Test 1 Review - MyWeb | Solutions | IT Help Central | TTU 2015/2016_summe… · Test 1 Review • 35 multiple ... – is the value of any other variable affecting demand. 2‐11 Demand

Test 1 Review

• 35 multiple choice questions

Test 1

• Orange Scantron, Pencil, Caculator, ID (R number)

• Suggestions: Notes, handouts and HW

• Chapter 1, 2 and 3

Chapter 1

• How do accounting profits and economic profits differ?

• Given a control variable, , of a managerial objective, denote the – total benefit as .– total cost as .

• Manager’s objective is to maximize net benefits:

1‐4

Economics of Effective Management

Marginal Analysis

• 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:

1‐5


Using Marginal Analysis

Marginal Principle II• Marginal principle (calculus alternative)

– Slope of a continuous function is the derivative, or marginal value, of that function:

1‐6


Marginal Analysis In Action• It is estimated that the benefit and cost structure of a firm is:

• What value of makes zero?

1‐7


Chapter 2

Demand• Market demand curve• Law of demand• Changes in quantity demanded V.S change in demand

Changes in Demand

2‐9

Quantity0

Price

D1

Increase in

demand

Demand

A

B

D0D2

Decrease in

demand

Demand Shifters• Income

– Normal good– Inferior good

• Prices of related goods– Substitute goods– Complement goods

• Advertising and consumer tastes– Informative advertising– Persuasive advertising

• Population• Consumer expectations• Other factors

2‐10

Demand

• One simple, but useful, representation of a demand function is the linear demand function:

, where:– is the number of units of good X demanded;– is the price of good X;– is the price of a related good Y;– is income;– is the value of any other variable affecting demand.

2‐11

Demand

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:– by the law of demand;– if good Y is a substitute for good X;– if good X is an inferior good.

2‐12

Demand

Understanding the Linear Demand Function

• Suppose that an economic consultant for X Corp. recently provided the firm’s marketing manager with this estimate of the demand function for the firm’s product:

Question: Are goods X and Y substitutes or complements? Is good X a normal or an inferior good?

Answer: Goods X and Y are substitutes. Good X is an inferior good.

2‐13

Demand

The Linear Demand Function in Action

Inverse Demand Function

• The linear demand function is

Solving this for in terms of results in

, which is called the inverse demand function. This function is used to construct a market demand curve.

2‐14

Demand

Graphing the Inverse Demand Function in Action

2‐15

Quantity

Price

2,02013

$2,020

0 6,060

Demand

• Market supply curve • Law of supply• Changes in quantity supplied v.s change in supply

2‐16

SupplySupply

2‐17

Change in Supply in Action

Quantity

Price

S2

0

Decrease in supply

Supply

A

B

S0S1

Increase in supply

• Input prices• Technology or government regulation• Number of firms

– Entry– Exit

• Substitutes in production• Taxes

– Excise tax– Ad valorem tax

• Producer expectations

2‐18

Supply

Supply Shifters

The Linear Supply Function• One simple, but useful, representation of a supply function is the linear supply function:

, where:– is the number of units of good X produced;– is the price of good X;– is the price of an input;– is price of technologically related goods;– is the value of any other variable affecting supply.

2‐19

Supply

• The signs and magnitude of the coefficients determine the impact of each variable on the number of units of X produced.

• For example:– by the law of supply.– increasing input price.– technology lowers the cost of producing good X.

2‐20

Supply

Understanding the Linear Supply Function

Inverse Supply Function• The linear supply function:

Solving this for in terms of results in

, which is called the inverse supply function. This function is used to construct a market supply curve.

2‐21

Supply

2‐22

Quantity

Price Supply

0

Demand

Surplus

Shortage

Market Equilibrium

Market Equilibrium I

• Consider a market with demand and supply functions, respectively, as

and • A competitive market equilibrium exists at a price, , such that . That is,

and units

2‐23

Market Equilibrium IIMarket Equilibrium

• In a competitive market equilibrium, price and quantity freely adjust to the forces of demand and supply.

