Tài liệu Microeconomics for MBAs 33 ppt

Chapter 9 Production Costs and Business Decisions 17 How can the so-called “crisis” be solved, at least partially? We don’t intend to offer a detailed set of public policy solutions here. Other specialists in the field have done that. 4 We only point out here that many of the supply and demand forces listed above are beyond the control of individual businesses. There is simply not much most individual businesses can do to affect the broad sweep of social attitudes and government tax and expenditure policies. We only note, however, that the demand for healthcare services can be lowered by reducing, at least marginally, government subsidies for the healthcare of many Americans. This can be accomplished by lowering Medicare and Medicaid expenditures and by eliminating all or a part of the tax deductibility of health insurance. The cost of healthcare can also be lowered by reducing the rewards from suing doctors or by giving patients the right (to a greater or lesser degree) to absolve doctors of liability for problems that they may encounter while the patients are in the doctors’ care. Frankly, making those recommendations is much easier than getting them passed. They are too politically painful for voters (although we suggest that voters should also consider the gains to everyone from getting healthcare costs under control). Barring changes in public policies, what can businesses themselves do to ameliorate their own healthcare costs? Many businesses have done what has come naturally: they have tried to select workers who are not likely to have medical problems and, therefore, drive up the firms’ insurance costs. This is, we remind you, a solution that can benefit both owners and many workers, given that healthier workers can mean lower labor costs for firms and lower health insurance premiums. While people might object to this solution on fairness grounds, we stress that it is the type of discriminatory hiring policy that is likely to emerge when health insurance costs have been distorted by political factors, such as the ones included in the list above. Another private policy solution can emerge if employers and employees recognize that low deductibles on health insurance policies are very expensive because they encourage workers to spend someone else’s money, which motivates excessive demand for healthcare and high insurance premiums. With a deductible of $5,000, the price of an additional dollar of insurance coverage for a forty-year old male is measured as a tiny fraction of a cent (actually, .06 of a cent). However, when the deductible is $500, the price escalates to 55 cents. When the deductible is as low as $100, the price of an additional dollar of coverage rises to $2.14, a poor bargain for owners and their employees. 5 There is an obvious solution to the health insurance problem that has the potential of not only introducing greater efficiency into the healthcare business but also improving the fairness of the system, without any policy change in Washington. This solution seeks to lower the private demand for healthcare by changing the incentives a firm’s workers have to consume healthcare services. 4 See John C. Goodman and Gerald L. Musgrave, Patient Power: Solving America’s Health Care Crisis (Washington, D.C. : Cato Institute, 1992). 5 As reported by Goodman and Musgrave (Ibid.). Chapter 9 Production Costs and Business Decisions 18 As we indicated above, most firms that offer their workers health insurance provide “Cadillac policies,” ones with small deductibles and broad coverage for just about everything that can go wrong with a person, regardless of whether the person is responsible, through destructive behaviors, for the problems encountered. Each worker has little incentive not to use healthcare services for the slightest problem. Each worker has less incentive to incur the costs that might be required to eliminate or reduce their destructive behaviors. Each worker can reason that if he or she were to cut back on personal usage of this or that healthcare service, the company’s health insurance costs would not be materially affected. Certainly, the individual’s health insurance premiums would not fall by the full value of the healthcare services not utilized. The savings from non-use by any one individual, if the savings are detectable at all, will be spread over the entire group of workers through slightly lower premiums for everyone. In short, the individual gains precious little from personal restraint in consumption of healthcare services. 6 Hence, the individual has little incentive to curb consumption. Granted, if everyone in a firm were to cut back on healthcare usage, then everyone could possibly gain in terms of reduced insurance premiums. The amount of savings could be substantial, and everyone would share in the savings of everyone else. However, as is so often true in business and, for that matter, all group settings, getting everyone to do what is in their best collective interest comes up against the prisoners’ dilemma discussed earlier. If everyone else cuts back, there is still no necessary and compelling reason for any one person to cut back. The one person’s reduction is, again, inconsequential regardless of what all others do. And, we must add, as we have throughout the book, the larger the group, the more difficult the problem in bringing about collective cohesiveness of purpose. 