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
Free rider problem
- 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
Government options (public goods)
1. Do nothing therefore no provision is offered
2. Provide the good or service themselves e.g. parks
3. 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
Indirect tax reasons for provision
- 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
Advantages of tax
- 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
Disadvantages of tax
- 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
Subsidy reasons for provision
- 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
Advantages of a subsidy
- 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
Disadvantages of a subsidy
- 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
Examples of prohibition (legislation or regulation)
- 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
Minimum price example
- Scotland min price on alcohol of 50 pence per unit
- reduce hospital admissions + save lives
35
Problems with price floor
- 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
Black market issue
- 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
Maximum price advantages
- fairness - the product becomes more affordable
- unlike subsidy does not cost money therefore no opportunity cost
38
Disadvantages of price maximum
- 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
Price maximum example
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
Government provision Reasons
- 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
Advantages of government provision
- 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
Disadvantages of government provision
- 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
Buffer stock system analysis
- 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
Advantages of buffer stock
- 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
Problems with buffer stock
- 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
Buffer stock examples
- 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
Information provision reasons
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
Advantages of information provision
- 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
Disadvantages of information provision
- 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
Pollution permits analysis
- 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
Examples of pollution permits
- Kyoto protocol -not signed Australia + US and China
- Czech airlines makes more revenue from selling permits than from flying
52
Advantages of pollution permits
- 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
53
Disadvantages of pollution permits
- move to other countries where there is no permits
- countries may not cooperate
- costs of permits may increase prices and affect international competitiveness
- CO2 may not be main concern in a country - driving vs cycling or deforestation
- some CO2 is a necessary part of production process and not all emissions is the same e.g. flying for leisure vs transporting cargo or ambulance vs commuter
- large firms absorb costs forcing small firms out of industry - larger financial burden
- hard for government to monitor who has polluted how much e.g. firms self report lower quantities than they actually emit
54
Government provision examples
- vaccinations during covid
- state schools
- the NHS - example of abuse of provision private healthcare in America has shorter waiting lists than in the UK
55
Legislation and regulation definitions
- used to control actions, protect environment against negative externalities and protect private property
- targets both consumers and producers
- government imposes penalties for breaking laws : fines , prison or confiscation of profit or capital
56
Examples of regulation and legislation
- ban on demerit goods e.g. drugs
- protect environment e.g. MOT on vehicles ensuring pollution by vehicles at a minimum
- control consumption e.g. drinking age limits, limits on alcohol content and restrictions on the times of sale
- control sale + supply e.g. pharmaceuticals only provided by doctors prescriptions
- protect consumers from price fixing and collusion e.g. Sainsbury’s and Asda price fixing mil in 2007
57
Advantages of legislation and regulation
- has potential to decrease production and consumption of demerit goods
- sends clear message about behaviours government wants agents to adopt
- easy for consumers to understand and producers to implement
- government controls impact
58
Disadvantages of regulation and legislation
- costs money to monitor and police - opportunity costs + large amounts of police used on drugs due to hidden market
- the effectiveness of legislation depends upon how agents respond
- producers may ignore penalties if not high enough therefore economic incentive to break law is higher
- consumers may ignore rules out of ignorance e.g. average age of first drink is 13-14 in the UK
- difficult to quantify negative externality
- gov misses out on tax revenue
- abuses hidden markets
59
Nationalisation vs privatisation
- nationalisation - transfer of firms or assets from private to public ownership
- privatisation - the transfer of organisations from state ownership to private sector ownership
60
Advantages of nationalisation
- strategic control of key industries
- no profit incentive so low prices - no shareholders to satisfy through dividends
- state-owned natural monopoly can achieve EOS and be more efficient than multiple small firms
