Micro Flashcards
Total revenue
P x Q
How much money a firm receives in total from sales
Average Revenue
P/ TR ÷ Q
What a business receives on average from each sale.
Marginal revenue
change in TR ÷ change in Q (only use if quantity goes up by more than 1)
The additional revenue a firm makes selling 1 extra unit
If MR = + (TR) (elasticity of demand)
TR increases
demand is elastic
if MR = 0 (TR) (elasticity of demand)
TR stays the same
demand is unitary
if MR = - (TR)
TR decreases
demand is inelastic
decreasing price will (TR)
increase TR
increasing price will. (TR)
decrease TR
^ TR =
v P x Q ^
Demand = elastic
MR = +
v TR =
^ P x Q v
Demand = inelastic
MR = -
Allocative efficiency
Welfare is maximised
MC = AR
(Mary Can’t Allocatively Run)
Productive efficiency
Average cost at its lowest
MC = AC
(Mary Cant Analyse Corners)
X inefficiency
when as firm is producing above its average cost curve for a given level of output
dynamic efficiency
how changing technology improves a firms output potential over time
to be dynamically efficient a firm needs
supernormal profit
so it can invest its supernormal profit in R+D
the 5 different market structures
- monopoly
- perfect comp
- monopolistic competition
- oligopoly
- monopsony
How to calculate the n-firm concentration ratio
identify the 4 largest firms
add up market shares of these 4 firms
answer is concentration ratio of the 4 firms
monopoly assumptions
only 1 firm
profit maximiser
high barriers to entry
barriers to entry are
legal barriers sunk costs economies of scale brand loyalty anti competitive practices
legal barriers
stops new firms using incumbent firms ideas (stealing ideas)
patent
copyright
trademark
sunk costs
the money can’t be recovered if a firm leaves the market
advertising
specialist machinery (no on else can use it)
what doe high sunk costs mean? and what does this mean for new firms
increased cost of failure
deters new firms
economies of scale
internal economies of scaled used by big firms to reduce their long run average costs.
what do economies of scale allow monopoly to do
keep costs and prices low so small firms can’t compete with their low prices
6 internal economies of scale
risk bearing managerial financial purchasing technical marketing (Richards mum flies past the moon)
Brand loyalty
strong branding in incumbent firms makes it impossible for any new firms to make any sales
anti competitive practises
anything a firm might do to reduce or restrict competition
technical economies are where
companys invest in specialist capital to increase productivity and decreasing their long run average cost
managerial economies are where
companys employ specialists which increase productivity and decrease long run average costs
a marketing economy is where
big firms spread their marketing costs across many units decreasing long run average costs big firms
The higher the risk
the higher the interest rates
firms expand and grow bigger
they become less risky, so they can borrow at lower interest rates, reducing long run average costs
Risk-bearing economies: big firms can
exploit risk bearing economies of scale, then big profits to diversify to new areas reducing the cost of failure in one area
Risk-bearing economies: small firms
don’t have enough profit to diversity so the cost of failure is high
as companies get bigger, they can exploit internal economies to
Reduce their long run average costs
economies of scale; in the short run a firm can’t
experience internal economies of scale, don’t have enough time
the 6 internal economies of scale:
Purchasing, technical, managerial, marketing, financial, risk bearing, risk-bearing
RICHARDS MUM FLIES PAST THE MOON
Purchasing economies
when firms expand and are bigger purchases they can bulk buy and negotiate lower prices, reducing their long run average cost
technical economies
when firms invest in specialist capital to increase firms productivity and decrease their long run average costs
internal economies of scale
Reductions in long run average cost, as a industry’s size increases
alienation
decreases their motivation
= productivity falls, and long run average costs rise
Bureaucracy
all the paper work, managers, filling and secretary that
communication
when firms get really big communication can really slow down , wastes precious time in a business and increasing long run average costs
Internal diseconomies of scale
when a firm expands to much and long run average costs start to rise
Alienation
Bureaucracy
Communication
The minimum efficient scale is where
a firm first reaches its lowest LRAC
external economies of scale
a firm’s long run average costs fall, as industry output increases.
