2009  Nobel Prize in Economics

 

Oliver Willamson and Elinor Ostrom will share the sum of 1.4 million dollars or 10 million Swedish kronor as they have been jointly honored as the recipient of 2009 Nobel Prize in the field of Economics. The Nobel Prize Committee has honored the two economists of the United States for their outstanding achievement in their respective fields.

In a speech, the Royal Swedish Academy of Sciences in Stockholm, stated that Elinor Ostrom has given the demonstration on the ways by which the associations can make use of the common property. Referring to Oliver Willamson’s works, the Academy stated he has, “developed a theory where business firms serve as structures for conflict resolution.” Nobel laureate Elinor Ostrom and Oliver E. Williamson will now share the stand with other world famous economists who had received the Nobel Prize in the past years. Oliver E. Williamson was a professor at California Berkley University. The other recipient of the same award Elinor Ostrom is a professor of Indiana University.

 

 

Read A. Dixit on Paul Krugman (2008 winner of the Nobel Prize): http://www.voxeu.org/index.php?q=node/2463

 

 

 

Session1: (10.9.09)

 

KEY CONCEPTS

 

 

 

managerial economics as a quantitative social science (measurement matters)       the rhetoric of economics         microeconomics vs.     macroeconomics scarcity constrained optimization choice and opportunity cost (there are no free lunches) households, firms, and industry markets   market power and imperfect markets	equilibrium analysis vertical boundaries horizontal boundaries       government intervention
economic model building: the roadmap analogy endogenous and exogenous variables (dependent and independent variables)
marginal value,
average value
ceteris paribus (other things equal)

 

 

(Managerial) Economics is the science of directing scarce resources to manage cost effectively.

It consists of three branches: competitive markets, market power, and imperfect markets.

A market consists of buyers and sellers that communicate with each other for voluntary exchange. 

 

A seller with market power will have freedom to choose suppliers, set prices, and use advertising to influence demand. A market is imperfect when one party directly conveys a benefit or cost to others, or when one party has better information than others.

 

 

 

An organization must decide its vertical and horizontal boundaries.  For effective management, it is important to distinguish marginal from average values, stocks from flows, and to consider the timing of actions. 

 

Managerial economics applies models that are necessarily less than completely realistic. Typically, a model focuses on one issue, holding other things equal.

 

 

You can read Alfred Marshall's original 1890-version of "Principles of Economics" online: http://www.econlib.org/library/Marshall/marP.html

 

Here is an excerpt from A. Marshall's "Introduction" to his "Principles" on the usefulness of math and diagrams: 

 

"Under the guidance of Cournot, and in a less degree of von Thünen, I was led to attach great importance to the fact that our observations of nature, in the moral as in the physical world, relate not so much to aggregate quantities, as to increments of quantities, and that in particular the demand for a thing is a continuous function, of which the "marginal^*2" increment is, in stable equilibrium, balanced against the corresponding increment of its cost of production. It is not easy to get a clear full view of continuity in this aspect without the aid either of mathematical symbols or of diagrams. The use of the latter requires no special knowledge, and they often express the conditions of economic life more accurately, as well as more easily, than do mathematical symbols; and therefore they have been applied as supplementary illustrations in the footnotes of the present volume. The argument in the text is never dependent on them; and they may be omitted; but experience seems to show that they give a firmer grasp of many important principles than can be got without their aid; and that there are many problems of pure theory, which no one who has once learnt to use diagrams will willingly handle in any other way."

 

 

Session 2: (10.9.09)

 

Basic analysis of Competition: The structure-conduct-performance (SCP) paradigm

(J. S. Bain's and F. M. Scherer's impact)

 

Definition of market structures (Perfect Competition, Monopolistic Competition, Oligopoly, Monopoly)

 

The coffee-lovers should read this example on the workings of markets (The Starbucks Economics) by Tim Harford: http://www.slate.com/toolbar.aspx?action=print&id=2133754 (also interesting for some tea-addicted students from China!)

 

The concept of the Learning Curve: Learning Curve.doc

 

Recommended reading: "Competition and Business Strategy in Historical Perspective", HBS 9-798-010, reprinted in: "Competitive Strategy", HBS Business Fundamentals Nr. 1520, Boston 2002, pp. 1-32

 

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Session 3: (14.9.09)

 

 

 

Causes of Market Structure: The “Basic Conditions” of Demand and Supply Revisited 

 

Market Demand and Supply:

 

Perfect Competition; Construction of D and S curves; Slope; Law of Demand; Demand Schedule; Demand and Income; Income Changes; Normal vs. Inferior Goods; (see for "inferior goods": "Mobile Telephony: Pre-paid vis-à-vis Post-paid: Pre-paid service caters to different market segments from contract (also called “post-paid”) service. The pre-paid customer segments include people that the service provider would consider a bad risk for contract service – those without a regular high income, migrant workers, and travelers. To the extent that it caters to customers with relatively lower income, pre-paid service is an inferior product. As incomes rise, users would upgrade from pre-paid to contract service. In this regard, the demand for pre-paid service is similar to that for paging service. Paging service is an inferior good. Worldwide, as incomes have risen, consumers have switched from paging to mobile telephone service. Consumers have also switched because the price of mobile telephone service has fallen."Oth er Factors in Demand; Complements and Substitutes; Advertising; Durable Goods.

