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Lecturer:
Ms. Rachel Erde
## Decision making in markets
COMM1100 Business Decision Making
To create a positive online class experience
Please switch your microphone off so we can ensure a quality class experience.
Please ask questions! We will use Slido to answer your questions.
The lecture will be recorded, and the recording will be available in Moodle for you to review. 10
Decision
Making in
Markets
Imperfect
Competition,
Economic
Surplus, and
Social Welfare
Legal Rights of
Stakeholders
in Decision
Making
Consumer
Relations
Decisions
Employee
& Supplier
Relations
Decisions
Stakeholder
Decisions Regarding
Managers
Complexity in
Business Decision
Making
11
Introduction to
Business Decision
Making
Stakeholders
and CR
11
> ASSESSMENTS
COMM1100 Business Decision Making
Quiz 1:
15%
Case study
analysis: 25%
Final
exam
50%
2 8
Decisions Related to Stakeholders
10
Decision Making Processes
5
Foundations of Business Decisions
Competitor
Relations
Decisions
6 731
Participation:
10% (in total)
Participation:
10% (in total)
Participation:
10% (in total)
Participation:
10% (in total)
Participation:
10% (in total)
Participation:
10% (in total)
Participation:
10% (in total)
Participation:
10% (in total)
Decision
Interactions
with
Government &
Broader
Society
9
Flexibility
Week
4 The market context of business decisions
Using models to understand context
Comparative advantage and the incentives for
specialization
Market analysis
The consumer side: Demand
The producer side: Competitive supply
How they interact to give rise to a market equilibrium.
## Individual core learning this week: Models of decision making
Comparative advantage, opportunity cost and
specialization
Competitive markets
## Plan for today: Modelling decisions What is a model?
A model is a simplified representation of reality. What is a useful model?
It is clear : it helps us better understand something important.
It predicts accurately : its predictions are consistent with
evidence.
It improves communication : it helps us to understand what
we agree (and disagree) about.
It is helpful : We can use it to find ways to improve things. Why do we trade? Why do we Trade?
Pastries/hr Coffee/hr
Paul 1 1
Cassie 2 4Life without Trade
Pastries/hr Coffee/hr
Paul 1 1
Cassie 2 4
Pastries Coffee
Paul
Cassie
> In 8
> hours
Life without Trade
Pastries/hr Coffee/hr
Paul 1 1
Cassie 2 4
Pastries Coffee
Paul 8 8
Cassie 16 32
> In 8
> hours
OR
OR Life without Trade
Pastries Coffee
Paul 4
Cassie 4
> If they
> each
> want 4
> coffees...
Pastries Coffee
Paul 8 8
Cassie 16 32 OR
OR
AND
AND Life without Trade
Pastries Coffee
Paul 4 4
Cassie 14 4
> If they
> each
> want 4
> coffees...
Pastries Coffee
Paul 8 8
Cassie 16 32 OR
OR
AND
AND Absolute Advantage
Absolute advantage : an agent can produce a good using
fewer resources than another agent, or they can produce more
goods for the same resources
> Pastries Coffee
> Paul 88
> Cassie 16 32
OR
OR Opportunity Cost and Comparative Advantage
Opportunity cost: the value of the next best alternative.
E.g., if Paul spends an hour making pastries, hes
sacrificing the coffee(s) he could have made in that hour.
Comparative advantage : an agent has a comparative
advantage when they can perform a task at a lower opportunity
cost relative to another agent. Opportunity Cost and Comparative Advantage
Pastries/hr Coffee/hr
Paul 1 1
Cassie 2 4
Time to produce 1 coffee :
Paul:
Cassie:
Pastries foregone in the time it took to produce that 1 coffee:
Paul:
Cassie: Opportunity Cost and Comparative Advantage
Pastries/hr Coffee/hr
Paul 1 1
Cassie 2 4
Time to produce 1 coffee :
Paul: 1 hour
Cassie: 15 minutes
Pastries foregone in the time it took to produce that 1 coffee:
Paul: 1 pastry
Cassie: 0.5 pastries Opportunity Cost and Comparative Advantage
Pastries/hr Coffee/hr
Paul 1 1
Cassie 2 4
Time to produce 1 pastry :
Paul:
Cassie:
Coffees foregone in the time it took to produce that 1 pastry:
Paul:
Cassie: Opportunity Cost and Comparative Advantage
Pastries/hr Coffee/hr
Paul 1 1
Cassie 2 4
Time to produce 1 pastry :
Paul: 1 hour
Cassie: 30 minutes
Coffees foregone in the time it took to produce that 1 pastry:
Paul: 1 coffee
Cassie: 2 coffees Opportunity Cost and Comparative Advantage
OC of 1 Pastry OC of 1 Coffee
Paul 1 coffee 1 pastry
Cassie 2 coffees 0.5 pastries
_______ has the lower opportunity cost and therefore the
comparative advantage in producing pastries.