as the size of the industry increases
recruit quicker and at lower pay reducing long run average cost
because the whole industry was growing and employees are attracted
internal economies of scale are shown as
movements along our LRAC curve
external economies of scale are shown as
the LRAC curve will shift downwards
profit =
TR - TC
opportunity cost
the lost opportunity of the next best alternative
normal profit =
0
when TC = TR
If it’s making less than normal profit,
it’s no longer covering its opportunity cost - so it will leave the market.
supernormal profit is
the extra profit above opportunity cost
TR > TC
Explain the shape of the marginal cost curve
marginal costs first decreased because of specialisation - workers get more productive decreasing costs
marginal costs then decreased because of the law of diminishing marginal returns - reduces productivity and increases costs
ATC =
AVC + AFC
ATC will intercept
marginal cost at it lowest point
Marginal revenue is
the additional revenue from selling one extra unit.
marginal cost is
the additional cost of selling one extra unit.
profit maximising
MC=MR up to AR curve
Why do some firms grow, while others stay small
- lack the finance to expand.
- regulations can prevent firms from growing too big because of concerns over consumer exploitation.
- firms might be worried about diseconomies of scale.
as firms grow bigger, they might experience:
the divorce of ownership and control
divorce of ownership and control can lead to
The principal-agent problem
The divorce of ownership and control can lead to the principal-agent problem is when
The principal-agent problem is when the agent (e.g. the manager who runs and controls the business) pursues different objectives to the principal (e.g. the shareholders who own the business)
Organic growth is when
a firm grows by investing in itself to increase output.
Inorganic growth is when
a firm grows by acquiring, or merging with, another firm
4 different types of inorganic growth
- backward vertical integration
- forward vertical integration
- horizontal integration
- conglomerate integration
backwards vertical integration is when:
a firm integrates with another firm who is further away from the consumer in the same production process
forward vertical integration is when
firm integrates with another firm who is closer to the consumer in the same production process
horizontal integration is when
a firm integrates with another firm at the same stage of the production process
conglomerate integration is when
two firms in unrelated industries join together.
pros of organic growth
- keep ownership and control of the firm
- low risk, continue doing what already are and are good at
cons of inorganic growth
- higher risk - getting involved in a market you know much less about, integrating with unknown markets and new companies
Vertical integration is when
a firm integrates with another firm at a different stage of the same production process.
demergers
company separate itself into 2 companies
If a firm gets too small it will reduce economies of scale, so:
Its LRAC will increase
monopoly
there is only 1 firm in the market
assumptions of monopoly
- only 1 firm
- profit max MC=MR
- high barriers to entry
legal monopoly
over 25% of market share
barriers to entry
- legal barriers
- sunk costs
- economies of scale
- brand loyalty
- anti competitive practices
a monopoly is
Productively inefficient, allocatively inefficient, possibly dynamically inefficient, X-inefficient
natural monopoly
A natural monopoly is when it’s naturally most efficient if only one firm is in the market.
2 reasons why a monopoly might be a natural monopoly
- high sunk costs
ineficient if another firm entered market - huge internal economies of scales
can use to make long run average costs super low
RICHARDS MUM FLIES PAST THE MOON
price discrimintaion
why are adults charged higher prices and students lower prices for train tickets?
Adult demand = more inelastic, adults have higher incomes and less responsive to price changes. can charge adults higher prices.
Student demand = more elastic, students have less money to spend and more responsive to price changes. have to charge students lower prices.
examples of price discrimination in the world
bus tickets, cinema tickets, education (scholarships), train
elastic consumers are charged
inelastic consumers are charged
Elastic consumers a lower price - don’t want to loose them
inelastic consumers a higher price - won’t care about higher prices
Price discrimination is when
a firm charges different groups of consumer different prices, but for the same good.
the 3 conditions of price discrimination
- market power - change prices without loosing all consumers
- information - info on consumers elasticity
- limit reselling - able to limit elastic consumers from selling cheap tickets to inelastic consumers
different number of firms =
different level of competition
many buyers and sellers =
comp v high
few large sellers
oligopoly
comp low
competition is high if
lots of firms
competition is there
number of firms competing in a market
competition is lower is
only a few firms competing
contestable markets
is simply a market with low barriers to entry and exit and doesn’t matter how many firms in the market (e.g. mango low barriers but many sellers, origami low barriers but few sellers)
market that isn’t contestable will have
High barriers to entry e.g. high sunk costs and economies of scale
contestable market is
a market with low barriers to entry and exit, easy for firms to enter
in the long run firms in contestable markets will only be able to make
normal profit
who is in charge of making sure big firms stay in line with regulations and competition policy?
