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promos book 2 Flashcards

1
Q

Limits for profit max theory (2)

A
  1. lack sufficient or accurate info about demand cost conditions that exist
  2. cost of obtaining the info is high in terms of time and resources
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2
Q

Alternative objectives of firms

A
  1. revenue maximisation
    - especially for sales managers etc. who are dependent on commissions for their salary
  2. profit satisficing
    - minimum acceptable levels of profit
    - to pursue alternate interests
    - reduce impact on society or the environment
  3. market share dominance
    - because bigger companies attract better talent
    - gains and losses also correlate with stock performance
    - done through entry deterrence or predatory pricing
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3
Q

Difference in factors in long run and short run

A

Short run
- time period during which at least ONE factor of production if fixed
- output can only increase using more variable factors

Long run
- time period long enough for all inputs to be varied except the level of tech
-

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4
Q

LDMR

A

Law of diminishing marginal returns
- as more units of a variable factor are applied to a given quantity of a fixed factor, there comes a point beyond which the additional output from additional units of the variable factors employed will eventually diminish

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5
Q

Short run costs (fixed and variable)

A

Fixed: Costs that does not vary with output level and must be paid even when production does not take place

Variable: Costs that varies with output level and is not incurred when production does not take place

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6
Q

Draw short run cost curve

A

graph 1

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7
Q

Long run average cost curve (LRAC)

A

graph 2

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8
Q

Explain LRAC

A

as output rises, average costs fall initially due to IEOS

when long run average cost is at a minimum, the firm has reached its MES where no additional IEOS can be achieved

as output rises further, average costs increases due to IDOS

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9
Q

Types of IEOS

A

Technical

  1. Factor indivisibility
    - purchase of machinery that can significantly improve output and reduce average costs of production
    - but are only bought by large firms that can spread the equipment costs over a larger output
  2. Law of increase dimensions
    - output increased by a greater extent that the cost od producing the container (eg. shipping containers)
    - lower unit costs of production
  3. Specialisation and division of labour
    - workers assigned to more specific and repetitive jobs so less training is needed
    - workers also become significantly more efficient at their own job and this results in higher output per worker
    - lowers unit cost of production for the firm

Financial
- bigger firms are given lower interest rates and larger loans because of better credit scores and greater collateral
- riskier to lend to SMEs so they have higher interest rates

Marketing
- preferential treatment by suppliers because they buy raw materials and components in bulk
- bulk advertising

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9
Q

Types of IDOS

A
  1. High cost of monitoring and management
    - larger firms face communication issues and the flow of info between departments become less efficient
    - monitoring costs (eg. standardisation of menus across all outlets) increases
    - time lags in info
    - incur more costs to make changes faster
  2. Low morale of employees
    - relationships become impersonal and there is a sense of alienation
    - cause fall in productivity and higher costs
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9
Q

Types of EEOS

A
  1. Economies of information
    - sharing of R&D knowledge or facilities
    - share cost saving technologies
    - improve the productivity of indiv firms and reduce average costs
  2. Economies of concentration
    - clustering of businesses in a distinct geographical location
    - increases availability of skilled labour as special educational institutes can be set up there and those regions also attract talent for firms so they can reduce labour search costs
    - well developed infrastructure
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10
Q

Types of EDOS

A
  1. Increased strain on infrastructure (eg. congestion)
  2. Shortage of industry specific resources
    - growth of industry causes a shortage of specific raw materials or skilled labour, pushing up prices for them
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11
Q

What affects size of firms (7)

A
  1. Reach MES at very low levels of output relative to market output
    - When production process is broken up into separate processes with separate firms
    - performing small part of the whole task will incur lower unit costs
  2. Saucer shaped LRAC
    - small and large firms can coexist because they can be equally cost efficient (constant unit cost over a wide range of output)
  3. Banding and joint ventures
    - engage in joint ventures/band tgt to get advantages of bulk buying (can enjoy EOS even as a small firm)
  4. Nature of product
    - personalisation, each product needs individual attention, hard to mass produce
    - large firms focus on mass produced goods and smaller firms focus on niche markets
    - for niche markets, even though there isnt a lot of IEOS, can set high price to cover high costs as it is less price inelastic in demand
  5. geographical factors
    - transport costs etc
    - fresh produce will only ship within country
  6. business unwilling to take risks
  7. alternative objects of firms
    - eg. profit satisficing
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12
Q

