Economies of scale

Question 1

Economies of scale

Answer 1

A reduction in the long run average costs as output increases , because we begin to repay the fixed costs over time

Question 2

Total cost=

Answer 2

Fixed cost(costs that don’t change with output)+ variable output(costs that change with output)

Question 3

Internal economies of scale

Answer 3

Within a businesses’ control, businesses can exploit them

Question 4

Average cost for economies of scale

Answer 4

Total cost/quantity(if quantity increases faster than total cost, average cost will go down, producing more units at a lower cost meaning average unit costs drop, until average costs reach their lowest points)

Question 5

Types of internal economies of scale

Answer 5

Risk Bearing(how much risk the business will take on)
Financial - how much money the business will spend(as a business is larger, they can negotiate lower rates of interest)
Management of businesses - as a firm gets larger, specialist managers and workers are brought in to improve productivity,meaning quantity will rise faster than total cost
Technical - specialist machinery/technology skills can improve productivity
Marketing e.g. bulk buying advertising(purchasing a large number of advertising at once) can negotiate better unit rates of advertising and spread advertising costs over a wider range of output
Purchasing - buying raw materials, can negotiate unit discounts(quantity rises in company faster than costs)

Question 6

Diseconomies of scale

Answer 6

An increase in the long run average costs as output increases

Question 7

How unit costs become cheaper in internal economies of scale

Answer 7

Can spread fixed costs over a wide range of output - unit costs become cheaper

Question 8

External economies of scale

Answer 8

Better transport infrastructure
Component suppliers move close
Research and Development Firms move closer

Question 9

Average cost(external economies of scale)

Answer 9

Reducing total cost while output remains the same - this brings down average cost

Question 10

Profit=

Answer 10

Total revenue - total cost

Question 11

Diseconomies of scale

Answer 11

1. Control
2. Communication
3. Coordination
4. Motivation
   All more difficult as organisations are bigger and there are lots of costly businesses around the country(price of unit starts to go up)

Question 12

Average cost(diseconomies of scale)

Answer 12

Total cost increases more than quantity(average cost increases)

Question 13

Market

Answer 13

A place where buyers and sellers meet to exchange goods for money

Question 14

Four different types of market

Answer 14

1. Perfectly competitive market
   2.Monopoly
   3.Monopolisticly Competitive Market
   4.Oligopoly

Question 15

Perfectly competitive market features

Answer 15

1. Many buyers and sellers(infinite)
2. Homogenous goods(sell an identical good/product): firms are price takers(no ability to set own prices)
3. No barriers to entry/exit
4. Perfect information
5. Firms are all profit maximisers(will produce when marginal cost = marginal revenue)

Question 16

What does it mean the more firms in each market?

Answer 16

The lower the profits for each player

Question 17

Long run

Answer 17

When normal profit is being made. Firms in a perfectly competitive market can profit maximise in the short run(to make supernormal profits), but in the long run, firms can only gain normal profits.

Question 18

What happens if, in a perfectly competitive market, there are supernormal profits to be earned?

Answer 18

New firms are attracted to markets, so these profits get competed away, therefore in the long run, everyone just earns normal profit. Here, the average cost curve will move up and touch the marginal cost curve(all supernormal profits are taken away and normal profit is left at the end). This is also because, as other firms enter the market, the supply curve will shift to the right and the price will fall.

Question 19

Which market do consumers prefer?

Answer 19

Consumers prefer a competitive market,which has lower prices than a market without competition(e.g. monopoly- only one firm in the market).

Question 20

Dynamic efficiency

Answer 20

If you’re reinvesting profits for growth

Question 21

Productive efficiency

Answer 21

Using the exact right amounts of factors of production without wasting resources e.g. firm operating at lowest point of average cost curve

Question 22

Allocative efficiency

Answer 22

Are we making the best use of available resources, where price = marginal cost

Question 23

Monopoly

Answer 23

A firm dominating more than 25% of the market share

Question 24

Pure monopoly

Answer 24

One seller/firm dominating 100% of the market

Question 25

Examples of monopolies

Answer 25

Technically Tesco - 27% of market share

Question 26

Barriers to entry/exit used by monopolies

Answer 26

Copyright, aysmmetric information, start up costs

Question 27

In a monopoly, where are you making supernormal profits?

