Relationship between Marginal Revenue and Marginal Cost - Term Paper Example

?RUNNING HEAD: Economics and Global Business Applications Economics and Global Business Applications Submitted By: Submitted Abstract This paper approaches to solve and explain the given four tasks. In the said exercise basic economic concepts of marginal cost, marginal revenue, elasticity of demand, price elasticity of demand, cross price elasticity, income elasticity, profit maximization, profit, elasticity coefficients relationships between total and marginal revenue and total and marginal costs is discussed and explained. Differences between various types of elasticities are also discussed in the paper. Further the paper also approaches the concept of government regulations, the competitive environment and cross cultural differences and their impact on a business. The paper also explore ways in which the above issues need to be catered and addressed in order to make a business explore and grow in the required manner. Task 1 Relationship between Marginal Revenue and Marginal Cost Marginal revenue is defined as the revenue generated by the sale of one extra unit of a product. Whereas total revenue means the entire revenue generated by the total quantity sold. (Sloman) Marginal cost is defined as the cost of producing one extra unit of a product. Whereas total cost refers to the sum of all the expenses incurred by a company, to produce all the units of the product. (Sloman) Profit is the excess of revenue over cost. Profit is defined as the return that a person gets on investment. In economics, there are three types of profit: normal profit, abnormal profit and subnormal profit. (Sloman) However, the term profit maximizing means that a firm is operating at a point where the difference between its total revenue and total cost is highest. (Lipsey & Harbury, 1992) The profit maximizing firms produce where their marginal revenue equals their marginal cost. Now common sense will suggest producing where the revenue brought by an additional unit is the greatest and the corresponding cost is the lowest but at this point the total production and the total profit will be very low. Thus the firm will not be maximizing profit at all. So to fulfill the definition and requirement of profit maximization, a firm has to produce where MR=MC. In addition to that, MC and MR are the gradient functions of both TC and TR curves. So when both gradients get equal, the curves get parallel and the distance between them becomes the greatest. (Lipsey & Harbury, 1992) If a profit maximizing firm is faced with a situation where its MC increases its MR, then it will have to reduce its production. This is due to the simple rule that MR reduces as the production increases and MC increases with it. So to get back to the equilibrium, the firm will have to reduce the production. (Lipsey & Harbury, 1992) On the other hand, if the firm’s MR exceeds its MC, then it will have to increase its production. This increase will cause the MR to fall and the MC to increase and the equilibrium will be attained. (Lipsey & Harbury, 1992) Task 2 Supply and Demand Concepts Elasticity of demand is defined as the measure of ‘responsiveness of the demand’ of any good or service with a change in its price. It can also be defined as a ratio of the ‘percentage change in the demand and the percentage change in the price’. Elasticity of demand is of three types. Elastic demand is the demand that responds greatly to a small price change. Inelastic demand shows a smaller change in quantity following a greater change in price. Unit elastic demand shows the same change in demand and price. Price Elasticity of Demand can be calculated by the following formula: Percentage change in quantity demanded / Percentage change in the price. (Sloman) Cross price elasticity of demand gives us the effect on the demand of one good due to a change in the price of other good. Therefore, cross price elasticity of demand is a measure of the relationship between percentage changes in the demand of one product with the percentage change in the price of other. If both goods are substitutes then the elasticity will be positive as the increase in price in one product will make the people buy the other on and thus its demand will increase. If the products are complements, then the elasticity will be negative as the increase in the price of one good will make the users / consumers shift to another product and it will make them leave the use of that product to avoid the extra cost. That is, Cross Price Elasticity of Demand can be calculated by using the following formula: Percentage change in demand of good A / Percentage change in the price of good B. Where A and B can be substitutes or complimentary goods. (Sloman) Income elasticity of a good refers to the ratio of change in the demand of a product (due to change in income) and change in income. With the variation in income of people their choice of buying any good or acquiring any service also varies. In case of normal goods, the income elasticity of demand is positive, that is with the increase in income of people their