- better working conditions + increased wages
- easier to target social objectives
- easier to control negative production externalities
61
Disadvantages of nationalisation
- very costly - opportunity cost - tax revenues may need to rise to fund spending or borrowing increases
- distorts price mechanism ad no profit incentive so undercuts prices of private sector
- x-inefficiency due to lack of profit incentive
62
Advantages of privatisation
- efficiency - competition encourages firms to cut costs which lead to productive efficiency
- removes state monopolies
- increase consumer choice and product quality - competition so invest more money in innovation - higher dynamic deficiency and less x-inefficiency
- sale of assets raises a lot of one time revenue for the government
- democratises capitalism as individual consumers have opportunity to own shares in company
63
Disadvantages of privatisation
- higher prices for consumers because private sector wants profit
- single state-owned -> many small private firms makes it difficult to exploit EOS
- highly competitive markets firms don’t make enough profit to innovate
- social objectives disregarded
64
Examples of privatisation
- rail operators - PFI - concession agreements in place and contracts to private companies to perform services on particular section of rail network
- British airways - 1987
- Royal Mail - 2013-2015
65
Private finance initiative analysis
Private sector contracted to build and maintain a piece of infrastructure. Government enters contract to pay the firm usually for 20-30 years
66
Evaluation of PFI
-competition and profit forces firms to keep cots low and be efficient
- forces probate firms to be innovative to win contracts
- government can spread cost over many years
- government is committed to long term investment
- infrastructure ends up costing more than upfront cost because of extra costs + interest
- in order to win bidding firm may cut costs so significantly therefore quality of service or good may suffer
67
Competition analysis
Is rivalry among sellers where each seller trues to increase sales, profit and racket share using marketing mix ( product, price, placement and promotion)
Leads to
- lower prices
- more innovation
- more efficient use of resources
68
Competition law
Law that allows the state to intervene and prevent the distortion + restriction of competition
69
Aims of competition policy
Protecting the public interest
- prevent excessive pricing
- promote competition
- ensure quality, standards and choice
- regulate natural monopolies/ ensure effective privatisation of natural monopolies
- promote technological innovation
70
Types of competition policy
- antitrust + cartels - eliminating price fixing + abuse
- market liberalisation - introducing fresh competition
- state aid control - ensuring state aid doesn’t distort markets
- merger control - investigating the impact of mergers
71
Antitrust + cartels analysis and examples
- BA + virgin collusion over flight prices form UK to US
- cartel in steel and cement industries
When is it ok
- jointly trying to improve standard of safety, quality or consumer service
- shared research projects
- information sharing when in best interest of customers or safety
72
Market liberalisation analysis
- Not used in natural monopolies or the separate provision of infrastructure - trains
Reducing barriers to entry in order to promote contestability
- state aid subsidies to small businesses
- profit + price cap - prevents disparity between incumbent firm growth and new firms
Creation of competitive market authority - cartel + antitrust
73
Merger control analysis
- mergers should be positive form conermsers
- and will act against merger leading to substantial lessening of completion in a market ( market share would now be over 25% = legal monopoly)
74
Evaluation of rejecting a merger
- monopoly power
- no clear evidence it will improve efficiency
- mergers almost inevitable lead to loss of jobs and of future job opportunities
- mergers are usually motivated by expected static and dynamic gains
- more capital investment by bugger merged firms will be good for productivity
- may have to merge to survive e.g. The EU is a market so firms may need to scale up to meet demands of EU as a whole rather than just member states
75
State aid control analysis
Ensuring state aid does not distort markets
- unfair to provide subsidies to some firms
- stats aid for R&D, regional development or to small businesses
76
Answer = tax revenue is dedicated for a purpose
Definition = Hypothecated tax
77
Causes of government failure
- examination extent of failure
- lack or profit incentive
- cost of intervention
- moral hazard
- regulatory capture
- policy myopia - policy interventions seek to address short-term issues rather than longer-term solutions due to short term governments and re-elections
78
Regulatory capture definition
Intervention strengthens failure as firms operating know most about failure not government
79
Consequences of government failure
- costs lead to opportunity cost of not being able to pay for other projects
- intervention may lead to firms exiting market - unemployment or loss of industry
- disincentivised firms from increasing production to the most efficient points
Depends on the cost of monitoring and enforcement and the use of revenues generated
80
Monopolistic competition characteristics
- many buyers and sellers - key characteristic of a competitive market
