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Economics
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The study of decision making in the context of scarcity.
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Managerial Economics
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How to direct scarce resources to satisfy a managerial goal (a manager directs their resources).
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6 Basic Principles for an Effective Manager
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1. Identify Goals and Constraints
2. Recognize Importance of Profits
3. Understand Incentives
4. Understand Markets
5. Understand Present Value (time value of money)
6. Understand (and use) Marginal Analysis
2. Recognize Importance of Profits
3. Understand Incentives
4. Understand Markets
5. Understand Present Value (time value of money)
6. Understand (and use) Marginal Analysis
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Economic Profits =
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Total Revenue - Opportunity Cost of Producing the Goods and Services
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Total Costs
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= Explicit Costs + Implicit Costs
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Explicit Cost
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Money costs, accounting costs
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Implicit Cost
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Cost of giving up the best alternative use of the resource.
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3 Types of Rivalry in Markets:
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- consumer/ producer rivalry
- consumer/ consumer rivalry
- producer/ producer rivalry
- consumer/ consumer rivalry
- producer/ producer rivalry
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Present Value:
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The amount that would need to be invested today at a given interest rate to generate a given future value.
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PV
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= FVn/ (1+i)^n
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Net Present Value
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= PV - Current Cost
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Average Profits
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= profits/quantity
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Marginal Profits (change in one unit)
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= Dprofits/Dquanitity
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If NPV < 0
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do not purchase/ invest
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Marginal Analysis
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decisions are made based on incremental changes
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Where marginal value changes from positive to negative
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Marginal Max
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When the first derivative of a function equals zero
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The function is maximized/minimized
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When the second derivative is negative
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A maximum is reached
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When the second derivative is positive
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A minimum is reached
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Demand
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The various quantities of a specific good that consumers are willing and able to purchase at various prices
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Things Affecting Demand
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Own Price, Y (income), Tastes, Price of Related Goods, Expectations about the Future, Market "size", Advertising... Everything except for price are ceterus paribus conditions.
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Law of Demand
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An increase in price causes a decrease in demand (inverses relationship).
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An increase in Y (income) causes an increase in demand
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Normal Good
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An increase in Y (income) causes a decrease in demand
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Inferior good (ex. ramen, paper plates)
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Substitutes
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Goods used as alternatives. An increase in price of a good causes an increase in demand of its substitute. Ex. An increase in the price of hot dogs causes the demand for hamburgers to increase.
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Compliments
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Goods used together as a package. An increase in price of a good causes a decrease in demand of its compliment. Ex. An increase in price for hamburger buns will cause a decrease in demand for hamburgers.
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Advertising
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Informational: designed to provide consumers with info about the product. Promotional: designed to get consumers to buy your product instead of someone else's.
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Ceterus Paribus Conditions
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Held constant along any given demand curve.
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If "P" (price) changes:
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We move ALONG an unshifted demand and supply curve... there's an increase or decrease in quantity demanded/supplied.
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If a ceterus paribus condition changes:
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The entire demand/supply curve moves... there is an increase or decrease in demand/supply.
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Adding demand/supply curves
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You can only add Q=f(P) curves, not inverse demand/supply curves (ex. p=5+8Q... you must first get it into Q= f(P) form).
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Consumer Surplus
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The difference between what a consumer would have been willing to pay and what she actually paid for the good (area under the demand curve and above p*).
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Supply
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The various quantities of a specific good that producers are willing and able to sell at various prices.
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Things Affecting Supply
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Own price, Price of inputs, # of producers, Expectations, Weather, Technology (all but "own price" are ceterus paribus conditions).
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Producer Surplus
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The difference between what a producer is willing to sell a good for and the price the producer receives for that good. The area under p* and above supply. PRODUCER SURPLUS DOES NOT EQUAL PROFITS.
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Market Equilibrium
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Mutually beneficial and voluntary exchange where the quantity demanded and quantity supplied are in agreement at a given price.
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Government Intervention in Markets
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Price controls, taxes and subsidies
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Price Controls
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Price ceiling: government imposed maximum price (usually there is a shortage due to price ceiling).
Price floor: minimum legal price that can be charged in a market (usually there is a surplus due to a price floor).
Price floor: minimum legal price that can be charged in a market (usually there is a surplus due to a price floor).
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Tax
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A government policy which (typically) increases the price to consumers, decreases the price to producers, and is designed to curtail behavior. 2 types of taxes in the market: quantity (excise) tax and ad valor em tax.
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Under a quantity tax
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The amount of tax is fixed, regardless of a good's price. Pc= Pp+t
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Consumer Burden/Incidence
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Fraction of the governments revenue from a tax that is due to the increase in price consumers pay.
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Under Ad Valor Em Tax
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Causes a pivot in demand/supply (the demand curve does not actually shift). Pc=Pp (1+t)
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Subsidies
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A government policy that (typically) results in a decrease in the price consumers pay and an increase in price producers pay to promote behavior. Pc= Pp-s
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Elasticities
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Shows the percent change in one variable from a given percent change in another variable.
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Own Price Elasticity of Demand
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= % change in Q/ % change in P. Shows a % change in quantity demanded from a given % change in price of the good. Derivative= change in Q/ change in P x P/Q.
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If Price Elasticity of Demand is less than or = 0
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Due to the law of demand, an increase in price leads to a decrease in quantity, and a decrease in price leads to an increase in quantity (but we always discuss price elasticity of demand in absolute value terms).
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If the absolute value of price elasticity is greater than 1
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Demand is elastic: % change in Q > % change in P. An increase in price leads to a decrease in quantity and a decrease in TR. A decrease in price leads to an increase in quantity and an increase in TR.
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If the absolute value of price elasticity is less than 1
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Demand is inelastic: the % change in Q is < the %change in P
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If the absolute value of price elasticity is = 1
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Demand is unit elastic: the % change in Q = the % change in P
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Range of price elasticity
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0 - negative infinity. If price elasticity = 0, then it is perfectly inelastic. If price elasticity = negative infinity, then it is perfectly elastic.
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Total Revenue
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P x Q. Per unit price times the number of units sold. Maximum TR is when MR=0
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Marginal Revenue
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Equal to dTR/dQ. The additional revenue earned from selling one more unit (producing 1 more unit and selling it).
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Income Elasticity of Demand
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% change in Q/ % change in Y (income)... change in Q/ change in Y times Y/Q. Shows the percent change in demand for a good from a given percent change in consumers income.
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If income elasticity of demand>0
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normal good
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If income elasticity of demand<0
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inferior good
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if income elasticity of demand >1
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luxury good
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Cross Price Elasticities of Demand
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%change Qx/%change Pz. Shows the percent change in the demand for one good from a given percent change in the price of another good
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if cross price elasticity of demand>0
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substitutes
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if cross price elasticities of demand<0
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compliments
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Elasticity of Supply
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% change in Qs/%change in P. Shows the percent change in quantity supplied from a given percent change in the price of the good.
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