ManEcon - Lecture 1

Introduction Lecture 1 { Part I Lecture 1 { Part II Lecture I { Part III Lecture I { Part IV
Managerial Economics
Prof. Mattia Nardotto
KU Leuven
Second Semester 2018-2019
Managerial Economics: Lecture 1 KU Leuven

Course organization and teaching material
› Lecturer: Prof. Mattia Nardotto

email: mattia.nardotto@kuleuven.be
› Teaching assistant: Mr. Mohamed El Handouni
email: mohamed.elhandouni@kuleuven.be
› Classes:
I Monday 15:00-18:00 (Kulak)
I Tuesday 09:00-12:00 (Kulak)
I Wednesday 16:00-18:00 (Leuven)
I Friday 11:00-13:00 (Leuven)
› Textbook: Industrial Organization: Theory and Applications, 5th

Edition, by L. Pepall, D. Richards, and G. Norman.
› Articles: available on Toledo. Articles from The Economist, WSJ,
NYT etc.

Business game and Exam
› Business game
I It counts for 30% of the ˛nal grade
I Attendance is mandatory
I Business game organizers will contact you 2 weeks before
› Closed book exam with open questions and multiple choice

questions, for example, last year:
I One theory question (12 points)
I Two exercises (12 points each)
I Four multiple choice (4 points)

What is Managerial Economics?
› Application of economic theory and methods to the study of ˛rms’

behavior in the marketplace.
› Same as one of the de˛nitions of Industrial Organization.
› What method?
I Fundamental economic principles (e.g., optimality)
I Game theory to analyze strategic interactions
I Abstract modeling
I trade{o¸ of detail vs. generalization

What is our course in ME about?
› Managerial economics becomes interesting outside perfect competition

› How: through market power
I Innovation
I Advertisement
I Product di¸erentiation, product development
I Through horizontal or vertical relations
I ...
› Implications:
I Strategic interaction with rival ˛rms, pricing, design of contracts etc.
I Antitrust, manager and institution perspective
I Theory is much more complicated, data analysis too

Lecture 1
Microeconomics
Demand
Perfect competition and monopoly
E‹ciency and surplus
Discounting
Market structure
Production and cost
Disclaimer: this is mostly a recap of the concepts and the tools you must
know from microeconomics
Demand
Textbook sections
› Chapter 1
I Sections 1.1, 1.2
› Chapter 2
I Sections 2.1, 2.2
I Sections 2.3, 2.3.1, 2.3.2
› Chapter 3
I Sections 3.1, 3.2
› Chapter 4
I Sections 4.1, 4.2
I Sections 4.3, 4.3.1
I Sections 4.4, 4.5.1, 4.5.2

Demand
Market demand
› What is market demand?

› Market demand of a good is the quantity that consumers purchase for
that good at various prices
› It depends on:
I Price
I Income
I Preferences (and factors that can a¸ect them)
I Expectations
I ...
Quantity = f (‚Price + ”Income + ‹Marketing + : : :)

Demand
Market demand
› Firms and their managers, explicitly or implicitly, have an idea of the

market demand for their product, and they take actions to:
a) Increase the demand for the product (short to long run)
b) Price correctly given the product and the market condition (short run to
long run)
› Key element of a business plan!

Demand
Market demand
Q › Linear demand:
Q = a ` bQ
a
› a is the quantity
demanded when price is
Q1 very small
› This demand function
has constant slope
› At price P1 consumer
P1 a
b
P will buy quantity Q1

Demand
Market demand
P
› Linear (inverse) demand:
A P = A ` BQ
› A is the maximum
willingness to pay
P1
› This demand function
has constant slope
› At quantity Q1 the
clearing price is P1
Q1 A Q
B

Demand
Is it realistic?
› Functional form
› Time: how long does it apply?
I Stability of preferences
I New products
I ...
› Demand depends (also) on:
I Income (Engel law)
I Normal goods
I Inferior goods
I Price
I Decreasing
I Except for Gi¸en goods
I ...
› Despite that, we will mainly use simple linear demand function, focus
on the supply side!

Demand
Firm’s demand
› From the perspective of the ˛rm: How much of my product I can sell
given the price I ask
› If I am the only ˛rm, it coincides with market demand
› If not, it also depends on others:
I How many competitors
I Their products
I Their prices
I Their marketing
I ...
Qj = f (‚Pj + ˛P`j + ”Income + ‹1 Marketingj + ‹2 Marketing`j + : : :)
› Negatively sloped in general if the ˛rm has market power

› Flat if no market power, individual ˛rms cannot a¸ect price through
quantity supplied

Demand
Firm’s demand
› Market for smartwatches

› We take the perspective of Apple
› First problem in planning the

production and commercialization:
what is the market demand for
this product?