 

Market Demand: Horizontal summation of individual demand curves

 

Supply Curves: Construction and Discussion, law of supply, supply schedule, supply curve

 

Market Equilibrium: bringing demand and supply together

 

How to calculate Equilibrium Price and Quantity

 

Shift in demand vs. movement along the demand curve

 

Shift in demand, shifts in supply, simultaneous shifts of both supply and demand curves

 

Comparative Statics

 

 

 

Exercises: I will use practical examples and discuss problems in class (during my lecture)

For your own practice you can solve problems from ch. 2 (see also "Problems and Discussion Questions" on my website).

 

 

Workings of the price mechanism

 

For the olive oil growers of Spain falling prices are threatening their very existence. They claim that the supermarkets - who sell 9 out of every 10 bottles - have used their market muscle to drive down the retail price and the growers are barely able to justify continuing production. This is a good short video on the workings of the price mechanism. (source: tutor2u)

 

 

 

Session 4: (14.9.09)

 

 

We shall study the important concept of elasticities (price elasticity of demand and supply):

 

"The elasticity of demand measures the responsiveness of demand to changes in a factor that affects demand.  Elasticities can be estimated for price, income, prices of related products, and advertising expenditures.  The own-price elasticity is the ratio of the percentage change in quantity demanded to the percentage change in price, and is a negative number.  Demand is price elastic if a 1% increase in price leads to more than a 1% drop in quantity demanded, and inelastic if it leads to less than a 1% drop in quantity demanded. 

The own-price elasticity can be used to forecast the effects of price changes on quantity demanded and buyer expenditure.  Elasticities can be used to forecast the effects on demand of simultaneous changes in multiple factors.  All elasticities vary with adjustment time.  The long-run demand is generally more elastic than the short-run demand in the case of nondurables, but not necessarily for durables."(P./L.) 

 

Teaching Program:

 

Elasticities of demand on a market-level and on a brand-level

Other elasticities: Income elasticity of demand, cross-price elasticity of demand

Examples from Ch. 1 in Adams/Brock, The Structure of American Industry, 9th ed. 2001

P-elasticity of supply

Elasticities in the short- and in the long-run

How to derive a linear demand curve (such as the one we used in other examples: Q = a - bP) with a minimum of information available!

 

Session 5: (21.9.09)

 

NEW CLASS DATES IN OCTOBER! I HAVE UPDATED THE SYLLABUS - PLEASE CHECK IT OUT!

 

I shall go through some problems (in-class practice) on Demand/Supply analysis and on the price elasticity of demand.

 

 

 

Session 6: (21.9.09)

 

Consumers, Demand, Utility and Relative Prices

 

Production Theory: Introduction

 

 

 

 

 

Session 7 (28.9.2009): 

 

NEW: Production and Cost Analysis in the Short Run

 

Production  with one variable input - average product, marginal product and total product

 

From production theory to cost theory

 

 

Read Ch. 5 in the textbook

 

 

 

Session 8 (28.9.2009):

 

Read ch. 5 in our textbook

 

Model of short-run cost functions

 

Fixed and Variable Costs in the Long Run; Marginal and Average Costs;

Opportunity Cost: Alternative Courses of Action

 

Example: Sony (A. Morita; H. Ford); Intel; Cost-Value-Price logic

 

 

Read ch. 6 in our textbook (up to p. 181)

Cost Analysis in the long-run

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There will be no class on Oct. 5! 

 

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Sessions 9 and 10 (Oct. 12, 2009):

 

First, we finish our discussion of "costs of production" - the concept of "economic cost";

 

the shape of the cost curves;

 

some remarks on sunk cost;

 

the importance of opportunity cost for determining "economic profits";

 

Accounting profits vs. economic profits.

 

 

The Economics of Competition and Monopoly

 

The Model of Perfect Competition:

 

Necessary Conditions (Homogeneous Product; Many Buyers and Sellers; Free Entry and Exit; Equal Information)

 

Revenue and Costs under Perfect Competition: Finding the profit maximum.

