Theme 3 - : Business behaviour and the labour market Flashcards
This theme develops the microeconomic concepts introduced in Theme 1 and focuses on business economics. Students will develop an understanding of: ● business growth ● business objectives ● revenues, costs and profits ● market structures ● labour market ● government intervention.
Define economies of scale
When a firm can produce goods and services more efficiently as it increases its scale of production
To revenue maximise, firms would need to produce at where…
MR = 0
What is revenue maximisation?
Theoretical objective of a firm which attempts to sell at a price that achieves the greatest sales revenue - increase market share
- William Baumol suggested that managers are interested in their level of revenue as thats what their salary depend on
- A fall in revenue would be negative as this could lead to a downward spiral for the company
- Most firms aim to revenue maximise as long as some profit is provided for the owners
Distinction between profit maximisation and revenue maximisation
Profit maximisation is when firms focus on maximising profit even at the expense of revenue
Revenue maximisation is when firms focus on increasing its sales in order to benefit company and managers, even if it means sacrificing some profit
Sales maximisation
AC = AR
Firms maximise its sales without making a loss
What are the 6 types of internal economies of scale?
- risk bearing
- managerial
- financial
- purchasing
- technical
- marketing
richards mum flies past the moon
3 types of internal diseconomies of scale
- alienation
- bureaucracy
- communication
Reasons for a firm expanding vs staying small
growing:
- more sales and profit - monopoly power
- increase market share
- internal economies of scale
- diversify and enjoy risk bearing economies
- owners objectives
staying small:
- niche markets
- lacks finance to expand
- regulation restricts growth
- profit satisfice
- diseconomies of scale
As firms grow bigger, they might experience…
Divorce of ownership and control – leads to the The principal-agent problem which 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)
Distinction between types of firms
- private vs public sector
- for-profit or non-profit
What is allocative efficiency? and where is allocative efficiency on the diagram?
It is when resources are used to produce goods and services which consumers want and value most highly, maximising social welfare and utility.
It occurs when the value to society from consumption is equal to the marginal cost of production, where P=MC.
What is productive effciency?
It occurs when a firm produces products at the lowest average cost, using the fewest resources to produce each product. This can only exist if firms produce at the bottom of the AC curve, where MC=AC.
Define diseconomies of scale
Increases in the unit (average) costs of supply due to decreasing returns to scale
A business has moved beyond their optimum size in the long run - suffering from productive inefficiency due to organisational slack
What is organisational slack?
When a business fails to minimise its average costs at a given level of output - it is X-inefficient (type of productive inefficiency)
What is the main purpose of the Competition and Markets Authority (CMA)?
To promote competition for the benefit of consumers
What types of cases does the CMA investigate?
investigates mergers and breaches of UK and EU competition law
What enforcement powers does the CMA have?
- impose financial penalties, prevent mergers, force businesses’ to reverse decisions already made
In addition to competition law, what other laws does the CMA enforce?
Consumer protection law
What actions can the CMA take against individuals who participate in cartels?
Can bring criminal cases against individuals who partake in cartels
Define regulatory capture
A form of government failure whereby the regulators operate in the interest of producers, due to impartial information, rather than the interest of the consumers
How are mergers assessed in the UK by the Competition and Markets Authority (CMA)?
considering whether there will be a substantial lessening of competition (SLC)
What criteria does the CMA use to determine whether a merger will be approved?
Whether the potential benefits outweigh the costs + evaluates the likely competitive situation if the merger goes ahead or not
When is a merger investigated?
if it will result in a market share greater than 25% or if it meets the turnover test of a combined turnover of £70 million or more.
Why does the CMA aim to prevent two large companies from merging?
- prevent exploiting customers by raising prices, offering poor quality products, limiting choice, preventing firms from gaining monopoly power
What are the 4 types of government intervention for monopolies
- price regulation
- profit regulation
- quality standards
- performance targets
What is the aim of government intervention: price regulation
Regulators set price controls that force monopolists to set a price below their profit maximising price
- to ensure efficiency gains are passed onto the consumer
What formula do regulators use to set price controls to force monopolists to charge a price below profit-maximizing price?
RPI + X , where X = the expected efficency gain
What is the alternative formula for regualtors to set to price regualte monopolies instead of rpi-k
RPI-X + K(investment)
Define profit regulations as a form of government intervention
Profit regulation is to set prices to allow firms to cover the costs of running their business
Pros and cons of profit regulation
Profit regulation is to set prices to allow firms to cover the costs of running their business e.g. rate of return - giving them a fair rate of return on their investments
Pros
- encourages investment
cons
- over investment of capital
- difficult to predict what price to set
What is a type of performance target (gov intervention)
- yardstick competition - operate efficiently e.g. times for trains
Policies of government intervention promoting competition
- promoting small busines, incumbent firms will no longer be x-inefficient
How do we calculate the level of profit
compare average revenue to average costs
Difference between organic and inorganic growth
Organic- when a firm grows by investing in itself to increase output
Inorganic - when a firm grows by merging with or acquiring another firm
Name the 4 types of inorganic growth
- Forward vertical integration
- Backwards vertical integration
- Horizontal integration
- Conglomerate integration
Define the 4 types of inorganic growth
Forward vertical integration - when a firm integrates with another firm, closer to the consumer, in the at different stage in same production process
Backward integration is when a firm integrates with another firm, further away from the consumer, at different stage in the same production process
Horizontal integration is when a firm integrates with another firm, in the same stage in the production process
Conglomerate integration is when a firm integrates with a firm in an unrelated industry
Pros and Cons of organic growth
- low risk as investing into own business means good knwolege of business
- owner keeps control and ownership - using bank loan or reinvesting, keeps most profit
cons
- can lose control and ownership if it grows organically by selling lots of shares or setting up lots of franchises
- slow process relative to inorganic growth
Pros and cons of vertical integration
- decreased intermediary costs
- control of supply chain
- increased access to consumers and raw materials
cons
- costs may increase due to diseconomies of scale
- lack of expertise
- increased regulation
Pros and cons of horizontal integration
pros
- economies of scale
- decreased competition
rationalisation - no duplicate costs
cons
- internal diseconomies of scale
- rationalisation leads to job losses
- brand duilty if brands are different
