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ECO 610-401

Monday, September 8

Course Outline Review of Supply and Demand Readings: Brickley et. al, Chapters 1-2,4:96-114; Hoyt, Lectures 1:1-10
Next Class (Monday, September 15)

Demand and Supply; Market Equilibrium (continued); Pricing with Market Power Readings

Brickley et. al, Chapters 4 & 7; Hoyt, Lectures 1:11-16-2:1-6

Course Description
From the University Bulletin, 2001-2002 (p. 216) "Analysis of applications of economic theory to management decision making. Such problems as demand and cost determination, pricing, and capital budgeting are treated." Narrow goal: Using the tools of economics, a number of business practices and strategies including pricing, cost determination, compensation, entry and exit, and output decisions. Broader goal: Acquaint the student with and help the student learn to use economic analysis in his or her professional, business pursuits.

Use of Tools of Economic Analysis


Most of you have been exposed to the use of graphical analysis in economics. Some of you might also have taken courses in which calculus and algebraic equations have been used extensively. In this course, some graphical analysis is used as are algebra and calculus but much less than most intermediate economics courses. My view: very unlikely that most of you will ever use these tools (graphs and calculus) to solve any problems you face in business, there is not a good reason to train you extensively in their use. Use graphical analysis and algebra examples only when I think they add to your understanding of an economic concept or principal. Use numerical examples and cases as an opportunity to see how an economic principal or tool can be applied to business decision-making. Exams and assignments will also be much more heavily weighted towards solving simple numerical examples or analyzing actual or hypothetical cases.

Reading and Text


The required text for the course is:

Brickley, James; Smith, Clifford; and Zimmerman, Jerold, Managerial Economics and Organizational Architecture, McGraw Hill Irwin, 2007, 4th Edition.
Additionally chapters from: Hoyt, William H. Lectures in Managerial Economics, 2008.

Lectures in Managerial Economics is an unpublished manuscript that will be available (by lecture) at the website. Material used in a number of sections of the course and complements the material in your text. Not a substitute for the lecture nor are they a verbatim summary of the lecture. Do not use them as a substitute for class or taking notes in class.

Grading and Assignments


Exams
2 during semester and 1 during Finals week Each exam is 20% of grade 3 during the semester 20% of grade Applying the economic concepts and principles discussed in the course to make a business decision. Frequently, the assignments are based on reading and analyzing a specific case. Several Problem solving 20% of grade Specific dates have not yet been determined.

Extended Assignments:

Homework:

Participation:

Important component of the course At the end of the term, I award bonuses for class participation. The maximum bonus is small, but can matter for your grade in borderline cases.

Exam and Assignment Schedule

Absences and Attendance

No explicit attendance policy for the course, but good attendance is important for doing well in the course. If you miss a class, it is your responsibility to obtain notes and other material from that class period (from some source other than me).
Most of this material will be on the website.

Make-up Exams

Students who have a University-excused absence for missing an exam may take a make-up. Arrangements for a make-up must be made with the instructor as soon as possible. Make-up for missed homework is allowed only in extraordinary circumstances.
Information on Grades

After the first 2 exams I shall calculate a grade distribution based on the scores of graded material up to that point

Grievance Procedure

Incorrectly added your points or have appeared not to see some material on the exam, simply bring it to my attention sometime outside of class. If you believe that your answer is correct and I have incorrectly interpreted or misunderstood it or my answer is incorrect, then I will ask you to make a written appeal. Homework assignments will not be regraded other than errors in totaling scores.
Cheating

Dont Cheat.
Tardiness

Tardiness is discouraged Try as much as possible to arrive on or before the class starts.

Classroom Behavior

No cellular telephones should be on or on vibrate Limit entrances and exits from room Extended discussions between students during lecture are very disruptive to the rest of the class No Classroom Computer Use
Office Hours

Encourage you to come to my office during office hours. If office hours are not convenient and you would like to talk to me, please make an appointment (e-mail is probably best) to schedule a meeting at a more convenient time. If you are having difficulty in the course, please come to see me as early as possible rather than waiting until a few days before the exam or, worse, after the exam.

The Determinants of Demand


Demand The relationship between the quantity of a good
desired by people in a market and the factors that affect that the quantity desired is referred to as the demand for the product. We can express the demand for a product in the form We have some precise definitions related to how income and prices of other goods affect the demand for a good.

Factors that we expect to affect the demand for the good include: Population (n) Price of the good (pi) Price of other goods (pj) Income (y) Expectations of future prices Tastes (T)

Substitutes and Complements


Two goods, x and y, are said to be substitutes if an increase in the price of x (y) increases the demand for good y (x) and a decrease in the price of x (y) decreases the demand for y (x). Two goods, x and y, are said to be complements if an increase in the price of x (y) decreases the demand for good y (x) and a decrease in the price of x (y) decreases the demand for y (x).

Income and Demand


A good is said to be normal if an increase (decrease) in income increases (decreases) the demand for the good. A good is said to be inferior if an increase (decrease) in income decreases (increases) the demand for a good.

The Demand Curve


The relationship between the quantity demanded of a good and the price of that good is referred to as the demand curve.

Figure 5
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Price ($)

0 0 10 20 30 40 50 Quantity 60 70 80 90 100

The demand curve gives the relationship between price and the quantity consumers will desire to purchase at that price.

Note the demand curve is drawn given that no other factors affecting the demand for the product, such as income, population, or tastes, change. Demand for the product is based on specific, unchanging values for the other factors that affect demand.

The Law of Demand


As the price of a good decreases (increases), more (less) of it will be purchased.
That is, the demand curve is downward sloping.

