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Managerial Economics
August 2020
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Things to follow!
• Question-answer session every 15 minutes
• Doubts to be posted on the chat window – “session teaching assistant” to aggregate

doubts and ask
• Technical glitches may happen – class SPOC to be informed
2
Brief Introduction and Identity Card
Miranda House (BA Econ): Gokhale Institute of Econ (MA Eco): GE Energy: 2006 - 2009
2001 - 04 2004 -06
Suzlon Energy: 2009 - 2014 SIU PhD: 2016 - Now

SIU: 2014 - Now 3
Some Questions to Begin With!
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1: TANSTAAFL - There Ain’t No Such Thing As Free Lunch
▪ Nothing in this world is for free: Hidden/Indirect Costs
are Inevitable!
▪ Example: Farm Loan Waivers by Maharashtra Government
(Rs. 12381 Crores)
▪ Opportunity Costs are an important consideration.
▪ There is no right or wrong decision – Opportunity cost

valuations are subjective (for individual decisions)
5
2: What kind of an ”economy” is good
Free Market/ Market
Command Economies
Economies
Demand and Supply decide Economy runs on extreme

economic transactions government control
Little government control Ex: Korea and Cuba
Ex: Almost all countries

6
2: Command Vs Free Economy
Free Market Command Economy
Private Participation High to very high Low (government monopolies)
Incentives Price Government provided
Prices Market determined Government fixed (floor and ceiling

prices)
Efficiency Driven by competition Low due to no/low incentives
Equality Income inequalities tend to be higher Social welfare is top of govt priority
Examples Almost all countries Soviet Union, China (till 1970) , Cuba,
Korea
Understanding Free Vs Command: Case # 1
• Example: There are 10 cups of tea for sale
in the canteen at 11AM (mid morning
break)
• All 60 of you want it (demand)
• Case 1: price is fixed at Rs. 10/cup
(Command pricing)
• Question: How do you distribute the 10
cups of tea? First cum first serve?
• If yes, then are some people getting left
out (maybe the really needy ones)
8
Understanding Free Vs Command: Case # 2
• Same data: Demand (60) and Supply (10)
• Pricing: Free market – let the demand decide
the price?
• Q1: Will it be more than Rs. 10 per cup?
• Most likely , Yes
• Q2: Is this a more fair system than Command

pricing?
• Bottom line: Free market price is both an

incentives (to supply) and filter (to demand)
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3: Incentives Matter
• What Incentivizes an Entrepreneur?
• Free market prices act as Incentive (where demand and supply have a
role to play)
• Lack of Incentives discourage innovation and productivity!

o Example: Railways
10
4: Ways to understand the consumer is changing – Behavioral
Economics
• Nudges: Default Opt-Ins and Default Opt-Outs

• Research ideas: Behavioral Economics/
Consumer Behavior/ Behavioral Finance
4: More Nudges
4: Behavioral Economics – Good Reads
5: Information is Valuable but is Asymmetric.
• JanDhan-Aadhar-Mobile (JAM Trinity)
• Motive ~ Financial Inclusion to improve
information symmetry
• People have more information than policy

makers ~ Information is always assymetric
• The consumer will always remain less informed
• Read: General Motor’s Pontiac Story
14
6: Economic Thinking is Thinking on the Margin.
You have been driving for 10 minutes for a slot in free
parking.
You could also just pay Rs. 50 to park in paid slots.
Which one would you chose?
“What is the value of the extra minutes that you spend

looking for free parking?” – Thinking on the margin.
What else could you have done with those extra

minutes? – closely related to concept of opportunity
cost
15
7: Competition is efficient and hard ~ Its nothing delicate.
Efficiency Profits can nose-dive
Best Man Wins
Encourages Innovations
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Stock Take: What have we learnt so far!
Free Vs Command Markets : 1

Price can be market Opportunity Costs
determined or controlled
(Floor Vs Ceiling Prices)
2
3 Market determined prices can

incentivize supply/demand (as the
Nudges case maybe)
4
5
Information Asymmetry
Competition is good, but hard
6
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India Today: Impact of COVID - 19
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Basics of Demand and Supply
Analysis: Principles of Economics
Sept 2020
1
The Basic Decision-Making Units
• A firm is an organization that transforms

resources (inputs) into products (outputs).
Firms are the primary producing units in a
market economy.
• An entrepreneur is a person who organizes,
manages, and assumes the risks of a firm,
taking a new idea or a new product and
turning it into a successful business.
• Households are the consuming units in an
economy.
© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair
The Circular Flow of Economic Activity
• The circular flow of

economic activity shows
the connections between
firms and households in
input and output markets.
Input Markets and Output Markets
• Output, or product,
markets are the markets
in which goods and
services are exchanged.
• Input markets are the

markets in which
resources—labor, capital,
• Payments flow in the opposite and land—used to
direction as the physical flow of produce products, are
resources, goods, and services
(counterclockwise). exchanged.
Input Markets
Input markets include:

• Labor market: Households supply labor and get
wages in return.
• Capital market: Households supply
savings/money and get interest in return
• Land market: Households supply land and get
rent in return
Determinants of Household Demand
A household’s decision about the quantity of a particular

output to demand depends on:
• The price of the product in question.
• The income available to the household.
• The household’s amount of accumulated wealth.
• The prices of related products available to the
household.
• The household’s tastes and preferences.
• The household’s expectations about future
income, wealth, and prices.
Quantity Demanded
• Quantity demanded is the amount

(number of units) of a product that a
household would buy in a given time
period if it could buy all it wanted at
the current market price.
Demand in Output Markets
ANNA'S DEMAND
• A demand schedule
SCHEDULE FOR is a table showing
TELEPHONE CALLS how much of a given
QUANTITY product a household
PRICE DEMANDED
(PER (CALLS PER would be willing to
CALL) MONTH) buy at different prices.
$ 0 30
0.50 25
3.50 7 • Demand curves are
7.00 3 usually derived from
10.00 1
15.00 0 demand schedules.
The Demand Curve
ANNA'S DEMAND
SCHEDULE FOR
• The demand curve is
TELEPHONE CALLS a graph illustrating
PRICE
QUANTITY
DEMANDED
how much of a given
(PER
CALL)
(CALLS PER
MONTH)
product a household
$ 0 30 would be willing to
0.50 25
3.50 7 buy at different prices.
7.00 3
10.00 1
15.00 0
The Law of Demand
• The law of demand

states that there is a
negative, or inverse,
relationship between
price and the quantity
of a good demanded
and its price.
• This means that
demand curves slope
downward
• But why?
Income Effect and Substitution Effect
Assume the Price of a Commodity Falls
Substitution Effect Income Effect
Since X is now cheaper You can buy more –

– demand more Real Income Increases
Demand for X Demand for X

increases increases
Both the SE and IE ensure that as Px falls, Demand Increases
~ Hence the downward sloping demand curve
Exception to Law of Demand: Giffen Goods
A special type of inferior good : As Price rises,
demand also rises
Legend: Great Irish Famine (1845 – 52)
Poor people largely dependent on potatoes
Key: The good As potatoes became more exp, poor people

must be a started to substitute meat with potatoes (Since
staple in yourmeat was even more expensive)
diet and should
have no close
substitutes. Thus as Price Increased, Demand also
increased!
© 2002 Prentice Hall Business Publishing Principles of Economics, 6/e Karl Case, Ray Fair 12
Exception to Law of Demand: Veblen Goods
As price increased – demand also increases
Bandwagon Effect OR Snob Effect
Demand increases since the perceived value

of the product also increases
Example: Luxury cars, laptops, education?
13
What other variables impact demand
(not price) and how?
Normal Vs Inferior Goods (demand based
on income)
• Normal Goods are goods for which

demand goes up when income is
higher and for which demand goes
down when income is lower.
• Most consumer products
• Inferior Goods are goods for which
demand falls when income rises.
• Example: Low quality rice/pulses
Substitute Vs Compliments (Demand
based on price of related goods)
• Substitutes are goods that can serve as

replacements for one another; when the
price of one increases, demand for the
other goes up. Perfect substitutes are
identical products.
• Complements are goods that “go

together”; a decrease in the price of one
results in an increase in demand for the
other, and vice versa.
Shift of Demand Versus Movement Along a
Demand Curve
• A change in demand is
not the same as a change
in quantity demanded.
• In this example, a higher
price causes lower
quantity demanded.
• Changes in determinants
of demand, other than
price, cause a change in
demand, or a shift of the
entire demand curve, from
DA to DB.
Shift in Demand
A Change in Demand Versus a Change in Quantity
Demanded
• When demand shifts to

the right, demand
increases. This causes
quantity demanded to be
greater than it was prior to
the shift, for each and
every price level.
A Change in Demand Versus a Change in Quantity
Demanded
To summarize:
Change in price of a good or service
leads to
Change in quantity demanded

