Managerial Economics. »nri strategy. jerrrey M. Per I off. University of California, Berkeley. James A. Brander. Sauder School of Business,

Transcription

1 Managerial Economics»nri strategy jerrrey M. Per I off University of California, Berkeley James A. Brander Sauder School of Business, University of British Columbia Boston Columbus Indianapolis New York San Francisco Upper Saddle River Amsterdam Cape Town Dubai London Madrid Milan Munich Paris Montreal Toronto Delhi Mexico City Sao Paulo Sydney Hong Kong Seoul Singapore Taipei Tokyo

2 Contents Preface xiii Chapter 1 Introduction Managerial Decision Making 1 Profit 2 Trade-Offs 2 Other Decision Makers 3 Strategy Economic Models 3 MINI-CASE Using an Income Threshold Model in China 4 Simplifying Assumptions 4 Testing Theories 5 Positive and Normative Statements 5 Summary 6 Chapter 2 Supply and Demand 7 MANAGERIAL PROBLEM Carbon Taxes Demand 9 The Demand Curve 10 The Demand Function 13 USING CALCULUS Deriving the Slope of a Demand Curve 14 Summing Demand Curves 14 MINI-CASE Aggregating the Demand for Broadband Service Supply 15 The Supply Curve 16 The Supply Function 17 Summing Supply Curves Market Equilibrium Using a Graph to Determine the Equilibrium 18 Using Algebra to Determine the Equilibrium 19 Forces That Drive the Market to Equilibrium Shocks to the Equilibrium 21 Effects of a Shift in the Demand Curve 21 Effects of a Shift in the Supply Curve 21 Q&A MANAGERIAL IMPLICATION Taking Advantage of Future Shocks 23 Effects of Shifts in Both Supply and Demand Curves 24 MINI-CASE Genetically Modified Foods 24 Q&A vi 2.5 Effects of Government Interventions 26 Policies That Shift Curves 26 MINI-CASE Occupational Licensing 26 Price Controls 27 MINI-CASE Disastrous Price Controls 29 Sales Taxes 31 Q&A MANAGERIAL IMPLICATION Cost Pass- Through When to Use the Supply-and-Demand Model 34 MANAGERIAL SOLUTION Carbon Taxes 36 Summary 37 «Questions 38 Chapter 3 Empirical Methods for Demand Analysis 42 MANAGERIAL PROBLEM Estimating the Effect of an itunes Price Change Elasticity 43 The Price Elasticity of Demand 44 MANAGERIAL IMPLICATION Changing Prices to Calculate an Arc Elasticity 45 Q&A USING CALCULUS The Point Elasticity of Demand 47 Q&A Elasticity Along the Demand Curve 47 Other Demand Elasticities 50 MINI-CASE Substitution May Save Endangered Species 51 Demand Elasticities over Time 52 Other Elasticities 52 Estimating Demand Elasticities 52 MINI-CASE Turning Off the Faucet 53 Regression Analysis 53 A Demand Function Example 54 MINI-CASE The Portland Fish Exchange 55 Multivariate Regression 60 Q&A Goodness of Fit and the R 2 Statistic 61 MANAGERIAL IMPLICATION Focus Groups 62 Properties and Statistical Significance of Estimated Coefficients 63 Repeated Samples 63 Desirable Properties for Estimated Coefficients 63 A Focus Group Example 64 Confidence Intervals 65

