1. ECONOMICS FOR MANAGEMENT LUBS1940/1941 Academic Year 2007-2008 Dr Kevin T. Reilly, LUBS1940 Catherine Dolan, LUBS1941 LUBS1940/1941 Academic Year 2007-2008 Dr Kevin T. Reilly, LUBS1940 Catherine Dolan, LUBS1941

2. ECONOMICS FOR MANAGEMENT Introduction to Module

3. Aims of Module The module has two broad aims: 1.To improve your understanding of business enterprise. In particular to understand:  the role of business in the economic system.  the market environments within which businesses operate.  the economic influences affecting business. 2.To give you economic principles relevant to managerial decisions. In particular:  principles of product pricing.  aspects of advertising, product design and strategic competition.

4. Material Delivered  A series of lectures and tutorials on 11 topics divided into four parts. Details Page 3 Handbook 1.Introduction and Markets.=> Topics 1 to 3. 2.Production and Traditional Market Structure Assumptions. => Topics 4 to 6. 3.Oligopoly, Game Theory and Market Problems. => Topics 7 to 8. 4.Introduction to Macroeconomics. => Topics 9 to 11.

5. Delivery of Material {See P. 2 of Handbook}  Part 1: Seven-Eight hours of lectures and a one hour tutorial on Part 1 material.  Part 1 Test: 20 MCQ Questions in 35 minutes.  Part 2: Five-Six hours of lectures, a one hour tutorial on the Part 1 test and a one hour tutorial on Part 2 material.  Part 2 Test: 20 MCQ Questions in 35 minutes.  Part 3: Five-Six hours of lectures, a one hour tutorial on the Part 2 test and a one hour tutorial on Part 3 material.  Part 3 Test: 20 MCQ Questions in 35 minutes.  Part 4: Six hours of lectures, a one hour tutorial on the Part 3 test and a one hour tutorial on Part 4 material..  Part 4 Test: 20 MCQ Questions in 35 minutes.  Three Hour Final Exam {80 MCQs}: MAY/JUNE 2008

6. Determination of Final Mark  Your grade for this module will be the highest mark obtained from the following two possibilities. A.Four 35 minute term tests and the three highest marks obtained on them are worth 30 percent of the final mark {10 percent of final mark for each of the counted tests} plus 70 percent of the mark award for the result from a three hour final exam. Or B.Final Mark received on the three hour final exam. C.Note: A student who is absent, for any reason, from any of the four term tests will be assigned a mark of zero for that test.

7. Learning Resources 1.Required Textbook: Parkin, M., M. Powell and K. Mathews (2005) Economics, Sixth Edition, Harlow: Pearson Addison-Wesley.=> Available Union Bookshop. 2.Lecture Handouts: Available outside Lecturer’s office and on his web site. 3.e-learning: (a) Students who purchase Parkin, Powell and Mathews’ textbook have access to MyEconLab or (b) Students who do not purchase Parkin, Powell and Mathews’ textbook: ‘WinEcon’ {available on the ISS desktop}.

8. Contact Information  Dr Kevin T. Reilly  Office: G.22 in the Business School (Maurice Keyworth Building)  E-mail address: ktr@lubs.leeds.ac.uk  Telephone: 0113-343-4593  Office hours: Wednesday 12-2 (or by appointment)  Class Tutors: TBA

9. © Pearson Education, 2005 Introduction to Economics. LUBS1940: Topic One

10. Objectives © Pearson Education, 2005 After studying this topic, you will be able to:  Define economics and distinguish between microeconomics and macroeconomics  Explain the big questions of economics  Explain the key ideas that define the economic way of thinking  Explain how economists go about their work as social scientists {Self- learning}  Define the production possibilities frontier and calculate opportunity cost  Distinguish between production possibilities and preferences and describe an efficient allocation of resources  Explain how current production choices expand future production possibilities  Explain how specialization and trade expand our production possibilities  Explain why property rights and markets have evolved {Self-learning}

