Sunday, February 28, 2010

Unit 4 - Market Power

The unit was separated into four sections, Market Structure, Monopoly, Monopolistic Competition, Oligopoly.

Market Structure and economic profits is argued by Porter (2008) to be determined by five forces, "Threat of New Entrants", "Bargaining Power of Buyers", "Threat of Substitute", "Bargaining Power of Suppliers" and "Rivalry Among Existing Competitors".

Most companies try or would like to be in a position where threat of new entrants are low due to strong entry barriers. Some companies are naturally in industries where these barriers are strong. The barriers can be like supply-side economies of scale or network effects of existing companies. Some companies like Apple have tried to create strong barriers to enter markets, which were not really there to begin with. For example, when Apple first launched itunes where people could purchase songs via internet downloads. They captured a market who found the convenience of the uniqueness of Apples product. The main unique aspects of the product is that you can listen to a preview, and buy only one song of an album without paying for all the other songs. Songs were brought and uploaded within minutes. However, Apple only allowed the songs to be played on their devices through a formating copyright. This meant it was costly for uses of itunes to switch to substitute products. Therefore Apple managed to limit new entrants into the MP3 device and music downloading industries.

Bargaining power of suppliers is another force that determines the market structure. For example, if a supplier does not depend on a seller for its revenue then the supplier is in a position to dictate the price/quality at which a product is supplied to the seller. Or if the seller is not relent of the supplier, i.e. there are other suppliers that can supply similar products, the seller will have more bargaining power over the supplier.

Bargaining power of the buyer is another import force that determines how a market structure is shaped. If the buyer has many sellers selling similar products to choose from, the buyer has a large bargaining power with the supplier, however if there is only one seller selling the product of interest to a buyer the buyer has limited bargaining power with the seller, especially if the seller knows that the buyer views the product as a necessary.

Threat of substitutes can shape a market as a substitute product will increase completion for selling products.

Rivalry among existing competitors shapes how the market structure is, i.e. the economic profit, demand etc. Companies can compete with each other by price discouting, new products, advertising campains and service improvements. They can be particularly intensive rivalry if competitors are numerous or are similar size and share similar market powers, industry growth is slow therefore trying to gain customers off another rival, exit barriers are high meaning that they will run at a loss while a rivalry is played out etc.

Markets definitions can be defined by different scope. The broader the scope it is more likely that a firm has more competitor products or substitute products it is competing with in a market. However, if the market is narrow, the number products viewed as competitive/substitute products will be significantly less.

Monopolies have low threats of new entrants, the bargaining power of buyers and suppliers is low, the threat of substitute products low and rivalry among existing competitors is nearly or is non-existent. This is because a monopoly company is the dominate seller, has no close substitutes, is the price maker, has low threat of entrants usually due to strong entry barriers.

For a pure monopolist company the companies demand curve is the markets demand curve, is downwards sloping. The marginal revenue for producing an additional unit of product is always less than price whenever the monopolist charges the same price to all buyers. A monopolist company will maximize their economic profit when marginal cost equals marginal revenue, as they are the dominant competitor in the market they should be able to achieve this if they have good data and analysis of demand for their product/s.

Some monopolist companies are controlled/regulated by governments to adopt pricing policies that do not maximize profit. Two common pricing policies are "Fair-Return Price" and "Socially Optimum Price". Fair-Return Price is to set a maximum price by still allow the monopolist company to earn normal profits by not economic profits. The fair-return price is at the lowest point of the ATC curve where the MC curve interests the ATC curve meaning ATC=MC.

Socially Optimum price is where the government operates a monopoly themselves in a way which maximizes the net benefit to society. This occurs when the marginal cost is equal to the price buyers are willing to pay i.e. MC=AR=Demand.

Another concept introduced this unit is price discrimination. This is where a company charges defined segments of the market different prices to maximize the total economic profit. However some companies try and define to many segments which adds complexity into the purchase decision or lose customers to making their own substitutes.