Characteristics of PC

A
  1. Large number of small firms relative to market size
    - no significant share of the total market output
  2. Product is homogenous
    - all products are identical and perfect substitutes
  3. Barriers to entry and exit are absent
    - no restrictions when they enter the market
  4. Information is perfect
    - producers know the prices of all available goods and services, production tech etc
    - buyers know everything about each sellers price, quality and availability of the products
  5. No influence over price (price taker)
    - has to sell at market prevailing price
    - If PC sell above market price, Qd will fall to 0
    - no incentive to lower price as it can sell all it wants at current price
  6. Only normal profits in long run
    - supernormal profits eroded by entry of new firms due to absence of BTE
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13
Q

Draw PC diagram and explain

A
  • demand is perfectly price elastic as it is a price taker
  • average revenue = price

graph 3

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14
Q

Shut down condition

A

In short run, firms can only reduce the variable costs to zero by stopping production but not fixed costs by shutting down

Only need to consider its total revenue and total variable costs

If total revenue is less than the total variable costs, shut down
If total revenue is greater than total variable costs, can offset some fixed costs and should continue production

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15
Q

Draw graph for shut down condition (one for shut down and one for continue operating)

A

Graph 4

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16
Q

Adjustment from short run to long run (supernormal to normal)

A

Graph 5

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17
Q

Characteristics of Monopoly

A
  1. Firm is the only seller of a good or service
    - MES is large relative to market size, can only accommodate one firm
  2. Highly differentiated products
    - no close substitutes
    - PED is low (inelastic)
  3. Barriers to entry and exit are complete, supernormal profits
    - High BTE (strategic and statutory)
  4. Info is imperfect
    - consumers not fully aware of quality of good, production method and prices of rivals
    - firms are unaware of each others costs/methods of production
  5. High price setting ability
  6. No fear of rivals reactions hence acts independently on price or output
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18
Q

Barriers to entry (Strategic) (6)
–> moves to keep potential firms out of the market

A

Strategic:

  1. Advertising
    - help to boost demand for its products and persuade consumers that there are no close substitutes for its product
    - deepen customer loyalty and increase perceived switching costs
    - deters entry of new firms as they will struggle to match the same level of advertising
  2. Gaining control of raw materials
    - owning a significant portion of the key resource so new firms wont have access to the raw materials
  3. Hostile takeovers and acquisitions
    - dominant company buying up a rival firm or a stake in a rival firm
    - deter entry of firms as they fear being bought over
  4. R&D
    - processes to introduce new/improved products and services
    - use past supernormal profits to finance it
    - improve production processes to lower average and marginal costs
    - new firms dont have the financial capacity to match the product development
  5. Limit pricing
    - charge price lower than the profit maximising price but above average cost
    - new firms operate on a smaller scale and incur a higher long run unit cost of production (cant match price without suffering a loss)
  6. Predatory pricing
    - setting very low prices below profit maximising levels of output and below rivals AVC
    - will result in significant losses for both under assumption that losses made now can be offset by future gains in the form of higher market power and profitability arising from less competition
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19
Q

Statutory barriers to entry
–> by force of law (legal protection)

Natural barriers to entry

A
  1. Patents and copyrights prevents competitors from copying existing products
  2. Capacity expansion
    - incumbent can exploit IEOS more, and is more cost efficient
    - deters firms that are likely to operate on a smaller scale and incur a higher unit cost of production, making them unable to match the prices offered by the incumbent without incurring losses
  3. Natural monopoly
    - market demand is only large enough to support only one firm operating near MES
    - very high overhead costs
  4. Barriers to exit
    - risk of huge losses if these firms decide to leave a market
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20
Q

Output decisions of a profit max monopolist (explain + long run)

