Guide to this teacher’s guide 3



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Managerial Economics:

A Problem-Solving Approach

3rd Edition

Instructor Guide


SECTION 0 – GUIDE TO THIS TEACHER’S GUIDE 3

0. CHAPTER HEADINGS OF THE TEXT 3

Main Points of the Chapter 3

Supplementary Material 3

Teaching Note 3

In-class Problems 4

Additional Anecdotes not in text 4

SECTION I – PROBLEM SOLVING AND DECISION MAKING 6

1. INTRODUCTION: WHAT THIS BOOK IS ABOUT 6

Main Points 6

Supplementary Material 6

Teaching Note 7

In-class Problem 8

Additional Anecdotes: Sears Automotive and Kidder-Peabody 8

2. THE ONE LESSON OF BUSINESS 11

Main Points 11

Supplementary Material 11

Teaching Note 12

In-class Problem 13

Additional Anecdote: Zimbabwe 13

3. BENEFITS, COSTS, AND DECISIONS 14

Main Points 14

Supplementary Material 14

Teaching Note 15

In-class Problem 16

Additional Anecdote: Coca-Cola 16

4. EXTENT (HOW MUCH) DECISIONS 17

Main Points 17

Supplementary Material 17

Teaching Note 18

In-class Problem 19

Additional Anecdotes: Truck Leasing and American Express 19

5. INVESTMENT DECISIONS: LOOK AHEAD AND REASON BACK 21

Main Points 21

Supplementary Material 21

Teaching Note 22

In-class Problem 23

Additional Anecdote: John Deere 23

SECTION II – PRICING, COSTS, AND PROFITS 24

6. SIMPLE PRICING 24

Main Points 24

Supplementary Material 25

Teaching Note 25

In-class Problem 27

Additional Anecdote: Mars (Snickers) & Sara Lee (hot dogs) 28

7. ECONOMIES OF SCALE AND SCOPE 29

Main Points 29

Supplementary Material 29

Teaching Note 30

In-class Problem 31

Additional Anecdotes: Electrical Equipment Manufacturer & Department Store Sign Production 31