7 The basic problem for the firm should be seen as one of finding a means of giving all workers an incentive to cut their consumption. This can be done by raising the price of healthcare usage. But how can the price of healthcare be raised by the firm? Economist John Goodman, head of the National Center for Policy Analysis, recommends what appears to us to be a ingenious and practical solution, one that firms can, as some already have, institute on their own to the benefit of the workers and the firm. To see how Goodman’s proposal might work, let us start with a few observations and assumptions. Many firms spend upwards of $4,500 annually per worker on health insurance, partly because, with the small deductible, workers have an incentive to consume a lot of healthcare. Let us assume that a basic catastrophic health insurance policy, one with a very large deductible of about $3,000 (meaning the insurance covers 6 Of course, the extent to which the individual’s actions can be detected depends on the size of the employment group. In small groups of workers, it would be easier to detect the impact of what one individual does or does not do. 7 One of the more serious problems in having government provide health insurance is that the relevant group is really large, extending to the boundaries of the country, which means people may have absolutely no incentives to curb their consumption of healthcare services. The benefits of doing so are spread ever so thinly over too many people. Chapter 9 Production Costs and Business Decisions 19 only major medical problems), can be purchased for each employee for a premium of $1,200 per year (which is, we are told, in the ballpark of the actual cost for a group policy). Suppose also that the employer agrees to provide this catastrophic insurance policy and, at the same time, agrees to place in a bank reserve account (what Goodman prefers to call a “Medical Savings Account” or “MSA”) a sum of $3,000 each year per employee. The employer tells the employees that they can draw on that account for any medical “need” (with “need” being defined broadly). The workers can use the account, for example, to pay for visits to doctors, to cover the cost of hospital stays not covered by insurance, or to pay for a membership in a fitness center (given that exercise can prevent the need for some medical care). Finally, suppose that the workers are also told that the balance remaining in the account at the end of the year can be applied to their individual retirement accounts, or even withdrawn at the end of the year for any purpose that the workers choose. 8 This proposal has a chance of lowering the employees’ healthcare consumption because it requires that people pay for most routine medical care with their own money. Under common insurance arrangements, the additional cost of medical procedures (other than the patients’ time) approximates zero (after the low deductible is met). Under the MSA proposal, the cost to the employee of the first $3,000 of medical care is exactly equal to the cost of the service. This is because the employee is made the residual claimant on the balance at the end of the year. Hence, we should expect that workers will more carefully evaluate their usage of medical services and cut back. After all, under the old system, the workers were probably consuming “too much,” given the low cost (close to zero) that they incurred. We would expect that the gains from this new MSA system could be shared by both the workers and their firm. We have already developed the example in a way that obviously benefits the firm. The firm was paying $4,500 a year for the insurance of each worker. Now, it must pay $1,200 for the insurance and $3,000 for the MSA, for a total of $4,200. The firm saves $300 per worker. The workers, however, can also gain. Under the old arrangement, the workers were getting “paid” with insurance, not money. Under the MSA system, they are given a pot of money, $3,000, that they can use, if they choose, to buy insurance that would cover the first $3,000 of care. But many would not likely do that. They can self-insure just by holding onto the money and paying the first $3,000 in medical bills. However, they can, conceivably, also buy a variety of other things, from new televisions to education programs to additional days of vacation. 9 Accordingly, the additional money should enable workers to be better off by allocating the sum to higher valued uses. 8 The particulars of the Medical Savings Accounts are not important here. The important characteristic is broad discretion on the part of the worker, which will likely mean that the worker has a sum of money that is set aside to cover the large deductible under a catastrophic medical insurance policy and that can be used by the employee when it is not spent for medical purposes. 