1.2 Business Economics

Question 1

How do you define production?

Answer 1

It is a process that involves converting resources into goods or services

Question 2

What is the difference between the labour-intensive and capital-intensive production?

Answer 2

Labour-intensive relies more heavily on labour rather than machinery i.e. China, where labour is very cheap

Capital-intensive is the opposite i.e. Western countries, because labour is more difficult to manage

Question 3

What is considered a primary sector?

Answer 3

It’s a production involving the extraction of raw materials from the earth
i.e. agriculture, fishing, forestry and mining

Question 4

What is considered a secondary sector?

Answer 4

It’s a production involving the processing of raw materials into finished and semi-finished good (intermediate goods/producer goods)
i.e manufacturing, food processing

Question 5

What is considered a tertiary sector?

Answer 5

It’s a production of services
i.e. commercial (delivery, printing), financial, household (plumbing), leisure, professional (legal advice) and transport services

Question 6

Why does de-industrialisation happen, while services grow? pg.105

Answer 6

People in such countries spend more money on services rather than on manufactured goods;
Competition from countries with strong manufacturing;
Growth of public sector as the country develops and so more public services are provided;
Machines replace people so employment in manufacturing falls

Question 7

What is productivity and which factors affect it? pg.109

Answer 7

It’s the rate at which goods are produced; its amount in relation to the work, time and money inputs
It is calculated by dividing total output by the number of workers

Land - the quality of it directly affects the productivity and can be improved through:
_Fertilisers and pesticides
_Drainage - flooded land is drained
_Irrigation - natural sources of water are directed towards dry land
_Reclamation - new land from oceans, riverbeds and lakebeds
_Genetically modified crops

Labour
_Training - national education and training in firms increase the knowledge and improve/provide skills (i.e. improve leadership) and improve motivation; this allows jobs to be performed more effectively
_Improved motivation - financial and non-financial incentives like piece rates (money paid for the amount of production, not time at work) and job rotation (changing tasks so that there is more variety and it’s less boring => motivation)
_Improved working practices - better methods or systems of work
i.e. moving workstations in a way that workers have to walk less and thus work more
_Migration - high skilled immigrants or immigrants that allow national employees to work more i.e. childminder from overseas

Capital - more efficient new technology or just more capital employed trigger the improvements in productivity
_Primary sector - use of machinery increase output, reduce waste and improve working conditions; chemicals and pesticides raise crop yield and strengthens plants;
_Secondary - complex plant and equipment are more efficient and reduce the need for labour in boring demotivating jobs
_Tertiary - technology allows services to be improved i.e. internet shopping, self-checkout systems, laser surgery, better medicine

Question 8

What is division of labour?

Answer 8

When production process is broken down into small parts with tasks allocated to workers

Question 9

How does division of labour affect workers?

Answer 9

Advantages - more skilled due to repetition of the same task; job satisfaction and better employability due to the acquired skillfulness;

Disadvantages - health implication like joint wear; dissatisfaction and bad motivation due to boredom; less employable if too specialised;

Question 10

How does division of labour affect businesses?

Answer 10

Even though efficiency and profits improve when workers are more specialised, there are some disadvantages

Advantages - efficiency, accuracy and productivity improved; production time is reduced when workers don’t need to change their station; organisation and regulation is easier;

Disadvantages - poor quality work and staff arriving late at work/absent due to dissatisfaction and poor motivation; interdependence (i.e. the whole line stops if one station fails); loss of flexibility (i.e. specialised worker of specific task is absent and there is no substitution)

Question 11

What are fixed costs (overheads)?

Answer 11

Costs that remain unchanged despite the varying output

i.e. rent, advertising, interest payments

Question 12

What are variable costs?

Answer 12

Costs that change as the output levels change; as the output increases, the variable costs rise
i.e. raw materials, fuel, labour

Question 13

What does Total Cost represent and how is it calculated?

Answer 13

It is a cost to a firm of producing all output over a period of time
It’s calculated by adding all Variable costs and all Fixed costs

Question 14

What does Average Cost represent and how is it calculated?

Answer 14

It’s a cost of production a single unit of output

Average Cost = Total Cost/Quantity

Question 15

What is Total Revenue?

Answer 15

It’s the amount of money a firm receives from selling its output
It’s a product of Price and Quantity

Question 16

What is Profit?

Answer 16

It’s the money left after deducting the Total Cost from Total Revenue
A loss is made when Total Cost exceeds Total Revenue

Question 17

Explain internal economies of scale pg.126

Answer 17

Internal economies of scale are the cost benefits that an individual firm can enjoy when it grows.

