THE ECONOMIC

ENVIRONMENT
 WHAT IS THE ECONOMIC
ENVIRONMENT?
 Refers
to all economic factors, which have a
bearing on the functioning of a business.

 Business depend on the economic environment

for all needed inputs and sell of finished goods.
Importance of Economic Environment:
 Better investment choices
 Better competitive strategies
 Forecasting of marketing trends
 Adjusting economic analysis and interpretation
 Help
managers predict events that might affect
company’s future performance.
 ELEMENTS IN ECONOMIC
ENVIRONMENT
 GROSS NATIONAL INCOME: income generated
by total domestic production and international
production activities of national companies.
 GROSS DOMESTIC PRODUCT: total value of all
final goods and services produced in a country
in a given year (total consumer, investment,
and government spending, plus value of
exports, minus the value of imports).
 ELEMENTS IN THE ECONOMIC
ENVIRONMENT
FOREIGN EXCHANGE
 Exchange rate tells how many units of currency
it takes to buy one US dollar.
 Estimating the value of a universal basket of
good and services that can be purchased with
one unit of a country’s currency.
 ELEMENTS IN THE ECONOMIC
ENVIRONMENT
INFLATION
 Rise in price measured against a standard level
of purchasing power
 It results when demand grows faster than
supply
 Itaffects cost of living, exchange rates, interest
rates
 ELEMENTS IN THE ECONOMIC
ENVIRONMENT
UNEMPLOYMENT
 Number of workers who want to work but do
not have jobs
 Results
in low economic growth, creates social
pressures and provokes political uncertainty
 Companies think twice before they hire new
employees.
 ELEMENTS IN THE ECONOMIC
ENVIRONMENT
DEBT
 Sum of borrowing from its’ population, foreign
organizations and government.
 Thelarger the debt, the more uncertain
country’s economy.
 Internal Debt- When government spends more
than it collects.
 External Debt- When government borrows
money from foreign lenders.
 ELEMENTS IN THE ECONOMIC
ENVIRONMENT
POVERTY
 Condition where person or community lacks
essentials for minimum standard of well being
and life.
 Throughout the world people struggle for basic
necessities.
 Growth of economy of business depends on
alleviating poverty.
 ANALYSING THE ECONOMIC
ENVIRONMENT

 Labour
 Capital
 Entrepreneurs
 Customers
 ANALYSING THE ECONOMIC
ENVIRONMENT - LABOUR
 Laborrepresents the human factor in producing
the goods and services of an economy.
 Businesses use
labor to produce goods and
services demanded by consumers.
 Changes in the demand for goods and services,
the size of the population and the minimum-wage
rate can each have an impact on the job market.
 ANALYSING THE ECONOMIC
ENVIRONMENT - CAPITAL
 Capital
refers to anything that can be used for
productive purposes by a firm.
 Financialcapital entails monetary funds and
investments which are necessary to get a business
off the ground.
 Human
capital refers to the skills and abilities a
company's employees bring to the operation.
 ANALYSING THE ECONOMIC
ENVIRONMENT - ENTREPRENUERS
 Entrepreneurs
create new businesses in response
to unmet needs and demands in the market.
 New businesses need to hire employees.
 Abilityto turn ideas into new products and
services that people need is the source of
prosperity for any developed country.
 The gains of entrepreneurship are only realized if
the business environment is receptive to
innovation.
 ANALYSING THE ECONOMIC
ENVIRONMENT - CUSTOMERS
 Ifthe economy is strong, consumers have more
purchasing power and money is pumped into the
thriving economy.
 Supply and demand affect consumer behavior
because if a product is too expensive, consumer
demand for that product will decrease.
 Interest rate fluctuations affect consumer
spending because when rates are high,
consumers are less inclined to borrow money from
the lending institutions.
Economic Business Cycles
SOCIETY’S ECONOMIC GOAL

Every Society has three economic goals:

