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Example: Q = 150 - 10P + 5M

∂Q / ∂P = -10

At P = 5, M=0 -> Q = 100

Ep = (∂Q / ∂P) (P / Q)
Ep = ( -10 )( 5 / 100) = -0.5
Marginal Analysis:
- Optimization techniques
provide a decision rule that
will allow us to choose the
best decision from a set of
alternatives.
- Optimal managerial
decisions involve comparing
benefts to a decision against
the associated costs of that
decision.
- Marginal Analysis will allow
us to use optimization
techniques to make sound
business decisions.
Graph of Benefts (R):
Benefts (revenues are
assumed to come from
demand anal!sis:
- "he equation for such a line
isP = a – (b*Q)
- Revenuesthen are given
b! #$%& thus TR ' (a (
b%$% ' aQ – bQ^2
- )e want $$MC = MR**
- MR = Δ(TR)ΔQ
! MC = Δ(TC) ΔQ
- *anagers want
to"a#i"i$e %r&fts ('et
Revenue)b! setting
marginal profts (Marginal
'et Revenue (M() = )
- +emember that *B and *,
will var! at di-erent
quantities. (.ee graph:
Marginal Pr&ft
A%%r&a*+:
- Get M( (take derivative
of ( then set M( = )
MRMC A%%r&a*+:
- Get MR an, MC then set
MR=MC
+evenue *a/imization with /
and !:
)hen given an inverse
demand function P = a –
(b*-) and a TC equation:
.te%s t& Ma#i"ii$ing
Pr&ft:
- .te% /: solve for "+ b!
multipling # b! %
- .te% 2: .olve for ( b!
computing TR –TC = (
! .te% 0: ,ompute
marginal profts (M() b!
taking derivative of (1
! .te% 2: .et M(= ) and
solve for proft ma/imizing
%
! .te% 3: #lug % back into
( e-uati&n to fnd
optimized profts.
.u%%ly an, 4e"an,:
! 4e"an, *urve: address
intentions to purchase
(consumer or demand side-
the amount of good or service
that consumers are willing
and able to purchase from
market.
! .u%%ly *urve: address
intentions to suppl! (producer
or suppl! side-the amount of
a good or service that
producers are willing and able
to o-er0suppl! to market.
! 5-uilibriu": the price
and quantit! that correspond
to where the amount
producers are willing to
suppl! equal the amount that
consumers are willing to
purchase.
- 1n a 6ree "ar7et& the
e-uilibriu" %ri*e is
determined from
simultaneous interaction of
suppl! and demand curves.
! Pri*e Ceiling: "he
government can impose a
price ceiling (a ma/imum
price allowed to be charged
if the! think that the
equilibrium %ri*e is t&&
+ig+. "his causes a s+&rtage
("he quantit! supplied is less
t+an the quantit!
demanded.
! Pri*e 8l&&r: 2 minimum
price charged that is imposed
when the government
believes that the equilibrium
%ri*e is t&& l&9. "his causes
a sur%lus (the quantit!
supplied is greater t+an the
quantit! demanded.
4e"an, Curve:
4eter"inants
&6-uantity
,e"an,e,#rice (#& #rice of
substitute goods (#s& #rice of
complementar! goods (#c&
1ncome (3& 2dvertising (2&
2dvertising b! ,ompetitors
(2c& .ize of population (4&
5/pected future prices (#e&
2d6ustment time period ("a&
"a/es or subsides (" or ..
C+ange in -uantity
,e"an,e,: 2 movement
along a demand curve that
occurs when the price of the
good changes& all else
constant.
C+ange in 4e"an,: 2
shift in the demand curve&
either leftward or rightward&
that occurs onl! when one of
the determinants of demand-
not including price-changes.
.u%%ly Curve:
4eter"inants &6 .u%%ly
8un*ti&n: #rice (#& 1nput
#rices (#1& #rice of unused
substitute goods (#71&
"echnological improvements
("& 5ntr! and e/it of other
sellers (55& 2ccidental suppl!
interruptions (8& ,ost of
regulator! compliance (+,&
5/pected future changes in
price (#5& 2d6ustment time
period ("2& "a/es or .ubsidies
(" or ..
Bu,get :ine: shows the
various combinations of 9 and
3 that the consumer can
purchase based upon his0her
income.
C&nsu"er .ur%lus: "he
value that the consumer gets
but does not have to pa! for
(what the would have paid
versus what the! actuall!
paid
- Cal*ulate: "ake the area
of the triangle above the
market price and what the
consumer was willing to pa!
(:0; base$height.
Pr&,u*er .ur%lus: <alue
that producers receive versus
the value that induces them
to produce.
- Cal*ulate: the area of the
triangle under the market
price (:0; base$height.
5lasti*ity: 5qual to the
percent change in quantit!
demanded divided b! the
percent change in price.
*easures the responsiveness
of a good=s sales to changes
in its price.
5 = ;<ΔQ <ΔP;
**(remember absolute
value$$
But remember that > or (
indicates the direction that
the elasticit! is talking about.
5 = / = 5lasti*
5 = ) Per6e*tly
>nelasti*
5 ? / = >nelasti*
5 = /  @nit 5lasti*
5 = ∞ Per6e*tly
5lasti*
AiBen &r Ceblen A&&,s:
Goods that don=t conform to
laws of demand& and have
positive 5. (?u/ur! goods.
- 5/: 5 ' -; means a :@A
increase in price means a
;@A decrease in quantit!
demanded.
- #rice and quantit! are
negativel! related b! the ?aw
of Bemand so 5 is alwa!s
negative. B! convention&
when we compute the
elasticit! of demand& we take
the absolute value.
- 5lasticit! is 4C" the same
as slope. .lope measures
change in quantit! as price
changes. 5lasticit! measures
the percentage change in %
relative to the percentage
change in #.
- P&int 5lasti*ityD If we
know the form of the demand
function (linear)& then we
write5%= (ΔQΔP)*(PQ)
4eter"inants &6 5%D
- D of substitutes (more subs
' more elastic
- share of total budget
allocated to spend on a
certain product (spending a
smaller A of income on a
good ' inelastic demand.
- durabilit! of product
- time frame (longer time '
more elastic
>n*&"e 5lasti*ity:
*easures the responsiveness
of quantit! demanded to
changes in income& *&
holding the price of a good
and all other determinants of
demand for the good
constant.
5 = <ΔQ <ΔM
P&sitive = '&r"al g&&,
'egative = >n6eri&r
g&&,
Cr&ss Pri*e 5lasti*ity:
measures the responsiveness
of quantit! demanded of good
9 to changes in the price of a
related good 3& holding the
price of good 9 and all other
determinants of demand for
good 9 constant.
5#y = <ΔQ# <ΔPy
5#y= ) != E an, F are
substitutes
5#y? ) != E an, F are
*&"%le"ents
7sing demand functions with
elasticit!:
Q = 6748 - 3P + .7! + 1.68P"