There are two factors that explain this relationship:


As the price of a good increases, consumers will substitute into other goods (substitution effect); .As the price of a good increases, consumers will have less real income to purchase all goods (income effect).

Changes in Demand versus Changes in Quantity Demanded


A movement along a demand curve is referred to as a change in quantity demanded. The quantity demanded changes because of a price change. A shift in the demand curve is referred to as a change in demand. Demand changes (the demand curve shifts) because of a change in one of the factors affecting demand other than price (income, price of other goods, tastes, population) changes.

Demand for steaks


D1 represents the demand for steaks (lbs/day) given the price of chicken is $3.50; the number of customers is 1,500 a day; and the average annual household income is $40 thousand. Then we might expect the following:
A decrease in demand for steak if the price of chicken, a substitute for steak, fell from $3.50 to $2.00. This is shown by a shift in of the demand curve from D1 to D2 An increase in demand for steak if the annual income increases from $40 to $60 thousand, since steak is a normal good. This is shown by a shift out of the demand curve from D1 to D3

Figure 6

D2
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D3
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Price ($/lb)

D1

D4
1

0 0 100 200 300 400 500 600 700 800 900 1000 1100 1200 1300 1400 1500 1600 1700 1800 1900 2000 Quantity (lbs of Steak/Day)

Figure 1
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Price ($)

0 0 10 20 30 40 50 Quantity 60 70 80 90 100

Algebraic Representation
The preceding figure that follows is given by QD = 100 - 10P Linear relationship we can graph by choosing two points. Easiest points: Q = 0 0 = 100 - 10P or P = 10, Q = 0 P = 0 implying Q = 100 - 10(0) = 100 and therefore P = 0, Q = 100 Slope, dQ/dP = -10

The Determinants of Supply


Number of Firms Price of Product Cost of inputs Wages Capital Materials Price of other goods Expectations of Future Prices Technology

The Supply Curve


The relationship between the quantity supplied of a good and the price of that good is referred to as the supply curve. The supply curve gives the relationship between price and the quantity produces will wish to sell at that price Note the supply curve is drawn given that no other factors affecting the supply for the product. Supply of the product is based on specific, unchanging values for the other factors that affect supply.

Figure 3

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0 0 10 20 30 40 50 Q 60 70 80

The Law of Supply


As the price of a good increases (decreases), more (less) of it will be produced and offered for sale. The supply curve is upward sloping.
This is explained by the assumption that marginal (incremental) cost increases as output increases.

Changes in Supply versus Changes in Quantity Supplied


A movement along a supply curve is referred to as a change in quantity supplied. The quantity supplied changes because of a price change. A shift in the supply curve is referred to as a change in supply. Supply changes (the supply curve shifts) because of a change in one of the factors affecting supply other than price changes.

Supply of Steaks
The supply curve represents the supply (lbs/day) given that there are 5 grocery stores and butchers are paid $12 an hour. Then we might expect the following: An increase in supply if another grocery store opens. This is shown by a shift in supply from S1 to S2. A decrease in supply if the wage rate for butchers increases from $12 an hour to $14 an hour. This is shown by a shift from S1 to S3.

Figure 4

5.5

4.5

3.5

S3 S2 S1

$
2.5 2 1.5 1 0.5 0 0 100 200 300 400 500 600

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Algebraic Representation of Supply


The algebraic representation of supply is analogous to that of demand. The supply curve depicted in Figure 3 is given by the equation Qs = -50 + 10P

Equilibrium
What do we mean by equilibrium price and quantity? At the equilibrium price, the quantity demanded by consumers is exactly equal to the quantity supplied by producers. Why do we care about equilibrium? Expected Prices Predictable Prices (can be modeled) Stable Prices

Figure 5

16 15 14 13 12 11 10 9 8 7 6 5 4 3 2 1 0 0 5 10 15 20 25 30 35 40 45 50 Q 55 60 65 70 75 80 85

S=-50+10P

D=100-10P

Algebraic Determination of Equilibrium


QD = 100 - 10P (Demand) QS = -50 + 10P (Supply) Equating QD = QS gives 100 - 10P = -50 + 10P 20P = 150 P = 7.50 Using the Demand equation we find Q Q = 100 10(7.50) = 25

Comparative Statics
What happens to Price & Quantity when: Incomes increase Wages fall Prices of other goods change Making predictions of the impact on the market of these types of changes is referred to as Comparative Statics

Comparative Statics (continued)


These changes are all changes in demand or changes in supply Shifts in demand or supply curve 4 possibilities: Increase in demand (shift out demand curve) Decrease in demand (shift in demand curve) Increase in supply (shift out supply curve) Decrease in supply (shift in supply curve)

Table 1: The Impact of Market Condition Changes on Equilibrium Price and Quantity Market Impact on Impact on Examples Change Equilibrium Equilibrium Price Quantity Increase in + + Increase in Income (normal Demand good); increase in price of substitute; decrease in price of complements; increase in population Decrease Opposite of increase in in Demand demand Increase in + Technological innovation; Supply increase in suppliers; decreases in costs Decrease + Increase in costs or wages; in Supply increase in price of alternative product produced by firms

Figure 6b: A Decrease in Demand


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Po
P

P'

Do

D'

0 0 -2 5 10 15 20 25 30 35 40 45 50 55 60 65 70 75 80 85 90 95 100

Q'
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Qo
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Figure 6c: An Increase in Supply


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Figure 6d: A Decrease in Supply


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Do

0 0 5 10 Q' 15 20 25 Qo 30 35 40 45 50 Q 55 60 65 70 75 80 85 90 95

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