Category: Commerce Notes PPT

Diminishing returns is also known as the law of Diminishing Returns. The law of diminishing marginal productivity states the law of Diminishing Returns. The law of Diminishing Returns occurs when there is a decrease in the marginal output of the production process as a consequence of an increase in the amount of a single factor of production, while the amounts of other parameters of production remain constant. The theories of production describe the law of Diminishing Returns as a fundamental principle of economics.

According to the law of diminishing marginal returns, counting an additional factor of production results in outcomes of small growth. After some ideal level of volume is achieved, the adding of any bigger amounts of a factor of production will only yield reduced per-unit incremental returns.

The law of Diminishing Returns is quickly applicable in the fields of agriculture, mining, forests, fisheries and building industries.

Definition of Law of Diminishing Returns

As per economists, the law of Diminishing Returns is the phenomenon when more and more units of a changing input are to be used. On a given quantity of fixed data, the total output may initially increase at an increasing rate and then at a constant rate. The fact that It will eventually increase at a decreasing rate explains the law of Diminishing Returns.

Various economists have defined the law of Diminishing Returns.

When the total output initially increases with an increase in changing input at a given quantity of fixed data, but it starts decreasing after a point of time, illustrates the law of Diminishing Returns.

The significance of the law of Diminishing Returns can be understood by referring to the theory of production.

To properly illustrate the law of Diminishing Returns, some examples are given in this article

The law of Diminishing Returns owes its origin to the efforts of early economists such as James Steuart, David Ricardo, Jacques Turgot, Adam Smith, Johann Heinrich von and Thomas Robart Malthus. These economists propounded the definition of the law of Diminishing Returns.

An example to further illustrate the law of Diminishing Returns: Let’s take an example of a firm that has a set stock of tools and machines, and an uneven supply of labour. As the number of workers increases in the firm, the total output of the firm rises, but at an ever-decreasing rate. It is due to this reason that after a certain point, the firm gets overcrowded and workers start to form lines to use the machines. The permanent solution to this problem is to increase the stock of capital, buy more machinery and build more firms. The above-provided example discusses the law of Diminishing Returns.

Significance of the Law of Diminishing Returns

The law of Diminishing Returns states that the result of adding a factor of production is a smaller increase in output. The addition of any amount of a factor of production, after some best possible level of capacity utilization, will inevitably capitulate decreased per-unit incremental returns. Various factors can be given to illustrate the law of Diminishing Returns.

There are many significant laws of Diminishing Returns. In mathematics, the optimization theory explains the law of diminishing returns as equivalent to a second-order condition. This theory makes perfect sense in economics.

Let us take an example to illustrate the law of diminishing returns. Suppose that the profits of a given company do not decrease with higher levels of production, it could mean that the company would decide to produce an infinite amount of their product for the same Infinitum benefit and returns. Like this, there can be various scenarios for a better understanding of the definition of the law of Diminishing Returns.

The Theory of Production explains the Law of Diminishing Returns

The significance of the law of Diminishing Returns can help in the formulation of various economic policies, to explain the tax difference in the income of different classes

In short, the Law of Diminishing Returns is a perfect phenomenon for the maximization of profit. Failing to prove this second-order condition will mean that the person is minimizing the returns, instead of maximizing them.

The law of Diminishing Returns states that in a production process with which all other factors are fixed except one if the quantity of the variable factor increases by a fixed rate, the level of production will increase by a decreasing rate.

Assumptions

The definition of the law of Diminishing Returns gives some assumptions, which are as follows-

• Homogeneous variable factors

• The measurement of output

• The law of Diminishing Returns states that this law applies only when there is no change.

The law of the Diminishing Returns indicates the following factors:

The above-mentioned operation shows the significance of the law of Diminishing Returns.

Did you Know?

Historically, economists were worried that Diminishing Returns would lead to global misery and the gradual ending of human civilization. They saw the application of Diminishing Returns to farmland and observed that at a fixed point any given acre of land has an optimal result of food output per employee.