Promote economic growth
Prevent unemployment
Limit inflation- price stability
STAGES OF ECONOMIC BUSINESS
CYCLE
PROSPERITY(EXPANSION)

CHARACTERISTICS
Unemployment is low
 Aggregate income is relatively high
Assuming a low inflation rate- this
combination causes buying power to
be high
 The economic outlook remains prosperous,
consumers generally are willing to buy
 Organisations respond by expanding their
product/services mixes to take advantage of the
increased buying power
 Capture a larger market share by intensifying
distribution and promotion efforts
RECESSION
CHARACTERISTICS
 Unemployment rises during recession
 Total buying power decline-many consumers become more price and
value conscious
 People ordinarily reduce their consumption of the more expensive
convenience foods and save their money (e.g. grow own food,
discount purchasing)
 Organisations would consider some revision to their marketing
activities
 Reducing the size of their product line
 Increasing promotional outlays to stimulate demand.
 Promotional efforts should emphasize value and utility.
DEPRESSION(TROUGH)
CHARACTERISTICS
 Extremely high unemployment
 Wages are very low, total disposable income is
at a minimum, and consumer spending is
lowest
 Consumers lack confidence in the economy.
 Governments use both monetary and fiscal
policies in an attempt to offset the effects of
recession, depression and inflation
Recovery
 The economy moves from recession to
prosperity  Recovery is a difficult stage for
 During this period: marketers. Because of the
 High unemployment rate begins to
difficulty to ascertain:
decline  How quickly prosperity will return
 Total disposable income increases  How quickly consumers will make
 Consumers ability to buy increases, the psychological transition from
but their willingness to buy is more recession to prosperity
cautious
 Organizations should maintain
 They may be more likely to save than
spend or buy on credit
a high flexibility in their
strategies in order to be able to
 As the recovery strengthens:
make the needed adjustments
 Consumers start spending more,
buying higher-priced goods and as the economy stabilises
services such as house cleaning and
lawn care
 FISCAL POLICY

Deliberate changes in government spending and tax in order to achieve high levels
of employment, control inflation and encourage economic growth.

❑ Role of Fiscal Policy

Fiscal policy provides government with a tool for managing the level of Aggregate
Demand through changes in taxation and government spending.

Certain types of government spending and tax policies can promote increases in
aggregate supply, and thereby contribute to long-run economic growth:
 Fiscal Policy Tools

• Infrastructure spending: When government supports a modern

infrastructure, including infrastructure for transportation and
communications, the private sector is given the resources it needs to grow
and succeed in the long-run

• Education spending: Human capital is perhaps the most important

resource a nation requires for long-run economic growth. Public,
government funded schools and programs to improve skills in the area of
labor can contribute to long-run growth.
 Fiscal Policy Tools cont

• Research and development: Government-funded research and

development can lead to scientific, technological, and medical
breakthroughs that may spur new industries and promote growth across
the private sector.

• Incentives for private investment: Creating a tax policy that rewards

innovation and entrepreneurship in an economy will encourage private
businesses to invest and thereby help the economy grow.
 MONETARY POLICY

Monetary policy is how central banks manage liquidity to create economic growth.
Liquidity is how much there is in the money supply.
That includes credit, cash, cheques, and money market funds.

❑ Role of Monetary Policy

The goals of monetary policy are to promote maximum employment, stable prices,
and moderate long term interest rates.

By implementing effective monetary policy, the government can maintain stable

prices and support conditions for long term economic growth.
 Monetary Policy Tools

• Reserve requirement: Portions of deposits that banks must maintain in their

vaults. Tells banks how much of their money they must have on reserve
each night.

• Open market operations: Primary tool used in influencing the supply of

banks. Buying and selling of Treasuries and other securities from its member
banks. This changes the reserve amount that banks have on hand without
changing the reserve requirement.

