Exam questions Flashcards
Why might incentives not be effective at distributing resources efficiently?
- the free rider problem
- the existence of merit and demerit goods
Why might incentives be effective at distributing resources efficiently?
incentives perform the rationing and signalling functions.
what is the rationing function?
the function of the price mechanism that ensures that the quantity purchased is equal to the quantity available and that the purchasers are the one who gain the most utility from it.`
What is the signalling function?
the function of the price mechanism that encourages economic agents to either leave or enter the market.
How do market economies allocate resources?
The price mechanism distributes resources at equilibrium where the consumers who are willing to purchase a good is equal to firms who are willing to produce it. This is what Adam Smith cals the invisible hand.
What is a quasi public good?
A good which exhibits qualities of both a public and a private good. It may be rivalrous or excludable but not both.
What is an example of a quasi public good?
Bridges. they are not completely excludable since anyone can use them but only so many vehicles can fit on them and are therefore excludable.
Why might the existence of public goods result in the free rider problem?
Since public goods are both non-rival and non-excludable, a non-purchaser may benefit from the good as much as someone who payed for the provision of the good. Therefore, a rational economic agent would free ride and gain all the utility of the good for one of the cost. However, if everyone does this, the good will not be provided at all.
What is a public and private partnership (PPP)?
A contract between the public sector and the private sector where the private sector works on government projects in return for profits drawn from tax payers and/or users over the duration of the contract. This enables specialisation. However, the private sector don’t have the same incentives.
What are tradable pollution permits?
Tradable pollution permits are regulated allowances that allow producers to generate pollution.
What is information provision?
When the government provides information to help people make better behavioural choices and alleviate information failure.For example, the the 5 a day fruit campaign.
What is state provision?
Goods and services provided directly by the government. This is seen with the provision of public goods like street lights in the UK.
What is competition policy?
Government policy and laws to limit monopoly power and prevent cartels. For example, the Sherman anti-trust act.
What is profit maximisation?
The business objective of maximising profit.
Where does profit maximization occur?
Where MR = MC
What are the assumptions underlying profit maximisation as a business objective?
assumptions underlying profit maximisation as a business objective?
It is based on the assumption that all firms have perfect knowledge not only about their own costs and revenues but also of other firms. It is also based on the assumption of rationality that firms will only concern themselves with profit.
Why might profit ,maximisation be relevant to a business?
Classical economic theory suggests firms will seek to maximise profits. The benefits of maximising profit include: Profit can be used to pay higher wages to owners and workers, reinvestment and research and development.
What is sales revenue maximisation?
The business objective to maximise the amount of revenue
What is sales volume maximisation?
The business objective to maximise the number of sales.
What is utility maximisation?
A scheme whereby individuals and companies seek to achieve the highest level of satisfaction from their economic decisions.
What is profit satisficing?
Doing the bare minimum to keep shareholders and investors happy and confident in the firm.
What is corporate social responsibility?
Corporate social responsibility is the concern businesses have for society and their stakeholders.
What is the principle-agent problem?c
The principles (shareholders) have a divorce in interests from the employees (agents). The principles want profit maximisation whilst employees want utility maximisation.
What is total variable cost?
the cost of all variable inputs used in producing a particular level of output
What is a variable input?
Any resource that can easily vary with a change in the quantity of output in the short run. For example: cotton for manufacturing t-shirts.
What is the relationship between average costs and output?
there is an inverse relationship since an increase in output enables the employment of more factors of production and more economies of scale. After a while these economies of scale will become diseconomies of scale, however.
What are internal economies of scale?
Internal economies of scale are falling long-run average costs associated with an increase in output for an individual firm.
What are external economies of scale?
conomies of scale shared with rival producers as a result of the industry being large.
What are the causes of internal economies of scale?
An increase in output.
What are the causes of external economies of scale?
External economies of scale happen because of larger changes within the industry, so when the industry grows, the average costs of business drop
What is technical economies of scale?
The fall in average cost a firm incurs from the increased use of large scale machinery due to increased output
What are managerial economies of scale?
The larger the scale of a firm, the greater its ability to benefit from specialisation and division of labour in management.
What are marketing economies of scale?
Larger firms have a lower unit cost of advertising. TV and billboard ads are worthwhile for big firms but too expensive for smaller firms
What are financial economies of scale?
Larger firms can often borrow money at a lower rate of interest - lending to them is seen by banks as less risky.
What are the internal economies of scale?
- technical
- managerial
- marketing
- financial
- purchasing
What are purchasing economies of scale?
When a business bulk buys supplies at a discounted rate which means that the cost per unit decreases.`
What are infrastructure economies of scale?
Higher settlement density for firms means that infrastructure built in that area is more cost effective. This may reduce unit costs.
What are the characteristics of a monopoly?
- High barriers to entry/exit
- one firm (in practice just a 25% market share)
- price making power
is a monopoly productively efficient?
No. A monopoly is productively inefficient because the output does not occur at the lowest point on the AC curve.
What is productive efficiency?
a situation in which a good or service is produced at the lowest possible cost
What is allocation efficiency?
A situation in which a good or service is distributed in the most efficient way, where there is no excess supply or demand.
What is dynamic efficiency?
A situation where both productive and allocative efficiency can be improved in the long run via the redistribution of resources into research and development. Supernormal profits may be invested into finding less costly methods of production.
What is a natural monopoly?
A natural monopoly occurs when the most efficient number of firms in the industry is one.
What is price discrimination?
the action of selling the same product at different prices to different buyers, in order to maximize sales and profits.
Do monopolies have x-efficiency?
No. low competitive pressure may cause organisational slack where the factors of production aren’t efficient and average cost will sit above the AC curve.
What are the advantages of a monopoly?
Supernormal profit/Economies of Scale/Price discrimination/Career progression
what are the disadvantages of a monopoly?
Allocatively and productively inefficient
- Higher prices
- lower quality
- Inequitable distribution of income
What are the characteristics of an oligopoly?
- five firm concentration rate of over 60%
- High entry barriers
- products are similar but not homogenous
- firms are interdependent
- firms are price-makers.
What are the two types of collusion?
- Tacit collusion
- Formal collusion
What is tacit collusion?
a situation occurring when firms refrain from competing on price, but without communication or formal agreement between them
What is formal collusion?
A group of firms openly agree to control the price and output of a product for instance: OPEC
What is product differentiation?
Occurs when a company develops unique differences in its products or services with the intent to influence demand
How do oligopolies achieve product differentiation?
- Marketing differentiation
- Consumer loyalty rewards
What is predatory pricing?
the practice of charging a very low price for a product with the intent of driving competitors out of business or out of a market.
What are the advantages of an oligopoly?
- consumers have some choice
Competition in oligopolistic markets ensure that consumers are provided with some choice. - Quality due to non-price competition
- Economies of scale due to the large sizes of the firms.
- Dynamic efficiency due to price making power.
- The kinked demand curve means prices largely remain stable but if one firm cuts price others must follow or leave the market. This benefit consumers.
What are the disadvantages to an oligopoly?
- Innovation may be compromised for advertising
- price fixing is common
- may not be productively efficient
- not allocatively efficient
What are wage differentials?
differences in wages between different occupations and employees in the same occupations.
What is a monopsony?
a market situation in which there is only one buyer of labour.
What is a trade union?
A group of workers who use collective bargaining to get better pay and working conditions
What is a bilateral monopoly?
a market where there is only one buyer of labour and one seller of labour. This is where a monopsony meets a large trade union.
