Managerial Economics BEEG 5013 UNIVERSITI UTARA MALAYSIA (UUM) ATC SHAH ALAM MASTER OF BUSINESS ADMINISTRATION (MBA) Managerial Economics BEEG 5013 Assignment 1 : How Best to Allocate Firm Availability Resources MBA UUM ATC Cohort 10 MUHAMMAD IDZAM BIN JAAFAR – 813929 MOHD SHAMSURI BIN MOHD GHAZALLI – 813928 For Lt Kol Prof Dr Abdul Razak Chik arc@uum.edu.my

Meeting Agenda Introduction to Problem Statement Our Business Aim MBA UUM ATC Cohort 10 – 813929 & 813928 Meeting Agenda Introduction to Problem Statement Our Business Aim Our Possible Consideration Our Solution Conclusion

MBA UUM ATC Cohort 10 – 813929 & 813928 Problem Statement How Best to Allocate Firm Availability Resources as such: How much commodity or service to produce? How much labor? How much capital? How much inputs to use to produce that output efficiently?

Problem Statement Example: MBA UUM ATC Cohort 10 – 813929 & 813928 Problem Statement Example: A police department may seek to solve crime as many as possible (output) at an adequate security standard with its limited physical resources (input) (police officers, police car, intelligent equipments and prison) and budget at the lowest possible cost (economic).

Our Business Aim Maximize wealth and value of the firm MBA UUM ATC Cohort 10 – 813929 & 813928 Our Business Aim Maximize wealth and value of the firm Maximize total profits, sales and growth

Our Possible Consideration MBA UUM ATC Cohort 10 – 813929 & 813928 Our Possible Consideration Profit Maximization Profits Maximize when marginal revenue (MR) equals marginal cost (MC). MR = MC As long as the revenue of expanding output or sales exceeds the marginal cost, it pays for the firm to expand output

Our Possible Consideration MBA UUM ATC Cohort 10 – 813929 & 813928 Our Possible Consideration Constraint Optimization If there are constraint such as customer services, product quality, manpower planning, outsourcing and contracting, acquiring new technologies or political lobbying, Pursue each activity until the marginal revenue (MR) from the activity is zero. MR = 0 or output constantly not changing

Our Possible Consideration MBA UUM ATC Cohort 10 – 813929 & 813928 Our Possible Consideration Demand Estimation if the demand for the firm’s product is forecast to grow but to be unstable, the firm might need to build a larger plant to meet the growing demand but might also have to carry larger inventories because of volatility of demand, as well as increase the promotional marketing team to make demand less volatile, acquiring new technology to expand the uses of the product Estimation could be done using Regression

Our Possible Consideration MBA UUM ATC Cohort 10 – 813929 & 813928 Our Possible Consideration Future Economic Forecast to reduce the risk or uncertainty that the firm faces in its short-term operational decision making and in planning for its long term growth need Use time series analysis on trend projection to forecast raw material, equipment, warehousing, workers and all required resources to perform the output

Our Possible Consideration MBA UUM ATC Cohort 10 – 813929 & 813928 Our Possible Consideration Efficient Production how much labor or resources should the firm use in order to maximize profits? Optimal use of labor, firm to hire more labor as long as the marginal revenue product of labor (MRP)L exceeds the marginal resource cost of hiring labor (MRC)L, and until MRPL = MRCL. By hiring more labor, the firm would increase its total profits

Our Possible Consideration MBA UUM ATC Cohort 10 – 813929 & 813928 Our Possible Consideration Cost Estimation Production cost = Implicit cost + Explicit Cost Explicit cost - actual expenditures of the firm to hire, rent or purchase the inputs it requires in production that include wages to hire labor, the rental price of capital, equipment and buildings, and the purchase price of raw materials and semi finished products Implicit cost - value of the inputs owned and used by the firm in its own production activity (opportunity cost)

Our Possible Consideration MBA UUM ATC Cohort 10 – 813929 & 813928 Our Possible Consideration Plant Size and Economies of Scale economies of scale arise because of the scale of operation increases, a greater division of labor and specialization can take place and more specialized and productive machinery can be used. With bulk purchases, larger firms receive quantity discounts in purchasing raw materials and other intermediate inputs than smaller firms.

Our Possible Consideration MBA UUM ATC Cohort 10 – 813929 & 813928 Our Possible Consideration Market Structure and Degree of Competition Aware on the competitive environment in which of its buyers and sellers operate Resource allocation based on market structure such as: perfect competition at one extreme pure monopoly at the opposite extreme monopolistic competition and oligopoly in between

MBA UUM ATC Cohort 10 – 813929 & 813928 Our Solution Resources Allocatively Efficient in Perfect Competition – Thinking at the Margin How much to produce or what price to charge? Market will be allocatively efficient as long as the firms in that market produce at the P (profit)= MC (marginal cost) level of output. More resources will be allocated towards the production of the product until the marginal cost and the price are equal

Our Solution Resources Allocatively Efficient in Perfect Competition MBA UUM ATC Cohort 10 – 813929 & 813928 Our Solution Resources Allocatively Efficient in Perfect Competition P= MC point firms maximize their profits and resources are said to be efficiently allocated.

