Microeconomics. Third Edition. Prentice Hall

Transcription

1 Microeconomics Third Edition Prentice Hall 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 Acknowledgments PMM1H: Introduction XX xxxvp CHAPTER 1: Economics: Foundations and Models 2 MICROSOFT VERSUS THE U.S. CONGRESS ON WORKER VISAS 3 Three Key Economic Ideas 4 People Are Rational 5 People Respond to Economic Incentives 5 Making the Connection: Will Women Have More Babies if the Government Pays Them To? 5 Optimal Decisions Are Made at the Margin 6 Solved Problem 1-1: Apple Computer Makes a Decision at the Margin 7 The Economic Problem that Every Society Must Solve 7 What Goods and Services Will Be Produced? 8 How Will the Goods and Services Be Produced? 8 Who Will Receive the'goods and Services Produced? 8 Centrally Planned Economies versus Market Economies 9 The Modern "Mixed" Economy 9 Efficiency and Equity 10 Economic Models 11 The Role of Assumptions in Economic Models 11 Forming and Testing Hypotheses in Economic Models 11 Normative and Positive Analysis 12 Positive Analysis with Normative Analysis 13 Economics as a Social Science 13 Making the Connection: Should the Federal Government Have Increased Restrictions on the Immigration of Skilled Workers? 13 Microeconomics and Macroeconomics 14 A Preview of Important Economic Terms 15 Conclusion 16 An Inside Look at Policy: Do Immigrants Displace or Complement Domestic Workers? 18 and Applications 20 CHAPTER 1 Appendix: Using Graphs and Formulas 24 Graphs of One Variable 25 Graphs of Two Variables 26 Slopes of Lines 26 v Taking into Account More Than Two Variables on a Graph. 28 Positive and Negative Relationships 29 Determining Cause and Effect 29 Are Graphs of Economic Relationships Always Straight Lines?,_ 31 Slopes of Nonlinear Curves 31 Formulas 32 Formula for a Percentage Change 32 Formulas for the Areas of a Rectangle and a Triangle 33 Summary of Using Formulas 34 Problems and Applications 34 CHAPTER 2: Trade-offs, Comparative Advantage, and the Market System 36 MANAGERS MAKING CHOICES AT BMW 37 Production Possibilities Frontiers and Opportunity Costs 38 Graphing the Production Possibilities Frontier 38 Solved Problem 2-1: Drawing a Production Possibilities Frontier for Rosie's Boston Bakery 40 Making the Connection: Facing the Trade-offs in Health Care Spending 41 Increasing Marginal Opportunity Costs 42 Economic Growth 43 Comparative Advantage and Trade 44 Specialization and Gains from Trade 44 Absolute Advantage versus Comparative Advantage 46 Comparative Advantage and the Gains from Trade 47 Absolute Advantage and Comparative Advantage 47 Solved Problem 2-2: Comparative Advantage and the Gains from Trade 48 The Market System 49 The Circular Flow of Income 50 The Gains from Free Markets 50 The Market Mechanism 52 Making the Connection: A Story of the Market System in Action: How Do You Make an ipod? 52 The Role of the Entrepreneur 53 The Legal Basis of a Successful Market System 53 Making the Connection: Property Rights in Cyberspace: YouTube, Facebook, and MySpace 54 Conclusion 55 An Inside Look: Detroit Challenges Hybrids with New Technology 56 and Applications 58 ix

3 CONTENTS CHAPTER 3: Where Prices Come From: The Interaction of Demand and Supply 64 RED BULL AND THE MARKET FOR ENERGY DRINKS 65 The Demand Side of the Market 66 Demand Schedules and Demand Curves 66 The Law of Demand, 67 What Explains the Law of Demand? 67 Holding Everything Else Constant: The Ceteris Paribus Condition 68 Variables That Shift Market Demand, 68 Making the Connection: Are Big Macs an Inferior ~" Good? 69 Making the Connection: The Aging of the Baby Boom Generation 70 A Change in Demand versus a Change in Quantity Demanded 71 Making the Connection: Red Bull and the Future Demand for Energy Drinks 73 The Supply Side of the Market 74 Supply Schedules and Supply Curves 74 The Law of Supply 75 Variables That Shift Market Supply 75 A Change in Supply versus a Change in Quantity Supplied 76 Market Equilibrium: Putting Demand and Supply Together * 78 How Markets Eliminate Surpluses and Shortages 78 Demand and Supply Both Count 79 Solved Problem 3-3: Demand and Supply Both Count: A Tale of Two Letters 80 The Effect of Demand and Supply Shifts on Equilibrium 81 The Effect of Shifts in Supply on Equilibrium 81 Making the Connection: The Falling Price of LCD Televisions 81 The Effect of Shifts in Demand on Equilibrium 83 The Effect of Shifts in Demand and Supply over Time 83 Solved Problem 3-4: High Demand and Low Prices in the Lobster Market? 