Week 2- Business opportunities, costs, benefits and decisions Flashcards
what is the simple definition of value?
willingness to pay for a product
what is the simple definition of wealth?
the value of assets owned
how is wealth created?
by moving assets from lower-valued uses to higher-valued ones through voluntary transactions between individuals or firms
If a buyer values a house at £130,000 and the seller values it at 120,000 what must the price be for the sale to go through voluntarily?
anywhere between £130,000 and £120,000 so that its a win-win for both parties
what is consumer/seller surplus?
the difference between what the consumer/seller is willing to pay/sell for a product and what they actually pay/sell for the product
how do you calculate total surplus?
You add the consumers and sellers surplus together
Is it always obvious that an asset is in a low valued use?
no
Can the external environment have an impact on wealth-creating transactions?
yes it can move low valued assets to become high valued assets. eg hand sanitiser during covid-19
How can mergers/acquisitions move assets to higher-valued uses?
when two businesses join together it can lead to greater synergy eg. Pixar and Disney acquisition lead to Disney getting hold of Pixar’s technology advancements and Pixar getting access to Disneys wider distribution channels
when is an economy efficient?
When all of the wealth-creating transactions have been consummated
how are actions by governments judged by economists?
If the action takes us away or towards greater efficiency( by creating wealth or destroying it)
Give an example of a government policy that destroys wealth
price caps on houses: if the price cap is below the value of a new house it discourages the firms building the new houses to build them because they are not able to get the full value. Therefore this leads to a further shorter supply of homes –> making it more expensive
what are explicit costs?
1) costs of raw materials
2) operating costs
3) Depreciation costs of buildings and other assets
are explicit costs missing from the income statement?
no
what are implicit costs?
Payments to other shareholders(dividends)
are implicit costs missing from income statements?
yes
what is the difference between economic profit and accounting profit?
economic profit incorporates implicit and explicit costs but accounting profit only incorporates explicit costs
what is economic value added?
the opportunity cost of doing something else eg. Cadburys could have used the money from the empty flats to make more chocolate
what is opportunity cost?
what you give up to pursue something else. eg the opportunity cost of making more chocolate was greater than keeping the empty flats in the case of Cadbury
what are fixed costs?
costs that do not vary with the level of output eg.rent
what are variable costs?
costs that do vary with the level of output eg. raw materials
what is a sunk cost?
A cost that has already been paid and cannot be recovered.
what are some examples of sunk costs?
Research and development and advertising
what is the sunk cost fallacy?
when you let sunk costs (irrelevant) influence a decision
what is hidden cost fallacy?
ignoring relevant costs that do vary with the consequences of your decision
Give an example of the hidden cost fallacy
If you bought concert tickets for £50 and then someone offered you £100 for them. You would commit hidden cost fallacy if you decide to go the concert instead of selling the tickets
What are capital costs?
what it would cost to obtain your assets eg. the cost of a bank loan or shares.
Which cost does EVA help with identifying? sunk or hidden?
hidden
what is economic cost?
the cost of having money tied up and not getting the full value from it
What does negative economic profit show to investors?
that the firm is earning less than equity holders expect to make from their investment
how do governments play a critical role in wealth creation?
by enforcing property rights and contracts
Give examples of things that destroy wealth
anything that impedes the movement of assets from lower to higher-valued uses eg. taxes, price controls and subsidies
what is a price ceiling?
outlaws trade at prices above the ceiling
what is a price floor?
outlaws trade at prices below the floor