Sunday, February 21, 2010

Unit 3 - Economic costs and profit

Unit 3 was focused on economic costs and profit for individual firms in a competitive perfect market. It was broken down into the following three sections, production, economic cost and economic profit.

The first part of the production section briefly discussed how companies produce outputs from operations and inputs. It also discussed value chains which can help managers think about a firm’s value adding activities, resources and capabilities. In a value chain there are primary activities which directly relation to producing/selling a company’s product, while there are also secondary activities which assist a firm in accomplishing its primary activities. For example, a primary activity for McDonald’s is the service of the front staff when ordering a burger while a secondary activity is the human resource management managing the staff.

This section briefly described the operation and services choices for a company and their associated trade-offs. For example, professional services offers large amount of variety in the products and services they offer customers the more likely the volume they produce is small, compared to a line operations where they generally offer limited products and services to clients but can produce large volumes. The implicit opportunity costs is where firms are able to increase their variety and while increasing their volume as well.

Variable inputs are easy to change, while fixed inputs are hard and costly to change. However, time is often a determining factor in considering if an input is fixed or variable. I.e. A firm may find it impossible to increase inputs for a product over a period of a day however are easily able to do this over a period of a year. For example, relocating factory to increase output may not be able to be changed within a day due to lease agreements however over a year the lease agreement may expire and they are able to move to a bigger factory.

Total Product is the total quantity of products produced when combining the variable inputs with fixed inputs. Marginal product is the difference in total product per a unit change in variable inputs. Average product is different from the marginal product is it is the total product per each unit. When the marginal product is above the average product curve the average product is rising and when it falls below the average product curve the average product decreases. Meaning that the curves will intersect at the highest point on the average product curve.

Diminsihing marginal returns is when the marginal product decreases with each additional unit of variable input. This is generally happens when the efficiency of adding another unit has reached its maximum and an additional unit does not add as much value as the previous unit added. This is a result of input over-crowding as management of these inputs become harder due to room or support.

Law of diminishing returns is where the total product falls when additional units of variable inputs are increased.

Economic costs are talked about in section 2 of this unit. If the economic costs are employed properly a equilibrium point between the products and costs can be found. Fixed costs are the opportunity costs associated with input. I.e. if a factory is leasing a building, this is generally a fixed costs as it does not matter on the success of the factory on what it needs to pay. If it is producing a lot of products, turning over a large profit the rent would be the same as if the factory was producing no products and therefore no profits. Variable costs are opportunity costs associated with variable inputs, which vary with changes in output.

Total costs is the cost of both fixed and variable costs combined.

Average fixed cost (AFC) is the total fixed cost per each unit of output. Average variable cost (AVC) is the total variable cost per each unit of output. Average total cost is AFC combined with AVC.

Marginal cost is the extra cost to produce one additional unit of output. Note that the MC and ATC curves intersect at the lowest value of the ATC, as the ATC will increase if the MC curve is above it or decrease of the MC is below it.

The cost curves will shift for many reasons such as a change in fixed costs or variable costs. Technology change or new operations producers.

There were three main sections when viewing the costs over the long run. The first section was economies of scale, then constant returns to scale and finally diseconomies of scale. These are dependent of the coordination costs or over-crowding of inputs that are not within the firms control. Managers can integrate many techniques into their businesses to capture economies of scale such as labour and managerial specialisation, efficient capital and head office, producing by-products and outsourcing.

A firm has a cost advantage if the total opportunity cost of performing all activities within a firm is lower than the total opportunity cost of a competitor costs. This is normally achieved by controlling the cost drivers and/or reconfiguring the value chain to make it more efficient in producing, distributing or marketing a product.

Note in this unit we are under the assumption of a competitor perfect market making a company’s demand curve perfectly elastic i.e. flat. This means they do not have any influence on the market and have to follow market driven prices.

Total revenue (TR) is the total amount in dollars received by a firm from the sale of their product. Average revenue(AR) is the average price received for the product per an output. Marginal revenue (MR) is the change in the total product per a change in level of the output.

