Micro 2 Flashcards
1
Q
How a Free market economy allocates resources
A
- allocate resources through price mechanism
- demand creates a market and firms are incentivised to use the resources to maximise their profit
- changes in equilibrium price - signals to the market to produce more or less
- consumption by individuals depends on their income and their income depends on the market value of their human capital
2
Q
Efficiency in a market means
A
- producing goods at lowest possible cost
- minimising the quantity of resources that are needed to produce goods
- only producing goods that are needed by households
3
Q
Market failure (inefficiency )
A
If a market fails there is a case for government intervention
- negative externalities - costs such as pollution
- lack of competition - increased prices and lower choices
- missing markets - education, healthcare and defence are under provided by the private sector
- abuse of market power (monopoly)
- Public goods
- Information failure
4
Q
Advantages of a market economy
A
- efficiency - price mechanism allocates according to demand - competition between firms forces efficient use of inputs
- innovation and choice for consumers - better products + lower prices
- individuals are free to benefit (profit) from their own ideas, skills and efforts
5
Q
Disadvantages of a market economy
A
- unequal access to goos and services - those without the necessary income are excluded from consumption
- individuals may not make good choices - demerit goods - the private sector will provide drugs, alcohol, high fat and sugar foods if consumers will buy them
- profit motive - may lead to firms to pay low wages, reduce quality to cut costs or even sell un-safe products
6
Q
How resources are allocates in a planned economy
A
- the state allocates resources, deciding what and how much is produced according to its own view of peoples needs
- market prices play little or no part in informing resource allocation decisions and queuing for scarce resources was how they were rationed
7
Q
Advantages of a planned economy
A
- money not diverted to share holders, so available to improve products and pay better wages
- resources may not be diverted to producing demerit goods
- equality - less wage inequality + more equal access type products
- prices controlled so that those most in need can access
- fewer resources wasted on duplicating goods
8
Q
Disadvantages in a planned economy
A
- relies on government agents to decide what to produce - lacks the information the price mechanism gives about what consumers actually want
- has no information about market prices. Kit has been said soviet goods were priced using prices from the US
- limits innovation. Becomes old fashioned and uncompetitive on world markets so exports limited
9
Q
Specialisation examples
A
- business - type of product - H&M clothes
- country - Bangladesh (textiles) - Saudi Arabia (oil)
- region - West Midlands UK (car assembly) - coast or Croatia (tourism)
- worker - doctor (oncology) - economics teacher
10
Q
Gains from specialisation
A
- higher output - total production increase and quality improved
- variety - consumers have access to a greater range and higher quality products
- economies of scale - global trade increases the size of the market - possible to exploit EOS through lower costs
11
Q
Stages of the price mechanism
A
- Allocate resources efficiently at equilibrium
- Ration resources by consumption
- signal excess demand and need for resources
Or - signal excess supply and need for resources
- incentivise firms to increase output to increase profit
- bidding up or down of prices
12
Q
Advantages of division of labour
A
- raises output per person as people become proficient through constant repition of their task
- lowers the cost per unit output leading to lower prices
13
Q
Disadvantages of division of labour
A
- work becomes repetitive and unrewarding - reduced motivation and productivity
- workers take less pride in their work and quality suffers - may lead to absence
- job dissatisfaction causes high worker turnaround
- workers who are not trained in anything will miss out on world - structural unemployment
- rise to standardised goods - lack of variety
14
Q
Price mechanism functions
A
- signalling function - prices adjust to demonstrate where resources are valued by consumers
- incentive function -higher prices in a market causes new entrants to that market
- rationing function -the goods and services are allocated based on who needs them most (willing to pay for them)
15
Q
Usefulness of PED
A
- care about their consumers responsiveness to price changes
- different PED values will result in different impacts on total revenue when price goes up or down
- knowing customers PED allows for price discrimination
16
Q
Evaluation of PED
A
- an estimate - not perfect information
- PED changes in value at different points in time
- tastes and preferences causes PED to change
- tach advancements might remove switching costs (costs that a consumer incurs as a result of changing brands, suppliers, or products) or habitual behaviour (routine)
- internet enables consumers to compare prices
17
Q
Usefulness of YED
A
- Help with marketing strategies
- incomes tend to rise over time so in the long run firms that produce + YED will so best
- income elastic - greater the potential for expansion in the market
- in a recession firms producing -YED will benefit and highly income elasticity are very vulnerable
- firms protect themselves with having both inferior and normal goods
18
Q
Types of information in a market
A