Answer 27

If average revenue is greater than average cost at the equilibrium quantity

Question 28

Types of static efficiency

Answer 28

1) Allocative efficiency 2) Productive efficiency 3) X-Efficiency: By minimising wastage These types of efficiency don't change the size of the business

Question 29

Dividends

Answer 29

Profits shareholders are expected to be given

Question 30

Are monopolies dynamically efficient?

Answer 30

We don't know - don't know what they're doing with their long run supernormal profits

Question 31

Why is a perfectly competitive market structure more beneficial than a monopoly?

Answer 31

From the consumers' point of view, in the long run,they're only earning normal profits as prices are kept lower. Perfectly competitive markets also use resources more efficiently than monopolies, minimising wastage, which benefits consumers as a result of lower costs.

Question 32

Consequences of monopolies

Answer 32

Result in welfare/deadweight loss - customers unhappy due to high prices and limited choices(resources are being wasted/misused)

Question 33

Examples of external economies of scale

Answer 33

Silicon Valley- vast number of technology companies are headquartered there e.g. Apple, Alphabet's Google, Cheuron, Meta and Visa

Question 34

Market power

Answer 34

The ability of a business to set prices above a level that would exist in a highly competitive market

Question 35

Dominant firm

Answer 35

A firm which accounts for a significant share of a given market and has a significantly larger market share than its next largest rival. Dominant firms are typically considered to have market shares of 40 per cent or more

Question 36

Monopoly power

Answer 36

Refers to a situation where a single firm has control over a market for a particular product or service, allowing the firm to set prices and production levels without worrying about competition from other firms

Question 37

Why does a monopoly have a downward sloping AR and MR curve?

Answer 37

A monopoly has price setting or price making power

Question 38

Disadvantages of monopoly power

Answer 38

Prices are higher in a monopoly than under competition, which leads to a loss of allocative efficiency(P>MC). High monopoly prices can have regressive effects on lower-income households, whose real incomes are diminished. A monopoly might get too big, leading to diseconomies of scale in the long run and a loss of productive efficiency

Question 39

Arguments in favour of monopoly power

Answer 39

Profits for a monopoly firms can be used to fund extra capital investment and research projects, which accelerates innovation. Monopolistic firms can be regulated via an industry regulator acting as a proxy consumer to help keep prices down and standards of service high. A natural monopoly benefits from huge economies of scale, which leads to lower average costs and lower prices. This is because a dominant firm can achieve significant internal economies of scale, meaning the average cost of supplying to the market is lower than if the market was fragmented with lots of smaller competing businesses

Question 40

Policies to control monopoly power

Answer 40

Industry regulation e.g. OFGEM sets an energy price cap Trade liberalisation - Free trade makes markets contestable e.g. trade deal with Australia and Japan Windfall taxes e.g. Labour Party calling for a one-off windfall tax on the supernormal profits of energy firms Price caps on a monopoly - Encourage cost efficiency and increases consumer surplus

Question 41

Evaluation on monopoly power

Answer 41

Firms with market power are not always profit maximisers Some barriers to entry are coming down, making markets less monopolistic and more contestable Impact of a monopoly depends on how strong and effective is an industry regulator

Question 42

Limits on market power of established firms in an industry

Answer 42

1) Threat of new entrants/substitutes including from overseas markets 2) Government intervention such as price caps and active use of competition policy such as blocking mergers and CMA investigations into collusive behaviour 3) Bargaining power of buyers limits to people's real effective demand e.g. in a cost of living crisis

Question 43

Benefits for consumers of the UK energy price cap

Answer 43

1) Has helped control the monopoly power of dominant energy suppliers - leading to lower prices and a higher level of consumer surplus 2) Before 2022, the EPC made energy bills more predictable for consumers helping them plan.Particularly important for larger families with big bills.

Question 44

Limits for consumers of the UK energy price cap

Answer 44

1) The price cap has led to decreased contestability in the energy market, because smaller suppliers made heavy losses when wholesale prices soared in 2022 - many were bought up by larger firms. 2) The energy price cap doesn't address the long term reasons why gas and electricity prices are high - including under investment in renewables

Question 45

Barriers to entry

Answer 45

Strategies/factors designed to block potential entrants from entering a market profitably: protect market power of existing firms, maintain supernormal profits and increase producer surplus

Question 46

Examples of entry barriers in markets

Answer 46

Economies of scale: Established firms may have lower production costs due to their larger size, making it harder for smaller firms to compete. Product differentiation: If a firm has a unique product or service, it can be hard for new firms to produce a comparable offering. High fixed costs: Some industries require significant upfront investment, like research and development or specialised equipment, making it hard for new firms to enter.

