�������������Unit-2 �Macro Economics, Business Ownership and Management Concepts �

National Income and its measurement techniques. Inflation - Causes of Inflation – Controlling Inflation – Business Cycle. Forms of business – Ownership types. Management concepts: Taylor and Fayol‟s Principles – Functions of Management - Managerial Skills - Levels of Management - Roles of manager.

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National Income and its measurement techniques

• National income is defined as the value of goods and services produced by a country during a financial year.

Measuring Methods

• Gross Domestic Product (GDP)
• Gross National Product (GNP)
• Net Domestic Product (NDP)
• Net National Product (NNP)

Gross Domestic Product (GDP)

• Gross domestic product (GDP) is the total monetary or market value of all the finished goods and services produced within a country’s borders in a specific time period

GDP = C + G + I + (X-M)

C = consumption; G = government spending; I = investment;

X-M = net exports

• GDP at market price: includes the final value of goods and services also includes indirect taxes and excludes the subsidies given by the government.
• GDP at factor cost is the money value of final goods and services based on the cost involved in the process of production.
• GDP at factor cost = GDP at Market Prices–Indirect Taxes+ Subsidies

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Gross National Product

• Gross National Product (GNP): GNP is the aggregate final output of citizens and businesses of an economy in a year.
• GNP may be defined as the sum of Gross Domestic Product and Net Factor Income from Abroad (NFIA).

GNP = GDP + NFIA

GNP = C+I+G+(X-M)+NFIA

• Net Factor Income from Abroad: difference between income received from abroad for rendering factor services and income paid towards services rendered by foreign nationals in the domestic territory of a country.

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Net Domestic Product and �Net National Product

• Net Domestic Product

= GDP-Depreciation

• Net National Product (NNP)

= GDP–Depreciation +NFIA

Or =GNP–Depreciation

• Thus NNP is the actual addition to a year’s wealth and is the sum of consumption expenditure, government expenditure, net foreign expenditure, and investment, less depreciation, plus net income earned from abroad.

= C+I+G+(X–M)–Depreciation + NFIA

• NNP at Factor Cost is the sum total of income earned by all the people of the nation, within the national boundaries or abroad
• It is also called National Income.
• NNP at Factor Cost = NNP at Market Prices –Indirect Taxes+ Subsidies

Real and Nominal National Income

• National income estimated at the prevailing prices, is called national income at current prices or Nominal National Income, or Money National Income or national income at current prices.
• National income measured on the basis of some fixed price, say price prevailing at a particular point of time, or by taking a base year, is known as national income at constant prices, or Real National Income or national income at constant prices.

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• GDP deflator is the ratio of nominal GDP in a year to real GDP of that year
• GDP deflator measures the change in prices between the base year and the current year.

Per Capital Income and Personal Income

• Per capita income is the average income of the people of a country in a particular year.

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• Personal income is the total income received by the individuals of a country from all sources before direct taxes in one year.

Personal income = National income – undistributed corporate profits-corporate taxes-social security contributions + Transfer payments +interest on public debt

• Personal Disposable Income(PDI) is the income which can be spent on consumption by individuals and families.

Personal Disposable Income = Personal Income – Personal Taxes

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Methods of measuring national income

• At equilibrium,

Output =Income =expenditure

• There are 3 approaches to the measurement of GDP:
• Product (or Output) Method: National Income by Industry of Origin
• Final Product Method
• Value Added Method
• Income Method or National Income by Distributive Shares
• Expenditure Method

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Product (or Output) Method

• The market value of all the goods and services produced in the country by all the firms across all industries are added up together.
• Process
• The economy is divided on basis of industries, such as agriculture, fishing, mining and quarrying, large scale manufacturing, small scale manufacturing, electricity, gas, etc.
• The physical units of output are interpreted in money terms
• The total values added up. (GDP at market price)
• The indirect taxes are subtracted and the subsidies are added. (GDP at factor cost)
• Net value is calculated by subtracting depreciation from the total value (NDP at factor cost).

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Limitations of Product Method

• Problem of Double Counting:
• unclear distinction between a final and an intermediate product.
• Not Applicable to Tertiary/service Sector:
• This method is useful only when output can be measured in physical terms
• Exclusion of Non Marketed Products
• E.g. outcome of hobby or self consumption
• Self Consumption of Output
• Producer may consume a part of his production.