buying pattern also increases and they buy more of it and vice versa. If the good is inferior, then an increase in consumer’s income will reduce the usage of it as the consumer will now use better quality goods and leave the inferior ones. Where, YED = %change in demand/ %change in income. (Sloman) All these elasticities show and elaborate the relationship of demand with other different independent variables. However, they have differences that cannot be overseen. The price, cross price and income elasticities of demand tell us the behavior of the demand if one of the independent variable changes. The fact that these elasticities give information about different aspects of demand elasticity shows the importance of all three measures. A producer can keep in mind how will the consumers react if the price of their products’ substitutes will fall. The launch or products and services by the producers and service providers also depend somewhat on the incomes of the consumers / ultimate users and their income elasticities. (Lipsey & Harbury, 1992) There are many factors that affect the elasticity of demand either directly or indirectly. Firstly, the availability of substitutes, this is the most important factor as this will make the demand for one product (having substitutes) more elastic as the people will have an option to switch to other products (substitutes) if the price of one good increases. However if the price of both the goods increase by same percentage then For instance, if the price of coffee increases, people may shift to tea as they are close substitutes. (Sloman) Secondly, if the consumer devotes a large part of his income to a good, then its demand will be very elastic as the consumer will feel the change very much. If the good takes up a smaller portion of the consumer’s income then it will have an inelastic demand. If the price of matches will increase, then the consumer will not switch or stop using matches as they take up a very small portion of income but if the price of gas or any other fuel used for heating or cooking will increase then the consumer will feel the change as the fuel will be comprising a larger part of the income. (Lipsey & Harbury, 1992) Time also affects the elasticity of demand. The demand tends to be more elastic in the long run and keeps inelastic in the short run. If a products’ price amplifies, the users will continue to use it in the short run but they may discover substitutes in the long run. For instance, if the price of fuel used for electricity generation shoots up then the fuel consumers will use it for the short run but the might carry out experiments on alternate fuels and they will be able to shift to other fuels in the long run. (Lipsey & Harbury, 1992) Perfectly elastic demand means the demand will drop to zero if the price will change. This is the highest degree of responsiveness. Whereas perfectly inelastic demand means that there will be no change in the demand at all no matter how much the price changes. Both are shown in the above graphs. (Lipsey & Harbury, 1992) The total revenue and the demand are related. The demand curve starts from elastic, turns into unitary elastic and finally becomes inelastic in the end. When the curve is in the elastic region, the total revenue increases with demand. When it becomes unitary elastic, total revenue is at its maximum. When it is inelastic, total revenue falls with demand. Furthermore, with an increase in price of a product in the elastic region, the total revenue increase and with an increase in price of a product in the inelastic region, the total revenue falls. This is shown in the graphs below where the respective ranges are mentioned and the blue line shows the unit elastic part. ‘Quantity always increases if the price decreases’. (Sloman) Task 3 Government Regulation and the Competitive Environment for Business Economic regulation means government intervention in a market which has failed to operate perfectly or efficiently with the help of different tools to improve market conditions. Market power concentration may also be one of the issues that trigger economic regulation. The primary reason for the introduction of this regulation is to make the market more efficient and to break the power of imperfect market structures. There are many tools using which the government can regulate the market. In addition to that, many agencies which monitor market conditions and limit the power of monopolies and oligopolies. Government and ruling bodies use taxes and subsidies ‘as tools of economic regulation’. These measures (taxes and subsidies) leave a positive impact on the market if used appropriately. Laws and regulations play an important role in correcting and removing the inefficiencies from the market, and thereby result in correcting the imperfect and inefficient firms. (Lipsey & Harbury, 1992) Social regulations take more aspects of a market in consideration. It doesn’t just take inefficiencies and imperfections as problems in the market; it takes environmental, ethical and other concerns as well. Negative externalities can exist in perfect markets as well. These