managerial economics & business strategy - · pdf filemanagerial economics & business...
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Final ExamSection 1
August 6th
8:00 am-10:30 amHH 076
Managerial Economics & Business Strategy
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Overview
• Cumulative• 20 Multiple Choice Questions (40 points)• 3 Essay Questions (60 points)• Lecture notes, (problems solved in class) and
Homework
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Grading Scale
• 5% ‐ Attendance• 15% ‐ Homework (5 points curve)• 20% ‐ Test 1• 20% ‐ Test 2• 20% ‐ Final exam• 20% ‐ Project report
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• How can the manager maximize net benefits?• Use marginal analysis
• Marginal benefit: • The change in total benefits arising from a change in the managerial control variable, .
• Marginal cost: • The change in the total costs arising from a change in the managerial control variable, .
• Marginal net benefits:
1‐4
Economics of Effective Management
Chapter 1: Using Marginal Analysis
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• Marginal principle• To maximize net benefits, the manager should increase the managerial control variable up to the point where marginal benefits equal marginal costs. This level of the managerial control variable corresponds to the level at which marginal net benefits are zero; nothing more can be gained by further changes in that variable.
1‐5
Economics of Effective Management
Chapter 1: Marginal Analysis Principle
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Chapter 2: Demand Shifters• Income
• Normal good• Inferior good
• Prices of related goods• Substitute goods• Complement goods
• Advertising and consumer tastes• Population• Consumer expectations• Other factors
2‐6
Demand
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Chapter 2: Understanding the Linear Demand Function• The signs and magnitude of the coefficients determine the impact of each variable on the number of units of X demanded.
• For example:• 0 by the law of demand;• 0 if good Y is a substitute for good X;• 0 if good X is an inferior good.
2‐7
Demand
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Quantity in liters
Price per liter
Demand
$5
0
$3
$2
1 2
$1
4 5
Chapter 2: Market Demand and Consumer Surplus
2‐8
Total Consumer Value:0.5($5 ‐ $3)x2+(3‐0)(2‐0) = $8
Expenditures: $(3‐0) x (2‐0) = $6
Consumer Surplus: 0.5($5 ‐ $3)x(2‐0) = $2
Demand
$4
3
Consumer Surplus
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• Input prices• Technology or government regulation• Number of firms
• Entry• Exit
• Substitutes in production• Taxes
• Excise tax• Ad valorem tax
• Producer expectations
2‐9
Supply
Chapter 2: Supply Shifters
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• The signs and magnitude of the coefficients determine the impact of each variable on the number of units of X produced.
• For example:• 0 by the law of supply.• 0 increasing input price.• 0 technology lowers the cost of producing good X.
2‐10
SupplyChapter 2: Understanding the Linear Supply Function
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2‐11
Chapter 2: Producer Surplus in Action
Quantity
Price Supply
$400
0 800
4003
13
Supply
$4003
Producer surplus
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• Comparative static analysis• The study of the movement from one equilibrium to another.
• Competitive markets, operating free of price restraints, will be analyzed when:
• Demand changes;• Supply changes;• Demand and supply simultaneously change.
2‐12
Chapter 2: Comparative StaticsComparative Statics
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Chapter 3: Own Price Elasticity• Own price elasticity of demand
• Measures the responsiveness of a percentage change in the quantity demanded of good X to a percentage change in its price.
, %Δ%Δ
• Sign: negative by law of demand.• Magnitude of absolute value relative to unity:
• , 1: Elastic.
• , 1: Inelastic.
• , 1: Unitary elastic.
3‐13
Own Price Elasticity of Demand
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Chapter 3: Total Revenue Test• When demand is elastic:
• A price increase (decrease) leads to a decrease (increase) in total revenue.
• When demand is inelastic:• A price increase (decrease) leads to an increase (decrease) in total revenue.
• When demand is unitary elastic:• Total revenue is maximized.
3‐14
Own Price Elasticity of Demand
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Chapter 3: Factors Affecting the Own Price Elasticity• Three factors can impact the own price elasticity of demand:
• Availability of consumption substitutes.• Time/Duration of purchase horizon.• Expenditure share of consumers’ budgets.
3‐15
Own Price Elasticity of Demand
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Chapter 3: Cross‐Price Elasticity• Cross‐price elasticity
• Measures responsiveness of a percent change in demand for good X due to a percent change in the price of good Y.
, %Δ%Δ
• If , 0, then and are substitutes.• If , 0, then and are complements.