Economists have for a long time defined the law of diminishing marginal returns roughly and incompatibly. To economists of today’s times, diminishing returns occur only and only when a marginal product goes down at a growing rate of a variable homogeneous input. But economists of earlier times have always confused short-run and long-run returns, average and marginal returns, homogeneous and heterogeneous inputs, and much more. The law of diminishing returns is rooted back in the 18th century and has evolved ever since.

Final accounts represent both the financial position of a business and also shows the profitability of the concern. The final Account is used by both the external and internal parties for various purposes. The Trading Account, Profit and Loss Account, and Balance Sheet all together are known as the final accounts.

The trading account is the first part of this final account, and this is used to determine the gross profit which is earned by the business. The profit and loss account is the second part of the final account that is used to determine the net profit of the business concern.

Trading and Profit and Loss Account

A trading account can be called an investment account which contains securities and cash. Generally, a trading account refers to a trader’s main account. The investors tend to buy and sell the assets frequently, thus their accounts are subject to special regulation for this. The assets which are held in a trading account are separated from others which may be part of a long-term buy and hold strategy.

The profit and loss abbreviated as the P&L statement is a financial statement that summarizes the revenues, the costs, and the expenses that are being incurred during a specified period, usually in a fiscal year. The P&L statement aligns with the income statement, which records information about a company’s ability or its inability to generate profit by increasing the sales revenue, by reducing costs, or both. The P&L statement is also referred to as a statement of profit and loss, income statement, statement of operations, etc.

Trading and Profit and Loss Account and Balance Sheet

A balance sheet is the last drawn financial statement which reports a company’s assets, liabilities, and the shareholders’ equity at a particular year in time, and provides a basis for computing the rates of return and evaluating the capital structure of the company. The financial statement provides a view of what a company owns and owes to its debtors, as well as the amount that is invested by the shareholders.

How to Calculate Gross Profit in Trading Account

In order to calculate the gross profit, it is necessary to know the cost of goods which are sold and its sales figures.

Gross Profit = Sales – COGS (Sales + Closing Stock) – (Stock in the beginning + Purchases + Direct Expenses)

Items that are included on the debit side and on the credit side give the resultant figure which is either gross profit or the gross loss.

Every business wants to know how much money they made and how much money they spent during a certain period, usually at the end of the year.

A Profit & Loss Statement/Account shows how much money a business made or lost over a month or a year.

Companies use the Profit & Loss Statement, while other people use the “T Account” for these reasons. There are two main reasons why a Profit & Loss Statement/Account is made.

Traditionally, determining profit/loss required two steps. It referred to the process of preparing:

The trade account reflects the business’s gross profit or loss. The Profit & Loss Account displays the company’s net profit or loss.

Balance Sheet

A balance sheet is one of the financial statement reports that shows the financial situation of an entity on a specific date.

The balance sheet of an entity has a wealth of information that can be used to assess financial stability and performance.

It is a report sheet that requires total assets to match total liabilities + shareholder capital.

Hence, the Calculation would be :

Assets = Liability + Capital

Assets – An asset is a resource that an entity owns and uses to generate positive economic value.

Liabilities – This is a list of obligations owed to others by an entity.

The money contributed by the shareholders is referred to as capital or equity.

Format and Calculation

Trading and Profit and Loss Account

There is no prescribed structure for profit and loss accounts for sole traders and partnership enterprises. They can create the profit and loss account in any format. However, it should separately display gross and net profit.

Typically, these entities prefer a “T-shaped form” for compiling their profit and loss statements.

A T-shape profit and loss account has two sides – debit and credit. Usually, a trading account is created, followed by a profit and loss statement and it has two sides – Debit and Credit.

Hence, Calculation of Profit and Loss Account would be:

• Add up all revenue earned over the accounting period.

• Add up all expenditures made throughout the accounting period.

• Subtract total expenses from total revenue to find the difference.

• If the value is positive, it represents profit; if it is negative, it represents a loss.