Demand
Firm’s demand
› Apple will not be the only

product in the market
› Several competitors:
I Samsung 42%
I Pebble 16%
I Sony 12%
I Motorola 11%
I LG 5%
I other
› Before investing, producing and

distributing. . .

Demand
Firm’s demand
› Estimated demand function for Apple’s smartwatch (in a quarter):
QAW = `150000 ` 2400PAW + 1520PS + 1200PP ` 1200PiP + 44Adv (1)

› where:
I PS = $380, price of the Samsung smartwatch
I PP = $220, price of the Pebble smartwatch
I PiP = $299, price of the iPhone
I Adv = 15500 (in th. $), marketing campaign
› Coeteris paribus, the demand for the watch is going to be:
QAW = 1014800 ` 2400PAW (2)
this demand function implies that at a price of $250, Apple expects to

sell 414800 units per quarter

Demand
Price elasticity of demand
› Elasticity:
∆q
q ∆q p
"= ∆p
= (3)
∆p q
p
∆q ∆p
q
is the percentage change in q, and p
is the percentage change in p
› j"j = 1 if price reduces (increases) by 5%, then quantity increases

(reduces) by the same percentage amount
› j"j < 1: Demand is inelastic ) Increasing price increases revenues
› j"j > 1: Demand is elastic ) Increasing price reduces revenues

Demand
Cross price elasticity of demand
› Cross-elasticity:
∆q1
q1 ∆q1 p2
"1,2 = ∆p2
= (4)
∆p2 q1
p2
"1,2 > 0: substitute goods

"1,2 < 0: complement goods
› Important to de˛ne markets (see later)

Demand
Cross price elasticity of demand
› Based on the demand function in (1):

I What is Apple’s own price elasticity at a price of $349?
`2400 ´ 349
"AW = = `4.73
177200
I Demand is elastic, an increase of 1% in price leads to a 4.73% reduction in
quantity sold
I What is the cross price elasticity between Apple and Samsung (Apple still
pricing at $349)?
1520 ´ 380
"AW ,S = = 3.26
177200
I Samsung’s smartwatch is a substitute for Apple’s, an increase of Samsung
price of 1% increases demand of Apple by 3.26%

Pro˛t maximization
› Pro˛t is:
ı (q ) = R (q ) ` C (q ) (5)
› Goal: maximize pro˛ts

› First order conditions for pro˛t maximization: dı
dq
=0
dR (q ) dC (q )
` =0 (6)
dq dq
dR (q )
› : marginal revenue (MR)
dq
dC (q )
› marginal cost (MC)
dq
› So pro˛t maximization implies:
MR = MC

Perfect competition
› Firms and consumers are price-takers

› A ˛rm can sell as much as it likes at the ruling market price
› Therefore, marginal revenue equals price

› Given the optimality condition: MR = MC
› So in perfect competition price equals marginal cost

Perfect competition
P P
MC
SA
AC
PC
DA
qC q QC Q
At market price PC the ˛rm produces qc . This is the quantity s.t. the cost to produce the
marginal unit is equal to the revenue from that unit (i.e., the price).

Monopoly
› The only ˛rm in the market
P I market demand is the ˛rm’s
demand
I output decisions a¸ect market
clearing price
P1
› At prices P1 (P2 ) consumers buy
L
P2 quantities Q1 (Q2 )
› L is the loss in revenues from the
G
reduction in price from P1 to P2
› G is the gain in revenues from
the sale of additional units
Q1 Q2 Q
› Marginal revenue from a change
in price is G ` L

Monopoly
› Derivation of the monopolist’s
marginal revenue:
P
A › Demand: P = A ` BQ
› Total Revenue:
TR = PQ = AQ ` BQ 2
› Marginal Revenue:
dTR
MR = = A ` 2BQ
dQ
D › With linear demand the marginal

Q revenue curve is also linear with
MR
the same price intercept but
twice the slope of the demand
curve

Monopoly
P
A
MC
› The monopolist maximizes pro˛t
AC by equating marginal revenue

PM
with marginal cost: MR = MC
› This gives output QM
› The market clearing price is PM
D
QM Q
MR