8. UNDERSTANDING MARKETS AND INDUSTRY CHANGES 34

Main Points 34

Supplementary Material 34

Teaching Note 35

In-class Problem 36

Additional Anecdote: Video Enhancement Market 36

9. RELATIONSHIPS BETWEEN INDUSTRIES: THE FORCES MOVING US TOWARD LONG-RUN EQUILIBRIUM 38

Main Points 38

Supplementary Material 38

Teaching Note 38

In-class Problem 39

Additional Anecdote: Will wages adjust to offset new tax progressivity? 40

10. STRATEGY―THE QUEST TO KEEP PROFIT FROM ERODING 41

Main Points 41

Supplementary Material 41

Teaching Note 42

In-class Problem 42

Additional Anecdote: Kleenex 43

11. USING SUPPLY AND DEMAND: TRADE, BUBBLES, AND MARKET-MAKING 44

Main Points 44

Supplementary Material 44

Teaching Note 44

In-class Problem 46

Additional Anecdote: Video Enhancement Market 46

SECTION III – PRICING FOR GREATER PROFIT 47

12. MORE REALISTIC AND COMPLEX PRICING 47

Main Points 47

Supplementary Material 47

Teaching Note 48

In-class Problem 50

Additional Anecdote: American Airlines 50

13. DIRECT PRICE DISCRIMINATION 52

Main Points 52

Supplementary Material 52

Teaching Note 53

In-class Problem 54

Additional Anecdotes: Medical Device Company & Grey Market for iPhones 55

14. INDIRECT PRICE DISCRIMINATION 57

Main Points 57

Supplementary Material 57

Teaching Note 58

In-class Problem 59

Additional Anecdote: Trip Insurance 60

SECTION IV – STRATEGIC DECISION MAKING 61

15. STRATEGIC GAMES 61

Main Points 61

Supplementary Material 61

Teaching Note 62

In-class Problem 64

Additional Anecdote: American Airlines & Chinese Banks 64

16. BARGAINING 66

Main Points 66

Supplementary Material 66

Teaching Note 67

In-class Problem 67

Additional Anecdote: CHAOS at Midwest Express 68

SECTION V – UNCERTAINTY 69

17. MAKING DECISIONS WITH UNCERTAINTY 69

Main Points 69

Supplementary Material 69

Teaching Note 69

In-class Problem 70

Additional Anecdotes: Global Warming & Banning speculators 71

18. AUCTIONS 73

Main Points 73

Supplementary Material 73

Teaching Note 73

In-class Problem 75

Additional Anecdotes: FCC Auctions & Car Bargains 75

19. THE PROBLEM OF ADVERSE SELECTION 77

Main Points 77

Supplementary Material 77

Teaching Note 78

In-class Problem 79

Additional Anecdotes: Manufacturing Firm Hiring & Disability Insurance Company 79

20. THE PROBLEM OF MORAL HAZARD 82

Main Points 82

Supplementary Material 82

Teaching Note 82

In-class Problem 83

Additional Anecdote: Regional Phone Company 84

SECTION VI – ORGANIZATIONAL DESIGN 85

21. GETTING EMPLOYEES TO WORK IN THE BEST INTERESTS OF THE FIRM 85

Main Points 85

Supplementary Material 85

Teaching Note 86

In-class Problems 87

Additional Anecdote: Whaling Industry 87

22. GETTING DIVISIONS TO WORK IN THE BEST INTERESTS OF THE FIRM 89

Main Points 89

Supplementary Material 89

Teaching Note 90

In-class Problem 91

Additional Anecdotes: Toner Supplier, Sears Auto Repair, & Functionally Organized Banks 91

23. MANAGING VERTICAL RELATIONSHIPS 93

Main Points 93

Supplementary Material 93

Teaching Note 94

In-class Problem 94

Additional Anecdotes: Alcoa & TicketMaster / Live Nation 95

SECTION VII – WRAPPING UP 96

24. YOU BE THE CONSULTANT 96

Supplementary Material 96

Teaching Note 96



SECTION 0 – GUIDE TO THIS TEACHER’S GUIDE

0. CHAPTER HEADINGS OF THE TEXT


SUB-SECTION 1

SUB-HEADING 2



SUB-HEADING 3

Main Points of the Chapter


  • The summary points of at the end of each chapter in the book are reproduced here.

Supplementary Material


These are Supplementary Materials that complement the material in the text.
Be sure to go to http://www.ManagerialEcon.com and click on the chapter headings for up-to-date supplementary material.

Teaching Note


This note describes how Professor Froeb teaches the specific chapter material to his MBA classes. Each lecture has the same outline:


  1. Review of last lecture’s main ideas, with a problem, if possible. Make them “solve” a business problem that illustrates the main idea from last lecture and then pull out the main themes of the class




  1. Write down the main ideas you want to cover (usually 3-4 main points in a 60 minute lecture). Writing down the themes on the board will help you stay on track, as I tend to give up a lot of control to the students during class time. Before the class go over the chapter, and pick out 3 or 4 examples that you can use to illustrate the themes. Think of ways to use the examples to force students to participate. For example, in the “supply-demand” chapter, the three ideas I want to cover are (i) that markets have a product, geographic and time dimension, chosen to help answer the question that motivated the supply-demand analysis; (ii) you should be able to use supply-demand analysis to “explain” past movements in price and quantity. For example, the drop in price and increase in quantity of MP3 players sold in the US over the past five years can be explained by a increase in supply; and (iii) be able to use supply-demand analysis to “predict” future changes, like what would happen to the price and quantity of diesel engines sold in the US if the EPA mandated a change to high cost, low mileage but cleaner engines. I pose these kinds of questions in class and make the students answer them.




  1. Be prepared for the students to lose interest. When this happens, show a video clip (YouTube or Stossel in the Classroom). Choose one or two videos in advance that speak to the themes of the chapter. Make sure to debrief the video to make sure the students understand the link to the chapter. Ask students to draw the link to the book.