(Movement along the curve).
Change in income, preferences, or

prices of other goods or services
leads to
Change in demand
(Shift of curve).
The Impact of a Change in Income
• Higher income • Higher income

decreases the demand increases the demand
for an inferior good for a normal good
The Impact of a Change in the Price
of Related Goods
• Demand for complement good
(ketchup) shifts left
• Demand for substitute good (chicken)

shifts right
• Price of hamburger rises

• Quantity of hamburger
demanded falls
From Household to Market Demand
• Demand for a good or service can be

defined for an individual household, or
for a group of households that make up a
market.
• Market demand is the sum of all the

quantities of a good or service demanded
per period by all the households buying in
the market for that good or service.
From Household Demand to Market
Demand
• Assuming there are only two households in the

market, market demand is derived as follows:
Supply in Output Markets
CLARENCE BROWN'S • A supply schedule is a table

SUPPLY SCHEDULE showing how much of a product
FOR SOYBEANS
firms will supply at different
QUANTITY
SUPPLIED prices.
PRICE (THOUSANDS
(PER
BUSHEL)
OF BUSHELS
PER YEAR)
• Quantity supplied represents the
$ 2 0 number of units of a product that
1.75 10
2.25 20
a firm would be willing and able to
3.00 30 offer for sale at a particular price
4.00 45 during a given time period.
5.00 45
The Supply Curve and
the Supply Schedule
• A supply curve is a graph illustrating how much

of a product a firm will supply at different prices.
CLARENCE BROWN'S
Price of soybeans per bushel ($)

6
SUPPLY SCHEDULE
FOR SOYBEANS 5
QUANTITY
SUPPLIED
4
PRICE (THOUSANDS
3
(PER OF BUSHELS
BUSHEL) PER YEAR) 2
$ 2 0
1.75 10 1
2.25 20
3.00 30 0
4.00 45
5.00 45 0 10 20 30 40 50
Thousands of bushels of soybeans
produced per year
The Law of Supply
• The law of supply

Price of soybeans per bushel ($)
6
5 states that there is a
4 positive relationship
3
between price and
2
1
quantity of a good
0
supplied.
0 10 20 30 40 50
Thousands of bushels of soybeans • This means that
produced per year
supply curves
typically have a
positive slope.
Determinants of Supply
• The price of the good or service.

• The cost of producing the good, which in
turn depends on:
• The price of required inputs (labor,
capital, and land),
• The technologies that can be used to
produce the product,
• The prices of related products.
A Change in Supply Versus
a Change in Quantity Supplied
• A change in supply is
not the same as a
change in quantity
supplied.
• In this example, a higher
price causes higher
quantity supplied, and
a move along the
demand curve.
• In this example, changes in determinants of supply, other
than price, cause an increase in supply, or a shift of the
entire supply curve, from SA to SB.
• When supply shifts

to the right, supply
increases. This
causes quantity
supplied to be
greater than it was
prior to the shift, for
each and every price
level.
To summarize:
Change in price of a good or service
leads to
Change in quantity supplied

(Movement along the curve).
Change in costs, input prices, technology, or prices of

related goods and services
leads to
Change in supply
(Shift of curve).
From Individual Supply
to Market Supply
• The supply of a good or service can be defined

for an individual firm, or for a group of firms that
make up a market or an industry.
• Market supply is the sum of all the quantities of

a good or service supplied per period by all the
firms selling in the market for that good or
service.
Market Supply
• As with market demand, market supply is the

horizontal summation of individual firms’ supply
curves.
Market Equilibrium
• The operation of the market

depends on the interaction
between buyers and sellers.
• An equilibrium is the condition

that exists when quantity supplied
and quantity demanded are equal.
• At equilibrium, there is no tendency

for the market price to change.
Market Equilibrium
• Only in equilibrium is
quantity supplied
equal to quantity
demanded.
• At any price level
other than P0, the
wishes of buyers
and sellers do not
coincide.
Market Disequilibria
• Excess demand, or
shortage, is the condition
that exists when quantity
demanded exceeds
quantity supplied at the
current price.
• When quantity demanded
exceeds quantity
supplied, price tends to
rise until equilibrium is
restored.
Market Disequilibria
• Excess supply, or
surplus, is the condition
that exists when quantity
supplied exceeds quantity
demanded at the current
price.
• When quantity supplied
exceeds quantity
demanded, price tends to
fall until equilibrium is
restored.
Increases in Demand and Supply
• Higher demand leads to • Higher supply leads to

higher equilibrium price and lower equilibrium price and
higher equilibrium quantity. higher equilibrium quantity.
Decreases in Demand and Supply
• Lower demand leads to • Lower supply leads to

lower price and lower higher price and lower
quantity exchanged. quantity exchanged.
Relative Magnitudes of Change
• The relative magnitudes of change in supply and

demand determine the outcome of market equilibrium.
Relative Magnitudes of Change
• When supply and demand both increase, quantity

will increase, but price may go up or down.
Do it yourself
• Rent controls in India