3‐16
Cross‐Price Elasticity
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Chapter 3: Income Elasticity• Income elasticity
• Measures responsiveness of a percent change in demand for good X due to a percent change in income.
, %Δ%Δ
• If , 0, then is a normal good.• If , 0, then is an inferior good.
3‐17
Income Elasticity
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Chapter 3: Elasticities for Linear Demand Functions• From a linear demand function, we can easily compute various elasticities.
• Given a linear demand function:
• Own price elasticity: .
• Cross price elasticity: .
• Income elasticity: .
3‐18
Obtaining Elasticities From Demand Functions
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Chapter 3: Elasticities for Nonlinear Demand Functions• One non‐linear demand function is the log‐linear demand function:
• Own price elasticity: .• Cross price elasticity: .• Income elasticity: .
3‐19
Obtaining Elasticities From Demand Functions
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Chapter 4: Properties of Consumer Preferences
• Completeness: For any two bundles of goods either:• ≻ .• ≻ .• ∼ .
• More is better• If bundle has at least as much of every good as bundle and more of some good, bundle is preferred to bundle .
• Diminishing marginal rate of substitution• As a consumer obtains more of good X, the amount of good Y the individual is willing to give up to obtain another unit of good X decreases.
• Transitivity: For any three bundles, , , and , either:• If ≻ and ≻ , then ≻ .• If ∼ and ∼ , then ∼ .
4‐20
Consumer Behavior
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Chapter 4: The Budget Constraint
4‐21
Good
Good
0
Budget line:
Slope
Bundle G
Bundle H
Budget set:
Constraints
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Chapter 4: Consumer Equilibrium
Consumer equilibrium occurs at a point where
MRS =PX / PY.
Equivalently, the slope of the indifference curve equals the slope of the budget line.
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Chapter 5: Relation between Productivity Measures
5‐23
Labor input(holding capital constant)
0
Total productAverage productMarginal product
Total product (TP)
Average product (APL)
Marginal product (MPL)
Increasing marginal returns to labor
Decreasing marginal returns to labor
Negativemarginal returns to labor
The Production Function
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Chapter 5: Profit Maximizing Input Usage
• When labor or capital vary in the short run, to maximize profit a manager will hire
• Labor until the value of marginal product of labor equals the wage:
VMPL = w, where VMPL = P x MPL.
• Capital until the value of marginal product of capital equals the rental rate of capital:
VMPK = r, where VMPK = P x MPK .
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Chapter 5: Isoquants and Marginal Rate of Technical Substitution• Isoquants capture the tradeoff between combinations of inputs that yield the same output in the long run, when all inputs are variable.
• Marginal rate of technical substitutions (MRTS)• The rate at which a producer can substitute between two inputs and maintain the same level of output.
• Absolute value of the slope of the isoquant.
5‐25
The Production Function
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Chapter 5: Cost Minimization
•A firm minimizes the costs of producing q0 units of output by using the capital-labor combination at point P, where the isoquant is tangent to the isocost.
•All other capital-labor combinations (such as those given by points A and B) lie on a higher isocost curve.
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Chapter 5: Cost Minimization
• Marginal product per dollar spent should be equal for all inputs:
• But, this is justrw
MPMP
rMP
wMP
K
LKL
rwMRTSKL
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Chapter 5: The Cost Function• Mathematical relationship that relates cost to the cost‐minimizing output associated with an isoquant.
• Short‐run costs• Fixed costs: • Sunk costs• Short‐run variable costs: • Short‐run total costs:
• Long‐run costs• All costs are variable• No fixed costs
5‐28
The Cost Function
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Chapter 5: Short‐Run Costs in Action
5‐29
Output0
Total costsVariable costsFixed costs
The Cost Function
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Chapter 5: The Relationship between Average and Marginal Costs in Action
5‐30
Output0
A
ATC, AVC, AFC and MC ($)
Minimum of ATC
Minimum of AVC
The Cost Function
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Chapter 5: Economies of Scale• Economies of scale
• Portion of the long‐run average cost curve where long‐run average costs decline as output increases.
• Diseconomies of scale• Portion of the long‐run average cost curve where long‐run average costs increase as output increases.
• Constant returns to scale• Portion of the long‐run average cost curve that remains constant as output increases.
5‐31
The Cost Function
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Chapter 5: Multiple‐Output Cost Function• Economies of scope
• Exist when the total cost of producing and together is less than the total cost of producing each of the type of output separately.
, 0 0, ,• Cost complementarity
• Exist when the marginal cost of producing one type of output decreases when the output of another good is increased.
