Economics Paper 1 Flashcards
Outline what a free market economy is.
When governments do not intervene within a market and supply and demand allocate scare resources.
Outline what an advantage of a free market economy is.
Lower prices due to greater compeition which can lead to greater innovation.
Profit motive for firms.
Outline what a command economy is
when the government controls all major aspects of the economy and economic production
Outline a disadvantage of a free market economy.
Inequality due to the ability of inheriting wealth.
Monopolies can exploit consumers through higher prices.
Outline an advantage of a command economy.
Prevent monopolies abusing power.
Outline a disadvantage of a command economy
less incentive to be efficent.
What did Karl Marx support.
Command economy
What economic thinker believed in the free market.
Adam Smith and Fredrick Hayek
Outline what a mixed economy is
Combines both free market and command economy where supply and demand allocate resources as well as government intervention.
Disadvantage of mixed economy
Can lead to government failure.
Advantages of mixed economy.
Can minimise market failure such as regulation on monopolies for example the CMA blocking mergers.
What is opportunity cost.
the next best alternative forgone
What shifts the PPF curve
New technology
Change in resources i.e more land
Improvement in education/productivity.
YED for a normal good
Between 0 and 1
YED for a luxury good
Greater than 1
YED for an inferior good
Less than 0 (negative)
What is monopolistic competition
many firms sell differentiated products and have some degree of market power, but the market still exhibits competition.
Features of a monopolistic competition.
Price makers
Low barriers to entry and exit
Many producers and consumers
Aim to profit maximise at MC = MR
Advantages of a monopolistic competition
Product differentiation - firms innovate to stand out and become dynamically efficient.
Disadvantages of a monopolistic competition
Not allocatively efficent at P = MC
Outline what consumer surplus is
the difference between what consumers are willing to pay for a good or service and what they actually pay.
Outline what producer surplus is
the price at which a producer is willing to sell a good or service and the price they actually receive.
Outline what a monopsony is.
a single buyer of a good, service or labour. They have strong marker power over seller and can influence prices/wage rate and terms of trade.
Advantage of a monopsony.
Firms have lower AC therefore are productively efficent and gan SNP and can innovate.
Disadvantage of a monopsony.
Reduction in wages and an increase in inequality which can lead to barriers to education, healthcare and employment opportunities.
Outline factors that shift the supply curve
Advancements in technology
Increased cost of production
Outline factors that shift the demand curve.
Peoples income
Number of substitute goods
Outline XED
Measures the percentage change in quantity demand for a good after a change in the price of another.
Formula for XED
XED = % change in QD of good A / % change in price of good B.
XED values
Substitute - greater than 1
Compliment - Less than 0
Unrelated - 0
Inelastic (Less than 1) - Weak
Elastic (Greater than 1) - Strong
Outline what the Nash equilibrium is
Where no one gains by chaining strategy (found on the bottom right of the game theory diagram).
What is a Cartel?
Group of firm that are colluding i.e opec is a legal cartel.
Outline overt collusion.
Formal agreement between firms to collude.
Outline tacit collusion
unspoken actions to limit competitiveness and collude.
Outline what an oligopoly is
where a small number of firms dominate the industry, meaning that there are only a few sellers who hold a large share of the market. (Dog fight for market share).
Not allocative or productively efficent.
Characteristics of an oligopoly
Few firms dominate the market
differentiated goods
price makers
High barriers to entry and exit
Advantage of an oligopoly
Benefit from purchasing economies of scale meaning they are more likely to have access to SNP meaning they can undertake risky RnD and innovation and increase the quality of goods which can provide a competitive advantage.
Disadvantage of an oligopoly.
Firms may collude to charge higher prices therefore exploiting consumers. This collusion can be difficult to regulate and find out about.
What diagram can be used when showing price rigidity in an oligopoly market.
The kinked demand curve. If a firm increases price consumers switch to rivals and loose market share.
If a firm reduces prices then other firms also copy to not loose market share in the long run. (In the short run the firm that lowers their prices can see an increase in sales revenue).
Outline horizontal integration.
two business in the same industry merge at the same stage of production.
Example of horizontal integration.
BA and Iberia.
What is forward vertical integration?
involves acquiring a business in the same industry but higher on supply chain.
What is backward vertical integration?
involves acquiring a business in the same industry but further down the supply chain.