- SLIGHTLY differentiated therefore are price makers but only slighlty as there are good substitutes and therefore are price elastic demand - monopoly characteristic but its limited die to competitive nature in the market
- low barriers to entry and exit therefore firms can enter with relatively low cost to compete
- good information of market conditions
- non-price competition - branding, advertising and quality
81
Examples of monopolistic competition
- taxis
- street food sellers
- hairdressers
82
Efficiency in a monopolistic competition
- don’t see AE as P>MC therefore consumers are exploited as prices are high and output is restricted
- no dynamic efficiency as no long run supernormal profit therefore there is no reinvestment
- don’t see PE not at minimum point of AC - they are voluntarily forgoing EOS therefore have higher prices
83
Evaluation of AE in monopolistic competition
Theoretically a very inefficient firm in LR however
- there is conception in the market therefore price making abilities are low therefore price exploitation is nowhere near as bad as a monopoly - less loss in CS
- in perfect completion there is homogenous products which is not what consumers desire they want differentiated products and therefore are willing to pay more
therefore Allocative inefficiency may not be a bad thing it may be desirable
84
Evaluation of PE in monopolistic competition
- no where near as bad as monopoly - good substitutes - firms can’t afford to forego EOS to the same extent as a monopoly and charge higher prices
- in perfect completion here might not be EOS at all there’re any EOS being exploited by mon comp is a greater extent than PC and therefore prices may still be lower
Productive inefficiency may be due to the product differentiation demands of consumers as it makes it harder to exploit EOS if you have to produce a wide range of goods rather than just one good
(bulk-buy very easily, achieve technical economies very easily and achieve managerial economies very easily)
85
Evaluation of DE in monopolistic competition
- SR supernormal profit may be enough to reinvest
- in a very competitive market we can still see DE if normal profit is reinvested therefore extent of reinvestment is small but still see DE especially as it could be apart of competition e.g. clothing brands have to bring out new clothing lines
86
Contestable market characteristics
When there is a threatening of competition therefore characteristics must exist for there to be a strong threat :
- low barriers to enetry and exit
- large pool of potential entrants
- good information - know about costs and tech so if they were to enter can compete
- incumbent firms are subject to ‘hit and run;’ competition - new firms enter market quickly snatch away supernormal profit then leave quickly before incumbent firms have to time to react and lower profit margins
87
Technology and contestability
Because of a rise in tech over the last couple of decades then contestability has dramatically increased as well because
- reduced barriers because business don’t have to be physical (reduced fixed costs of rent) and reduced employment of workers therefore less regulations. EOS ae easier to achieve and there is better advertising to overcome brand loyalty
- increased pool of potential entrants - as greater innovation for firms to come in with something brand new and disrupt market e.g. uber - also allowed firms to find cheaper ways of producing therefore coming in with lower prices and disrupting the market
- increased information - internet makes it easier to find out and communication has also improved
88
Perfectly contestable market characteristics
Contestable market but
- no barriers to entry or exit
- perfect information
89
Sunk costs
- costs that a firm cannot get back if they choose to leave the market - no barriers to exit is unrealistic they are just minimal
- e.g. advertising, rent paid upfront, startup costs and R&D investment
- when these are high the market becomes essentially Contestable and moves towards monopolistic behaviour
90
Example of contestability
- finnair was the only flying airline from London to Helsinki up until 2021 when Ryanair entered the market
- it was not a natural monopoly any other airline could have launched their own flights onto the route
- if any other airline wanted to enter the market they could of done so with low costs because there were already a airline business and potentially had spare capacity and the fore no opportunity cost
91
Perfect vs imperfect contestability
- firms in perfectly Contestable markets constantly keep in mind great of potential competition by keeping prices low and output high - does not exist
- imperfectly Contestable markets only lower their prices and increase their output when the threat of new competition is immediate - because lowering prices and increasing output decreasing supernormal profit
92
Contestability and gov intervention
- as markets become less contestable they move towards oligopoly structure and having monopoly power
- contestability matters as cartels and contestability become more common when weak
- completion authorities focus more on contestability as an indicator of where regulation may be required
93
Advantages of Contestable market
- allocative efficiency, productive efficiency and x-efficiency even though there is not actual competition we get the benefits as if there is competition. There is a movement towards limit price not actually be at limit price therefore movement towards efficiency.