P#$%e P = &15,000
'(%"me ! = &17,500
)elate* P#$%e P" = &14,500

Q = 6748 - 3(15,000) + .7(17,500) + 1.68(14,500)
Q = 33,708
E
P
= -3 ( 15,000 / 33,708) = -1.335

E
!
= .7 ( 17,500 / 33,708 ) = 1.41

E
P"
= 1.68 ( 14,500 / 33,708 ) = 0.73
C+anges in Revenues
9+en y&u +ave "&re
t+an &ne g&&,D
ΔR = GR# (/H5Q#IP#) H
RF5QFIP#J # <ΔP#
MR = P G / H / 5% J
Revenues are maimized
where 5p ' -: and *+ ' @
8or linear demand 5 E
price var! directl!
1f F5F G : then *+ G @
1f F5F H : then *+ G @
P = a – bQ
TR = PQ = aQ – bQ
2
MR = a ! 2bQ
Mar7u% Pri*ingD
MC = G5%(/H5%)J – /
 = (P!MC)MC 9+ere
MC=MR
)hen there is 4C Bemand
8unction& use ARC
analysis:

+∆Q
Q - Q1
(Q1 + Q)/
P - P1
(P1 + P)/
+∆P
Pr&,u*ti&n 8un*ti&nD
Q = 8(KI:)where I is
,apital and ? is ?abor.
- Generall! capital is f#e, in
t+e s+&rt run& although it is
possible for either factor to
remain f/ed
T&tal Pr&,u*tD "he
ma/imum output produced
with given amounts of inputs
Average Pr&,u*t &6 an
>n%ut: measure of output
produced per unit of input.
Average Pr&,u*t &6
:ab&rD AP:= Q:(output
of an average worker
Average Pr&,u*t &6
Ca%italD
AP7= QK(output per unit
of capital
Marginal Pr&,u*t &6 an
>n%ut: change in total output
attributable to the last unit of
an input.
Marginal Pr&,u*t &6
:ab&r: MP: = ΔQΔ:
(output produced b! the last
worker
Marginal Pr&,u*t &6
Ca%italD
MP7 = ΔQΔK (output
produced b! the last unit of
capital
4i"inis+ing Marginal
Returns: "he point where a
variable input increases and
*# decreases (4C" the same
as negative returns
Q
L
Q=F(K,L)
Increasing
Marginal
Returns
Diminishing
Marginal
Returns
Negative
Marginal
Returns
MP
AP
2s the usage of an input
increases& marginal product
initiall! increases (increasing
marginal returns& then
begins to decline (decreasing
marginal returns& and
eventuall! becomes negative
(negative marginal returns.
.+&rt Run L%ti"i$ati&n:
)hen labor or capital var! in
the short run& to ma/imize
proft a manager will hire:
?abor until :VMPL = w&
where VMPL = P x MPL
C+
,apital until: VMPK = r&
where VMPK = P x MPK
(3ou want the value of the
additional unit ' the cost of
it
! >n t+e l&ng run b&t+
in%uts vary
Marginal Rate &6
Te*+ni*al .ubstituti&n:
"he rate at which two inputs
are substituted while
maintaining the same output
level.
MRT. = MP:MPK
>s&-uant: 1llustrates the
long-run combinations of
inputs (I& ? that !ield the
producer the same level of
&ut%ut.
Q
1

