The Entrepreneur and the Market Process Discuss how the entrepreneur creates economic growth and progress for society
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Chapter9TheEntrepreneurandtheMarketProcess.pptPowerPoint Slides prepared by: Andreea CHIRITESCU Eastern Illinois University
The Entrepreneur and
the Market Process
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© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
CHAPTER 9
© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
Markets
- Market system
Determines a price for each traded good
Price = opportunity costs
Specialization
No conscious central direction
People – pursue their own objectives
Employ their talents and resources where these resources and talents have the highest value
Pursue their own objectives
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© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
Markets
- Constantly rising standard of living – because of markets
We have the things we desire when we desire them
What we purchase - much better
Able to purchase more of it
Life expectancy – nearly doubled in a century
Diseases - polio, tuberculosis, typhoid, whooping cough - wiped out
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© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
Markets
- Free, unfettered market
Nothing interferes with people entering into voluntary transactions
- Specialization - comparative advantage
Generate more output than being self-sufficient
Need to trade - requires some form of coordination
- Coordination in a market system
By individuals pursuing their self-interests
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© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
The Market Process
- Markets
Ensures that resources are allocated to their highest valued uses
Inefficiency of any sort wither away
Assumption: individuals want to make themselves as well off as possible
- Market process is dynamic
Because knowledge is not fixed or static
It occurs over time
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© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
Dynamics: Market and Entrepreneur
- Economic analysis
Static equilibrium
Equilibria are, at best, temporary resting points
- Entrepreneur - seeks profits by
Innovating, making decisions under uncertainty, combining assets in new ways
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© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
Dynamics: Market and Entrepreneur
- Black box firm
Any firm can do what any other firm does
All firms are always on their production possibility frontiers
Firms always make optimal choices of input combinations and output levels
There is no room for entrepreneurship
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© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
Figure 9.1
The Black Box
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The firm is traditionally treated as a black box into which inputs go and out of which output comes.
© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
Dynamics: Market and Entrepreneur
- Efficient and unfettered markets
The black box firm has no reason to exist
Everything could be done by contracts without creating firms
Firms do exist
A role for the entrepreneur: to reduce the “transaction costs”
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© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
Dynamics: Market and Entrepreneur
- Entrepreneur
Innovator
Introduces new products, production methods, markets, sources of supply, or industrial combinations
Creative destruction
“Alertness” to profit opportunities
Arbitrage
Someone making decisions under conditions of uncertainty
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© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
Dynamics: Market and Entrepreneur
- Individuals - income from human capital
Selling labor services on the open market
Entering into employment contracts
Starting a firm
- Entrepreneur
Start his own firm
Entrepreneurship - being different
To earn profits
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© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
The Search for Profit
- Entrepreneur
Purchases or rents resources
To organize a firm
Through the firm – creates and sells goods and services
- Profit = Total Revenue − Total Cost of Resources
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© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
The Search for Profit
- Total Revenue
Total number of goods and services sold
Multiplied by the price at which they are sold, P x Q
The dollar value of sales
- Total costs
Payments to resources for creating, producing, and selling the goods and services
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© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
The Search for Profit
- Resources
Land, labor, and capital
Inputs used to produce and sell goods and services
- Land
All natural resources, land and sea
Cost: rent
Not the acquisition price
Value of the services provided by that land
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© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
The Search for Profit
- Labor
All types of labor services
Skilled and unskilled labor
Cost: wages, salaries, and benefits that must be paid to use labor services
- Capital
Structures, equipment, and inventories
Cost: payments that must be made to use the capital
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© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
Figure 9.2
Three types of resources are used to produce goods and services: land, labor, and capital. See part (a). The owners of resources are provided income for selling their services. Landowners are paid rent, laborers receive wages, and capital receives interest. See part (b). Part (c) links parts (a) and (b). People use their resources to acquire income with which they purchase the goods they want. Producers use the money received from selling the goods to pay for the use of the resources in making goods. Resources and income flow between certain firms and certain resource owners as people allocate their scarce resources to vest satisfy their wants.