Income Method

• The net income received by all citizens of a country in a particular year, i.e. total of net rents, net wages, net interest and net profits. (GDP at factor cost).
• It is the income earned by the factors of production of a country.
• Add the money sent by the citizens of the nation from abroad and deduct the payments made to foreign nationals (individuals and firms) (GNP at factor cost) or Gross National Income (GNI).

Process:

• Economy is divided on basis of income groups, such as wage/salary earners, rent earners, profit earners etc.
• Income of all the groups is added, including income from abroad and undistributed profits.
• The income earned by foreigners and transfer payments made in the year are subtracted.

GNI = Rent + Wage + Interest +Profit + Net Income from Abroad- Transfer payments

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Limitations of Income Method

• Exclusion of non monetary income: Ignores the non-monetized section of economic activities.
• Economic activities that contribute to national income, but due to their non monetary nature, they go unrecorded. For e.g. a farmer and family working in their own field.
• Exclusion of Non Marketed Services: People undertake a particular activity that are difficult to ascertain in money value. E.g. mother’s services to the family.

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Expenditure Method of Measuring National Income

• The total expenditure incurred by the society in a particular year is added together to get that year’s national income.
• Components of Expenditure:
• personal consumption expenditure
• net domestic investment
• government expenditure on goods and services, and
• net foreign investment

Limitations

• Ignores Barter System
• Ignores Own Consumption
• Affected by Inflation

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Uses of National Income Data

• National income is the most dependable indicator of a country’s economic health.
• Difference between GDP and GNP indicates the contribution of net income earned abroad
• Necessary for Economic planning: useful aid in judging which sectors should be given more emphasis
• A measure of economic welfare.
• higher aggregate production implies more and more goods and services being available to people
• Helps in determining the regional disparities, income inequality and level of poverty in a country.
• Helps in comparing the situations of economic growth in two different countries.

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Difficulties in Measurement of National Income

• Non monetized transactions: Exchange of goods and services which have no monetary payments, like services rendered out of love, courtesy or kindness are difficult to include in the computation of national income.
• Unorganized sector: Contribution of unorganized sector are unrecorded. It is very difficult to identify income of those who do not pay income tax.
• Multiple sources of earnings: Part time activity goes unrecognized and such income is not included in national income.
• Categorization of goods and services: In many cases categorization of goods and services as intermediate and final product is not very clear.
• Inadequate data: Lack of adequate and reliable data is a major hurdle to the measurement of national income of underdeveloped countries.

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Money supply aggregates in India

RBI calculates various concepts of money supply which are known as money supply aggregates or measures of monetary aggregates.

M1: Currency with public, i.e. coins and notes + demand deposits of public with banks. (very liquid assets)

• It is also known as Narrow Money

M2: M1 + Post office savings deposits

M3: M2 + Term deposits of the public with banks+ “Other” deposits with RBI

• It is also known as Broad Money.

M4: M3 + All other deposits with Post office

M0: Currency in circulation+ Bankers’ deposits with RBI+ “Other” deposits with RBI.

• It is also called Reserve Money.

Now RBI calculates only three of the above measures, i.e. M0, M1, and M3.

Inflation

• Coulborn: it is a state of “too much money chasing too few goods”.
• Two broad categories:
• price inflation (generally called as inflation)
• money inflation
• Both have cause and effect relationship, i.e. money inflation leads to price inflation.
• Money inflation is increase in the amount of currency in circulation. Which may be due to:
• Deficit financing : direct cause is printing of additional currency on demand of the government to meet its needs.
• Additional money supply through foreign exchange inflows in the form of capital, such as foreign direct investment(FDI) and foreign institutional investment(FII), tourism and other incomes from abroad.
• Price inflation is a persistent increase in the general price level or a persistent decline in the real income of people, i.e. decline in value of money.

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Concepts of Inflation

• Headline Inflation: measure of the total inflation within an economy
• affected by the areas of the market which may experience sudden inflationary spikes such as food or energy.
• Hyperinflation: prices increase at such a speed that the value of money erodes drastically
• This is also known as galloping inflation or runaway inflation.
• Stagflation: a typical situation when stagnation and inflation coexist.
• Suppressed inflation: temporarily keep prices under check - Diesel & petrol
• Disinflation: a process of keeping a check on price rise by deliberate attempts.
• Deflation: a state when prices fall persistently; just opposite to inflation
• Inflationary Gap (Keynes): Excess of anticipated expenditure over available output at base price.
• Represents rise in price due to gap between effective supply and demand
• When money income exceeds the supply of goods and services, a gap is created between demand and supply resulting in inflation.