Monopoly
P
A
› The monopolist maximizes pro˛t
MC
by equating marginal revenue
with marginal cost: MR = MC
› This gives output QM
AC
PM
› The market clearing price is PM
ı
› Price is greater than MC : loss of
ACM
e‹ciency
D › Price is greater than AC :

QM Q positive economic pro˛t
MR

› Need a measure of well-being

I Consumer surplus: is the di¸erence between the maximum amount a
consumer is willing to pay for a unit of a good and the amount actually
paid for that unit
I Aggregate consumer surplus: is the sum over all units consumed and all
consumers
I Producer surplus: is the di¸erence between the amount a producer receives
from the sale of a unit and the amount that unit costs to produce
I Aggregate producer surplus: is the sum over all units produced and all
producers
I Total surplus = consumer surplus + producer surplus
› Contrast two polar cases:

I perfect competition
I monopoly

E‹ciency and surplus: illustration

› The demand curve measures the
P willingness to pay for each unit

› Consumer surplus is the area between
the demand curve and the equilibrium
SA price
› The supply curve measures the
CS
marginal cost of each unit
PC
› Producer surplus is the area between
PS the supply curve and the equilibrium
price
› Aggregate surplus is the sum of
DA
consumer surplus and producer
QC Q surplus
› The competitive equilibrium is
e‹cient

Deadweight loss of monopoly
P
› The monopolist sets MR = MC to
give output QM and price PM
SA
CS › Consumer surplus reduces but
producer surplus increases
PM
› Total surplus reduces (deadweight
PC DW
PS loss of monopoly)
› The monopolist produces less surplus
than the competitive industry. There
are mutually bene˛cial trades that do
DA
not take place: between QM and QC
QM QC Q ) Ine‹ciency

Deadweight loss of monopoly
› Why can’t the monopolist appropriate the deadweight loss?

I Strange! There are consumers ready to pay a price higher than marginal
costs, but the monopolist does not want to sell
I Increasing output requires a reduction in price
I This assumes that the same price is charged to everyone.
› The monopolist creates surplus, some goes to consumers, some

appears as pro˛t
› The monopolist bases its decisions purely on the surplus it gets, not
on consumer surplus
› The monopolist undersupplies relative to the competitive outcome
› The primary problem: the monopolist is large relative to the market

Discounting
Pro˛t today versus pro˛t tomorrow
› Money today is not the same as money tomorrow

I need way to convert tomorrow’s money into today’s
I important because ˛rms make decisions over time
I is it better to make pro˛t now or invest for future pro˛t?
I how should investment in durable assets be judged?
I sacri˛cing pro˛t today imposes a cost
I is this cost justi˛ed?
› Financial market techniques can be applied
I the concept of discounting and present value

Discounting
The concept of discounting
› Take a simple example:

I you have e1,000
I this can be deposited in the bank at 5% per annum interest
I or it can be loaned to a start-up company for one year
I how much will the start-up have to contract to repay?
I e1,000 x (1 + 5/100) = e1,000 x 1.05 = e1,050
› More generally:
I you have a sum of money Y
I can generate an interest rate r per annum (in the example r = 0.05)
I so it will grow to Y (1 + r ) in one year
I but then Y today trades for Y (1 + r ) in one year’s time

Discounting
Concept of discounting
› Put this another way:

I assume an interest rate of 5% per annum
I the start-up contracts to pay me e1,050 in one year’s time
I how much do I have to pay for that contract today?
I Answer: e1,000 since this would grow to e1,050 in one year
I so in these circumstances e1,050 in one year is worth e1,000 today
I the current price of the contract is e1,050/1.05 = e1,000
I the present value of e1,050 in one year’s time at 5% is e1,000
› The present value of Z in one year at interest rate r is: Z

(1+r )
› The discount factor is de˛ned as R = 1/(1 + r )
› The present value of Z in one year is then RZ

Discounting
Concept of discounting
› Now consider how to evaluate an investment project

I generates Z1 net revenue at the end of year 1
I Z2 net revenue at the end of year 2
I Z3 net revenue at the end of year 3 and so on for T years
› What are the net revenues worth today?
I Present value of Z1 is RZ1
I Present value of Z2 is R 2 Z2
I Present value of Z3 is R 3 Z3 . . .
I Present value of ZT is R T ZT
I so the present value of these revenue streams is:
PV = RZ1 + R 2 Z2 + R 3 Z3 + : : : + R T ZT

Discounting
Present value and pro˛t maximization
› Present value is directly relevant to pro˛t maximization