Natural monopoly

A
  • no need to fear reactions of rivals
  • set where MC = MR
  • if produce more, MC > MR, reducing profits
  • if produce less, MR > MC, missing out on profits
  • same as PC for shut down condition
  • can retain supernormal profits in the long run by erecting high BTE

For natural monopoly,
- LRAC curve falls over the entire market demand, resulting in a very large MES relative to market demand (eg. electricity supplier)

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21
Q

MPC Characteristics

A
  1. relatively large number of small firms
    - each firm has relatively small share of the total market
    - ability to set price above its marginal cost is limited
  2. sell similar but differentiated products
    - real physical differences (quality, quantity)
    - imaginary differences (design, packaging, branding)
  3. barriers to entry and exit are low
    - relatively low start up costs, relatively easy to copy tech, mobile factors of production
    - each firm reaches MES at a very low output and hence there are many firms and it is very competitive
  4. info is imperfect
    - rivals dont have complete information regarding all prices etc
    - sellers have imperfect info regarding production methods
  5. low price setting ability
    - very price elastic demand due to large number of close subs
  6. firms set price independently
    - do not need to worry about the reactions of the rivals due to their relatively small market share
    - no one firms actions directly affects the action sof the other firms
    - when a firm lowers its price, the extent to which each rival firm suffers is negligible (no need to consider the possible reactions of rival firms)
  7. collusion is impossible
    - cant coordinate because all products are slightly differentiated
  8. only make normal profits
    - potential entrants can easily enter the market and erode supernormal profits
    - cannot invest a lot in R&D so products are only slightly differentiated
    - very small scale advertising
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22
Q

Pricing decision of MPC (adjustment from SR supernormal to LR normal profits)

draw graph

A

graph 6

  1. initially supernormal profits
  2. new firms enter easily (low BTE)
  3. demand facing a firm decreases and becomes more price elastic since more substitutes are available due to entry of new firms
  4. profit max output and price decreases
  5. firms continue to enter till supernormal profits are eroded
  6. firms only earn normal profits in the long run
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23
Q

Characteristics of oligopoly

A
  1. Dominated by a few large firms where market concentration is high
    - market concentration ratio (sum of % of the top few firms)
  2. firms are mutually dependent and must consider reaction of rivals to price
    - high rival consciousness as any action taken by any single dominant firm will affect the sales of all the other firms
    - firms need to consider rivals reactions when setting a price or output
  3. High BTE
    - natural BTE due to IEOS and AC of production
    - for new firms, operational costs will be significantly higher while revenue will be lower
  4. Imperfect knowledge
  5. Homogenous or differentiated products
    - Homo: rival consciousness is very very high because goods are perfect substitutes, competition is less aggressive and there is greater likelihood of firms colluding to increase profits
    - Differentiated: Degree of rival consciousness is lower but competition is more aggressive in the form of non price, no chance of collusion
  6. incentive to collude and cooperate
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24
Q

Collusion reasons

A
  • work tgt to reduce uncertainty
  • increase the predictability of their rivals reactions
  • agree on output quotas or fixed prices
  • limit product promotion or developement to not poach each others markets
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25
Q

Conditions for cartel to work

A
  1. few large firms
    - monitoring is easier
    - incentive to cheat to increase indiv profits (as they cant produce at profit max output at the quota)
    - then other firms will also need to follow suit and produce beyond their quota, lead to surplus and prices will fall and everyone will earn below that of the joint profits
    - easier to form agreement that meets the needs of every member
  2. Sell homogenous products
    - easier to reach agreements
    - have similar cost conditions etc.
  3. Absence/weak anti trust laws
    - illegal in many countries as they are anti competitive
  4. Stable market demand
    - no need to renegotiate frequently
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25
Q

Cartels

A
  • work tgt to determine jointly the level of output that each member will product and the price each member will charge to behave like a monopolist
  • the cartels MC curve is the horizontal sum of the individual members MC curves
  • will choose to produce less output and charge a higher price (same as monopoly curve)
  • will divide the market amongst the members usually based on their current market share
  • each member will then sell the good at the price determined by the cartel
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26
Q

Price rigidity and kinked demand curve

A

Oligopolies prefer to avoid price competition due to high degree of mutual interdependency