Purchasing economies - suppliers offer discounts for businesses that buy in bulk; large businesses buy a lot of raw materials and components;

Marketing e-s - large firm would start its own delivery rather than pay a service because they have a lot to deliver; adverts with fixed costs are spread over more output therefore average cost falls;

Technical e-s - large factories are more efficient than smaller ones i.e. more specialisation, better machinery; large firms make better use of essential resources;

Financial e-s - easier access and wider variety of sources to get finances i.e. can sell shares; easier to negotiate the price of loans with banks;

Managerial e-s - in small firms one person will be responsible for many positions like finance, human resource, marketing and production => inefficient due to overload and weaknesses in some areas; large firms can afford specialists in each area;

Risk-bearing e-s - large firms have wider product ranges => reduce the risk because if one project fails, there is another;

Question 18

Explain external economies of scale pg.128

Answer 18

External economies of scale are cost benefits that all firms in an industry can enjoy as it expands.

Skilled Labour - if industry is concentrated in one area, there will be abundance of skilled labour with work experience; local institutes would provide trainings required for local industry;

Infrastructure - roads, railways and other facilities are shaped to suit the dominant infrastructure;

Access to suppliers - suppliers of cleaning, banking, marketing, waste disposal, components will set up close by the area where industry has developed;

Similar businesses in the area - local businesses cooperate in order for all of them to gain i.e. share the research costs as well as benefits;

Question 19

Explain diseconomies of scale pg.129

Answer 19

At one point some aspects of production become inefficient and average costs start to rise - this happens due to the firm becoming too large.

Bureaucracy - too many resources are used in administration i.e. time spent on paperwork, slow decision-making, communication channels too long => average costs increase;

Communication problems - large businesses are often multinational => time and language differences;

Lack of control - difficulty of coordination of such large business requires more supervision and more complex management => average costs increase;

Distance between different-level employees - multi-layered management separates employees of different rank => they are no longer aware of each other’s needs(lack of understanding); demotivation; time wasted on resolving conflicts;

Question 20

What are the common features of a competitive market?

Answer 20

> Large number of buyers and sellers
Products are close substitutes of each other
Low barriers to entry (i.e. doesn’t require much capital)
Firms almost don’t control charged prices (if it charges more, it loses customers)
Free flow of information about the nature of product, availability, prices and methods of production

Question 21

How does competition affect firms?

Answer 21

> They have to keep costs as low as possible to be efficient
Provide good quality with high level of customer service
Charge acceptable prices
Innovate by reviewing and improving the product; product differentiation (persuade customers that their product is different and better)
»Profit is limited in a competitive market because prices are limited (total industry profit is shared between many firms)

Question 22

What are the advantages and disadvantages of competition for consumers?

Answer 22

> Lower prices - firms cannot overcharge consumers (market is full of good substitutes);
More choice - diverse choice due to product differentiation and new ideas;
Better quality - poor quality products and services will lose its customers; consumers are rational and look for value for money;
However,
Market uncertainty - disruptions due to unprofitable firms leaving the market => some consumers are inconvenienced;
Lack of innovation - firms make less profit due to competition => not enough resources for Research and Development and new ideas.

Question 23

How does competition affect the economy?

Answer 23

> Resources are allocated more efficiently by firms in order to survive; under pressure to keep costs low so the prices are low;
Firms are more innovative to gain competitive edge (new technologies, prod. techniques, materials, products) => benefits economy as the standard of living improves;
»Resources might be wasted due to factor immobility as the firms stop operating; people are made redundant

Question 24

How is the size of a firm measured? pg.140

Answer 24

Turnover - firms with higher turnover tend to be larger
micro (<2million); small (<10); medium (<50); large (>50)

Number of employees - large firms employ more people
micro (<10); small (<50); medium (<250); large (>250)

Balance sheet total (money invested) - the larger the firm the more investment
micro (<2); small (<10); medium (<43); large (>43)

Question 25

What are the advantages and disadvantages of small firms? pg.141

Answer 25

Small firms are encouraged
There are a lot of small firms in developed countries due to development of tertiary sector, in which services are provided more effectively on a small scale

Advantages:
>Flexibility - owners (main decision makers) are actively involved => can adapt to change more quickly;
>Personal service - a lot of people want to discuss orders or deals directly with the owner and in small firms they are far more accessible;
>Lower wage costs - workers in small firms do not belong to trade unions => negotiating power is much weaker; owners restrict pay to the legal minimum wage;
>Better communication - less employees => communication is informal and more rapid; owner is always in close contact and information exchanges more efficiently => decision making is faster; workers are better motivated;
>Innovation - even though lack resources for r&d, small firms are very innovative due to competitive pressure; more prepared to take risk (have less to lose);

Disadvantages:
>Higher costs - cannot exploit economies of scale due to limited output => average costs are higher;
>Lack of finance - sole traders cannot sell shares; financial institutions regard them as more risky;
>Difficulty attracting quality stuff - lack of resources doesn’t allow high wages to be paid;
>Vulnerability - do not have the resources to draw on during the challenging times; may be forced to accept unattractive takeover terms;

