summary by chapter of the book ‘Managerial Economics and Business Strategy’ by Baye and Prince.

Chapter two Summary 

Chapter two is about market forces; demand and supply.  Consider the chapters I've analyzed as economic help free online for your personal reading and insight. The chapter highlighted supply and demand forces to be the driving force behind market economics. Supply and demand is a qualitative analysis technique that forecasts future trends in a competitive market. Through supply and demand analysis, one can predict changes in the prices of the firm’s products, related products, and inputs to forecast production. This, therefore, helps to determine how much price to charge on products and services, how sales and revenue will change, and therefore what strategies should be in place to ensure the various goals are in place.

From the chapter, demand is how much consumers are willing and able to pay while holding other factors constant. The law of demand states that quantity demanded and prices are inversely related. As the price of the good rises, the quantity demanded decreases, when the price decreases, the quantity demanded increases while holding other factors constant. The chapter also presents the market demand curve which is a graphical representation of the law of demand. Price changes cause a movement along the demand curve while other factors other than price cause the shifting of the demand curve. These factors include consumer income, price of related goods, advertising, consumer tastes and population. From the chapter a distinction between normal and inferior goods, consumer and producer surplus concepts was made.

Additionally, the concept of supply was discussed and this related to how quantity changes when the price changes. The law of supply states a direct positive relationship between quantity supplied and the price of a good. Factors that cause a shift of supply curve include technology, number of firms in the market, producer expectations and the taxes. The chapter also discussed equilibrium and price restrictions in form of price ceilings and price floors.

Chapter Three Summary

Chapter three is about quantitative demand analysis.  Indirect demand function is a function of price of substitutes, price of complements, consumer incomes, consumer expectations and advertising. The chapter discussed elasticity concept as the measure of responsiveness of one variable in response to the change in another variable. In terms of percentage, elasticity is the percentage change in quantity divided by percentage change in price. This is for both elasticities of demand and supply. For calculus, derivative of quantity divided by derivative of price and income multiplied price and income divided by quantity. For elasticity, it is important to note whether the elasticity is positive or negative or whether it is greater or less than one. Another measure of elasticity highlighted in the chapter is own price elasticity.

The relationship between total revenue and elasticity is such that the absolute value determines whether the total revenue will increase or decrease. In the cases where the absolute value is greater than one, the demand is elastic and therefore an increase in price will lead to a decrease in total revenue and a decrease in price will lead to an increase in total revenue. In the case of an inelastic demand, an increase in price increases the total revenue and a decrease in price decreases the total revenue. Total revenue is maximized where the elasticity is unitary.

Chapter three highlighted factors affecting own price elasticity to include availability of substitutes, time and expenditure share. To extend the concept of elasticity, the chapter discussed income elasticity as a measure of the responsiveness of quantity demanded to changes in income. Quantitative demand analysis utilizes regression analysis and this encompassed tests of significance for variables like confidence intervals and t-statistic.

Chapter Five Summary

Chapter five discussed the production process and costs which provide a proper basis for the practice of management and accounting. From the chapter, a production function is an engineering relationship that expresses the maximum amount of output that is produced by a given set of inputs. The inputs may include capital and labor and are combined using technology in the production process. In the production process, time is of great extent. By definition, time period may either be long run where all the factors of production may vary or short run where at least one factor is fixed.

 Productivity may be measured as total product whereby the maximum output that can be produced given the inputs is presented. The other measure is the average product which is a per unit output. From the text, it is computed by dividing the total output by the quantity. Marginal product was also another productivity measure highlighted and this was computed by dividing change in total product by change in the output. Marginal returns may either be decreasing, increasing or negative. For appropriate decision making, an increasing marginal returns is desired. The phases of marginal returns include increasing returns, constant returns to scale and decreasing returns.

In the production process, the manager plays the role of explaining the production process to the rest of the staff and availing the needed resources, and offering managerial support. Technology is of critical importance to the firm and this streams from independent research and development, technology license, publications, reverse engineering and patent disclosures. The production function is classified into the linear production function, Leontief function and the fixed proportions production function. The firm is faced by output maximization and cost minimization. Optimal input substitution helps in optimization.

Chapter six Summary

Chapter six discussed the organization of the firm. The firm is faced by the problem of minimizing costs and therefore the firm chooses an inputs combination that will make this possible.  The firm, in its efforts to optimize either chooses to maximize output or minimize inputs and therefore the input combination is critical. From the chapter, inputs could be procured through the spot exchange, acquire under the contract or purchased internally. Purchasing inputs through the spot exchange involves both the buyers and sellers coming together and exchange for production. The advantage of spot exchange is that it allows for specialization which realizes maximum benefits.

