Paper 1 - Microeconomics Flashcards
Draw Merit Good Diagram + Analyse (4)
A good which will be underconsumed in a free market because it is better for consumers than is commonly understood
1. Giving people information enables them to understand the benefits gained by the Merit good = Changes tastes and preferences = Changes social norms
a. Consumers are now being able to make rational decisions = Know true MPB = Marginal private benefit
2. Gives consumers more incentive to buy, shifting demand curve Rightward from D1 to D2
3. Increases Equilibrium price P1 to P2 causing a Extension of Supply from Q1 to Q2
4. Where Q2 is the social optimum correcting underconsumption
5. A Changes social norms will shift the demand curve further to the right from D2 to D3, causing price to further increase from P2 to P3, causing a extension of supply from Q2 to Q3
Draw DeMerit Good Diagram + Analyse (4)
A Good which will be Over Consumed in a free market because it is worse for consumers than is commonly understood
1. Giving people information enables them to understand the harm done by the demerit good = Changes tastes and preferences + Social norms away from Good
a. Consumers are now being able to make rational decisions = Know true MPB ( Marginal private benefit ) = stray away from Good
2. Gives consumers less incentive to buy, shifting demand leftwards from D1 to D2
3. Lowers Equilibrium price from P1 to P2, Causing a contraction of supply from Q1 to Q2
4. Where Q2 is the social optimum correcting over consumption
5. A Changes social norms will shift the demand curve further to the left from D2 to D3, causing price to further decrease from P2 to P3, causing a contraction of supply from Q2 to Q3
Limitations of Information Provision (5)
- Opportunity cost - Benefit forgone from the next best alternative
- Money could be used elsewhere by the Government i.e. on healthcare
- No Guarantee of Success
- Info can be ignored = No Guarantee of Success
- If Policy Poorly targeted + Poor quality = Consumers ignore info + correct target audience don’t get info
- Long Run NOT Short Run = Takes time for consumers to change consumptions habits = Will need to see + hear info many times before they truly understand benefit / harm caused by good
- People may not understand or information may be inaccurate - risk of government failure
- People already have knowledge and just purposefully ignore it
Define Information Failure
Information Failure - When Information available to a decision maker is incomplete / inaccurate = leads to market failure
Define Information Provision
Information Provision - Government funded information provision / advertising / educating to encourage or discourage consumption
* - Policy much more market friendly than other policies = Taxation
- Not very interventionist + materialistic
Draw Positive Externality of Production Diagram and Analyse (4)
**Benefits to 3rd parties as a result of Actions of Producers ( Example - In Work training + R & D **
1. Individual producers / firms only consider their private cost and don’t consider their full social cost ignoring any external benefits to 3rd Party firms due to self interest
2. They don’t care about about external effects or private costs resulting in resources being allocated at Q1, which is private optimum (CB1 = MSP) instead of the Social Optimum Q2 + CB2 = under production leading to under consumption
3. MSC > MPC (Social cost = Private cost + external cost)
4. Causes Misallocation of Resources = Allocatively Inefficient + Welfare Loss
Draw Positive Externality of Consumption Diagram and Analyse (4)
Benefit to 3rd Parties as a result of action of consumers ( Sample - Healthcare + Education = If individuals educated more productive = ↑ Incomes = ↑ Tax = ↑ Gov revenue = ↑ Benefit to Society)
- MSB > MPB = ( Social Benefit = Private benefit + Extra Social Benefit)
- Not producing at Q2 = Losing net Social Benefit)
1. Individual consumers are ignoring the full social benefit of their actions due to information failure and only considering their private benefit because of self interest ignoring external positive benefits
2. Market allocates scarce resources at private optimum of Q1 + CB1, resulting in underconsumption + under production of goods compared to their social optimum of Q2 + CB2
3. Results in Misallocation of Resources , Allocative Inefficiency + Welfare Loss = Too few resources are being allocated to market i.e. Healthcare + Education than are socially desirable
4. MSB > MPB = ( Social Benefit = Private benefit + Extra Social Benefit) Not producing at Q2 = Losing net Social Benefit)
Draw Negative Externality of Production Diagram and Analyse (4)
Cost to 3rd Parties due to Actions of Producers - Examples = Air pollution ( Risk of lung Cancer), Resource Depletion, Deforestation, Resource Degradation ( Waste thrown into River = Risk of disease) = 3rd Parties have nothing to do with Production