› For a project to go ahead the rule is: the present value of future
income must at least cover the present value of the expenses in
establishing the project
› The appropriate concept of pro˛t is pro˛t over the lifetime of the

project
› The application of present value techniques selects the appropriate
investment projects that a ˛rm should undertake to maximize its value

Discounting

Amcott Loses $3.5 Million; Manager ˛red
On Tuesday software giant Amcott posted a year-end operating loss of $3.5 million.
Reportedly, $1.7 million of the loss stemmed from its foreign language division.
At a time when Amcott was paying First National a hefty 7 percent rate to borrow
short-term funds, Amcott decided to use $20 million of its retained earnings to
purchase three-year rights to Magicword, a software package that converts generic
word processor ˛les saved as French text into English.
First-year sales revenue from the software was $7 million, but thereafter sales were
halted pending a copyright infringement suit ˛led by Foreign, Inc. Amcott lost the
suit and paid damages of $1.7 million. Industry insiders say that the copyright
violation pertained to \a very small component of Magicword".
Ralph, the Amcott manager who was ˛red over the incident, was quoted as saying,
\I’m a scapegoat for the attorneys [at Amcott] who didn’t do their homework before
buying the rights to Magicword. I projected annual sales of $7 million per year for
three years. My sales forecasts were right on target."
from Managerial Economics, by Baye and Prince

Discounting
Why was the manager ˛red?

Discounting

› Managers have to rely on information from various departments, in
this case:
I Sales department
I Legal department
› Legal department can be blamed for not anticipating the legal action
that halted the revenue ‚ow, however. . .
› The business plan was ‚awed anyways, as the manager did not do the
calculations right!
R1 R2 R3
NPV = + + ` Cost =
(1 + r ) (1 + r )2 (1 + r )3
7mln 7mln 7mln
= + + ` 20mln = `1.629mln
(1 + 0.07) (1 + 0.07)2 (1 + 0.07)3

Discounting
› The present value of the project was negative

› The manager failed to recognize the time value of money
› Contingent factors always a¸ect the implementation of a business

plan. . .
I Demand forecasts
I Institutional and legal framework
I Cost structure (to produce and to fund the business)
I Competitive environment
I ...
. . . but fundamentals have to be \correct" to start with!

Market structure
Market structure
› Market structure: numbers and size distributions of ˛rms

› Industries have very di¸erent structures
› How best to measure market structure:
I Summary measures (number of ˛rms, average size etc.)
I Concentration curve
I Concentration ratios: CR4 , or CRn
I Her˛ndahl-Hirschman Index (HHI)
N
X
HHI = si2
i =1

Market structure
Market structure
› Let’s look at the previous case: market for smartwatches:
› Samsung 42%
› Pebble 16%
› Sony 12%
› Motorola 11%
› LG 5%
› Other 14%
› CR4 is 81%
› HHI=2329.6 (assuming 10 fringe ˛rms with equal market share)

Market structure
Market structure
Industry CR4 HHI

Aircraft 81.3 2652.2
Breakfast cereals 80.4 2425.5
...
Tire manufacturing 72.8 1539.6
Soft drinks 58.1 1094.5
...
Pharmaceuticals 29.5 359.1
Dolls, toys and games 33.6 388.8
(see Table 3.2, on page 51)

Market structure
What is a market?
› No clear consensus
I The market for automobiles: should we include light trucks; pick-ups
SUVs?
I The market for soft drinks: what are the competitors for Coca Cola and
Pepsi?
› Presumably de˛ne a market by closeness in substitutability of the
commodities involved
I How close is close?
I How homogeneous do commodities have to be?
I Does wood compete with plastic? Nylon with wool?

Market structure
Market de˛nition
› Standard approach: based upon industrial data (production-based)

I Example, NAIC 1123: Poultry and egg production
I Poultry production
I Turkey production
I Chicken eggs production
I Broilers and other meat type chicken production
I Other
I Substitutability in production not consumption (ease of data collection)
› Use of production-based statistics has limitations: can put in di¸erent

industries products that are in the same market (or the reverse)
› The international dimension is important
I Local versus global competition not properly re‚ected
I Geography is important
› Question: what is the market of Amazon? (see later)

Market structure
Market de˛nition
› An alternative and very common approach, especially used in antitrust is that of

demand substitutability
› Key concept is cross-price elasticity: if goods are signi˛cantly substitutes then

they belong the same market
› And for the manager?
I A mix of both. . .
I . . . keeping in mind what regulators and institution use

Market structure
Determinants of market structure
› Economies of scale and economies of scope (see later)

› They must be considered relative to market size ) concentration
should decline as market size increases
› Market structure is also a¸ected by the presence of network
externalities
I Willingness to pay by a consumer increases as the number of current
consumers increase, because utility from consumption increases when there
are more current consumers
I Examples: telephones, fax, Internet, OS, social networks
I These markets are likely to contain a small number of ˛rms even if there
are limited economies of scale and scope
I Examples: Google, Facebook, etc.