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Inflation and Decision Making

• Impact on Consumers
• increase in any price upsets the home budget.
• Impact on Producers (or Suppliers)
• Producers as sellers are benefited by inflation;
• higher the prices, higher are their profits.
• when as buyers of raw material, they are adversely affected by inflation.
• Impact on Government:
• Government has to take the economy to higher levels of growth by encouraging production and investment.
• At the other end, has to see that taxpayers’ money is not eroded by hyperinflation.
• Thus government has to act as the balancing force between consumers and sellers.

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Measuring Inflation

• A price index is a numerical measure designed to compare how the prices of some class of goods and/or services, taken as a whole, differ between time periods or geographical locations. (prices of the base year are assumed to be equal to 100.)

Price Index =

• The most common term used to denote inflation is inflation rate, which is annual rate of increase of prices.

Inflation Rate

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Measuring Inflation

• Producer Price Index (PPI): measures average changes in prices received by domestic producers for their output.
• Wholesale Price Index (WPI): measures wholesale prices of a wide variety of goods (including consumer and capital goods).
• USA has replaced WPI with PPI
• Consumer Price Index (CPI): measures the price of a selection of goods purchased by a typical consumer.
• CPI differs from PPI in that price subsidy, profits, and taxes may cause the amount received by the producer to differ from what the consumer paid.
• Cost of Living Indices (COLI): used to adjust fixed incomes and contractual incomes to maintain the real value of such incomes.
• wage indexation is based on such indices.
• Service Price Index (SPI): With the growing importance of service sector across the world, many countries have started developing services price indices (SPI).

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�������Inflation and Employment�

• A. W. H. Philips studied the relationship between unemployment and rate of changes in money wages in UK, taking statistics for a period from 1862 to 1957.
• Philips postulated that the lower the rate of unemployment, the higher is the rate of change of wages.
• labours accept jobs at lower pay if they are unemployed and firms are more willing to hire due to low wages.
• But this effect dissipates as inflation becomes more expected with workers demanding higher wages and firms being less willing to hire.
• the objectives of low unemployment and low rate of inflation may be inconsistent.
• Hence the government must choose between the feasible combinations of unemployment and inflation

Philips’ Curve

• Demand pull inflation refers to the effects of falling unemployment rates (rising real national income) in the curve.
• Cost push inflation and built in inflation will lead to shifts in the Phillips curve.

Control of Inflation

• Inflation erodes the value of money and discourages savings
• But zero inflation is undesirable
• Need to control inflation
• monetary policy measures (proposed by those who believed money supply is the major culprit)
• fiscal policy measures (proposed by Keynes and his followers).
• Other measures
• The government has to adopt an appropriate combination of these measures after thorough examination of the causes of inflation

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Monetary Policy Measures

• Increasing the discount rate: The central bank rediscounts the eligible papers offered by commercial banks. This is also called bank rate.
• Higher reserve ratios:
• Cash Reserve Ratio (CRR)
• Statutory Liquidity Ratio (SLR)
• Open market operations: directly sell government securities to public and restrain their disposable income
• Selective credit control: discourages consumption but not investment

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Fiscal Policy Measures

The government may reduce public expenditure or increase public revenue to keep a check on inflation

• Reducing public expenditure
• When government spends on activities like health, transport, communication, etc., income of individuals increases; this in turn increases the aggregate demand.
• Therefore the reverse will also be true.
• Increasing public revenue
• Major source of government revenue is various types of taxes
• Increase in income tax leaves less of disposable income in the hands of consumers

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Nature of Business

• A business tries to earn a profit by providing products that satisfy people’s need.

What is a product?

Goods or service with tangible and intangible characteristics that provide satisfaction and benefits. Sometimes product can also be an idea.

