Management II: Managerial Economics, National Income, Inflation, Ethics, CSR and Corporate Governance
2. Market structures and price determination; national income; inflation
| Structure | Sellers, product, entry | Demand curve and price | Equilibrium marks |
|---|---|---|---|
| Perfect competition | Very many; homogeneous; free entry and exit; perfect knowledge and mobility | Firm is a price taker — horizontal demand, P = AR = MR; industry price by demand and supply | Short run MC = MR with profit, loss or normal profit; long run P = MC = minimum AC, normal profit only |
| Monopoly | One; no close substitute; blocked entry | Price maker on a downward-sloping demand; MR below AR, MR = AR(1 − 1/e); never produces where demand is inelastic | MC = MR, price read off AR above it; supernormal profit persists; price discrimination where markets separable with different elasticities (Pigou's three degrees) |
| Monopolistic competition (Chamberlin, 1933) | Many; differentiated; free entry; selling costs | Elastic but downward-sloping demand; group equilibrium | Long run tangency of AR to AC — normal profit with excess capacity, price above MC |
| Oligopoly | Few; homogeneous (pure) or differentiated; interdependence; barriers | Indeterminate in general; kinked demand (Sweezy) explains price rigidity; price leadership, cartels, Cournot, Bertrand, Stackelberg models | Non-price competition; game theory (prisoner's dilemma, Nash equilibrium) is the modern tool |
| Duopoly, monopsony, bilateral monopoly | Two sellers; one buyer; one buyer facing one seller | Cournot's duopoly gives each firm one-third of the competitive output; monopsony pays below the competitive wage | Bilateral monopoly price indeterminate — set by bargaining |
National income is the money value of all final goods and services produced by the normal residents of a country in a year. Its concepts are related by adjustments. Gross domestic product at market prices counts what is produced within the domestic territory; adding net factor income from abroad gives gross national product; subtracting depreciation (consumption of fixed capital) turns gross into net, so NNP at market prices is national income in its broadest official sense; subtracting net indirect taxes (indirect taxes less subsidies) converts market prices to factor cost, and NNP at factor cost is 'national income' in the textbook sense. Personal income is national income less corporate taxes, undistributed profits and social security contributions plus transfer payments; disposable income is personal income less personal taxes; per capita income divides by population. Nominal figures are at current prices, real figures at constant prices of the base year — 2011-12 in India's series — and the GDP deflator is nominal ÷ real × 100. The three methods of measurement — product or value-added (summing value added, or final output, by sector, avoiding double counting), income (rent, wages, interest, profit, plus mixed income of the self-employed) and expenditure (C + I + G + X − M) — must give the same total. In India the National Statistical Office (formerly CSO) compiles it; the Ministry of Statistics moved the headline measure from GDP at factor cost to GDP at market prices and gross value added at basic prices in the 2015 revision.
| Classification | Types | Point tested |
|---|---|---|
| By cause | Demand-pull (too much money chasing too few goods — Keynesian and monetarist versions); cost-push (wage-push, profit-push, supply shocks in oil or food); structural (bottlenecks in developing economies); built-in (expectations, wage-price spiral) | Friedman: 'inflation is always and everywhere a monetary phenomenon'; the Phillips curve trade-off with unemployment and its breakdown in stagflation |
| By speed | Creeping (up to about 3%), walking or trotting (3–10%), running or galloping (10–20% or more), hyperinflation (over 50% a month by Cagan's definition — Germany 1923, Zimbabwe 2008) | Creeping inflation is held mildly beneficial for growth |
| Related terms | Deflation (falling prices), disinflation (falling rate of inflation), reflation, stagflation (inflation with stagnation), core inflation (excluding food and fuel), headline inflation, suppressed and open inflation, skewflation | Inflation tax; inflationary gap (Keynes); the redistribution from creditors and fixed-income earners to debtors |
| Measurement in India | Wholesale Price Index (Office of the Economic Adviser, DPIIT; base 2011-12; 697 items; primary articles, fuel and power, manufactured products); Consumer Price Index Combined (NSO; base 2012; rural, urban and combined; food and beverages the largest weight at about 46%); CPI for industrial workers, agricultural labourers and rural labourers (Labour Bureau); GDP deflator | The RBI's Monetary Policy Committee (2016, six members) targets CPI-Combined inflation at 4% with a band of 2 to 6%; WPI has no services, CPI does |
3. Business ethics, CSR, ethical issues and dilemmas
Business ethics is the application of moral principles to business conduct — what is right and wrong in decisions about employees, customers, suppliers, competitors, society and the environment, beyond what the law compels. The normative theories that frame it are teleological or consequentialist (utilitarianism — Bentham and Mill's greatest good for the greatest number; egoism), deontological (Kant's categorical imperative — duty and universalisability, treating persons as ends), virtue ethics (Aristotle — character over rules), justice theories (Rawls's veil of ignorance and difference principle) and rights-based ethics. Stakeholder theory (Freeman, 1984) widens the firm's obligation from shareholders to every group affected, against Friedman's 1970 position that the social responsibility of business is to increase its profits within the rules. Ethical issues arise in every function — misleading advertising, price fixing, insider trading, discrimination, harassment, unsafe products, environmental dumping, bribery, data privacy — and an ethical dilemma is a choice between two courses each of which violates some moral obligation, so that no option is clean: whistle-blowing against loyalty, layoffs against survival, a bribe against the contract that keeps the plant open. Resolving one uses codes of ethics, ethics committees and officers, ethics training, hotlines, and tests such as the Blanchard-Peale three questions — is it legal, is it balanced, how will it make me feel — and Laura Nash's twelve questions.