• Fertilizer price ceilings
Price regulations: Price
Ceilings and Price
Floors
Good or Bad?
What happens when prices are regulated
Some questions to think about:
- Are rent controls a good thing, where we don’t let the
rents increase? PRICE CEILINGS
- Are minimum wages desirable, where we promise to
pay labor a minimum wage for the work? PRICE FLOORS
2
Rent Controls : PRICE CEILINGS
• Rent control in Paris resulted in:
– A huge shortage of living quarters.
– New housing construction stopped.
– Existing housing was allowed to deteriorate.
– Many families had to double up with other family
members.
Rent Controls
• Rent control is a price
ceiling on rents set by
the government. S
• Rent control in Paris
Rental Price (per month)

after World War I $17.00
Shortage
created a housing
shortage. 2.50
• The shortage would D

have been eliminated
if rents had been
allowed to rise to $17 QS QD
per month. Quantity of apartments
Minimum Wage : PRICE FLOORS
• The minimum wage, a price
S
floor, is set by government
Wmin specifying the lowest wage
a firm can legally pay.
We
• A minimum wage, Wmin,
Wage per hour
above the equilibrium

wage, We, helps those who
D are employed, Q2, but hurts
those who would have been
employed at We, but can no
Q2 Qe Q1 longer find employment,
Quantity of Workers Qe- Q2.
Why are we happy when prices are kept low: Consumer Surplus
6
Value to Consumer: APCQ*
P • Let’s say you want to
A Supply
consume Q* units of Qty
• Market Price = P*
• What you want to pay =
revealed by the demand
P* C
curve
• Hence, Value of consuming
Q* = AOCQ*
B Demand
0 Q* Q/t
7
Consumer Surplus: AP*C
P Consumer Surplus
A
Supply
P* C
B Demand
0 Q* Q/t
8
Consumer Surplus: AP*C
P Consumer Surplus
A
Supply
Amount Consumer
pays producer
Value to
P* C
the
Consumer
B Demand
0 Q* Q/t
9
Consumer Surplus in Perfect Competition: High
P Consumer Surplus
A
Supply
Amount Consumer
pays producer
Value to
P* C
the
Consumer
PC
B Demand
0 Q* Q/t
10
Why is the producer happy when prices are kept high:
Producer Surplus!
11
Cost to Producer: OBCQ*
Price
A Supply
P* C
B Demand
0 Q*
12
Producer Surplus: BP*C
P Producer Surplus
A
Supply
P* C
B Demand
0 Q* Q/t
13
Producer Surplus: BP*C
P Producer Surplus
A
Supply
Amount consumer
P* C pays producer
B
Cost to Producer Demand
0 Q* Q/t
14
Key Takeaways
Price • Any price fixing (floor or
ceiling) will lead to a
Interference loss in CS/PS
• Diff between Supplier’s

Producer cost and Market Price
• Monopoly
Surplus • Price Ceilings
• Diff between WTP and

Consumer Market Price
• Competetive
Surplus • Price floors
15
Think
• You want to sell your second hand Baleno
• What is the best way to realize the highest price for it? How will you
find out potential buyer’s willingness to pay
• Auctions – price discovery – also called price discrimination (3rd
degree)
16
Elasticity and its applications
1
The Concept of Elasticity
 You work at the GST council of India.
 There is discussion of increasing the GST on alcohol
 You support this increase since the GST collections in Q1 2020 have been lesser
due to COVID-19 induced dampened demand
 To what extent can you increase the price?

 Increase it too much – demand will fall, or will it?
 Increase it too little – revenues wont increase much.
 Elasticity helps you measure the responsiveness of Quantity demanded, to