Question 47

Cost asymmetry

Answer 47

There is often an asymmetry in costs between an incumbent firm and potential entrants. If existing businesses have managed to exploit internal economies of scale and therefore developed a unit cost advantage, they can cut prices when new suppliers enter the market.

Question 48

Limit pricing

Answer 48

Pricing by the incumbent firms to deter the entry or expansion of fringe/new firms. The limit price is below the short run profit maximising price, but above the competitive level. Limit pricing means a short-run departure from profit maximisation.

Question 49

Limit pricing as a barrier to entry

Answer 49

The monopoly sets its prices low enough to discourage new firms from entering, but not so low it sacrifices profits.

Question 50

Predatory pricing

Answer 50

Where a monopoly intentionally sets prices so low(below cost) drives its competitors out of business. An anti-competitive move that's illegal in most countries and can lead to hefty fines.

Question 51

Significance of high entry barriers

Answer 51

The height of entry barriers affects the concentration of a market in the long run. High entry barriers make a market less contestable. Market power can lead to a loss of allocative efficiency(price> marginal cost).

Question 52

Examples of barriers to entry in commercial banking

Answer 52

Regulatory barriers - new entrants need a banking licence by the central bank to become a licensed deposit taker Natural or intrinsic barriers to entry - costs of entering the market include marketing costs, building IT and payments infrastructure. First mover advantages: strong brand loyalty for established banks, access to wholesale market funding

Question 53

Examples of new technologies and lower entry barriers

Answer 53

Online platforms: Companies like Uber and Airbnb have disrupted traditional industries by using technology to connect people and facilitate transactions. 3D Printing: This technology has made it easier for smaller businesses to produce goods at lower costs, allowing them to enter markets previously dominated by larger firms. Cloud computing: This technology has allowed small firms to access powerful computing resources at a low cost, levelling the playing field and lowering barriers to entry. Increased availability of open-source software and sales platforms such as Amazon Web services Growth of businesses prepared to use disruptive pricing models based on algorithms

Question 54

First mover advantage

Answer 54

The idea that, by being the first to enter a new market , a business gains a commercial advantage over actual and potential rivals leading to higher revenues and profits over time

Question 55

Four business objectives

Answer 55

Profit maximisation Revenue maximisation Profit satisficing Maximising sales

Question 56

Advantages of lower entry barriers

Answer 56

Market becomes more contestable in the long run: competition drives down prices(increased consumer surplus, real incomes, improved affordability), improves product quality(innovation), higher productivity, meaning a more efficient allocation of scarce resources, and the economy is more competitive in global markets

Question 57

Disadvantages of lower entry barriers

Answer 57

Lower supernormal profits might reduce the finance to fund capital investment e.g. utilities, and therefore weaker tax revenues for the government. Rapid entry of new firms might lead to over-supply which drags prices lower and makes an industry less sustainable(renewable power?) Low barriers to entry is no guarantee of a contestable market - old established monopolies might soon be replaced by new ones(Uber?)

Question 58

Barriers to exit

Answer 58

The costs associated with a decision by a business to leave a market/industry, because they're making sub-normal profits

Question 59

Examples of barriers to exit

Answer 59

Lost goodwill with consumers Redundancy costs for the workforce Reduced value of owned equipment sold at rock-bottom prices in a fire sale

Question 60

Sunk cost fallacy

Answer 60

When firms are reluctant to realise the investment made in a business that is lost if the firm leaves the market

Question 61

Barriers to entry for new businesses in the UK sports-wear market

Answer 61

1. Economies of scale bring down a firm's LRAC and give scaled businesses a unit cost advantage, which is reflected in lower prices. 2. Brand loyalty: Strong brand loyalty reduces the cross-price elasticity of demand and raises the fixed costs of marketing needed for successful market entry. 3. Distribution channels: Established brands might have strong relationships with retailers, which can make it difficult for new brands to get their products into stores.