9 Any actual MSA program might for political reasons have restrictions on the range of goods and services that the workers can buy with any MSA balance remaining at the end of the year. For example, one MSA- type proposal would require that the balance go into a worker’s retirement account. Chapter 9 Production Costs and Business Decisions 20 Both workers and their employers can also gain because the new insurance arrangement can be expected to lower the worker’s demand for use of the health insurance provided by their employers. Many workers will want to be careful not to use up their $3,000 account, as they become more careful shoppers of medical care. Workers will make use of the catastrophic insurance only in those situations when they have serious problems and little choice but to make use of medical care, which explains why the premiums for catastrophic insurance are so low. By providing catastrophic health insurance coupled with a medical savings account, a firm can attract better workers by providing them with a more valuable compensation package at lower cost. Overall, we would expect the firms that adopt this type of insurance system would be more productive and competitive. However, we hasten to add that our simple example does not reflect the full complexity of employment conditions most firms face. The problem managers will have in developing acceptance of the MSA is the cross-subsidies that are embedded in current insurance programs. Low-risk workers typically subsidize high-risk workers. Hence, we doubt that the firm’s deposit into workers’ MSA accounts would equal the insurance deductible, as we have assumed in our example. The reason is that many healthy (typically younger) workers are fortunate in that they often don’t go to the doctor or hospital in any given year, and other workers have only modest medical expenditures in most years. They are subsidizing the unhealthy (typically older) workers who make extensive use of medical care. If the MSA deposit equaled the deductible, this cross- subsidy would be wiped out, and the insurance company would very likely be hit with high bills from the high-risk workers without the payments from the low-risk workers. To make the MSA system work, the deposit would have to be limited, with the workers themselves sharing in some of the gains in the event they have limited expenses but also sharing in some of the risks if their expenses exceed their MSA deposits. Therein lies the rub, which will rule out many firms from instituting the deal. However, some firms will still be able to find a reasonable compromise. Managers must also be mindful of the possibility that MSAs can set up perverse incentives for some workers for some types of healthcare. Knowing that they will have to draw down their MSA account in order to cover annual physical examinations (and other preventive healthcare measures), workers can reason that MSAs increase the immediate cost of physical examinations. But that doesn’t mean that the “cost” of physicals goes up for all workers. For some cost will rise; for others the cost will fall. Some employees, no doubt, will be more inclined to get physicals, given that physicals can be paying propositions (or will have a lower net cost to them). That is to say, the employees can reason that the current outlay from their MSA for a physical can be more than offset by the reduction in MSA outlays in the future, given that current physicals can “nip” health problems when they are minor. Thus, current physicals can lower the workers’ healthcare expenditures from their MSA account over the long run. However, we suspect that it’s also a safe bet that some employees will not be able, or will not be willing, to make the required careful calculations or can properly assess the current and future benefits of physicals. Other workers may reason that most of their later healthcare expenditures for “major” problems that go undetected will be Chapter 9 Production Costs and Business Decisions 21 covered as the catastrophic health insurance kicks in. To accommodate these potential problems, employers can consider covering a portion of the current cost of physicals and other preventive measures. The employers can cover the added cost of subsidizing the physicals and preventive care with any reduction in their insurance premiums they get from encouraging preventive care. If there are no insurance savings from the subsidy, then it seems reasonable to conclude that either the problem of employees skipping preventive care is not a problem or it is such a minor problem that the insurance companies see no need to reduce the insurance premiums of firms that encourage preventive care. The main point is that managers must be tread carefully in trying to accommodate problems with “preventive care.” The problem is that “preventive care” can include not only physicals, but also an array of tests that have little useful medical value. If “preventive care” is defined too broadly and the subsidies are high, managers can be back in the prisoner’s dilemma trap that results in excessive healthcare and healthcare insurance expenditures, the net effect of which is healthcare benefits that are not worth the costs to the workers. Has the MSA concept been tried and has it worked? Yes, on both counts, although the trials to date do not correspond exactly with our example above. One of the problems is that Medical Savings Accounts are not tax deductible, which means that a part of the added cost that must be overridden with benefits is the greater tax payments workers and firms must pay. Nevertheless, several firms have already tried the system with beneficial effects: • After Quaker Oats put $300 in each worker’s Medical Saving Account, the company’s healthcare costs grew 6.3 percent a year. However, this was during a period when the healthcare costs of the rest of the country were growing at double-digit rates. • Forbes