1. Firms are ignoring Social Costs as a result of Self Interest and only consider their Private Cost (which is shown by MSC > MPC) meaning Resources are allocated at Q1, CB1 which is the Private Optimum instead of Social Optimum
2. Causes overproduction increasing negative effect production has on individuals ( Social cost greater than Social benefit = Not mas)
3. Price is TOO LOW at CB1 due to it only accounting for private cost and not the socal cost making the problem of overproduction worse due to more people consuming such goods
4. Leading to Misallocation of Resources = Allocative Inefficiency = ( Social cost greater than Social benefit = Not maximising Social Benefit) cumulating WELFARE LOSS
Draw Negative Externality of Consumption Diagram and Analyse (4)
Costs to 3rd Parties as a result of actions of consumers - Examples = Smoking ( Risk of Lung Cancer), Alcohol ( Cost to Health Service + Police time + Disorderly behaviour), Excessive Sugary Drinks + Fast Food (Health service + employers missing lost days of work due to ill health)
1. Consumers ignoring full social benefit of their actions and are only considering their private benefit resulting in MSB < MPB
2. Market allocating resources at Q1, CB1 where MPC cuts MPB leading to an overconsumption + overproduction of these goods
3. All units being produced beyond Q2 are being produced at a higher Social Cost than Social Benefit
4. Misallocation of Resources = Meaning too many resources are being allocated to this market than are socially desirable resultantly in Allocative Inefficiency and WELFARE LOST to Society
Draw Indirect Tax Diagram and Analyse (5)
Indirect Tax - Expenditure Tax on goods and services, either a fixed amount per unit or percentage added to pre tax price ( ad valorem tax = VAT)
1. Indirect tax increases firms’ cost of production and mean that at any given price suppliers will be able to earn less profit
2. Means they have less incentive to supply and the supply curve will shift to the leftwards (Upwards) from S1to S2 + Tax
3. Increases the Equilibrium Price from P1to P2and causes a Contraction of Demand from Q1to Q2
4. Reduces the quantity to the social optimum, correcting the problem of Overconsumption or Overproduction by internalising externality and correcting the market failure
5. ↑ Allocative Efficiency = ↑ Gov Revenue → ↑ Taxation = Hypothecated Tax ( Revenue used to Educate, Subsidise Alternatives ect, Addiction Campaigns)
Disadvantages of Indirect Tax (11)
- Effectiveness depends on PED
a. PRICE INELASTIC DEMAND = ↑ P and ↓ Q = BUT ↓ Q IS PROPORTIONATELY LESS THAN ↑ P - Difficult to accurately value externalities and thus gauge the size of Indirect Tax needed = risk of market failure
a. Gov DOES NOT have Perfect Info about Value of Externality = Price Tax Wrong
b. Over Tax:
1. Regressive = Takes greater proportion of Income of Poor than Rich → ↑ Income Inequality = Gov Loses Macro Objective
a. Firms may SHUT = ↑ Unemployment
b. Formation of Black Market = Poor unable to afford Good so turn to Black Market for Cheaper Price = ↓ Tax Revenue
a. Policing Required to ensure Black Market Does Not form = Opportunity Cost- Under Tax:
a. Externality Not Internalised
- Under Tax:
- Indirect Tax is Paternalistic → Gov Forces decision on Public = Impinges on Freedom of Choice + Liberty = Issue if Public Doesn’t agree if good with indirect Tax on it is NOT a issue
Draw Direct Tax Diagram
**-Direct Tax - Tax on incomes that can’t be transferred - Example = Income Tax
**- AD Valorem = Tax as % of Price = VAT
- Supply curve shift Pivated = Taxed price changes according to price
Effect of PED on Tax
Price Elastic Demand = PED > 1
- Consumer Burden = Lower
- Producer Burden = Higher
- Gov Revenue = Lower
- ↓ Q = Fall in Q > ↑ P → Less TAX gained
- If PED = 0 = Perfectly Price Elastic
- Producer Burden Takes it all + Consumer Burden is 0
**Price Inelastic Demand = PED < 1
**- Consumer Burden = Higher
- Producer Burden Takes it all + Consumer Burden is 0
- Producer Burden = Lower
- Gov Revenue = Higher
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↓ Q BUT NOT A LOT
- Lots of Units still Subject to Tax
- DEMAND INELASTIC = ↑ PRICE WITHOUT LOSING DEMAND
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↓ Q BUT NOT A LOT
Draw and Analyse Subsidy Diagram (4)
**Subsidy - Money grant given by Government to firms to reduce their cost of production in order to encourage production of a good or service **
1. A subsidy will decrease firm’s cost of production and mean at any given price suppliers will be able to earn more profit
2. Means they have more incentive to supply and supply curve shifts rightwards from S1 to S2
