bsp1005_01- introduction to managerial economics
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INTRODUCTION TO
MANAGERIAL ECONOMICS
Dr. Gong Jie
National University of Singapore
Why Do We Study Economics?
People have to “Choose”.
♦ Resources are scarce.
♦ There is No Such Thing as Free Lunch!
Economics: the science of Rational Choice
♦ Rationality: the basic assumption
♦ Rational Choice: Economic agents use all the information
available to make decisions that most efficiently satisfy their
needs and achieve stated objectives.
♦ How do people make rational choice? This is the subject of
Economics!
Paul A. Samuelson’s definition of Economics
“Economics is the study of how men and society
choose, with or without the use of money, to employ
scarce productive resources, which could have
alternative uses, to produce various commodities over
time and distribute them for consumption, now and in
the future, among various people and groups in
society.”
Managerial Economics
Economics
♦ Micro: individual decision maker (consumers, households,
workers, firms, etc.)
♦ Marco: aggregate level
Managerial Economics
♦ The study of making decisions in allocating scarce resources to
achieve a managerial objective
♦ The application of microeconomics on effective management
♦ Managerial Economics helps managers make rational choice.
♦ Manager in “narrow” sense and in “broad” sense
After completing BSP1005, you will be able to:
♦ Thoroughly understand the function of market mechanisms
and the interaction among economic agents
♦ Understand how the interplay between cost and demand
fundamentals shape the prices that prevail in a market
♦ Master key concepts and principles of the basic market
structures
♦ Develop a set of tools to make qualitative and quantitative
analysis of real-world economic issues
Course Road Map
Managerial Economics
Determination of Prices
Demand and Supply
Consumer Theory
Producer Theory
Market Structure & Profit-Maximizing Pricing Decisions
Competitive Markets
Market Power & Monopoly
Pricing with Market Power
Game Theory&
Oligopoly Markets
Simultaneous-Move Game
Sequential-Move Game
Class Preparation
Class participation: NO WEBCAST
Course readings
Microeconomics, by Bensako and Braeutigam
Managerial Economics, by Png: optional
Assignments
Problems Sets
Presentation
Tutorial
Practice questions and selective homework problems
15-min group presentation
Tutorials
Tutorials start from week 3
♦ No tutorial in recess week
Practice problems will be assigned after each lecture
♦ Solutions to practice problems discussed in tutorials
♦ Written solutions will be posted on IVLE.
Presentation
♦ Each group presents once.
♦ The groups and topics will be announced at first tutorial
class.
Grading
Final exam
60 percent
Presentation
25 percent
Homework Problem Sets
15 percent
• Two sets of individual homework
• Due at the beginning of the
designated tutorial
• Group project
• 15-min presentation in tutorial
• Schedule to be announced in
IVLE & first tutorial
• Monday, 24 Nov
• Closed-book, covering all lecture
materials throughout the course
Important Dates and Times
Tuesdays, 2:00-3:30pm
♦ Office hours
Week 3 (25-29 Aug)
♦ First tutorial
Recess Week (20-28 Sep)
♦ no class
Deepavali (22 Oct)
♦ no class on 21&22 Oct. Tutorials meet as usual.
Monday, 24 Nov
♦ Final Exam
Mathematics Required
A Few More Things
Enrollment Matters
♦ Enrolling in module and tutorial sessions should be
addressed directly to BBA office.
Classroom Etiquette
♦ Be on time to class
♦ Switch off your cell phone
♦ No side conversations
♦ Laptops allowed ONLY for learning activities
Agenda
Essence of Economic Modeling
Opportunity cost
Economic models
Exogenous and endogenous variables
MARGINAL thinking!
How Do People Make Rational Choice?
People respond to Incentives.
♦ Incentives: carrots (benefits) and sticks (costs)
People make decisions by weighing benefits against costs.
♦ How do we measure benefits:
How much one is willing to sacrifice
♦ What is cost:
Economists are concerned about opportunity cost.
You should always have in mind your next best options.
Benefits of Studying Economics?
Tools that will better equip you to make choices
♦ How to quantify?
♦ How much are you willing to sacrifice in order to learn
economics?
An econ major may make you richer!
♦ Econ majors earn almost 20% more than degree-earners in
other social sciences.
♦ Among law school or MBA graduates, those who studies
econ as undergrads earn 35% more.
What is Opportunity Cost?
The value of the next-best alternative that is foregone
by the decision-maker
♦ Cost of purchasing a new car=price of the car+ return that
you would have earned from keeping the money
♦ Labor cost of your own business=wage paid to others +
what you could earn on the outside
♦ Cost of using your own building for office space=0?
Rental revenue!
What is your cost if you join NUS full-time MBA
Program?
Explicit Cost
♦ Tuition
♦ Textbooks
♦ Meal?
Is that all?
What is the cost if you run you own
restaurant?
Suppose that you own a house on Orchard Road, and you decide to run a restaurant, your total cost would include:
Explicit Cost: Implicit Cost
Models are simplifications, like maps.
Resemble reality
Abstract from the rich details
Help understand the fundamental forces
Economic Modeling
First, there is a goal.
♦ Basic managerial objective: to maximize net benefits
Net Benefits = Total Benefits - Total Costs
Profits = Revenue - Costs
♦ Objective function: functional relationship between the
value of the goal, and the values of variables.
Second, there is a set of options taken to achieve the
goal:
♦ How much of the variable should be used to maximize net
benefits?
Decision making has two components
Endogenous vs Exogenous Variables
Exogenous variables: Variables that have values that
are taken as given in the model.
Endogenous variables: Variables whose value is
determined within the model being studied.
Analyze the business of a lemonade stand:
Exogenous Endogenous
Find the optimal choice:
Marginal (Incremental) Analysis
Marginal Benefits (MB): Change in total benefits
arising from a unit change in the endogenous
variable, Q.
Marginal Costs (MC): Change in total costs arising
from a unit change in the endogenous variable, Q.
Example
Q Benefits MB Costs MC Net Benefits
0 0 0 0 0 0
1 30 6
2 48 14
3 60 24
4 64 40
30
18
12
4
6
8
10
16
24
34
36
24
Marginal Principle
MB > MC means the last unit of the endogenous
variable increased benefits more than it increased
costs.
MB < MC means the last unit of the endogenous
variable increased costs more than it increased
benefits.
To maximize net benefits, the managerial
control(endogenous) variable should be increased
up to the point where MB = MC.
Marginal Benefit (MB) for
Continuous Variable
Marginal Benefit from an infinitely small change in
the endogenous variable, Q:
Slope (calculus derivative) of the total benefit curve
Q
BMB
Δ
Δ=
Marginal Cost (MC) for
Continuous Variable
Marginal cost from an infinitely small change in the
endogenous variable, Q:
Slope (calculus derivative) of the total cost curve
Q
CMC
Δ
Δ=
The Geometry of Optimization
Q
Total Benefits
& Total Costs Benefits
Costs
Q*
B
C Slope = MC
Slope =MB
Economics of Effective Management
Identify objective and constraints
Objective: Specify what the economic agent cares about
Constraints: Whatever limits are placed on the resources
available to the agent
Economic modeling
Agent’s behavior can be modeled as optimizing the
objective function, subject to his various constraints.
Takeaway
Make sure that you include all costs(opportunity
cost) and benefits when making decisions.
Optimal economic decisions are made at the
margin (marginal analysis).
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