84 Don't Let This Happen to You! Remember: A Change in a Good's Price Does Not Cause the Demand or Supply Curve to Shift 86 Shifts in a Curve versus Movements along a Curve 87 Conclusion 87 An Inside Look: How Does Advertising Help Red Bull Increase Demand for Its Energy Drink? 88 and Applications 90 CHAPTER 4: Economic Efficiency, Government Price Setting, and Taxes 96 SHOULD THE GOVERNMENT CONTROL APARTMENT RENTS? 97 Consumer Surplus and Producer Surplus 98 Consumer Surplus 98 Making the Connection: The Consumer Surplus from Broadband Internet Service 100 Producer Surplus 101 What Consumer Surplus and Producer Surplus Measure 102 The Efficiency of Competitive Markets 102 Marginal Benefit Equals Marginal Cost in Competitive Equilibrium 103 Economic Surplus " 103 Deadweight Loss 104 Economic Surplus and Economic Efficiency 105 Government Intervention in the Market: Price Floors and Price Ceilings 105 Price Floors: Government Policy in Agricultural Markets 105 Making the Connection: Price Floors in Labor Markets: The Debate over Minimum Wage Policy 106 Price Ceilings: Government Rent Control Policy in Housing Markets 108 "Scarcity" with a "Shortage" 109 Black Markets 109 Solved Problem 4-3: What's the Economic Effect of a Black Market for Apartments? 109 Making the Connection: Does Holiday Gift Giving Have a Deadweight Loss? 110 The Results of Government Price Controls: Winners, Losers, and Inefficiency 111 Positive and Normative Analysis of Price Ceilings and Price Floors 111 The Economic Impact of Taxes 112 The Effect of Taxes on Economic Efficiency 112 Tax Incidence: Who Actually Pays a Tax? 113 Solved Problem 4-4: When Do Consumers Pay All of a Sales Tax Increase? 114 Making the Connection: Is the Burden of the Social Security Tax Really Shared Equally between Workers and Firms? 115 Conclusion 117 An Inside Look at Policy: Is Rent Control a Lifeline or Stranglehold? 118 Key Terms, Summary. Review Questions, Problems and Applications 120 CHAPTER 4 Appendix: Quantitative Demand and Supply Analysis 127 Demand and Supply Equations 127 Calculating Consumer Surplus and Producer Surplus 128 Review Questions ; 130 Problems and Applications 130 PAM 2: Markets in Action CHAPTER 5: Externalities, Environmental Policy, and Public Goods 132 ECONOMIC POLICY AND THE ENVIRONMENT 133

4 CONTENTS Xi Externalities and Economic Efficiency 134 The Effect of Externalities 134 Externalities and Market Failure 136 What Causes Externalities? 136 Private Solutions to Externalities: The Coase Theorem 137 The Economically Efficient Level of Pollution Reduction 137 Making the Connection: The Clean Air Act: How a Government Policy Reduced Infant, Mortality _ V.,138 The Basis for Private Solutions to Externalities 140 Don't Let This Happen to You! Remember That It's the Net Benefit That Counts 141 Making the Connection: The Fable of the Bees 141 Do Property Rights Matter? 142 The Problem of Transactions Costs 142 The Coase Theorem 142 Government Policies to Deal with Externalities 143 Solved Problem 5-3: Using a Tax to Deal with a Negative Externality 144 Command and Control versus Market-Based Approaches 145 Are Tradable Emissions Allowances Licenses to Pollute?^ k, 146 Making the Connection: Can a Cap-and-Trade System Reduce Global Warming? 146 Four Categories of Goods 148 Making the Connection: Should the Government Run the Health Care System? 