• Sometimes the government restricts how much prices are permitted to rise or fall. – Price ceiling– Price floor

2‐24

Price Restrictions and Market Equilibrium

Price Restrictions


and • Suppose a $1.50 price ceiling is imposed on the market. – units.– units.– Since a shortage of units exists.– Full economic price of unit is , or

. Of this, • $1.50 is the dollar price• $1 is the nonpecuniary price

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Price Ceiling in Action II


and • Suppose a $4 price floor is imposed on the market. – units– units– Since a surplus of units exists

– The cost to the government of purchasing the surplus is .

2‐26


Price Floor in Action II

• Increase in demand only– Increase equilibrium price– Increase equilibrium quantity

• Decrease in demand only– Decrease equilibrium price– Decrease equilibrium quantity

• Example of change in demand – Suppose that consumer incomes are projected to increase 2.5% and the number of individuals over 25 years of age will reach an all time high by the end of next year. What is the impact on the rental car market?

2‐27

Changes in DemandComparative Statics

• Increase in supply only– Decrease equilibrium price– Increase equilibrium quantity

• Decrease in supply only– Increase equilibrium price– Decrease equilibrium quantity

• Example of change in supply– Suppose that a bill before Congress would require all employers to provide health care to their workers. What is the impact on retail markets?

2‐28

Changes in SupplyComparative Statics

• Suppose that simultaneously the following events occur:– an earthquake hit Kobe, Japan and decreased the supply of fermented rice used to make sake wine.

– the stress caused by the earthquake led many to increase their demand for sake, and other alcoholic beverages.

• What is the combined impact on Japan’s sake market?

2‐29

Comparative Statics

Simultaneous Shifts in Supply and Demand

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.

,

– Sign: negative by law of demand.– Magnitude of absolute value relative to unity:

• , 1: Elastic.

• , 1: Inelastic.

• , 1: Unitary elastic.

3‐30

Own Price Elasticity of Demand

Extreme Elasticities

3‐31

Quantity

DemandPrice

Perfectly Inelastic

, 0

Demand

, ∞

Perfectly elastic


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.

3‐32


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.

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Demand and Marginal Revenue

3‐34

Quantity0

MR

3

Price

6

Demand


1

6

Unitary

Marginal Revenue (MR)

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.

,

– If , , then and are substitutes.

– If , , then and are complements.

3‐35

Cross‐Price Elasticity

Income Elasticity• Income elasticity

– Measures responsiveness of a percent change in demand for good X due to a percent change in income.

,

– If , , then is a normal good.

– If , , then is an inferior good.

3‐36

Income Elasticity

Other Elasticities• Own advertising elasticity of demand for good X is the ratio of the percentage change in the consumption of X to the percentage change in advertising spent on X.

• Cross‐advertising elasticity between goods X and Y would measure the percentage change in the consumption of X that results from a 1 percent change in advertising toward Y.

3‐37

Other Elasticities

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: .

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Obtaining Elasticities From Demand Functions

Elasticities for Linear Demand Functions In Action• The daily demand for Invigorated PED shoes is estimated to

be 100 3 4 0.01 2

Suppose good X sells at $25 a pair, good Y sells at $35, the company utilizes 50 units of advertising, and average consumer income is $20,000. Calculate the own price, cross‐price and income elasticities of demand.– 100 3 $25 4 $35 0.01 $20,000 2 5065 units.

– Own price elasticity: 3 1.15.

– Cross‐price elasticity: 4 2.15.

– Income elasticity: 0.01 , 3.08.

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Elasticities for Nonlinear Demand Functions• One non‐linear demand function is the log‐linear demand function:

– Own price elasticity: .– Cross price elasticity: .– Income elasticity: .

3‐40


Elasticities for Nonlinear Demand FunctionsIn Action

• An analyst for a major apparel company estimates that the demand for its raincoats is given by

where denotes the daily amount of rainfall and the level of advertising on good Y. What would be the impact on demand of a 10 percent increase in the daily amount of rainfall?

, . So, ,%∆%∆

%∆ .

A 10 percent increase in rainfall will lead to a 30 percent increase in the demand for raincoats.

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Test 1 Review - MyWeb | Solutions | IT Help Central | TTU 2015/2016_summe… · Test 1 Review • 35 multiple ... – is the value of any other variable affecting demand. 2‐11 Demand