Business Economics Flashcards
Allocative efficiency
when society produces an appropriate amount of a good relative to consumer preferences (i.e. the allocation of resources maximise) (P = MC)
Allocative efficiency on a graph
P = MC
Barometric price leadership
When one firm’s price decision (caused by changes in the macroeconomic environment or market conditions in the industry) results in all other firms in the industry changing their prices by the same amount
Barriers to entry
Factors which make it hard for a new firm to join a market
Barriers to exit
Factors which make it hard for a firm to leave a market
Cartel
A formula collusive agreement between firms to limit competition by fixing price or output
Collusion
Collective agreements between firms that restrict competition (e.g. set output quotas, fix prices, limit product promotion, agree not to poach each other’s markets)
Competitive tendering
When the public sector calls for private firms to bid for a contract for a provision of a good or service
Concentration ratio
Market domination by the top ‘n’ firms in an industry
Consumer surplus
Difference between what a consumer pays and what they would be prepared to pay
Contestable market
When an entrant has access to all production techniques available to the incumbents, there is no brand loyalty; low entry and exit barriers and low sunk costs
Contracting out
Where the public sector places activities in the hands of a private firm and pays for its provision
Cost plus pricing
Setting a price based on average cost plus a % markup
Covert collusion
Where firms meet secretly to make price, output and tender decisions
Diseconomies of scale
Increase in the long run average cost when the scale of output increases
Economic of scale
Reduction in long run average cost when the scale of output increases
External economic of scale
Reduction in long run average cost experienced by firms in an industry when the whole industry expands
Fixed costs
Costs which do not change when output changes
Game theory
A method of modelling the strategic interaction between firms in an oligopoly (analysis of situations in which players are interdependent)
Hit-and-run competition
when a firm enters an industry to take advantage of temporarily high profits and quits once the profits have been exhausted
Horizontal integration
when two firms in the same industry at the same stage of production combine
Imperfect competition
the collective name for monopolistic competition and oligopoly
Lateral integration
when two firms in different industries combine
Limited liability
restriction of an owner’s loss in a business to the amount they have invested in it
Limit (entry) pricing
setting price with the intention of discouraging the entry of new firms
Long run
time period in which all factor inputs may be varied
Marginal cost
change in total cost when output changes by one unit
Marginal cost pricing
setting price equal to marginal cost
Marginal revenue
change in total revenue when sales change by one unit
Merger
The fusion of two or more companies into one
Minimum efficient scale (MES)
Lowest output level at which long run average cost is minimised
Monopolistic competition
A market structure in which there is a large number of firms producing a slightly differentiated product
Monopoly
Sole supplier
Monopsony
Sole buyer
Natural monopoly
An industry in which scale economies can be gained at any realistic output level
Non-price warfare
Trying to gain sales by focusing on factors other than price
Normal profit (2 meaning)
1) The profit that the firm could make by using its resources in their next best use (opportunity cost)
2) The minimum level of profit to keep a firm in the industry in the long run
Oligopoly
A market dominated by a few firms
Duopoly
A market dominated by 2 firms
Organic/internal growth
Growth from within the firm by expanding its current market or finding new markets
External growth
Integration of two or more formally separate firms, e.g. through a takeover
Perfect competition
A market structure containing no market imperfections
First degree price discrimination (perfect)
When a monopolist charges each consumer the maximum they are prepared to pay (captures the entire consumer surplus)
Predatory pricing
When a firm sets its price below its average variable cost to drive out competition
Price capping
Regulation which adjusts the utility’s prices according to a price cap index
Price discrimination
Charging different prices to different consumers for the same good (appropriating some of the consumer surplus)
Price maker
Firm has power to set its own price (i.e. faces a downward sloping demand curve)
Price taker
where firms must accept the market price (i.e. face a horizontal demand curve)
Pricipal-agent problem
conflict between the owners and the agents acting on their behalf
Private Finance Initiative (PFI)
a way of finding public infrastructure projects with private capital
Privatisation
transfer of assets from public to private sector
Producer surplus
