WRITTEN ASSIGNMENT 03 MANAGERIAL ECONOMICS Please answer the following four questions. Question 1 (25%)

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1 WRITTEN ASSIGNMENT 03 MANAGERIA ECONOMICS Plese nswer the following four questions Question 1 (25%) Interntionl Mobility of bor nd Cpitl (Volume 1, Ch. 8) Consider two countries. Germny nd Polnd. Both countries produce the sme 1 homogeneous good nd use the sme technologyy K where 0 < < 1. The only difference between them is tht Germny is reltively more bundnt in cpitl thn Polnd. Specificlly, initilly = nd Κ = 2K where vribles without sterisks refer to Germny, nd those with sterisks refer to Polnd. et the output price be 1 in both countries nd ssume tht ll mrkets re perfectly competitive. Finlly, firms re profit mximizers. ) Suppose initilly there is NO fctor mobility. Compre the wge rte nd the rentl price of cpitl cross countries. b) Next llow for migrtion (lbor mobility), but not for cpitl mobility. Assume no trnsporttion or ny other cost of migrtion nd no unemployment. Compre the number of workers in equilibrium cross countries. c) Show who gins nd who loses in Germny from immigrtion. ) From microeconomic theory firm tht fces diminishing mrginl returns, will not stop dd units of input until the mrginl revenue product of the input MRP i is equl with the unit cost of input c i. Mthemticlly MRP c MR() MP c (1), where i i i i MR = Mrginl Revenue MP i = Mrginl Product of input i c i = unit cost of input i 1 In this cse firms in Germny nd Polnd fce the sme production function Y K the homogenous product where the inputs re two bour () nd cpitl (K) lso becuse the mrket of the product is perfectively competitive MR=P=1 From eqution (1) we hve: For bour input for ΣΟΛΩΜΟΥ 29 ΑΘΗΝΑ Fx: κλικ στη γνώση info@rnos.co.gr

2 MR() MP w, (2) where w=wge Y MP Mrginl product of lbour For Cpitl input MR() MPK r= cost of cpitl MP K r (3), where Y Mrginl product of cpitl K From the production function we tke the mrginl product of ech input tht is sme for both countries Mrginl product of lbour 1 Y K K MP (1)(1) K Mrginl product of cpitl (4) 1 Y K 1 1 K MPK K K K 1 (5) For Germny we hve : Wge: MRP1 K w MR()(1) MP w Cost of Cpitl: 1 MR P 1 K r MR() MP K r For Polnd we lso hve Wge: MRP1 K ()(1) w MR MP w Cost of Cpitl: ΣΟΛΩΜΟΥ 29 ΑΘΗΝΑ Fx: κλικ στη γνώση info@rnos.co.gr

3 1 MR P 1 K r MR() MP r K Compring wge nd cost of cpitl for the two countries: K K 2K K (1) 2 w 2 w & 2 w w K K w w w K w K w K w K (1) Becuse 0 < < 1, w w 1 1 K 2K & 2 r K K r r 2 r r K r K r Becuse 0 < < 1, r r r 1 1 Concluding if there is no fctor mobility wge in Germny is bigger thn Polnd but respectively the cost of cpitl is smller. b) If there is lbour mobility, working cpitl will move from Polnd to Germny until the wges in both countries re equlized. K K K K w w'(1)(1) ' ' 2 K K K K 2K K 2 ' ' ' The mount of workers will be double now in Germny thn Polnd due to the migrtion of Polish workers. c) Compring wges nd cost of cpitl now in Germny from the previous sitution we observe: ΣΟΛΩΜΟΥ 29 ΑΘΗΝΑ Fx: κλικ στη γνώση info@rnos.co.gr

4 w' w K K (1) ' ' ' K K (1) unchnged so tht bove we hve Becuse 0 < < 1, w' w The totl working cpitl of both countries remin ' & 2 ' 3 ' 3 ' 2 replcing in the eqution 2 4 w' w' 3 3 w' ' w w 4 4 So the Germn workers re hrmed on their slries due to the Polish immigrnts 1 K r ' r ' 3 3 r ' 1 ' r K r ' ' Becuse 0 < < 1, r ' r So the Germn investors gin benefits due to the rise of the cost of cpitl but Germn firms now fce higher rtes on their lons. w r Question 2 (25%) Multintionl Enterprises nd Interntionl Economic Integrtion (Volume 1, Ch. 9) Wht re some of the resons tht country would prefer to open its own production plnt overses rther thn to outsource mnufcturing to n overses firm? Some of the high-developed countries the recent decdes hve move their of productive economic ctivity nd the ssocited employment from the home country to other prts of the world such s developing countries of Est Asi specilly low wge countries such s Indi nd Chin. This hs ction usully hs serious resulting in cost svings. These svings re pssed on to the customers, shreholders nd mngers of these compnies. In contrst with the outsourcing strtegy overses the productive ctivity remins indoors. Offshoring is likely to be more motivting where the issues of control nd confidentility mtter nd lso where compnies hve existing opertions in the chosen region The bsic incentive for inhouse ctivities is to protect core product which re most directly relted to their core ΣΟΛΩΜΟΥ 29 ΑΘΗΝΑ Fx: κλικ στη γνώση info@rnos.co.gr

