Firms and customers I MPA 612: Public Management Economics - PowerPoint PPT Presentation

Firms and customers I MPA 612: Public Management Economics February 12, 2018 Fill out your reading report on Learning Suite!

Current events Now expanded to take advantage of your new vocabulary!

Plan for today Outsourcing revisited Demand and profit maximization Popsicle Sticks, Inc. Costs and profit

Outsourcing When should government privatize stuff?

Conditions for contracting The bigger the adverse consequences of cost-cutting on quality, the stronger the case for in-house provision

Should governments outsource… Snowplows Garbage Mail Schools Healthcare Prisons Police Military

Demand and profit maximization How much stuff should you make and how much should you charge for it?

Demand and WTP 8 7 6 Price P : dollars per pound 5 4 3 2 1 0 0 8,000 16,000 24,000 32,000 40,000 48,000 56,000 64,000 72,000 80,000 Quantity Q : pounds of Cheerios

Total costs (TC) Unit cost × quantity $2 × Q Total revenue (TR) Price × quantity P × Q Profit (TR − TC) P × Q − $2 × Q ( P − $2) × Q

Isoprofit curves ( P − $2) × Q 10 $60,000 9 $34,000 8 $23,000 Price P: dollars per pound 7 $10,000 6 $0 5 4 3 2 1 0 0 8,000 16,000 24,000 32,000 40,000 48,000 56,000 64,000 72,000 80,000 Quantity Q: pounds of Cheerios

Profit maximization 10 9 $60,000 $34,000 8 Price, P: dollars per pound $23,000 7 $10,000 6 $0 5 E Demand curve 4 3 2 1 Feasible Set 0 0 8,000 16,000 24,000 32,000 40,000 48,000 56,000 64,000 72,000 80,000 Quantity, Q: pounds of Cheerios

Popsicle Sticks, Inc. Sister company to XYZ Airlines, probably

Specifications Costs Squares attached at all Table rental: $1.00 four corners using labels Scissor rental: $0.50 Labels cannot be wider than sticks Popsicle stick: $0.10 Squares must be square Label per corner: $0.05 when inspected Wage per active Labels must be cut with employee: $0.40 the scissors, not be torn

Round 1 1 worker allowed Table rental: $1.00 Scissor rental: $0.50 Popsicle stick: $0.10 Label per corner: $0.05 Wage per employee: $0.40

Round 1 1 worker allowed Table rental: $1.00 Scissor rental: $0.50 Popsicle stick: $0.10 Label per corner: $0.05 Wage per employee: $0.40

Round 2 2 workers allowed Table rental: $1.00 Scissor rental: $0.50 Popsicle stick: $0.10 Label per corner: $0.05 Wage per employee: $0.40

Round 2 2 workers allowed Table rental: $1.00 Scissor rental: $0.50 Popsicle stick: $0.10 Label per corner: $0.05 Wage per employee: $0.40

Round 3 Unlimited workers allowed Table rental: $1.00 Scissor rental: $0.50 Popsicle stick: $0.10 Label per corner: $0.05 Wage per employee: $0.40

Round 3 Unlimited workers allowed Table rental: $1.00 Scissor rental: $0.50 Popsicle stick: $0.10 Label per corner: $0.05 Wage per employee: $0.40

Round 4 Unlimited workers allowed Table rental: $1.00 Scissor rental: $0.50 Popsicle stick: $0.10 Label per corner: $0.05 Wage per employee: $0.40

Round 4 Unlimited workers allowed Table rental: $1.00 Scissor rental: $0.50 Popsicle stick: $0.10 Label per corner: $0.05 Wage per employee: $0.40

Round 5 Unlimited workers allowed Table rental: $1.00 Scissor rental: $0.50 Popsicle stick: $0.10 Label per corner: $0.05 Wage per employee: $0.40

Round 5 Unlimited workers allowed Table rental: $1.00 Scissor rental: $0.50 Popsicle stick: $0.10 Label per corner: $0.05 Wage per employee: $0.40

Fixed costs Variable costs Average costs Cost function shape

Costs and profit Making stuff costs money and affects profits

Total cost of production, C(Q) 248000 350,000 AC at B Total cost of production, AC at A = slope of OB = slope of OA 198000 D = 3,400 = C 0 /Q 0 = 4,000 AC at D 148000 B C(Q) = slope of OD = 3,600 98000 A C 0 = 80,000 48000 F -2000 0 Quantity of cars, Q 1 3 5 7 9 11 13 15 17 19 21 23 25 27 29 31 33 35 37 39 41 43 45 47 49 51 53 55 57 59 61 63 65 67 69 71 Q 0 = 20 Q 1 = 40 Q 2 = 60 Average cost 4000 A Average cost of production D 4,000 3800 B 3,600 3600 3400 3,400 3200 3000 2800 2600 2400 2200 2000 0 Quantity of cars, Q 30 32 34 36 38 40 42 44 46 48 50 52 54 56 58 60 62 64 66 68 70 72 74 76 78 80 Q 0 = 20 Q 1 = 40 Q 2 = 60

Δ C = 2,200 248000 350,000 Total cost of production, A D 198000 Δ C Δ C = 4,600 1 148000 Δ C = 3,400 C(Q) 98000 D A Δ C C 0 = 80,000 48000 F 1 -2000 0 Quantity of cars, Q 1 3 5 7 9 11 13 15 17 19 21 23 25 27 29 31 33 35 37 39 41 43 45 47 49 51 53 55 57 59 61 63 65 67 69 71 Q 0 = 20 Q 1 = 40 Q 2 = 60 Average cost Average and marginal costs 6000 6,000 MC 5500 5000 of production D 4500 4,600 AC 4000 B 3500 3,400 A 3000 2,200 2500 2000 0 Quantity of cars, Q 3032343638404244464850525456586062646668707274767880 Q 0 = 20 Q 1 = 40 Q 2 = 60

MC AC 4000 A Average and marginal costs 3800 4,000 3600 B D 3400 of production 3200 3000 2,000 2800 2600 2400 2200 0 2000 Q 1 = 40 Q 0 = 20 Q 2 = 60 30 32 34 36 38 40 42 44 46 48 50 52 54 56 58 60 62 64 66 68 70 72 74 76 78 80 Quantity of cars, Q

Size and location Economies of scale (Dis-) Cost to make stuff goes down as you make more stuff Economies of agglomeration Cost to make stuff goes down as you clump together Network effects Cost to make stuff goes down when everyone uses your stuff

Long-run vs short-run costs SRAC LRAC

Costs and scale SRAC LRAC Economies Constant Diseconomies of scale returns to of scale scale

Next time… Profit maximization without isoprofit curves Elasticities, taxes, market power