Format of P&L Account for Companies

Companies are required to submit profit and loss accounts under Schedule III of the Companies Act, 2013.

Statement of Profit & Loss 

Name of the Company – 

Statement of Profit and Loss for the period ended –

Balance Sheet

A balance sheet examination can reveal a wealth of information about a business’s performance.

It is a critical instrument for investors, creditors, and other stakeholders as it helps in ascertaining an entity’s financial health.

It enables stakeholders to comprehend the entity’s business performance and liquidity status.

There are various different balance sheet styles to choose from, however the most common of them includes horizontal and vertical. 

Horizontal Format

Vertical Format 

What are Bills of Exchange?

In an international trade to bind one party to pay a fixed sum of money to another party a written order is passed where in the sum of money is to be paid on demand or at a predetermined date, this is known as Bill of Exchange. 

The checks and promissory notes are kind of the same, which can be drawn by the individuals or by the banks, also they are transferable by endorsements. 

Key Notes –

• A bill of exchange is a type of written order which is binding on one party for a fixed sum of money to be paid to another party on demand or in the future.

• A bill of exchange consists of three parties—the drawee is the party who pays the sum, the payee is one who receives that sum, while the drawer is the one who obliges the drawee to pay the payee.

• A bill of exchange is used in the international trade as it helps the importers and exporters to fulfil transactions.

• The involved parties can use this bill to specify the terms of a transaction, like the credit terms and the rate of accrued interest.

 

Working of Bill of Exchange 

Maximum of three parties are involved in the bill of exchange. The drawee is the party who pays the sum which is specified in the bill of exchange. The one who receives that sum is called the payee. The drawer on the other hand, is the party that obliges the drawee to pay the payee. The drawer and the payee are generally the same entity unless the drawer transfers this bill of exchange to a third-party who becomes the payee.

Classification of Bill of Exchange

1. On the Basis of Place

Bills are classified as inland bills and foreign bills. In Inland bill, the parties are from the same country. While, the other type of bill which is called the foreign bill, parties belong to different countries. Inland bill examples are trade bills or accommodation bills, while foreign bill examples can be a trade bill.

2. On the Basis of Purpose

On the basis of purpose, bills are to be classified as trade bills or accommodation bills. Trade bills arise from trade transactions. The accommodation bill is for raising funds among the parties and for discounting in the money market.

3. Documentary Bill 

When bills are attached with trade documents, they are called the documentary bills. Bill not attached to any document is called a clean bill. Documentary bill is re-classified as documents against acceptance or the D/A bill and documents against payment bill or the D/P bill. When an exporter sends to an importer a D/A bill, the bill will be accompanied by the following documents:

4. Parties or Payee

When a bill is payable to a specific person whose name is already appearing on the bill, this is called an order bill. This type of bill can be transferred only by endorsement and delivery method. Bearer bill, is another type of bill which is payable to any person who is in legal possession of the bill as on the date of maturity and this bill is to be made payment to the drawee.

5. Time Bill

A bill payable after a specified date or time is known as the time bill and a bill payable on demand is known as the demand bill. Time bill is also called an usance bill. Example for demand bill – cheque.

These were the different types of bill of exchange. In the trade, the bills are very popular, the bills facilitate the ease and smoothness in the same work.

Partnership in business means a pact or deal between two or more parties (individuals or entities) where they share profits. It is not always necessary that each partner will have an equal level of participation or an equal share of profit in the business. The share of liabilities might vary as well. This is why we have different types of partners in a business firm.

Concept of Partnership

Section 4 of the Indian Partnership Act, 1932 defines partnership as a relationship between two or more people who mutually agree to share risks, profits, losses, and other liabilities in a business. The distribution of share happens under the supervision of all partners or members included in the business firm.

Partnership firms are constituted by different types of partnerships. The agreed norms and shares between the partners are usually detailed in a contract.

The Partnership Act of 1932 does not restrict the formation of any new kind of partnership that the partners wish to indulge in.