3 Contents vii Hypothesis Testing and Statistical Significance Regression Specification 67 Selecting Explanatory Variables 67 MINI-CASE Determinants of CEO Compensation 67 Q&A Functional Form 71 MANAGERIAL IMPLICATION Experiments Forecasting 74 Extrapolation 74 Theory-Based Econometric Forecasting 76 MANAGERIAL SOLUTION Estimating the Effect of an itunes Price Change 77 Summary 80 Questions 81 Appendix 3 The Excel Regression Tool 84 Chapter 4 Consumer Choice 85 MANAGERIAL PROBLEM Paying Employees to Relocate Consumer Preferences 87 Properties of Consumer Preferences 87 MINI-CASE You Can't Have Too Much Money 88 Preference Maps Utility 95 Utility Functions 95 Ordinal and Cardinal Utility 96 Marginal Utility 96 USING CALCULUS Marginal Utility 97 Marginal Rates of Substitution The Budget Constraint 98 Slope of the Budget Line 100 USING CALCULUS The Marginal Rate of Transformation 101 Effects of a Change in Price on the Opportunity Set 101 Effects of a Change in Income on the Opportunity Set 102 Q&A MINI-CASE Rationing 102 Q&A Constrained Consumer Choice 103 The Consumer's Optimal Bundle 103 Q&A MINI-CASE Why Americans Buy More E-Books Than Do Germans 106 Q&A Promotions 108 MANAGERIAL IMPLICATION Designing Promotions Deriving Demand Curves Behavioral Economics 113 Tests of Transitivity 113 Endowment Effects 113 MINI-CASE How You Ask the Question Matters 114 Salience 115 MANAGERIAL IMPLICATION Simplifying Consumer Choices 116 MANAGERIAL SOLUTION Paying Employees to Relocate 116 Summary 118 «Questions 119 Appendix 4A The Marginal Rate of Substitution 122 Appendix 4B The Consumer Optimum 122 Chapter 5 Production 124 MANAGERIAL PROBLEM Labor Productivity During Recessions Production Functions Short-Run Production 127 The Total Product Function 127 The Marginal Product of Labor 128 USING CALCULUS Calculating the Marginal Product of Labor 128 Q&A The Average Product of Labor 129 Graphing the Product Curves 129 The Law of Diminishing Marginal Returns 132 MINI-CASE Malthus and the Green Revolution Long-Run Production 134 Isoquants 134 MINI-CASE A Semiconductor Isoquant 137 Substituting Inputs 138 Q&A USING CALCULUS Cobb-Douglas Marginal Products Returns to Scale 141 Constant, Increasing, and Decreasing Returns to Scale 141 Q&A MINI-CASE Returns to Scale in U.S. Manufacturing 143 Varying Returns to Scale 145 MANAGERIAL IMPLICATION Small Is Beautiful Productivity and Technological Change 146 Relative Productivity 146 MINI-CASE U.S. Electric Generation Efficiency 147 Innovation 147 MINI-CASE Tata Nano's Technical and Organizational Innovations 148 MANAGERIAL SOLUTION Labor Productivity During Recessions 149 Summary 150» Questions 151 Chapter 6 Costs 154 MANAGERIAL PROBLEM Technology Choice at Home Versus Abroad 154

4 viii Contents 6.1 The Nature of Costs Opportunity Costs MINI-CASE The Opportunity Cost of an MBA Q&A 6.1 Costs of Durable Inputs Sunk Costs MANAGERIAL IMPLICATION Ignoring Sunk Costs 6.2 Short-Run Costs Common Measures of Cost USING CALCULUS Calculating Marginal Cost Cost Curves Production Functions and the Shapes of Cost Curves USING CALCULUS Calculating Cost Curves Short-Run Cost Summary 6.3 Long-Run Costs Input Choice MANAGERIAL IMPLICATION Cost Minimization by Trial and Error MINI-CASE The Internet and Outsourcing Q&A 6.2 The Shapes of Long-Run Cost Curves MINI-CASE Economies of Scale in Nuclear Power Plants Q&A 6.3 Long-Run Average Cost as the Envelope of Short-Run Average Cost Curves MINI-CASE Long-Run Cost Curves in Beer Manufacturing and Oil Pipelines 6.4 The Learning Curve MINI-CASE Learning by Drilling 6.5 The Costs of Producing Multiple Goods MINI-CASE Scope MANAGERIAL SOLUTION