_______ has the lower opportunity cost and therefore the
comparative advantage in producing coffees. Opportunity Cost and Comparative Advantage
OC of 1 Pastry OC of 1 Coffee
Paul 1 coffee 1 pastry
Cassie 2 coffees 0.5 pastries
Paul has the lower opportunity cost and therefore the comparative
advantage in producing pastries.
Cassie has the lower opportunity cost and therefore the comparative
advantage in producing coffees. Lifes Better with Trade...and Coffee
Suppose Paul specializes in pastry making and buys his desired 4 coffees from Cassie.
They'd need to trade pastries at a price that works for both of them...between their opportunity costs
of 1 and 2 coffees.
e.g., 1 pastry costs 1.5 coffees
Buying 4 coffees would cost Paul:
4 coffees 1 pastry
1.5 coffees = 2.67 pastries
After the trade of 4 coffees for 2.67 pastries, Paul has
0 coffees made + 4 coffees traded for = 4 coffees and
8 pastries made 2.67 pastries traded away = 5.33 pastries *
*thats 1.33 more pastries than he could consume before trade! Lifes Better with Trade...and Coffee
Cassie also wants to consume 4 coffees and shes selling 4 coffees to Paul so shell
make 8 coffees and spend the rest of her day making pastries.
If shes making 8 coffees, shes not making:
8 coffees 0.5 pastries
1 coffee = 4 pastries foregone
After the trade of 4 coffees for 2.67 pastries, Cassie has
8 coffees made 4 coffees traded away = 4 coffees and
16 max pastries 4 pastries foregone + 2.67 pastries traded for = 14.67 pastries *
*thats 0.67 more pastries than she could consume before trade! Lifes Better with Trade...and Coffee
Cassie
Pastries Coffees
Makes 12 8
Trades +2.67 -4
Consumes 14.67 4
Without trade 14 4
Gain from trade 0.67 -
Paul
Pastries Coffees
Makes 8 0
Trades -2.67 +4
Consumes 5.33 4
Without trade 4 4
Gain from trade 1.33 -
Although Cassie has an absolute advantage in producing both pastries and coffees, she still
benefits from engaging in trade with slow Paul! This is why we trade!!! Why do we Trade Summary
While agents can have an absolute advantage in both activities,
they cannot have the comparative advantage in both activities.
Agents can specialize in the activities in which they have a
comparative advantage (and in doing so further increase their
expertise in this task) and engage in mutually beneficial trades
to meet their consumption goals.
Trade expands consumption bundles beyond what is possible
through self sufficiency. Modelling competitive markets Demand and Supply in Competitive Markets
Markets are composed of two types of decision -makers: buyers and
sellers
The notion of opportunity cost will be vital for understanding the
decision -making of buyers and sellers
In a competitive market, each buyer and seller is a price -taker , meaning
each decision -maker cannot influence the price through their decision
In competitive markets, there are many, many buyers and sellers. Nobody has
enough sway and influence (i.e., market power) to charge a higher price or
demand a lower price. The price is what is it istake it or leave it. Individual Demand
Consumers have a reservation
price for each unit a maximum
price they would pay
This reservation price is informed
by opportunity costs
E.g., spending $4 on a coffee
means foregoing $4 worth of the
next best thing you could have
bought! Individual Demand
For each unit, consumers
compare their reservation price
(the marginal benefit) for that unit
with the price charged (the
marginal cost)
If MB MC, buy the unit
This is the cost -benefit principle
you saw in the Week 1 ICL Individual Supply
Sellers have a reservation price
for each unit a minimum price
they would accept
This reservation price is informed
by opportunity costs
If it costs $4 to make an extra unit
(including opportunity costs!), the
seller must receive at least $4 to
make him willing to make that unit Individual Supply
For each unit, sellers compare
their reservation price (the
marginal cost) for that unit with
the price charged (the marginal
benefit)
If MB MC, sell the unit
This is the cost -benefit principle
you saw in the Week 1 ICL (Perfectly Competitive) Market Equilibrium
Market demand is the horizontal
sum of individual consumer
demands
Market supply is the horizontal
sum of individual seller supplies
Youll get practice adding up
individual demands and individual
supplies in this weeks tutorial (Perfectly Competitive) Market Equilibrium
The equilibrium price is the
price at which quantity demanded
= quantity supplied
>
>
(Perfectly Competitive) Market Equilibrium
Above this price, excess supply
puts a downward pressure on
price
Below this price, excess demand
puts an upward pressure on price Using the competitive market model Market Shifts Example 1
Consider the market for coffee on
UNSWs campus.
