Marginalism and Incrementalism

Marginalism and Incrementalism

Marginalism and Incrementalism

  • In economic theory any firm makes a decision to produce by equating marginal revenues with marginal costs. (MR=MC).
  • Marginal Revenue – is the change in Total revenue resulting from an one–unit change

    in the volume of output produce (firm decides to produce n+1).

  • Marginal Cost-It refers to the cost of produ-cing additional unit of output.
  • Marginal Product – it is the addition made to total produce as a result of employing an additional factor of production. (Labour)
  • In making economic decision, management is interested in knowing the impact of a chunk-change rather than a unit change .
  • Marginal concepts are always defined in terms of unit changes, but incremental concepts are defined in terms of chunk changes .
  • Incremental principle concept refers to :
  • Incremental Revenue – Change in total revenue caused by a decision.

IR =     TR        (IR = Incremental Revenue)

            Q          (TR = Total Revenue)

                          (Q= Total Output)

IR =     TR

             I            (I = Total Investment)

 

  • Incremental Cost – Change in total cost.
  • IC = TC      (IC = Incremental Cost)
  • Q (TC = Total Cost)

                            (Q = Total Output)

  • Managerial Rule of Thumb-

        

q       IR >IC

Example

  • An automobile firm adopts a new factory plant to increase its output. This may involve a rise in its total cost by 20% against increase in output by 10%.
  • IC = 20%     =   2%

              10%

q On other hand, firm expects rise in total sale  revenue by 30% because of increase in 10% output.

qIR =  30%      =   3%        ( IR= 3% > IC = 2%)

            10%

     

A decision is obviously a profitable one if

(i) It increases revenue more than costs.

(ii) Reduces costs more than revenue

Incremental revenue and incremental cost are

two basic concepts for making optimum

economic decisions. A decision is optimum if it

 reduces cost more than revenue i.e. if the net

incremental revenue is positive.

Equi-Marginalism

  • Since resources are limited a very fundamental questions arises : How to decide on an optim-um allocation of resources. When we use resources, we get returns in either physical volume or its money value.
  • If there is only one resource, then we may go on utilizing it till its Marginal return is zero i.e. Do not go beyond zero marginal return , if a resource has only one use. This is known as ” absolute activity level principle”. 

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