Flow of Resources and Income
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© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
Figure 9.2
Three types of resources are used to produce goods and services: land, labor, and capital. See part (a). The owners of resources are provided income for selling their services. Landowners are paid rent, laborers receive wages, and capital receives interest. See part (b). Part (c) links parts (a) and (b). People use their resources to acquire income with which they purchase the goods they want. Producers use the money received from selling the goods to pay for the use of the resources in making goods. Resources and income flow between certain firms and certain resource owners as people allocate their scarce resources to vest satisfy their wants.
Flow of Resources and Income
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© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
Figure 9.2
Three types of resources are used to produce goods and services: land, labor, and capital. See part (a). The owners of resources are provided income for selling their services. Landowners are paid rent, laborers receive wages, and capital receives interest. See part (b). Part (c) links parts (a) and (b). People use their resources to acquire income with which they purchase the goods they want. Producers use the money received from selling the goods to pay for the use of the resources in making goods. Resources and income flow between certain firms and certain resource owners as people allocate their scarce resources to vest satisfy their wants.
Flow of Resources and Income
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© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
The Search for Profit
- Cost of anything or any activity
What you give up to acquire that item or perform that activity
Opportunity cost
- Costs of doing business
Opportunity costs of running the business
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© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
The Search for Profit
- Equity
Ownership share of the business
Cost of equity – opportunity cost to investors
Implicit part of capital costs
- Debt
Borrowing share of the business
Cost of debt - interest rate on the debt
Explicit part of capital costs
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© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
The Search for Profit
- Accounting profit
Ignores the implicit cost of capital
Presented in financial statements
Operating profit or net operating profit
Value of output less the cost of inputs
Not including the opportunity cost of the owner’s capital
Revenue – rent – wages – interest
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© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
The Search for Profit
- Economic profit
Includes all opportunity costs
Difference between the value of output and the opportunity cost of all inputs
Land costs, labor costs, and debt and equity costs
= Accounting Profit − Cost of Capital
Can be negative, zero, or positive
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© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
Economic Profit
- Economic profit
Is the entrepreneur’s signal
Indicates whether the entrepreneur will allocate additional resources to an activity
Or whether existing resources in an activity will be allocated to another use
- Positive economic profit
Revenue exceeds all opportunity costs
Attracts rivals and increases supplies
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© 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
Economic Profit
- Negative economic profit
Revenue is less than all opportunity costs
Entrepreneurs must look to other markets and activities - reallocate resources
Reduced supply
Exit the market in the long run
- Zero economic profit, normal profit
Total revenue = total costs
The competitive norm
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Manager Compared to Entrepreneur
- Management
Makes routine decisions within known constraints
To meet established objectives
Stewardship of the resources owned or contractually controlled by the firm
Managers - rewarded according to the value of the productive services they provide
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Manager Compared to Entrepreneur
- Management
Function: calculate and implement the course of action that meets the objectives of the owners of the firm
Searches for incremental improvements in economic efficiency
In response to changes in the economic environment
Carries out the day-to-day activities
Leads to new information
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Manager Compared to Entrepreneur
- Entrepreneurs
Influenced by the new information
Conjecture new economic arrangements
Innovations - introduced in the context of a prevailing price structure
Alters that price structure
Generates still more new information
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Entrepreneurial Strategy
- First Mover
The first to enter a market or to create a new market
Not always the best strategy
- More important
Understand customers
Manage innovation
Adapt quickly to market changes
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Entrepreneurial Strategy
- First Mover
Establish a standard
Develop customer loyalty before late movers enter
Drawbacks: cost and risk
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The Rent Seeker as Entrepreneur
- Rent seeking
Seeking transfers of profits from others
Seeking profits without producing anything
Often leads to the end of the economic activity that created growth
The larger the role of government in an economy, the more opportunities for rent seeking
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