Question

Describe the close relationship between finance and economics and explain why the finance manager should possess a basic knowledge of economics . What is the primary economic principle used in managerial finance ? (250-300 words)

No handwriting, please

Answer 1

Economics is a social science that studies the broader management of goods and services, including their production and consumption, and also the factors affecting them whereas Finance is the science of managing available funds.

Finance to Economics relationship : There are two important linkages between economics and finance. The macroeconomic environment defines the setting within which a firm operates and the micro-economic theory provides the conceptual under pinning for the tools of financial decision making.

Key macro-economic factors like the growth rate of the economy, the domestic savings rate, the role of the government in economic affairs, the tax environment, the nature of external economic relationships the availability of funds to the corporate sector, the rate of inflation, the real rate of interests, and the terms on which the firm can raise finances define the environment in which the firm operates. No finance manager can afford to ignore the key developments in the macro economic sphere and the impact of the same on the firm.

While an understanding of the macro economic developments sensitizes the finance manager to the opportunities and threats in the environment, a firm grounding in micro economic principles sharpens his analysis of decision alternatives. Finance, in essence, is applied micro economics. For example the principle of marginal analysis – a key principle of micro economics according to with a decision should be guided by a comparison of incremental benefits and cost is applicable to a number of managerial decisions in finance.

To sum up, a basic knowledge of macro economics is necessary for understanding the environment in which the firm operates and a good grasp of micro economic principles is helpful in sharpening the tools of financial decision making.

The finance manager has an important role towards the economics as ts include the budget as well as the analysis of the company and the industry that are affected by the economies.Any business is established for profit making! In turn it utilizes various resources resulting in employment, market growth, etc. As a Manager, i must be aware of business economics which impacts an organization and ensure our actions are in the gamut of business principles established. This is very much essential for ensuring the sustainability of a business in today's competitive world and ensure we make continuous growth. A continuous growth ensures continued employment for the people who depend on this organization. This is a win-win situation for any organization to have and it is essential every manager must have an understanding of business economics

The primary economic principle used in managerial finance is marginal cost-benefit analysis, the principle that financial decisions should be made and actions taken only when the added benefits exceed the added costs. Nearly all financial decisions ultimately come down to an assessment of their marginal benefits and marginal cost