  1. For executive MBA classes, I reserve time for about an hour of student presentations of the group problems at the end of each chapter. Presentations (no more than 3 slides) should take 5-7 minutes with 5 minutes of discussion. You will hear some good stories from the exec MBA students. For the regular MBA’s, I ask them to prepared and answer to the one of the questions at the end of the chapter (e.g., be prepared to discuss a sunk or hidden-cost fallacy). If their experience is not rich enough to yield an answer, take one from the class blog http://managerialEcon.com instead.

I rarely use slides as they cause me to commit what I like to think of as “the fundamental error of teaching,” which is to try to cover the material regardless of whether it is sinking in. FORGET ABOUT COVERING THE MATERIAL. Instead, tell the stories and engage the students. If you find yourself worried about finishing on time, you are already committing this error. Instead slow down. Teaching a few things well is much better than trying to cover the material. The students can do this on their own.


I have found that there are several big decisions that affect how I teach. The first is how to engage the class. As I have gotten older, my teaching has evolved towards more engagement, i.e., from straight lecture to posing questions and calling on those who raise their hands; to posing questions and cold calling.
If you are lucky enough to get a question from a student, one thing I have learned is to NEVER answer a student’s question directly. Instead ask another student what they think the answer is. You can keep going until you get the right answer. If you want to “steer” the discussion in another direction pose a follow-on question to the student who originally asked the question.
I find value in cold calling. Students have rated my course the “most valuable” one in the core, but written comments indicate that there are a big group of students who really dislike cold calling. When I am particularly aggressive in cold calling and will not accept “I don’t know” for an answer, class can be intimidating for students. But ultimately they will appreciate that you are giving them tools to think on their feet. Cold calling encourages them to come to class prepared. Students seem to recognize its value, while simultaneously disliking it.

In-class Problems


One of the best ways to engage the class is by posing in-class problem. I pose the question to the students, give them five minutes to do it; and then I ask them to turn to the person sitting next to them and explain the answer. I tell them that the two best ways to learn economics are doing problems and verbally explaining the answers to someone else. When enough time has elapsed and you want to move on, tell the students to “stop learning.”

Additional Anecdotes not in text


There is a tradeoff between repeating the anecdotes of the book in class and using new applications. The benefit of repetition is that it helps the weaker students. The cost is that the best students may become bored. Better students would benefit more from different applications. If you do not require students to read the material ahead of class, I would repeat the material in the book. If you do require students to come to class prepared and enforce the requirement with cold calling, I would use new anecdotes.
In telling the anecdote, I typically give students just enough information to recognize that there is a problem. For example, in the first chapter additional anecdote about John Jett and Kidder Peabody, describe Jett’s success, and ask if there is anything you be worried about if you were Jett’s boss. I play “20 questions” with the students where they have to ask me yes-or-no questions until they figure out what the problem is; and then I ask them how to fix it. Students will unconsciously begin using the rational actor paradigm. After you get the right answer, summarize the analysis for them to reinforce the benefits of using the rational actor paradigm to diagnose and solve problems: My own “spin” on how to use the rational actor paradigm is that any problem can be analyzed by asking three questions:
1. Who is making the bad decision;

2. Do they have enough information to make a good decision; and

3. The incentive to do so?
I tell students that incentives have two pieces, a performance evaluation scheme and a link between compensation and performance.
Answers to the questions will suggest solutions centered on:
1. Changing decision rights (letting someone else make the decision);

2. Changing the information flow; or

3. Changing incentives (performance evaluation+compensation).
I tell them that the art of business is figuring out the costs and benefits of each solution. I can teach them only to recognize the tradeoffs; they have to figure out which solution is most profitable by balancing the costs against the benefits.
Note that this is related to Michael Jensen’s famous 3-legged stool, popularized by Brickley, Smith, and Zimmerman in their textbook. I typically assign a shorter version of their approach (THIS IS HARD TO FIND, SO E MAIL ME IF YOU ARE HAVING TROUBLE, luke.froeb@owen.vanderbilt.edu) as outside reading James Brickley, Clifford Smith, Jerold Zimmerman, “The Economics of Organizations,” Journal of Financial Economics, Vol. 8:2 (Summer, 1995) pp. 19-31. The difference is that Brickley, et al. focus on (i) Decision rights, (ii) Performance evaluation, and (iii) Compensation schemes.




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