CMA - competition and markets authority
the CMA use 4 key types of regulation
- merger policy
- price regulation
- profit regulation
- performance targets and quality standards
what is merger policy
blocking mergers that might give firms too much market power
what is price regulation
capping the prices firms can charge consumers
what is profit regulation
taxing firm profits if they make too much supernormal profit
what is performance targets and quality standards
imposing targets and standards so firms don’t provide dodgy goods or services
the CMA investigates a merger if
combined market share over 25% - too much market power and could hurt consumers with higher prices
combined annual turnover over £70m - negatively effect consumers
price regulation
limits how much a firm can increase its prices which protects consumers from high prices
RPI is a measure of
inflation
price regulation: what are the 2 types of price cap
- RPI +K
2. RPI -X
RPI+K
first calculate RPI - increase price in line with inflation
K - supernormal profit; so CMA allow firms to increase their prices by +K so that the firm can invest the K (profit) into new capital = better quality and cheaper good
RPI -X
first calculate RPI - allow firms to increase prices along side inflation
slacking so minus RPI by X so that they can make efficiency improvements gains now in the short run to push costs down
Regulatory capture is when
a regulator begins to favour the company they’re regulating.
low quality standards, increasing price too much -> favours firms and harms consumers
profit regulation is when
a firms’ profits are taxed at 100% above a certain limit
- this encourgaes companies to reinvest profits which will mean improved capital
however profit regulation can mean there is no
profit incentive so firms might just get lazier
CMA wants to
increase quality so use targets and standards to get firms to cooperate.
performance targets are
targets for firms to meet, to ensue there providing a top quality service
quality standards are
standards of quality that firms have to meet to sell their goods and services
example of performance targets
NHS - each hospital has the performance target of responding to accident and emergency patients in less than 4 hours.
example of quality standards
food standards agency
when is the CMA not effective
sneaky firms - the firms lawyers settle the case
play nice to regulators
return to sell poor quality products for high prices and being x-inefficient 1
to stop firms selling poor quality products for high prices and being x-inefficient what is needed
competition - new firms to enter the market and compete with incumbent firms, they will force incumbent firms to lower prices and improve quality of products and stop being so x-inefficient otherwise loose consumers to the new entrances
how to get new firms to join the market
CMA can increase contestability by: lowering barriers to entry, so that it is easier for firms to entry the market and therefore easier to contest incumbent firms
4 ways the CMA can increase contestability
- deregulation
- privatisation
- stopping anti-competitive practises
- helping small businesses
deregulation is where
regulations are removed to lower barriers to entry
the result: lower prices, better customer service and increased efficiency (taxis and uber)
Privatisation
Privatisation is when the government transfers ownership of a public sector firm to the private sector.
pressure to cut costs and max profits which help improve efficiency
e.g. BT, British gas, British airways
what usually follows privatisation?
deregulation -
e.g.. sky and virgin, easy jet, EDF ->competeing
negative of privatisation
cut cost too low - reducing quality
increase prices - to exploit consumers
Competitive tendering is when
The government outsources specific job contracts to the private sector. Private sector firms bid to win the contract, by offering the best deal - the highest quality for the lowest cost. The government then chooses the firm which offers the best value for money - and awards them the contract!
Competitive tendering beneficial for the government because,
by getting private sector firms to bid against each other for the contract, private sector firms will undercut each other’s prices and offer better quality. This means the government can make sure it’s getting the best deal possible - saving money, and increasing quality.
anti-competitive practises
Anti-competitive (or restrictive) practices include anything a firm might do, to restrict competition.
Predatory pricing is when
a firm aggressively cuts its prices below AVC to force out competitors from the market.
In the short run, the firm incurs a loss.