| Item | Content |
|---|---|
| Carroll's pyramid (1991) | Four responsibilities from base to apex: economic (be profitable), legal (obey the law), ethical (do what is right), philanthropic (be a good corporate citizen) |
| Triple bottom line (Elkington, 1994) | People, planet, profit; sustainability reporting under GRI, integrated reporting, ESG, and in India the Business Responsibility and Sustainability Report mandatory for the top 1,000 listed companies from FY 2022-23 |
| Section 135, Companies Act 2013 | Applies to a company with net worth of 500 crore rupees or more, or turnover of 1,000 crore or more, or net profit of 5 crore or more in the preceding financial year; it must spend at least 2% of its average net profit of the three preceding years on CSR activities listed in Schedule VII, form a CSR committee of three or more directors including an independent director (two directors where none is required), and explain any unspent amount — which since 2021 must be transferred to a Schedule VII fund or, for ongoing projects, to an unspent CSR account; India was the first country to make CSR spending statutory |
| Schedule VII activities | Eradicating hunger and poverty, education, gender equality, environment, heritage, armed forces veterans, sports, PM's National Relief Fund and PM CARES, technology incubators, rural and slum development, disaster management |
| International frameworks | UN Global Compact (2000, ten principles), ISO 26000 (2010, guidance not certification), OECD Guidelines for Multinational Enterprises, UN Guiding Principles on Business and Human Rights (2011), the Sustainable Development Goals (2015); India's National Voluntary Guidelines 2011 became the National Guidelines on Responsible Business Conduct 2019 |
4. Corporate governance and the value-based organisation
Corporate governance is the system by which companies are directed and controlled — the Cadbury Report's definition — concerned with the relationships among the board, management, shareholders and other stakeholders, and with accountability, transparency, fairness and responsibility as its four pillars. Its theoretical root is the agency problem (Jensen and Meckling, 1976): ownership is separated from control, managers may pursue their own interests, and the mechanisms of governance — independent boards, audit committees, disclosure, executive pay tied to performance, the market for corporate control — exist to align them. Stewardship theory answers that managers are trustworthy stewards; stakeholder theory widens the circle; the Anglo-American outsider model relies on dispersed shareholders and markets, the German and Japanese insider model on banks, cross-holdings and two-tier boards, and India's promoter-dominated model on concentrated family ownership, which makes related-party transactions and minority protection its central issues.
| Committee or code | Year and body | What it added |
|---|---|---|
| Cadbury Report | 1992, United Kingdom | Code of best practice: separate chairman and CEO, non-executive directors, audit committee, 'comply or explain' |
| Greenbury, Hampel, Turnbull, Higgs, Smith | 1995–2003, UK | Directors' pay, the Combined Code, internal control, non-executive directors, audit committees |
| CII Desirable Corporate Governance code | 1998, Confederation of Indian Industry (Rahul Bajaj task force) | India's first voluntary code |
| Kumar Mangalam Birla Committee | 1999, SEBI | Clause 49 of the listing agreement (2000): board composition with independent directors, audit committee, disclosures — the first mandatory Indian code |
| Naresh Chandra Committee | 2002, Department of Company Affairs | Auditor independence and rotation, after Enron; the Sarbanes-Oxley Act of 2002 was the American response |
| Narayana Murthy Committee | 2003, SEBI | Revised Clause 49 (2004): audit committee powers, whistle-blower policy, CEO and CFO certification, risk management, code of conduct |
| J. J. Irani Committee | 2005, Ministry of Company Affairs | Blueprint for the new company law that became the Companies Act 2013 |
| Companies Act 2013 | Parliament, after the Satyam fraud of 2009 | Independent directors (one-third of a listed board, two five-year terms, Schedule IV code), woman director, board committees (audit, nomination and remuneration, stakeholders relationship, CSR), vigil mechanism (s. 177), class action (s. 245), auditor rotation (s. 139), NFRA (s. 132), SFIO, related-party rules (s. 188) |
| SEBI (LODR) Regulations | 2015, replacing Clause 49 | Listing obligations and disclosure requirements as regulations rather than a contract clause |
| Uday Kotak Committee | 2017, SEBI | Separation of chairperson and MD for large listed companies (later made voluntary), at least six directors, one independent woman director, minimum board meetings, disclosure of auditor credentials and fees, secretarial audit |
| OECD Principles | 1999, revised 2004, 2015 (G20/OECD) and 2023 | The international benchmark: shareholder rights, equitable treatment, stakeholders, disclosure, board responsibilities |
Key takeaways
- Indifference curves slope down, are convex because the marginal rate of substitution diminishes, never cross, and equilibrium is where the budget line is tangent so MRS equals the price ratio; Hicks and Allen replaced Marshall's cardinal utils with ordinal ranking.