5 competencies nd process innovtions tht led to more effective products, processes, services, technologies, or ides tht re redily vilble to mrkets, governments, nd society. By crting products in-house mens tht compnies or re the only responsible for the qulity of product s well s its delivery time. By not relying on n externl supplier, compny cn ensure it protects its reputtion by delivering the qulity it wnts in the time it desires. octing core ctivities deep in-house cn void encrochment from competitors, with proximity llowing for collbortion, closer monitoring nd esy ccess to specilised resources nd infrstructure 1 Anothers serious benefit of offshoring overses versus outsourcing contins the term of the intellectul property protection. Intellectul property refers to the cretions of the mind, such s designs, inventions nd rt. Although it's common for compnies to require outsourced mnufcturers to sign confidentility greements to not stel or duplicte ny new technology they re producing, ech country hs its own legl rmifictions in regrd to intellectul property. Outsourcing the mnufcturing of such product llows others to see the technology behind it. When outsourcing, there's lwys the risk tht new, innovtive technology could be duplicted. Question 3 (25%) The Blnce of Pyments (Vol. 1, Ch. 10) () Bsed on dt from the Greek economy, during the pre-crisis period (before 1999) explin nd discuss the vlidity of the twin deficit theory. (b) One requirement for Europen economy for joining the euro in 1999 ws cut in government deficit. Bsed on Europen Economy dt s regrds CA blnces, privte svings, privte investment, government spending nd txes (ll s percent of GDP) for the period , nd utilizing the theories of twin deficits nd Ricrdin equivlence, explin wht would you expect s regrds CA blnces nd wht relly hppened. Is the theory of Ricrdin equivlence possible nswer? Explin. ) Mcroeconomic theory suggests tht lrge nd continuing governmentl budget deficits bring bout crucil deteriortion in country s externl position s surveyed in its current ccount of the blnce of pyments. This is lso known s the twin deficits hypothesis. Historiclly, the Greek economy hs been chrcterized by lrge current ccount deficits, 1 Krugmn, P. (1991), Geogrphy nd Trde, euven University Press ΣΟΛΩΜΟΥ 29 ΑΘΗΝΑ Fx: κλικ στη γνώση info@rnos.co.gr

6 however, before the lst decde nd prticulrly before 1999, the yer during which the euro ws introduced nd Greece decided on the rte of exchnge tht drchm would be replced by the euro, there hs been shortening trend in the current ccount deficit which reched s low s 3.2of GDP in In contrst the diminishing rte of the governmentl budget deficit it ws not followed by diminishing rte on the Current ccounts of Blnce deficit. Bse on the dt of the World Bnk we hve the following Yer Deficit s %GDP Current Account (millions ) -2,182-3,596-4,231-3,294-4,801 It obvious tht in the sme time there is n increse growth rte on the deficit of Current ccount but there is lso decrese on the deficit of government pyments. So the twin deficit theory is not bsolute correct in the Greece pro crisis economic sitution. b) According to Ricrdin equivlence proposition (lso known s the Brro Ricrdo equivlence theorem) when government tries to stimulte demnd by incresing debtfinnced government spending, demnd remins unchnged. This is becuse the public will sve its excess money in order to py for future tx increses tht will be initited to py off the debt. This theory ws developed by Dvid Ricrdo in the nineteenth century, but Hrvrd professor Robert Brro would implement Ricrdo's ides into more elborte versions of the sme concept. From the Dt tht we cn tke from Eurostt we observe the following UNIT Percentge of GDP SECTOR Generl government INDIC_NA Net lending (+) /net borrowing (-) GEO/TIME Europen Union (15 countries) It is very cler tht in the Cse of the Europen Union (15) for the yers there is serious ttempt to decrese the governmentl pyments deficit This hs lso n effect on the CA to the mjority of the Unions members s it is present it to the tble below becuse most of them hve n increse in the current ccount surplus CURRENCY POST Million euro (from )/Million ECU (up to ) Current ccount ΣΟΛΩΜΟΥ 29 ΑΘΗΝΑ Fx: κλικ στη γνώση info@rnos.co.gr