- job creation - higher quantity in the market - labour is a derived demand
94
Disadvantages of a Contestable market
- lack of dynamic efficiency if acting at limit price - as firms react to decrease profit margins to eliminate threat of competition however if new firms come in with innovative ideas that is dynamic efficiency gained by consumers
- costs cutting in dangerous areas -question x-efficiency benefits - costs cutting in health and safety, product safety, environmental standards and wages
- creative destruction - new firms destroy existing firms therefore job losses however if overall market is greater and new firms are large in size then workers can move to newer firms and get jobs in same industry
- anti-competitive strategies - overtime if used like limit pricing, predatory pricing or flooding market therefore contestability may not last overtime leading to static inefficiency
95
Evaluation of contestability
- length if new technology or new firms entering can patient their ideas then market isn’t contestable over time
- Role of tech - also reduce contestability - patents and copyrights - improve information for firms in squirting consumer data and therefore 1st price discriminate much more
- regulation - minimise issues of cost cutting in dangerous areas and anti-competitive strategies - negates some cons
96
Profit maximisation
as long as MR > marginal cost then next unit will always generates more profit therefore logical point is where no more extra profit can be made I..e. MC=MR
Why
- reinvestment due to large profits - new/upgraded capital, new technology and R&D - apple - large profit margins to keep developing new models
- dividends to shareholders - owners of a company and without finance there wouldn’t be a company therefore profit rewards them with greater dividends
- allow for lower costs passed on lower prices for consumers
- reward entrepreneurship - risk taking activity of starting a business
But reasons why not profit max:
- firms may not know their MC and MR
- greater scrutiny - if firm is making very large profits competition authorities and regulators may think they are charging very high prices, taking shortcuts with costs or standards are low within business leads to being investigated and outcomes are likely to be anti the interest of businesses
- other objectives may be more appropriate
97
Profit satisficing
Sacrificing profit to satisfy as many key stakeholders as possible happens between profit max and sales max - if a business goes to hard for profit stakeholders can be harmed (profit max)
- shareholders - increased dividends
- managers - receive bonuses and higher incomes
- consumers- suffer if excess prices are charged
- workers - could suffer if wages are to low due to cost cutting
- government - many not like it when consumers and workers are harmed as above
- environmental groups - costs are cut e.g. pollution or resources degradation
Lead to bad reputation
98
Revenue maximisation
When MR=0
Why
- economies of scale benefit - revenue max Q is greater than profit max Q leads to greater growth - greater EOS - lower AC - lower prices for consumers
- predatory pricing - revenue max P is lower than revenue max P - firm will undercut its rivals sacrificing profit in order to drive out competitiors
- principle agent problem - divorce between ownership and control - managers who control the business might decide to revenue max to go to shareholders for greater perks in their job
99
Sales maximisation
AC=AR business wants to become as large as they can without making a loss
Why
- economies of scale
- limit pricing - takes away incentive for new firms to enter market - limiting competition
- principle agent problem - managers use sales to go to shareholders for greater perks
- flood the market - benefits of producing lots of output and selling it - therefore more consumers become aware of product and develop loyalty
E.g. Netflix, amazon and costa
100
Corporate social responsibility
Recognising social responsibility and ethics
- giving to charity
- producing sustainably
- paying workers and suppliers (farmers) well - paying appropriate wage
- acting ethically - body shop don’t test products on animals but test in labs
101
Causes of wage differentials
- differences in demand and supply e.g. acccet lower wages in return for satisfaction or shorter hours
- difference in revenue creation
- level of skill and training
- societal perception of the value of a job
- information gaps - don’t know wages on other industries
102
Pay inequality in same jobs
- gender - women earn less on average
- ethnicity - ethnic minorities earn less on average
- region - London vs wales
- length or service/experience
- bonuses and commission
- public sector vs private sector employee
103
Causes of geographical immobility
- costs involved in moving home
- family or social ties e.g. education priorities for children
- regional variations in house prices and shortages pf rented properties
- difference in living costs between regions
- language barriers
- differences in tax and pension systems
- legal limits of scale of labour migration
104
Causes of occupational immobility
- unwanted skills - redundant workers from declining industries may not have skills in demand
