Chapter 3 - part 2 NB Flashcards
How are prices ultimately set?
Determined by costs. Firms need to cover variable and fixed costs to be profitable therefore higher the costs, the greater the price to consumer.
Differentiate between common and joint costs
- Common costs - cost not attributable to a specific cost object - usually infrastructure and corporate overheads
- Joint costs - Costs that cannot be attributable to only one cost object but shared between two or more services - related to operation of services; production of one good/service leads to production of another good/service; same train travels forward and backward - two services
What is Financial Contribution Analysis?
Analysis technique that measures service/traffic level financial performance. Is a method to estimate financial feasibility of a service. Total revenue compared with total cost for each service/traffic level to establish if TR>TC.
What are the three main cost thresholds that are commonly measured and compared with revenue?
- Short-run variable (avoidable) - we can’t use short run costs to make long term policies
- Long-run variable (avoidable) - MOST IMPORTANT THRESHOLD = indicates whether and how much the service or traffic level is making as a positive long-term financial contribution to the railway. includes all costs relevant to the decision-making process. Price floor=efficient LRVC value
- Fully allocated costs (FAC) - LRVC + joint and common costs = total railway costs. Useful in PSC negotiations
What should the price be equal to in order to maximise overall economic welfare for the whole community?
Economically efficient approach is for prices to equal the marginal social costs of railway services
Why do no passenger railway networks follow the MSC=price theory?
- Concept of margin is a very small unit of output, much bigger unit in real life
- Railway costs that are variable are less than total costs, so pure marginal cost pricing will lead to financial losses
- Railway firms do not include external costs in their prices, negating the assumption underlying the theory
How are general railway prices set in reality
Adapt pricing practices to their markets, customers, regulations and the socio-economic norms in which they operate
What sets freight prices?
Prices for freight rail should always be determined by the competition. The rate should be highest the market will bear- taking account of prices charged by competitors, except under special circumstances such as nurturing new service. Rate must cover price-floor of LRVC
