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Week 15

Week 15. Managerial Economics. Order of Business. Homework Assigned Lectures Other Material Lectures for Next Week. Homework-Last Week. Pashigian, Chapter 11, Exercise 3. Pashigian, Chapter 11, Exercise 3. I would expect expense preference to fall. Thus I would expect profits to rise.

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Week 15

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  1. Week 15 Managerial Economics

  2. Order of Business • Homework • Assigned Lectures • Other Material • Lectures for Next Week

  3. Homework-Last Week

  4. Pashigian, Chapter 11, Exercise 3

  5. Pashigian, Chapter 11, Exercise 3 I would expect expense preference to fall. Thus I would expect profits to rise

  6. Pashigian, Chapter 11, Exercise 7

  7. Pashigian, Chapter 11, Exercise 7 The statement means that the bonus or compensation of the CEO would be reduced to the extent of expense preference. Obviously this depends on the effectiveness of the board of directors as an internal monitor.

  8. Pashigian, Chapter 12, Exercise 2

  9. In both cases, the vendors want to set MR = MC. We know that the marginal cost of a hot dog is $0.15. Now let's look at marginal revenues.

  10. For Yankee Fans, revenue is PQ = (4-0.005Q) Q = 4Q - 0.005Q2. • Differentiating, marginal revenue is thus 4 - 0.010Q, and that is equal to 0.15 when 4-0.010Q = 0.15. • Rearranging terms, we get that -0.010Q = -3.85, so that Q = 385. Plugging that into the demand curve, we know that P = 4 - (0.005)(385) = 4- 1.925 = $2.075

  11. In the case of Red Sox fans, the relevant revenue is (2.25-0.01Q)Q = 2.25Q - 0.01Q2, • and, differentiating, we know that marginal revenue equals marginal cost when 2.25 - 0.02Q = 0.15. • Solving, we qet Q = 105, and, plugging into the inverse demand function, we get P = 2.25 - 1.05 = $1.20.

  12. Thus Yankees pay $2.075; Sox fans pay $1.20; Yankees consume 385 hot dogs, while the Sox consume 105. • As to the profit of each vendor, he sells 490 hot dogs at a cost of $0.15 each or $73.50. His revenues are $2.075 (385) + $1.20 (105) = $924.875, • His profits are $924.875 - $73.50 = $851.325.

  13. Your answer may be slightly different if you rounded the price the Yankee fans pay to $2.08.

  14. Acme Widgets has conducted an exhaustive study of its 5,000 customers, and found that each one has a demand function Q = 15- 3p. Right now, it charges $2 a widget. The widgets cost essentially nothing to produce. How much profit is it making per customer? At what price would you sell widgets to maximize profits? Thomas Bednarz, a local inventor has come up with a device that would allow Acme to license widgets, so that they would not be transferable from one customer to another. Bednarz has offered to license the device to Acme for $110,000 per year. Explain why Acme should reject the offer, but should accept if Bednarz cuts his price to $80,000 per year. In addition, explain how they should change their selling policies if they accept his offer.

  15. At $2 each, it is selling each customer 9 widgets for profits of $18 per customer or $45,000 total.

  16. . The profit maximizing price would be where MR = 0. We know that total revenue equals Qp. From our demand function, we know that 3= 5 – (1/3)Q. Thus total revenue equals 5Q – 1/3Q2. Marginal revenue is thus 5 – (2/3)Q, and equals zero when Q = 7.5,

  17. That means a price of $2.50 as we can see by plugging into the demand function. Though you are not asked to compute this number, they are making (7.5)(2.5) = $18.75 per customer, for a total profit of $93,750.

  18. If they buy the Bednarz device, they can exact all the consumer surplus from each customer. Each customer has surplus of (1/2)(15)(5) = $37.50 for total consumer surplus of $187,500. This profit would be $187,500 - $93,750 = $93, 750

  19. Of course $93,750 is more than they are currently making. But if they have to pay Bednarz $110,000, they would lose money on the deal. At $80,000 they make $13,750 net.

  20. You have all read about the recent spate of corporate scandals in which agents fundamentally failed their duties to principals. Propose a remedy. Be sure to show how your remedy is thoughtful and realistic and gives appropriate recognition to the necessity to provide agents incentives. … Illustrate your proposal by reference to one of the existing scandals (Enron, World Com, and Health South come to mind. You can use others but you must give me a reference to a web site summarizing the facts so I can familiarize myself with the case. …. Obviously there is no right or wrong answer to this question, so I will be looking for thoughtful reasoned responses. And, sorry no group answers.

  21. You have all read about the recent spate of corporate scandals in which agents fundamentally failed their duties to principals. Propose a remedy. Be sure to show how your remedy is thoughtful and realistic and gives appropriate recognition to the necessity to provide agents incentives. … Illustrate your proposal by reference to one of the existing scandals (Enron, World Com, and Health South come to mind. You can use others but you must give me a reference to a web site summarizing the facts so I can familiarize myself with the case. …. Obviously there is no right or wrong answer to this question, so I will be looking for thoughtful reasoned responses. And, sorry no group answers. No pat answer

  22. Homework-Due this Week

  23. Pashigian, Chapter 12, Exercise 7

  24. Pashigian, Chapter 12, Exercise 8

  25. Pashigian, Chapter 12, Exercise 10

  26. The Damon’s restaurant in Kent offers 25% off any lunch tab Monday through Saturday to any Kent Faculty Staff or Student with an ID.. Damons explains that this offer is made to show appreciation to the university community for its support throughout the year. Explain what important economics lesson you think the Damon’s manager has learned.

  27. Ethyl’s Bar and Grill has two types of customers. Their demand functions for drinks are Q = 12- 3p and Q = 24-8p. While Ethyl cannot tell the two types apart, she can prevent arbitrage. Devise a pricing system (You may assume the marginal cost of a drink is zero)

  28. Fred has pancake houses in Seattle and Youngstown, Ohio. The demand functions for pancakes are Seattle Q = 180-12P Youngstown Q = 90 – 30 P You may assume that marginal cost is zero. What price should Fred charge if the Uniform Pancake Pricing Act (UPPA) becomes law (That is, Fred is constrained to charge the same price at both restaurants). What prices should Fred charge otherwise? .

  29. Lectures for This Week • The Free Rider • Asymmetric Information • Asymmetric Information 2 • Moral Hazard • Applying the Premium for Honesty

  30. The Free Rider

  31. Asymmetric Information • Asymmetric Information 2

  32. Moral Hazard

  33. Applying the Premium for Honesty

  34. Pashigian, Chapter 14, Exercises 2, 6, 7, 10

  35. Lectures for Next Week

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