Microeconomic Analysis

Review of:
-market structures
-economic drivers of profitability
-perfect competition
Professor Nabil I. Al-Najjar

The material is for the exclusive use in Microeconomics classes at Kellogg GSM,
Northwestern university. No other use is allowed without my permission.
 Taste for variety
Homogenous product Differentiated products
Importance of pricing strategies

environment
•Firms cannot shape their
•Interaction non-strategic
Minimum efficient/viable scale
Small relative to market demand

Perfect competition Monopolistic competition

•Agricultural products Mass, or shoppers’ Niche, or loyalists’
•Commodities markets: markets:
•Oil shipping •Office space •Small retailers
•paper •Electronics/Computer •Small home service
peripherals providers
•Microbreweries

competition
•Firms shape the nature of
•Strategic Interaction
Oligopoly
•Petrochemicals •pharmaceuticals
Large

•Agricultural products processing •RTE cereal

•Automobiles airlines

MES so large that only Natural monopoly

one firm can be viable.
Traditional sources of size New economy, demand-based,
economies: sources:
•Utilities •Microsoft (clear)
•Newspapers in •eBay (?less obvious)
small/medium towns
Important cost concepts

❖ Average variable cost (AVC): direct cost that can be avoided by

changing output level (including shutting down production in the
short-run)
◆ sometimes referred to as cash cost, or direct cost

❖ Average total cost (ATC): includes AVC plus the opportunity cost of
all assets currently committed to the industry

❖ Full-reinvestment ATC (F-R ATC): includes ATC plus the per unit,
annualized value of all investments necessary to acquire these assets
by a new firm
◆ This differs from ATC by sunk cost, converted to annual capital charge

Average variable cost with a ‘hard’ capacity

constraint: Aluminum smelters

Average total
cost

Marginal cost

Maximum capacity
For a modern plant, this is
about 220,000 tpy

1
 Firm vs. industry supply

❖ The supply of each firm is

◆ 0 output when the price is below its AVC
◆ Its full capacity when the price exceeds its AVC

❖ But the industry consists of many firms (157) with different cost
structures.

❖ What is the industry supply in this case?

Cost analysis

Alba Alba 3 Alcasa

Bahrain Bahrain Venezuela
State State CVG
221 230 210

Electricity usage (kWh/t) 16,000 13,949 16,864

Electricity price ($/kWh) 0.01 0.013 0.012
Total electricity cost: 204.99 178.71 196.37

Alumina usage (t/t Al) 1.93 1.92 1.94

Alumina price ($/t Alumina) 191.70 191.70 210.06
Total alumina cost: 369.99 368.07 406.67

Other raw materials 113.74 103.37 184.34

Plant power and fuel 2.75 2.75 12.68

Consumables 50.98 50.92 110.74
Maintenance 38.55 37.46 40.72
Labor 107.42 55.07 67.77
Freight 38.00 38.00 27.14

General and administrative 67.17 63.77 42.04

2
 Example of industry supply with four firms

Firm Capacity Cumulative AVC

capacity 834
825

Variable Costs
Zaporozhye 100 100 720
734
720
Sumgait 60 160 734

Sorocaba

Sayansk
Zaporozhye

Sumgait
Sorocaba 122 282 825

Sayansk 323 605 834 100 160 282 605

Cumulative Volume

Short-run Supply Curve for Primary Aluminum

2500.00

2000.00
Price (per ton)

1500.00

Supply curve

1000.00

500.00

0.00
100
1635
3327
5615
6886
8236
8961
10085
11310
12075
12754
13316
14081
14710
15635
16364
17203
17991
18766
19290
19669
20102
20825

Output ('000 tons)

3
 Supply and demand

Industry
Demand supply curve

What happens
at these prices?

Industry Q

Supply and demand analysis Industry demand curve

Market price Short-run Supply Curve for Primary Aluminum

2500.00

2000.00
Price (per ton)

1500.00

Supply curve

1000.00

500.00

0.00
1635
3327
5615
6886
8236
8961
100

10085
11310
12075
12754
13316
14081
14710
15635
16364
17203
17991
18766
19290
19669
20102
20825

Output ('000 tons)

4
 Supply and demand analysis

Short-run Supply Curve for Primary Aluminum

2500.00

2000.00

Demand
Price (per ton)

1500.00

Market Supply curve

price
1000.00

500.00

0.00
1635
3327
5615
6886
8236
8961
100

10085
11310
12075
12754
13316
14081
14710
15635
16364
17203
17991
18766
19290
19669
20102
20825
Output ('000 tons)

Short-run Supply Curve for Primary Aluminum

2500.00

2000.00
Full-
reinvestment
ATC
Price (per ton)

1500.00

Supply curve

1000.00

500.00

0.00
100
1635
3327
5615
6886
8236
8961
10085
11310
12075
12754
13316
14081
14710
15635
16364
17203
17991
18766
19290
19669
20102
20825

Output ('000 tons)

5
 Cash Costs By Nickel Mine in Global Nickel
Industry: 1999
300

Forestania
Cash cost per unit (cents per pound)

250
Each bar represents an individual nickel mine
(detailed data on next page)

Kambalda
200

150

Manitoba Division
Cerro Matoso

Falcondo
Sudbury
Ontario Division
100 Raglan
Mt Keith
Leinster
Murrin Murrin

Soroako

50

0
0 50 100 150 200 250 300 350 400 450 500

Cumulative Capacity (kilotons per year)

source: Minecost.com
World Mine Cost Data Exchange

Cash Costs By Copper Mine in Global Copper

Industry: 1999

100
Cash cost per unit (cents per pound)

Each bar represents an individual copper mine

(detailed data on next page)
80
Morenci sulfides

60
Nchanga
Teniente
Escondida sulfides

Candelaria

Cuajone
Ok Tedi
Bingham Canyon

40
Andina
Chuquicamata

Collahuasi
Los Pelambres
Radomiro Tomic
Morenci SXEW
Alumbrera

El Abra

20
Grasberg

0
0 1000 2000 3000 4000 5000 6000 7000 8000 9000

Cumulative Capacity (kilotons per year)

source: Minecost.com
World Mine Cost Data Exchange