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Tangible Goods

Automobile

Computer

Loaf of bread

Television

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Services

Dry cleaning

Photo processing

Checkup at doctor’s

Movie star performance

GOAL OF BUSINESS

• Profit organizations: Earn a Profit - The reward for the risks that businesses take in providing products.
• Non-Profit Organizations- provide goods and services but do not have the fundamental purpose of earning profits.

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Business Cycle

• Business cycle is a periodic up and down in economic activities

Forms of Ownership/Business

• Businesses may be organized in various forms, depending on their size, nature and need for resources.
• Ownership is always measured from the point of view of investors (entrepreneurs). Ownership is in the hands of individuals, whether independently, or as a small group, or in a large number, with/without any investment from the government
• Three broad categories of business organizations are:
• Private sector (wholly owned by people, individually, or as a group),
• Public sector (owned, managed and controlled by government) and
• Joint sector (owned and managed jointly by individuals and government)

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Definition of Company

• In terms of the Companies Act, 2013 (Act No. 18 of 2013) a “company” means a company incorporated under this Act or under any previous company law [Section 2(20)].
• In common law, a company is a “legal person” or “legal entity” separate from, and capable of surviving beyond the lives of its members. However, an association formed not for profit also acquires a corporate character and falls within the meaning of a company by reason of a license issued under Section 8(1) of the Act.

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Different business structures in India

• Sole Proprietorship
• Partnership Firm
• Limited Liability Partnership
• Private Limited Company
• Public Limited Company
• Public sector- company, corporations, departments
• Cooperatives
• Franchise

How should one choose the appropriate form of business ?

• Nature of business
• Volume of business
• Area of operation
• Finance
• Ownership and control
• Liability
• Independence

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Sole Proprietorship

• Sole Proprietorship: An individual invests own (or borrowed) capital, uses own skills in management, and is solely responsible for the results of operations.
• A business owned, and usually managed, by one person.

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key features

• The proprietor and the business enterprise are one and the same in the eyes of the law.
• The liability of proprietor is unlimited.
• There are less legal formalities.

Suitable for:

• where the market is limited, localized and where customers give importance to personal attention
• the nature of business is simple and requires quick decisions
• the capital required is limited and the risk- involvement is not great
• the production of goods which involve manual skill e.g. handicrafts, filigree works, jewelry-making, tailoring, haircutting

SOLE PROPRIETORSHIPS….

Benefits:

• Ease of starting and ending the business
• Being your own boss
• Pride of ownership
• Leaving a legacy
• Retention of company profit
• No special taxes
• Secrets of trade

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DISADVANTAGES:

• Unlimited Liability - Any debts or damages incurred by the business are your debts, even if it means selling your home, car or anything else.
• Limited financial resources
• Management difficulties
• Overwhelming time commitment
• Few fringe benefits
• Limited growth
• Limited life span

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Partnership

• Partnership: Two or more individuals (individually partners and collectively a firm) decide to start a common business
• Two or more people legally agree to become co-owners of a business.
• May be for a certain specified period or for an uncertain period and a specific purpose, or for any purpose
• An heir of a partner does not automatically become a partner, unless other members agree to induct the heir(s) as partners.
• Partnership deed: Partnership is created as an agreement. It is not necessary to prepare this agreement in writing, though it is strongly desired that the agreement is prepared in writing, in order to avoid any dispute arising in future.

Partnership firms-Key features

• Minimum partners : two persons
• Maximum partners : 10- in the case of a banking business and 20 in any other case.
• The relation between the partners of a partnership firm is created by contract which may be verbal, written or implied and it is known as the “Partnership Deed”.
• The partners can share profits in any ratio as agreed.
• The partners have unlimited liability.
• The business in a partnership firm may be carried on by all the partners or any of them acting for all. There is a Principal – Agent relationship between all the partners. There should be mutual trust and faith.
• The law does not recognize the firm as a separate entity distinct from the partners
• The registration of a partnership is not compulsory.

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Points are generally covered in the partnership deed

(i) The nature of business.

(ii) Name of the firm and the place where its business will be carried on.

(iii) Amount of capital to be contributed by each partner.

(iv) Duties, powers and obligations of all the partners.

(v) Method of preparing accounts and arrangement for audit.

(vi) Whether loans will be accepted from a partner over and above the capital also, if so, at what rate of interest.

(vii) The amount to be allowed as private drawings by each partner and the interest to be charged thereon.

(viii) The ratio in which profits are to be shared.

