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Culture Documents
Chapter 1
The Fundamentals of Managerial
Economics
McGraw-Hill/Irwin
Michael R. Baye, Managerial Economics and
Business Strategy Copyright © 2008 by the McGraw-Hill Companies, Inc. All rights reserved.
1-2
+
Managerial Economics
Manager
A person who directs resources to achieve a stated goal.
Economics
The science of making decisions in the presence of scare resources.
Managerial Economics
The study of how to direct scarce resources in the way that most efficiently achieves a
managerial goal.
1-3
+
Economic vs. Accounting Profits
Accounting Profits
Total revenue (sales) minus dollar cost of producing goods or services.
Reported on the firm’s income statement.
Economic Profits
Total revenue minus total opportunity cost.
+ Opportunity Cost 1-4
Accounting Costs
The explicit costs of the resources needed to produce produce goods or
services.
Reported on the firm’s income statement.
Opportunity Cost
The cost of the explicit and implicit resources that are foregone when a
decision is made.
Economic Profits
Total revenue minus total opportunity cost.
1-5
+
Profits as a Signal
Profits signal to resource holders where resources are most highly valued by
society.
Resources will flow into industries that are most highly valued by society.
Marginal (Incremental) Analysis 1-6
B
MB
Q
Slope (calculus derivative) of the total benefit curve.
1-9
C
MC
Q
Slope (calculus derivative) of the total cost curve
Marginal Principle
1-10
+
B
Slope = MC
C
Q* Q
The Geometry of Optimization: Net
1-12
+
Benefits
Net Benefits
Slope = MNB
Q* Q
+ Managerial Economics & Business Strategy
Chapter 2
Market Forces: Demand and
Supply
McGraw-Hill/Irwin
Michael R. Baye, Managerial Economics and
Business Strategy Copyright © 2008 by the McGraw-Hill Companies, Inc. All rights reserved.
2-14
Overview
Law of Demand
The demand curve is downward sloping.
Price
D
Quantity
2-16
Determinants of Demand
Income
Normal good
Inferior good
Advertisingand
consumer tastes
Population
Consumer expectations
2-17
+
The Demand Function
Ageneral equation representing the demand
curve
Qxd = f(Px ,PY , M, H,)
A
10
B
6
D0
4 7 Quantity
2-20
Change in Demand
Price D0 to D1: Increase in Demand
6
D1
D0
7 13 Quantity
2-21
Consumer Surplus:
2
D
1 2 3 4 5 Quantity
+ Consumer Surplus: 2-25
Price $
10
Value
Consumer 8 of 4 units = $24
Surplus =
$24 - $8 =
$16
6
4 Expenditure on 4 units = $2
x 4 = $8
2
D
1 2 3 4 5 Quantity
2-26
+ Market Supply Curve
Law of Supply
The supply curve is upward sloping.
Price
S0
Quantity
2-27
Supply Shifters
Input prices
Technology or
government regulations
Number of firms
Entry
Exit
Substitutes in production
Taxes
Excise tax
Ad valorem tax
Producer expectations
2-28
+
The Supply Function
S0
B
20
A
10
5 10 Quantity
2-31
+ Change in Supply
S0 to S1: Increase in supply
Price
S0
S1
5 7 Quantity
2-32
+ Producer Surplus
The
amount producers receive in excess of the
amount necessary to induce them to produce the
good.
Price
S0
P*
Q* Quantity
2-33
Market Equilibrium
Steady-state
2-34
7
6
Shortage D
12 - 6 = 6
6 12 Quantity
2-35
If price is too high…
Surplus
Price 14 - 6 = 8
S
9
8
7
6 8 14 Quantity
2-36
+ Price Restrictions
Price Ceilings
The maximum legal price that can be charged.
Examples:
Gasoline prices in the 1970s.
Housing in New York City.
Proposed restrictions on ATM fees.
Price Floors
The minimum legal price that can be charged.
Examples:
Minimum wage.
Agricultural price supports.