Technology Choice at Home Versus Abroad Summary 187 * Questions 187 Appendix 6 Long-Run Cost Minimization Chapter 7 Firm Organization and Market Structure MANAGERIAL PROBLEM Clawing Back Bonuses 7.1 Ownership and Governance of Firms Private, Public, and Nonprofit Firms MINI-CASE Chinese State-Owned Enterprises Ownership of For-Profit Firms Firm Governance 7.2 Profit Maximization Profit Two Steps to Maximizing Profit USING CALCULUS Maximizing Profit Q&A 7.1 MANAGERIAL IMPLICATION Marginal Decision Making Profit over Time 204 MANAGERIAL IMPLICATION Stock Prices Versus Profit Owners'Versus Managers'Objectives 205 Consistent Objectives 205 Q&A Conflicting Objectives 208 Q&A MINI-CASE Company Jets 210 Monitoring and Controlling a Manager's Actions 211 Takeovers and the Market for Corporate Control 212 MINI-CASE The Yahoo! Poison Pill The Make or Buy Decision 214 Stages of Production 215 Vertical Integration 215 Profitability and the Supply Chain Decision 217 MINI-CASE Vertical Integration at American Apparel 218 MINI-CASE Aluminum 219 Market Size and the Life Cycle of a Firm Market Structure 222 The Four Main Market Structures 222 Comparison of Market Structures 224 Road Map to the Rest of the Book 224 MANAGERIAL SOLUTION Clawing Back Bonuses 225 Summary 226» Questions 227 Appendix 7 Interest Rates, Present Value, and Future Value 230 Chapter 8 Competitive Firms and Markets 232 MANAGERIAL PROBLEM The Rising Cost of Keeping On Truckin' Perfect Competition 233 Characteristics of a Perfectly Competitive Market 234 Deviations from Perfect Competition Competition in the Short Run 236 How Much to Produce 236 Q&A USING CALCULUS Profit Maximization with a Specific Tax 240 Whether to Produce 240 MINI-CASE Oil, Oil Sands, and Oil Shale Shutdowns 242 The Short-Run Firm Supply Curve 243 The Short-Run Market Supply Curve 244 Short-Run Competitive Equilibrium Competition in the Long Run 247 Long-Run Competitive Profit Maximization 247 The Long-Run Firm Supply Curve 248 MINI-CASE The Size of Ethanol Processing Plants 248

5 Contents ix The Long-Run Market Supply Curve 248 MINI-CASE Fast-Food Firms' Entry in Russia 249 MINI-CASE Upward-Sloping Long-Run Supply Curve for Cotton 251 Long-Run Competitive Equilibrium 252 Zero Long-Run Profit with Free Entry Competition Maximizes Economic Weil-Being 254 Consumer Surplus 255 MANAGERIAL IMPLICATION Willingness to Pay on ebay 257 Producer Surplus 258 Q&A Q&A Competition Maximizes Total Surplus 262 MINI-CASE The Deadweight Loss of Christmas Presents 264 Effects of Government Intervention 265 Q&A MANAGERIAL SOLUTION The Rising Cost of Keeping On Truckin' 267 Summary 268 # Questions 269 Chapter 9 Monopoly Generic Drugs 273 Monopoly Profit Maximization 275 Marginal Revenue 275 USING CALCULUS Deriving a Monopoly's Marginal Revenue Function 278 Q&A Choosing Price or Quantity 280 Two Steps to Maximizing Profit 281 USING CALCULUS Solving for the Profit- Maximizing Output 283 Effects of a Shift of the Demand Curve 283 Market Power 285 Market Power and the Shape of the Demand Curve 285 MANAGERIAL IMPLICATION Checking Whether the Firm Is Maximizing Profit 286 MINI-CASE Cable Cars and Profit Maximization 286 The Lerner Index 287 MINI-CASE Apple's ipad 288 Q&A Sources of Market Power 