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Analytical Questions

1) What economic conditions are relevant in managerial decision making?

Answer: Such factors as market structure, supply and demand conditions, technology,
government regulations, international factors, expectations about the future, and the
macroeconomy are economic factors that play a role in managerial decision making.

2) What factors lead to competitive advantage for a firm?

Answer: Cost leadership (lower costs than competing firms), product differentiation, selection
and focus on a market niche, outsourcing and merger strategies, and international focus or
expansion are factors in the competitive advantage of the firm.

3) What are the typical types of risk faced by a firm?

Answer: Changes in supply and demand conditions, changes in technology, increased
competition, changes in interest rates and inflation rates, exchange rate changes, and political
risk are typical types of risk faced by firms.

4) How do the three basic economic questions relate to the firm?

Answer: Firms must choose WHAT goods and services to produce, HOW to produce them
(through appropriate choice of resources and technology), and FOR WHOM they will be
provided (what segment of the market on which to focus).

5) What other business disciplines are related to Managerial Economics?

Answer: Accounting, Finance, Management Science (Quantitative Methods), Management
Strategies, Marketing

5) The market for milk is in equilibrium. Recent health reports indicate that calcium
is absorbed better in natural forms such as milk, and at the same time, the cost of
milking equipment rises. Carefully analyze the probable effects on the market.

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6) Suppose that macroeconomic forecasters predict that the economy will be

expanding in the near future. How might managers use this information?

10) Suppose that the price elasticity of demand for wheat is known to be 0.75. Will
a good wheat crop (which increases the supply of wheat) be likely to increase or
decrease the revenues of farmers? Carefully explain.

Answer: A good wheat crop that increases the supply of wheat will cause the
equilibrium price wheat to decrease (and quantity to increase). Since demand is
inelastic, total revenues will fall, as the percentage change in quantity will be less
than the percentage change in price.

11) Unions have generally been far more successful in organizing and raising wages
in skilled trades such as carpentry than in unskilled trades. Use the laws of derived
demand to explain why.

The derived demand is one kind of economical demand which mean the demand for
one specific good or service will lead to the occurrence of another demand for
another good or service. For example, a farmer has to grow vegetable, he needs to
use fertilizer to nourish the vegetable seeds. As he needs to sell the vegetables to
earn income, so the need for fertilizer is increased relatively. Or such as one
furniture company, the way to earn profit is to sell out the furniture. If this company
is targeting to expand the business for profit maximizing, they need to raise the sale
of furniture. Then, they would need more labor to produce more furniture to fit the
sales. But they need is skilled labor instead of fresh graduates or unskilled labor
which is looking for interesting job or pleasuring as skilled labor can help to raise
the quality of the products and services and then the efficiency and productivity will
be improved accordingly. This proves that the increase in supply will then lead to
the increase in demand of factor of production. Then the cost of factor or production
i.e. the wages of skilled labor will be increased and so the average cost for a firm
will be increased. Conversely, if the furniture need is reduced, then the need for
skilled labor is reduced accordingly. Another example of housing construction also
can represent the derived demand for the skilled labor. For the unskilled labor, the
productivity and efficiency of them is lower due to less concentration on work and
lower incentive so may drag down the progress of the production as they need more
time to learn and work. Moreover, the firm cannot receive a high return for the
goods produced by the unskilled labor at a high price. Therefore, a derived demand
is less successful in unskilled labor trades than skilled labor trades.
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12) Governments impose excise taxes on goods that have inelastic demand, such as
cigarettes, more often than in other cases. Why?

(Note: an excise tax is a tax on each unit of a commodity. Tobacco, alcohol and
gasoline are the three main targets of excise taxes in most countries) Governments
impose excise taxes on goods that have inelastic demand because the less sensitive
the quantity demanded is to price, the greater the share of the tax paid by
consumers in the form of higher prices. When demand is inelastic, the percent
change in quantity will be smaller than the percent change in price; therefore, if
price increases, demand is less affected and total revenue will rise. This makes
taxes on goods with inelastic demand, such as cigarettes, an attractive target for
governments to impose excise taxes because the rise in price (within certain limits)
has less affect on demand and also results in an increase in total revenue. Excise
taxes on goods with inelastic demand allows the government to collect additional
monies with far less impact on the demand of the goods than if the goods have
elastic demand. Correct. Note that governments may also impose taxes to deter
consumption, but this is likely to be ineffective if elasticity is low. 10/10

T4-5. What would you expect to happen to spending on food at home and spending
on food in restaurants during a decline in economic activity? How would income
elasticity of demand help explain these changes?

The income elasticity for restaurant food is probably quite high. Thus, during
declines in economic activity (and thus, possibly declines in incomes), spending on
restaurant food would most likely decline more than spending at home. Actually,
since the two are substitutes, spending on food at home may actually go up during
economic declines.

T4-7. Why is it unlikely that a firm would sell at price and quantity where its demand
curve is price inelastic?

Where the demand curve is inelastic, if the firm lowers their price, total revenue
falls. This means that at that point, marginal revenue is negative. Since a firm sets
marginal revenue equal to marginal cost, they will never choose a quantity where
marginal revenue is negative, since marginal cost is never negative.

T4-8. Which products would exhibit a higher elasticity with respect to interest rates,
automobiles or small appliances? Why?

The price of an automobile is much higher compared to the price of small

appliances. When consumer purchase these products in loan they have to pay an
interest on the loan. So, the interest rate is the price that consumers have to pay for
the loan taken.

T4-12. Could a straight-line demand curve every have the same elasticity
on all its points?

A straight line demand curve will have a different elasticity at each point on it.

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The price elasticity of demand can also be measured at any point on the demand
curve.

If the demand curve is linear (straight line), it has a unitary elasticity at the
midpoint. The total revenue is maximum at this point. Any point above the midpoint
has elasticity greater than 1, (Ed > 1).

T4-13. If a demand curve facing a firm is horizontal or nearly so, what does
it say about the firms competition?

In a perfectly competitive market individual firms are price takers. The price is
determined by the intersection of the market supply and demand curves.

The demand curve for an individual firm is different from a market demand curve.
The market demand curve slopes downward, while the firm's demand curve is a
horizontal line.

The firm's horizontal demand curve indicates a price elasticity of demand that is
perfectly elastic.

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