Welcome To Economics 315 Price System and resource Allocation

1. Welcome To Economics 315 Price System and resource Allocation

2. Instructor: Morteza RahmatianOffice: LH 717Phone: (714) 278-3859E-mail: mrahmatian@fullerton.eduWeb Page: Business.fullerton.edu/mrahmatian/ • Office Hours: • T and Th: 2:30 - 4:00 • Or by appointment

3. Managerial Economics: Definition: It is the application of the tools of economic theory and decision sciences to see how a firm or organization can achieve its aims and objectives most efficiently.

4. Management Economic Theory Decision Sciences a. Microeconomics b. Macroeconomics a. Mathematical Economics b. Econometrics Managerial Economics Optimal Solutions

5. Seven examples of Managerial Decisions

6. 1. Pricing PoliciesA firm can produce and sell a product in different market (local or abroad).Many factors including, price, cost, profit and market share must be taken into consideration.

7. 2. 1987 Walt Disney Co. Signed $2 billion contract to built Euro Disney in France. Factors to consider: • Forecasting • Weather • Cost • Customer service • life style

8. 3. Research and DevelopmentTwo choices • Enhance and improve existing products. (i.e. new and improved Tylenol) • Take a chance on creating a new product. (i.e. drug to cure AIDS)

9. 4. 1985 Time Inc. magazine • Approved to develop and test a new all picture magazine. • 100 personnel using 15 million testing the magazine over 13 markets. • 1986 Time Inc. decided against it. • Launching such magazine would have cost $ 100 millions.

10. 5. 1970 Canon Inc. wanted to enter copying with Xerox Corp. having 75% of the market world wide. • Imitate and improve, risking possible patent suits. • Develop completely new copier technology aimed at avoiding Xerox patents. • License copier technology from Xerox.

11. Canon needed to consider many issues • Barriers to entry • Profit potential • Degree of competition • Price • Technology • Long run growth prospect

12. 6. Public projects and Regulations • Government similar to the private sector is subject to similar constraint optimization. • Regulation is the methodology in which support business and to protect consumers, workers and the environment.

13. 7. 1984-1987 dispute between Texaco and Pennzoil. The largest court awardsettlement. Texaco acquired Getty oil and wrecked a planned Getty-Pennzoil deal. • Pennzoil suit Texaco. • Fight it in courts and stand to lose millions in litigation. • Settle out of court and save millions in legal fees. • Use bankruptcy protection.

14. Six steps in decision making:

15. 1. Defining the problem • In practice managerial decisions does not come neatly packaged. Rather, they are messy and poorly defined. Thus defining the problem is a key management issue.

16. 2. Determine the objective: What is the decision maker’s goal? • Market share • Cost minimization • Largest firm • For public sector, airport, parks, roads,…. • Cost Benefit Analysis

17. 3. Explore the alternatives: • What constraints limit the choice of options

18. 4. Predict the consequences: • What are the consequences of each alternative action. Should conditions change, how would this affect outcomes. • Sometimes simple arithmetic suffice to predict. Other times need to built a model to predict a more complicated situation

19. Model is a simplified description of a process, relationship or other phenomena. Elements of a model. • Variables • Set of assumptions about other relevant variables. • Hypothesis about the way the specific variables are related. • One or more predictions

20. Q = f ( P, Y, Pc , Ps) Q = a + b1 P + b2 Y + b3Pc + b4Ps

21. 5. Make choices: • After all analysis is done, what is the preferred course of action. • Make optimal decision

22. 6. Perform sensitivity analysis: • Sensitivity analysis considers how optimal decision would change if key economic facts or conditions were altered. In tackling and solving a decision problem, it is important to understand and be able to explain the “why” of your decision.

23. Sensitivity analysis is useful • Providing insight into the key features of the problem that affect decision. • Tracing the effect of changes in variables about which the manager may be uncertain. • Generating solutions in cases of recurring decisions under slightly modified conditions.

24. Theory of the Firm Firm: It is an organization or entity that combines and organizes resources for the purpose of producing goods and services for sale. Proprietorship Partnership Corporation

25. Objective of the Firm: Profit Maximization Value of the Firm: It is the present value of a the firm’s expected future net cash flows

26. Year One Year Two $100 $100 Interest Rate = 5 % $100 today $105 in a year

27. So one dollar a year from now has a present value of 1 2 3 4 p1 p2 p4 p3

28. Project 1: $100, $20, $10 Project 2: $40, $50, $60 Discount rate = 2%

30. Value of the Firm

31. Distinction between Accounting & Economic Profit: Total Profit = TR - TC Accounting Profit = TR - Explicit Costs Economic Profit = Accounting Profit - Implicit Costs = TR - Explicit Costs - Implicit Costs

32. Problem 3: 100 100 + 800 Interest rate (i) = 15%

33. Problem 12: Current Job = $30,000 New Job = $40,000 Return From Pharmacy = $200,000 Explicit Cost = 80,000+40,000+10,000+5,000 +8,000 = 143,000 Business Profit = 200,000 – 143,000 = 57,000

34. + 2,000 Implicit Cost = 40,000 = 42,000 Economic Profit = Business Profit – Implicit cost = 57,000 – 42,000 = 15,000 (b) Total Revenue now is $200,000 which includes a $15,000 economic profit. So in three years when the new pharmacy will drive down the economic profit to zero, total revenue of the pharmacy will be $200,000 - $15,000 = $185,000.

35. c. Samantha shall purchase the pharmacy if the present value of the pharmacy is positive. 15,000 15,000 15,000 – 50,000