From the chapter, transaction costs refer to the costs that relate to inputs that is above what is paid to the supplier. Transaction costs include costs for searching for a supplier, negotiation costs and other investments and expenditures to facilitate exchange. The chapter six also discussed specialized investments which it defined as expenditure that must be made to allow two parties to exchange but have little or no value. Between the parties involved is a relationship specialized exchange. On the basis of specialization, the considerations include site specificity, physical assets specificity, human capital and dedicated assets. Pursuing the specialized investments however realizes implications such as increased costs due to costly investment and underinvestment.

The chapter also discussed optimal input requirement under the various arrangements. The cost minimizing input requires proper consideration of the inputs needed. The chapter also discussed the principal agent problem as it relates to the production process and with this there was a discussion of forces that discipline managers. This takes the form of incentives such as profit sharing and revenue sharing. The compensation may take the form of piece rates.

Chapter Seven

This chapter discussed the nature of the industry. It discussed the various factors that affect the decisions made in the firm. The decisions made revolve around how much to produce, what to charge, how much to spend on advertising and research and development. The discussion about an industry starts with the market structure. By definition, market structure are the factors that affect how the firms enter or exit the industry. With reference to managerial economics and in such a scenario, decisions may be made in consideration of number of firms competing in the market, relative size of the firm, technological considerations and the ease of entry or exit into the market.

Different firms within different industries differ in terms of size in that some firms may be large and others small. Firms may also differ in terms of concentration which is how much total output is produced by large firms in the industry. Limitations of concentration measures global markets, national and local markets and industry definitions and product classes. Technology may also be a basis for differentiation into different firms, demand and market conditions and potential for entry and exit. The above are structural differences and also in terms of conduct may lead to further structural differences. Some firms may therefore charge higher markups than others.

The chapter discusses pricing behavior as measured by the Lerner index, integration and merger activity, research and development and advertising.  Integrations may either be horizontal, vertical and conglomerate. Industry arrangements also relate to performance. From the chapter, performance refers to profits and social welfare that make up an industry. The structure-conduct-performance paradigm which explains the industry as being integrally related. In explaining the constituents of an industry, the chapter utilized the five framework with feedback effects.

Chapter Eight

Chapter eight built up on the market structure discussed in chapter seven. Specifically, the chapter discussed managing in competitive, monopolistic and monopolistically competitive markets. A perfectly competitive market is characterized by many buyers and sellers, each firm producing a homogeneous product, buyers and sellers have perfect information, no transaction costs and free entry and exit. The interpretation is that the price of one firm does not affect the other, the firm has no close substitutes for products and that firms can enter the market if profits are being earned and leave when they aren’t there. In the long run, this kind of market arrangement, there are no normal profits. Optimization was analyzed in both graphical and calculus terms. The rule is that a perfectly competitive firm maximizes profits where price equals marginal cost. For these kind of firms, the supply curve is whereby the marginal cost is above the average variable cost. For the long run, price equals marginal cost.

The other market structure discussed in this chapter is monopoly. Monopoly is referred to as a single market that serves an entire market for a single good. Monopoly gets its power through economies of scale in that long run average costs decline as output increases. Depending with the costs and prices, the firm may realize diseconomies of scale. Long run average costs increases as output increases for the diseconomies of scale. Advantages of a monopoly may take the form of economic scope or cost complimentary options. For the monopoly profit maximization is whereby marginal revenue equals marginal costs. The case of a monopolistic market structure combines the features of both perfect and monopoly market structures.

Chapter Nine

Chapter nine discussed basic oligopoly markets as a market structure that refer to few firms which are large relative to the entire industry. Oligopoly as a market structure is composed of perfect competition’s identical product and monopolistic competition’s differentiation. Managerial decision making with reference to these market structures include pricing and output decisions. Oligopolies that comprise of two firms are called duopoly. Oligopolies face the decisions on the model of the market, type of product and whether to enter the market or exit. Important to the operations of oligopoly is the role of beliefs and strategic interactions. This helps to determine interdependence.

The profit maximization case in this chapter was explained under the four oligopoly types. Namely, this included sweezy oligopoly that is characterized by few firms, differentiated products, barriers to entry exit and firms respond to price reduction. Secondly is cournot oligopoly characterized by few firms, either differentiated or homogeneous products and barriers to entry. The third oligopoly market is the stackelberg oligopoly characterized by few firms, differentiated products, single firm that leads in choosing an output then the rest follow. The fourth oligopoly subtype was the Bertrand oligopoly type characterized by few firms, identical products, price competition, existence of barriers to exit and perfect information with no transaction costs. In the analysis of the oligopoly market subtypes, the chapter analyzed characteristics of these markets, entry and exit strategies and the reaction functions.