- lack of skills required to participate in the labour force e.g. third of adults in UK don’t gave basic school-leaving qualifications
- information gaps - unaware of vacancies, choosing wrong training or employers not identifying available workers
105
Improve geographical immobility
- improve supply of housing and restruct rent rises
- offer incentive for people to move to areas with labour shortage
- ease visa and immigration restrictions
- move jobs to ares where their is unemployment
106
Improve occupational mobility
- training schemes for workers in structural unemployment
- better vocational education opportunities
- provide information about jobs e.g. job centres and helpline with interview skills
- encourage businesses to introduce more flexible working patterns e.g. working form home
107
Monopsony characteristics
E.g. teachers and nurses - public sector with dominant employer of the government
- wage makers because of significant buying power over workers
- will maximise the revenue that they bring on form workers but hiring workers up to where MC=MRP maximising the revenue that each workers brings in
- marginal is steeper as bringing in a extra worker they have to increase wages for the worker but can’t do that for just the additional worker they have to increase wages for everyone worker
108
Monopsony impact
- reduces the quantity and employment compared to competitive labour market outcomes
- lower wages than competitive labour market outcomes
- workers that are being employed have wages a lot lower than their MRP
- the lower the wages are compared to MRP the greater the monopsony power that exists its in that market
- distorting efficient labour market outcomes
109
Trade union impacts
- distort efficient competitive labour market outcomes
- bargain collectively for higher wages for all workers
- closed shop TUs becomes a monopoly supplier of labour and has control over how much labour is supplied at given wage rates
- set a wage rate above equilibrium - limit to number of workers under control of the trade union
- employment has decreased and therefore there is more unemployment
110
Evaluation of trade union impact
- in a monopsony labour market - making it better for wages and employment
- strength of TU power e.g. union density - greater percentage of workers in trade union the more power thee greater the bargain power and supply of labour
- Union mark up - the difference in wages of workers who are part of a trade union compared to workers in a similar profession who have not got a trade union - the bigger the difference the grater the success of the trade union
- real world evidence proves limited power of TU - how strict legislation has been since 1970s against trade unions e.g. close chop trade unions are now illegal and limits density, reduction of the ability to strike (75% workers must agree to strike and workers are only allowed to strike against their own employer) - restructuring of UK economy e.g. part-time work has become more prevalent therefore harder to organise trade union activity - competitive pressures e.g. due to globalisation pressures have increased then firms have more power to reject trade unions as they may go bankrupt and may lose competitiveness gains
111
Bilateral monopoly impact
- causes monopsonist to be a wage taker
- wages increase
- employment increases ( different to trade unions in a competitive market)
- improving efficiency in monopsony employers
- trade unions have significant value
- the bigger the difference between MRP and wages the higher the benefit a trade union will bring into the market and the bigger the deficiency brought into a market
112
Scarcity problem
Micro economics is how to best solve the economic problem - how to allocate scarce resource given unlimited wants
- there isn’t enough resources to fully satisfy wants
- resource = factor of production
- forces choice to be made e.g. HOW, WHAT and WHO how to allocate and produce
113
Evaluation of EOS
- demand for product - market may not demand the increase in output . if firm increases production to MES then it needs to be able to sell all of its output to take advantage
- nature of product - manufacturer will benefit from technical economies of scale but hairdresser is unlikely to
- technological advancement - has led to some smaller firms being able to access savings - once only available to larger firms
- importance of price - economies of scale allows business to charge a lower price but if product is inelastic may not be a incentive to produce at MES
114
Disadvantages of a monopoly
- allocative inefficiency - P>MC therefore consumers are exploiters paying higher prices - lower CS and restricted output and choices
- Productively inefficient - voluntarily forgone EOS - don’t maximise their costs OR are too if they suffered from DOS
- X-inefficiency - allow for waste in production process as they are too complacent due to lack of competitive drive
- inequalities in necessity markets - because of higher prices the poos is disadvantaged more if monopolies lie in necessity markets e.g. supermarkets
115
Advantages of a monopoly