• Discount Rate: Interest rate charged by Government Reserve Banks to

repository institutions on short term loans. A raised discount rate makes it
more expensive for banks to borrow and must be the last resort for a
commercial bank.
 Monetary policies are employed to control the money supply which in turn
influences spending, saving and investment by both individuals and business
 Through fiscal policies, the government can influence the amount of savings
and expenditures by altering the tax structure and by changing the levels of
government expenditure
 ANALYSIS OF
ECONOMIC
ENVIRONMENT
 MARKET STRUCTURES

Definition of market:
A market is a social arrangement that allows buyers and
sellers to discover information and carry out a voluntary
exchange of goods or services.

The market structure (also known as market form) describes

the state of a market with respect to competition.
 TYPES OF MARKET STRUCTURES

Four types of market structures: Perfect

competition, Monopoly, Monopolistic
competition and Oligopoly.

The differences in the number, type and size of

firms in the market, as well as the nature of the
product itself is what affects the type of
competition and extent to which companies
can control price.
 PERFECT COMPETITION

Perfect competition is a state of affairs where suppliers and consumers essentially

have no control over prices.

This occurs because there are so many suppliers and consumers, and the market is
very competitive.

CONDITIONS FOR PERFECT COMPETITION

The following conditions should apply for perfect competition:

❑ HOMOGENEUOS PRODUCTS
The products in this market are identical in every way. The buyer is
indifferent to which supplier he buys the goods from as long as they conform to any
description adopted by and understood in the market. E.g. Agricultural Markets
 CONDITIONS FOR PERFECT COMPETITION Cont’d

✓ PERFECT INFORMATION AND COMMUNICATION

All consumers in the market must have the same information. Suppliers must have
access to the same information about production factors and the technical conditions of
production.
No producer is in a more favored situation than any other.

✓ PRICE IS ESTABLISHED BY MARKET FORCES

No producer or buyer is able to influence the price by his or her own actions, nor by the
actions agreed with other producers or buyers.
✓ EASY ACCESS TO ENTRY AND EXIT
New firms can enter the market freely. This implies that economies of scale do not exist.
Existing firms can just easily stop production and exit the market.
 DISADVANTAGES OF PERFECT COMPETITION

✓ It prevents producers from making the profit necessary to provide

funds for investment and research to find better ways of producing goods.

✓ Competition can be wasteful, as the resources of each competitor are

focused on same things.

✓ Firms dislike perfect competition because there is no price stability since

prices follow changes in demand and supply.
 MONOPOLY

Monopoly is the opposite extreme of perfect competition.

It exists when there is only one supplier or producer for a particular product and
there are no close substitutes for that product.

The firm has complete control over prices.

Many state owned organizations are monopolies e.g. ZAMTEL

The amount of power a monopoly has depends on the number of close substitutes
that are available.
 SOURCES OF MONOPOLY

A Monopoly can arise in three ways;

❑ LAW
Some countries can grant a company the right to be sole supplier of a product or
service (i.e. Telephones or communication) in return for some measure of state
inspection and control.

❑ POSSESSION OF A UNIQUE FEATURE

Individuals have monopoly control over the supply of their own skills and this may
be a source of considerable profit.

❑ MARKET CONTROL
A monopolist’s output is the total market supply and the demand for its product is
the total market demand.
 Is Monopoly Good?

Arguments in favor of monopoly are based on the economies of scale in production that
very large firms may experience.

✓ The monopolist’s size and ability to produce for the whole market enables it to achieve
economies of scale.

✓ The monopolist employs professional managers who make more efficient use of
available resources.