  • rivals will match any price decrease but will not follow it in any price increase
  • if a firm increases their prices, their output will fall more than proportionately (price elastic)
  • if a firm decreases their prices, the increase in Qd will be insignificant (price inelastic) and revenue falls
  • oligopolist will absorb the higher costs instead of passing it to consumers in the form of higher prices unless the change in marginal costs of production is significant

graph 7

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27
Q

Tacit collusion

A

Barometric model
- follow firm that is more adept at identifying changes in market conditions and has the ability to respond more efficiently

Dominant firm model
- one firm controls the vast majority of the market share and smaller firms must follow in order to maintain the small amount of market share they currently possess

  • Price set by the market leader is widely accepted as the market price by other firms
  • when leader initiates a change, the rest will follow
  • if a firm has a lot of excess capacity, might go against the price and start a price war
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28
Q

Price wars

A
  • undercut one anothers prices to achieve a greater share of the market
  • unsustainable in the long run
  • does not necessarily lead to higher revenues for firms and depends heavily on the reactions of the rivals in response to the price cut
  • likely to be initiated by firms with the largest MES
  • rivals that operate on a smaller scale have to shut down by stopping production temporarily or exiting in the long run
  • winner gains greater market share eventually but the firm must have sufficient past supernormal profits to recuperate from these losses
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29
Q

Why oligopoly prefer non price competition

A
  • reduce chances of price war
  • reduce risk of breaking collusive agreement
  • also helps to increase demand and reduce PED for firms product hence increasing its total revenue and profits
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30
Q

Cognitive biases

A
  1. Salience bias
  2. Loss Aversion
  3. Sunk Cost fallacy
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31
Q

Salience bias explanation

A

Individuals tendency to focus on items/info that are more noteworthy while ignoring those that do not grab their attention even though the objective difference between them is irrelevant

  • stress the specific qualities or characteristics of their products over their rivals
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32
Q

Loss aversion

A

Pain of losing is psychologically about twice as powerful as the pleasure of gaining

People are more wiling to take risks to avoid a loss than to make a gain

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33
Q

Sunk Cost Fallacy

A

Continue a behaviour or endeavor as a result of previously invested resources (related to loss aversion)
- feel too committed to something

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34
Q

Pricing strategies

A
  1. Uniform pricing
  2. Price discrimination
  3. Predatory pricing
  4. Price wars
  5. Limit pricing
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35
Q

Explain uniform pricing

A

–> firm sells all units of its output at the same price and charge all of its customers the same price for the same good

36
Q

Where to set quantity if objective is revenue maximisation subject to making at least normal profits

Where to set quantity if object is increasing market share subject to making at least normal profits

A
  1. where MR = 0
  2. where AC = DD=AR
37
Q

What is price discrimination (definition + aim)
What are the 3 necessary condition s

A

–> producer sells the same good at different prices whereby the price difference does not reflect the differences in cost of supplying the customer

Aim: capture consumer surplus and earn higher total revenue and hence profits

  1. Seller must have market power and ability to price discriminate
  2. Seller must be able to identify and segment the market according to differences in PED for price discrimination to be profitable (eg. by age, use ID, by time, early bird discount etc.)
  3. Seller must be able to prevent resale
38
Q

3rd degree price discrimination

A

–> firm charges a different price to different groups of customers buying the same product by segmenting the markets according to differences in PED of the groups

  • eg. by customer characteristics (age), location, past purchase behaviour (new customer discount)

For new customers:
- have yet to make a decision and are searching for products
- no switching costs yet
- higher PED
- charge lower price

39
Q

Benefits of 3rd degree price discrimination

A
  1. increase total revenue by capturing the consumer surplus of customers that are less price elastic
  2. increase its sales volume to consumers that are more price elastic
  3. increasing sales volume can also lower unit cost of production
  4. allows firms to produce in cases where cost of providing a good cannot be covered by the low revenue generated (firm can continue to provide the good through cross subsidization, eg. higher revenue from popular train service help to keep less popular train service running)
40
Q

