Managerial Economics Exam 1: Chapter 1-4

economics

the study of decision-making in the presence of scarcity

managerial economics

the application of economic analysis to managerial decision making

marginal reasoning

considering the effect of a small change

Examples of tradeoffs

how to produce

what prices to charge

whether to innovate

Younger individuals invest in _________ assets, while older individuals invest in ______ assets, like bonds.

riskier ; safer

Examples of other decision makers (in reference to managerial decision making)

consumers

workers

rivals

governments

market

an exchange mechanism that allows buyers to trade with sellers

strategy

a battle plan that specifies the actions or moves that the manager will make to maximize the firm's profit when interacting with a small number of rival firms

model

a description of the relationship between 2 or more variables

-what if analysis

-economic models include only the essential issues

-a simplification of reality

positive statement

concerns what is or what will happen and describes reality.

Ex: The economy is growing at 3.4%

This does not mean we are certain about the truth of the statement; it indicates only that we can test it.

normative statement

concerns what somebody believes should happen and prescribes a course of action.

Ex: The economy should be growing at 4%

economic theory

development and use of a model to formulate a hypothesis- proposed explanations for a phenomenon

Society faces trade-offs because of

scarcity

Example of a normative statement

To make the good available to more people, a lower price should be set.

Economic models are most often tested

using data from the real world

Profit is

the difference between a firm's revenues and its costs

Einstein was quoted saying "Everything should be made as simple as possible, but not simpler." When it comes to economic models this means that

A) models shouldn't be too complex.

B) models shouldn't be too simple.

C) models should have a level of abstraction appropriate to the topic investigated.

D) All of the above.

D. All of the above

Economic models are most useful in

predicting changes in one variable due to a change in one or more other variables.

If a model's predictions are correct, then:

-its assumption must have been correct

-it is proven to be correct

-both A and B

-none of the above

None of the above

A firm's managers are constrained by

consumers

workers

government

all of the above

all of the above

The purpose of making assumptions in economic model building is to

simplify the model while keeping important details.

Economists tend to judge a model based upon

the accuracy of its predictions

If a theory's predictions are incorrect

then economists will likely reduce their confidence in the theory.

Economic models are most useful in

explaining outcomes resulting from management decisions.

Microeconomics studies the allocation of

scarce resources.

Microeconomic models are used to

Make predictions, explain real-life phenomena, and evaluate policy alternatives.

CEOs should focus on

maximizing firm profits

A microeconomic model CANNOT be used to

evaluate the fairness of a proposal to nationalize health insurance

Example of a positive statement

If you consume this food, you will get sick.

If an important assumption is omitted from an economic model

the model's predictions will be inaccurate.

T/F:

Economic models are only useful in analyzing government policy.

False, economic models can be used to predict individual and firm behavior.

All private firms seek to

maximize profit

Non-price determinants of demand

income

price of related goods (substitutes and complements)

information

tastes and preferences

government regulations

population

time of year

future price expectations

Non-price determinants of supply

costs (of production, labor, materials, capital)

advances in technology

government regulations

number of sellers in the market

future price expectations

quantity demanded

amount of a good that consumers are willing to buy at a given price, other factors held constant

law of demand

consumers demand more of a good if its price is lower, as shown by the downward sloping demand curve

quantity supplied

amount of a good that firms want to sell at a given price, other factors held constant

law of supply

Tendency of suppliers to offer more of a good at a higher price, as shown by the upward sloping supply curve

equilibrium

a situation in which no participant wants to change its behavior. quantity supplied equals quantity demanded.

excess demand

the amount by which quantity demanded exceeds the quantity supplied at a specified price

excess supply

the amount by which the quantity supplied exceeds the quantity demanded at a specified price

Types of government intervention

policies that shift curves

price controls

sales taxes

Price ceilings are set ______ the equilibrium price

below.

Price floors are set _______ the equilibrium price

above

Specific tax causes:

1. the equilibrium price consumers pay to rise

2. the equilibrium price that firms receive to fall

3. the equilibrium quantity to fall

The supply and demand model is accurate in what type of market?

a perfectly competitive market, in which all participants are price takers

Characteristics of price takers in a perfectly competitive market

-many buyers and sellers

-identical products

-participants have complete knowledge and information

-transaction costs are negligible

-firms can easily enter/exit the market over time

An increase in the price of oil will

leave the supply curve of oil unchanged.

An increase in the price of pork will lead to

a movement up along the demand curve.

From the 1970s through the 1990s, the relative price of a college education has increased greatly. During the same time period, college enrollment has also increased. This evidence suggests that during this time period

the demand curve for a college education has shifted rightward.

Which of the following cultural events likely increased the demand for the product highlighted in the event?

the inclusion of Reese's Pieces in the movie E.T.