- symmetric - when buyers and seller both have perfect knowledge - this is a standard assumption as having perfect knowledge therefore agents have rational decision
- asymmetric - when one party has better information that the other - failure to allocate resources efficiently
19
Q
Types of information failure
A
Sellers have > than buyers
- buyers become suspicious of all second hand cars and prices have to fall to make sales
- good cars will sell for less than they are worth and bad cars may sell for more than they are worth
Buyers have > than sellers
- sellers can’t trust buyers, they human raise prices to cover the cost of bad transactions
- honest buyers paying more for their goods + services than they need to + failing to maximise utility
20
Q
Moral hazard definition and example
A
- an economic agent does not suffer the full economic consequences of a risk
- an economic agent. Has an incentive to increase the exposure to risk because they do not bear the full costs of the risk
- driver with car insurance may be less careful
21
Q
Examples of merit and demerit goods
A
- education
- healthcare
- renewable energy
- drugs
- alcohol
- gambling
22
Q
Private goods provision reasons
A
Provided in order to generate profits
- able to exclude consumers from producing through use of price mechanism ( can’t afford then can’t consume)
- consumers must also compete for these goods because they are limited in supply
23
Q
Public goods characteristics
A
Beneficial to society but which will not by provided by private firms
- non-excludability - the inability of private firms to exclude certain stompers from using products - price mechanism,m vacant exclude consumers
- non-rivalry - the inability from products to be used up - no competitive rivalry in consumption to drive up prices to generate profit
24
Q
Examples of public goods
A
- floode defences
- police and judiciary
- military defense
- lighthouses
- beaches
- street lighting
25
Q
Free rider problem
A
- situation where customers realise that they can still access the goods even without paying for them
- If they are paying them stop and continue to enjoy the benefits e.g. fre riding the backs of other paying customers
- over time any customer paying stops
- at some point, firms will cease to provides these goods and they will become under-provided in society
26
Q
Government options (public goods)
A
- Do nothing therefore no provision is offered
- Provide the good or service themselves e.g. parks
- Contract out the provision of the good: accept bids from private companies who wish to provide the good or service the government excepts lowest bid price and pay the company to provide the good for them
27
Q
Indirect tax reasons for provision
A
- increases producers costs so reduces supply and likely to lead to a rise in price for the consumer
- used when product has negative externalities
- used to internalise the externality get consumer or firm to pay full cost
- tax revenue from the tax can be used to further alleviate the externality
28
Q
Advantages of tax
A
- corrects the market - cost to firm is closer to the cost to society
- internalises external cost whilst maintaining consumer choice - smokers can still choose to smoke but the must pay a price closer to cost to society
- works trough the price mechanism therefore simple to operate
- the amount of harm reduces because the higher price reduces the quantity consumed
- raises tax revenue to address external cost
29
Q
Disadvantages of tax
A
- difficult to calculate the true cost of pollution/smoking and therefore set the tax accurately
- taxes raise the cost of production so when applied in one country will make firms less competitive compared to other firms abroad
- may influence firms to reallocate abroad where tax is lower
- rise in price may encourage illegal trade, smuggling and black market
- fir,s are left with less money to invest in more efficient and environmentally friendly capital
30
Q
Subsidy reasons for provision
A
- grant provided by the government to firms to encourage the production and consumption of a good or service
- reduces production costs so may lead to a price cut
- provided on positive externalities
31
Q
Advantages of a subsidy
A
- principle - tax payer benefits so tax payer contributes
- works through price mechanism, so it is simple to understand
- amount do benefit increases because lowering price increase consumption
- reduce costs of production is when applied in one country will make firms more competitive against firms abroad
- may attract producers from abroad giving consumers greater choice
32
Q
Disadvantages of a subsidy
A
- costs money - opportunity cost : funds Mary be needed more elsewhere
- firms may not pass on the subsidy so prices at not fall and is consumption may stay the same
- difficult to calculate the true value of the benefit - set subsidy accurately so that the subsidy benefit > subsidy cost
- demand may be price inelastic so he effect on demand my be limited
- the firms may become dependent on government assistance and become inefficient in the long run
- may not be permanent so may be inefficient government spending as prices may eventually rise back up
33
Q
Examples of prohibition (legislation or regulation)
A
- India alcohol is prohibited in 4 main states and price controlled in the other states
- lead to thriving black market
- third of the drinkers consume cheap and dodgy locally brewed or country liquor which has caused deaths
- consumption has grown by 38% in last 20 years
- non-communicable diseases, such as cirrhosis of liver and cardiovascular diseases. “They are increasingly relevant for public health in India and increasing alcohol use will only pronounce this trend”.