Limitations of 3rd degree price discrimination

A
  • only effective if resale can be prevented
  • if cost of preventing resale is significant, it will negatively affect profitability
  • tech increases opportunity for resale (eg. carousell)
41
Q

Predatory pricing + graph

A
  • sell below average variable costs in the short run
  • can lead to price war that leads to significant losses for all to be offset by future gains arising from higher market power and lesser competition
  • need sufficient past supernormal profits to cover losses in the present time
  • only used as a short term strategy
  • can hurt brand image as cheap prices make goods feel to be of bad quality

graph 8

42
Q

difference between predatory pricing and price wars

A

for price wars, firms expect rivals to drop their prices as well and its about who emerges as as the winner

for predatory pricing, firms aim to deter entry and drive out rivals assuming that rivals cannot match the price decrease

43
Q

limit pricing

A

setting a price below the profit max price but above the competitive level

  • short departure from profit max
  • potential entrants might decide that the risks of entering the industry are too high
  • more effective in industries with high sunk costs
  • potential entrants cannot match the lower price because they have higher production costs (not as much IEOS)
44
Q

What is product differentiation

Types

Cognitive bias used

Benefits

A

–> lowering degree of substitutability of products sold by a firm against the rivals

Real: physical changes to the product but adding more features to existing products (taste, quality)
Imaginary: Packaging, branding
Service: Customer service

Salience bias:
- focus on developing the most salient features of their products

Loss aversion
- increases the switching barriers by offering attractive loyalty programs and customers will be less motivated to switch to other companies due to the prospect of losing the points they already accumulated and dont want to lose

Sunk cost fallacy
- customers purchase more goods to accumulate points to redeem a prize since they alr have existing points

  • Leads to an increase in demand and reduction in PED and CED, increasing profit max output and price
  • leads to higher scale of production and can exploit IEOS to lower unit cost of production
45
Q

Limitations of product differentiation

A
  • Increases cost of production
  • Firms needs to continually differentiate as changes can be easily copied by other firms
  • subject to sunk cost fallacy and continue spending on differentiation
  • paradox of choice/choice overload
  • too many options can cause consumers to feel stressed and simply not choose any product and this can reduce demand
46
Q

Non pricing strategies (6)

A
  1. product differentiation
  2. advertising
  3. free gift while stocks last
  4. customer loyalty reward programme
  5. R&D for product innovation
  6. green and ethical marketing
47
Q

Advertising

A
  • bringing all the info necessary to facilitate the purchase
  • reduce cost of searching for consumers

Salience bias
- highlight the most salient features of the product
- increase demand and reduce degree of substitutability

  • reduce search costs for consumers and make them aware of the product (informs them)
  • builds preference for the product over the competitors ones
  • persuades consumers to buy the firms products
  • strong branding locks existing customers in
  • increases demand and reduce PED and CED, increase profit max output and price
  • leads to higher scale of production and lower unit cost of production
48
Q

Limitations of advertising

A
  • consumers prevented from weighing the pros and cons of their purchase in an objective manner, which might result in them making a less than ideal purchase
  • high cost of advertising
  • takes time to change taste and preferences
  • if other brands have strong brand loyalty, hard to convince their customers to switch firms
  • too much advertising will negatively impact brand image and profitability (advertising fatigue)
  • sunk cost fallacy
49
Q

Free gift while stocks last promotion

A

Loss aversion
- fear of missing out on an opportunity
- foster customer loyalty because free items give ppl a good impression of the brand
- more likely to buy more items to hit the minimum amount that makes them eligible for the gift even if they dont need the items
- while stocks last creates a sense of urgency

  • increase demand and reduce PED and CED, increasing profit max output and price
  • higher scale of production leads to lower unit cost of production
50
Q

Limitations of free gift while stocks last promotion

A
  • free gifts incur costs
  • suboptimal decisions made by consumers
51
Q

Customer loyalty rewards + limitations

A
  • Increase switching barriers and fosters customer retention
  • lock in their customers
  • loss aversion bias
  • motivated by the prospects of loss and promise of gains of better quality and cheaper products
  • strategies might anger customers if the program ends
52
Q