The price of crude oil rose to over $100 per barrel in early 2013. What would we expect to see happen to the supply of plastic, which is produced using crude oil?

The supply of plastic will decrease.

The above figure shows a graph of a market for pizzas in a large town. At a price of $10, the market

A) is not in equilibrium.

B) has excess supply.

C) does not have excess demand.

D) All of the above.

D. all of the above

The above figure shows a graph of the market for pizzas in a large town. At a price of $5, there will be

excess demand

An increase in consumer incomes will lead to

a rightward shift of the demand curve for plasma TVs.

If Qs = -20 + 10p, and Qd = 400 - 20p, what is the equilibrium price?

14

-20 + 10p = 400 - 20p

10p = 420 -20p

30p = 420

p = 14

Technological innovation in the production of computers has led to

a rightward shift of the supply curve for computers.

The supply curve

represents the quantity supplied at any given price.

The supply curve is influenced by

the prices of the inputs required to produce the product.

If the price of automobiles were to increase substantially, the demand curve for gasoline would most likely

shift leftward.

If the government institutes a specific tax for a good

the producer can generally only pass part of the tax onto the consumer.

It is appropriate to use the supply-and demand-model if, in a market

A) everyone is a price taker with full information about the price and quality of the good.

B) firms sell identical products.

C) costs of trading are low.

D) All of the above.

D. all of the above

As people have become more health-conscious and decided to eat food that is better for them

the demand curve for oranges and apples has shifted to the right.

Government actions can cause a

shift in either the supply or demand curves

The above figure shows a graph of the market for pizzas in a large town. At a price of $14, there will be

excess supply

Empirical methods:

-elasticity

-regression analysis

-forecasting

These are used to determine and analyze economic relationships that affect a firm's demand

elasticity

the measure of the responsiveness of one variable to a change in another

Elasticity= (equation)

percentage change in quantity demanded/percentage change in price

arc price elasticity

uses average price and average quantity as the denominator for percentage calculations

elasticity curve

income elasticity of demand

percentage change in quantity demanded divided by percentage change in income

cross price elasticity of demand

the percentage change in the quantity demanded of one good divided by the percentage change in the price of another good. (positive = substitute; negative = complement)

regression analysis

a statistical technique used to estimate the mathematical relationship between a dependent variable and one or more explanatory variables

random error term

captures the effects of unobserved influences

residual

the difference between the actual value of dependent variable and the predicted value

R^2

measure of goodness of fit of the regression line. share or dependent variable's variation that is accounted for by the explanatory variables.

extrapolation

seeks to forecast a variable of interest as a function of time. uses historical data and values.

Ordinary Least Squares Regression analysis attempts to

select a line that fits the data well.

A normal good has a ________ income elasticity of demand and quantity demanded ________ as income rises.

positive; increases

An R2 close to 1

indicates that almost all of the variation in the dependent variable is explained by the regression.

The percentage change in the quantity demanded in response to a percentage change in the price is known as the

price elasticity of demand.

If the demand curve is given by Q = a + bp, then a is

the quantity demanded when price is zero.

In regression analysis, the dependent variable

is the variable whose variation is to be explained.

If using a 95% confidence interval and the absolute value of the t-statistic is larger than the critical value, then

we reject the null hypothesis at a 95% confidence level.

Two variables are said to be ________ if they move together.

correlated

The random error term ________ the effects of ________ influences on the dependent variable that are not included as explanatory variables.

captures; unobserved

If the demand curve is given by Q = a + bp, then b is

the change in quantity demanded if price changes by 1.

An inferior good has a ________ income elasticity of demand and quantity demanded ________ as income rises.

negative; decreases

Elasticity along a downward sloping linear demand curve

changes along the curve.

In regression analysis, the explanatory variables

are the factors that are thought to affect the dependent variable.

If the price elasticity of demand for a good is less than one in absolute value, economists would characterize consumers of this good

as not very sensitive to price.

If the price of a slice of pizza rises from $2.50 to $3, and quantity demanded falls from 10,000 slices to 7,400 slices, calculate the arc price elasticity.

-1.64

Horizontal and vertical demand curves

have constant elasticities.

If demand is elastic

then a 1% decrease in price leads to a rise in quantity of greater than 1%.

A regression analysis with ________ explanatory variables is called a ________.

two or more; multivariate regression

If the demand for orange juice is expressed as Q = 2000 - 500p, where Q is measured in gallons and p is measured in dollars, then at the price of $3, the demand curve

is elastic.

3 assumptions about properties of consumers' preferences

-completeness

-transitivity

-more is better

indifference curve

the set of all bundles of goods that a consumer views as being equally desirable

marginal rate of substitution (MRS)

shows the rate at which a consumer can substitute one good for another while remaining on the same indifference curve. (slope of line)

marginal utility

extra utility received from consuming one more unit of a good.