The demand curve in the oligopoly market structure still showed the relationship between quantity demanded and price. One notable demand curve is the kinked demand curve. Another concept is the strategic interaction concept and this leads to contestable market. The characteristics of this type of market challenges the oligopoly conditions.

Chapter Ten

Chapter ten extended the oligopoly concept with an aim of discussing the game theory. Game theory models decision making by providing the necessary tools for monitoring and bargaining functions for example the case of workers. The elements of a game include players and payoffs. The games can be classified into simultaneous and sequential move games. Simultaneous move game refers to a game which each player makes decisions without the knowledge of the players’ decisions. The sequential move game is a game in which one player makes a move and then the rest make the move afterwards. The nature of the game is also critical and has been emphasized in the chapter.

Bertrand duopoly game involves pricing game that is simultaneous game. Strategy by definition is a decision rule that explains what a player takes at each action point. Game representation may take the normal form game representation or extensive form game. Normal form representation include players, payoffs and strategies and payoffs from alternative strategies. The classification of strategies is such that it may be dominant or dominated in nature. The most outstanding strategy is the secure strategy which from the text gives the highest payoffs given possible scenarios. One of the solutions to the game is a Nash equilibrium. Nash equilibrium is a state that no one can improve payoffs by literally changing the strategies. One shot games may be applied to pricing games, advertising and quality decisions. The application may also extend to coordination and monitoring employees. The chapter built on Nash equilibrium through bargaining and choosing strategies. Chapter ten also discussed factors affecting collusion in pricing games to include number of firms, firm size, history of the market and punishment mechanisms.

Chapter Eleven

Chapter eleven discussed pricing strategies for firms with market power. This was in specific reference to perfect competition, monopoly, oligopoly and monopolistic competition. Pricing strategies however depend with the kind of market structure. Profit maximization is determined by matching the marginal revenue to the marginal cost. Pricing for monopoly and monopolistic companies depends with both demand and cost considerations. Chapter eleven presented the formula for markup for both monopolies and monopolistic market structures. While making reference to the price and the markup, the chapter compared the price set to the marginal cost and the implications were the more elastic the demand of a product is, the lower the profit maximizing markup. In addition to this, the higher the marginal cost, the higher the profit maximizing price.

The pricing rule for cournot equilibrium was in consideration of elasticity and the marginal cost. In this case, the more elastic the demand is, the closer the profit maximizing price is to the marginal cost, as the number of firms increases, the price gets closer to the marginal cost and the higher the marginal cost, the higher the profit maximizing price in Cournot equilibrium. Chapter eleven further presented strategies that yielded greater profits for the firm. These included extracting surplus from consumers through price discrimination, two-part pricing, block pricing and commodity building, and pricing strategies for special cost and demand structures. These may take the form of peak load pricing by charging different prices for peak and off peak seasons, cross subsidies where profits from one undertaking are used to subsidies sales from another and transfer pricing. In the case of intense price competition, the pricing strategies to be adopted include price matching, induced brand loyalty and randomized pricing.

Chapter Twelve

This chapter was about the economics of information and through it economic concepts explaining information, their models and applications were discussed. The chapter discussed uncertainty and its impact on the consumer behavior. Uncertainty in this chapter was assessed under the mean and variance concepts. Mean as defined in the chapter is the average outcome and this is computed using the expected value concept. Variance on the other hand is the sum of the probabilities that different outcomes will occur multiplied by squared deviations from the mean of the resulting payoffs. From the chapter, standard deviation is the square root of the variance. The chapter outlined the formulae for mean, standard deviation and variance.

Chapter eleven further related uncertainty to consumer behavior. Uncertainty affected economic decisions of both consumers and produces. In terms of risk profiles, the chapter classified consumers into risk averse, risk loving and risk neutral consumers. Risk averse referred to those consumers were indifferent to products or services. Managerial decisions with risk averse consumers involve product quality, chain stores and insurance. The chapter further discussed customer search and here the challenge came where consumers did not know the products with certainty. In such a case, the consumer sometimes faces the reservation price where they are indifferent between choosing the price or looking for a lower price. As a rule, consumer rejects prices above reservation price and accepts prices below reservation price.

The uncertainty concept may also be a dilemma that firms face and in terms of the risk profiles also fall under either risk loving, risk averse and risk neutral. The main application of this is producer search. Uncertainty in the market is an information concern with moral hazard and adverse selection being the key concerns. To solve this, screening and signaling are utilized. This chapter also discussed auctions.

                                                                     Concluding Remarks

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