Product innovation

A

–> developing new products and improved products through product functionality or adding new tech to meet these demands

  • increasing demand and reducing the substitutability for the innovative firms products
  • capture larger market share
53
Q

Limitations of product innovation

A
  • sunk cost fallacy
  • only temporarily effective
54
Q

green ethical marketing

A
  • consumers are getting more concerned about the environment
  • hence invest in sustainable products
  • trade off between sustainability and profits
55
Q

Graph for non pricing strategies + explanation

A
  • increase PED and CED
  • increase demand
  • DD=AR curve shift right and becomes steeper
  • increase profit max output and price
  • easier to implement for firms with the ability and incentive to do so

MPC: have incentive, no ability
Oligopoly: have incentive and ability
Monopoly: have ability, no incentive

Graph 9

56
Q

Cost reducing strategies (5)

A

–> fall in both AC and MC

  1. source for cheaper inputs
  2. band tgt or set up jointly owned enterprises (to enjoy IEOS)
  3. cluster tgt to enjoy economies of concentration
  4. R&D
    - process innovation
    - automation etc.
    - reduce AC and MC of good
    - but can hurt demand for g&s that thrives on buyer seller relationship
    - very expensive if machinery is required + maintenance costs
  5. offshoring and outsourcing
    - hard to control quality of services
    - communication barriers
    - data sensitivity
57
Q

Graph for cost reducing strategies

A

Graph 10

58
Q

Growth strategies (2)

A
  1. Mergers and acquisitions
    - horizontal and vertical integration
    - conglomeration
  2. Franchising
59
Q

Mergers (horizontal and vertical)

A

Horizontal:
- firm combines with or takes over a similar firm at the same stage of production to form a single entity
- lower its long run unit costs of production by expanding its scale of production towards the MES
- to increase market share dominance
- makes its demand less price elastic
- increase price setting ability
- can also reduce duplication to lower costs
- can also help to break into new markets

Vertical:
- Firm combines with or takes over another firm at a different stage of production but in the same industry

Forward: firm moves into succeeding stages of production
- lower uncertainty with regards to access to markets
- improve supply chain coordination
- more control over the way the product is presented and distributed (quality)
- lower middle men costs (eg. transportation, business to business marketing)

Backward: firm merges with another firm involved in the earlier stages of production
- lower uncertainty with securing factor inputs
- gain greater control of the supply, price and quality of factor of production (will not be hurt by suppliers providing materials of inferior quality, which can lead to a fall in demand for products)
- mitigate potential risk in cost of production arising from supply disruption
- use as entry deterrent by restricting the access to key fop to potential competitors
- reduce costs as suppliers will not be able to push up prices of factor inputs

60
Q

Limitations of merger

A
  • IDOS if merged entity becomes too large
  • management decisions will be less efficient
  • hard to monitor
  • lead to higher average costs and adversely affects firms productivity
  • backwards integration also needs heavy investment into acquiring factories
  • low worker productivity
  • conflicting goals of companies
  • lack of competition can lead to fall in X efficiency
61
Q

Conglomeration

A
  • one firm that has many smaller firms that sell a variety of goods and sercices that are not directly related to one another
  • subsidiaries can run independently of one another but reports to the parent company
  • helps to reduce risks and uncertainty
62
Q

Limitations of conglomeration

A
  • rising average costs due to high levels of management needed
  • different working culture etc
  • parent company might not have the skills and expertise to support so many smaller subsidiaries
  • might hold onto poor performing subsidiaries for purpose of diversification and hurt to performance of more high performing ones
63
Q

Objectives of mergers and acquisitions

A
  • reduce uncertainty and risks
  • acts as an entry deterrent and enables incumbents to enjoy higher market share and price setting power
  • firms can enjoy higher demand and lower degree of substitutability by restricting the number of potential firms in the market
64
Q

Franchising + limitations

A
  • chain stores by selling the right to use a firms successful business model
  • can quickly expand
  • can avoid risk of investing significant amounts of capital
  • proliferation of brand to build brand presence, reducing search costs for consumers
  • increase revenue by collecting fees
  • hard to maintain the standard of quality and service
  • negatively impact the reputation of the franchise
  • communication issues
  • lack of freedom to operate independently even though some policies might not be effective in certain locations due to cultural differences etc.
  • must pay high royalties even in times of low demand and revenue
65
Q