3. This decreases Equilibrium price from P1 to P2 causing an extension of demand from Q1 to Q2
4. This increases the quantity to the social optimum, correcting the problem of under consumption or under production correcting market failure
Disadvanatages of Subsidy (10)
- Effectiveness depends on PED
- PRICE INELASTIC DEMAND → Price not main reason why people don’t switch from Using Car to Bus = Quality issue + Personal Choice
- It is difficult to accurately value externalities and thus gauge the size of subsidy meaning risk of market failure
- Gov DOES NOT have Perfect Info about Value of Externality = Price Subsidy Wrong
- Under = Won’t fix Underconsumption
- Over = Subsidy Dependency = Productive + Allocative INEFFICIENCY
- LR Dependency = Firm’s cant service without Subsidy = If Taken away they will Shut down
- Gov DOES NOT have Perfect Info about Value of Externality = Price Subsidy Wrong
- Opportunity cost
- Firms may use the subsidy to increase production or may become Productively + Allocatively inefficient
Regulation + Market Failure
Rule or Law enacted by the Government that MUST be Followed by Economic agents to encourage change in Behaviour
Draw Tradeable Permit Diagram and Analyse (7)
Assume Government Knows Externalities of pollution and are able to correctly value them
**Tradable Permits - Permits that give holders right to emit specific quantity of pollutants that can be sold by firms who reduce their pollution and bought by firms who have higher abatement costs **
1. Government decides that a market is failing, probably due to the amount of pollution it generates
2. Government imposes a limit on the amount of pollution (Pollution cap = Co2 emissions Economy is allowed to emit in a year ) that can be emitted and produced a volume of permits equal to that limit
3. Government allocated permits either through auction or by grandfathering permits based of emission records
1. Firms choose if they wish to produce more Co2 than Permit allows = Based on lowest cost
1. Can Invest in Green Tech or Buy Spare Permits = Externalities ALWAYS Internalised = Polluter paying cost to Society of Pollution BUT in the way most Efficient Way for THEM
4. Over time, supply of permits is reduced and supply curve for permits shifts leftwards from S1 to S2
5. Increases market price from P1 to P2 = firms only buy permit if its cheaper than marginal cost of abatement
6. Increase in price causes contraction of demand and quantity of permits falls from Q1 to Q2
7. Reduced quantity of pollution to social optimum of 2 correcting market failure
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Disadvantages of Tradeable Permits (7)
- Key advantages over indirect tax are limit
- Price can be bid up by spectators unlike a Tax
- Imperfect Gov Info = Government requires correct information when setting the cap - risk of government failure
- Difficulties with deciding an initial allocation - Grandfathering vs auction
- Administration cost + monitoring opportunity cost = Enforcement Needed
- Can the Government Afford it? Or can Tech be used? = Opportunity cost of Policing
- Increases firms costs thus prices regressive and inflationating
- May cause some Firms to have to leave the market = ↑ Unemployment ( Cyclical) → ↑ Income Inequality = Affects Low earners more than High earners
- Jurisdiction issue - Need for International Cooperation for it to be effective → COP
Draw Minimum Price Diagram and Analyse (6)
**Minimum Price / Floor Price = Minimum price enforced by Law or some other means i.e. Intervention Buying **
1. Minimum price threshold is set up by government
2. Consumers less willing and able to buy product disincentivizing consumption
3. Demand curve shifts leftwards from QE to QD = Contraction of demand
a. Internalises the Externality = Allocative Efficiency Achieved + Welfare Maximised in Market
4. Causes price to increase from PE to Pmin
5. Results in EXTENSION of supply from Qs to QD causing excess supply
6. Gives firms MORE incentive to supply good in the SR
7. But in LR Firms have less Incentive to supply shifting the supply curve to the leftwards, due to there not being enough demand for their product
Disadvanatages of Minium Price (6)
- Effectiveness depends on PED
a. PRICE INELASTIC DEMAND = Fall in Quantity from QE - QD Proportionally less than increase in price from PE to PMin → Fall In Q NOT enough to solve Market Failure
b. If D is Price Inelastic → Producers Revenue Increases - Regressive
a. Affects people with Low Incomes more than people with Higher Incomes
i. Increases Income Inequality = Gov loses Key Macroeconomic Objective - Formation of Black Market
a. People Who can’t afford new price Find Alternative Supplies = Health risk for Consumer
b. Alternatives May be worse + Gov loses Tax Revenue
c. Opportunity Cost of Policing - Set a Right Level?
