Page 12 - DECO405_MANAGERIAL_ECONOMICS

Unit 1: Introduction to Managerial Economics

3. Marginal Analysis: It is also an important principle in itself and very widely applied in Notes
modern economics. There is no major topic in microeconomics that does not apply marginal
analysis and opportunity cost.

1.4.4 Market Equilibrium

The market equilibrium model could be broken down into several principles — the definitions
of supply, demand, quantity supplied and demanded and equilibrium, at least — but these all
complement one another so strongly that there is not much profit in taking them separately.
However, there are many applications and at least four important subsidiary principles:
1. Elasticity and Revenue: These ideas are a key to understanding how market changes
transform society.
2. The Entry Principle: This tells us that, when entry into a field of activity is free, profits
(beyond opportunity costs) will be eliminated by increasing competition. This has a
somewhat different significance depending on whether competition is “perfect” or
monopolistic.

3. Cobweb Adjustment: This might give the explanations when the market does not move
smoothly to equilibrium, but overshoots.
4. Competition vs. Monopoly: Why economists tend to think highly of competition, and
lowly of monopoly.

1.4.5 Diminishing Returns

Perhaps the best-known of major economic principles, the Principle of Diminishing Returns is
much more reliable in short-run than in long-run applications, so the Long Run/Short Run
dichotomy is an important subsidiary principle. Modern economists think of diminishing returns
mainly in marginal terms, so marginal analysis and the equimarginal principle are closely
associated.

1.4.6 Game Equilibrium

Game theory allows strategy to be part of the story. One result is that we have to allow for
several kinds of equilibriums.
1. Non-cooperative equilibrium

(a) Prisoners’ Dilemma (dominant strategy) equilibrium
(b) Nash (best response) equilibrium, (but not all Nash equilibrium are dominant
strategy equilibrium),
2. Cooperative equilibrium

3. Oligopoly

1.4.7 Measurement Principles

Economics is multidimensional, and that creates some difficulties in measuring things like
production, incomes, and price levels. Some of the problems can be solved more or less fully.
1. Value Added and Double Counting: One for which we have a pretty complete solution is
the problem of double counting: the solution is, use value added.

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