149 The Demand for a Public Good 151 The Optimal Quantity of a Public Good 152 Solved Problem 5-4: Determining the Optimal Level of Public Goods 153 Common Resources 155 Conclusion 157 An Inside Look at Policy: The Carbon Cap Dilemma,158 and Applications 160 CHAPTER 6: Elasticity: The Responsiveness of Demand and Supply 166 DO PEOPLE RESPOND TO CHANGES IN THE PRICE OF GASOLINE? 167 The Price Elasticity of Demand and its Measurement 168 Measuring the Price Elasticity of Demand 168 Elastic Demand and Inelastic Demand 169 An Example of Computing Price Elasticities 169 The Midpoint Formula 170 Solved Problem 6-1: Calculating the Price Elasticity of Demand 171 When Demand Curves Intersect, the Flatter Curve Is More Elastic 172 Polar Cases of Perfectly Elastic and Perfectly Inelastic Demand 172 Inelastic with Perfectly Inelastic 174 The Determinants of the Price Elasticity of Demand 174 Availability of Close Substitutes 174 Passage of Time 175 Luxuries versus Necessities 175 Definition of the Market 175 Share of a Good in a Consumer's Budget 175 Some Estimated Price Elasticities of Demand 175 Making the Connection: The Price Elasticity of Demand for Breakfast Cereal 176 The Relationship between Price Elasticity of Demand and Total Revenue 177 Elasticity and Revenue with a Linear Demand Curve 178 Solved Problem 6-3: Price and Revenue Don't Always Move in the Same Direction 179 Estimating Price Elasticity of Demand 180 Making the Connection: Determining the Price Elasticity of Demand through Market Experiments 180 Other Demand Elasticities 181 Cross-Price Elasticity of Demand 181 Income Elasticity of Demand 182 Making the Connection: Price Elasticity, Cross-Price Elasticity, and Income Elasticity in the Market for Alcoholic Beverages 183 Using Elasticity to Analyze the Disappearing Family Farm 183 Solved Problem 6-5: Using Price Elasticity to Analyze Policy toward Illegal Drugs 184 The Price Elasticity of Supply and its Measurement 185 Measuring the Price Elasticity of Supply 186 Determinants of the Price Elasticity of Supply 186 Making the Connection: Why Are Oil Prices So Unstable? 186 Polar Cases of Perfectly Elastic and Perfectly Inelastic Supply 187 Using Price Elasticity of Supply to Predict Changes in Price 189 Conclusion 190 An Inside Look: Consumers Change Their Behavior in Response to the Gas Prices 192 and Applications 194 PAR! 3 Firms in the Domestic and International Economies CHAPTER 7: Firms, the Stock Market, and Corporate Governance 202 FACEBOOK: FROM DORM ROOM TO WALL STREET 203 Types of Firms 204 Who Is Liable? Limited and Unlimited Liability 204

5 XII CONTENTS Corporations Earn the Majority of Revenue and Profits 205 Making the Connection: How Important Are Small Businesses to the U.S. Economy? 206 The Structure of Corporations and the Principal-Agent Problem 206 Corporate Structure and Corporate Governance 207 Solved Problem 7-2: Does the Principal-Agent Problem Apply to the Relationship between Managers and Workers?, 207 How Firms Raise Funds v _208 Sources of External Funds 208 Stock and Bond Markets Provide Capital and Information 210 Don't Let This Happen to You! When Google Shares Change Hands, Google Doesn't Get the Money 210 Why Do Stock Prices Fluctuate So Much? 211 Making the Connection: Following Abercrombie & Fitch's Stock Price in the Financial Pages 212 Using Financial Statements to Evaluate a Corporation 213 The Income Statement 214 The Balance Sheet 215 Corporate Governance Policy 215 The Accounting Scandals of the Early 2000s 215 Solved Problem 7-5: 4What Makes a Good Board of Directors? 216 The Financial Meltdown of the Late 2000s 217 Making the Connection: Was the Principal-Agent Problem at the Heart of the Financial Crisis? 