Theme 3

Question 1

What is profit maximisation?

Answer 1

Where the firm is making the most profit, where TC and TR are the greatest distance apart, where MC=MR

Question 2

What is normal profit?

Answer 2

Minimum profit required to keep factors of production in their current use in the long run, where AC=AR or TC=TR

Question 3

What is supernormal profit?

Answer 3

When profit is achieved in excess of the costs incurred, any output where AC is less than AR

Question 4

What is the short run shut down point?

Answer 4

Where AR=AVC, a loss making firm can continue to operate in the short run as long as there AR is greater than AVC (price per unit is greater than cost of making product)

Question 5

Why must a firms fixed costs be paid regardless of the level of output?

Answer 5

If we assume these costs can’t be recovered, if the firm shuts down then the loss would be greater than if the firm weren’t to shut down

Question 6

What could a firm do in the long run if it is making a loss in the short run?

Answer 6

Either exit the industry or let other firms leave the market, allow the market price to increase and they earn normal profit

Question 7

What is allocative efficiency?

Answer 7

Output level where price equals the MC of production, where the cost of product bought equals the price of product, where AR=MC

Question 8

What is productive efficiency?

Answer 8

Where a firm combines its labour and capital optimally to produce maximum output at minimum costs, consumers also receive the lowest prices, where AC=MC

Question 9

What is dynamic efficiency?

Answer 9

The optimal rate of R&D in order to improve production processes and efficiency overtime and reduce long run average cost

Question 10

What is the condition and consideration for firms to attempt dynamic efficiency?

Answer 10

Need supernormal profits and must consider the market (E.g. is it a perfect competition where there’s perfect info)

Question 11

What is X-inefficiency?

Answer 11

When a lack of competition in a market means that ACs are higher than they would be with competition

Question 12

Define a barrier to entry

Answer 12

Anything that restricts entry into a market and therefore enables a firm to maintain monopoly power

Question 13

Give two examples of structural barriers to entry

Answer 13

High capital expenditure and regulation and licenses

Question 14

Give two examples of strategic barriers to entry

Answer 14

Vertical integration and brand loyalty

Question 15

Define patents

Answer 15

Government enforced property rights valid for 12-20 years

Question 16

Define brand proliferation

Answer 16

Developing and maintaining a brand to differentiate a product from the rest

Question 17

Define sunk costs

Answer 17

Costs that cannot be recovered if a business decides to leave an industry e.g. advertising

Question 18

Give two positives of monopolies

Answer 18

Quality product, unit costs lower

Question 19

What are the conditions for a firm to implement price discrimination policies?

Answer 19

Seller must be a price maker, firm must able to distinguish between groups of customers and prevent seepage

Question 20

Define first degree price discrimination

Answer 20

Where every customer pays the maximum they would pay

Question 21

Define second degree price discrimination

Answer 21

Customers who purchase larger quantities get lower prices per unit

Question 22

Define third degree price discrimination

Answer 22

When a firm charges different prices for the same product to different segments of the market

Question 23

What are the three conditions for price discrimination?

Answer 23

Monopoly power, possible segmentation among customers and can firm prevent seepage

Question 24

What is a dominant strategy?

Answer 24

Where the same policy is suggested as best for both parties regardless of what policy the other adopts

Question 25

Define first mover advantage

Answer 25

By being first to enter a new market, a business gains a commercial advantage over its actual and potential rivals leading to higher profits over time

Question 26

Define overt collusion

Answer 26

Formal, open and legal agreement by firms to collude

Question 27

Define covert collusion

Answer 27

Little or any evidence of collusion (illegal)

Question 28

Define tacit collusion

Answer 28

Accidental collusion where firms might follow same pricing policy or where firms undergo actions that are likely to minimise a response from another firm

Question 29

What is predatory pricing?

Answer 29

Setting AR below AVC, aims to remove competition

Question 30

What is limit pricing?

Answer 30

Set AR = AC, no supernormal profits

Question 31

Define the law of diminishing marginal returns

Answer 31

In the short run, employing an additional factor of production causes a relatively smaller increase in output