11. © Pearson Education, 2005 All economic questions arise because we want more than we can get. Our inability to satisfy all our wants is called scarcity. Because we face scarcity, we must make choices. Choices depend on incentives. An incentive is a reward that encourages or a penalty that discourages an action. A Definition of Economics

12. © Pearson Education, 2005 Economics is the social science that studies the choices that individuals, businesses, governments, and entire societies make as they cope with scarcity and the incentives that influence and reconcile those choices. Economics divides into two parts:  Microeconomics is the study of choices that individuals and businesses make, the way these choices interact in markets and the influence of government on those choices.  Macroeconomics is the study of the effects on the national economy and the global economy of the choices that individuals, businesses and governments make. A Definition of Economics

13. © Pearson Education, 2005 Two big questions summarize the scope of economics: How do choices end up determining what, how, when, where and for whom goods and services get produced? When do choices made in the pursuit of self- interest also promote the social interest? Two Big Economic Questions

14. © Pearson Education, 2005 What, How, When, Where and For Whom? Goods and services are the objects that people value and produce to satisfy wants. What? What we produce changes over time as changes in technology allow us to produce more. Today, most people in the rich industrial countries produce services. Two Big Economic Questions

15. © Pearson Education, 2005 How? Goods and services are produced by using productive resources that economists call factors of production, which are grouped as:  Land  Labour  Capital  Entrepreneurship Two Big Economic Questions

16. © Pearson Education, 2005 When? Sometimes production slackens off in a recession and other times it expands rapidly in a business cycle. What makes production rise and fall? Can government action prevent recession? Economics helps us to answer questions about when things are produced. Where? Ford Motor company produces cars in several countries and sells them in many more countries. Financial services are concentrated in Frankfurt and London, while telecommunications industries concentrate in Finland. Economics helps us to answer questions about where things are produced. Two Big Economic Questions

17. © Pearson Education, 2005 For Whom? Who gets the goods and services depends on the incomes that people earn. 1.Land earns rent. 2.Labour earns wages. 3.Capital earns interest. 4.Entrepreneurship earns profit. Two Big Economic Questions

18. © Pearson Education, 2005 When is the Pursuit of Self-Interest in the Social Interest? Every day, 300 million Europeans and 6.1 billion other people make economic choices that result in “What”, “How”, “When”, “Where” and “For Whom” goods and services get produced. Two Big Economic Questions

19. © Pearson Education, 2005 You make choices that are in your self-interest— choices that you think are best for you. Choices that are best for society as a whole are said to be in the social interest. Is it possible that when each one of us makes choices that are in our self-interest, it also turns out that these choices are also in the social interest? Two Big Economic Questions

20. © Pearson Education, 2005 A few issues in today’s world illustrate the importance of this question: 1)Is globalization a benefit or a problem? 2)Do the technological advances in the “new economy” bring benefits to all? 3)Don’t corporate scandals show that big business works against the social interest? 4)Who will pay for global warming? Two Big Economic Questions

21. © Pearson Education, 2005 Choices and Trade-offs The economic way of thinking places scarcity and its implication, choice, at centre stage. You can think about every choice as a trade-off— giving up one thing to get something else. “Guns versus butter” is the classic trade-off. “Guns” and “butter” stand for any two goods. The Economic Way of Thinking

22. © Pearson Education, 2005 Choices Bring Change What, how, and for whom goods and services get produced changes over time and the quality of our economic lives improve. But the changing quality of our economic lives depends on choices that involve trade-offs. We face three trade-offs between enjoying current consumption and leisure time and increasing future production, consumption, and leisure time. The Economic Way of Thinking

23. © Pearson Education, 2005 Opportunity Cost Thinking about a choice as a trade-off emphasizes cost as an opportunity forgone. The highest-valued alternative that we give up to get something is the opportunity cost of the activity chosen. The Economic Way of Thinking