Question 26

What are the advantages and disadvantages of large firms? pg.142

Answer 26

Advantages:
>Economies of scale - average costs are lower
>Market domination - customers are more loyal and large firms have a better public profile => they may benefit like charge higher prices
>Large-scale contracts - e.g. construction industry has both small and large firms but only large firm will be chosen for a big governmental contract (small firms do not have enough resources)

Disadvantages:
>Too bureaucratic - slow decision-making; resources are wasted in administration for paperwork; communication channels too long;
>Lack of control - a lot of employees and facilities/assets all over the world; more supervision is required which raises costs;
>Poor motivation - impact of one individual is insignificant; lack of personal contact;

Question 27

Factors affecting the growth of firms? pg.143

Answer 27

Government regulation - they investigate takeovers and mergers to assure competition;
Access to finance - whether firms can persuade money lenders will decide their growth;
Economies of scale - it’s difficult to exploit economies in some industries e.g. international taxi, window cleaning firms (costs cannot be lowered significantly by producing a lot of output);
Desire to spread risk - they need to grow in order to diversify and thus decrease risk;
Desire to take over competitors - fast way of growing and reducing competition, but varies over time so can affect growth in the industry;

Question 28

Why do firms stay small? pg.144

Answer 28

Size of the market - some markets cannot sustain large firms i.e. luxury yacht market;
Nature of the market - markets with low set-up costs and fierce competition prevent growth;
Lack of finance - cannot convince money-lenders => no investment for machinery, labour, equipment, property extensions and no growth;
Aims of the entrepreneur - some owners like their business small; don’t have the time for it to be a full-time occupation because they have life => it remains small;
Diseconomies of scale - expanding beyond the minimum efficient scale raises average costs;

Question 29

What are the features of a monopoly? pg.149

Answer 29

One business dominates
Unique product
Price maker
Barriers to entry (legal barriers, patents, marketing budgets, tech., high start-up costs)

Question 30

What are the advantages of a monopoly? pg.150

Answer 30

Efficiency (sometimes, like in railway industry, it would be more efficient if there was one firm dominating the natural monopoly to avoid duplication of resources like trains to the same destinations but different railway system)
Innovation
Economies of scale

Question 31

What are the disadvantages of a monopoly? pg.152

Answer 31

Higher prices
Restricted choice
Lack of innovation
Inefficiency (no incentive to keep the costs down; sometimes poor customer service because firms do not invest enough into it since they know that customers cannot switch)

Question 32

What are the features of an oligopoly? pg.156

Answer 32

Few firms
Large firms dominate
Different products
Barriers to entry
Collusion
Non-price competition
Price competition

Question 33

What are the advantages of an oligopoly? pg.158

Answer 33

Choice
Quality 
Economies of scale 
Innovation
Price wars

Question 34

What are the disadvantages of an oligopoly? pg.159

Answer 34

Temptation among firms to collude and restrict competition i.e. by price fixing
Market is sometimes shared geographically => lack of choice
Cartels (group of firms or countries formally joined together where they agree on prices and output levels)

Question 35

Factors affecting demand for labour?

Answer 35

Demand for a product;
Availability of substitutes - i.e. replace with machines;
Productivity of labour - i.e. if they produce more, there is more demand for them;
Other employment costs - i.e. insurance, sick/parental pay, training;

Question 36

Factors affecting supply of labour?

Answer 36

Population size, age and gender distribution
Migration
Retirement age
School leaving age
Skills and qualifications
Labour mobility

Question 37

What should businesses consider when choosing a location for a factory?

Answer 37

Whether local labour meets the skills required to maintain quality standards i.e. locations where labour is cheap, most of the workers are unskilled and often poorly educated

Whether there would be enough workers for the future expansions

Question 38

What problem arises when trade unions interfere? pg.177

Answer 38

Trade unions are organisations that represent workers in different industries and protect their rights and interests

As trade union interferes to advocate for higher wages, demand for labour falls, so wages rise at the expense of jobs of some employees.

Job losses are avoided if,

• productivity of labour rises at the same time as wage rate
• employers will charge higher prices to compensate on expensive labour
• employers meet the cost of wage increase and thus reduce the profit margin

Question 39

How does government regulate competition? pg.182

Answer 39

Promoting competition
-encourage small firms
-lower barriers to entry
-introduce legislation
Limit monopoly power
Protect consumer interests
Control mergers and takeovers

Question 40

What are the reasons and impact of minimum wages as government intervention in the labour market? pg.185

Answer 40

Reasons:

• raise the incomes of low paid workers (disadvantaged workers like minority groups);
• reduce the gap between rich and poor;
• save government money (less welfare benefits paid if incomes are increased);
• motivate workers => boost productivity in the economy;
• employers will want to justify higher wages so will try to maximise the productivity of their workers through training => boosts productivity in the economy ;

Impact:

• according to economic theory, minimum wage has a negative impact on the level of employment => job losses;
• according to UK and USA examples, there had been better performance (lower unemployment, higher average hourly wage), however these economies grew over time so demand for labour was naturally increasing;