Introduction
If left to my own desires, I would have titled this book How to Make a Gazillion Dollars. First, I think you’d be more interested in reading the book if I told you it would help you make a lot of money. Second, the title is a much better descriptor of the book’s content than Managerial Economics. Can anybody “manage” economics?
I don’t mean to say that managerial economics is a bad title; indeed, that’s what economists call this subject. But such a term begs the question — what are you managing? The answer is your business, and if you’re managing a business, your goal is to make as much profit as possible.
Some people think profit is a bad thing — it’s not. Profit serves a crucial signaling function, and trying to make a lot of it means you’re paying attention to the signal. If you’re making a lot of profit, that means everyone wants the good you’re producing. But other business owners see this success and say, “I want to make lots of profit too.” So their businesses start making the same or similar products, and all of a sudden the good that consumers really want is supplied in abundance. That’s a good thing.
Similarly, if you’re losing money, it’s because consumers don’t want what you’re producing — at least not at the price you’re charging. So, you go out of business, or you start charging a lower price until consumers are happy. That’s also a good thing.
If you’re paying attention to profit, you’re ultimately interested in helping other people get the things they want. Think about it — your success depends on consumers buying your product. So, in the end, managerial economics is about making consumers happy, and when you do that you’ll make a lot of money or profit. If you’re interested in doing some good for others while making some money for yourself, Managerial Economics For Dummies is the book for you — and it cost a lot less than a gazillion dollars.
About This Book
I wrote this book to make managerial economics easy and fun. I focus on big ideas and avoid the trivial — I was never much good at the game Trivial Pursuit, so I have a strong desire to avoid minutiae.
I especially wrote this book for readers who are interested in discovering how to maximize profit. So, I focus on the methods businesses use to increase their profit. By providing clear explanations of these methods, I hope to give you the ability to apply them to your own unique circumstances.
Admittedly, some readers are discovering how to maximize profit as part of a class in managerial economics. For those readers, I include both graphs and calculus to illustrate how economic concepts are expressed mathematically. My clear, concise explanations eliminate all the minutiae present in the typical textbook, enabling you to focus your efforts on the critical concepts.
But this is also a “how to” book for business owners. You can use the book’s concepts to increase your profit. Because the topics stand alone, you can simply go to a specific technique and discover how you use that technique to make more money.
The standalone nature of the book’s topics is a critical aspect for any reader. You don’t have to read the first 100 pages to understand what’s on page 101. I encourage you — both students and business owners — to simply go to the topics of greatest interest to you as you read the book.
Conventions Used in This Book
As an economist, I love the old saying “A picture’s worth a thousand words.” I love this saying because economists like to use graphs to illustrate ideas, and you’ll see lots of graphs, pictures, in this book.
But if a picture is worth 1,000 words, an equation is worth at least 100 pictures. Yes, be warned, I use math in the book. Math makes things easier. This is your mantra, so continue repeating it whenever you’re walking somewhere — math makes things easier. Equations and calculus are especially helpful when you have three or more things or variables acting on each other. With a graph, I’m limited to illustrating how two variables relate — one on the horizontal axis and the other on the vertical axis. With math and calculus, I can show how three or more variables relate. Essentially, with math, I can look at unlimited possibilities. And when you’re trying to maximize profit, you want to look at as many variables as possible. See, math does make things easier.
That being said, I know not everyone is good at working with graphs and/or equations. So in the book, I explain concepts three ways — verbally, graphically, and mathematically. Choose whichever way works best for you. You can also use one form of explanation to better understand another.
Another convention you should know is that I use italics to indicate a term when I define it. The definitions are easy to understand, and they appear when I first introduce the term. Knowing terms helps you better understand the methods I describe in the book. Even more importantly, knowing these terms is magical. By dropping terms at your next business meeting, you’re sure to impress everyone.
Finally, the action steps in the examples are bold. These steps describe the sequence of actions you must take to get to the right answer. If you need to memorize something for a test, this is it.
