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Economic efficiency ppt @ bec doms

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Economic efficiency ppt @ bec doms

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Economic efficiency ppt @ bec doms

  1. 1. ECONOMIC EFFICIENCY
  2. 2. ECONOMIC EFFICIENCY
  3. 3. ECON EFFICIENCY: CONDITIONS <ul><li>for all users, same marginal benefit </li></ul><ul><li>for all suppliers, same marginal cost </li></ul><ul><li>marginal benefit = marginal cost </li></ul>
  4. 4. EQUAL MARGINAL BENEFIT <ul><li>if not equal </li></ul><ul><li>provide more to user with higher marginal benefit </li></ul><ul><li>take away from user with lower marginal benefit </li></ul>
  5. 5. EQUAL MARGINAL COST <ul><li>if not equal </li></ul><ul><li>supplier with lower marginal cost should produce more </li></ul><ul><li>supplier with higher marginal cost should produce less </li></ul>
  6. 6. MARGINAL BENEFIT/COST <ul><li>if marginal benefit > marginal cost, produce more of the item </li></ul><ul><li>if marginal benefit > marginal cost, produce less of the item </li></ul>
  7. 7. ECONOMIC EFFICIENCY V.S. TECHNICAL EFFICIENCY <ul><li>Contrast economic efficiency vis-à-vis technical efficiency </li></ul><ul><li>Technical efficiency </li></ul><ul><ul><li>producing at lowest possible cost </li></ul></ul><ul><ul><li>doesn’t consider how much benefit the item provides </li></ul></ul>
  8. 8. ADAM SMITH ’ S INVISIBLE HAND: PRICE <ul><li>Competitive market achieves three sufficient condition for economic efficiency: </li></ul><ul><li>buyers and sellers in a market system act independently and selfishly, yet the overall outcome is efficient </li></ul><ul><li>i) users buy until marginal benefit equals price; </li></ul><ul><li>ii) producers supply until marginal cost equals prices; </li></ul><ul><li>iii) users and producers face same price. </li></ul>
  9. 9. INVISIBLE HAND <ul><li>Outcome of price competition in market </li></ul><ul><ul><li>Marginal benefit = price </li></ul></ul><ul><ul><li>Marginal cost = price </li></ul></ul><ul><ul><li>Single price in market </li></ul></ul>
  10. 10. EXAMPLE OF INVISIBLE HAND <ul><li>Major policy issue: how to allocate licenses for 3G wireless telecommunications; </li></ul><ul><li>“ beauty contest” -- France </li></ul><ul><li>auction – Germany, UK, US </li></ul><ul><li>pioneer: in early 1990s, US Federal Communications Commission showed that spectrum licenses were worth billions; </li></ul><ul><li>created pressure on other governments to allocate by auction and not favoritism. </li></ul><ul><li>Auction ensures that item goes to user with highest marginal benefit. </li></ul>
  11. 11. INVISIBLE HAND <ul><li>Market system (price system): Economic system in which resources are allocated through the independent decisions of buyers and sellers, guided by freely moving prices. </li></ul><ul><li>Successes of market system </li></ul><ul><ul><li>West/East Germany </li></ul></ul><ul><ul><li>North/South Korea </li></ul></ul><ul><ul><li>China after Deng Xiaoping’s reforms </li></ul></ul>
  12. 12. DE-CENTRALIZATION <ul><li>create internal market </li></ul><ul><li>if there is a competitive market for an item, set transfer price equal to market price </li></ul><ul><li>consuming units should be allowed to outsource </li></ul><ul><li>Note: </li></ul><ul><li>Transfer price: price charged for the sale of an item within an organization; </li></ul><ul><li>Outsourcing: purchase of services or supplies from external sources </li></ul>
  13. 13. DECENTRALIZATION <ul><li>Within organization </li></ul><ul><ul><li>For all users, marginal benefit = transfer price </li></ul></ul><ul><ul><li>For all producers, marginal cost = transfer price </li></ul></ul><ul><ul><li>Marginal benefit = transfer price = marginal cost </li></ul></ul>
  14. 14. UCLA ANDERSON SCHOOL, 1989 <ul><li>Half an invisible hand is worse than none </li></ul><ul><li>priced photocopying paper </li></ul><ul><li>free bond paper </li></ul>
  15. 15. TAX: COMMODITY TAX <ul><li>“ the only two sure things in life are death and taxes ” </li></ul><ul><li>buyer ’ s price - tax = seller ’ s price </li></ul><ul><li>payment vis- à -vis incidence </li></ul><ul><li>US: airlines pay tax </li></ul><ul><li>Asia: passengers pay </li></ul>
  16. 16. TAX: EQUILIBRIUM 0 800 900 e Quantity (Thousand tickets a year) Price ($ per ticket) supply demand $10 b h 804 794 920
  17. 17. TAX: SURPLUSES 0 800 900 e Quantity (Thousand tickets a year) Price ($ per ticket) supply demand $10 b h 804 794 920 f d j buyer surplus loss = fdge + egb seller surplus loss = djhg + ghb revenue gain = fdge + djhg g
  18. 18. INCIDENCE <ul><li>incidence and deadweight loss depend on price elasticities of demand and supply </li></ul><ul><li>ideal tax (no deadweight loss): inelastic demand/supply </li></ul><ul><li>who pays the tax not relevant </li></ul>
  19. 19. RETAILING: HOW SHOULD MANUFACTURER CUT PRICE? <ul><li>Wholesale price cut: Will retailers pass on the price cut? </li></ul><ul><li>Coupons: Will this provide consumers with more effective price cut? </li></ul>
  20. 20. INCIDENCE: REDUCING RETAIL PRICES

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