a. Gov Don’t have Perfect Knowledge = Unsure if PMin Set right
a. Too High = Firms Forced to Leave Market = May move Abroad = ↑ Unemployment
b. Too Low = Quantity DOES NOT Decrease Enough to solve Market Failure
Draw Maximum Price Diagram and Analyse (6)
Maximum / Ceiling = Maximum price enforced by Law or some other Government Intervention = Used to promote Equity + Consumption = Aim to help Lower income households
1. Maximum price threshold is set up by government because at QE the price PE is too high
2. Consumers more willing and able to buy product incentivising consumption = ↑ Consumption
3. Demand curve shifts Rightwards from QE to QD causing a Extension of demand
a. Internalises the Externality = Allocative Efficiency Achieved + Welfare Maximised in Market
4. Causes price to Decrease from PE to PMax
5. Results in contraction of supply from QE to QS causing excess demand
6. Gives firms LESS incentive to supply good
Disadvanatages of Maximum Price (6)
- May result in a Shortage of Supply
- Government intervention causes inefficiency in Market = Create EXCESS DEMAND
- Formation of Blackmarket
- People who are UNABLE to find Good at lower price + CAN AFFORD to pay higher price will find Alternative Suppliers = Risk to consumers = Exploitation
- Alternatives May being taking Advantage of consumer + Gov loses Tax Revenue
- Opportunity Cost of Policing
- Enforcement
- How will it be controlled? = Fines ect
- If too Lax nobody will listen to it
- Setting right Price?
- Too Low = Excess demand further
- Too High = No Promotion of Equality (Goal) and ↓ **Consumption
Draw and Analyse Long run Equilibrium under Perfect Competition (9)
- Market price is set through interactions of the market forces of supply and demand, resulting in equilibrium price being P1 and output of the whole industry being Q1.
- As goods are homogeneous and there are many sellers in the market who are all “price takers “ as they are unable to charge a price above P1 due to demand being perfectly price elastic (if they increase the price demand will fall), which is caused by perfect knowledge held by both firms and consumers.
- This results in the demand curve ( also AR + MR curve) being horizontal. Firms are still able to increase output sold without cutting prices meaning P1 is also the Marginal revenue for each unit.
- MC curve will cut the AC curve at the lowest point because when MC>AC this causes a rise in AC.
- Due to firms being profit maximisers they produce where MR = MC which is at q1.
- At q1 this firm produces on the lowest point of the AC curve meaning it is productively efficient due to it fully exploiting economies of scale, resulting in it also being X efficient
- Furthermore at Q1, the price P1 is equal to the MC meaning it is also Allocatively efficient due to resources perfectly following consumers demands.
- This means that price is low allowing for consumer surplus to rise , increasing choice inevitably benefiting the consumer.
- As a result of there being no supernormal profit it means there is no dynamic efficiency within this market meaning consumers will not be seeing innovation of products ect.
Allocative + Productive efficiency is for firms not the market = this could still fall if demerit goods are being produced.
Draw and Analyse Profit in Short run under Perfect Competition (8)
- Price is determined by conditions in the market as a whole meaning demand is perfectly price elastic at P1.
- Firms will be able to make a supernormal profit of C1P1AB due to a decrease in Average costs meaning AR > AC.
- As a result of firms being profit maximisers they produce where MR = MC which is at q1.