price change. ~ Known as PRICE ELASTICITY 2
DifferentTypes of Elasticity
Price
Elasticity
Cross
Income
Price
Elasticity Elasticity
3
Own Price Elasticity : How does one estimate it?
Point on Curve A B C D E F G
Price 6 5 4 3 2 1 0
Qty 0 100 200 300 400 500 600
 Use the averages of prices and qtys
 Formula = (Change in qty/Change in price)* (P1+P2)/Q1+Q2)
 This measures the % responsiveness in demand relative to % change in prices
4
Income Elasticity
• As income increases, people have more money to spend.
– For a particular good, how much of a demand increase will occur?
– Income elasticity of demand: % change in quantity demanded divided by % change in
income.
– What will be the sign of Income elasticity of demand?
– Will it matter if goods are normal/ inferior In nature?
5
Cross Price Elasticity
• Measure of elasticity with respect to change in price of another good
• What are the types of goods ? Substitutes and compliments
• If price of a substitute goods rises, demand for original good will increase.
• What happens when price of a compliment rises?
• Cross price elasticity for substitutes is Positive
• Cross price elasticity for a compliment is Negative
6
 Competing goods are called Substitutes
 You can “Substitute “ one for another
 What happens when price of nestle chocolate increases?
 Demand of Cadbury’s is Positively related to Price of Nestle
7
 Goods that are used jointly
 One good “compliments” the other
 What happens when price of cheese increases?
 Demand of burgers is Inversely related to price of cheese
8
Interpretation of Results
•If E > 1, demand is elastic.
– Consumer response is large relative to the change in variable.
•If E < 1, demand is inelastic.
– Consumer response is small relative to the change in variable.
•If E = 1, demand is unitary elastic.
– % change in quantity demanded is exactly equal to % change in variable.
9
Determinants of Elasticity
Necessities vs. luxuries.
◦ Demand for necessities is relatively inelastic.
◦ Demand for luxuries is relatively elastic.
Availability of substitutes.
◦ The greater the availability of substitutes, the more elastic is the product’s demand.
◦ No or few substitutes? Inelastic demand.
10
Determinants of Elasticity
• Price of good
– Demand for low-priced goods is relatively inelastic.
– Demand for high-priced goods is relatively elastic.
• Time.
– The more time you have to adjust to a price change, the more elastic is your response.
– No time to adjust? Highly inelastic demand.
11
How can we judge effects on revenue?
– If demand is inelastic (E<1), a price falls decreases total revenue, and vice versa.
– If demand is elastic (E>1), a price fall increases total revenue, and vice versa.
– If demand is unitary-elastic (E=1), a price change does not change total revenue.
– So if you are the product manager, and you need to improve revenues, the price change
should be done keeping in mind the segment of the demand curve you are operating in!
12
Price
Discrimination
Revision
• Perfect competitive – long run there is no
economic rent (profit or loss, due to entry and exit
of supplier. P=MR=MC, flat demand curve)
• Monopoly – single seller – P>MC. P>MR. In eqm,
MR=MC, therefore in eqm, P>MC – monopolist is
always going to make profits. No exit and entry
allowed.
• Monopolistically competitive: Mimic both features
of PC and Monopoly. Price control = f(product
heterogeneity). Differentiation can be perceived or
real. Due to free entry and exit of competetors,
long run there is no profit and no loss.
Price discrimination occurs when a
business charges a different price
to different groups of consumers
for the same good or service, for
reasons not associated with costs.
3
Enablers: What enables this discrimination
Differing Elasticities of Geographic

Price Control
Demand Seperation
Product cant be
Suppliers must Important to be
equally demanded
have some separated/segment
in different
influence ed (geographically)
mkts/time etc
4
Price Discrimination.
Different
Quantity
Same Higher
Sales Profits
Different
Different Same
Consumer
Price Product Segments
Same
Costs
Different
time periods
5
Different Types
Freemium Model
2 Part Pricing
Third Degree
Second Degree
First Degree
Types of Price Discrimination
1. First-degree price discrimination occurs when
each unit of output is sold at a different price such
that all consumer surpluses go to the seller.
2. Second-degree price discrimination occurs
when the seller prices the first block of output at
a higher price than subsequent blocks of output.
3. Third-degree price discrimination occurs when
different prices are charged to groups of buyers in
totally separate markets.
4. 2 part pricing : Fixed + Variable
5. Freemium Pricing: To attract customers based
on freebies given away initially
7
1st Degree Discrimination
Sometimes known as optimal pricing/perfect price
discrimination
The firm separates the market into each individual

consumer and charges them the price they are willing
and able to pay.
If successful, the business can extract the entire

consumer surplus that lies underneath the demand
curve and turn it into extra revenue or producer surplus
Examples: Auctions.
Is it possible to do this? 8
1st degree example: Forward Auctions
• In cases on Monopoly seller
• Consumer base shows very

inelastic demand (close to zero)
• Monopolist’s pricing power is at

the highest
• Price discovery is on basis on

consumer’s willingness to pay
9
1st degree example: Reverse Auctions
• In cases on Monopsony Buyer
• Many sellers and one buyer
• Elasticity of supply is very low –

supply side is price insensitive
• Price discovery is on basis on

seller’s willingness to accept
10
Reverse Auction – Simultaneous Games
Case: IKEA wants to build a warehouse in Pune. It will contract out the
construction to the least cost contractor (quality checks first). The
contract price will be a discovered price, through reverse auctions. The
ceiling price announced by IKEA is 1000 Crores.
Participant Bid Price (Simultaneous) L Rank
Shitij 910 L1
Samudrala 940 L2
- Competition has to be anticipated and strategized