Q

Q
3
,
-
Increasing
Output
- "he! have diminishing *+".
(negative slope.
- "he! are 4C4-linear so
*+". will be di-erent at
di-erent points.
>s&*&st: "he combinations
of inputs that produce a given
level of output at the same
*&st.
C = 9: H rK
K = (/r)C – (9r):
,
-
C
/
!
"
/r
!
"
/w
C
)
!
#
/w
!
#
/r
$ewIsocost %ine
associated with higher
costs (!
#
&!
"
)'
8or given input prices&
isocosts farther from the
origin are associated with
higher costs.
-
,
$ewIsocost %inefor
a decreasein the
wage(priceof la(or)
w
#
*w
"
)'
!/w
#
!/w
"
!/r
,hanges in input prices
change the slope of the
isocost line.
C&st Mini"i$ati&n 5Q:
)here the slope of the isocost
line ' slope of the isoquant
r
w
MP
MP
r
MP
w
MP
K
L K L
= ⇔ =
r
w
MRTS
KL
=
Q
-
,
+oint of !ost
Minimization
C&st Analysis:
C(Q) = CC(Q) H 8C
.un7 C&st: 2 cost that is
forever lost after it has been
paid.
8i#e, C&sts (8C)D,osts
that do not change as output
changes.
&
Q
A./
A0/
A1/
M/
ATC = ACC H A8C
ATC = C(Q)Q
ACC = CC(Q)Q
A8C = 8CQ
MC = 4C4Q
5*&n&"ies &6 .*ale:
Cccur when long-run average
cost decreases as output
increases
4ise*&n&"ies &6 s*ale:
Cccur when long-run average
cost increases as output
increases.
C&nstant e*&n&"ies &6
s*ale: Cccur when long-run
average cost remains
constant as output increases.
:&ng Run AC:
-)A/
Q
E%"("m$e2
"3 4%ale
5$2e%"("m$e2
"3 4%ale
Q6
Multi!Pr&,u*t C&st
8un*ti&n:
( )

1 1 1
, cQ bQ Q aQ f Q Q C + + + =
Per6e*t C&"%etiti&n:
- ?arge number of frms
- 5ach frm produces onl! a
ver! small portion of total
market or industr! output
- 2ll frms produce a
homogenous product
- 5ntr! into and e/it from the
market is unrestricted
M&n&%&ly:
- Cne frm produces the entire
market output
- .trong barriers to entr! e/ist
M&n&%&listi*
C&"%etiti&n:
- ?arge number of frms
- 5ach frm produces onl! a
ver! small portion of total
market or industr! output.
- #roducts are close& but not
perfect& substitutes.
- 5ntr! into and e/it from the
market is eas!.
- 8irms deliver var!ing levels
of support and service to
customers
Llig&%&ly:
- 8ew frms produce most or
all of total market output.
- #roducts are close or perfect
substitutes.
- .trong barriers to entr! e/ist
- 4on-price competition is an
important means of
competition.
Merfn,a+l >n,e#: MM> =
N .i
2
C&n*entrati&n Rati&D
(Nfrms shares0number of
frms
JJ1 *l&se t& /)I))) '
oligopol! or monopol!.
(,oncentrated
JJ1 *l&se t& ) ' perfect
competition or monopolistic
competition (<er!
competitive.MM> = /)I)))
N wi
2
where wi= Si /ST
,hallenged if JJ1 G:K@@
(;L@@ now or merger
increases JJ1 b! :@@ (;@@
now
Jowever& the government
will allow the merger if it
achieves an eMcienc!.