Example of vertical integration.
Apple is known for design and owning all key manufacturing components/processes.
Advantage of vertical integration
Total control over materials and quality which protects the firms brand image.
Disadvantage of vertical integration
Can lead to firms becoming large meaning the principal agent problem can be an issue which can lead to short term thinking to maximise personal benefits.
Advantage of horizontal integration.
increase in market share and less competition so firms may be able to spend less on advertising lowering average costs and have large control over prices.
Disadvantage of horizontal integration.
Competiton authorities such as the CMA may block mergers as they feel market share will be too large and consumers may be exploited. Such as the blocked merger between Sainsbury’s and Asda.
Outline what conglomerate integration is.
Firms form different industries merging. I.e Facebook merging with Oculus.
Advantage of conglomerate integration.
Allows firms to diversify across industries spreading risk making them less vunerable which can give firms more confidence to undertake risky RnD increasing quality an consumer choice.
Disadvantage of conglomerate integration.
Lack of experience in the new sector which can increasing firms venerability to competition.
Outline what organic growth is.
When firms grow their market share and/or revenue through internal efforts such as developing new products.
Advantage of organic growth
Lower risk.
Allows owner to have full control.
Disadvantage of organic growth.
Slower growth.
Outline what a positive statement is.
Is a factual statement that can be tested true or false. Such as the uk is an island.
Outline what a normative statement is.
a value judgement. I.e the UK should impose a road tax on cyclists.
What impact will migration have on labour (leaving the country)?
Supply of labour decreases therefore wage rate increases.
Outline what price discrimination is.
when a firm charges a different groups of consumers different prices for the same good i.e a student bus faire.
What are the 3 conditions necessary for price discrimination.
The first must have market power
Must have information about consumers elasticities
Must be able to limit reselling
Advantage of price discrimination to consumers.
Can cross subsidise loss making services i.e pensioner discounts funded by higher prices for adults.
Advantage of price discrimination to firms.
Make higher revenue/profit than if they just charged one set price. - Show on diagram.
Disadvantage of price discrimination.
Can reduce consumer surplus as more money being transferred to firms increasing inequality such as through inheritance of assets.
Profits from price discrimination could be used to finance predatory pricing.
Where is profit maximisation found?
MR = MC
Where is revenue maximisation found?
MR = 0
Where is sales maximisation found?
Average revenue = AC
What efficiencies are present in perfect competition in the short run?
Allocative efficient.
What efficiencies are present in perfect competition in the long run?
Productive
Allocative
Characteristics of perfect competition.
Many buyers and sellers
Homogenous goods
Price taker
Perfect information - buyers and sellers.
What happens if firms in a perfectly competitive market make SNP in the short - run?
SNP would attract new firms due to the easy of entry increasing supply and lowering price therefore firms would make normal profit in the long - run.
What happens if firms in a perfectly competitive market make a loss?
Firms leave the market due to ease of exit so lower supply and an increase in price leading to normal profit. Furthermore, this increase in competition would push firms to become more efficient further lowering AC.
Outline what direct taxes are.
Taxes paid directly to the government by individuals or businesses on income or wealth. I.e income tax, corporation tax, CGT or inheritance tax.
Outline what indirect taxes are.
paid by a third party i.e VAT and exercise duties (taxes on items such as alcohol and cigarettes).
Outline what a progressive tax is.
Takes a higher percentage of tax from people with higher incomes.
Outline what a regressive tax is.
Takes a higher percentage of tax from people with low income.
Outline what an ad valorem tax is. (Indirect).
A certain percentage of the price of the good. VAT is levied at 20% so the more expensive the good is the more VAT that is paid.
Outline what a specific tax is. (Indirect).
A fixed amount of tax on a good. For example, a £20 passenger levy on a long-haul flight.
Name all types of government intervention.
Maximum and minimum prices.
Tradable pollution permits.
Taxes.
Subsidies.
State provision of information.
State provision of public goods.
Regulation.
One likely effect of reducing the number of tradable pollution permits. (Gov intervention).
Reduce the supply of permits therefore increasing the price.
Adv of maximum/minimum prices. (Gov intervention).
Stops the overproduction/decentivises.
Disadvantage of maximum/minimum prices. (Gov intervention).
Can lead to shortages of goods - increasing price - reducing consumer surplus.