2-37
Impact of a Price Ceiling
Price S
PF
P*
P Ceiling
Shortage D
Qs Qd Quantity
Q*
2-38
+
Impact of a Price Floor
Price Surplus S
PF
P*
Qd Q* QS Quantity
2-39
+
Comparative Static Analysis
How do the equilibrium price and quantity change when a
determinant of supply and/or demand change?
2-40
+
Applications of Demand and Supply Analysis
Event: The WSJ reports that the prices of PC components are expected to fall by 5-
8 percent over the next six months.
P0
P*
Q* Quantity of PC’s
Q0
2-44
+ Big Picture Analysis: PC Market
Step 2: How will these changes affect the “Big Picture” in the
software market?
Big Picture: Impact of lower PC prices on
2-46
P1
P0
D*
Q0 Q1 Quantity of
Software
2-47
+
Big Picture Analysis: Software
Market
Software prices are likely to rise, and more software will be
sold.
Chapter 3
Quantitative Demand Analysis
McGraw-Hill/Irwin
Michael R. Baye, Managerial Economics and
Business Strategy Copyright © 2008 by the McGraw-Hill Companies, Inc. All rights reserved.
3-49
+ Overview
% G
EG , S
% S
If EG,S > 0, then S and G are directly related.
If EG,S < 0, then S and G are inversely related.
If EG,S = 0, then S and G are unrelated.
3-51
+
The Elasticity Concept Using Calculus
dG S
EG , S
dS G
If EG,S > 0, then S and G are directly related.
If EG,S < 0, then S and G are inversely related.
If EG,S = 0, then S and G are unrelated.
3-52
+
Own Price Elasticity of Demand
%QX
d
EQX , PX
%PX
Negative according to the “law of demand.”
Elastic: EQ X , PX 1
Inelastic: EQ X , PX 1
Unitary: EQ X , PX 1
3-53
+
Perfectly Elastic &
Inelastic Demand
Price Price
D
Quantity Quantity
Inelastic
Increase (a decrease) in price leads to an increase (a decrease) in total revenue.
Unitary
Total revenue is maximized at the point where demand is unitary elastic.
3-55
+
Elasticity, Total Revenue and Linear Demand
P
TR
100
0 10 20 30 40 50 Q 0 Q
3-56
+
Elasticity, Total Revenue and Linear Demand
P
TR
100
80
800
0 10 20 30 40 50 Q 0 10 20 30 40 50 Q
3-57
+
Elasticity, Total Revenue and Linear Demand
P
TR
100
80
60 1200
800
0 10 20 30 40 50 Q 0 10 20 30 40 50 Q
3-58
+
Elasticity, Total Revenue and Linear Demand
P
TR
100
80
60 1200
40
800
0 10 20 30 40 50 Q 0 10 20 30 40 50 Q
3-59
+
Elasticity, Total Revenue and Linear Demand
P
TR
100
80
60 1200
40
20 800
0 10 20 30 40 50 Q 0 10 20 30 40 50 Q
3-60
+
Elasticity, Total Revenue and Linear Demand
P
TR
100
Elastic
80
60 1200
40
20 800
0 10 20 30 40 50 Q 0 10 20 30 40 50 Q
Elastic
3-61
+
Elasticity, Total Revenue and Linear Demand
P
TR
100
Elastic
80
60 1200
Inelastic
40
20 800
0 10 20 30 40 50 Q 0 10 20 30 40 50 Q
Elastic Inelastic
3-62
+
Elasticity, Total Revenue and Linear Demand
P TR
100
Elastic Unit elastic
80 Unit elastic
60 1200
Inelastic
40
20 800
0 10 20 30 40 50 Q 0 10 20 30 40 50 Q
Elastic Inelastic
3-63
+
Demand, Marginal Revenue (MR) and Elasticity
P Fora linear
100 inverse demand
Elastic
Unit elastic
function, MR(Q) =
80
a + 2bQ, where b
60 < 0.
Inelastic
40 When
MR > 0, demand is
20
elastic;
MR = 0, demand is unit
elastic;
0 10 20 40 50 Q
MR < 0, demand is
MR inelastic.
+ Factors Affecting 3-64
%QX
d
EQX , PY
%PY
%QX
d
EQX , M
%M
Pricing.