289 Market Failure Due to Monopoly Pricing 290 Q&A Causes of Monopoly 293 Cost-Based Monopoly 294 Q&A Government Creation of Monopoly 296 MINI-CASE Botox Advertising Deciding Whether to Advertise How Much to Advertise USING CALCULUS Optimal Advertising Q&A 9.5 MINI-CASE Super Bowl Commercials 9.6 Networks, Dynamics, and Behavioral Economics Network Externalities Network Externalities and Behavioral Economics Network Externalities as an Explanation for Monopolies MINI-CASE Critical Mass and ebay MANAGERIAL IMPLICATION Introductory Prices MANAGERIAL SOLUTION Brand-Name and Generic Drugs Summary 307» Questions Chapter 10 Pricing with Market Power 311 MANAGERIAL PROBLEM Sale Prices Conditions for Price Discrimination 313 Why Price Discrimination Pays 313 MINI-CASE Disneyland Pricing 315 Which Firms Can Price Discriminate 315 MANAGERIAL IMPLICATION Preventing Resale 316 MINI-CASE Preventing Resale of Designer Bags 317 Not All Price Differences Are Price Discrimination 317 Types of Price Discrimination Perfect Price Discrimination 318 How a Firm Perfectly Price Discriminates 318 Perfect Price Discrimination Is Efficient but xmers 319 ited Lmination 323 ncing at Amazon nation 324 ation with Two 325 ximizing Profit for a g Monopoly 326 xtbooks 328 Q&A Identifying Groups 330 MANAGERIAL IMPLICATION Discounts 331 Effects of Group Price Discrimination on Total Surplus Nonlinear Price Discrimination Two-Part Pricing 335 Two-Part Pricing with Identical Consumers 335 Two-Part Pricing with Differing Consumers 337 MINI-CASE Available for a Song 33g

6 X Contents 10.6 Bundling Oligopoly Games 392 Pure Bundling 340 Dominant Strategies 393 Mixed Bundling 341 Best Responses 394 Q&A Failure to Maximize Joint Profits 396 Requirement Tie-in Sales 344 MINI-CASE Strategic Advertising 398 MANAGERIAL IMPLICATION Ties That Bind 344 Q&A Peak-Load Pricing Types of Nash Equilibria 400 MINI-CASE Downhill Pricing 346 Multiple Equilibria 401 MANAGERIAL SOLUTION Sale Prices 347 MINI-CASE Timing Radio Ads 403 Summary Questions 349 Mixed-Strategy Equilibria 403 MINI-CASE Competing E-Book Formats 406 Q&A Chapter 11 Oligopoly and Monopolistic 12.3 Information and Rationality 408 Competition 354 Incomplete Information 408 MANAGERIAL PROBLEM Gaining an Edge from MANAGERIAL IMPLICATION Solving Government Aircraft Subsidies 354 Coordination Problems Cartels 356 Rationality 410 Why Cartels Succeed or Fail 356 MANAGERIAL IMPLICATION Using Game MINI-CASE A Catwalk Cartel 358 Theory to Make Business Decisions 411 Maintaining Cartels Bargaining Cournot Oligopoly 360 Bargaining Games 412 Airlines 361 The Nash Bargaining Solution 412 USING CALCULUS Deriving a Cournot Firm's Q&A Marginal Revenue 365 USING CALCULUS Maximizing the Nash The Number of Firms 366 Product 414 MINI-CASE Air Ticket Prices and Rivalry 366 MINI-CASE Nash Bargaining over Coffee 414 Nonidentical Firms 368 Inefficiency in Bargaining 414 Q&A Auctions 415 Q&A Elements of Auctions 415 MANAGERIAL IMPLICATION Differentiating a Bidding Strategies in Private-Value Auctions 416 Product Through Marketing 372 MINI-CASE Experienced Bidders 417 Mergers 372 MINI-CASE Google Advertising 418 MINI-CASE Acquiring Versus Merging 374 The Winner's Curse Bertrand Oligopoly 374 MANAGERIAL IMPLICATION