218 Conclusion 219 An Inside Look: The Principal-Agent Problem at Facebook 220 and Applications 222 CHAPTER 7 Appendix: Tools to Analyze Firms' Financial Information 227 Using Present Value to Make Investment Decisions 227 Solved Problem 7A-1: How to Receive Your Contest Winnings 229 Using Present Value to Calculate Bond Prices 230 Using Present Value to Calculate Stock Prices 230 A Simple Formula for Calculating Stock Prices 231 Going Deeper into Financial Statements 232 Analyzing Income Statements 232 Analyzing Balance Sheets 233 Key Terms, Review Questions, Problems and Applications 234 CHAPTER 8: Comparative Advantage and the Gains from International Trade 236 IS A GOVERNMENT "BUY AMERICAN" POLICY A GOOD IDEA FOR U.S. FIRMS LIKE CATERPILLAR? 237 The United States in the International Economy 238 The Importance of Trade to the U.S. Economy 238 U.S. International Trade in a World Context 239 Making the Connection: How Caterpillar Depends on International Trade 240 Comparative Advantage in International Trade 241 A Brief Review of Comparative Advantage 241 Comparative Advantage in International Trade 242 How Countries Gain from International Trade 243 Increasing Consumption through Trade 243 Solved Problem 8-3: The Gains from Trade 244 Why Don't We See Complete Specialization? 246 Does Anyone Lose as a Result of International Trade? 246 Don't Let This Happen to You! Remember That Trade Creates Both Winners and Losers 246 Where Does Comparative Advantage Come From? 247 Making the Connection: Why Is Dalton, Georgia, the Carpet-Making Capital of the World?. 248 Comparative Advantage Over Time: The Rise and Fall and Rise of the U.S. Consumer Electronics Industry 248 Government Policies that Restrict International Trade 249 Tariffs 250 Quotas and Voluntary Export Restraints 251 Measuring the Economic Effect of the Sugar Quota 252 Solved Problem 8-4: Measuring the Economic Effect of a Quota 253 The High Cost of Preserving Jobs with Tariffs and Quotas 254 Gains from Unilateral Elimination of Tariffs and Quotas 255 Other Barriers to Trade 255 The Arguments Over Trade Policies and Globalization 255 Why Do Some People Oppose the World Trade Organization? 256 Making the Connection: The Unintended Consequences of Banning Goods Made with Child Labor 257 Dumping 259 Positive versus Normative Analysis (Once Again) 259 Making the Connection: The Obama Administration Develops a Trade Policy 260 Conclusion 261 An Inside Look at Policy: Caterpillar and Other Exporters Oppose "Buy American" Provision 262 and Applications CHAPTER 8 Appendix: Multinational Firms 272 A Brief History of Multinational Enterprises 272 Strategic Factors in Moving from Domestic to Foreign Markets 273 Making the Connection: Have Multinational Corporations Reduced Employment and Lowered Wages in the United States? 275

6 CONTENTS xiii Challenges to U.S. Firms in Foreign Markets 276 Competitive Advantages of U.S. Firms 276 Key Terms, Review Questions, Problems and Applications 277 PAiTT4!. SVHicroeconomic Foundations: Consumers and Firms CHAPTER 9: Consumer Choice and Behavioral Economics 278 CAN OPRAH GET YOU TO BUY A KINDLE? 279 Utility and Consumer Decision Making 280 The Economic Model of Consumer Behavior in a Nutshell " 280 Utility ^ 280 The Principle of Diminishing Marginal Utility 281 The Rule of Equal Marginal Utility per Dollar Spent 281 Solved Problem 9-1: Finding the Optimal Level of Consumption 284 What if the Rule of Equal Marginal Utility per Dollar Does Not Hold? 285 Don't Let This Happen to You! Equalize Marginal Utilities per Dollar^ 286 The Income Effect and Substitution Effect of a Price Change 287 Where Demand Curves Come from 288 Making the Connection: Are There Any Upward-Sloping Demand Curves in the Real World? ' 290 Social Influences on Decision Making 291 The Effects of Celebrity Endorsements 291 Making the Connection: Why Do Firms Pay Tiger Woods to Endorse Their Products? 292 Network Externalities 292 Does Fairness Matter? 293 Making the Connection: Professor Krueger Goes to the Super Bowl 295 Behavioral Economics: Do People Make Their Choices Rationally? 296 Ignoring Nonmonetary Opportunity Costs 296 Failing to Ignore Sunk Costs 297 Making the Connection: A Blogger Who Understands the Importance of Ignoring Sunk Costs 298 Being Unrealistic about Future Behavior 298 Making the Connection: Why Don't Students Study More? 299 Solved Problem 9-4: How Do You Get People to Save More of Their Income? 