What happens to the market
equilibrium price and quantity
when flooding damages the coffee
bean harvest? Market Shifts Example 1
Consider the market for coffee on
UNSWs campus.
What happens to the market
equilibrium price and quantity
when flooding damages the coffee
bean harvest?
Price
Quantity
> Snew
> Q1
> P1
Market Shifts Example 2
Consider the market for coffee on
UNSWs campus.
What happens to the market
equilibrium price and quantity
when its the exam study period? Market Shifts Example 2
Consider the market for coffee on
UNSWs campus.
What happens to the market
equilibrium price and quantity
when its the exam study period?
Price
Quantity
> Dnew
> Q1
> P1
Market Shifts Example 3
Consider the market for coffee on
UNSWs campus.
What happens to the market
equilibrium price and quantity
when there's a 10% off sale on
milk and a new bubble tea shop
opens on campus with grand
opening discounts? Market Shifts Example 3
Consider the market for coffee on
UNSWs campus.
What happens to the market
equilibrium price and quantity
when there's a 10% off sale on
milk and a new bubble tea shop
opens on campus with grand
opening discounts?
Price
Quantity ?Dnew
> Q1
> P1
> Snew
# Price elasticity of supply and demand Price Elasticity
Price elasticity of demand/supply captures how responsive quantity
demanded/supplied is to changes in price.
Elasticity = % Quantity
> %Price
( means change)
A 10% price increase could result in:
Quantity demanded falling by more than 10% Elasticity > 1 (relatively elastic)
Quantity demanded falling by exactly 10% Elasticity = 1 (unit elastic)
Quantity demanded falling by less than 10% Elasticity < 1 (relatively inelastic) Price Elasticity of Demand
When the price of a good increases, quantity demanded will probably fallbut by
how much?
Price elasticity of demand (PED) essentially depends on how easy it is to find an
alternative ( substitute ) to the good whose price just went up.
Time horizon
Do you need the thing tomorrow or can you shop around?
Availability of substitutes
Are there things that are just as good that you can buy instead?
Definition of good
Did the price rise affect only something specific or a broad category?
Income share
How much do you care about/notice this price increase? Price Elasticity of Supply
When the price of a good increases, quantity supplied will probably risebut by
how much?
Price elasticity of supply (PES) essentially depends on how easy it is to make/sell
more of the good when the price goes up.
Time horizon
Is the price rise sudden or did you anticipate it well?
Availability of raw materials
Do you have a bunch of raw materials lying around, or do you need to source more
before you can increase production?
Inventories
Do you already have a bunch of finished goods lying around that you can sell, or do you
need to make more first?
Excess capacity
Are you using your inputs to the max already, or can you use them more rather than
needing to source more? Price Elasticity Calculation
Elasticity = %
%
Elasticity =
Elasticity =
> Q
P
>
Elasticity = P
> Q
>
Elasticity = Price
> Quantity
1
> slope
P
Q
slope = rise
run = P
QElasticity Calculation Practice
Elasticity = Price
> Quantity
1
> slope
Lets calculate and classify the
PED at points A and C: Elasticity Calculation Practice
Elasticity = Price
Quantity 1
slope
= 6
1 1
2 = 3
= 3 > 1 elastic
= 2
3 1
2 = 1
3
= 1
3 < 1 inelastic
What happens if you drop your
price slightly from $6? From $2? Tutorials this week
You will get more hands -on practice using the market analysis
tools from this week:
Decision making and the cost -benefit principle
Opportunity cost and comparative advantage
Demand and supply, interpreting and calculating elasticities,
equilibrium analysis Next week in lecture:
We answer the following questions:
How good is the competitive market at generating an
outcome that we, as a society, like? (We focus on one
measure of good: economic surplus )
What if the market isnt perfectly competitive what if
suppliers have market power ?Moodle course site:
> https://moodle.telt.unsw.edu.au/course/view.php?id=60102
Course email:
>
[email protected]
If you have any questions about this
lecture, please post them on Moodle.
The recording of the online lecture will
be made available in your Moodle
course site.
# Thank you for
# attending