 

Supply curve (MC curve)

 

When should a firm shut down? When exit a market?

 

 

Read ch. 7 in our textbook (up to p. 203) 

 

 

 

Session 11 (Oct. 19, 2009):

 

 

 

Multiple Choice Quiz 60 Questions (90 Minutes): 

subject areas: Demand, Supply, Elasticity, Production Theory, Cost Theory

 

 

Session 12 (Oct. 19, 2009): 

 

Monopoly and Monopoly Pricing 

Read ch. 8 in our textbook

 

The Meaning of Monopoly: Sources of Market Power

 

Monopoly Pricing: Revenue; Costs; Profit-Maximization; Demand and Cost Changes; Planning Horizon; the inefficiency of monopoly pricing.

 

Market Structure-Effects of Restricted Competition; Price-Cost Margin 

 

Read:Economics focus Slackers or pace-setters Economist_com.htm 

 

 

 

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Sessions 13 and 14 (Nov. 2, 2009)

 

 

Session 1: We continue with the discussion of monopoly:

 

 

Monopoly Pricing: Revenue; Costs; Profit-Maximization; Demand and Cost Changes; Planning Horizon; the inefficiency of monopoly pricing.

 

Market Structure-Effects of Restricted Competition; Price-Cost Margin 

 

Read:Economics focus Slackers or pace-setters Economist_com.htm 

 

Session 2: Multiple Choice Quiz 2 Time: 90 minutes Subject areas: Market Structures: Perfect Competition

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 Sessions 15 and 16 (Nov. 9, 2009)

 

Remarks on Monopoly and Imperfect Competition (incl. Price Discrimination)

 

Read this on MONOPOLIES IN JAPAN:

 

An article in The Economist (Nov. 5, 2009) reports about a cluster of mid-sized Japanese manufacturers who continue to enjoy near pure-monopoly power in highly specific, high value-added businesses. Decades of industry expertise and reinvesting profit to fund high levels of research and innovation continue to give these companies a remarkable competitive strength in the market. The barriers to entry for rival manufacturers are very high and this helps to explain the limited contestability in the global marketplace.

 

For example: Shimano earns around $1.5 billion a year by supplying 60-70% of the world’s bicycle gears and brakes, YKK makes around half the world’s zip fasteners by value, 75% of motors for hard-disk drives in computers come from a firm called Nidec, 90% of the micro-motors used to adjust the rear-view mirror in every car are made by Mabuchi “Many technology products have become commodities, but certain components have not, since they require continual innovation. So entry barriers to the business of making them remain high, and although the margins on the final goods have deteriorated, the margins on specialised, high-end components are still juicy."

 

Read: http://www.economist.com/displaystory.cfm?story_id=14793432 

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Industry Analysis

 

How to perform a “Five-Forces” Analysis = how to assess the current status and the likely evolution of an industry.

 

Many factors determine the nature of competition, including not only rivals, but also the economics of particular industries, new entrants, the

bargaining power of customers and suppliers, and the threat of substitute services or products. A strategic plan of action based on this might include: positioning the company so that its capabilities provide the best defense against the competitive forces; influencing the balance of

forces through strategic moves; and anticipating shifts in the factors underlying competitive forces.

The “Five Forces” in detail:  

Factors affecting  Rivalry among existing competitors

Factors affecting the threat of entry

Factors affecting or reflecting pressure from Substitutes and support from Complements

Factors affecting or reflecting power of input Suppliers

Factors affecting or reflecting power of Buyers

 

 

Read: Böbel (2009), Porter(1979), Porter (2008) (see syllabus for detailed sources)

 

This streamed revision presentation provides an overview of Porter’s Five Forces Model of industry analysis. (source: tutor2u)

 

 

 

 

 Sessions 17 and 18 (Nov. 16, 2009)

 

Remarks on the "History of the PC industry"

Discussion of the "Intel"-case.

Go through the assignment questions.

 

Read: Intel Case (HBS case)

 

We shall continue our discussion of strategy and clustering in the context of the Intel case (US vs. Japan: Who wins? Who loses? Does location matter?)

 

Read Michael Porter's Business Week article (Nov. 10, 2008) "Why America needs an economic strategy".

 

 

Additional recommended reading: "A gathering storm" - Innovation in America, The Economist, Nov. 20, 2008

 

 

 Sessions 19 and 20 (Nov. 23, 2009)

 

Competition as an evolutionary process: the "Diamond Model"

 

The Microeconomics of Competitiveness-Approach (read: Bobel, 2009)

 

 

Revision for Final Exam: Solving of some numerical problems

 

 

THE FINAL EXAM WILL TAKE PLACE during Nov. 30-Dec. 4, 2009: Time and Location TBD