299 Conclusion 301 An Inside Look: The Power of Oprah's Kindle Endorsement 302 and Applications 304 CHAPTER 9 Appendix: Using Indifference Curves and Budget Lines to Understand Consumer Behavior 309 Consumer Preferences 309 Indifference Curves 309 The Slope of an Indifference Curve 310 Can Indifference Curves Ever Cross? 311 The Budget Constraint 311 Choosing the Optimal Consumption of Pizza and Coke 312 Making the Connection: Dell Determines the Optimal Mix of Products 313 Deriving the Demand Curve 314 Solved Problem 9A-1: When Does a Price Change Make a Consumer Better Off? 316 The Income Effect and the Substitution Effect of a Price Change 317 How a Change in Income Affects Optimal Consumption 318 The Slope of the Indifference Curve, the Slope of the Budget Line, and the Rule of Equal Marginal Utility per Dollar Spent 319 The Rule of Equal Marginal Utility per Dollar Spent Revisited 320 Key Terms, Review Questions, Problems and Applications 321 CHAPTER 10: Technology, Production, and Costs 324 SONY USES A COST CURVE TO DETERMINE THE PRICE OF RADIOS 325 Technology: An Economic Definition 326 Making the Connection: Improving Inventory Control at Wal-Mart 326 The Short Run and the Long Run in Economics 327 The Difference between Fixed Costs and Variable Costs 327 Making the Connection: Fixed Costs in the Publishing Industry 328 Implicit Costs versus Explicit Costs 328 The Production Function 329 A First Look at the Relationship between Production and Cost 330 The Marginal Product of Labor and the Average Product of Labor 331 The Law of Diminishing Returns 331 Graphing Production 332 Making the Connection: Adam Smith's Famous Account of the Division of Labor in a Pin Factory 333 The Relationship between Marginal and Average Product 333 An Example of Marginal and Average Values: College Grades 334 The Relationship between Short-Run Production and Short-Run Cost 335 Marginal Cost 335

7 xiv CONTENTS Why Are the Marginal and Average Cost Curves U-Shaped? 335 Solved Problem 10-4: The Relationship between Marginal Cost and Average Cost 337 Graphing Cost Curves 338 Costs in the Long Run 338 Economies of Scale 339 Long-Run Average Total Cost Curves for Bookstores 340 Solved Problem 10-6: Using Long-Run Average Cost Curves to Understand Business Strategy 341 Making the Connection: The Colossal River Rouge:. Diseconomies of Scale at Ford Motor Company Diminishing Returns With Diseconomies of Scale 343 Conclusion 344 An Inside Look: Sony Gambles on the Future Cost of the Next Generation of TVs 346 and Applications 348 CHAPTER 10 Appendix: Using Isoquants and Isocosts to Understand Production and Cost 355 Isoquants 355 An Isoquant Graph *» 355 The Slope of an Isoquant 356 Isocost Lines 356 Graphing the Isocost Line 356 The Slope and Position of the Isocost Line 356 Choosing the Cost-Minimizing Combination of Capital and Labor 358 Different Input Price Ratios Lead to Different Input Choices 358 Making the Connection: The Changing Input Mix in Walt Disney Film Animation 359 Another Look at Cost Minimization 360 Solved Problem 10A-1: Determining the Optimal Combination of Inputs 361 Making the Connection: Do National Football League Teams Behave Efficiently? 362 The Expansion Path 363 Key Terms, Review Questions, Problems and Applications 364 PAWti : Market Structure and Firm Strategy CHAPTER 11: Firms in Perfectly Competitive Markets 366 PERFECT COMPETITION IN THE MARKET FOR ORGANIC APPLES 367 Perfectly Competitive Markets 369 A Perfectly Competitive Firm Cannot Affect the Market Price 369 The Demand Curve for the Output of a Perfectly Competitive Firm 370 the Demand Curve for Farmer Parker's Wheat with the Market Demand Curve for Wheat " 370 How a Firm Maximizes Profit in a Perfectly Competitive Market 371 Revenue for a Firm in a Perfectly Competitive Market 371 Determining the Profit-Maximizing Level