%QX 25.92%
d
3-72
+ Example 3: Impact of a change in a
competitor’s price
According to an FTC Report by Michael Ward, AT&T’s cross price elasticity of
demand for long distance services is 9.06.
%QX
d
EQX , PY 9.06
%PY
%QX
d
9.06
4%
4% 9.06 %QX
d
%QX 36.24%
d
3-74
+
Interpreting Demand Functions
Mathematical representations of demand curves.
Example:
QX 10 2 PX 3PY 2M
d
Chapter 4
The Theory of Individual Behavior
McGraw-Hill/Irwin
Michael R. Baye, Managerial Economics and
Business Strategy Copyright © 2008 by the McGraw-Hill Companies, Inc. All rights reserved.
+ Overview 4-76
I. Consumer Behavior
Indifference Curve Analysis
Consumer Preference Ordering
II. Constraints
The Budget Constraint
Changes in Income
Changes in Prices
Consumer Preferences
The goods and services consumers actually consume.
Good X
4-79
+
Consumer Preference Ordering
Properties
Completeness
More is Better
Transitivity
4-80
Complete Preferences
Completeness Property
Consumer is capable of Good Y
expressing preferences (or III.
indifference) between all
possible bundles. (“I don’t II.
know” is NOT an option!) I.
If the only bundles available A B
to a consumer are A, B, and C,
then the consumer
is indifferent between A and C
(they are on the same C
indifference curve).
will prefer B to A.
will prefer B to C. Good X
4-81
More Is Better!
-Px / Py
4-85
Changes in Income
M1/PY
Changes in Price X
M2/PX M0/PX M1/PX
A decreases in the price of Y
good X rotates the budget New Budget Line for
line counter-clockwise (PX0 > M0/PY a price decrease.
PX1).
An increases rotates the
budget line clockwise (not
shown).
M0/PX0 M0/PX1
X
4-86
Consumer Equilibrium
The equilibrium Y
Complementary Goods
An increase (decrease) in the price of good X leads to a decrease
(increase) in the consumption of good Y.
Examples:
DVD and DVD players.
Computer CPUs and monitors.
4-88
+
Complementary Goods
B
Y2
Y1 A II
I
0 X1 M/PX1 X2 M/PX2 Beer (X)
4-89
+
Income Changes and Consumer
Equilibrium
Normal Goods
Good X is a normal good if an increase (decrease) in income leads
to an increase (decrease) in its consumption.
Inferior Goods
Good X is an inferior good if an increase (decrease) in income
leads to a decrease (increase) in its consumption.
4-90
+
Normal Goods
Y
An increase in
income increases
the consumption of M1/Y
normal goods.
B
Y1
M0/Y
II
A
Y0
I
X0 M0/X X1 M1/X X
0
4-91
+
Decomposing the Income and
Substitution Effects
Initially, bundle A is consumed. Y
A decrease in the price of good
X expands the consumer’s
opportunity set.
The substitution effect (SE) C
causes the consumer to move
from bundle A to B. A II
A higher “real income” allows B
the consumer to achieve a
higher indifference curve. I
The movement from bundle B to
C represents the income effect IE X
0
(IE). The new equilibrium is SE
achieved at point C.
4-92
+
A Classic Marketing Application
Other
goods
(Y)
A
A buy-one,
C E
get-one free
D
pizza deal. II
I
0 0.5 1 2 B F Pizza
(X)
4-93
Individual Demand Curve
Y
An individual’s
demand curve is
derived from each II
new equilibrium I
indifference curve
as the price of good P0
X is varied. P1 D
X0 X1 X
4-94
Market Demand
Themarket demand curve is the horizontal
summation of individual demand curves.
It
indicates the total quantity all consumers
would purchase at each price point.
40
D1 D2 DM
1 2 Q 1 2 3 Q
4-95
+
Conclusion
Indifference
curve properties reveal information about
consumers’ preferences between bundles of goods.
Completeness.
More is better.
Diminishing marginal rate of substitution.
Transitivity.
Indifference
curves along with price changes determine
individuals’ demand curves.
Market
demand is the horizontal summation of individuals’
demands.