∆ ,∆ 0
5‐32
Multiple‐Output Cost Function
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Chapter 8: Perfect Competition• To maximize short‐run profits, a perfectly competitive firm should
produce in the range of increasing marginal cost where , provided that . If , the firm should shut down its plant to minimize it losses.
8‐33
Perfect Competition
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Chapter 8: Short‐Run Firm Supply Curve In Action
8‐34
Perfect Competition
Firm’s output
$
0
Short‐run supply curve for individual firm
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Chapter 8: Long‐Run Competitive Equilibrium
• In the long run, perfectly competitive firms produce a level of output such that
8‐35
Perfect Competition
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Chapter 8: Profit‐Maximizing Output Decision
• The firm must produce at a level at which MR = MC.
• For a competitive firm MR = P, thus to maximize profits the firm should produce the output at which P = MC.
• For a monopoly the rule is MR=MC
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Chapter 8: Monopoly (Pricing Rule)• Given the level of output, , that maximizes profits, the monopoly price is the price on the demand curve corresponding to the units produced:
8‐37
Monopoly
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Chapter 8: Monopolistic Competition• To maximize profits, a monopolistically competitive firm produces where its marginal revenue equals marginal cost.
• The profit‐maximizing price is the maximum price per unit that consumers are willing to pay for the profit‐maximizing level of output.
• The profit‐maximizing output, ∗, is such that ∗ ∗ and the profit‐maximizing price is ∗ ∗ .
8‐38
Monopolistic Competition
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Price
Quantity of Brand X
MC
∗
∗
ATC
Chapter 8: Long‐Run Monopolistically Competitive Equilibrium In Action
8‐39
Monopolistic Competition
Demand1
MR1
Long‐run monopolistically competitive equilibrium
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Chapter 8: Long‐Run and Monopolistic Competition• In the long run, monopolistically competitive firms produce a level of output such that:
••
8‐40
Monopolistic Competition
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Chapter 9: Basic Oligopoly
• Profit Maximization in Four Oligopoly Settings
• Cournot Model
•Stackelberg Model •Bertrand Model•Collusion
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Chapter 9• Different oligopoly scenarios give rise to different optimal strategies and different outcomes.
• Your optimal price and output depends on …• Beliefs about the reactions of rivals.• Your choice variable (P or Q) and the nature of the product market (differentiated or homogeneous products).
• Your ability to credibly commit prior to your rivals.
9‐42
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Chapter 10 Game Theory
• Game theory is the study of how people behave in strategic situations.
• Strategic decisions are those in which each person, in deciding what actions to take, must consider how others might respond to that action.
Copyright © 2014 by the McGraw‐Hill Companies, Inc. All rights reserved. 2‐43
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What is a Game?
• A game is a situation where the participants’ payoffs depend not only on their decisions, but also on their rivals’ decisions.i.e. My optimal decisions will depend on what others
do in the game.
Copyright © 2014 by the McGraw‐Hill Companies, Inc. All rights reserved. 2‐44
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Elements to describe a game
• A set of players• A set of actions‐ action or strategy set for each player• Payoffs – ranking of the possible outcomes
Copyright © 2014 by the McGraw‐Hill Companies, Inc. All rights reserved. 2‐45
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Forms
• Strategic Form (Normal Form)• Extensive Form (Game Tree)
Copyright © 2014 by the McGraw‐Hill Companies, Inc. All rights reserved. 2‐46
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Normal‐Form Game
10‐47
Simultaneous‐Move, One‐Shot Games
Player A
Player B
Strategy Left Right
Up 10, 20 15, 8
Down ‐10 , 7 10, 10
Set of players
Player A’s strategies
Player B’s strategies
Player A’s possible payoffs from strategy “down”
Player B’s possible payoffs from strategy “right”
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Extensive‐Form Game
10‐48
Multistage Games
B
B
A
10,15
5,50,0
6,20
Decision node for player Adenoting the beginning of the game
Player B’s decision nodes
Player A payoff Player B payoff
Player A feasible strategies:
Player B feasible strategies:
UpDown
Up, if player A plays Down and Down, if player A plays DownUp, if player A plays Up and Down, if player A plays Up
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Possible Strategies• Dominant strategy
• A strategy that results in the highest payoff to a player regardless of the opponent’s action.
• Nash equilibrium strategy• A condition describing a set of strategies in which no player can improve her
payoff by unilaterally changing her own strategy, given the other players’ strategies.
10‐49
Simultaneous‐Move, One‐Shot Games