Resource Allocation in Competitive Markets (Demand & Supply) Flashcards
For questions pertaining to the impact of specific events on a market, we should consider changes to:
Price (aka cost of good to consumers);
Quantity (aka output); and/or
Revenue (aka expenditure)
Summarise the FEEBLE framework (impact on a market not specified)
- Factors affecting demand and supply (from preamble)
- Elasticity of demand (hold dd, shift ss)
- Elasticity of supply (hold ss, shift dd)
- Bigger change in demand or supply (justify)
- Link to adujstment to equilibrium process (show once)
- Evaluation (alternative elasticity values or challenge ceteris paribus condition)
What is the difference between explaining a “rise” in price versus a “spike” in price? [same for output change]
“Rise” = directional change, hence only dd/ss factors are required.
“Spike” = direction + magnitude, hence PED/PES factors are required on top of dd/ss factors.
What are the key terms to include when explaining the relevance of any elasticity concept?
“More than proportionate” or “less than proportionate” changes.
- DO NOT use “hype” in your writing, e.g. “tremendous” rise in output or “collapse” in prices.
What are the possible reasons leading to a rise in price?
1) Rise in dd
2) Fall in ss
3) Rise in dd exceeds rise in ss
4) Fall in ss exceeds fall in dd
What are the possible reasons leading to a spike in price?
1) Rise in dd with price-inelastic supply
2) Fall in ss with price-inelastic demand
3) Rise in income with YED>1 (luxury good)
What are the possible reasons leading to a sharp fall in output?
1) Fall in dd, PES>1
2) Fall in ss, PED>1
3) Fall in income, YED>1 (luxury good)
What are the possible reasons leading to a rise in revenue?
1) Rise in dd
2) Fall in ss with price-inelastic demand
3) Rise in ss with price-elastic demand
What is the impact on producers of a fall in ss, given price-inelastic demand?
Would the above outcome always benefit producers?
1) Revenue rises
2) Not if the fall in ss is due to higher production cost (e.g. effects of tax hike or higher wages)
What are the parachute concepts and their associated methodologies under this topic?
1) Impact on a market - if specified, use TABLE under p.10; if unspecified, use FEEBLE
2) Uses of elasticity concepts - PED (pricing), YED (output), XED (marketing and pricing)
3) Government intervention - help consumers (Pc, s, others); help producers (Pf, s, others)
What do we need to note whenever a question invokes a change in income?
Include YED analysis in your answer.
When is PES analysis not needed under the FEEBLE approach?
When question pertains to the impact on revenue/expenditure.
- PES value does not affect the impact on expenditure, For example, an increase in demand increases revenue/expenditure, regardless of PES value.
For CSQ, what is the difference between explaining the value of PED/PES versus YED/XED?
PED/PES: explain whether value is bigger/smaller than 1.
YED/XED: explain whether value is positive/negative, and whether it is bigger/smaller than 1.
For essay questions pertaining to the impact on producers or consumers, which approach should we use?
FEEBLE
- Producers (link revenue change)
- Consumers (link price and output change to consumer surplus)
What is the difference in elasticity values between a primary good (e.g. coffee beans) and a secondary good (e.g. Starbucks coffee)?
Primary good: PED is smaller than 1 (necessity; no substitutes) and PES is smaller than 1 (gestation period).
Secondary good: PED is greater than 1 (available substitutes) and PES is greater than 1 (available stocks).
What are the relevant steps to consider when assessing the incidence of a tax or subsidy?
i. Assume that tax or subsidy affects production cost, hence shifting the supply curve.
ii. Always evaluate according to NEW equilibrium quantity exchanged, i.e. q2.
iii. Vertical distance between supply curves at q2 represents size of tax or subsidy.
iv. Consumer’s share is indicated by change in equilibrium price.
v. The party with the more elastic curve would have a lower incidence of tax/subsidy.
What is an evaluative comment often attached to the concept of YED?
The nature of goods is subjective. For instance, fast food may be a luxury to a poor family, inferior good to a wealthy family and a normal good to a middle-income family.
How can PED be of use to a producer?
PED helps with pricing decisions to increase revenue
- Lower price when PED is greater than 1
- Raise price when PED is smaller than 1 (preferred as cost is lower which raises profits)
How can YED be of use to a producer?
Increase the output of normal and luxury goods when the economy is booming (income rising)
Increase the output of inferior goods when the economy is performing poorly (income falling)
How can XED be of use to a producer?
When XED is positive and high (substitutes), advertising can be adopted to differentiate from rival products, hence reducing XED. Producer can also match price cuts by rivals.
When XED is high and negative (complements), joint marketing can be done.
How can PED be of use to a government?
In taxing demerit goods such as cigarettes or alcohol which are addictive, campaigns or education should be introduced to complement the tax (for greater effectiveness). E.g. campaigns such as introduction of nicotine patches help to increase PED value.
Evaluate a price ceiling (used to help consumers)
Pros
1) Some consumers can buy the good at a lower price
Cons
1) Some consumers lose access to the good
2) A shortage occurs, leading to an inefficient allocation of goods
3) Black market problem exists
Evaluative comments
1) The shortage is smaller when both PED and PES are smaller than 1.
2) Proper enforcement can prevent the formation of a black market.