Accounting in Action
ASSIGNMENT CLASSIFICATION TABLE
Brief Exercises A Problems B Problems
Study Objectives 1. Explain what accounting is. Identify the users and uses of accounting. Understand why ethics is a fundamental business concept. Explai
Looks like consumer theory
Big Questions for firms
How much to produce?
With what combination of inputs?
Basic Tool: production function
Represents how firms turn inputs into output
output depends on the amount of,
Cost of Production
Economic cost vs. accounting cost
Economists count the cost of lost opportunity
Sunk costs - expenditure that has already been
made and cannot be changed
Total costs = Fixed Costs + Variable Costs
Profit Maximization and "As If"
Do firms maximize profits?
Do they make our calculations?
Positive vs. Normative
Can use our theory as prescriptive tool ("managerial economics"!) Does our theory hold as a positive description?
If managers don't take
Unit-free measure of responsiveness
Usually quantity on price
If B=f(A,. ), then the elasticity of B with respect to A B,A= ( A)(A/B) B/
% change in B with a % change in A
Price elasticity of demand
Q,P= ( P)(P/Q) Q/
Decompose effect of price change
into income and substitution effects
Example: U=XY, PX =PY =1, I=10. Then PX rises to 2. What happens?
First, find ordinary demand curves.
This is overall effect to decompose: x declines from 5 to 2.5
Now, find substi
From Preferences to Demand
Two panel diagram
Usually, find spot where MRS=Px/Py. What if MRS at (x,y)=(I/Px,0) exceeds the slope of the budget constraint?
Choosing Output in LR
Long Run Competitive Equilibrium
All firms maximize profits No firm has incentive to enter or exit Price equates supply and demand
Long Run Supply
Cannot horizontally add because in LR, don't know which firms prod
Quotas and Tariffs
Suppose world price is below domestic price
E.g. sugar (US small relative to market)
Compare free trade with no imports
US consumers lose more than US producers gain
Consider quota allowing som
Pricing with Market Power
Attempt to get consumer surplus to be producer surplus by charging different prices to different consumers
Examples? For what kinds of products is this especially important?
Managerial question: how to set prices Social questi
Can a firm extract more surplus by bundling products together? Yes, if customers have heterogeneous demands Reservation price highest price a consumer is willing to pay for a product
Gone with the Wind Getting Gertie's Garter
Theater A Theater B
Why Do Monopolies Exist?
Barriers to entry
Technical declining marginal costs
Optimal scale of production satisfies market demand
Legal only one firm may operate
How to Correct Monopoly, in Theory
Suppose homogeneous product, MC = 25, FC=0 What is the equilibrium?
How can we model strategic interactions between two firms whose products are imperfect substitutes? For example
Q1= 100-3P1+2P 2 Q2= 100
3rd Deg. Price Discrimination Example
Demands Market 1: P=20-Q1 Market 2: P=30-2Q2 Cost TC=(1/3)Q T +(1/3)(QT2 ) where QT = Q1 + Q2 What does this situation look like? What is total demand?
Compare single-price monopoly to 3rd deg. Price discrimination
Market outcomes can be inefficient (dwl present) or inequitable
Either might justify government intervention
Distribution of income:
Quintile 1 2 3 4 5 Cumul. % of people 20 40 60 80 100 % of income 5 11 16 24 44 Cumul. % of income 5 16
Example showing importance of strategic thinking:
You (firm A) are thinking of buying firm T. The value of T depends on an oil exploration project, V is uniform on [0,100] A management is better, so value to A is 1.5*V A doesn't know outcome
Rival, not excludable Fish in the ocean
Overfishing Other examples: customers?
Marketable Public Good
Excludable, not rival
Market can provide Efficiently?
when the production or consumption of
What is the socially optimal level of emissions
Suppose emissions can be monitored. How to
penalize firms if they emit more than E*
Impose fee of $x/unit
When are fees,