magazine encourages its employees to curb medical care expenditures with a variation of the MSA, by paying workers $2 for every $1 of medical costs not incurred up to $1,000. This means that if a Forbes employee incurs medical costs of only $300 in a given year, the employee is rewarded with a check of $1,400 at the end of the year [2 x ($1,000 - $300)]. The magazine’s healthcare costs fell 17 percent in 1992 and 12 percent in 1993, years during which other firms’ insurance costs were rising. • The utility holding company Dominion Resources gives each worker who chooses a $3,000 deductible on the company’s health insurance policy a deposit of $1,650 a year. Since 1989, its insurance premiums have not risen, while the insurance premiums of other companies have risen by an average of 13 percent a year. • Golden Rule Insurance Company gives each worker a $2,000 deposit if they select a deductible of $3,000. In 1993, its health insurance costs were 40 percent lower than they would have otherwise been. 10 10 See “Answering the Critics of Medical Savings Accounts,” Brief Analysis (NCPA, September 16, 1994), p. 1. Chapter 9 Production Costs and Business Decisions 22 We don’t propose to tell firms what to do in their own particular circumstances for a very good reason: Frankly, we obviously don’t know the details of the individual circumstances of what we hope will be a multitude of business readers of this book. We can use our incentive-based approach to explore the types of business policies managers should consider and then adjust to fit the particulars of their circumstances. Moreover, our focus on health insurance is only illustrative of insights that are relevant across a firm’s entire fringe benefit package. The important point of this discussion is by now an old one for this book: Incentives matter. One of the several important reasons many workers pay high health insurance premiums is that they don’t have much of an incentive to carefully evaluate their healthcare purchases. The best way of ensuring that workers get the most out of their healthcare benefits is one that is as old as business itself: make the buyer pay a price that reflects the true cost of their decision. Medical Savings Accounts are simply a means (perhaps one of many that have not yet been devised) of making workers potentially better off by making everyone pay a price for what they consume. This solution may not work for all businesses. Some worker groups may not want to be bothered with considering the costs of their behaviors. However, it appears that many firms and their workers have not considered policies like Medical Savings Accounts because they have not realized that they harbor the potential of making everyone better off. These are the types of policies all managers should examine. Such policies can raise their workers’ welfare, their firm’s stock prices, and the compensation of managers. Again, we return to what is by now an old point of the book: firms can make money not only by selling more of their product or service, but also by creatively restructuring incentives in mutually beneficial ways. Concluding Comments Cost plays a pivotal role in a producer’s choices. Costs change with the quantity produced. The pattern of those changes determines the limit of a producer’s activity— from the production of salable goods and services to the employment of leisure time. The individual will produce a good or service, or engage in an activity, until marginal cost equals marginal benefit (marginal revenue). Graphically, this is the point where the supply and demand curves for the individual’s behavior intersect. At this point, although additional benefits might be obtained by producing additional units of the good, service, or activity, the additional costs that would be incurred discourage further production. Costs will not affect an individual’s behavior unless he or she perceives them as costs. For this reason the economist looks for hidden, implicit costs in all choices. Such costs, if uncovered, will affect choices that remain to be made. Implicit costs can also be helpful in explaining those choices that have already been made. Review Questions 1. Evaluate the adages “haste makes waste” and “a stitch in time saves nine” from an economic point of view. Chapter 9 Production Costs and Business Decisions 23 2. If executives’ time is as valuable as they claim, why are they frequently found reading the advertisements in airline magazines en route to a business meeting? 3. The price of a one-minute long distance call on a cell phone is several times the cost of a call on any other phone. Does that mean that the introduction of cell phones has increased the cost of long distance calling? 4. In discussing accident prevention, we assumed an increasing marginal cost. Suppose instead that the marginal cost of preventing accidents remains constant. How will that assumption affect the analysis? 5. Using the analysis of accident prevention, develop an analysis of pollution control. Using demand and supply curves for clean air, determine the efficient level of pollution control. 