But in the long run, firm forces out its competitors, so they can take over the market - restricting competition.
price collusion
Collusion is when two or more firms agree to limit or restrict competition.
anti-competitive practices include
Predatory pricing
price collusion
vertical integration
If the CMA catches firms engaging in anti-competitive practices, they can:
Set a fine up to 10% of annual revenue
Sentence CEOs to jail time
Name and shame the firm publicly
ways to help small business grow
subsidies, tax breaks and loans.
Access to loans
enterprise capital funds to lend out to new business for super low interest rates to help them expand and benefit form economies of scale and compete with big businesses
this will increase contestability and decrease prices
R&D tax breaks
small to medium size enterprises receive reduce tax rates if they are using their profits to invest into R&D and increase dynamic efficiency
the lower corporation tax will reduce costs and increase supernormal profit so they can do more R&D and come up with new innovations
Subsidies
gov gives subsidies to small firms
the subsidie will reduce firms costs decreasing AC and MC so firms will be able to drop its prices from P max to P1
makes it easier to compete with big incumbent firms
Nationalisation is when
the private sector transfers ownership of a private sector firm to the government.
e.g.. railways were nationalised prices set price =to mc allocatively efficient to maximise welfare but at this price making a huge loss
who demands labour
producers
Labour market diagram: Demand curve is downwards sloping because
when wages go down can afford to hire more workers
when wages go up they can afford to hire any more workers the demand for labour will decrease
Labour market diagram: supply curve is upwards sloping because
as wages go up ppl realise they can make more money and will be willing to work more, quantity of labour supplied will increase
as wages go down ppl can’t make as much money working so will be willing to work less, quantity of labour supplied will decrease
as wages increase
Workers will supply more labour and firms will demand less labour
wages decrease
Workers will supply less labour and firms will demand more labour
in the labour market what do we call excess supply?
unemployment
As wages decrease back to equilibrium, we’ll see:
A decrease in quantity supplied of labour and increase in quantity demanded of labour
As wages increase back to equilibrium, we’ll see:
An increase in quantity supplied of labour and decrease in quantity demanded of labour
above the equilibrium wage there’ll be
Excess, supply, unemployment, surplus.
below the equilibrium wage, we find that:
Quantity demanded of labour is higher than quantity supplied of labour
consumer surplus =
willing to pay - actually pays
consumer surplus is
the difference between what consumers are willing to pay and what they actually pay.
supply curve =
the marginal cost curve
the lowest price producers are willing to except is
= to marginal cost
producer surplus
the difference between what producers are willing to sell for and what they actually sell for.
YED =
YED = % change in quantity demanded / % change in income
YED measures
How much Qd will respond to a change in income
Normal good will always be
Positive
Inferior goods will always be
Negative
Inferior goods:
Y increases
So demand …
Decreases
Inferior goods:
Y decreases
So demand …
Increases
Normal goods:
Y increases
So demand …
Increase
Normal goods:
Y decreases
So demand …
Decreases
So for income inelastic goods, when income increases:
quantity demanded will increase by a smaller %
Income inealstic good are
Necessities
Income elastic goods are
Luxury goods
For a % change in income, quantity demanded of an income elastic good, or a luxury, will:
quantity demanded will increase by a larger %
Fixed cost
Cost that doesn’t change with an increase or decrease in the amount of goods or services produced or sold
Variable cost
Cost that varies with the level of output
Corporation tax
% of businesses profits
Specific tax is
A fixed amount of tax paid of each unit sold
Due to specific tax producers will require
Higher prices to make up for the tax
What happens to the supply curve of a specific tax?
Shifts upwards
Where is the specific tax shown on a diagram?
The space between the 2 supply curves
An ad valorem tax is
An ad valorem tax is a tax charged as a % of the price of a good e.g. VAT
Where is the size of the ad valorem tax shown
The vertical distance between the 2 supply curves
Tax revenue =
Size of tax per unit x q sold
Subsidy is shown on a diagram by the
Distance between he 2 supply curves
Subsidy means that
There is more incentive to sell
And the price is decreased
Total cost of subsidy =
Size of subsidy x quantity sold
A subsidy means that our supply curve wil
will shift vertically down by the size of the subsidy
PED
When is it elastic and inelatsic?
Elastic - bigger than 1
Inelastic- 0.