(ix) Whether a partner can be expelled and, if so, the procedure for the same.

(x). Method for the settlement of disputes.

(xi) Circumstances under which the partnership will stand dissolved, and in case of dissolution, under whose custody the books of accounts will remain.

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TYPES OF PARTNERS

• General Partner - An owner (partner) who has unlimited liability and is active in managing the firm.
• Limited Partner - An owner who invests money in the business, but enjoys limited liability.

Limited Liability means that liability for the debts of the business is limited to the amount the limited partner puts into the company; personal assets are not at risk.

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• General Partnership - All owners share in operating the business and in assuming liability for the business’s debts.
• Limited Partnership - one or more general partners and one or more limited partners.
• Master limited partnership (MLP) – Looks like a corporation but taxed like a partnership and thus avoids the corporate income tax

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MAJOR TYPES of PARTNERSHIPS

Types of partners

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DISADVANTAGES of PARTNERSHIPS

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ADVANTAGES of PARTNERSHIPS

• More financial resources
• Shared management and pooled/complementary skills and knowledge
• Longer survival
• No special taxes

• Unlimited liability
• Division of profits
• Disagreements among partners
• Difficult to terminate

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Joint stock Company

• Company: The owners’ capital invested in the form of shares; hence the owners are regarded as shareholders
• Legal person with right to own/sell/buy/bestow/inherit property
• Perpetual existence
• Limited liability

Private Limited Company

• Number of shareholders limited to 200
• Shares of the company transferable only among members
• Free from the necessity of submitting certain returns to the Registrar
• It can neither issue a prospectus, nor can it raise capital by selling its shares to outside public other than members
• Must have a minimum paid up capital of Rs. 1 lakh or such a higher amount which may be prescribed from time to time.

Eg: Sakthi Auto Ancillary Pvt Ltd & Roots Auto Products Pvt Ltd

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Public Limited Company

• Minimum number of members seven
• No limit on maximum number
• Has to submit certain statements and balance sheet to the Registrar annually
• Can invite the public to buy shares by issuing a prospectus
• Must have a minimum paid up capital of Rs 5 lakh or such a higher amount as may be prescribed from time to time.
• It requires more public disclosures and compliance from the government as well as market regular SEBI (Securities and Exchange Board of India) including appointment of independent directors on the board, public disclosure of books of accounts, cap of salaries of Directors and CEO.

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200

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MERGERS and ACQUISITIONS

• Merger -- The result of two firms joining to form one company.

• Acquisition -- One company’s purchase of the property and obligations of another company.

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Airtel & Nokia / / / Hutch & Vodafone/ / / kingfisher & Deccan Airlines

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Tata Group Acquired Corus, UK /// Bharti Airtel acquired Zain Africa, Kenya///  Hindalco Industires acquired Novelis, Canada /// Tata Motors acquired Jaguar Cars and Land Rover, March 2008

Deal size: $2.3 billion, Country: United Kingdom

TYPES of MERGERS

• Vertical Merger -- Joins two firms in different stages of related businesses. Eg. Reliance and FLAG Telecom group
• Horizontal Merger -- Joins two firms in the same industry and allows them to diversify or expand their products. Eg. * Lipton India & Brooke bond * Bank of Mathura with ICICI Bank
• Conglomerate Merger -- Unites firms in completely unrelated industries in order to diversify business operations and investments. Eg - L&T and Voltas Ltd.

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FRANCHISING

• Franchise Agreement - An arrangement whereby someone with a good idea for a business (franchisor) sells the rights to use the business name and sell a product or service (franchise) to others (franchisees) in a given territory.
• More than 825,000 franchised businesses operate in the U.S., employing approximately 17.5 million people.