- dynamic efficiency - supernormal profit is reinvested - benefits consumers through innovation, brand new products, higher quality + better tech in LR - therefore could have lower prices and lower costs in LR - producers can patient new tech and key earning profit over time
- greater EOS - despite productive inefffiecies compared to competitive firms - they may still be exploiting greater \eos purely because of their size MCm
116
Evaluation of monopolies
- DE - profit not always reinvested into capital - may go to shareholders, they could save profit, pay off debts or bay higher wages to workers
- EOS vs DOS - what is more likely - depends on the size of the firm
- Objective - may not be at Pmax
- Regulation - helps reduce inefficiencies or increase competition
- price discrimination exaggerates negative effects
- pure monopoly is unrealistic - more likely for a firm o have monopoly power and therefore there is still competition I.e. Tesco is a legal monopoly - or firm can be Contestable and have threat of entrants
- natural monopoly
- nature of good/service e.g. necessity
117
Collusion
Firms collude in order to gain monopoly power
118
Natural monopolies
- huge fixed costs and especially start up costs e.g. infrastructure - to minimise average costs it takes a very large quantity and therefore enormous potential for EOS
- rational for 1 firm to supply entire market - competition is undesirable
- competition would result in a wasteful duplication of resources as incumbent firms would be able to price them put of market and resources are left idle and not exploit full economies of scale - therefore allocative and productive efficiency
- downward sloping cost curves and MC is lower than AC due to enormous potential of EOS
- must be regulated to make them act nearer to competitive outcomes - where MC = AR however that means they would be forces to act at AE with subnormal profit therefore they would just exit the market so they must be given a subsidy to produce - very little incentive to have a private natural monopolist therefore more likely to have state run monopolist
119
Example of natural monopoly
- utilities
- water, gas and energy
- rail track providers
120
Conditions necessary for price discrimination
- price making ability - must have monopoly power
- information to separate market into different PEDs e.g. price inelastic groups to be charged higher by segmenting consumers
121
1st degree of price discrimination
- consumers are charged exact price they are willing and able to pay therefore eroding all CS in the market and turning into monopoly profit
122
2nd degree price discrimination
- excess capacity pricing
- example train company or planes company with a fixed number of seats therefore it makes no sense to leave capacity idle because of their fixed costs therefore they can lower their prices in order to fill capacity in order to contribute towards fixed costs
- or used in bulk buying to increase quantity sold
123
3rd degree price discrimination
- charge market segments different prices
Example rail company - inelastic = commuters and elastic = leisure
- they want to profit max in both cases therefore charge higher prices to inelastic customers to exploit PED
- therefore to maximise joint profit as consumers with elastic demand would not be willing to pay the same price as the inelastic customers
124
Evaluation of price discrimination
- anti-competitive nature prices - 3rd degree lower prices drive out competitors giving it pure monopoly power
- inequalities - 1st degree and inelastic section on 3rd degree
- maybe more reinvestment potential
- some consumers might benefit - 2nd degree and price elastic 3rd degree
125
Product (non-price competition)
- quality,design, after-sales services, brand name, reputation, packaging and presentation
- Maybe costly in terms of market research and R&D
- increased profits may tale a log time to come through (putting up prices brings in revenue immediately)
126
Promotion (non-price competition)
Advertising - activity attracting public attention to a product or business - celebrity endorsements
Promotion - short term offers designed to attract attention to product to increase sales
- adds to firms costs with no certainty of higher profits
- difficulty in judging the effectiveness of a campaign or promotion
- there may be a conflict between branding and price cutting
- effects may be short term
127
Place (non-price competition)
Distribution options, in-store, online - number sand location of stores/outlets - pick up/home delivery options
- high fixed costs of competition y making more outlets than competitors
- high costs of setting up new distribution routes
- potential complexity of offering same product at different prices through different routes
128
Collusion
129
Oligopoly characteristics
- few firms dominate the market - high concentration ratio
- differentiated goods
- high barriers to entry and exit
- interdependence - sticky prices
- non-price competition
- profit max - not sole objectives
130
Government failure
Intervention leads to a greener net social welfare loss
131
Tax and government failure example
Landfill tax on the amount of waste
Leads to increased fly-tipping which is the illegal dumping of waste elsewhere