Types of Partners in a Business

Businesses display different forms of the partnership today. Among the most popular 3 types of partnership are –

Apart from these 3 types, there are other different kinds of partnerships as well. Given below is a detailed explanation of each partner type in a business firm.

1. Active/Managing Partner

This is one among the types of general partnership where a particular individual or entity takes up the managing role. The managing partner has to have active participation in every aspect of the business. Such a partner is known as an Ostensible Partner. These types of partners in partnership look after the day to day progress of the business on behalf of other partners. 

If the active partner of a business wishes to withdraw from the partnership, he has to first give public notice about it. Through the notice, he would free himself from the responsibilities and the actions taken by other partners after his exit. Such type of partners is liable for every action taken in business until retirement with a public notice.

2. Dormant/Sleeping Partner

A dormant partner in the firm does not take an active part in the daily chores of the business. Such partners are the ones who only contribute to the capital in a business and do not participate in management. Dormant or sleeping partners in the partnership form of business organization are usually bound by the actions taken by all other partners.

Dormant partners still hold their share of profits and losses of the firm. This type of partners do not need to give public notice on retirement. 

3. Nominal Partner

Nominal partners are the ones who do not hold a major share of interest in the partnership. In other words, it can be said that he is only lending his name to the partnership deal. In these types of partnership business, a partner is neither liable to contribute capital to the firm, nor is he entitled to share profits. However, nominal partners are still answerable to third parties for any act done by the other business partners.

4. Partners in profits only

Such types of partners do not hold any form of liabilities in a firm. They are only entitled to share profits. Even while dealing with third parties, the partner will be liable only for the profit-related matters. He will not be answerable for any other move made by the business firm.

5. Partner by Estoppel

Partner by Estoppel means when a person declares (through action or words) to another partner that he wishes to participate as a partner in the firm. Such partners cannot later deny being a business partner. These types of partners in partnership firms are not actually partners, yet have represented themselves as such by Estoppel. 

6. Minor Partner

According to the Contract Act, a minor (individual aged below 18 years) cannot be an official partner in any type of the partnership firm. However, such partners can be entitled to a partnership if other business partners give their consent. A minor can share the profits of a business, but his liability for losses faced by the firm will be limited to his share of capital.

When a minor partner turns 18, he is given a span of six months to decide whether he wishes to continue as a partner of that firm or to withdraw. In both cases, he will have to declare so through a public notice.

A consumer is a person who usually decides his/her need for products and commodities according to the satisfaction he/she gets from it. The concept of utility in economics refers to the satisfaction a customer derives from a service or a product. Customers try their best to choose the commodities logically, to boost their utility.

Different people can experience different levels of utility from the same products. For example, a person who loves eating fast food will achieve a higher utility from a burger compared to a person who doesn’t like eating fast food. Moreover, utility also varies with time and location. For instance, the utility of a room heater is subject to whether it is used in Kashmir or Cochin, and during summer or winter. 

The commercial utility of products and services is also essential as it also influences the demand of a particular commodity and consequently, its price. Practically, consumers’ satisfaction or utility cannot be evaluated and measured. Still, some economists believe that utility of service or commercial products can be estimated using numerous models.

Apprehending Utility

Utility meaning in economics procured from the idea of usefulness. A product’s utility entirely relies on its capability to satisfy a consumer’s need or demand. There are various distinct representations of measuring the economic utility and the usefulness of a commodity or a service. It was first presented by an eminent Swiss mathematician, Daniel Bernoulli in the 18th century. From that time, the progression of economic theories has led to numerous kinds of economic utility.

Utility meaning in economics procured from the thought of usefulness. A product’s utility completely depends on its capability to satisfy consumers’ needs. There are various distinct representations of measuring the economic utility and therefore the usefulness of a commodity or a service. It had been first presented by an eminent Swiss mathematician, Bernoulli, within the 18th century. From that point, the progression of economic theories has led to numerous sorts of economic utility.

Types of Utility

There are mainly four kinds of utility: form utility, place utility, time utility, and possession utility. These utilities affect an individual’s decision to purchase a product. However, all of these utilities may leave a notable impact. 