24. © Pearson Education, 2005 Choosing at the Margin People make choices at the margin, which means that they evaluate the consequences of making incremental changes in the use of their resources. The benefit from pursuing an incremental increase in an activity is its marginal benefit. The opportunity cost of pursuing an incremental increase in an activity is its marginal cost. The Economic Way of Thinking

25. © Pearson Education, 2005 Human Nature, Incentives and Institutions Economists take human nature as given and view people as acting in their self-interest. Self-interested actions are not necessarily selfish actions. But if human nature is given and people pursue self-interest, how can the social interest be served? The Economic Way of Thinking

26. © Pearson Education, 2005 Production Possibilities and Opportunity Cost The production possibilities frontier (PPF) is the boundary between those combinations of goods and services that can be produced and those that cannot. To illustrate the PPF, we focus on two goods and hold the quantities of all other goods constant. That is, we look at a model economy in which everything remains the same (ceteris paribus) except the two goods we’re considering.

27. © Pearson Education, 2005 Production Possibilities and Opportunity Cost Production Possibilities Frontier This figure shows the PPF for CDs and pizza, which stand for any pair of goods and services. Points on the frontier, such as points A, B, C, D, E and F and points inside the frontier, such as Z, are attainable. Points outside the frontier are unattainable.

28. © Pearson Education, 2005

29. Production Possibilities and Opportunity Cost Opportunity Cost The PPF makes the concept of opportunity cost precise. If we move along the PPF from C to D, the opportunity cost of the increase in pizza is the decrease in CDs.

30. © Pearson Education, 2005

31. Production Possibilities and Opportunity Cost Note that the opportunity cost of a CD is the inverse of the opportunity cost of a pizza. One pizza costs 3 CDs. One CD costs 1/3 of a pizza.

32. © Pearson Education, 2005

33. Using Resources Efficiently All the points along the PPF are efficient. To determine which of the alternative efficient quantities to produce, we compare costs and benefits. The PPF and Marginal Cost The PPF determines opportunity cost. The marginal cost of a good or service is the opportunity cost of producing one more unit of it.

34. © Pearson Education, 2005 Using Resources Efficiently This figure illustrates the marginal cost of pizza. As we move along the PPF in part (a), the opportunity cost and the marginal cost of pizza increases.

35. © Pearson Education, 2005

36. Using Resources Efficiently In this figure we the blocks illustrate the increasing opportunity cost of pizza. The black dots, and the line labelled MC show the marginal cost of pizza.

37. © Pearson Education, 2005

38. Using Resources Efficiently Preferences and Marginal Benefit Preferences are a description of a person’s likes and dislikes. Economists use marginal benefit and the marginal benefit curve to describe them. The marginal benefit of a good is the benefit received from consuming one more unit of it. We measure marginal benefit by the amount that a person is willing to pay for an additional unit of a good or service. It is a general principle that the more we have of any good or service, the smaller is its marginal benefit and the less we are willing to pay for an additional unit of it. We call this general principle the principle of decreasing marginal benefit. The marginal benefit curve shows the relationship between the marginal benefit of a good and the quantity of that good consumed.

39. © Pearson Education, 2005 Using Resources Efficiently The marginal benefit curve slopes downward to reflect the principle of decreasing marginal benefit. At point A, with pizza production at 0.5 million, people are willing to pay 5 CDs per pizza. At point E, with pizza production at 4.5 million, people are willing to pay 1 CD per pizza.

40. © Pearson Education, 2005

41. Using Resources Efficiently Efficient Use of Resources When we cannot produce more of any one good without giving up some other good, we have achieved production efficiency, and we are producing at a point on the PPF. When we cannot produce more of any one good without giving up some other good that we value more highly, we have achieved allocative efficiency, and we are producing at the point on the PPF that we prefer above all other points.

42. © Pearson Education, 2005 Using Resources Efficiently This figure illustrates allocative efficiency. The point of allocative efficiency is the point on the PPF at which marginal benefit equals marginal cost. This point is determined by the quantity at which the marginal benefit curve intersects the marginal cost curve.

