Strategy for Performance Ppt

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					                                                                                                Chapter 11
                                                                                                OVERVIEW
                                                                                     Competitive Market Efficiency
     Performance and Strategy                                                        Market Failure
        in Competitive Markets                                                       Role for Government
                                                                                     Subsidy and Tax Policy
                                  Chapter 11                                         Tax Incidence and Burden
                                                                                     Price Controls
                                                                                     Business Profit Rates
                                                                                     Market Structure and Profit Rates
1                                                                               2    Competitive Market Strategy




                         Chapter 11
                                                                                    Competitive Market Efficiency
                       KEY CONCEPTS
    welfare economics                    tradable emission permits deadweight
    social welfare                       loss of taxation
                                         tax incidence
                                                                                    Why is it called Perfect Competition?
    producer surplus
    deadweight loss problem
    welfare loss triangle
                                         tax burden
                                         price floor
                                                                                    Competitive markets balance supply and
    market power
    market failure
                                         price ceiling
                                         return on stockholders’ equity (ROE)
                                                                                    demand.
                                         profit margin
    failure by market structure
    externalities                        total asset turnover                       Competitive markets maximize social
                                         leverage
    failure by incentive
    economic efficiency                  reversion to the mean                      welfare
    economic regulation                  disequilibrium profits
    social equity                        disequilibrium losses
    consumer sovereignty                 economic luck
    limit concentration                  competitive strategy
    subsidy policy                       economic rents




3                                                                               4




    Why Do People Buy and Sell?                                                            Consumer Surplus
      If the value of everything is equal to its
       If the value of everything is equal to its
      market price, nobody would be better off
       market price, nobody would be better off
      buying anything, and customers would do
       buying anything, and customers would do
      just as well by simply keeping their money.
       just as well by simply keeping their money.
      ... But the value of everything to buyers is
       ... But the value of everything to buyers is
      not the market price of the item. To say
       not the market price of the item. To say
      that it is so confuses the difference between
       that it is so confuses the difference between
      the marginal value of an item and its average
       the marginal value of an item and its average
      value.
       value.
                                                                                                                 See page 348
                                                                                                                 See page 348
      "Diamond -- water paradox."
       "Diamond water paradox."

5                                                                               6




                                                                                                                                1
                                                                          Producer Surplus
       Consumer Surplus Definition
       Some consumers then are receiving more in
        Some consumers then are receiving more in
       value than the market price they are paying;
        value than the market price they are paying;
       these consumers would pay more for the
        these consumers would pay more for the
       good or service if they had to.
        good or service if they had to.
       Economists call the extra value consumers
        Economists call the extra value consumers
       receive beyond the amount they pay
        receive beyond the amount they pay
       consumer surplus.
        consumer surplus.
       The reason people buy then is because they
        The reason people buy then is because they
       receive more value than they give up in a
        receive more value than they give up in a
       transaction!
        transaction!

 7                                                      8




               Producer Surplus                                           No Price Controls
                  Definition
     Producer surplus is the difference
     Producer surplus is the difference
       between what the firm receives on
        between what the firm receives on
       the market and what it costs the firm
        the market and what it costs the firm
       to supply the product.
        to supply the product.



                                                            Law of One Price
                                                             Law of One Price
 9                                                     10




                               The Law of One Price
                                                                 Market with Price Control
                               The Law of One Price
                                      And
                                       And
                                Market Efficiency
                                 Market Efficiency




11                                                     12




                                                                                              2
        Market with Per Unit Tax
                                                                         Tax Incidence and Burden
                                                                       Role of Elasticity
                                                                         Who pays the economic burden of a tax or operating
                                                                         control regulation depends on the elasticity of supply
                                                                         and demand.
                                                                         Elasticity affects the amount of social welfare lost due
                                                                         to the deadweight loss of taxation.
                                                                            All else equal, the deadweight loss of a tax is small
                                                                            when supply (or demand) is relatively price inelastic.
                                                                            All else equal, the deadweight loss of a tax is large
                                                                            when supply (or demand) is relatively price elastic.
                                                                       Tax Cost Sharing Example
                                                                         Local authorities find it difficult to tax or regulate
                                                                         firms that operate in highly competitive markets.
     See pages 348…
     See pages 348…
13                                                                14