externalities increase the social costs which are ignored by most of the firms and thus regulations are needed. Even efficient and perfect market structures can be targeted by social regulations if they are only taking private costs and benefits in consideration. Thus the operation of such businesses will be generating externalities and a dead weight loss to the market. So, these businesses will be regulated by the use of taxes and subsidies. Government also uses consumer awareness programs ‘to increase the awareness among the consumers about what merits and demerits they are deriving from a good’. (Guasch & Hahn, 1997) Natural monopolies are firms that are monopolies but they are efficient and enjoy lower costs than more than one supplier. Natural monopolies occur when the setup costs to enter an industry are very high and thus there can only be one producer. Natural monopolies are treated differently when exercising regulations. This is because if a natural monopoly is regulated then it will reach an output that will increase the costs and there will be vacant capacity that will be unused. In addition to that, if another producer is involved both will face losses and the market will become inefficient. Some examples of the natural monopolies are British telecom and Camelot. (Lipsey & Harbury, 1992) The four main components of the antitrust laws are: (1.) The Sherman act that bans every step or activity that restraints trade practices. It also states that any direct attempt or a situation that leads to monopolization in the market is illegal and punishable. The penalties for violating this act can be severe. (2.) ‘The federal trade commission act that outlaws every step taken to make the competition unfair’. It also declares any misleading acts illegal. All the violations of the Sherman act also violate the FTC act and are equally punishable. (3.) The Clayton act which was designed to add to the previous two acts. It added that mergers are also illegal and punishable. (4.) The Robinson Patman act which was an amendment to the Clayton act bans the price, service and allowance discrimination. ("An FTC guide,”) The three main industrial regulatory commissions are: (1.) The Federal Trade Commission which ensures fair competition in the market. It also makes laws against the unfair practices and imperfect firms. (2.) The Federal Energy Regulatory Commission aims and providing and guarantying the proper supply of electricity, oil and natural gas to the regions / states. It also supervises hydropower. (3.) The Postal Regulatory Commission regulates the postal services by applying the necessary acts required. ("Competition,”) The 5 major social regulatory commissions are Environmental Protection Agency (EPA) formed for the establishment and enforcement of pollution standards, Equal Employment Opportunity Commission (EEOC) formed for the purpose of administration and enforcement of laws and regulation for the fair employment practices, National Labor Relations Board (NLRB) formed for the prevention and correction of unfair ‘labor practices by either employers or unions’, Nuclear Regulatory Commission (NRC) formed and working for giving licenses and regulating ‘non-military nuclear facilities’ and Occupational Safety and Health Administration (OSHA) established for the development and enforcement of standards and regulations to ensure working conditions. (Lin, 1997) Task 4 Ethical Situations when Entering a New International Market The prospective Asian market for the business expansion should be Japan, with the most developed business industry in the world; introduction of the products in the Japanese market will lead to an increased market of the company’s engine components and increased total revenues of the company. (Kawar, 2012) However, because of introducing the business in an international / foreign territory, Company A is bound to face the cross cultural challenges in business ethics and marketing and it is imperative for the management to address those for successful implementation of business. (Kawar, 2012) Kumayama in his research highlighted many cross cultural issues regarding the business globalization between United States of America and Japan. He explained that negotiating with Japanese leaves most of the American business people feel confused, uncomfortable, at a loss, bewildered and ‘the like’ because of the different customs and culture ‘demonstrated by the Japanese business people’. (Kumayama, 1991) To venture into the Japanese market Company A should consider these culture and customs followed by the Japanese business people and the consumers, because these need to be addressed thoroughly while establishing the overall business and marketing strategy of the new venture. ‘In many cases, what may be considered to be acceptable by American standards may be unacceptable to the Japanese. (Kumayama, 1991) Japanese and US culture is quite different and the cross cultural issues should be dealt with quite carefully because if left unattended and unsolved these cross culture variations might create such misunderstandings and issues that may lead the