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What You’re Not to Read
First, don’t read The Communist Manifesto. Karl Marx didn’t understand the importance of profit in allowing consumers to signal what they do and don’t want. Marx wrongly believed that profit came from exploitation, not mutually beneficial exchange. But as long as you’re free to choose as a consumer, profit reflects your preferences.
Also, feel free to ignore the technical stuff in this book. I sometimes give you more detailed explanations of the material, marking it with a Technical Stuff icon when I do; you can skip these explanations without losing any critical material.
Finally, I include some stories in sidebars to illustrate the concept I’m explaining at that point. But because they’re simply illustrations, you can understand the concept without reading the sidebar.
Foolish Assumptions
One night before bed my wife, Susan, asked what I was reading. I said Butterfly Economics. She asked what it was about, and I told her economics and chaos theory. When she asked what class I was reading the book for, I told her I wasn’t reading the book for class, I was reading it for fun. Now you understand why Susan thinks I’m weird and why I dedicated this book to her for putting up with me. So, I’ll start with the most important assumption I made when writing this book. I assume that unlike me, you’re normal. You’re like Susan, who wants to know how economics can be useful to her, and that’s enough.
I do believe economics is fun, and I hope you’ll find it fun too. I didn’t write this book for another economist; I wrote it for you. I wrote it for somebody interested in discovering how economics might help them make better business decisions. The ultimate success of this book is in helping you make decisions that improve your business.
I also assume you’re a busy person. You have a lot of things you have to do and even more things that you want to do. Thus, I try to make this book as clear and concise as possible. Because you’re busy, I want you to learn these concepts as quickly and with as little effort as possible.
Some of you are probably taking a managerial economics course. I wrote this book so you can pick and choose what topics to read without reading a bunch of extra stuff. If you want to learn about game theory in Chapter 12, you can go straight there. You don’t have to read the previous 11 chapters.
I also wrote this book knowing that some of you would want to see the math — that’s calculus — while others want to avoid math like it’s the plague. Either way, you can use this book. I present all theories both with graphs and, where appropriate, with calculus. If you want to skip the calculus, feel free to.
Finally, I assume you want to have fun while learning useful stuff. Although economics is called the dismal science, making lots of money is anything but dismal. So I assume you want to apply these ideas to business decisions. Remember that learning how economics helps your business doesn’t have to be boring.
How This Book Is Organized
I grouped topics together by dividing this book into five parts. I hope that grouping topics together helps you more easily find related ideas. The following section gives you an idea of the concepts I present in each part.
Part I: The Nature of Managerial Economics
I hope that you associate managerial economics with the famous Broadway play, How to Succeed in Business Without Really Trying. The purpose of managerial economics is to give you ideas on how to increase your business’s profit. That’s success. Part I introduces fundamental aspects of managerial economics. It also introduces the basic theory of price determination — supply and demand. Finally, this part includes a brief calculus review if you’re interested in incorporating calculus with business decision-making. But, remember that you can read and understand every economic theory in the book without knowing calculus, so the calculus review is an easy chapter to skip if you want.
Part II: Considering Which Side You’re On in the Decision-Making Process
A common lament goes, “Whose side are you on?” As the lament recognizes, it really matters to note which side you’re on. This part separates consumers from producers to look more closely at each side of a market.
I begin by examining in-depth the relationship between price and quantity demanded. I examine why consumers are willing to purchase more at lower prices and that relationship’s implication for business decisions, including how business owners can influence that relationship.
On the other side of the market, producers want high prices, so the relationships between inputs and output and production costs and supply are developed. And because innovation affects these relationships, the development of new technology is explored.
Part III: Recognizing Rivals: Market Structures and the Decision-Making Environment
Perhaps nothing is more important in business decision-making than situational awareness. When you’re trying to sell your product to consumers, it’s critical that you recognize who your rivals are.