of Output 372 Illustrating Profit or Loss on the Cost Curve Graph 374 Showing a Profit on the Graph 375 Solved Problem 11-3: Determining Profit- Maximizing Price and Quantity 375 Don't Let This Happen to You! Remember that Firms Maximize Their Total Profits, Not Their Profits per Unit 377 Illustrating When a Firm Is Breaking Even or Operating at a Loss 378 Making the Connection: Losing Money in the Medical Screening Industry 378 Deciding Whether to Produce or to Shut Down in the Short Run 379 Making the Connection: When to Close a Laundry 380 The Supply Curve of a Firm in the Short Run 381 The Market Supply Curve in a Perfectly Competitive Industry 381 "If Everyone Can Do It, You Can't Make Money at It": The Entry and Exit of Firms in the Long Run 382 Economic Profit and the Entry or Exit Decision 382 Long-Run Equilibrium in a Perfectly Competitive Market 386 The Long-Run Supply Curve in a Perfectly Competitive Market 386 Making the Connection: Easy Entry Makes the Long Run Pretty Short in the Apple iphone Apps Store 387 Increasing-Cost and Decreasing-Cost Industries 388 Perfect Competition and Efficiency 389 Productive Efficiency 389 Solved Problem 11-6: How Productive Efficiency Benefits Consumers 389 Allocative Efficiency 391 Conclusion 391 An Inside Look at Policy: It Isn't Easy or Cheap to be Green 392 and Applications 394 CHAPTER 12: Monopolistic Competition: The Competitive Model in a More Realistic Setting 400 STARBUCKS: THE LIMITS TO GROWTH THROUGH PRODUCT DIFFERENTIATION 401

8 CONTENTS XV Demand and Marginal Revenue for a Firm in a Monopolistically Competitive Market 402 The Demand Curve for a Monopolistically Competitive Firm 402 Marginal Revenue for a Firm with a Downward- Sloping Demand Curve 402 How a Monopolistically Competitive Firm Maximizes Profits in the Short Run 404 Solved Problem 12-2: Does Minimizing Cost Maximize Profits? 406 What Happens to Profits in the Long Run? How Does the Entry of New Firms Affect the Profits of Existing Firms? 407 Zero Economic Profit with Zero Accounting Profit 408 Making the Connection: The Rise and Decline of Starbucks 410 Is Zero Economic Profit Inevitable in the Long Run? 410 Solved Problem 12-3: Can It Be Profitable to Be the High-Price Seller? 411 Comparing Perfect Competition and Monopolistic Competition 412 Excess Capacity under Monopolistic Competition 412 Is Monopolistic Competition Inefficient? 413 How Consumers Benefit from Monopolistic Competition * 413 Making the Connection: Abercrombie & Fitch: Can the Product Be Too Differentiated? 414 How Marketing Differentiates Products 414 Brand Management 415 Advertising 415 Making the Connection: Google Tries (and Fails) to Measure the Effectiveness of Radio Advertising 415 Defending a Brand Name 416 What Makes a Firm Successful? 416 Making the Connection: Is Being the First Firm in the Market a Key to Success? 417 Conclusion 418 An Inside Look: Starbucks Faces McCompetition 420 and Applications 422 CHAPTER 13: Oligopoly: Firms in Less Competitive Markets 430 COMPETITION IN THE COMPUTER MARKET 431 Oligopoly and Barriers to Entry 432 Barriers to Entry 433 Using Game Theory to Analyze Oligopoly 435 A Duopoly Game: Price Competition between Two Firms 435 Firm Behavior and the Prisoner's Dilemma 436 Don't Let This Happen to You! Don't Misunderstand Why Each Firm Ends Up Charging a Price of $1, Solved Problem 13-2: Is Advertising a Prisoner's Dilemma for Coca-Cola and Pepsi? 437 Making the Connection: Is There a Dominant Strategy for Bidding on ebay? 438 Can Firms Escape the Prisoner's Dilemma? 439 Making the Connection: American Airlines and Northwest Airlines Fail to Cooperate on a Price Increase 440 Cartels: The Case of OPEC 441 Sequential Games and Business Strategy 443 Deterring Entry 443 Solved Problem 13-3: Is Deterring Entry Always a Good Idea? 444 Bargaining 445 The Five Competitive Forces Model 446 Competition from Existing Firms 446 The Threat from Potential Entrants 447 Competition from Substitute Goods or Services 447 The Bargaining Power of Buyers 448 The Bargaining Power of Suppliers 448 Making the Connection: Can We Predict Which Firms Will Continue to Be Successful? 