to invest and hire
more employees. As more jobs are created, incomes rise.
Consumers have more money to buy additional products and
services. Purchases drive higher economic growth.
Economic Growth and Business
 Strong Economic Growth: when economic growth is stronger
than normal, the total income level of all workers is relatively
high, so there is a higher volume of spending on products and
services. Since the demand for products and services is high,
firms that sell products and services should generate higher
revenue.
 Weak Economic Growth: Whereas strong economic growth
enhances a firm’s revenue, slow economic growth results in low
demand for products and services, which can reduce a firm’s
revenue. Even firms that provide basic products or services are
adversely affected by a weak economy because customers tend
to reduce their demand. they may need to reduce production and
lay off workers. So the effect ripples through the economy.
Indicators of Economic Growth
 Aggregate Expenditure: aggregate expenditure is a measure of
national income. Aggregate expenditure is defined as the current
value of all the finished goods and services in the economy. It is
the sum total of all the expenditures undertaken in the economy
by the factors during a given time period.
 Gross domestic products: GDP, measures the total value of all
final goods and services produced within a nation’s physical
boundaries over a given period of time, often annually.
 Unemployment level: The unemployment rate is defined as the
percentage of unemployed workers in the total labor force.
Workers are considered unemployed if they currently do not
work, despite the fact that they are able and willing to do
so. The total labor force consists of all employed and
unemployed people within an economy.
 The four different types of unemployment are as follows:
 Frictional unemployment: represents people who are between
jobs. Their unemployment status is temporary. A time spent
between jobs when a worker is looking for a job or transitioning
from one job to another.
 Seasonal unemployment: represents people whose services are
not needed during some seasons. The demand for a specific kind
of work and workers change with the change in the season.
 Cyclical unemployment: represents people who are
unemployed because of poor economic conditions. When the
level of economic activity declines, the demand for products and
services declines, which reduces the need for workers.
 Structural unemployment: represents people who are
unemployed because they do not have adequate skills.
 Inflation: Inflation is the increase in the general level of prices
of products and services over a specified period of time. The
inflation rate can be estimated by measuring the percentage
change in the consumer price index, which indicates the prices
on a wide variety of consumer products such as grocery
products, housing, gasoline, medical services, and electricity.
 Cost Push Inflation: Cost-push inflation occurs when
overall prices increase due to increases in the cost of production
such as wages and raw material. Higher costs of production can
decrease the aggregate supply.
 Demand Pull Inflation: Demand-pull inflation results from
strong consumer demand. Many individuals purchasing the same
good will cause the price to increase, and when such an event
happens to a whole economy, it is called demand-pull inflation.
 Interest rates: Interest rates determine the cost of borrowing
money. They can affect a firm’s performance by having an
impact on its expenses or on its revenue. Changes in market
interest rates can influence a firm’s interest expense because the
loan rates that commercial banks and other creditors charge on
loans to firms are based on market interest rates.
 Changes in market interest rates can influence a firm’s revenue
because When consumers buy new cars, they may make just a
small down payment and obtain a loan to cover the remainder of
the purchase price. If interest rates increase, consumers who buy
a new car will be forced to make higher payments. This affect
the buying power of some consumers from buying a new car.
Thus, high interest rates can lead to reduced demand for new
cars, which results in lower revenue for the car manufacturers.
How market prices are determined
 Market Economy: A market economy is an economic system in
which economic decisions are made in the marketplace. The
marketplace is where buyers and sellers meet to exchange goods
and services, usually for money.
 The performance of firms is affected by changes in the prices they
charge for products and the prices they pay for supplies and
materials. The prices of products and supplies are influenced by
demand and supply conditions.
 Demand is the amount or quantity
of goods and services that
consumers are willing and able to
buy at various prices.
 Demand schedule: a schedule
that indicates the quantity of a
product that would be demanded at each possible price.
 Supply: refers to the quantity of products that producers are
willing to offer for sale at different market prices. Producers want a
price for their goods and services that will cover their costs and
result in a profit.
 Supply schedule: a schedule that indicates the quantity of a
product that would be supplied by firms at each possible price.
 Law of Supply: if all else equal,
as the price increases the
quantity supplied by suppliers
increases and as prices falls the
quantity supplied by suppliers falls.
 Supply Curve: The relationship
between price and quantity
from a supplier standpoint can
be shown on a graph called the supply curve.
Price Quantity demanded Quantity Supplied
3000 8000 30000
2500 14000 24000
2000 18000 18000
1500 22000 16000
1000 25000 10000
 The equilibrium price is the