Mark up pricing

A

standard retail mark up of 2.4 of the cost price
try to cover all costs of produciton

66
Q

Disruptive tech

A

smth that displaces currently established tech or creates a whole new industry

67
Q

Benefits of disruptive tech

A
  • spurs new demand
  • creation of new products
  • eg. e commerce
  • help firms increase demand for their goods
  • enables firms to differentiate their products and services significantly
  • reducing degree of substitutability of their products
  • firms can digitalise to cut costs
  • increase competitiveness of existing industries
  • improve efficiency of supply chains
  • increase demand and reduce PED and CED
  • reduce AC and MC (labour, operations)
68
Q

limitations of disruptive tech

A
  • decrease reliance on labour and cause unemployment
  • increase barriers due to digital connectivity issues
  • cybersecurity threat
69
Q

disruptive tech impact on competition and contestability

A

Competition:
- smaller firms that have fewer resources can enter the market and compete in segments of the market that have been neglected by main industry players
- reduce market share of incumbents
- level of competition rises

Increase contestability (eg. cloud kitchens)
- reduces BTE
- reduces exit costs as set up costs are quite low
- weakens position of established players and giving new firms space to grow
- reduce market power of big firms
- firms that are slow to respond to disruptive tech might be phased out over time

70
Q

Assessing desirability of market structure

A
  1. Allocative efficiency
  2. Productive efficiency
  3. Dynamic efficiency
  4. Equity
  5. Consumer choice
71
Q

Allocative efficiency + graph + DWWL

A

society produces and consumes a combination of goods and services that maximises its welfare

ACHIEVED WHEN PRICE = MC

  • cost of producing each additional unit of good = satisfaction gained from consuming each additional unit of the good

Underproduction:
- each unit represents a net gain in welfare not enjoyed and more resources should be allocated to this good (deadweight welfare loss)

Over production:
- society values the last unit of the good less than the opportunity cost of producing that unit (deadweight welfare loss)

Graph 11

72
Q

Productive efficiency + PC firm

A

when all resources are fully and efficiently utilised
production of goods and services at the lowest possible average cost of production

Society: occurs when firm is producing at MES and all IEOS have been exploited

Firm: occurs at any point on the LRAC
- lowest possible average cost for each given level of output
- if it operates above the LRAC curve, it is X inefficient

for PC firms, they are productively efficient and operates at MES because it has to be cost efficient or make a loss (as they are price takers)

73
Q

Dynamic efficiency + PC firm

A

Firms are technologically progressive through investment in R&D in order to reduce the average cost of production or to meet the changing wants and needs of consumers over time

  • better quality output and new production methods
  • fall in unit cost at every level of output

For PC firms, there is no ability or incentive for R&D
- perfect info, innovations are quickly replicated and innovating firm will not be able to reap the fruits of its innovation
- no supernormal profit to invest
- very expensive with no guaranteed returns
- all products are homogeneous

74
Q

Equity + PC firm

A

fairness in distribution in wealth, income, opportunities and profits

For PC firms, profits are spread amongst many small firms and normal profits are made
- no sustained redistribution of income from households to firms and is equitable

75
Q

Consumer choice + PC firm

A

consumers should be given the freedom to choose from a variety of goods and services

PC firm sells homo goods so no choices

76
Q

Imperfect Competition allocative efficiency + Graph and DWWL

A

ALL FIRMS ARE ALLOCATIVELY INEFFICIENT

  • Price is greater than MR
  • at profit max level where MR = MC, price is greater than MC
  • for each unit produced, the benefit from consuming the good is greater than the opportunity cost of producing it
  • DWWL

Graph 12

77
Q

MPC or Monopoly and Oligoply more allocatively inefficient + graph

A

Monopoly and Oligopoly more inefficient and greater underproduction

  • Monopoly and oligopoly more price inelastic, difference in price and MC greater than for MPC
  • more severe underproduction and more allocatively inefficient