7 FOW PARTNER Net All countries of the world GEO/TIME Belgium 11,758 10,897 12,202 11,829 12,129 Denmrk 954 2, ,327 3,123 Germny (including former GDR from 1991) -22,599-11,116-8,880-14,539-25,834 Irelnd 1,309 1,622 1, Greece -2,182-3,596-4,231-3,294-4,801 Spin -1,323-1, ,312-16,965 Frnce 8,330 16,164 34,472 36,295 35,309 Itly 18,583 30,552 29,996 20,134 11,529 uxembourg 1,922 1,824 1,698 1,584 1,663 Netherlnds 20,211 17,286 22,463 11,719 15,075 Austri -5,299-5,313-4,524-3,121-3,321 Portugl ,874-5,978-7,813-10,313 Finlnd 4,236 3,957 5,654 6,000 6,534 Sweden 3,609 7,559 9,112 8,657 9,981 United Kingdom -10,850-7,653-1,186-4,918-32,962 Studying Now the dt from the Finl consumption expenditure of generl government we see smll increse for ech yer s it is shown to the following tble. UNIT Millions of euro (from )/Millions of ECU (up to ) INDIC_NA Finl consumption expenditure of generl government GEO/TIME Europen Union (15 countries) 1,379, ,451, ,496, ,540, ,631,269.6 It is now necessry to observe chnges in domestic demnd from the increse in Government expenditure. In s much deficit rte is decresing it is obvious tht tx income will be incresed this hs no negtive effect in the domestic demnd s it is shown to the lst tble hs n incresed rte from yer UNIT Millions of euro (from )/Millions of ECU (up to ) INDIC_NA Domestic demnd GEO/TIME Europen Union (15 countries) 6,648, ,957, ,303, ,670, ,115,505.8 Question 4 (25%) ΣΟΛΩΜΟΥ 29 ΑΘΗΝΑ Fx: κλικ στη γνώση info@rnos.co.gr

8 The foreign exchnge mrket (Volume 1, Ch. 11) A. Determine how deregultion in the EU lbor mrket is expected to ffect the exchnge vlue of the Euro ( ) using stndrd exchnge mrket nlysis with downwrd sloping excess demnd for foreign exchnge- US dollrs. (Mrk: 1.5). Hint: Deregultion in the lbor mrket decreses the brgining power of workers leding thus to lower wges. B. Consider the Euro ( ) is worth $ 1.29 in New York nd Swiss Frnc 1.21 in Zurich. Show how EU rbitrgeurs cn mke profits given tht the Swiss Frnc is worth 1.8 USA dollrs. () Whtwould be the profit per Euro trnscted? (b) Wht would be the outcome on exchnge rtes in New York nd Zurich given the rbitrge ctivities? (Mrk: 1.0). Hint: Assume tht there re no trnsction costs. A. First of ll deregultion in the EU lbour mrket leds certinty in lower wges becuse lbour unions hve no enough power to resist in this sitution. ower wges ffects the totl cost of production, mking Europen products nd services cheper thn they ws in pst for the rest of the world tht doesn t hve euro s the officil currency for trnsctions. Cheper Europen products now fce n incresed demnd from brod nd due to the fct tht they re offered from producers in euro currency foreingn buyers demnd bigger mount of euro to buy their products. Excess demnd of euro leds to higher exchnge rte of euro relted with other currencies such s dollr. B. ) If n rbitrgeur exchnge 1 in Zurich he will tke 1.21 Swiss Frncs. With 1.21 Swiss Frncs he cn buy 1.8$ $ $2.18. Now he cn sell the 2.18$ in New York nd buy Euros for n exchnge rte 1 $1.29 nd tke bck So for ech tht n rbitrgeur owns he cn mke with this strtegy profit of 0.69 or 69% certin profit with no risk. Bibliogrphy Krugmn, P. (1991), Geogrphy nd Trde, euven University Press Mrshll, A. (1890), Principles of Economics, McMilln Richrdson H. (1978), Regionl nd Urbn Economics, Dryden Press. Sloner, G., A. Sheprd nd J. Podolny (2002), Strtegic Mngement, John Wiley & Sons Websites ΣΟΛΩΜΟΥ 29 ΑΘΗΝΑ Fx: κλικ στη γνώση info@rnos.co.gr

9 Wikepedi, [online] vilble from: < en.wikepedi.org > [ccessed 27/02/2013] Investopedi, [online] vilble from: < investopedi.org> [ccessed 27/02/2013] Eurostt, [online] vilble from: < Eurostt.eu > [ccessed 27/02/2013] ΣΟΛΩΜΟΥ 29 ΑΘΗΝΑ Fx: κλικ στη γνώση