- Does not tend to be very aggressive (single phase auction)
Reverse Auction – Sequential Games
Case: IKEA wants to build a warehouse in Pune. It will contract out the construction
to the least cost contractor (quality checks first). The contract price will be a
discovered price, through reverse auctions. The ceiling price announced by IKEA is
1000 Crores. Minimum decrement 100 Crores.
Participant Bid Price (Seq) L Rank
Simranjyot 550 L3
Vibhor 540 L2
Kushal 720 L5
Pournami 600 L4
Satnam 535 L1
- Contract will be awarded to the lowest bidder

- Bidders will be in the process as long as the bid price is above their reservation price
- This is possible in sequential bidding – when participants are able to know competition
strategy – May lead to LOSS LEADING practices at times
Vickery Auction:
Example
• Winning bid is the
highest bidder – but he
pays what the second
bidder quoted
• A wins – but pays $101.
• Would A bid $104 – No.
Higher bids will drive the
overall bid prices higher
and A may have to end
up paying more than he
is willing to.
• Would A bid $102 – No.
A lower bid runs the risk
of him losing the bid.
• Vickery auctions force
the bidders to reveal
their willingness to pay
number – not higher, not
lesser.
2nd Degree Discrimination
 Second degree price discrimination deals with price
discounts:
 -Selling at a discount price after a certain number of
goods are purchased
 Second degree price discrimination also involves

offering separate membership and per unit price plans
that consumers CHOOSE between
-ie: Cell phones, club memberships, bus pass
The seller cannot differentiate between customer

segments!
14
2nd Degree: Price close to quantity consumed
Time of Day Pricing: Uber Time of Day Pricing: Electricity
15
Example
Standard Rate
Category Minimum Bill Extra km Wait time Ride time
charges charges charges
Economy Rs 49 for first 2 Rs 15 per Km N/A Rs 1 per Min
Sedan Km (Post 5 Min)
Mini Rs 49 for first 2 Rs 12 per Km N/A Rs 1 per Min
Km (Post 5 Min)
Prime Rs 200 for first Rs 18 per Km N/A Rs 2 per Min
5 Km
• Say , OLA Charged @ Rs 15 for all Kms ( Assume you travelled 50 Kms a day)
• Revenue in this case : Rs 750 (50*15)
• However, OLA actually makes = 49+ (15*48) = Rs 769
• Surplus of Rs 19 – Looks small , but this is only 1 consumer – when aggregated its
substantial.
16
3 rd Degree Discrimination
Most frequently found form of price discrimination and involves
charging different prices for the same product in different
segments of the market.
Consumers are segmented – each segment has a different

demand function (related to its elasticity of demand) – charge a
higher price to inelastic consumer base.
Seller is able to take some part of the consumer surplus away.
It means that the prices charged may bear little or no relation to

the cost of production
17
Examples?
Happy Ticket
Hours Pricing
19
Two-Part Pricing Policies
A fixed fee is charged + a “variable”
charge based on units consumed
• Fixed fee may be set up charge
• Designed to cover fixed costs of supply
Examples:
• Taxi fares
• Amusement park charges
• Mobile phone tariffs
20
2 part pricing in energy: Fixed charges + Variable charges
21
The Freemium Model
A business model where in you give away a core
product for free and then generate revenue by selling
premium products to a small percentage of free users
22
Welfare gains for consumers?
Potential for cross subsidy of activities
that bring wider social benefits
Making better use of spare capacity –

helps to keep businesses in business
Bringing some new consumers into

market – otherwise excluded by price
Use of monopoly profit– a stimulus to

innovation in long-run
23
Where does this all leave the
customer?
Under which arrangement is he worst

off?
Why is this important to you?
24
Playback of Concepts
Managerial Economics:
MBA 2020-22
1
Basic Concepts # 1
Law of demand ~ As price increases, quantity demanded will fall!
Ceteris Paribas ~ An assumption without which every

understanding will fail!
The demand curve ~ Downward sloping due to Substitution

Effect and Income Effect
Giffen Goods and Veblen Goods ~ Upward sloping demand curves

