Tuesday, November 3, 2015

Ownership Changes and Pricing

One of the topics in Industry Analysis revolves around horizontal mergers and also the incentive that exist in firms acquiring other firms in the same industry.  In many instances expected gains in profits are unrealized as demonstrated in class.  Here is an alternative example, where firms in the same industry are acquiring rival firms and simultaneously making a profit by changing the prices of the products.  Pharmaceutical companies are raising prices on acquired firms products and this is increasing the profits of the purchasing firms.  It is cheaper than developing new pharmaceutical drugs and thus more profitable.

Thursday, October 22, 2015

Iron Ore Mining

The Wall Street Journal reports that even though iron ore prices are falling and the demand for iron ore to slow that the three largest iron ore miners are increasing production.  This seems inconsistent with the profit maximizing model - and it is.  Yet it is also strategic and is consistent with the limit output model of Cournot oligopoly.

Basically the limit output model looks at whether a firm (or group of firms such as in this case) can increase output such as to limit the amount of output that their rivals produce (in the extreme case drive the rival firms out of the market).  Since the firms are choosing the amount of output to produce this is consistent with the Cournot oligopoly model.

For this to work, the incumbent (or in this case the larger firms) have to have greater economies of scale than their rivals - which seems to be true as the larger firms have lower average variable costs than smaller iron ore mining firms.  Thus as discussed in class - here is an excellent example of firms trying to increase their profits by increasing production such that other firms decrease their production.  Having lower average variable costs can still result in greater profit even with falling prices due to increases in the firms production offsetting the decline in margins.

Friday, October 2, 2015

Rubber Cartel

OPEC is the most famous cartel, but there is also a cartel for rubber.  In February 2014 this group urged members to restrict output due to low rubber prices but by November of 2014 the agreement had broken down due and prices started to fall again.  This is a classic example of the prisoners dilemma.  It would be more profitable if collectively all the producers would restrict output as opposed to all the producers to increase output.  Yet, if only one were to increase output and all the others were to reduce output, then profits for the "player" who increased output would increase even more than if they reduced output; and this is true for all the players.

Thus firms can collectively increase profits if all agree to the output restriction, but individually each has an incentive to break the pledge as their profits will be greater independent of what their rival does.

Monday, September 14, 2015

Web Price Discrimination

The Wall Street Journal reports on research showing that firms charge people different prices depending on operating system and whether they used a mobile device.  In Industry Analysis we talk exactly about this type of potentially profit maximizing behavior, which in economics is called price discrimination or variable pricing.  In this case here we have group pricing, where firms have a profit maximizing incentive to charge customers in more price inelastic groups higher prices than customer who are more price elastic.

Tuesday, August 25, 2015

Does College Pay?

There has been a great deal made out about the increase in the cost of going to college, just like the cost of gasoline.  So is it worth it?  Not in terms of things that I think are also important - such as developing critical thinking skills and develop the ability to ask and find solutions to solve current and new problems or the knowledge that can be gained by being exposed to new ideas and alternative points of view.  No, here we are just thinking about the return of a college degree in terms of future income.  Suffice it to say the general answer is yes, but not always.  Two interesting articles have looked at exactly this and concluded that college is beneficial financially on average, with some degrees such as engineering having a better return than other degrees like education.  Additionally, even within majors future earnings are highly variable.

Economics majors in the 90th quantile earn about 3 times as much as economics majors in the 10th quantile.  The other study uses payscale.com data and finds similar results.  Using the payscale.com data in-state on campus economics majors without financial aid have the highest annual ROI in the US (tied with Wisconsin).  In-state on campus economics majors with financial aid are 6th among all colleges in the nation with an annual ROI of 14.3%.

For more details here is an interactive chart on costs and returns to college.  Note the the University of Iowa has a 10.9% annual return overall and economic majors with a higher ROI of 14.3% (with financial aid or 11.7% without financial aid).

Tuesday, August 4, 2015

Chinese Milk Market

The Wall Street Journal has a good article on how changes in demand and supply have been impacting the import prices of milk over the last few years.  As you can see in the article increases in demand lead to higher milk import prices and then lead to an increase in the supply of milk by domestic and foreign producers - such as in New Zealand.  As supply increased the amount of milk imported into China fell dramatically - as did milk import prices.  With Russia banning European food products prices decreased again.  As a result domestic milk producers are culling dairy cows in order to reduce losses from the lower prices.  Additionally, notice that domestic producers are also trying to diversify their cattle for meat as opposed to only for milk.

Monday, June 22, 2015

Capital Mobility

When looking at exchange rate policies (fixed vs. flexible exchange rates) one of the factors that is considered in the IS/LM/BP model is the degree of capital mobility within the domestic economy.  Typically four versions are modeled:  perfectly flexible, relatively flexible, relatively inflexible and perfectly inflexible - where relatively flexible or inflexible is in comparison to the domestic money market.  While this is a theoretic concept, examples of changes in capital mobility are rare.  Here is an exception - Saudi Arabia is opening up its stock market to foreign investors, meaning that the movement of capital in (and out) of the Kingdom is increasing.  Theoretically, this would be an increase in capital mobility.