Market structure
The role of policy
› Government and antitrust can directly a¸ect market structure

I by limiting entry
I taxi medallions
I airline regulation
› Through the patent system

› Through antitrust decisions (e.g., on a merge between ˛rms)

Production and cost
The Neoclassical view of the ˛rm
› We adopt an abstract view of the ˛rm: the ˛rm transforms inputs

into outputs
› Goal: maximize pro˛ts (in a broad sense)
› Of course the analysis of the ˛rm can be richer:

I What happens inside ˛rms?
I How are ˛rms structured?
I How are individuals organized/motivated?
not addressed in this course

Production and cost
The single-product ˛rm

› Pro˛t-maximizing ˛rm must solve a related problem
I minimize the cost of producing a given level of output
I production function: how inputs are transformed into output
› Assume that there are n inputs at levels x1 for the ˛rst, x2 for the
second, . . . , xn for the nth . The production function, assuming a
single output, is written:
q = f (x1 , x2 , x3 , : : : , xn ) (7)
› Cost function: relationship between output choice and production

costs. Derived by ˛nding input combination that minimizes cost:
n
X
min wi xi s.t. f (x1 , x2 , : : : , xn ) = q1 (8)
xi
i =1

Production and cost
Cost relationships
› Analysis gives formal de˛nition of the cost function

I C (Q ): total cost of producing output Q
I Average cost AC (Q ) = C (Q )/Q
I Marginal cost: cost of one more unit, formally
dC (Q )
MC (Q ) = d (Q )
› Also consider sunk costs

I incurred on entry independent of output
I cannot be recovered on exit

Production and cost
Cost curves: an illustration
› Typical average and marginal cost curves

MC › Relationship between AC and MC:
I If MC < AC then AC is falling

AC I If MC > AC then AC is rising
I MC = AC at the minimum of the AC
curve
› Exercise: show this is the case for

MC = aq 2 + bq + c
q

Production and cost
Cost and Output Decisions
› Firms maximizes pro˛t where

MR = MC provided:
I output should be greater than
zero
I price is greater than average
variable cost
I shut-down decision
› Enter if price is greater than average

total cost
I must expect to cover sunk costs
of entry

Production and cost
Cost and Output Decisions
› Another example: Ford car

production in China (Financial
Times, last week)
› Plants are set up to work
optimally in a range of
production volume
› What happens if sales go down?

Production and cost
Economies of scale
› De˛nition: average costs fall with an increase in output

› Represented by the scale economy index:
AC (Q )
S =
MC (Q )
› S > 1: economies of scale

› S < 1: diseconomies of scale

Production and cost
Economies of scale
› Sources of economies of scale:

I Capacity related to volume while cost is related to surface area (e.g.
container)
I Product specialization and the division of labor
I \Economies of mass reserves": economize on inventory, maintenance, repair
I Indivisibilities

Production and cost
Indivisibilities, sunk costs and market structure
› Indivisibilities make scale of entry an important strategic decision:

I enter large with large-scale indivisibilities: heavy overhead
I enter small with smaller-scale cheaper equipment: low overhead
› Some indivisible inputs can be redeployed (e.g., aircraft)

› Other indivisibilities are highly specialized with little value in other
uses (e.g., market research expenditures, rail track between two
destinations)
› Latter are sunk costs: nonrecoverable if production stops
› The greater are sunk costs the more concentrated is market structure

Production and cost
Economies of scope
› Formal de˛nition:
C (Q1 , 0) + C (0, Q2 ) ` C (Q1 , Q2 )

SC = (9)
C (Q1 , Q2 )
› The critical value in this case is SC = 0

› SC < 0: no economies of scope
› SC > 0: economies of scope

Production and cost
Economies of scope
› Sources of economies of scope:

I Shared inputs
I Same equipment for various products
I Shared advertising creating a brand name
I Marketing and R&D expenditures that are generic
I Cost complementarities
I Producing one good reduces the cost of producing another
I Oil and natural gas
I Computer software and computer support
I Retailing and product promotion

The Economics of Amazon
› Market de˛nition
› Market structure
› Cost structure
› Sunk costs
› Economies of scale/scope