Examples of perfectly inelastic goods in the world
addictive drugs
life saving drugs
as we move closer to 0 demand becomes
more inelastic
between -1 and 0 =
inelastic
PED =0
demand is perfectly inelastic
elastic demand is between
-1 and -infinity
-1 and -infinity
elastic demand is between
inelastic
between -1 and 0 =
PED = ∞
perfectly elastic
PED = -1
unitary demand
for unitary demand we need
the % change in quantity demanded the same size as the % change in price
what she is a unitary elastic demand curve
curved like the beginning of a U
factors which influence PED
necessity addiction and habit availability of substitutes brand loyalty proportion of income time period
NASBIT
a necessity good is an
inelastic good
a luxury good is a
elastic good
addictive good will be a
inelastic good
however habit goods can also be addictive meaning that they are also an
inelastic good
what is a substitute
A substitute is a product which can replace another product e.g. a Samsung and an iPhone.
market failure is when
the price mechanism leads to a misallocation of resources
examples of market failure
negative externalities
positive externalities
public goods
information gaps
negative externalities are
Costs which affect third-parties outside the price mechanism.
what are the 2 types of negative externalities
negative production externalities
negative consumption externalities
negative consumption externalities are
when the consumer is creating negative externalities - eg.smoking
negative production externalities
when the producer is creating negative externalities - eg.pollution
private benefits and costs are
inside the price mechanism
social costs =
private costs + private costs
social benefit =
external benefits + private benefits
outside the price mechanism we find
external costs and benefits
negative production externalities mean the government has to intervene because
producers are only thinking about the private costs and benefits
what curves does the government consider
MSC
MSB
net benefit/ welfare=
social benefit - social cost
in a negative externality diagram; where is over production shown
between socially efficient eq (MSC intellects MSB) and market eq
what do we label supply in a cost/benefits diagram?
MPC
what do we label demand in a cost/benefit diagram?
MPB
in a negative externality diagram; if the distance between the MSC and MPC is getting bigger then
external costs are increasing
in a negative externality diagram; if the MPC and MSC curves are parallel then
external costs stay the same, as quantity increases
in a negative externality diagram; When producers and consumers don’t consider the external costs of their actions they end up…
Overproducing and overconsuming
The result of overproducing and over consuming is
a welfare loss
social efficient point is
MSB=MSC
In a free market, producers and consumers only consider their…
own private costs and private benefits
So they produce where MPC = MPB
indirect taxes make production more
costly for firms
after the indirect tax…
costs have been increases so MPC shifts upwards to insect where MSC =MPB
the indirect tax has to be set equal to …
the external cost at the socially efficient Eq
when MPC+tax intersects MPB at the socially efficient Eq the negative production externality has been
internalised
what can the government use to internalise negative externalities
indirect tax
tradable pollution permits
if a firm is finding it difficult to reduce pollution and another firm is finding it easy and cheap they can sell their pollution permits to the other firm so that they can producer a bit more pollution.
the cap and trade system works by
- first they government sets a cap, how much pollution it will allow each year
- gives out permits to firms -shared between
Firms finding it expensive to reduce their pollution will:
Buy permits from firms finding it cheaper to reduce their pollution
minimum prices mean that
prices are kept high
quantity demanded is low
reducing the overconsumption
minimum prices should be set
above the Eq price
minimum price creates
excess supply and the prices legally can’t be reduced causing a disequilibrium
minimum price creates
excess supply and the prices legally can’t be reduced causing a disequilibrium
how can you solve negative externalities
min prices
regulation
indirect tax
positive externalities
Benefits which affect third parties outside the price mechanism
Social cost =
private cost + external cost
Social benefit =
private benefit + external benefit
in positive externalities the MSB curve is parallel with the …
in negative externalities the MSC curve
MPB curve
Subsidies are
a grant from the government to a firm to increase supply
the gov use tax revenue to encourage the consumption and production of goods that are good for society
XED measures
how the quantity demanded of one good, good A, will respond to a change in price of another good, good B.