Adv of tradable pollution permits. (Gov intervention).
High tax revenues due to the sale of permits.
Incentive to reduce pollution as firms can sell excess permits increasing revenue.
Disadvantage of tradable pollution permits. (Gov intervention).
High administrative costs - Gov failure. (Difficult to monitor and impose fines).
Disadvantage of taxes/subsidies. (Gov intervention).
PED of good will it make much difference?
Taxes can be regressive increasing inequality.
Adv of taxes/subsidies. (Gov intervention).
Can reduce negative externalities discouraging consumption of demerit goods moving back to socially optimum level of production and consumption.
Outline state provision of information. (Gov intervention).
when the government helps to close information gaps.
Adv of state provision of information. (Gov intervention).
Can reduce consumption of demerit goods. - Positive externality.
Disadvantage of state provision of information. (Gov intervention).
Increase cost for businesses to comply with new laws that may have been implemented to combat.
Outline state provision of goods. (Gov intervention).
When the government produces a good/service typically a necessity i.e healthcare or public good which the free market struggles to provide.
Adv of state provision of goods. (Gov intervention).
No profit motive therefore can charge lower prices to consumers increasing consumer wealth fare and disposable income which can be spent elsewhere.
Disadvantage of state provision of goods. (Gov intervention).
Costs a huge amount of money - 150bn on healthcare - can lead to a raise in taxes and larger national debt.
May have to be privatised to compete with new private firms who have a profit motive and therefore may be more efficient.
Adv of regulation. (Gov intervention).
Simple and easy to understand therefore people/firms are more likely to follow them.
Disadvantage of regulation. (Gov intervention).
Difficult to decide exactly what regulation and punishment (fines) but needs to be great enough to stop negative externalities.
Outline some reasons for remaining small.
Avoid diseconomies of scale.
Avoiding having to add VAT to goods and services (£90,000 threshold).
Niche market - Charge higher prices - more profitable.
Owner wish to remain in control.
Owner preferences - Profit scatisifise.
What is a merger.
When two firms agree to combine and operate as a single firm.
ADV of a merger.
Synergy - one firm may be more efficent.
Economies of scale
Access to new markets
Shared resources
Lower competiton - can give higher pricing power (increase or decrease price).
Disadvantage of a merger.
Job losses.
Diseconomies of scale.
CMA may block the merger.
Culture clashes.
Outline what PES is.
measures the responsiveness of quantity supplied to a change in price.
Formula for PES.
% change in QS/ % change in P.
What determines elasticity of PES.
Time period - short tun - inelastic - can’t change production. Long run - elastic can hire labour.
Spare capacity
Availability of factors of production.
What is the division of labour (this is different to specialisation)?
Where the production process is split into different tasks, and each worker focuses on one specific task.
An advantage of the division of labour.
Firms only have to train workers in one specific role meaning they can lower their costs/training costs.
Disadvantage of the division of labour.
Workers can become bored and demotivated therefore becoming less productive - may also increase absenteeism and labour turnover increasing costs.
Outline what a public good is (2 conditions).
A public good has to be non - rivalry (This means that when a good is consumed, it doesn’t reduce the amount available for others). And non - excludability (not possible to provide a good without it being possible for others to enjoy).
Are public goods under - provided in the free market?
Yes due to them being non - rivalry and non - excludable firms may not provide the good as they have difficulty charging people for their use.
What is the main problem with public goods?
The free rider problem - it is not possible to prevent anyone from enjoying a good, once it has been provided. Therefore there is no incentive for people to pay for the good because they can consume it without paying for it.
Outline factors that shift demand.
Income of consumers.
Price of substitutes.
Price of compliments.
Change in trends/fashion.
Seasonal.
Advertising.
Outline factors that shift supply.
A decrease in costs of production.
More firms.
Investment in capacity
The profitability of alternative products.
Productivity of workers.
Technological improvements
Lower tax.
Government subsidies.
How do you calculate PED.
% change in QD/% change in price.
Outline what PED is.
Measures the responsiveness of demand after a change in price.
What is the value for elastic PED?
Greater than 1. (change in price leads to a bigger % change in demand)
What is the value for inelastic PED?
Less than 1. ( a change in price leads to a smaller % change in demand).
Characteristics of a good with elastic demand.
Luxury (greater than 1).
Expensive and a big % of income.