for completely different reasons (Veblen : Snob and Bandwagon)
2
Basic Concepts # 2
Supply curve ~ Upward sloping , indicating the willingness to supply at those price points
Market Equilibrium ~ When demand meets supply!
Consumer surplus: Excess of WTP over the actual price that the consumer has to pay
Shifts of curve and movement along the curve
Excess demand and Excess Supply : Automatically adjusted with movements in price.
Marginal Utility ~ The fact that it will always fall with increase in units (DMU)
3
Elasticity
What does it essentially mean? ~ How does one variable respond due to change in another
variable
Own price elasticity ~ -ve for Normal good/ +ve for Veblen or Giffen Goods.
Cross Price Elasticity ~ (+) for Subs/ (-) for Compliments
Income Elasticity ~ (+) for Luxuries / (-) for Inferior Goods
Formula: (dQ/dP ) * (avg Prices/avg quantities) – change suitably for other indicators.
Determinants of Elasticity ~ Presence of Competition, Necessities/ Luxuries & Time taken to

respond
Understand how to analyze the numbers 4

Market Theory: What are the different forms of Markets?
Perfect Competition
Monopolistic Competition
Oligopoly
Duopoly
Monopoly
More competition in the market – higher is the elasticity of demand – lower

is the market power on price setting enjoyed by the seller 5
More on Market Theory
How do elasticities of demand define any market?
What is meant by “Market power”
Demand curve is flat in PC – Why?
Which is the best market form and why?
What enables a Perfectly competitive markets ~ 5 features of a PC market
Why is this not preferred for any supplier? 6

So what do you mean by consolidated markets?
Prices are
lower leading
to lower
profits
Exit/Mergers/
Competitive
Acquisitions/
Markets
Cartels
Create barriers to entry
Prices start
Entry of to rise –
competition higher
margins 7
Creating barriers to entry
Government
Granted/Licensed
Government Owned
Cartel Formation
Non Price
Barriers
Network Effects
Barriers to Entry
Economies of Scale
Advertising/Branding
Price Barriers Price Wars

Monopoly: Price Discrimination
• First Degree
Types of •
•
Second Degree
Third Degree
Discrimination •
•
2 part pricing
Freemium Model
Enabling • Power on price setting

• Differing elasticity of demand
Factors • Market segmentation
Consumer • Diff between actual price and WTP

• What would a monopolist try and do
Surplus with it?
Market Theory – Part 1
1
Basic Difference between Perfect and Imperfect Markets
Market Form Elasticity of Demand Demand Curve
Perfect Competition Infinite Horizontal

(Product homogeneous) Price is sticky
Monopolistic Competition High Lesser slope than PC – Steeper
(Product heterogeneity) than PC
Oligopoly High: In case of Competitive Flat

(few sellers 4-5 large players)
Low : in case of co-operative Steeper
Duopoly Low Lesser slope than Oligopoly –

Steeper than Oligopoly
Monopoly Zero Vertical

Basic Difference between Perfect and Imperfect Markets
Vs
3
A Perfectly Competitive Market
• Infinite Number of Buyers
• Infinite Number of Sellers
• Exactly the same kind of Product
• Every agent has full information about the market: Violations lead to
Moral Hazard and Adverse Selection cause out of INFORMATION
ASSYMETRY
• No restriction to entry/exit
• A supplier is the “Price Taker”
And Hence…
• In real life – all assumption of PC are violated.
•But is this the only reason Perfect Competition

doesn’t exist?
Other reason why Competition is a difficult market to operate in!
With no Restrictions to entry – Are huge profits

possible?
If there are profits – people will enter. This will

increase supply – what happens to Price?
As Prices fall, profits are taken away!
If there are losses – people will exit – reducing supply

and driving up prices – again profits and again entry!
Therefore Key Takeaways so far
A seller in a perfectly competitive market will never have a
PC very profitable business
Because of presence of competition, elasticity of demand for

his product is very high – making him lose any power on the
prices
This makes him a Price Taker!
Since profits are so low (almost not there), why should the
seller do anything to revolutionize the product – He will not
get a higher price – which is why product improvements are so
low in a perfectly competitive market
Hence Extremely difficult to find the Perfectly Competetive
Market
Every seller will want to be unique/ different from others - bring

some form of differentiation ~ Move towards/adopt monopoly
features
What do companies/sellers do to avoid such a market condition
• Merge/Aquire/ Buy the Competitor
• Recent examples? Wall-mart and Flipkart
• Also known as the process of market consolidation
• What the advantage of this?
• Gives them a monopolistic edge
• Eventually the Market will move towards either Monopolistic
Remember the board game Competition / Monopoly

– Monopoly?
A quick peek into monopoly powers – what gives birth to it?
One thing alone: Barriers to entry ~ Man made/ Natural