point at which the quantity
demanded and the quantity
supplied meet
 Surplus: the situation when the quantity supplied by firms
exceeds the quantity demanded by customers.
 Shortage: the situation when the quantity supplied by firms is
less than the quantity demanded by customers
 Equilibrium price: the price at which the quantity of a product
supplied by firms equals the quantity of the product demanded
by customers. At any price above the equilibrium price, the
firms will be unable to sell all the computers they produce,
resulting in a surplus. Therefore, they would need to reduce
their prices to eliminate the surplus. At any price below the
equilibrium price, the firms will not produce a sufficient
quantity of computers to satisfy all the customers willing to pay
that price (resulting in a shortage). The firms could raise their
price to correct the shortage.
Factors That Influence Market Prices
 Consumer Income: Consumer income determines the amount of
products and services that individuals can purchase. A high level
of economic growth results in more income for consumers. When
consumers’ income rises, they may demand a larger quantity of
specific products and services. That is, the demand schedules for
various products and services may shift out in response to higher
income, which could result in higher prices.
 Consumer Preferences: As consumer preferences (or tastes) for
a particular product change, the quantity demanded by consumers
may change. There are numerous examples of products whose
prices rose in response to increased demand.
o Production Expenses: When firms experience lower expenses,
they are willing to supply more at any given price. This results in
a surplus, forcing firms to lower their price. When expenses of
firms increase, the opposite result occurs.
Govt. Influence on Economic Conditions
 To influence economic conditions, the federal government
implements monetary and fiscal policies.
 Monetary policy is the process by which the monetary authority
of a country decrease or increase the money supply and raise or
lower short-term interest rates for the purpose of promoting
economic growth and stability.
 Money supply is used by the government of a country to achieve
macroeconomic objectives like the maintenance of full
employment, to control inflation, consumption level, a
progressive rate of national growth and the stability of the
national currency on the foreign exchange.
 Monetary policy is referred to as contractionary if it reduces the
size of the money supply or increases it only slowly, or if it raises
the interest rate.
Govt. Influence on Economic Conditions
 An expansionary policy increases the size of money supply
more rapidly or decreases the interest rate.
 Fiscal policy refers to the use of government spending and tax
policies to influence economic conditions, including demand for
goods and services, employment, inflation, and economic
growth.
 consider an economy that's experiencing a recession. The
government might lower tax rates to increase aggregate demand
and fuel economic growth. This is known expansionary policy.
 when taxes decrease, people have more money to spend, which
fuels higher demand. That demand leads firms to hire more,
decreasing unemployment. In turn, this serves to raise wages and
provide consumers with more income to spend and invest.
 Expansionary policy is characterized by deficit spending.
Competition and Economic Markets
 Perfect Competition: is a market structure with a large number
of buyers and sellers selling virtually identical products, where
neither a seller nor a buyer has any control on the price of the
product. New competitors can freely enter and exit the market.
 Perfect competition is unattractive to business firms because they
have no power to influence the price they can get for their
product or service. Examples of pure competition have virtually
disappeared. Agriculture probably comes closest:
 Monopoly: A market structure characterized by a single seller,
selling a unique product in the market. In a monopoly market, the
seller faces no competition, as he is the sole seller of goods with
no close substitute and there are barriers to entry. Examples:
Microsoft and Windows, DeBeers and diamonds, your local
natural gas company.
 Monopolistic competition is a market structure in which there
are many firms selling differentiated products, products that
differ somewhat, or are perceived to differ, even though they
serve a similar purpose. Products can be differentiated in a
number of ways, including quality, style, convenience, location,
and brand name.
 There are few barriers to entry. Markets that have some features
of competition and some features of monopoly. Each firm has a
monopoly over the product it makes, but many other firms
make similar products that compete for the same customers.
Under monopolistic competition firms have only limited
control over price.
 Examples: The restaurant business, Hotels, General specialist
retailing,
 Oligopoly: Oligopoly means few sellers. each seller supplies a
large portion of all the products sold in the marketplace.
 In addition, because the cost of starting a business in an
oligopolistic industry is usually high, the number of firms
entering it is low.
 Companies in oligopolistic industries include such large-scale
enterprises as automobile companies and airlines.
 As large firms supplying a sizable portion of a market, these
companies have some control over the prices they charge. But
when one company lowers prices, others are often forced to
follow suit to remain competitive. When American Airlines
announces a fare decrease, Continental, United Airlines, and
others do likewise. When one automaker offers a special deal, its
competitors usually come up with similar promotions.

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Introduction to

Module No. 005

 The equilibrium price is the

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