Auction Design 420 Identical Products 375 MANAGERIAL SOLUTION Dying to Work 420 Differentiated Products 376 Summary 421 s' Questions Monopolistic Competition 378 Appendix 12 Determining a Mixed Strategy 427 MANAGERIAL IMPLICATION Managing in the Monopolistically Competitive Food Truck Chapter 13 Strategies over Time 428 Market 378 Equilibrium 379 MANAGERIAL PROBLEM Intel and AMD's Q&A Advertising Strategies 428 Profitable Monopolistically Competitive 13.1 Repeated Games 430 Firms 380 Strategies and Actions in Dynamic Games 430 MINI-CASE Zoning Laws as a Barrier to Cooperation in a Repeated Prisoner's Entry by Hotel Chains 381 Dilemma Game 431 MANAGERIAL SOLUTION Gaining an MINI-CASE Tit-for-Tat Strategies in Trench Edge from Government Aircraft Subsidies 381 Warfare 433 Summary 383 a Questions 383 Implicit Versus Explicit Collusion 434 Appendix IIA Cournot Oligopoly with Many Finitely Repeated Games 434 Firms Sequential Games 435 Appendix IIB Nash-Bertrand Equilibrium 387 Stackelberg Oligopoly 436 Credible Threats 439 Chapter 12 Game Theory and Business Q&A Strategy Deterring Entry 441 Exclusion Contracts 441 MANAGERIAL PROBLEM Dying to Work 389 MINI-CASE Pay-for-Delay Agreements 442

7 Contents xi Limit Pricing MINI-CASE Pfizer Uses Limit Pricing to Slow Entry Q&A 13.2 Entry Deterrence in a Repeated Game 13.4 Cost Strategies Investing to Lower Marginal Cost Learning by Doing Raising Rivals' Costs Q&A 13.3 MINI-CASE Auto Union Negotiations 13.5 Disadvantages of Moving First The Holdup Problem MINI-CASE Venezuelan Nationalization MANAGERIAL IMPLICATION Avoiding Holdups Moving Too Quickly MINI-CASE Advantages and Disadvantages of Moving First 13.6 Behavioral Game Theory Ultimatum Games MINI-CASE GM's Ultimatum Levels of Reasoning MANAGERIAL IMPLICATION Taking Advantage of Limited Strategic Thinking MANAGERIAL SOLUTION Intel and AMD's Advertising Strategies Summary 458 * Questions 459 Appendix 13 A Mathematical Approach to Stackelberg Oligopoly Chapter 14 Managerial Decision Making Under Uncertainty MANAGERIAL PROBLEM Risk and Limited Liability 14.1 Assessing Risk Probability Expected Value Q&A 14.1 Variance and Standard Deviation MANAGERIAL IMPLICATION Summarizing Risk 14.2 Attitudes Toward Risk Expected Utility Risk Aversion Q&A 14.2 USING CALCULUS Diminishing Marginal Utility of Wealth MINI-CASE Stocks' Risk Premium Risk Neutrality Risk Preference MINI-CASE Gambling Risk Attitudes of Managers 14.3 Reducing Risk Obtaining Information MINI-CASE Bond Ratings Diversification MANAGERIAL IMPLICATION Diversifying Retirement Funds 482 Insurance 483 Q&A MINI-CASE Limited Insurance for Natural Disasters Investing Under Uncertainty 487 Risk-Neutral Investing 487 Risk-Averse Investing 488 Q&A Behavioral Economics and Uncertainty 489 Biased Assessment of Probabilities 489 MINI-CASE Biased Estimates 490 Violations of Expected Utility Theory 491 Prospect Theory 492 MANAGERIAL SOLUTION Risk and Limited Liability 494 Summary 495 «Questions 496 Chapter 15 Asymmetric Information 500 MANAGERIAL PROBLEM Limiting Managerial Incentives Adverse Selection 502 Adverse Selection in Insurance Markets 502 Products of Unknown Quality 503 Q&A Q&A MINI-CASE Reducing Consumers' Information Reducing Adverse Selection 507 Restricting Opportunistic Behavior 507 Equalizing Information 508 MANAGERIAL IMPLICATION Using Brand Names and Warranties as Signals 510 MINI-CASE Changing a Firm's Name 510 MINI-CASE Adverse Selection on ebay Motors Moral Hazard 512 Moral Hazard in Insurance Markets 513 Moral Hazard in Principal-Agent Relationships 513 MINI-CASE Selfless or Selfish Doctors? 