6. People take some measures to avoid becoming victims of crime. Can the probability of becoming a victim be reduced to (virtually) zero? If so, why don’t people eliminate that probability? What does the underlying logic of your answer suggest about the cost of committing crimes and the crime rate? 7. If the money price of a good rises from $5 to $10, the economist can confidently predict that less will be purchased. One cannot be equally confident that denying a child a dessert will improve the child’s behavior, however. Explain why. 8. Consider the information in the production schedule that follows. (a) At what output level do diminishing returns set in? (b) Assume that each worker receives $8. Fill in the marginal product column, and develop a marginal cost schedule and a marginal cost curve for the production process. Number Total Product Marginal Product of Workers of All Workers of Each Worker 1 0.10 2 0.30 3 0.60 4 1.00 5 1.45 6 2.00 7 2.50 8 2.80 9 3.00 10 3.19 11 3.37 12 3.54 13 3.70 14 3.85 15 4.00 16 3.90 17 3.70 Chapter 9 Production Costs and Business Decisions 24 READING: Sunk Costs in the Railroad Industry Clinton H. Whitehurst, Jr., Clemson University Historically, a large part of a railroad’s investment has been in assets with fixed costs—cost that do not vary with output in the short run. In the early 1900s, fixed costs were estimated to be as much as 75 percent of railroads’ total costs. More recently they have been estimated at 40 to 50 percent. A significant part of a railroad’s fixed costs is the investment in its right of way—the 75- to 200- foot-wide corridors in which its tracks are laid. Most railroads purchased that land and paid for its grading many years ago, perhaps in the last century. Those costs are considered historical, or sunk. To the degree that its costs are fixed, a railroad’s average total cost decreases as its volume increases. The more tons it carries per mile, the lower the average total cost of moving a ton of freight. The railroad’s fixed costs are simply spread out over more units of freight. To use their hauling capacity fully and lower their average total cost, railroads have tended to set their rates low for long hauls. In the early days they often generated only enough revenues to cover their variable costs, not their total costs. But in many instances they compensated for low rates on long hauls by charging high rates on short hauls. In 1887, customer complaints about differences in rates prompted congress to place railroad rates and routes under the regulation of the Interstate Commerce Commission (ICC). Throughout much of its history, the ICC considered rates that did not cover total costs to be unfair or predatory—designed, that is, to drive out competition. It insisted that railroads set their rates high enough to cover total costs. After the Second World War, the rapidly growing trucking industry became the railroads’ chief competitor. Fixed costs were much less significant in trucking than in railroads. As much a 90 percent of the total cost of trucking varied with the number of tons carried per mile. From the point of view of the trucking industry, then, the ICC’s requirement that rates cover total costs made sense. But from the railroads’ perspective, the requirement was disastrous. By keeping railroad rates high, the ICC enabled the trucking industry to compete for railroad business and expand its share of the transportation market. In 1958, following an extensive lobbying effort by the railroads, Congress amended the Interstate Commerce Act. The amendment instructed the ICC that “Rates of a carrier shall not be held up to a particular level to protect the traffic of any other mode of transportation.” Earlier Interstate Commerce Act provisions still barred “unfair or destructive competitive practice,” however. Given the ambiguity of the legislation, the ICC continued to insist that rates cover total costs. In 1968 the Supreme Court upheld its interpretation. Recently railroads have been given considerable freedom to set their own rates under the railroad Revitalization and Regulatory Reform Act (1976) and especially the Staggers Rail Act (1980). Rates that cover only variable costs are no longer considered unfair and are not challenged by the Interstate Commerce Commission. Meanwhile, the interstate highways—the right of way for trucks—are becoming more congested. Truck delivery, once much faster than railroad delivery, is slowing down. But railroad tracks remain underutilized. As circumstances change, railroads are putting their century-old investment in their rights of way to good use. By ignoring sunk costs and offering lower rates, they have recaptured much of the freight business they lost to trucks after the Second World War. Today, one often sees highway trailers riding on railroad flatcars, reflecting the new competitiveness of railroads. In fact, hauling trailers is now one of the fastest-growing railroad services. CHAPTER 10 Production Costs in the Short Run and Long Run In economics, the cost of an event is the highest-valued opportunity necessarily forsaken. The usefulness of the concept of cost is a logical implication of choice among available options. Only if no alternatives were possible or if amounts of all resources were available beyond everyone’s desires, so that all goods were free, would the concepts of cost and of choice be irrelevant. Armen Alchian he individual firm plays a critical role both in theory and in the real world. It straddles two basic economic institutions: the markets for resources (labor, capital, and land) and the markets for goods and services (everything from trucks to truffles). The firm must be able to