448 Conclusion 449 An Inside Look: Hewlett-Packard Uses New Technology to Boost Sales of Personal Computers 450 and Applications 452 CHAPTER 14: Monopoly and Antitrust Policy 460 IS CABLE TELEVISION A MONOPOLY? 461 Is Any Firm Ever Really a Monopoly? 462 Making the Connection: Is Xbox 360 a Close Substitute for Playstation 3? 462 Where Do Monopolies Come From? 463 Entry Blocked by Government Action 463 Making the Connection: The End of the Christmas Plant Monopoly 464 Control of a Key Resource 465 Making the Connection: Are Diamond Profits Forever? The De Beers Diamond Monopoly 465 Network Externalities 466 Natural Monopoly 467 Solved Problem 14-2: Is the OpenTable Web Site a Natural Monopoly? 468 How Does a Monopoly Choose Price and Output? 469 Marginal Revenue Once Again "" 469 Profit Maximization for a Monopolist 471 Solved Problem 14-3: Finding Profit-Maximizing Price and Output for a Monopolist 472 Does Monopoly Reduce Economic Efficiency? 473 Comparing Monopoly and Perfect Competition 473 Don't Let This Happen to You! Don't Assume That Charging a Higher Price Is Always More Profitable for a Monopolist 474

9 xvi CONTENTS Measuring the Efficiency Losses from Monopoly 474 How Large Are the Efficiency Losses Due to Monopoly? 475 Market Power and Technological Change 476 Government Policy Toward Monopoly 476 Antitrust Laws and Antitrust Enforcement 476 Mergers: The Trade-off between Market Power and Efficiency 477 The Department of Justice and FTC Merger Guidelines \ 479 Making the Connection: Have Google and Microsoft, - Violated the Antitrust Laws? 480 Regulating Natural Monopolies 481 Conclusion 483 An Inside Look at Policy: The End of the Cable TV Monopoly? 484 and Applications 486 CHAPTER 15: Pricing Strategy 492 GETTING INTO WALT DISNEY WORLD: ONE PRICE DOES NOT FIT ALL 493 Pricing Strategy, the Law of One Price, and Arbitrage 494 Arbitrage 494 Solved Problem 15-1: Is Arbitrage Just a Rip-off? 495 Why Don't All Firms^Gharge the Same Price? 495 Price Discrimination: Charging Different Prices for the Same Product 496 Price Discrimination with Other Types of Discrimination 496 The Requirements for Successful Price Discrimination 497 Solved Problem 15-2: How Apple Uses Price Discrimination to Increase Profits 498 Airlines: The Kings of Price Discrimination 499 Making the Connection: How Colleges Use Yield Management. 501 Perfect Price Discrimination 501 Price Discrimination across Time 503 Can Price Discrimination Be Illegal? 503 Making the Connection: Price Discrimination with a Twist at Netflix 504 Other Pricing Strategies 505 Odd Pricing: Why Is the Price $2.99 Instead of $3.00? 505 Why Do Firms Use Cost-Pius Pricing? 506 Making the Connection: Cost-Pius Pricing in the Publishing Industry 506 Why Do Some Firms Use Two-Part Tariffs? 508 Conclusion 511 An Inside Look: Paying for the Right to Pay to See "America's Team" 512 and Applications 514 PAWfi &z Markets for Factors of Production CHAPTER 16: The Markets for Labor and Other Factors of Production 520 WHY ARE THE NEW YORK GIANTS PAYING CC SABATHIA $161 MILLION? 521 The Demand for Labor 522 The Marginal Revenue Product of Labor 522 Solved Problem 16-1: Hiring Decisions by a Firm That Is a Price Maker 524 The Market Demand Curve for Labor 525 Factors That Shift the Market Demand Curve for Labor 525 The Supply of Labor 526 The Market Supply Curve of Labor 528 Factors That Shift the Market Supply Curve of Labor 528 Equilibrium in the Labor Market 528 The Effect on Equilibrium Wages of a Shift in Labor Demand 529 Making the Connection: Will Your Future Income Depend on Which Courses You Take in College? 530 The Effect on Equilibrium Wages of a Shift in Labor Supply 531 Explaining Differences in Wages 532 Don't Let This Happen to You! Remember That Prices and Wages Are Determined at the Margin 532 Making the Connection: Technology and the Earnings of "Superstars" 533 Compensating Differentials 534 Making the Connection: Are U.S. Firms Handicapped by Paying for Their Employees' Health Insurance? 