Inflation and Economic Order Quantity
Inflation affects the Economic Order Quantity model in two main ways.:
ñ First, while the Economic Order Quantity model can be altered to assume constant increase in price. Sometimes major price increases come about only once or twice a year and are declared ahead of time. If this is the case, the Economic Order Quantity model may lose its pertinence and may be replaced with anticipatory purchasing that is buying with prediction of price gain in order to secure the goods at a lower cost. As might be expected, as with most decisions, there are trade off linked with anticipatory buying. The costs are the contributed carrying costs linked with the inventory that investor would not normally be holding. The benefits, as might be expected, come from purchasing the inventory at a lower price.
ñ The second way inflation affects the Economic Order Quantity model is through increased carrying costs. As inflation pushes interest rates up, the cost of containing inventory increases. In the Economic Order Quantity model this means that C raises, which results in a declination in the optimum economic order quantity.
Purpose of Optimum Yield Quantity:
The Economic Order Quantity Model can be disinclined to production runs to ascertain the optimum production quantity. The two costs regarded in this procedure are:
(a) Cost of set up
(b) Inventory carrying cost.
(a) Cost of set up
The set-up cost is of the nature of fixed cost and is to be obtained at the time of beginning of each one production run. The more prominent the size of the production runs, the lower will be the set up cost per unit.
(b) Inventory carrying cost
On the other hand, the carrying cost will increase with increase in the size of the production run. Thus, there is an inverse relationship among the set-up cost and inventory carrying cost. The optimum production size is at that level where the total of the set-up cost and the inventory carrying cost is the minimum. Otherwise stated, at this level the two costs will be equal.
The formula for Economic Order Quantity can also be utilized for determining the optimum production quantity as given below:
E = 2U X P
S
Where
E = Optimum production quantity
U = Annual (monthly) output
P = Set up cost for for each one one one production run
S = Cost of carrying inventory per unit per annum (per month)
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