Consequently, firms and organisations have a reason to improve the utility of their commodities. By modifying the well-perceived products, they can bring in more customers and escalate their earnings. Let’s have a look at the four types of commercial utility in detail.

1. Form

This type of utility is formed by the product design or the service itself. The more accurately a commodity or service is produced based on customer desires and requirements, the higher will be its accepting value (form utility). 

In other words, form utility can be achieved by translating customer requirements and necessities into services and goods. To make this happen, companies examine their target areas and observe the potential consumers infer what they are looking for. This information is useful in placing product characteristics with real consumer requirements. So, form utility can be generated by making use of appropriate design, fine quality materials, and providing a wide range of resources from which to select.

For example, consider a car producing company named Luxury Cars. This organisation could sell vehicle parts separately. But, by assembling all the parts and presenting a whole vehicle, it adds to the value derived by consumers and increases the form’s utility.

This type of utility is made by the merchandise design or the service itself. The more accurately a commodity or service is produced supporting customer desires and requirements, the upper are going to be its accepting value (form utility).

2. Place

By providing easy access to services and goods for the customers, place utility can be acquired. If a product can be purchased without putting much effort, consumers get more attracted to it. Place utility relies on the store sites on which the products are being sold and distribution mediums. Some economists even suggest that the availability of a product on the digital market influences utility. That is because nowadays, almost all varieties of goods and services can be purchased online.

Referring to the previous example, let’s think that Luxury Cars is an Indian company. If its vehicles are only sold within India, it won’t be attractive for people who live in Thailand. But, if Luxury Cars start dealing across the globe, the utility of the cars will increase for worldwide customers.

By providing quick access to services and goods for the purchasers, place utilities are often acquired. If products are often purchased without putting much effort, consumers get more interested in it. Place utility depends on the sites on which the products are sold. Some economists even suggest that the supply of a product on the digital market influences utility. That’s because nowadays, most sorts of goods and services are often purchased online.

3. Time

Time utility in economics can be obtained if a commodity or a service is readily available to customers when they need it. The availability of a product has to be fast. Moreover, time utility becomes high when a product or service is scarce. The supply chain management of a company has a substantial impact on time utility. It involves various processes, like logistics, storage, and delivery. Organisations are continuously enhancing their supply chain management systems to provide 24×7 availability and same-day delivery of a product.

For instance, consider an online car rental service. If a company can provide a rental car at a consumer’s disposal based on individual customers’ urgency of need, it can enhance time utility for consumers. 

Time utility in economics is often obtained if a commodity or a service is quickly available to customers once they need it. The supply of a product has got to be fast. Moreover, time utility becomes high when a product or service is scarce. The availability chain management of a corporation features a substantial impact on time utility. It involves various processes, like logistics, storage, and delivery. Organisations are continuously enhancing their supply chain management systems to supply 24×7 availability and same-day delivery of a product.

4. Possession

This utility defines the satisfaction and gains received from using and having a particular commodity. In general, a useful product holds a more enhanced possession utility. Concerning marketing theories – possession utility has its mention in the ease of possession as well. That is done through acquisition processes like credit cards or renting contracts. An easy acquisition makes a utility to be perceived highly by consumers. At the same time, after-sales services influence possession utility. The better the after-sales services, the more consumers will derive possession utility from using a particular product. 

For instance, if a consumer notices that his AC is malfunctioning and cannot avail repairing services within an agreeable time, possession utility from that AC will fall. Conversely, if the concerned AC company promptly addresses the issue and fixes the AC within an agreeable period, possession utility will increase.                                                   

This utility defines the satisfaction and gains received from using and having a specific commodity. Generally, a useful product holds a more enhanced possession utility. Concerning marketing theories – possession utility has its mention within the simple possession also. That’s done through acquisition processes like credit cards or renting contracts. a simple acquisition makes a utility to be perceived highly by consumers. At an equivalent time, after-sales services influence possession utility. The higher the after-sales services, the more consumers will derive possession utility from employing a particular product.