✓ Monopolies can grow a market which did not exist previously i.e. the success of
Microsoft in standardizing the PC market which allowed for its phenomenal growth from
the 1980s.
✓ The monopolist does not always maximize profits, but is content with just a
satisfactory level of profit.
 Supernormal Profit

❑ In perfect competition, firms are restricted in the amount of profit

that they can make.
❑ In a monopoly there is no competition, allowing the monopolist to
set the price and make substantial profits.
❑ It may then use those profits for R & D and investment or it may
simply take the profits for benefit of the owners.
❑ A monopoly may not have the incentive to be super efficient as is
the case with firms in perfect competition who must survive.
❑ The monopoly has no competition in the market place, but it can still
make substantial profit without operating at high efficiency.
 The case against monopolies
We can summarize the disadvantages of monopoly as follows:

✓ Higher prices than in competitive markets due to excess profit

✓ The cost savings due to economies of scale are outweighed by cost increases due to
inefficiency

✓ Wasteful expenditure on R & D and low productivity of R & D expenditure due to

inefficiency

✓ No incentive to innovate because of high monopoly profit and absence of competition

from other firms.

✓ Lack of customer focus –limited choice and poor product quality due to lack of
customer focus.
 MONOPOLISTIC COMPETITION

Monopolistic competition has many of the same characteristics as perfect

competition:

unrestricted entry to and exit from the market

good (but not perfect) communication and transport conditions

motivation by economic considerations only

perception by buyers that the products of the various firms are good substitutes
for each other.
 Characteristics Cont’d
❑ Although the products are considered to be good substitutes, they are not the
same (i.e. homogeneous).

❑ Buyers do express preference for one seller's product as opposed to another's.

❑ It is, therefore, the buyer’s perception of the substitutes that differentiates

monopolistic competition from perfect competition.

❑ Although the product may be effectively the same, it is the branding which alters
the buyer’s perception of the substitute as being equivalent.

❑ Sellers use marketing to increase this preference and grow brand loyalty.

❑ This enables them to increase the price.

 Arguments Against Monopolistic Competition

The negative perception of monopolistic competition is that it is not really in the

best interests of either consumers or business firms:

❑ Price is higher and output lower than in perfect competition

❑ The firm is not efficient (wastes a lot of resources)

❑ Profits are confined to the normal minimum to keep firms in the market
❑ Firms cannot achieve the profits needed for investment and research or the high
output levels necessary for economies of scale.
 OLIGOPOLY

❑ Oligopoly is the market structure where supply is controlled by a few firms that are
large in relation to the market size.

❑ As a result of their being so few firms they will observe the actions taken by each
other very closely and react accordingly to protect their market share.

❑ Oligopolistic firms are therefore interdependent.

❑ Very often the firms are also large, by any standards.

❑ Oligopoly is common in the advanced industrial countries but there is no single model
which can be held to apply under all circumstances.
Oligopoly and Anti-Competitive Behavior

Oligopolistic firms compete with each other for the same customers in trying to
increase their market share–through marketing or product development, after sales
service and so on.

However, at the same time, they will try to keep the price high and/or hinder entry to
their market by new firms.

One means of doing this is by colluding with each other –in effect acting as if they
are (together) a monopoly.

This type of action is most commonly called price fixing and is illegal in many
countries.
 Collusion and Cartels

❑ Oligopolistic firms that collude in formal price fixing

arrangements are said to be part of a cartel.

❑ The oil industry is a very good example of this where OPEC

(the Organization of Petroleum Exporting Countries) is the most
powerful cartel in modern history.

❑ Members of a cartel meet at regular intervals to decide on the

price that they will sell their product in the particular market.
 Collusion and Cartels cont…

❑ This can be done to regulate supply for the purposes of ironing

out fluctuations in price caused by changes in demand and supply.

❑ It may also be seen as a mechanism to conserve the supply of a

scarce product.
❑ However, given this position, a cartel can also operate to
charge higher prices than would be possible under competitive
conditions.
 Conditions Favoring Collusions and Cartels
Collusion between firms in a cartel is more likely when:

✓ There are only a few firms who know each other well

✓ Firms are willing to share reliable information on general

and production costs

✓ They produce similar products using closely related

processes
 Conditions Favoring Collusions and Cartels cont...
Collusion between firms in a cartel is more likely when:

✓ There is a dominant firm in the market

✓ Barriers to entry are high

✓ The market is stable with no huge fluctuations in demand

or production costs

✓ No government measures exist to prevent collusion.

END