34
Q
Minimum price example
A
- Scotland min price on alcohol of 50 pence per unit
- reduce hospital admissions + save lives
35
Q
Problems with price floor
A
- lead to hidden markets
- unfair - some consumers will be priced out of market whereas has no effect on the wealthy
- demand contracts and supply extends therefore there is excess supply
- demand could be price inelastic then there will be no reduction in quantity and a major increase in producer profits
36
Q
Black market issue
A
- bad quality and consumption is worse for individual than if they bought it legally
- policing costs
- loose tax revenue of there is black markets
37
Q
Maximum price advantages
A
- fairness - the product becomes more affordable
- unlike subsidy does not cost money therefore no opportunity cost
38
Q
Disadvantages of price maximum
A
- cause contraction of supply and excess demand leading yo product shortages
- reduces profit from business - below fixed costs - shut down
- it incentives the producers to reduce the quality of their products
- depending on price elasticity of demand, the policy may have no impact at all unless the max price is substantially below equilibrium
- incentivises consumers and producers to engage in hidden markets where cost of production is lower
39
Q
Price maximum example
A
Rent control New York
- less houses available leading to less available workers
- increased black market - rent in cash so decreased consumer protection and no tax revenue
40
Q
Government provision Reasons
A
- provides goods + services funded through taxation
- typically provided on goods and services which have significant positive externalities or are public goods
- prices are high otherwise and exclude consumers from merit goods e.g. healthcare and education
41
Q
Advantages of government provision
A
- the principle - all taxpayers contribute according to their ability
- provides fairer access to to services e.g. education and healthcare for free or low cost
- without provision public goods would bot e provided at all so state provision resolves the free rider problem
- services not driven by profit motive so may be more adorable or of a higher quantity
42
Q
Disadvantages of government provision
A
- costs money - opportunity cost
- state provision can be less efficient, more bureaucratic + expensive to run because there is no competition between firms to keep costs and prices down therefore no profit incentive
- no price mechainsm to determine hoe much should be provided
- government might have lack of expertise in the provision of the good required
- abuse free provision e.g. overusing healthcare
43
Q
Buffer stock system analysis
A
- stabilises prices in volatile market
- ensure the supply of good
- prevent farmers/producers going out of business because of a drop in prices
- a commodity is a tangible good that can be sold or exchanged for products of a similar value
- prices are volatile because supply can vary greatly, demand is inelastic and supply is fixed in the SR
44
Q
Advantages of buffer stock
A
- stable prices help maintain farmer income - a rapid drop on prices can make farmers hop out of business - structural unemployment
- price stability encourages more investment
- farming can have positive externalities e.g. help rural economies - drop in prices our have negative multiplier on areas
- targets prices help prevent excess prices for consumers and reduce food inflation - important for households in poverty who might struggle to pay high prices during years of shortage
- possible for government to make profit from a buffer stock system - but during glut and sells during a shortage
45
Q
Problems with buffer stock
A
- cost of buying excess supply and become quite high for the government and may require higher taxes to fund
- minimum prices and buffer stocks could encourage excess use for chemicals to maximise yields because farmers know excess will be sold even if market doesn’t want it
- some goods can’t be stored e.g. milk and meat
- government agencies my macro pure information therefore difficult to know wether there will be a surplus
- administration costs of the schemes may be high
- globalised markets (agriculture) if some countries form a buffer stock scheme and buy excess supply and they may find that other countries will free rife on their efforts to keep prices high and undercut them
46
Q
Buffer stock examples
A
- India releasing 50,000 tonnes of onion to stabilise prices to states with shortages
- Australian wool - incorrect price settings and constant excess supply huge cost for government - incurring 1 billion a year in storage costs and interest
47
Q
Information provision reasons
A
Market failure of asymmetric information
- provides information to allow consumers to make informed decisions
- force companies to provide information when it is negative and positive
- e.g drug adverts in America are required to state all major side effects
48
Q
Advantages of information provision
A
- protect consumers from unknown harm
- slow consumers to act rationally which helps market to function properly
- e.g. cigarettes packaging - smoking kills and healthy vs smoker lungs
49
Q
Disadvantages of information provision
A
- consumers can still choose to ignore information 1/8 of uk still smokes
- expensive - opportunity cost
- government might not have the necessary information or information consumers need to have
- forcing producers increases costs + may push business out of business
50
Q
Pollution permits analysis
A
- cap and trade
- governments decide total amount of emissions of CO2 that will be allowed + polluting industries are granted a percentage of total in form of a permit
- firms can trade permits with each other e.g. market based solution
- energy efficient firms earn money from selling unwanted permits therefore incentivising firms to shift to greener production
- heavy pollutants have to pay to buy more permits
51
Q
Examples of pollution permits
A
- Kyoto protocol -not signed Australia + US and China
- Czech airlines makes more revenue from selling permits than from flying
52
Q
Advantages of pollution permits
A
- Gov can reduce emissions further by reducing no. of permits in the long run
- more efficient then taxes + fines
- minimises social cost - polluter will spend min and pollution decreases
- helps old industries that cannot easily reduce pollution