business to decline and die. (Kumayama, 1991) The following ‘cross culturally related areas’ need to be addressed by Company A while launching the products in the Japanese markets; (Kumayama, 1991) a) Business suits and attire, in Japan businessmen dress quite conservatively in dark suits and they tend to fasten their top button while in a meeting or talking to superiors. The dress code shall be kept in mind while conducting business meetings with the prospective clients and super ordinates. (Kumayama, 1991) b) Business cards exchange, it is business culture in Japan to exchange business cards with appropriate description, contents and title of the person exchanging it. (Kumayama, 1991) c) Gifts exchange, gifts are given by Japanese by two hands and while standing up, the recipient is also expected to receive the gift by two hands and standing up. (Kumayama, 1991) d) General cultural aspects that should be kept in mind by the Company A is to give proper respect to the customers (vendors / consumers), having some idea of Japanese language and synchronizing with the Japanese culture, the Company A’s management should also use non verbal communication in a way that is acceptable in Japanese business culture. Japanese people also tend to talk indirectly rather than directly, and often direct communication leads to ‘confrontation’, this should also be kept in mind by the management of Company A while dealing with the Japanese counterparts. (Koldau, 1996) Further it is also difficult to detect the mood changes of the Japanese people since their expressions and postures do not give away much about their mood. Moreover, in Japan maintaining prolonged eye contact is also not acceptable. (Kumayama, 1991) It is also an important cross cultural difference between American and Japanese business culture that where Americans tend to work alone and individually, Japanese believe in team work. Therefore, it will also be important for the management of Company A to introduce and flourish the concept of team work amongst the workforce selected for the global expansion (that is the Asian branch). (Koldau, 1996) Where in the American culture there is equality in relationships between bosses and sub ordinates and the open culture is followed and the American culture also ‘reflects disappreciation of status distinctions’. In Japanese business (and interpersonal / family) culture promotes status distinctions and the role played by individuals is affected by the social status of that person. (Koldau, 1996) Language constraints are also faced by the businesses venturing in the Japanese market. Since, English is not a well known and well spoken language in Japan, therefore, communication gaps and barriers are expected to arise in business dealings. The management of Company A has to pay specific regards to the language barriers via synchronizing the languages and using interpreters. (Koldau, 1996) Another cultural difference that should be considered by the management of Company A is the negotiation and communication techniques, data sharing and authoritativeness. Where Americans are more authoritative in their approach Japanese tend to take this attitude as a step towards undermining their authority. This affects the business relationships and dialogues and may result in adverse business. (Kawar, 2012) References Competition. (n.d.). Retrieved February 18, 2013 from http://www.mightystudents.com/essay/Competition.essay.161240 Federal Trade Commission, (n.d.). An FTC Guide to the Antitrust Laws. Retrieved February 17, 2013 from Federal Trade Commission website: http://ftc.gov/bc/antitrust/factsheets/antitrustlawsguide.pdf Guasch, J. L., & Hahn, R. W. (1997). The Costs and Benefits of Regulation: Some Implications for Developing Countries. Retrieved February 17, 2013 from website: http://www.ask-force.org/web/Regulation/Guasch-Costs-Benefits-Regulation-Developing-1997.pdf Kawar, T.I. (2012). Cross Cultural Differences in Management. Princess Sumaya University for Technology, Jordan. Retrieved February 18, 2013 from http://www.ijbssnet.com/journals/Vol_3_No_6_Special_Issue_March_2012/13.pdf Kumayama, A. (1991). Japanese / American Cross Cultural Business Negotiations. American Graduate School of Business Management. Retrieved February 18, 2013 from http://www.uri.edu/iaics/content/1991v1n1/04%20Akihisa%20Kumayama.pdf. Koldau, C. (1996). Meanings of Cross – Cultural Differences in Establishing Relationships in Japanese – American Business Negotiations. Technical University at Darmstadt, Germany. Retrieved February 18, 2013 from http://citeseerx.ist.psu.edu/viewdoc/download?doi=10.1.1.201.1470&rep=rep1&type=pdf Lin, C. M. (1997). Implications of American Social Regulations for its Competitiveness in the Global Economy. 92. Retrieved February 16, 2013 from http://www2.tku.edu.tw/~ti/Journal/9-2/923.pdf Lipsey, R. G., & Harbury, C. D. (1992). First Principles of Economics. (2nd ed., pp. 152-154). Noida: Oxford University Press. Sloman, J. Economics. (6th ed., pp. 128-130). New South Wales: Pearson Education. Sloman, J. Economics. (6th ed., pp. 145). New South Wales: Pearson Education. Read More