identify what people want to buy, at what price, and to organize the great variety of available resources into an efficient production process. It must sell its product at a price that covers the cost of its resources, yet allows it to compete with other firms. Moreover, it must accomplish those objectives while competing firms are seeking to meet the same goals. How does the firm do all this? Clearly firms do not all operate in exactly the same way. They differ in organizational structure and in management style, in the resources they use and in the products they sell. This chapter cannot possibly cover the great diversity of business management techniques. Rather, our purpose is to develop the broad principles that guide the production decisions of most firms. Like individuals, firms are beset by the necessity of choice, which as Armen Alchian reminds us, implies a cost. Costs are obstacles to choice; they restrict us in what we do. Thus a firm’s cost structure (the way cost varies with production) determines the profitability of its production decisions, both in the short run and in the long run. Of course, there is one very good reason MBA students should know something about a firm’s cost structure. “Firms” don’t do anything on their own. It’s really managers who activate firms and make decisions that will ultimately determine whether a firm is profitable or not. Out analysis of a firm’s “cost structure” is nothing like the imagined costs on accounting statements. Accounting statements indicate the costs that were incurred when the firm produced the output that it did. Here, in this chapter, we want to devise a way of structuring costs for many different output levels. The reason is simple: We want to use this structure to help us think through the question of which among many output levels will enable the firm to maximize profits. T Chapter 10 Production Costs in the Short Run and Long Run 2 You will also notice that our cost structure is very abstract, meaning that it is independent of the experience of any given real-world firm in any given real-world industry. We develop the cost structure in abstract terms for another good reason: MBA students plan to work in a variety of industries and in a variety of firms within those different industries. We want to devise a cost structure that is potentially useful in many different business contexts. To do this, we need to construct costs in several different ways for different time periods, because production costs depend critically on the amount of time for production. Fixed, Variable, and Total Costs in the Short Run Time is required to produce any good or service. Therefore, any output level must be founded on some recognized period of time. Even more important, the costs a firm incurs vary over time. In thinking about costs, then, we must identify clearly the period of time over which they apply. For reasons that will become apparent as we progress, economists speak of costs in terms of the extent to which they can be varied, rather than the number of months or years required to pay them off. Although in the long run all costs can be varied, in the short run firms have less control over costs. The short run is the period during which one or more resources (and thus one or more costs of production) cannot be changed—either increased or decreased. Short-run costs can be either fixed or variable. A fixed cost is any cost that (in total) does not vary with the level of output. Fixed costs include overhead expenditures that extend over a period of months or years: insurance premiums, leasing and rental payments, land and equipment purchases, and interest on loans. Total fixed costs (TFC) remain the same whether the firm’s factories are standing idle or producing at capacity. As long as the firm faces even one fixed cost, it is operating in the short run. A variable cost is any cost that changes with the level of output. Variable costs include wages (workers can be hired or laid off on relatively short notice), material, utilities, and office supplies. Total variable costs (TVC) increase with the level of output. Together, total fixed and total variable costs equal total cost. Total cost (TC) is the sum of fixed costs and variable costs at each output level. TC = TFC + TVC Columns 1 through 4 of Table 10.1 show fixed, variable, and total costs at various production levels. Total fixed costs are constant at $100 for all output levels (see column 2). Total variable costs increase gradually, from $30 to $395, as output expands from 1 to 12 widgets. Total cost, the sum of all fixed and variable costs at each output level (obtained by adding columns 2 and 3 horizontally), increases gradually as well. Graphically, total fixed cost can be represented by a horizontal line, as in Figure 10.1. The total cost curve starts at the same point as the total fixed cost curve (because total cost must at least equal fixed cost) and rises from that point. The vertical distance between the total cost and the total fixed cost curves shows the total variable cost at each level of production. . was paying $4,500 a year for the insurance of each worker. Now, it must pay $1,200 for the insurance and $3,000 for the MSA, for a total of $4,200. The. problems), can be purchased for each employee for a premium of $1,200 per year (which is, we are told, in the ballpark of the actual cost for a group policy).