                   Market Failure                                             Role for Government
     Structural Problems                                               How Government Influences Competitive
       Above-normal profits are unwarranted if they reflect            Markets
       the raw exercise of market power.                                 Tax policy or regulation is efficient if expected
       Failure occurs when competitive markets do not                    benefits exceed expected costs.
       sustain socially desirable activity.                              Fairness must be carefully weighed when social
       Failure can occur in markets with few participants.               considerations bear heavily.
     Incentive Problems                                                Broad Social Considerations
       Externalities are differences between private and                 Consumer sovereignty is an important benefit of
       social costs or benefits.                                         competitive markets.
       A negative externality is an unpaid cost.                         Public policy can control unfairly gained market
       A positive externality is an unrewarded benefit.                  power.
                                                                         Tax and regulatory policy limit concentration of
                                                                         economic and political power.
15                                                                16




         Subsidy and Tax Policy                                                      Price Controls
     Subsidy Policy                                                    Price Floors
       Subsidy policy can be indirect, like government
       construction and highway maintenance grants that                Price floors cause surplus production.
       benefit the trucking industry.
                                                                       Costly government-set price floors persist
       Subsidy policy can be direct, like agricultural
       payment-in-kind (PIK) programs.                                 because of powerful special interest
          Tradable emission permits are pollution licenses.            groups
     Deadweight Loss From Taxes
       Taxes reduce economic activity and cause
       deadweight losses.
       Pollution taxes explicitly recognizes the public's right
       to a clean environment.

17                                                                18




                                                                                                                                     3
                                                                                          Figure 11.6b


                    Figure 11.6a                                                                              Demand and supply more elastic in long run
                                                                                                               Demand and supply more elastic in long run
                                                                                                              As buyers continue to shift to less costly alternatives
                                                                                                               As buyers continue to shift to less costly alternatives
                                                               See page 364
                                                               See page 364                                   while producers try to increase supply.
                                                                                                               while producers try to increase supply.
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                      Price Ceilings
     Price ceilings cause shortages.
     Price ceilings are a popular, but ineffective,
     means for restraining excess demand.
         Cities use price ceilings in an effort to make
         housing more affordable.




                                                                                                   Figure 11.7a

                                                                                                                                                See page 366
                                                                                                                                                See page 366
21                                                                             22




                                   Rental market in Long-run


                                                                                         Business Profit Rates
                                                                                    Return on Stockholders’ Equity
                                                                                      ROE is net income divided by the book value
                                                                                      of stockholders’ equity.
                                                                                      ROE = Net Income/Sales × Sales/Total Assets
                                                                                      × Total Assets/Stk. Equity
                                                                                        High margins, turnover or leverage boost ROE.
                                                                                    Typical Profit Rates
                                                                                      ROE averages 10% to 15% per year for
            Figure 11.7b
                                                                                      successful companies.
     Long-run demand and supply are more elastic causing shortages to grow
      Long-run demand and supply are more elastic causing shortages to grow           Sustained ROE ≥ 20% per year is rare.
     As renters continue to expand their demand for low-cost housing, while
      As renters continue to expand their demand for low-cost housing, while
     Landlords fail to keep up in terms of ordering new supply.
      Landlords fail to keep up in terms of ordering new supply.
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                                                                                                                                                                         4
     Market Structure and Profit Rates                                        Competitive Market Strategy
     Profit Rates in Competitive Markets                                      Short-run Firm Performance
       Competitive markets have low profit margins.                             Profits reflect transitory influences.
       In strong economic environments, competitive firms                       Disequilibrium profits and losses reflect adjustment
       can earn disequilibrium profits.                                         costs.
       In weak economic environments, competitive firms                       Long-run Firm Performance
       can suffer disequilibrium losses.                                        Typical firms in competitive markets have the
     Mean Reversion in Profit Rates                                             potential for a normal rate of return on investment.
       Expansion from entry and firm growth cause above-                        Abnormal profits or losses often reflect transitory
       normal profits to regress toward the mean.                               disequilibrium conditions.
       Contraction from bankruptcy and exit allow below-                        If above-normal returns persist for extended periods,
       normal profits to rise toward the mean.                                  elements of uniqueness are at work.
       In long-run equilibrium, profit rates for typical firms                     The search for an economic advantage is called competitive
       reflect only a risk-adjusted normal rate of return.                         strategy.
25                                                                       26        Uniquely productive firms earn above-normal profits.




                                                                                            Rate of Decay




                                                           Figure 11.8




                                                   See page 371
                                                   See page 371
27                                                                       28




                   Profit Margins
     See data on page 381




                                          Monopoly
                                          Monopoly


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