Measures of Utility

Cardinal Utility

This analysis is a measurement of utility that tells how utility can be expressed in numbers, and a consumer can express his/her satisfaction numerically.

Ordinal Utility

Ordinal utility analysis does not quantify utility in numerical expressions.

The above concept of utility is presented by , and you can refer to our website for more topics related to Economics for senior secondary level.

A customer is the one who usually determines his demand for goods based on the idea of the satisfaction (utility) that he procures from them. 

Utility of products is their need-satisfying capability. More is that the aspiration to possess the products, the more will be the utility procured from them. Utility is instinctive. Distinct people can get different degrees of utility from equivalent goods. As an example, someone who likes sweets will get much higher utility from a sweet than someone who doesn’t like sweets.

In simple language, we can understand open market operations (OMOs) as the process of selling and purchasing treasury bills and government securities by the central banking institution of any country. The primary purpose of OMOs is to regulate the supply of flow of money in the economy. Another motivation of open market operations can be to control the short-term interest rates of the banks in the country. Now that we have elucidated the basics of OMOs, let us try to answer the question – what is open market operations – in greater detail.

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Features of Open Market Operations

Open market operations or OMOs are the fundamental and the most doable monetary control exercised by central banks of diverse countries. In simple vocabulary, what happens in OMOs is that the central bank sells securities in the open market to cinch the money supply in the market. As such, the interest rates increase. OMOs are also termed the Contractionary Monetary Policy. Likewise, when the apex bank desires to elevate the money supply in the market, it purchases securities from the money. The step is undertaken to reduce or alleviate the interest rate and enhance the country’s economic development. The process of buying securities from the open market is alternately deemed as the Expansionary Monetary Policy. 

• Open Market Operations RBI is the process wherein the apex bank purchases or sells treasuries and other securities from the open market to regulate money flow.

• In the USA, open market operations are controlled by the Federal Bank. It utilizes open market operations to manipulate the interest rates, particularly the federal units rate used in interbank loans.

• In India, open market operations RBI are controlled by the Reserve Bank of India. It buys securities to increase the money flow in the economy, makes obtaining loans more accessible, and reduces the interest rates on loans. On the contrary, the RBI sells securities or treasuries to deflate the money supply in the economy, make obtaining loans a more difficult task, and increase the rate of interest on loans.

Now that we have highlighted the features of the open market operations RBI let us gauge its various other nitty-gritty.

Outright Open Market Operations – Federal Bank Example

To understand open market operations in India, it is vital to grasp how the USA’s Federal Reserve dictates the nation’s monetary policy. The USA provides the best open market operations example for us to understand its many nuances. To maintain the stability of the US economy and stall the demerits of inflation or deflation, the Board of Federal Reserve sets a target known as the federal funds rate. We can understand the federal fund rates as the interest percentage banks charge each other for overnight loans. This regular flow of massive sums of money allows banks to ensure that their cash reserves are high enough to meet the customers’ demands. The federal funds also embody a benchmark for other interest rates, thereby influencing the direction of everything ranging from savings deposit rates to home mortgage rates and credit card interest.

In other words, open market operations act as an instrument that the Federal Bank utilizes time and gain to increase the money supply and lower the market interest rate by using newly created money. Likewise, the Federal Bank also exerts positive pressure on banks.

Open Market Operations in India

In 2019, the Reserve Bank of India conducted its version of the open market operations for the first time in history. In India, OMOs are regulated by the RBI by selling and purchasing government securities of G-Secs to and from the market. The primordial goal is to adjust the rupee liquidity conditions within the market on a viable basis. When the RBI feels that there is more than enough liquidity in the market, it sells securities and reduces the rupee liquidity. On the contrary, when the Reserve Bank of India feels that the liquidity scenario is tight, it resorts to purchasing G-secs from the open market.

In conclusion, we can assert that open market operations are vital aspects of an economy. They are integral to ensuring a steady and regulated supply of money within the market.