Graph 13

78
Q

Productive efficiency for imperfect competition (monopoly and oligopoly)

+ graph

A

Can afford to be X inefficient and operate above the LRAC
- because they can retain supernormal profits into the long run due to presence of high BTE
- but this is a wastage of resources to society
- lack of intense competition, complacency and no need to keep minimising costs since there is still supernormal profits
- makes no sense to expand production all the way to MES if market demand is not large enough to support it
- but because of large scale of production, still possible that unit cost is lower than that for an PC market because its operating nearer the MES

graph 14

79
Q

Excessive advertising lead to wastage explanation (oligopoly)

A
  • Large scale advertising costs a lot
  • money could have been used to produce more goods/improve quality of goods
  • economic waste and is allocatively inefficient
80
Q

Dynamic efficiency (MPC)

A
  • WILLING to differentiate as it is their only source of power
  • low BTE means only normal profits in the LR (can be easily copied)
  • NO ABILITY to invest in R&D which require huge financial capacity
  • tend to merely emphasises superficial product differentiation (eg. packaging and design) which incur lower costs
81
Q

Dynamic efficiency (Overall + Oligopoly/Monopoly)

A
  • Long run supernormal profit, give them ABILITY to engage in R&D
  • presence of BTE allows firms to retain supernormal profits derived from innovation hence they are WILLING
  • innovation can also act as further BTE

Oligop
- existing competition amongst the few dominant firms induces them to invest in R&D to differentiate their products from those of their rivals
- also reduces fear of rivals reactions to their pricing strategies
- more WILLING than monopolies to innovate

Monop
- lack of intense competition and high BTE
- complacency
- NOT WILLING
- already have supernormal profit without R&D
- innovation might erode the value of their existing products

82
Q

Equity MPC

A
  • only normal profits in long run
  • no sustained redistribution of income from consumers to producers
  • while there is a loss of consumer surplus, the extent is not as great as in a monopoly or oligopoly
83
Q

Equity Oligop/Monop

A
  • Inequitable
  • Supernormal profits are concentrated at the hands of a select few monopolies which have the ability to block potential new entrants or a few dominant producers at the expense of consumers who pay higher prices for a limited quantity of a good
  • sustained redistribution of income from consumers to producers due to LR supernormal profits

HOWEVER,
- if big firms enjoy significant IEOS and passes it on to consumers, consumer surplus is not necessarily reduced

84
Q

Consumer choice (Monop/MPC/Oligop)

A

Monop
- no choice as the product is unique

MPC/Oligop
- product differentiation, ppl can choose
- more so for MPC because there r more firms
- however oligop can engage in product proliferation and offer a range of similar products for different tastes and preferences

85
Q

Requirements for a perfectly contestable market (4)

A
  1. entry into and exit from the market is costless
  2. no exit costs (sunk costs)
    - reduces risks
  3. perfect info
    - all producers can make use of the best available production tech in the market
  4. low consumer loyalty
    - reduces risk of entering the market

threat of firms entering will ensure that the incumbent firm will be efficient

86
Q

Allocative efficiency in contestable market + graph

A
  • Increase sales volume, sell nearer normal profits instead of profit max price
  • make return sufficient to keep its fop in their present use
  • similar to limit pricing

graph 15

87
Q

Productive efficiency in contestable market

A
  • inefficient firms cannot survive
  • have to change their ways or leave the industry in the LR
  • will produce on the LRAC
88
Q

Dynamic efficiency in contestable market

A
  • monopoly likely to invest in expensive R&D if there is credible threat from a potential entrant
  • failure to price competitively and be as cost efficient as opssible will turn potential competition into actual competition due to ease of entry under contestable markets
89
Q

What should govt do to make firms more efficient

A

increase contestability
- lower BTE (eg. grant more licenses)

90
Q

Price discrimination benefit for public + cons

A
  • benefit consumers from lower income groups who are more price sensitive
  • can consumer good which they could otherwise not afford
  • makes it less equitable due to greater redistribution of income from consumers to producers
  • expense of consumer surplus
  • use of higher profits to set up BTE

Econs (4 decks)

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