535 Discrimination 536 Solved Problem 16-4: Is Passing "Comparable Worth" Legislation a Good Way to Close the Gap between Men's and Women's Pay? 538 Labor Unions 541 Personnel Economics 542 Should Workers' Pay Depend on How Much They Work or on How Much They Produce? 542 Making the Connection: Raising Pay, Productivity, and Profits at Safelite AutoGlass 543 Other Considerations in Setting Compensation Systems 543 The Markets for Capital and Natural Resources 544 The Market for Capital 544 The Market for Natural Resources 545 Monopsony 545 The Marginal Productivity Theory of Income Distribution 546

10 CONTENTS XVii Conclusion 547 An Inside Look: Basketball Coaches' Salaries: A March to Madness? 548 and Applications 550 PART 7: Information, Taxes, and the Distribution off Income CHAPTER 17: The Economics of Information 558 WHY DOES STATE FARM CHARGE YOUNG MEN SO MUCH MORE THAN YOUNG WOMEN FOR AUTO INSURANCE? 559 Asymmetric Information 560 Adverse Sele'ction and the Market for "Lemons" 560 Reducing Adverse Selection in the Car Market: Warranties and Reputations 561 Asymmetric Information in the Market for Insurance 561 Reducing Adverse Selection in the Insurance Market 561 Making the Connection: Does Adverse Selection Explain Why Some People Do Not Have Health Insurance? 562 Moral Hazard * 563 Adverse Selection with Moral Hazard 564 Adverse Selection and Moral Hazard in Financial Markets 564 Reducing Adverse Selection and Moral Hazard in Financial Markets 565 Making the Connection: Moral Hazard, Big Time: Bernie Madoff's "Ponzi" Scheme 565 Adverse Selection and Moral Hazard in Labor Markets 566 Solved Problem 17-3: Changing Workers' Compensation to Reduce Adverse Selection and Moral Hazard 567 The Winner's Curse: When Is It Bad to Win an Auction? 568 Making the Connection: Is There a Winner's Curse in the Marriage Market? 569 When Does the Winner's Curse Apply? 569 Solved Problem 17-4: Auctions, Available Information, and the Winner's Curse 570 Making the Connection: Want to Make Some Money? Try Auctioning a Jar of Coins 570 Conclusion 571 An Inside Look at Policy: Pay Less for Car Insurance! (But We'll Be Watching How You Drive) 572 and Applications 574 CHAPTER 18: Public Choice, Taxes, and the Distribution of Income 578 SHOULD THE GOVERNMENT USE THE TAX SYSTEM TO REDUCE INEQUALITY? 579 Public Choice 580 How Do We Know the Public Interest? Models of Voting 580 Government Failure? 582 Is Government Regulation Necessary? 584 The Tax System 584 An Overview of the U.S. Tax System 585 Progressive and Regressive Taxes 586 Making the Connection: Which Groups Pay the Most in Federal Taxes? 587 Marginal and Average Income Tax Rates 587 The Corporate Income Tax 588 International Comparison of Corporate Income Taxes 588 Evaluating Taxes 589 Making the Connection: Should the United States Shift from an Income Tax to a Consumption Tax? 590 Tax Incidence Revisited: The Effect of Price Elasticity 592 Don't Let This Happen to You! Remember Not to Confuse Who Pays the Tax with Who Bears the Burden of the Tax 592 Making the Connection: Do Corporations Really Bear the Burden of the Federal Corporate Income Tax? 593 Solved Problem 18-3: The Effect of Price Elasticity on the Excess Burden of a Tax 594 Income Distribution and Poverty 595 Measuring the Income Distribution and Poverty 595 Explaining Income Inequality 596 Showing the Income Distribution with a Lorenz Curve 598 Problems in Measuring Poverty and the Distribution of Income 599 Solved Problem 18-4: Are Many Individuals Stuck in Poverty? 600 Income Distribution and Poverty around the World 601 Conclusion 603 An Inside Look at Policy: Should the Government Use a Tax on Soda to Pay For an Overhaul of Health Care? 604 and Applications 606 GLOSSARY COMPANY INDEX SUBJECT INDEX CREDITS G-l C-l