- Firms receiving supernormal profits acts as a signal for new firms to enter the market which they are able to do so due to an absence of barriers to entry.
- This causes a rightward shift of the demand supply curve from S1 to S2, lowering the market price from P1 to P2. As a result of demand being perfectly price elastic the firm’s product curve will shift downwards from D2=AR2=MR2.
- Firms being profit maximisers they will need to produce where MR=MC at the new price of P2 and quantity of Q2.
- The firms will return to the long run equilibrium position giving firms less incentive to join the market due to only normal profits being left.
- In the Short run average cost isn’t minimised meaning at q1 the firm is productively inefficient however P = MC so firm is allocatively efficient
Draw and Analyse Economic Loss in SR under perfect competition (8)
- Market price which is determined by conditions of the market as a whole is P1.
- Firms being profit maximisers produce where MR = MC at Q1.
- However for a reason such as increased cost of materials firms Average Cost greater than Average Revenue meaning they will be making a Loss of P1C1BA in the short run only.
- In the the Long run firms will not make an economic loss.
- Firms not longer making economic profit gives them an incentive to leave the industry and use their factors of production to produce their opportunity cost to enable them to make a profit.
- This causes a leftward shift of the market supply curve from S1 to S2, increasing market price from P1 to P2.
- As the firms demand curve is price elastic this will shift the demand curve upwards to D2=AR2=MR2 meaning remaining firms will return to long run equilibrium position.
- Price will increase until there is no more incentive to leave the market and normal profit is made in the LR.
Draw and Analyse Monopoly Diagram (7)
Pure Monpoly - Only 1 seller of a good and no subsitutes
Working Monopoly - Firms own 25% or more shares within a Market
1. Monopolists have a price setting ability so assuming they will profit maximise they will produce quantity where MR=MC, which is above QM charging a price of PM.
2. Total revenue is OP1AQ1 ( selling price x sales volume)
3. Firms total costs are OC1BQ1 (AC x quantity produced)
4. Means firm will produce an supernormal profit of C1P1AB which is shown by the shaded area.
5. At this level of output the firm is Allocatively inefficient due to them charging a price above P=MC, allowing them to exploit consumers by making them pay more than cost of production, decreasing consumer surplus.
1. Furthermore, firms restrict output + choice which can possibly lead to poorer quality of good leading to a deadweight lost of AED
6. Firms is productively inefficient due of them not producing on the lowest point of the AC curve.
1. Firms voluntarily forgo economic of scale = don’t minimise price due to them having the ability to increase price meaning consumer lost surplus while producers gain surplus
Draw and Analyse Deadweight Loss In Monopoly (6)
Monopoly = Only 1 seller in the Market and no substitues
1. Monopolists restrict output and raise price = Consumers have nowhere else to buy good = Protection from Barriers to Entry (Economies of Scale, Patents, Knowledge) allow them to maintain high prices
2. Firm under competitive conditions would produce where supply = demand, In following diagram this is QC
3. The market clearing price would be PC, meaning the consumer surplus would equal PCAB.
4. Instead firms pursue profit maximisation where MR=MC, causing them to restrict output to QM, causing them to raise price to PM.
5. Area of consumer surplus reduced to PMAE meaning the area PCPMEF has been appropriated by monopolists into producer surplus however FEB has been lost completely
6. Area GFB represents producer surplus lost for the same reason making GEB the deadweight loss of welfare to society.
Draw and Analyse Monopolistic Competition Diagram (8)
- Under monopolistic competition each firm has some characteristics which differentiate their products from their rivals giving them a degree of price setting ability causing them to have a downward sloping demand curve.
- Firms profit maximise so produce where MR=MC causing them to behave like a Monopoly.
- However Monopolistically competitive markets are contestable and the economic profit earned acts as both a signal and incentive for other firms to join the market.
- This causes existing firms products to no longer be sufficiently differentiates causing a barrier to entry due to new firms in the market producing close substitutes.
- Availability of new substitutes decreases demand for the incumbent firms products shifting the demand curve leftwards from D1=AR1 to D2=AR2
- This results in all the economic profit being competed away (lost) resulting in the market going back to its long run equilibrium.
- Furthermore like Monopolies, Monopolistically competitive firms are both productively inefficient due to them not producing on lowest point of AC curve (LR) and allocatively inefficient due to P > MC causing consumers to be exploited in the Long run.
