Managerial Economics (Macro)

1. Managerial Economics(Macro) Dr. Timothy Simin 2011 Tim.Simin@mccombs.utexas.edu

2. Helicopter TourWhat Microeconomics? Microeconomics covers: Price determination via quantities supplied and demanded Laws of demand Opportunity costs and sunk costs Theory of the firm Monopolies, Oligopolies, and perfect competition Cost benefit analysis/profit maximization Theory of the consumer Utility functions, budget constraints, utility maximization Specialization, efficiency, comparative advantage Examples Tim.Simin@mccombs.utexas.edu 2

3. Helicopter TourWhat is Macroeconomics? Macroeconomics covers: Fiscal policy http://www.wtfnoway.com/ and http://www.usdebtclock.org/ Monetary policy National Income Accounting GNP, GDP Interest rate determination Exchange rate determination Business Cycles Inflation Tim.Simin@mccombs.utexas.edu 3

4. Financial IntermediariesWhat are they? Tim.Simin@mccombs.utexas.edu 4

5. Financial MarketsSome puzzles Why are banks and other financial intermediaries the primary sources of external financing for business, rather than stocks and bonds? Why is the financial system among the most heavily regulated sectors of the economy? Why do only large and well-established firms have access to the securities markets? Why is collateral a prevalent feature of debt contracts? Tim.Simin@mccombs.utexas.edu 5

6. Financial Intermediaries Why do we need them? Information costs Adverse selection Moral hazard Transaction costs Explicit Financial Implicit Tim.Simin@mccombs.utexas.edu 6

7. Asymmetric InformationAdverse selection Asymmetric information problem occurs before the transaction Securities markets Banks Question: Will the asymmetric information problem be more or less of a problem as interest rates rise? Dealing with adverse selection Private production and sale of information Government regulation Intermediation Collateral Tim.Simin@mccombs.utexas.edu 7

8. Asymmetric InformationMoral hazard Asymmetric information problem occurs after the transaction Debt markets Equity markets principle-agent problem Dealing with moral hazard Intermediation Debt contracts Tim.Simin@mccombs.utexas.edu 8

9. Trading CostsAnother surplus story Start with a perfect financial market I is the amount of borrowing for investment S is the amount of savings rpm and qpm are the perfect market interest rate and level of investment What happens to total surplus? Tim.Simin@mccombs.utexas.edu 9

10. Trading CostsAnother surplus story Interest rate Investors Surplus ri,b Cost of Trading ri,b Investors Surplus Savers Surplus Si,b Spm rpm Si,nb Ipm Investors Surplus Dead Weight Loss ri,nb Ii,b Savers Surplus Cost of Trading qpm qb Quantities of Investment and Saving rs,nb Ii,nb Savers Surplus qnb Tim.Simin@mccombs.utexas.edu 10

11. Financial Intermediaries What they provide Tim.Simin@mccombs.utexas.edu 11

12. Gross National Product What does it measure? GNP is: the value of all final goods and services produced and sold a measure of a country’s output is the sum of four components Consumption Investment Government expenditures Current account balance Tim.Simin@mccombs.utexas.edu 12

13. Gross National Product Break down Tim.Simin@mccombs.utexas.edu 13

14. Gross National Product What does it measure? GNP  Y Individual’s use income to either consume or save while the government taxes and redistributes wealth GNP measures only the final sale of products I.E., the price of a computer to the consumer goes into GNP but the price IBM pays for RAM does not. Why? GNP does not account for Depreciation Unilateral transfers Pension payments to retired U.S. citizens abroad Relief funds Tax wedge: Price people pay - Price producers receive Tim.Simin@mccombs.utexas.edu 14

15. Gross National Product What does it mis-measure? Value of leisure Value of government production The illegal economy Cash transactions Drugs Household production Increases in output of goods/services can either be a good or bad thing Tim.Simin@mccombs.utexas.edu 15

16. GNP vs. GDPWhat’s the difference? GDP = GNP – (income domestic residents earn on wealth held in other countries – payments to foreign owners of domestic wealth) GDP doesn’t correct for domestic output produced by foreign owned capital Are they correlated? Tim.Simin@mccombs.utexas.edu 16

17. Three Price indexesMeasuring Inflation GNP deflator Ratio of nominal GNP in a given year to real GNP Measure of inflation between the period from which the base prices used in real GNP are taken, to the current period Tim.Simin@mccombs.utexas.edu 17

18. Three Price indexesMeasuring Inflation Consumer price index (CPI) Cost of representative fixed bundle of goods Prices are of finished or retail goods and services Problems? Intertemporal changes in tastes and goods International differences in tastes and goods Should we include Food and Energy GNP deflator vs. CPI Deflator measures wider group of goods than does the CPI CPI uses fixed basket, deflator uses things produced in a year The CPI includes imports, deflator only measures U.S. goods Tim.Simin@mccombs.utexas.edu 18

19. Three Price indexesMeasuring Inflation Producer price index (PPI) Measures the cost of a given basket of raw materials and semi-finished goods Constructed from prices at the level of the first significant commercial transaction Often viewed as a predictor of business cycles Tim.Simin@mccombs.utexas.edu 19