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FRANCHISING

Advantages of Franchises

ADVANTAGES

• Management and marketing assistance
• Personal ownership
• Nationally recognized name
• Financial advice and assistance
• Lower failure rate

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DISADVANTAGES

• Large start-up costs
• Shared profit
• Management regulation
• Coattail effects
• Restrictions on selling
• Fraudulent franchisors

COOPERATIVES

Cooperatives

• A nonprofit, nonpolitical, nonreligious, voluntary organization based on mutual help and self reliance
• Businesses owned and controlled by the people who use them– producers, consumers, or workers with similar needs who pool their resources for mutual gain.
• Members democratically control the business by electing a board of directors that hires professional management.
• Types:
• Producers’ cooperative (IFFCO)
• Consumer’s cooperative (Multipurpose stores, credit societies and housing societies)

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• Minimum membership: 10 ; Maximum number is unlimited
• The registration of a society under the Co-operative Societies Act is mandatory. Once it is registered, it becomes a body corporate and enjoys certain privileges just like a joint stock company
• The primary objective of any co-operative organization is to render services to its members, in particular, and to society in general
• Every member has a right to take part in the management of the society. Each member has one vote. Generally the members elect a committee known as the Executive Committee to look after the day to day administration and the said committee is responsible to the general body of members

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• A co-operative organization starts with a fund contributed by its members in the form of units called shares. It can also easily raise loans and secure grants from the government.
• The return on capital subscribed by the members is in the form of a fixed rate of dividend after necessary deductions from the profits.

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Public sector Undertakings (PSUs)

• 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.
• In a PSU majority (51% or more) of the paid up share capital is held:
• by central government or
• by any state government or
• partly by the central governments and partly by one or more state governments.

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Functions of Management

Where Planning Starts

• Objectives
• The ends or results desired by the organization and are derived from the organization’s mission
• Mission
• The statement of an organization’s fundamental purpose and basic philosophy

• Strategic plans
• Establish long-range objectives and overall strategy (2-10 Years)
• Tactical plans
• Designed to implement strategic objectives (usually one year or less)
• Operational plans
• Specify actions to achieve tactical plans (very short-term)

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Types of Plans

Organizing

• Identification and classification of required activities
• Grouping of activities in light of resources and situations
• Delegation of authority
• Horizontal and vertical coordination of authority and information relationships

• Helps create synergy
• Establishes lines of authority
• Improves communication
• Helps avoid duplication of resources
• Can improve competitiveness by speeding up decision making

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Staffing

• Defined as filling, and keeping filled, positions in the organization structure.
• Managers must ensure that the organization has enough employees with appropriate skills to do the work.
• Managers must also determine:
• What skills are needed for specific jobs
• How to motivate and train employees to do their assigned jobs
• How much to pay employees
• What benefits to provide
• How to prepare employees for higher-level jobs in the firm at a later date
• Down sizing: the elimination of a significant number of employees from an organization

Directing

• Motivating and leading employees to achieve organizational objectives
• Telling employees what to do and when to do it through implementation of deadlines, and encouraging them to do their work.
• Recognition and appreciation are often the best motivators for employees.

Controlling

• Control involves five activities:
• Measuring performance
• Comparing present performance with standards or objectives
• Identifying deviations from the standards
• Investigating the causes of deviations, and taking corrective action when necessary
• Correcting activities to keep the organization on course

How owners affect management

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Levels of Management

Importance of Management Functions to Managers in Each Level

Areas of Management

• Financial management
• Production and operations management
• Human resources management
• Marketing management
• IT Management
• Administrative management

Skills Needed by Managers

• Leadership skills
• Technical expertise
• Conceptual skills
• Analytical skills
• Human relations skills

Styles of Leadership

• Democratic
• Autocratic
• Free-rein

Seven Tips for�Successful Leadership

• Build effective and responsive interpersonal relationships.
• Communicate effectively—in person, print, e-mail, etc.
• Build the team and enable employees to collaborate effectively.
• Understand the financial aspects of the business.
• Know how to create an environment in which people experience positive morale and recognition.
• Lead by example.
• Help people grow and develop.

Where Do Managers Come From?

• Good managers are made, not born:
• Promoting employees from within
• Hiring managers from other organizations
• Hiring managers graduating from colleges and universities

Steps in the Decision Making Process

The Reality of Management

• There are only two basic activities of management
• Figuring out what to do despite uncertainty, great diversity, and an enormous amount of potentially relevant information
• Getting things done through a large and diverse set of people despite having little direct control over most of them

Taylor and Fayol‟s Principles

• Division of Work
• Authority and Responsibility
• Discipline
• Unity of Command
• Unity of Direction
• Subordination of Individual Interest
• Remuneration

• The Degree of Centralization
• Scalar Chain
• Order
• Equity
• Stability of Tenure of Personnel
• Initiative
• Esprit de Corps