- Also Monopolistically competitive firms are Dynamically inefficient in the LR due to there being no supernormal profit to reinvest.
Draw and Analyse Natural Monopoly Diagram (4)
A natural monopoly occurs when it is more efficient for a single firm to provide a good or service to the entire market due to high fixed costs and low marginal costs of production.
1. The fixed costs or natural monopoly are quite high so the minimum efficient scale of production is not seen on the diagram.
2. Firms Would profit maximised where MR=MC at Q1, charging a price of P1, making the Firms Total Revenue 0P1AQ1 and their Total costs 0C1BQ1 making Economic profit C1P1AB
3. If Natural Monopoly was broken up there would be increased consumption shifting AR and MR curves
4. At a Higher Quantity AC would be higher along with price at a new profit maximising level
- At Q2 with regulations Monopolist AC>AR meaning firm is making economic loss
- Government must subside market with subsidy of EF per unit to ensure firms make more than their average cost, ensuring firms don’t have incentive to leave the market
Draw and Analyse Oligopoly (10)
Oligopoly - Market Dominated by a few firms between whom there is conscious interdependence = each firms is affected by decisions of all other firms and they are aware of this fact = Also Barriers to entry i.e Economies of Scale + Brand loyalty = Make economic profit
1. Oligopoly markets are dominated by a few markets who are all consciously interdependence meaning each firm is affected by the decision of all other firms and they are aware of this
2. As a result if 1 firm increases its price from P1 to P2, it will cause a decrease in demand from Q1 to Q2 due to the proportionality decreasing more than the price meaning demand is price elastic. Also total revenue will fall.
3. This means other firms within the market will not follow suit resulting in the firm losing some of their market share which other firms wish to gain
4. However if 1 firm decreases their price from P1 to P3 their quantity demand will increase from Q1 to Q3 and be price inelastic but less proportionality meaning other firms will have to follow suit decreasing total revenue possibly resulting in a price war.
5. This would cause price INstability + non price competition = Gain consumers through Quality, Advertising, Customer Service = Increase CS
6. This can be explained by Nash equilibrium where all firms choose their best strategy based of their opponents actions.
7. As a result of interdependence it may be tempting for firms to see to collude in order to form a cartel which effectively acts as a monopoly by agreeing to price fix.
8. This causes prices to be made artificially high relative than what they would be under competition however this is illegal. Firms may instead overtally collude through price leadership which is where there is a market leader and other firms follow suit
9. Another pricing strategy is limit pricing in which firms set prices so low that it would make it unprofitable for new firms to enter the market detering hit and runs competition.
10. Firms will remain profitable by using limit pricing if incumbent firms have significant economies to scale.
Evaluation of Monopolistic competition VS Perfect competition and Monopoly (12)
- There is competition within Monopolistic competition so firms price setting ability is lower meaning price exploitation will not be as bad as there in Monopolies.
- There is still a loss of consumer surplus however it wont be as great as it would be under a Monopoly
- Perfect competitive firms only produce Homogeneous goods which isn’t what consumers desire
- Allocative inefficiency may not be such a bad thing and may be seen as desirable due to price exploitation not being as bad as it is under Monopolies
- Furthermore unlike in Perfect competition consumers still have the ability to choose between having the ability to buy substitutes of some expensive goods.
- An example of this is the Fashion Industry where stores such as Primark produce dupes of Burberry shirts allowing for people to buy substitutes for expensive goods.
- Productively inefficient compared to Monopoly isn’t as bad due to there being substitutes of goods
- In perfect competition there aren’t any economies of scale where as on Monopolistic competition there are
- Meaning economies of scale being exploited may be greater reducing the price of goods lower than they would be under perfect competition
- Productive inefficiency may also be due to product differentiation which inevitably makes it harder for firms to exploit economies of scale since differentiated goods cant be produced in bulk as easily.