Economic profit (EP) is greatest when the difference between TR and TC is greatest. Marginal economic profit (MEP) is MR minus MC, which means when MC=MR the EP is maximised.

A firm should enter the market when TR is greater than TC, MR is greater than MC and the price is greater than the market price. A firm should exit in the long run when the above is the exact opposite.

However, a company should only temporarily shut down when total revenue is less than variable costs, marginal revenue is less than marginal variable costs and the price is less than the average variable cost. This is because if a firm can cover its variable costs it may of well keep on trading in the short turn as any profit made above the variable costs can be put towards paying for fixed costs.

Please note that this was discussing an ideal case, there are not many firms that do not have at least some market power and the

Sunday, February 14, 2010

Unit 2 - Demand and Supply and Mobile Telephoney in India

This unit started off by very quickly explaining the basics of supply and demand graphs. It discuss concepts of individual and market supply and demands.

Effectively the individual demand curves is the quantities a person/firm would buy at variable prices. Market demand curves is the total quantity of a product that all buyers within the market are willing to buy at various prices. The demand curves will shift either left or right for various reasons such as changes in price of a substitute product, price of a complementary product, buyers income, number of buyers in the market, information available to buyers, expectation of future variables. Another reason for the curve being able to shift to the left or right is the availability of credit, which directly effects an individual, a firm or market's buying power. I believe that this is one of the main reason why there has be a large inflation in New Zealand's property market over the last few decades because in general banks and lending finance companies have continually made it easier for an individual, firm and market to borrow larger amounts of money to invest in the property market, which shifted the supply curve to the right as more people/groups could afford more expensive properties.

The supply curves are very similar to the demand curves. The most noticeable difference is that the supply curves generally have a positive slope, whereas the demand curves have a negative slope. The market supply is the total quantity of the product that all sellers in the market are willing to sell at various prices. The individual supply is the supply that of one seller. One thing which I believe is an exception to the positive slope of the supply curve is if a company has a very niche product which people buy for "social status" like a prada bag, the company will want may want only sell a little amounts of the bag at a very high price, in which they might meet the demand curve for them, whereas if they produced a larger quantity they may be more comfortable selling these at a lower price and therefore creating a negative sloped supply curve.

The major thing I think about is that the curves are generally are not going to be linear relationships because of many reason. For such for a demand curve that is derived from tastes, income etc. there will be many people that for say value receiving foxtel television at for say a price of $90/month, however there will be a large % drop off of customers for a 10% price increase and then a less % drop off for a further 10% price increase, therefore meaning the demand curve takes on a more of a hyperbola shape in this example.

In a perfect world there is excess supply or excess demand for a product, the market will find the equilibrium. However sometimes these excess supplies or demands are regulatory forced. Taxation and subsidies will shift the supply curve left and right respectively. The New Zealand government is looking at decreasing income tax and increasing GST which I believe will move the supply curve to the left initially as the companies will try pass on the increase in GST in there pricing. However, over the long term the supply curve will probably come back to the left generally as companies will not give pay increase or very little pay increase because they believe their employees got an "effective pay increase" with the decrease in income tax (also the company tax will decrease as well, which will also put pressure on pushing the curve to the left). The income and company tax will make production cheaper and therefore should bring the curve back over to the left.

Inelasticity means that quantity does not change much for the demand and supplies curves when the price changes along the curves, whereas elastic curves do. The perfect example of an elastic demand curve was the case study of Mobile Telephoney in India. It was obivous that the when the phone prices and tariffs were reduce there was a huge increase in the amount of mobile phones taken up in the India. It was reported that a 10% price increase is would reduce demand by roughly 21%.