The number of rivals you have influences your ability to set price. This part focuses on how you determine price in situations ranging from perfect competition (an extremely large number of rivals) to a monopoly (no rivals). In addition, I present advanced pricing strategies, such as price discrimination (charging different prices for the same commodity) and bundling (charging a single price for a bundle of two or more commodities).
Part IV: Anticipating Surprises: Risk and Uncertainty
My son Nicholas introduced me to a great term — flexecute. Flexecute means you have to be flexible enough to execute your mission under any circumstance. Your mission as a business owner is to maximize profit. But you need to accomplish this mission in a world that’s constantly changing. In this part, I examine risk and uncertainty, and I present methods for making decisions when the outcomes can’t be guaranteed.
This part also examines situations where participants have different goals. I introduce techniques that reconcile your goal of maximizing profit with your worker’s goal of taking it easy. Finally, I consider government’s influence on markets and businesses.
Part V: The Part of Tens
Just like late night show host David Letterman, every For Dummies book has its top ten lists. My top ten lists include ten critical concepts — you want to remember these; ten managerial shortcuts — ways to keep things simple; and ten managerial mistakes and how to avoid them — rather than learn from your mistakes, I want you to avoid them all together.
Icons Used in This Book
I couldn’t figure out how to include neon lights in the book so instead I include five icons. These symbols call your attention to important ideas and information. If you see one, think of a neon light and pause for a second to check out the idea that follows.
This icon means you’re about to read some really exciting shortcut. It’s like the GPS on my cellphone that enables me to avoid the big traffic jam — tip: exit here and avoid a 20-minute wait in traffic. I love the GPS function for all the time it saves me, and I include tips in this book so you also save time by avoiding unnecessary “economic” traffic.
This icon identifies a critical concept. This is something to memorize — an idea that helps you make good business decisions. The text explains why the idea is important, but the icon gives you the one little thing that you should remember to key you into all the other good stuff related to that concept. For example, remember managerial economics is fun as you read the rest of the book.
I like to think of this icon as the “Yikes!” symbol. When you see this icon, be careful. Bad things can happen — yikes! This icon is the red stretch of highway on my GPS — avoid at all cost. The purpose of the warning icon is to make sure you don’t do any of these bad things. So paying attention to the warning icon is like getting your economics flu shot — it will keep you from feeling sick because you made an economic mistake.
When you see this icon, it means you’re about to see some of my favorite stuff. But then, remember, I’m an economist. Text associated with this icon shows some neat twists or extensions or maybe an interesting bell or whistle. I love that kind of stuff. But I also know that bells and whistles can make your ears hurt. So, know that you can skip this material without losing any important ideas, and who knows, maybe your ears won’t hurt so much. On the other hand, if you like loud noises or technical stuff, this is the place for you.
Explanations are great, but examples are awesome! After explaining each technique, I include an example of how you can actually apply that technique. The example’s purpose is to give you a step-by-step illustration of how you can apply the technique. That way, you can take your own situation or problem and apply the same steps I use in the example to find the answer to your problem.
Where to Go from Here
If this were a mystery book, I would suggest going straight to the end to find out whodunit. But this isn’t a mystery. Instead, I suggest that you go to the topic that you think is neatest. If I have a vote, I pick bundling — pricing two goods as one (think Happy Meal). Or maybe price discrimination — charging different prices to different customers for the same good. I’m starting to really love senior citizen discounts. Or, I really enjoy learning how to avoid buying lemons; I’ve never bought a car in the same decade it was manufactured. But that’s the great thing about this book — you pick, not me. So don’t think you have to read the chapters in order, or that you need to start with Parts I, II, and III before going to Part IV. Start with the specific topics you’re interested in and use the index and table of contents to help you find them.
Or, if you want, you can always start at the beginning.
Finally, if you’re wondering what to do after reading this book, I suggest making a gazillion dollars, or at the very least using what you know to impress your coworkers and boss.