Chapter3 - MANAGERIAL ECONOMICS An Analysis of Business...

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1 MANAGERIAL ECONOMICS An Analysis of Business Issues Howard Davies and Pun-Lee Lam Published by FT Prentice Hall
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2 Chapter 3: The Nature of the Firm Objectives: After studying the chapter, you should understand: 1. what a firm is 2. the differences between the Coasian and Williamson’s analyses of the firm 3. Williamson’s four different types of governance structure and the factors affecting the choice amongst them
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3 What is a Firm? One answer: - a set of transactions* coordinated by authority instead of by the market. * a transaction takes place whenever a good or a service is transferred from one party to another
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4 Why Do Firms Exist? Some transactions are co-ordinated by markets Some transactions take place inside firms The firm is the supersession of the market mechanism The firm is that set of transactions which is co-ordinated by managerial authority instead of the market Why does this happen?
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5 P 0 Q S D Market Mechanism Example 1: Explain why a tailor chooses to work in a factory instead of selling his service on the market.
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6 Consumer Designer Cloth Seller Cutter Sewer
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7 Transactions inside a firm Factor Market Product Market FIRM Entrepreneur Factor of Production Product (Goods & Services) e.g. a shirt Consumers
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8 Designer Cutter Sewer Cloth Product
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9 Example 2: Which of the following is more likely to own printing machines? 1) A textbook publisher 2) A newspaper publisher Give your reasons.
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10 A Publisher B Printer Consumer Market Transaction
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11 Vertical Integration Consumer A Publisher B Printer
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12 Some Simple Explanations People like to be directed by others? Some people are willing to pay to be in charge? Knight (1921) someone must forecast the future and take decisions on output and price income is uncertain and most people prefer a known income entrepreneurs take responsibility for forecasting, pay fixed wages and take any profits BUT the entrepreneur could just sell his forecasts Alchian and Demsetz (1972) team production problem; how to stop shirking? appoint a monitor; but just another worker, same problem monitor takes the residual earnings and therefore has proper incentives
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13 Transactions Cost Analysis Began with Ronald Coase (1937) firms come into being because in some circumstances they reduce the cost of doing transactions Developed most by Williamson (1975, 1986) identifies the circumstances under which different forms of ‘transactional governance’ are most efficient
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The “Coasian”Analysis - transaction cost problem; firm supersedes market - transactions are “normally” done through markets; market is the default - some transactions are done inside firms - transactions are done in a firm when the costs of transacting on the market is higher than costs of transacting in the firm Why Firm Exists? Transaction Cost Analysis
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Chapter3 - MANAGERIAL ECONOMICS An Analysis of Business...

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