- In perfect competition there aren’t any economies of scale where as on Monopolistic competition there are
- Monopolies have Dynamic efficiency always whereas Perfect competition will never
- However it could be said that in Monopolistic competition Dynamic efficiency may occur
- Firms may be able to use their short run supernormal profits if high enough to re invest
- In competitive markets firms could still achieve dynamic efficiency by using their normal profits to reinvest and it could be said that this is necessary in allowing firms to differentiate themselves further from their competition
- This can be seen in the fashion industry where firms need to produce new fashion lines in order to keep up with trends
- Furthermore, its not 100% certain that in Monopolies firms will reinvest their supernormal profits due to them not having an incentive such as competition to do so
Draw and Analyse Wage determination in perfectly competitive market (3)
Can be shown on a simple supply + demand diagram but draw the 1st diagram shown first
- In a competitive market individuals are unable to influence the wage rate and must accept the wage rate of WR1
- For the diagram on the left it is possible to say that as the real wage rate increases for a particular occupation there will be an increase in the quantity of labour supplied , caused by an increase in demand therefore leading to an extension of supply.
- However is it possible that a change in other markets might cause a shift in the supply curve if any other factor other than wage rate changes to make working in a particular industry more attractive such as Qualifications needed, location, change in working conditions or a change in other labour markets.
Draw and Analyse National Minimum Wage (3)
- The market is in initial equilibrium but the Government decide WRE is too low and intervene to set a new higher wage of NMW above WRE
- At this new higher wage there is an extension of supply from QE to QS = more people find work rewarding
- At this new higher wage firms hire less labour (WR > MRP for more workers making them profitable) and there is a contraction of demand from QE to QD resulting in unemployment equal to QS - QD
Draw and Analyse Trade union (4)
**Organisation of workers who group together to protect their interests = seen in wage demands, protecting employment ect **
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- Under competitive competition the market is initially in equilibrium at WRC with QC being the labour supplied and demanded
- Trade unions decide that WRE is too low and none of its workers will work for less than WRTU, making supply perfectly price elastic for wages below WRTU, putting a kink in the effective supply curve
- Firms profit maximisation decision remains the same so it will employ workers until the point where the wage rate is equal to QTU to MRP.
- Employment falls to QTU and unemployment increases
Draw and Analyse Monopsony (7)
Monopsonist - Sole employer of a particular type of labour - Pure monopsony = Rare but State has degree of Monopsony Power in profession like teaching
1. Monopsonists are profit maximisers so will only hire labour up until point where MR=MC, meaning hiring labor until point where MRPL = MC1
2. Firm therefore hire QM workers, requiring them to pay WRM (min pay required to hire QM workers)
3. This is different to the competitive outcome where wage equal to MRPL, also where MR=MC in a competitive market
4. In this diagram hiring QC labour would require the monopsonist to hire workers whom MCL>MRP, meaning the firm would hire workers between QC and QM
1. Lower the wages compared to MRP < monopsony power
2. Very inefficient
5. This is however incompatible with profit maximisation so the firm will therefore hire fewer workers than in a competitive market = QM < QC
6. They will also pay them lower wages = WRM<WRC
7. This may result in possible causes of market failure = however most monopsonies working in the public sector dont profit maximise
Draw and Analyse a Collective Barganing Diagram in Trade Union
Collective Bargaining - Process by which employees negotiate pay and conditions for a group of workers in a single negotiation
<aside>
💡 It may be possible through collective bargaining for the union to maintain employment, increase wages by negotiating change in working practices and improvement in Productivity
</aside>
- As a result of collective bargaining, through the use of a trade unions demand for labour would shift rightward from D1 to D2 at the new wage rate of WRTU
- The Number of workers would increase back to the equilibrium of QC decreasing unemployment
Draw and Analyse Bilateral Monopoly (9)
Monopsony vs Trade Union
Monopsonies + Trade Union offset effect of other and can Save jobs = ↓ Unemployment BUT in Real World depends on Strength of Trade Union
Bilateral Monopoly - Industry where ONLY 1 Monopsony Employer but Workers are members of Trade union
1. Monopsony seek to Profit Maximise so hire labour ONLY up to point where MRPL = MCL
2. Firms would therefore hire QM labour and would be required to pay them WRM (QM min pay required for people to work)
3. However Trade Union INSISTS on Wage Rate above Monopsony outcome
4. So ALL workers would be willing to accept wage rate below WRTU in competitive market without Trade Union and collective bargaining insists on WRTU
5. Supply of Labour to firms is Perfectly Price Elastic at this Wage rate = No worker willing to Accept less = Firms become Wage Taker of WRTU
6. Firms would still hire worker until MCL=MRPL but now hire QTU workers and pay them WRTU
1. Profit maximizing outcome all workers until QTU MRPL > MC1 → Profitable
2. Beyond QTU MCL = MRPL → Loss
3. Wages + Employment both ↑ = WRTU > WM and QTU > QM
4. Supply of labour shows limit to num of workers willing to work at WRTU
7. Firm wishes to hire more than QTU must pay more so supply curve becomes upward sloping = Trade union puts kink in diagram
8. When supply of labour curve horizontal the marginal cot of hiring workers is constant at the same wage rate = ACL and MCL equal to WRTU in this case
9. However if firms wish to hire more than QTU and rejoin original upward sloping supply of labour curve it will also rejoin original MCL curve.
