EMBA 7010Economic Analysis for

Business Leaders

MicroeconomicsDavid B. Mustard

Fall 2011

Microeconomics

Human BehaviorWhat is Economics?

How is Economics Different?How Do Managers Use Economics?Technological Change and Business

Human Behavior

• What is Economics? • Economics is the “Allocation of Scarce Resources to

Competing Interests.”• Who allocates? • What are competing interests?• There are many misunderstandings. • Economics differs from other disciplines in that it is

not the substance, but the method of analysis.

Economics“Economics is a method of analysis, not an assumption about particular motivations.”

Gary S. Becker, “Nobel Prize Lecture: The Economic Way of Looking at Life.”

Journal of Political EconomyJune 1993

Human Behavior

• Goal: Understand behaviorPeople, families, firms, organizations, ….

• How is self-interestedness different from selfishness? • Economists believe that “individuals maximize their

utility as they conceive it, whether they be selfish, altruistic, loyal, spiteful, or masochistic.” (Becker)

• Therefore, economics is unlike most other disciplines that assume people are motivated in certain ways.

What people want"Undoubtedly, I would have gone into finance if

the financial meltdown hadn't occurred," he says. "Now I won't make as much money, but I can go

home at night and feel good about what I do. That's worth more than any amount of money.“

Ted Fernandez, MIT student“As Riches Fade, So Does Finance’s Allure”

WSJ, Sep 18, 2009

Strengths of Economics

• Theory • Empirical • Understand unintended consequences

a. Poorly designed compensation schemesb. Subprime mortgage crisis

How Do Business Leaders Use Economics?

• Compensation • Handling of risk• Choosing the best mix of inputs• Determining whether and how to invest• Pricing of products• Who are your competitors and how may they

respond to you?

Microeconomics

The Big PictureInnovation

The IBM 3501956

Technological change and GNP Growth

Growth in Real World GDP per Capita, 1000-Present

-100%

0%

100%

200%

300%

400%

500%

600%

700%

800%

900%

1000%

11th 12th 13th 14th 15th 16th 17th 18th 19th 20th

Century

Source: Delong, The Economic History of the Twentieth Century

Technological Progress and Wealth

The source of this wealth – the engine of prosperity – is technological progress. And the engine of technological progress is ideas – not just the ideas from engineering laboratories, but also ideas like new methods of crop rotation, or just-in-time inventory management. You can fly from New York to Tokyo partly because someone figured out how to build an airplane and partly because someone figured out how to insure it.

Innovation Reduces Marginal Cost

Most of us who covered media did not fully understand the implications of the new technology that could publish and distribute information at zero marginal cost.

Complementary Skill Sets

The ability to take data—to be able to understand it, to process it, to extract value from it, to visualize it, to communicate it—that’s going to be a hugely important skill in the next decades, not only at the professional level but even at the educational level for elementary school kids, for high school kids, for college kids. Because now we really do have essentially free and ubiquitous data. So the complementary scarce factor is the ability to understand that data and extract value from it.

Technological Change is Often Misunderstood

The ability to take data—to be able to understand it, to process it, to extract value from it, to visualize it, to communicate it—that’s going to be a hugely important skill in the next decades, not only at the professional level but even at the educational level for elementary school kids, for high school kids, for college kids. Because now we really do have essentially free and ubiquitous data. So the complementary scarce factor is the ability to understand that data and extract value from it.

Innovations Can Threaten Firms and Create Opportunities- Henry L. Ellsworth, United States Commissioner of Patents

(mid 19th century), commented on the proposed construction of a new building for the U.S. Patent Office. He said that a new building should not be too large or expensive because, “the advancement of the arts from year to year taxes our credulity and seems to presage the arrival of that period when further improvements must end.”

- Charles H. Duell, U.S. Commissioner of Office of Patents, in 1899 pronounced, "Everything that can be invented has been invented.“

- Many other misestimates.

MicroeconomicsA gentle warning

Part of my problem was that I kept getting caught up in grand concepts when I needed to master details. In Micro, I found myself

fascinated not by the mathematics involved but by the way Micro shed light on the essentially tragic nature of the human condition. I mean this. All of microeconomics turned upon a central fact of life:

Whether as consumers or producers, human beings always want more than they can get. For me, this places Micro right back there in

the Garden of Eden with concupiscence, pride, jealousy, and all the other effects of original sin. Yet while perhaps useful in a seminary,

this turn of mind was of no help in preparing for the midterm.

Peter Robinson, Snapshots from Hell: The Making of an MBA