- Price elasticity is 1 at the midpoint of a straight-line demand curve; income elasticity is negative for inferior goods; cross elasticity is positive for substitutes; total outlay rising as price falls means elastic demand.
- Perfect competition ends in P = MC = minimum AC; monopoly sets MC = MR with MR = AR(1 − 1/e); monopolistic competition has tangency with excess capacity; oligopoly's kinked demand explains rigid prices.
- GDP to GNP adds net factor income from abroad, gross to net subtracts depreciation, market price to factor cost subtracts net indirect taxes; India's base year is 2011-12; the MPC targets CPI-Combined at 4% within 2 to 6%, and WPI has no services.
- Section 135 makes CSR spending of 2% of average net profit mandatory above 500 crore net worth, 1,000 crore turnover or 5 crore net profit; Cadbury 1992, Birla 1999 (Clause 49), Murthy 2003, Kotak 2017 and LODR 2015 are the governance chain; a value-based organisation governs by lived core values, not rules alone.
Practice questions (9)
Attempt each one before opening the answer. Every explanation names the tempting wrong option as well as the right one, because that is where marks are lost.
An indifference curve is convex to the origin because:
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Answer: A — The marginal rate of substitution diminishes as more of one good is consumed
Diminishing MRS means a consumer gives up progressively less of Y for each extra unit of X, which bends the curve toward the origin. Perfect substitutes give a straight-line indifference curve; income is constant along one curve; ordinal analysis needs no cardinal measurement.If a fall in the price of a good leaves total expenditure on it unchanged, the price elasticity of demand is:
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Answer: A — Equal to one (unitary)
Marshall's total outlay method: expenditure rises with a price fall when demand is elastic, falls when inelastic, and is unchanged at unitary elasticity — the rectangular-hyperbola demand curve.Under monopolistic competition, long-run equilibrium of the firm is characterised by:
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Answer: A — Tangency of the demand curve to the average cost curve, normal profit and excess capacity
Free entry drives profit to normal, but the downward-sloping demand curve touches AC to the left of its minimum, so output is below the efficient scale — Chamberlin's excess capacity. P = MC at minimum AC is perfect competition, supernormal profit is monopoly, and the kink is oligopoly.Net National Product at factor cost is obtained from Gross National Product at market prices by subtracting:
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Answer: A — Depreciation and net indirect taxes
Gross to net removes depreciation; market prices to factor cost removes indirect taxes net of subsidies. Net factor income from abroad is the GDP-to-GNP step; transfer payments and personal taxes belong to personal and disposable income.The inflation measure the Reserve Bank's Monetary Policy Committee targets at 4 per cent within a band of 2 to 6 per cent is:
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Answer: A — Consumer Price Index (Combined)
The flexible inflation-targeting framework adopted in 2016 uses headline CPI-Combined compiled by the NSO. WPI, the older anchor, covers no services; CPI-IW is the Labour Bureau's index used for dearness allowance.Inflation caused by a rise in wages and raw-material prices that pushes up costs of production is called:
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Answer: A — Cost-push inflation
Cost-push comes from the supply side — wage-push, profit-push or supply shocks. Demand-pull comes from excess aggregate demand; creeping describes speed, not cause; disinflation is a falling rate of inflation.In Carroll's pyramid of corporate social responsibility, the base of the pyramid is:
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Answer: A — Economic responsibility
Carroll (1991) stacks economic at the base, then legal, then ethical, with philanthropic at the apex: a firm must be profitable before it can obey, behave well and give.Under section 135 of the Companies Act, 2013, a company meeting the thresholds must spend on CSR at least:
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Answer: A — 2% of the average net profit of the three immediately preceding financial years
The thresholds are net worth of 500 crore rupees, turnover of 1,000 crore or net profit of 5 crore in the preceding year; the obligation is 2% of the three-year average net profit, with unspent amounts transferred to a specified fund or an unspent CSR account since 2021.Clause 49 of the listing agreement, India's first mandatory corporate governance code, followed the recommendations of the:
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Answer: A — Kumar Mangalam Birla Committee (1999)
SEBI's Birla Committee produced Clause 49 in 2000; the Narayana Murthy Committee revised it in 2003–04, and SEBI's LODR Regulations replaced it in 2015. Cadbury is the British origin, Irani drafted the 2013 Act's blueprint, and Kotak's recommendations amended LODR.