Barriers to Entry.
Government
Granted/Licensed
Government Owned
Man Made/ Created
Cartel Formation
Monopoly
Economies of Scale
Endowment of a
Natural
natural resource
Examples: Man Made/Created Monopolies
Government
Government Owned Cartels
Granted/Licensed
• Government allowed but • Government Owned and • Agents come together to create
managed by private entities Operated a market entry barrier
• Railways • Real Estate Sector

• Oil Producing Companies
• NTPC • Rickshaws
• Electricity Transmission and
• Air India (used to be) • Any other?
Distribution
Examples: Natural Monopolies
Natural Economies of Scale
• They are naturally gifted! • Where one seller is able to cover the whole
• OPEC Countries for Oil market at lower cost than even 2 of his
• Australia for Coal competetors’ combined.
• Odissa for Coal • Ex: Amazon?

Natural Monopolies: Visual Examples
Natural Endowment
Economies of Scale
Man Made/ Created Monopolies
Examples: Man Made/Created Monopolies
Government
Government Owned Cartels Network Effect
Granted/Licensed
• Government allowed • Government Owned • Agents come together • You can become a
but managed by and Operated to create a market monopoly because
private entities • Railways entry barrier everyone seems to use
• Oil Producing • NTPC • Real Estate Sector your product
Companies • Air India (used to be) • Rickshaws • This discourages
• Electricity • Any other? others to enter the
Transmission and market
Distribution
Types of Entry Barriers: when you are “Creating” a monopoly
Price • Where the supplier keeps the prices so low,

that no competitor can sustain the same
Non • Use other methods of creating a

monopoly – for example
Advertising, Services and
Price Branding!
Examples of Price Barriers
Seller may initially do this even at the cost of making a loss

Example: Taxi Aggregators/E-commerce
You enter into a price war so that you emerge as a monopoly in the end.
Non Price Barriers
High Capital Requirement
• Ex: Infrastructure (NHAI)
Network Effects
• Create such a “Critical Mass” that no competitor can think of entering the market
Legal Backing
• Get Patents/Copyrights which creates barriers to entry
Create a Brand Recall like no other : Advertising and Branding

• Ex: Maggi – even after the FDA story, people were still ready to consume!

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Managerial Economics

• Doubts to be posted on the chat window – “session teaching assistant” to aggregate

• Technical glitches may happen – class SPOC to be informed

Suzlon Energy: 2009 - 2014 SIU PhD: 2016 - Now

▪ Opportunity Costs are an important consideration.

▪ There is no right or wrong decision – Opportunity cost

Demand and Supply decide Economy runs on extreme

Little government control Ex: Korea and Cuba

Ex: Almost all countries

Private Participation High to very high Low (government monopolies)

Incentives Price Government provided

Prices Market determined Government fixed (floor and ceiling

Efficiency Driven by competition Low due to no/low incentives

• Q2: Is this a more fair system than Command

• Bottom line: Free market price is both an

• Lack of Incentives discourage innovation and productivity!

• Nudges: Default Opt-Ins and Default Opt-Outs

• People have more information than policy

• Read: General Motor’s Pontiac Story

You could also just pay Rs. 50 to park in paid slots.

Which one would you chose?

“What is the value of the extra minutes that you spend

What else could you have done with those extra

Efficiency Profits can nose-dive

Best Man Wins

Free Vs Command Markets : 1

3 Market determined prices can

• A firm is an organization that transforms

• The circular flow of

• Input markets are the

Input markets include:

A household’s decision about the quantity of a particular

• Quantity demanded is the amount

• The law of demand

Substitution Effect Income Effect

Since X is now cheaper You can buy more –

Demand for X Demand for X

Legend: Great Irish Famine (1845 – 52)

Poor people largely dependent on potatoes

Key: The good As potatoes became more exp, poor people

As price increased – demand also increases

Bandwagon Effect OR Snob Effect

Demand increases since the perceived value

Example: Luxury cars, laptops, education?

• Normal Goods are goods for which

• Substitutes are goods that can serve as

• Complements are goods that “go

• When demand shifts to

Change in quantity demanded

Change in income, preferences, or

• Higher income • Higher income

• Demand for substitute good (chicken)

• Price of hamburger rises

• Demand for a good or service can be

• Market demand is the sum of all the

• Assuming there are only two households in the

CLARENCE BROWN'S • A supply schedule is a table

• A supply curve is a graph illustrating how much

Price of soybeans per bushel ($)

• The law of supply

• The price of the good or service.

• When supply shifts

Change in quantity supplied