XED=
%change in QD of goodA / %change in QD of goodB
XED= -
compliments
XED= +
substitutes
XED= 0
unrelated goods
Substitute is
a product which can replace another product
many substitute then
elastic
few substitutes then
inelastic
strong brand loyalty
inelastic
weak brand loyalty
elastic
large proportion of your income
elastic
small proportion of your income
inelastic
short run
inelastic
long run
elastic
price increase will
lead to a contraction in demand, quantity demanded will decrease.
decrease in price will
lead to an extension in demand, quantity demanded will increase.
An extension in demand only takes place when:
price decreases
When something other than the price of our good changes, that means:
the entire demand curve will shift.
demand decreases
demand curve shifts to the left
producer surplus is
the difference between what producers are willing to sell for and what they actually sell for
in a positive externality diagram; if the distance between the MSC and MPC is getting bigger then
external benefit increases
in a positive externality diagram; if the MSC and MPC is parallel then
external benefit stays the same
what do public goods have in common
non-rival and non-excludable
free rider problem
when people take advantage of being able to use a common resource, or collective good, without paying for it, as is the case when citizens of a country utilize public goods without paying their fair share in taxes.
the government deals with incomplete information by using
regulation
providing information and advertising
subsidising
Incomplete information is when
someone doesn’t have full information about the benefits or costs of their decisions.
what can incomplete information lead to?
under consumption as consumers can see the long term benefits of consuming
also over consumptions were consumers aren’t informed of the long term costs
Asymmetric information is when
one party knows more than another party in a transaction.
the market can fail in four different ways:
Negative externalities, positive externalities, public goods, information gaps
how the government can step in to address these market failures with a range of different policies
Taxes, subsidies, tradable pollution permits, minimum and maximum prices, regulation and information provision.
max prices is set
below the eq
examples of government failure
- distortion of the price mechanism
- the law of unintended consequences
- administration costs
- information gaps
was does max price cause and why
excess demand/ shortage
lower price reduces the incentive to supply but more is demanded at this lower price
maximum prices can distort the price mechanism by
Reducing price below equilibrium, creating excess demand
Government failure is when
the government intervenes to correct a market failure but makes the allocation of resources even worse than before.
minimum prices cause
excess supply/ surplus
minimum prices can distort the price mechanism by
over producing and causing a wastage can lead to dumping
Government intervention intends to correct market failures and help society…but
Unintended consequences eg. speed bumps
The law of unintended consequences
explain how information gaps can lead to gov failure
underestimated costs
explain how administration costs can lead to gov failure
regulation means people needed to regulate
what is The law of unintended consequences
Government intervention intends to correct market failures and help society…but can cause Unintended consequences eg. speed bumps and ambulances
what are the 3 functions of the price mechanism
Rationing
incentivising
signalling
Free market economies allocated their resources by
The price mechanism
In a mixed economy all resources are allocated by
The government and the price mechanism
In a command economy all resources are allocated by
the government
Division of labour enables:
specialisation
what is the division of labour
where the production process is split up into smaller tasks where each worker is assigned to a different task this allows workers to specialise
barter
exchange (goods or services) for other goods or services without using money.
functions of money
- medium of exchange
- provide a unit of account
- provide a store of value
- deferred payment
positive statment
proven statement
normative statement
can prove
opportunity cost is
the lost opportunity of the next best alternative
ppf
just tells us the different combinations that can be produced not the best
Elasticity of demand for labour, tells us
How responsive demand for labour is to changes in wage
few substitute =
inelastic demand
lots of substitutes =
elastic demand
wages are a small % of total cost
unresponsive inelastic demand
wages are a large % of total cost
v responsive elastic demand
in the short run, if wages increase, demand will be:
inelastic because there’s not enough time to find substitutes
in the long run, if wages increase, demand will be
elastic because there is enough time to find substitutes
if demand is inelastic wages will be
higher
if demand is elastic wages will be
lower
What are the three key factors which affect labour elasticity of demand?
Substitutes
% of total cost
Time
in markets where workers require lots of skills and qualifications, supply will be:
inelastic
in markets where workers require few of skills and qualifications, supply will be:
elastic
in the short run if wages increase
workers don’t have time to train and apply for a job so workers are unresponsive to a change in price, so inelastic supply
in the long run if wages increase
workers will have lots of time to apply and train for the job so elastic supply
Derived demand is
demand for a factor of production (like labour) that is derived from the demand of another good/service.