43. © Pearson Education, 2005

44. Using Resources Efficiently We get more value from our resources by producing more pizza. On the PPF at point A, we are producing too many CDs, and we are better off moving along the PPF to produce more pizza. If we produce less than 2.5 million pizza, marginal benefit exceeds marginal cost.

45. © Pearson Education, 2005

46. Using Resources Efficiently We get more value from our resources by producing less pizza. On the PPF at point C, we are producing too much pizza, and we are better off moving along the PPF to produce less pizza. If we produce more than 2.5 million pizza, marginal cost exceeds marginal benefit.

47. © Pearson Education, 2005

48. Economic Growth The expansion of production possibilities—and increase in the standard of living—is called economic growth. The Cost of Economic Growth Two key factors influence economic growth: Technological change Capital accumulation Technological change is the development of new goods and of better ways of producing goods and services. Capital accumulation is the growth of capital resources, which includes human capital.

49. © Pearson Education, 2005 Economic Growth To use resources in research and development and to produce new capital, we must decrease our production of consumption goods and services.

50. © Pearson Education, 2005 Economic Growth Figure 2.5 illustrates the trade-off we face. We can produce pizza or pizza ovens along PPF 0. By using some resources to produce pizza ovens, the PPF shifts outward in the future.

51. © Pearson Education, 2005

52. Gains from Trade Comparative Advantage A person has a comparative advantage in an activity if that person can perform the activity at a lower opportunity cost than anyone else.

53. © Pearson Education, 2005 Gains from Trade Production Without Trade Suppose that Ace and Galaxy produce two components: case and discs. Each firm produces all its own cases and discs. Total production at each factory is 3,000 CDs an hour. Table 2.1 shows their production possibilities.

54. © Pearson Education, 2005 Gains from Trade Possibility Discs (thousands per hour) Cases (thousands per hour) A04 B33 C62 D91 E120 The table shows Ace’s production possibilities. Ace produces 3,000 discs and 3,000 cases at possibility B. If Ace increases production of discs by 3,000 an hour, it must decrease production of cases by 1,000.

55. © Pearson Education, 2005 Gains from Trade Possibility Discs (thousands per hour) Cases (thousands per hour) E'E'012 D'D'19 C'C'26 B'B'33 A'A'40 The table shows Galaxy’s production possibilities. Galaxy produces 3,000 discs and 3,000 cases at possibility B'. If Galaxy increases production of discs by 1,000 an hour, it must decrease production of cases by 3,000.

56. © Pearson Education, 2005 Gains from Trade Differences in Opportunity Cost Ace can produce 3,000 discs and 3,000 cases at point B. Along its PPF, Ace’s opportunity cost of a disc is 1/3 case and its opportunity cost of a case is 3 discs. Galaxy can produce 3,000 discs and 3,000 cases at point B'. Along its PPF, Galaxy’s opportunity cost of a disc is 3 cases and its opportunity cost of a case is 1/3 of a disc.

57. © Pearson Education, 2005

58. Gains from Trade If Ace and Galaxy exchange cases and discs at one case per disc (one disc per case), they exchange along the Trade line. Ace ends up at point F with 6,000 CDs—twice what it can achieve without specialization and trade. Galaxy ends up at point at point at point F' with 6,000 CDs— twice what it can achieve without specialization and trade.

59. © Pearson Education, 2005

60. Gains from Trade Absolute Advantage A person (or nation) has an absolute advantage if that person (or nation) can produce more goods with a given amount of resources than another person (or nation) can. Because the gains from trade arise from comparative advantage, people can gain from trade in they also have an absolute advantage. Dynamic Comparative Advantage Learning-by-doing occurs when a person (or nation) specializes and by repeatedly producing a particular good or service becomes more productive in that activity and lowers its opportunity cost of producing that good over time. Dynamic comparative advantage occurs when a person (or nation) gains a comparative advantage from learning-by-doing.