› American technology and retail

entrepreneur, investor, electrical
engineer, computer scientist, and
philanthropist
› But, mainly known as the
founder of Amazon
› 1994: left Wall Street and
founded Amazon
› On track to be the wealthiest
person in Modern History

› Started as an online bookstore (bookbroker) in 1995

› Soon expanded to other products
› Allowed third party sales in 2000
› Launch of Amazon Web Service in 2002
› Launched Amazon Prime in 2005
› Kindle in 2007
› Wholesale market in 2012
› August 2017: acquired whole foods



The Economics of Amazon { Market de˛nition
› What is the market where Amazon operates?
› Is it a concentrated market?

› Contrasting views:
I Some argue that Amazon is
large and has market power, in
particular in some product
markets (e.g., books)
I Some argue that looking at

speci˛c markets is cherry picking,
and Amazon should not raise
such concerns: it’s a successful
company, and so it’s large


› What is the market where Amazon operates?
I Product
I Geographical
I Wholesale/retail
I ...

The Economics of Amazon { Cost structure
› Does Amazon have high sunk costs?
› Can Amazon bene˛t from economies of scale?

Net shipping cost Net shipping cost & Gross merchandising

› Can Amazon bene˛t from economies of scope?


› What is Amazon’s cost structure? Are ˛xed/marginal costs high or

low?


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Introduction Lecture 1 { Part I Lecture 1 { Part II Lecture I { Part III Lecture I { Part IV

Prof. Mattia Nardotto

Second Semester 2018-2019

Managerial Economics: Lecture 1 KU Leuven

Course organization and teaching material

› Lecturer: Prof. Mattia Nardotto

› Textbook: Industrial Organization: Theory and Applications, 5th

Managerial Economics: Lecture 1 KU Leuven

Business game and Exam

› Closed book exam with open questions and multiple choice

Managerial Economics: Lecture 1 KU Leuven

What is Managerial Economics?

› Application of economic theory and methods to the study of ˛rms’

Managerial Economics: Lecture 1 KU Leuven

What is our course in ME about?

› Managerial economics becomes interesting outside perfect competition

Managerial Economics: Lecture 1 KU Leuven

Managerial Economics: Lecture 1 KU Leuven

› What is market demand?

Quantity = f (‚Price + ”Income + ‹Marketing + : : :)

Managerial Economics: Lecture 1 KU Leuven

› Firms and their managers, explicitly or implicitly, have an idea of the

› Key element of a business plan!

Managerial Economics: Lecture 1 KU Leuven

Managerial Economics: Lecture 1 KU Leuven

Managerial Economics: Lecture 1 KU Leuven

Managerial Economics: Lecture 1 KU Leuven

Qj = f (‚Pj + ˛P`j + ”Income + ‹1 Marketingj + ‹2 Marketing`j + : : :)

› Negatively sloped in general if the ˛rm has market power

Managerial Economics: Lecture 1 KU Leuven

› Market for smartwatches

› First problem in planning the

Managerial Economics: Lecture 1 KU Leuven

› Apple will not be the only

› Before investing, producing and

Managerial Economics: Lecture 1 KU Leuven

› Estimated demand function for Apple’s smartwatch (in a quarter):

QAW = `150000 ` 2400PAW + 1520PS + 1200PP ` 1200PiP + 44Adv (1)

› Coeteris paribus, the demand for the watch is going to be:

QAW = 1014800 ` 2400PAW (2)

this demand function implies that at a price of $250, Apple expects to

Managerial Economics: Lecture 1 KU Leuven

Price elasticity of demand

› j"j = 1 if price reduces (increases) by 5%, then quantity increases

Managerial Economics: Lecture 1 KU Leuven

Cross price elasticity of demand

"1,2 > 0: substitute goods

› Important to de˛ne markets (see later)

Managerial Economics: Lecture 1 KU Leuven

Cross price elasticity of demand

› Based on the demand function in (1):

Managerial Economics: Lecture 1 KU Leuven

Perfect competition and monopoly

› Goal: maximize pro˛ts

Managerial Economics: Lecture 1 KU Leuven

Perfect competition and monopoly

› Firms and consumers are price-takers

› Therefore, marginal revenue equals price

Managerial Economics: Lecture 1 KU Leuven

Perfect competition and monopoly

Managerial Economics: Lecture 1 KU Leuven

Perfect competition and monopoly

Managerial Economics: Lecture 1 KU Leuven

Perfect competition and monopoly