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Measures of Performance. Concepts and Graphs. Performance. Profits Efficiency Technical – best technology (minimize cost) Allocative – Marginal Benefit (P)=Marginal Cost (MC) Deadweight Loss Product Variety Technical Progress. Efficiency. Only Perfectly Competitive markets are efficient

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measures of performance

Measures of Performance

Concepts and Graphs

performance
Performance
  • Profits
  • Efficiency
    • Technical – best technology (minimize cost)
    • Allocative – Marginal Benefit (P)=Marginal Cost (MC)
  • Deadweight Loss
  • Product Variety
  • Technical Progress
efficiency
Efficiency
  • Only Perfectly Competitive markets are efficient
    • Many buyers and sellers
    • Homogeneous products
    • Easy entry
  • P = MC in the short run
  • P = MC = Min AC in the long run
  • Supply = Demand maximizes Economic Surplus, no Deadweight Loss
efficiency1
Efficiency
  • Departures from P=MC cause Deadweight Losses of Economic Surplus
  • P > MC May be associated with positive economic profit in monopoly and some oligopoly models (Bertrand, for example)
  • Long Run equilibrium in monopolistic competition has P > MC, but zero economic profit and a dead weight loss
profit as a measure of performance
Profit as a Measure of Performance
  • Economic vs. Accounting Profit
  • Data availability
    • Division or Subsidiary vs. Parent Corporation
    • Financial reports required only if stock is traded
  • High profit may indicate
    • Greater efficiency than other firms
    • Monopoly or collusive behavior
  • Even zero economic profit may be associated with positive deadweight loss in differentiated product markets
deadweight loss
Deadweight Loss
  • Does Price exceed Marginal Cost?
  • DWL = ½ ΔP ΔQ = ½ (P-MC)(Qc-Q1)
  • Lerner Index and the Price-Cost Margin
    • (P-MC)/P = -(1/Ep)
    • At profit maximizing price and quantity
  • DWL = ½ PQ(-Ep)[(P-MC)/P]2
    • Assuming (P-MC)/P is small
    • DWL increases with the size of the market (PQ), the price elasticity of demand, and the square of the price-cost margin
variety and progressivity
Variety and Progressivity
  • Does product variety offset DWL in differentiated product markets?
  • Technical Progress or Progressivity
    • Innovation in process or product technologies
    • Process innovation reduces cost
      • Production
      • Distribution
      • Advertising, marketing, etc.
    • Product innovation leads to new products
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