MBA UUM ATC Cohort 10 – 813929 & 813928 Our Solution Notes: Assume that the fi rm on the right represents the typical fi rm in a perfectly competitive market. When fi rms produce at Q1 level of output, resources are under-allocated towards this good, since the price consumers are willing to pay (Pe, determined by market supply and demand) is greater than fi rms’ marginal cost of production. Notice that when individual fi rms produce Q1 units, the market supply of Qs is less than the market demand of Qd; there is a shortage in the industry as long as fi rms produce only Q1 units. However, fi rms are unlikely to produce at this socially undesirable level for long because in their pursuit of profi ts they will increase their output to the quantity at which marginal cost equals the price. When they increase their output to Qf, fi rms maximize their profi ts and as a result the shortage in the market that existed when fi rms produced at Q1 is eliminated, improving social welfare and maximizing the total amount of consumer and producer surplus (the combined areas of the shaded triangles in the industry graph). Because of the profi t-maximizing behaviour of self-interested business managers in the competitive market in Figure 8.18, resources are more effi ciently allocated than they would be otherwise. The price determined by supply and demand in the market signals the benefi t society derives from this good, and as long as the price is greater than the marginal cost, the message sent from buyers to seller is ‘we want more!’. On the other hand, if at a given level of output marginal cost exceeds the price, resources are over-allocated towards the good. The message sent in such a market is that consumers value the product less than it costs fi rms to produce, so fi rms will reduce their output to maximize profi ts, correcting the over- allocation of resources and restoring a socially optimal level of output. Allocative effi ciency is achieved in a perfectly competitive market precisely because fi rms will always wish to maximize their profi ts by producing the quantity of goods at which their marginal cost equals the price.

Our Solution Resources Allocatively Efficient in Perfect Competition MBA UUM ATC Cohort 10 – 813929 & 813928 Our Solution Resources Allocatively Efficient in Perfect Competition Case study: For a competitive firm, the price it receives does not depend on the quantity it chooses to sell. Marginal revenue equals the price of its output. If the price is $6, then the total revenue of selling 10 units is $60 and the total revenue of selling 11 units is $66. Marginal revenue, ªTR/ªQ = (66-60)/(11-10) = $6.

Our Solution Resources Allocatively Efficient in Perfect Competition MBA UUM ATC Cohort 10 – 813929 & 813928 Our Solution Resources Allocatively Efficient in Perfect Competition ~continue Both revenue and cost considerations determine the profit maximizing output choice, but which of the cost functions is relevant? The profit maximizing output choice involves “thinking at the margin.” Based on sample data, When output is Margin Cost Profit < 4 $6 Increased 4 Marginal Revenue No change in profit > 4 > Marginal Revenue Lower

Our Solution When to Shut Down or Produce 0 MBA UUM ATC Cohort 10 – 813929 & 813928 Our Solution When to Shut Down or Produce 0 In the short run, a firm should shut down when price less than average cost, P < min (AVC). It is impossible for revenues per unit to be as high as variable cost per unit so it is better to avoid these variable costs If we can find a Q where P > AVC, then producing Q is better than 0. If P < min(AVC) then it is impossible to do better than shutting down

Our Solution Operating business in perfect competition MBA UUM ATC Cohort 10 – 813929 & 813928 Our Solution Operating business in perfect competition Being allocative efficiency where in both the short and long run price is equal to marginal cost (P=MC At the ruling market price, consumer and producer surplus are maximized. Normal profit means consumers are getting the lowest price, leads to greater equality in society. Firm also attained productive efficiency where this occurs when the equilibrium output is produced with average cost at a minimum.

Our Solution Operating business in perfect competition MBA UUM ATC Cohort 10 – 813929 & 813928 Our Solution Operating business in perfect competition Firm is also being dynamic efficiency, produces homogeneous products so little scope for innovation to make products differentiated from each other and thereby allow a supplier to develop and then exploit a competitive advantage in the market to establish some monopoly power. Resources will not be wasted through advertising because products are homogenous. Competitive advantage for a firm as it is X-efficient because it incurs no unnecessary costs of production.

MBA UUM ATC Cohort 10 – 813929 & 813928 Our Conclusion Operating business in perfect competition It is the best way to allocate availability resources for our business to achieve profit maximization, cost minimization, allocative efficiency, economies of scale and optimum firm supply decision

MBA UUM ATC Cohort 10 – 813929 & 813928 Thank You