517 Q&A Using Contracts to Reduce Moral Hazard 518 Fixed-Fee Contracts 518 Contingent Contracts 519 MINI-CASE Contracts and Productivity in Agriculture 522 Q&A Using Monitoring to Reduce Moral Hazard 524 Hostages 524 MANAGERIAL IMPLICATION Efficiency Wages 526 After-the-Fact Monitoring 526 MINI-CASE Abusing Leased Cars 526 MANAGERIAL SOLUTION Limiting Managerial Incentives 527 Summary 528 «Questions 529

8 xii Contents Chapter 16 Government and Business 533 MANAGERIAL PROBLEM Licensing Inventions Market Failure and Government Policy 534 The Pareto Principle 535 Cost-Benefit Analysis Regulation of Imperfectly Competitive Markets 536 Regulating to Correct a Market Failure 537 Q&A MINI-CASE Natural Gas Regulation 540 Regulatory Capture 542 Applying the Cost-Benefit Principle to Regulation Antitrust Law and Competition Policy 543 Mergers 545 MINI-CASE Hospital Mergers: Market Power Versus Efficiency 546 Predatory Actions 546 Vertical Relationships 546 MINI-CASE An Exclusive Contract for a Key Ingredient Externalities 548 MINI-CASE Negative Externalities from Spam 549 The Inefficiency of Competition with Externalities 549 Reducing Externalities 552 MINI-CASE Pulp and Paper Mill Pollution and Regulation 553 Q&A MINI-CASE Why Tax Drivers 555 The Coase Theorem 556 MANAGERIAL IMPLICATION Buying a Town Open-Access, Club, and Public Goods 557 Open-Access Common Property 558 MINI-CASE For Whom the Bridge Tolls 559 Club Goods 560 MINI-CASE Piracy 560 Public Goods Intellectual Property 563 Patents 563 Q&A MANAGERIAL IMPLICATION Trade Secrets 565 Copyright Protection 566 MANAGERIAL SOLUTION Licensing Inventions 566 Summary 568 ; Questions 569 Chapter 17 Global Business 573 MANAGERIAL PROBLEM Responding to Exchange Rates Reasons for International Trade 575 Comparative Advantage 575 Q&A MANAGERIAL IMPLICATION Paul Allen's Comparative Advantage 578 Increasing Returns to Scale 578 MINI-CASE Barbie Doll Varieties Exchange Rates 580 Determining the Exchange Rate 580 Exchange Rates and the Pattern of Trade 581 MANAGERIAL IMPLICATION Limiting Arbitrage and Gray Markets 582 Managing Exchange Rate Risk International Trade Policies 583 Quotas and Tariffs in Competitive Markets 583 Q&A MINI-CASE Managerial Responses to the Chicken Tax Trade War 589 Rent Seeking 589 Noncompetitive Reasons for Trade Policy 590 MINI-CASE Dumping and Countervailing Duties for Solar Panels 592 Trade Liberalization and the World Trading System 593 Trade Liberalization Problems Multinational Enterprises 595 Becoming a Multinational 596 MINI-CASE What's an American Car? 596 International Transfer Pricing 597 Q&A MINI-CASE Profit Repatriation Outsourcing 601 MANAGERIAL SOLUTION Responding to Exchange Rates 603 Summary 604 '< Questions 605 Answers to Selected Questions E-l Definitions E-13 References E-18 Sources for Managerial Problems, Mini-Cases, and Managerial Implications E-24 Index E-32 Credits E-51