It was also noticeable in the case study that the increase in mobile phones decreased the amount of fixed phones (per mobile phone). this indicated that the demand curve for fixed phones may of shifted to the left as a substitute product entered the market. However, it would of been better to see fixed phone lines quantity outright rather than per mobile phone. As the increase in mobile phones alone could of caused the number of fixed phones per mobile phone to decrease.
There appeared in the article that there was a rise in the general publics income would of moved the demand curve for mobile phones to the right. Also another effect of income rises is that the demand for higher quality mobile phones also moved to the right.
The phones became more of a necessary in India with a elasticity of under 1. The mobile phone providers offered pre-paid cards and other features/services which appears to be one of the reasons for the termendous growth in Mobile phone subscriptions.
Back to notes; the elasiticity of a curve depends is measure of sensitivity of one variable to another. It is not the slope of the curve. Note that elasticity can be different on the same curve. The degree of elasicity normally depends on if the customer views the product as a necessity.

Unit 1 - An economic way of thinking

Economics is the “science of choice. This unit covers microeconomics, macro economics, modelling of complex interactions and behaviour thinking. The major difference between microeconomics and macroeconomics is that micro focuses on individuals and firms while macro focuses on the economy as a whole.

The underlying cause of our economy is resources are scarce when compared to everyone’s wants and needs. Therefore, microeconomics is generally based on individuals trying to making rational self-interested choices. As resources are scarce people choose alternatives that provides them with the highest utility, which is traded off for utilities of lower satisfaction. Our modern economies in the developed world is based upon open markets with as little government regulations as possible. The principal is that governments will only regulate to stop situations like monopolies, property rights, human rights, market failures etc. However, it often governments can interfere with the open markets which creates inefficiencies within the market.

As micro economics is about interactions are generally between individuals and firms, the cost is what the minimum the seller will sell a product for, the value is the maximum a buyer will buy a product for and the price is the actual amount paid by the buyer. The price will fit in somewhere between the cost and value. A firms cost if using the economic way of thinking should be greater the explicit and implicit costs of a product. Firms will change this price (behave differently) depending on the amount of competition in the market. Generally if there are a lot of competition in the market in association with a product the price of the product will be lower, if there is less competition the price of the product will be greater. A buyers value will be influenced by their income, the product’s ability to satisfy their needs compared to other products.

Macroeconomics is concerned with the economy as a whole, which can be generally broken down into government, financial, household and business sectors. The analysis of macroeconomic level involves studying factors of total products and services produced in the economy, total income, productivity, price inflation, interest rates, exchange rates and national accounts. Countries with high productivities through skilled labour and/or infrastructure generally has good living standards because productivity increases the average income, giving people more buying power and governments have more taxation revenue to provide important social services and infrastructure. High inflation lessen the living standards as it affects people negativitly with fixed incomes or incomes that don’t keep pace with inflation. It also adds uncertainity to business and encourages excessive borrowing. Therefore, in most western countries it is the central banks role to keep inflation down. They do this by increasing or decreasing the official cash rate that affects the interest rates that many banks borrow or loan money at. If inflation is predicted to be high the banks will increase the OCR or if it is low they will low the OCR to try and stimulate growth within the economy, the central banks work independently of the governments and if government expenditure is high which puts upwards pressure on inflation the central bank may increase the OCR to counter the increase in inflation. Exchange rates are influenced by many things generally though trade between countries and relative interest rates. If a country is exporting more than they are importing to another country it puts pressure on lifting their exchange rate against the other country and ves versa. Economic policy with interest rates, taxtation and government expenditure tends to be complicated and is generally based around trades-off between inflation and economic growth.

Economics models attempt to model economies. They can hold a lot of assumptions which generally means they are modelling a more perfect economy, however the less assumptions a model has the more like reality it is. It is generally best to change only one variable to see what effects it has on the model, even though in the real world all variables are changing all the time.

People are generally focused on the losses and gains and not the final positions (covered under prospect theory). i.e. a loss of $400 000 is a bigger blow even though they may of gained $500 000 previously. People narrow themselves down with their framing, biases, sunk costs, negative comparisons and tend to ignore opportunity costs and lack self control.

Sunday, February 7, 2010