Goods with many substitutes and a very competitive market.
Characteristics of a good with inelastic demand.
They have few or no close substitutes.
They cost a small % of income
Habitual.
Formula for YED.
% change in demand/% change in income.
Definition of an Inferior Good.
When an increase in income leads to a fall in demand - low quality good so as income rises you purchase less.
YED is less than 0.
Definition of a normal good.
This occurs when an increase in income leads to an increase in demand for the good.
YED is greater than 0 but less than 1.
Definition of a luxury good.
Demand for the good rises more than the increase in income i.e a 25% increase in demand for video games with a 10% increase in income.
YED is greater than 1.
Outline what a substitute good is (XED) - analysis mark.
increase in the price
of one good (in case study) will lead to an increase in
the demand for other another good (in case study).
Greater than 1.
Outline what a complimentary good is.
A good that is consumed together with another good.
When the price of one good rises, the demand for its complement falls.
Less than 1.
Incorporate the case study within this i.e the compliment good of ….
Outline what specialisation is.
When workers are assigned specific tasks within a production process.
ADV of specialisation.
Increased labour productivity - increases output for firms - utilise purchasing economies of scale - become more productively efficient - competitive advantage.
Disadvantage of specialisation.
Workers can become bored - increasing labour turnover - increases hiring and training costs (and time spent supporting new staff) - which can lower motivation within the firm increasing waste and reducing quality - less competitive.
Outline the 4 functions of money.
Medium of exchange.
Unit of account.
Method of deferred payment.
Store of value.
Outline store of value (function of money).
If we don’t want to spend our money now we can store it and it will keep its value for the future.
Outline method of deferred payment (function of money).
Money is used to pay back debt (we can postpone payment into the future).
Outline unit of account (function of money).
We can use money to value goods, and can give different goods clear and distinct prices. - Money makes it easier to compare goods.
Outline medium of exchange (function of money).
Used for buying and selling goods rather than having to barter for something.
Name the 4 types of government failure.
Information gaps.
Distortion of price signals. i.e rent controls - discourage landlords.
Excessive administrative costs. i.e regulation.
Unintended consequences. i.e reducing benefits can increase the incentive to work however it can also increase inequality.
What is government failure.
When government intervention leads to a net welfare loss and insufficient allocation of resources.
Name the 4 types of market failure.
Negative and positive externalities.
Under - provision of public good (non - rivalry and non - excludable - free rider problem).
Information gaps.
Outline what the price mechanism is.
The system where prices are determined by the forces of demand and supply, and these prices then allocate scarce resources in a economy.
Outline the three key functions of the price mechanism.
Signalling function.
Incentive function.
Rationing function.
Outline the signalling function (price mechanism).
Prices signal to producers and consumers about changes in market conditions.
→ Rising prices signal higher demand or lower supply.
→ Falling prices signal lower demand or excess supply.
Outline the incentive function (price mechanism).
Prices provide incentives to change behaviour:
→ Higher prices encourage producers to supply more (profit motive).
→ Lower prices encourage consumers to buy more.
Outline what the principle agent problem is.
occurs when the interests of an agent (manager) differs from the principle (owner) leading to a conflict in interest.
Outline factors which determine the survival of small firms.
- Competitive advantage - Niche market - innovate.
- Access to finance - difficult to access when small which can slow growth - EV - business grants.
- Flexibility and Adaptability
- Regulatory and Legal Environment - increases costs and can cause barriers to entry issues in some industries.
- Human Capital - Skilled workforce?
Outline factors that constrain business growth.
- Access to finance - high interest rate increases the cost of borrowing.
- Market constraints - high B2E/ market could be saturated/ structure of the market i.e oligopoly.
- Operational Constraints - supply chain issues / capacity limitations - lack of equipment.
- Regulatory and Legal Constraints
- Technological Constraints - Expensive to implement and can give other firms large advantages.
-External Economic Factors - inflation recessions.
Name the 3 times of diseconomies of scale.
Alienation.
Beaucracy.
Communication.
Types of economies of scale.
Internal:
Technical.
Purchasing.
Marketing.
Financial.
Managerial.
Risk bearing.
Example of external economies of scale.
Improved Infrastructure.
Outline what MES means.
Minimum efficient scale - lowest point on the long run average cost curve and is also known as an output range over which a business achieves productive efficiency.
