Chapter 8

Question 1

3 types of Economic systems

Answer 1

• market economy
• command economy
• mixed economy

Question 2

Market economy =

Answer 2

• price is at equilibrium price.
• most profitable products are the ones supplied
• products are distributed by suppliers who can afford it

Question 3

Command economy

Answer 3

Government decides on:
- price
- products supplied
- distributions of products

Question 4

Mixed economy =

Answer 4

Is a mixture of a market economy and a command economy. Most economies are of this type.

Question 5

Market failure =

Answer 5

When supply and demand do not result in an outcome that satisfies both customers and suplliers.
(Eg. Healthcare, or when there is - - a monopoly in an industry,
- demerit goods,
- barriers to entry)

Question 6

Monopolies:

Answer 6

• Are regulated in a mixed economy

Negatives:
- inflated prices
- cartels
With the result to keep prices or restrict supply

Positives:
- avoids inefficiencies
- technological advancement in case of high research and development costs

Question 7

Competition policy covers:

Answer 7

• monopolies (government may keep some industries nationalised - this may lead to regional monopolies and industry regulators to ensure prices don’t get inflated)
• abusing market power (collusion leads to restricted supply and inflated prices. Or a monopoly may reduce prices, to create a barrier to entry to the market, imposing switching costs)
• mergers and acquisitions

Question 8

What can cause barriers to enter the market for competitors:

Answer 8

• a monopoly reducing their prices so low, it’s difficult for a smaller supplier to compete
• distributor agreements
• supplier agreements

Question 9

Merger =

Answer 9

To combine 2 companies

Question 10

Acquisition =

Answer 10

One company buys another

Question 11

M&A can lead to:

Answer 11

• monopoly
• higher prices
• limited choice

Question 12

Inappropriate market price =

Answer 12

When market conditions create an inappropriate price.

For example when there are too many suppliers of a product, due to its popularity, it can

• lower prices below the costs, which will cause
• suppliers going out of business and unemployment.
• which means a fall in supply
• prices will rise as a result
• inhabitants will fall into poverty, due to lack of work available

Question 13

CAP = common agricultural policy by the EU:

Answer 13

• Subsidies for farmers:
  
  • because of weather and disease
  • dependency on power of large retailers
  • new technology
  • new entrants to the market
  • secure food supply

CAP provided:
- guaranteed prices which led to oversupply
- then quotas were set and set aside schemes
- now they give subsidies

Question 14

Benefits of CAP:

Answer 14

• Stable income for producers
• investment in R&D maintained
• customers get a stable supply at a stable price
• green issues

Question 15

Downsides of CAP:

Answer 15

• surplus products
• misallocation of resources

Question 16

Maximum pricing:

Answer 16

Governments may set a maximum price when:

• customers are being exploited by a monopoly situation
• when shortages threaten an increase in price (eg. Staple product like bread)
• to ensure products stay affordable (eg housing)
• to reduce inflationary pressures

Question 17

How to set a maximum price (by a government):

Answer 17

• it must be set below the equilibrium price
• this will lead to a shortage in supply and an excess in demand
• a shortage can lead to a black market, which may reduce the official supply even more or they reduce their quality.

Question 18

Externalities = spill-over effects =

Answer 18

Consumer and seller are first and second party.

Anyone else is a third party. The above is the way in which they are affected.

Question 19

Example of externality:

Answer 19

Negative:
- External costs: noise pollution, production costs that affect the community, excessive drinking and the effects of it, road congestion, second-hand smoke

How to manage them:
Through tax,
social cost,
regulation
Information
Compensation schemes

Question 20

Examples of Positive externalities:

Answer 20

• healthcare
• education
• infrastructure
• R&D

How to encourage them:
- increase supply (through grants for example)
- increase demand (give a price subsidy to the consumer, provide information, provide it as a social benefit)

Question 21

Merit goods =

Answer 21

Goods suitably important and necessary so as to warrant being provided through public finances.
Eg. Education, healthcare
- everyone should have access to them regardless of income
- customers are unaware of the benefits
- they are under-consumed if not provided by the government

Question 22

Demerit goods =

Answer 22

Potentially harm the consumer and may also produce negative externalities.
Eg. Cigarettes, recreational drugs

• people are unaware of the costs of using the products
• harms the consumer or is socially unacceptable
• government will aim under consumption: through
  
  • taxation
  • laws banning consumption
  • regulations or advertising on lll on

Question 23

Public goods =

Answer 23

Goods that are not produced through the market but are necessary and tend to be provided through government intervention.
For example a light house.

Characteristics:
- non-excludability
It leads to free rider problem; you can’t stop anyone from using it.
- non-rivalrous: one persons’ usage doesn’t affect anyone else

Question 24

Pros of state provision of public goods

Answer 24

• Goods and services that would never be produced are made available
• Economies of scale
• costs are spread over the whole population

Question 25

Cons of state provision

Answer 25

• No one can opt out
• no allocative efficiency (everyone receives the product, which may sometimes lead to oversupply)

Question 26

Environmental concerns

Answer 26

Solutions:
- taxing companies
- regulation