difference between the price received by a firm and the minimum price for which it would have been prepared to sell the good
Product differentiation
making a product different from the competition
Product proliferation
when one company introduces new brands in the same product lines trying to capture each and every market segment for that product line
Productive efficiency
Producing at lowest average cost (MC = AC)
Prodcutive efficiency on a graph
MC = AR
Profit maximisation
Output level yielding largest profits (MC = MR)
Profit maximisation on a graph
MC = MR
Public private partnership
An arrangement by which a government service or private business venture is funded and operated through a partnership of government and private sector
Regulatory capture
Where the regulator comes to identify with the interests of the firm it regulates, becoming its champion not its watchdog (regulator starts to serve the interests of the monopolists rather than limit their power)
Relevant market
A market to be investigated under competition law, meaning no major substituted are omitted
Sales maximisation
Highest output level without making a loss (AC = AR)
Sales maximisation on a graph
AC = AR
Satisficing
Non-maximising behaviour
Short tun
Time period in which at least one factor of production must be fixed
Sunk costs
Costs that cannot be recovered once a firm leaves an industry (e.g. advertising)
Surplus/supernormal/abnormal profit
Profit in excess of normal profit
Tacit collusion
Implicit cooperation (when firms collude without any formal agreement having been reached and where there is no explicit communication between firms and strategies)
Takeover
When one firm becomes the owner of another firm (external growth)
Variable costs
Costs which change with output
Vertical integration
When two firms combine in the same industry at different production stages
X-inefficiency
Managerial or operations slack resulting in average cost being high that it needs to be
Economic cost =
Money cost + imputed cost
Imputed cost
The opportunity cost of factors of production (i.e. what they could have generated elsewhere)
‘Peer to peer’ (P2P) lending
Individuals and organisation directly lend money to small businesses
How can the size of a firm be measured?
1) Sales turnover
2) Numbers employed
3) Market share
4) Stock market value
5) Value of its assets
What is the difference between a private and public limited company?
A private company’s shared cannot be sold without permission whereas a PLC’s shares are traded openly
Why are firms motivated to grow?
1) Exploit economies of scale
2) Gain a greater degree of market power
3) Risk management through product diversification
4) Expand into markets where there are major growth prospects
Why do small firms still exist?
1) Minimum efficient scale of production is low in many industries
2) Some specialist or niche markets exist that large companies don’t want to supply
3) Co-operatives allow small businesses to gain the advantages of bulk buying whilst retaining their independence
4) Large firms may allow smaller firms to exist to disguise their monopoly power
5) Many family owned businesses are not prepared to take the risk of expansion
What are the potential disadvantages of growth?
1) Diseconomies of scale
2) Customers payed less personal attention
3) A firm may have insufficient working capital to meet their increased financial commitments (Overtrading)
Forward-vertical integration
When a firm joins with another firm at the next stage of the production or distribution process
Backwards-vertical integration
When a firm joins with another firm at the previous stage of the production or distribution process
Conglomerate
A firm that owns a large number of diversified businesses
Lateral integration
When companies join together that produce similar but related products
Economies of scope
occur where it is cheaper to produce a range of products rather than specialize in a handful of products
Joint venture
When two or more firms enter into an agreement to combine resources for a specific business undertaking
How does the Herfindahl Index work?
Calculates market concentration by squaring the percentage market share of each firm in the market and summing these number
What numbers generated by the Herfindahl Index signify…
a) a pure monopoly
b) perfect competition
a) 10,000
b) 10 or less
What are the advantages of external growth for a firm?
1) Acquisition of market power
2) Economies of scale
3) Diversification
How does diversification provide firms with greater risk-bearing capabilities?
1) Lateral integration makes firms better able to withstand a slump in any one market
2) Horizontal integration can give firms more geographical and brand diversification
What are the advantages of vertical integration to a firm?
1) Cost savings are made through cutting out profit margins at intermediate stages of production
2) Can act as a barrier to entry making markets less contestable
Why is integration potentially damaging to an economy?
1) Confers a degree of monopoly power
2) Post merger rationalisation often leads to a direct loss of jobs