Explain with the help of a diagram, how a Lorenz curve can be used to show that the distribution of income in an economy has become more unequal [9 marks]
- A Lorenz curve is a graphical representation of the distribution of income, compared to a line of perfect income equality ( on which x% of the population earn x% of the income for all values of x)
- On LC1 the poorest 25% of pop earn 10% of national income + poorest 76% earn 55%, meaning richest 25% earn 45%
- When distribution of income becomes more unequal, Lorenz curve deviates further from line of perfect income equality
- On LC3 poorest 25% of pop earn 5% of national income + poorest 76% earn 35%, meaning richest 25% earn 65%
Poorest quartile share of national income has fallen ( halved from 10% - 5%) and richest quartile share increased (45% - 65%), Lorenz curve bowing further outward shows distribution of income becomes more unequal
Draw and Analyse Perfectly Competitive Labour market (2) Also state possble supply curve shifters
Analysis
- Individual workers Cant influence wage rate and must accept market wage rate
- As wages increase for a particular occupation there will be an increase in the quantity of labour supplied → increasing demand causing an extensions of supply
**Possible shifts of Supply curve
**
- Population change + net migration
- Education + Training
- Changes in other labour Markets
- CHanged in working conditions
Drawand Analyse Effect of PED on Subsidy (6)
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💡 Effectiveness depends on PED
1. PRICE INELASTIC DEMAND → Price not main reason why people don’t switch from Using Car to Bus = Quality issue + Personal Choice
2. Price Elastic Demand → Will shift supply
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- If demand is price inelastic, a decrease in price will not change people’s decision on buying the good causing there to be steeper, resulting in quantity not increasing that much
- However if Price Elastic demand curve would become more horizontal and there would be more of an increase in quantity demanded resulting in price decreasing less than it would if demand was price inelastic, allowing for producers to make more profit
Draw and Analyse Wage Discrimination diagram (5)
- Employers who discriminate misperceive true vale of groups of (potential) employees + believe their MRP is less than it is
- As Firms demand workers whose MRP ≥ the cost of hiring them, demand curve is lower at D2 than it should be at D1
- As a result of this discrimination fewer workers are hired Q2 < Q1 and at a lower wage rate WR2 < WR1
- In the Diagram on the LEFT the “Contraction” of supply means that the discriminated against workers need to move into other markets to find work
- This shifts the supply curve for labour rightward from S1 to S2, depressing the wages in this labour market too from WR1 to WR2
Draw and Analyse Price Discrimination Diagram (7)
Price Discrimination = When a Firm charges different prices for the SAME good or service in different Markets which no difference in cost of production = Linked to Monopolies + appropriates Consumer Surplus
* Diagram Below Group A + B = 3rd Degree
1. Diagram on the left hand side shows the overall market
2. Firms profit maximise by producing where MR=MC, determining the overall quantity produced by the firm at Q1 with a overall profit maximising price of P1
3. However this Firm profit Maximises by Price discriminating
4. From the Overall diagram on the left we see that the Marginal cost of producing Q1th unit is MC1 and average cost is AC1 irrespective of which of the 2 markets the product is sold in =( No diff in cost of selling to student of someone on full income)
5. Therefore we can trace values of MC and AC across the 2 Markets
6. Each firm sells where MR=MC selling AQ at a price of PA to Group A and PB to Group B
7. Profit maximizing outcome = Different in each Market → Firms must EARN MORE profit by segmenting Market instead of Charging everyone P1
