Firms and Decisions

Question 1

What is the primary objective of profit-maximising firms?

Answer 1

Maximise total profits

• Profit-maximising firms produce until marginal cost (MC) equals marginal revenue (MR)

Question 2

What is revenue maximisation?

Answer 2

Maximise total revenue (TR) until marginal revenue (MR) equals zero

Question 3

Define profit satisficing.

Answer 3

Target level of profit that is below profit-maximising level

Question 4

What condition must firms meet for market share dominance?

Answer 4

Increase market share to shift demand curve outwards and reduce price elasticity of demand (PED)

Question 5

List three limitations faced by firms in estimating demand and cost conditions.

Answer 5

• Lack of sufficient or accurate information
• High cost of obtaining information
• Need to decide a time period to maximise profits

Question 6

What is the principal-agent problem?

Answer 6

Managers maximise their own utility rather than the firm’s profits

Question 7

What are some reasons firms may aim for profit satisficing instead of profit maximisation?

Answer 7

• Managers’ personal interests
• Environmental and societal impact
• Businesses with social objectives
• Attraction of better talent

Question 8

Identify the cost curves illustrated in the short run.

Answer 8

• Marginal Cost (MC)
• Average Total Cost (ATC)
• Average Variable Cost (AVC)

Question 9

In the long run, which curves are illustrated?

Answer 9

• Average Cost (AC)
• Marginal Cost (MC)

Question 10

What is the key point where MC intersects AC?

Answer 10

At the minimum point of AC

Question 11

What determines the profit-maximising level of output?

Answer 11

Where MC equals MR

Question 12

List the conditions for shutdown in the short run.

Answer 12

• TR < TC
• TR < TVC

Question 13

What is the minimum efficient scale (MES)?

Answer 13

Scale of production where internal economies of scale (EOS) are fully exploited

Question 14

What are internal economies of scale?

Answer 14

• Technical EOS
• Financial EOS
• Marketing EOS
• Managerial EOS

Question 15

What are external economies of scale?

Answer 15

• Economies of information
• Economies of concentration/Agglomeration economies

Question 16

Name two types of diseconomies of scale.

Answer 16

• High monitoring and management costs
• Poor communication between employees

Question 17

What defines perfect competition?

Answer 17

Large number of small firms with low barriers to entry

Question 18

What characterizes monopolistic competition?

Answer 18

Large number of small firms with slightly differentiated products

Question 19

What is the nature of products in an oligopoly?

Answer 19

Highly differentiated or unique products with few large firms

Question 20

Describe the market power of monopoly firms.

Answer 20

Highest market power with the ability to set prices or output

Question 21

What happens to supernormal profits in perfect competition in the long run?

Answer 21

They attract new firms, increasing supply and lowering prices

Question 22

What are barriers to entry (BTE)?

Answer 22

• Artificial:
• Statutory
• Strategic
• Natural/structural

Question 23

What is a cartel?

Answer 23

A formal agreement among firms to maximise joint profits

Question 24

What is price leadership in oligopolies?

Answer 24

Informal collusion where a dominant firm sets prices that others follow

Question 25

What is kinked demand theory?

Answer 25

Explains price stickiness in oligopolies due to mutual interdependence

Question 26

What happens when oligopolist A reduces its price?

Answer 26

Competitors will follow suit, leading to reduced total revenue (TR) for all firms involved. ## Footnote This illustrates the interdependence in oligopolistic markets.

Question 27

What is the relationship between quantity demanded (Qd) for A's output and the fall in its prices?

Answer 27

Qd increases less than proportionately to the fall in prices, resulting in a fall in TR.

Question 28

What characterizes the marginal revenue (MR) curve in oligopoly?

Answer 28

It is discontinuous; even when marginal cost (MC) increases, the output where MR=MC remains unchanged.

Question 29

Why do oligopolies prefer price stability?

Answer 29

They are reluctant to change prices and engage in price wars, leading to a preference for non-pricing behavior.

Question 30

What triggers price wars in an industry?

Answer 30

Considerable excess capacity.

Question 31

Who is likely to initiate price wars?

Answer 31

Firms of large scale with lower average costs (AC) and past supernormal profits.

Question 32

What happens to smaller scale firms during price wars?

Answer 32

They may shut down in the short run if they cannot cover variable costs and exit the industry in the long run if they cannot cover total costs.

Question 33

What is the outcome for large firms in price wars?

Answer 33

They gain larger market share and can charge higher prices, leading to increased profits in the long run.

Question 34

What is the ABCDE framework used for?

Answer 34

Decision-making and strategies in business.

Question 35

What is uniform pricing?

Answer 35

Charging the same price for all the same good sold to all customers.

Question 36

Fill in the blank: Price discrimination requires the ability to identify and segment the market based on _______.

Answer 36

[price elasticity of demand (PED)].

Question 37

What are the necessary conditions for price discrimination?

Answer 37

* Market power * Ability to segment the market * Prevention of resale and arbitrage.

Question 38

What is predatory pricing?

Answer 38

Selling below average variable costs to drive competitors out of the market.

Question 39

What is the purpose of limit pricing?

Answer 39

To deter entry of new firms by setting a price below the profit-maximizing price but above the competitive level.

Question 40

What is the first mover's advantage in price wars?

Answer 40

The firm that initiates the price war may see a slight increase in market share.

Question 41

What is mark-up pricing?

Answer 41

Selling the product at several times the cost of production.

Question 42

What is the role of advertising in oligopoly?

Answer 42

To create brand loyalty and increase demand by reducing search costs.

Question 43

What are the types of advertising?

Answer 43

* Informative * Persuasive.

Question 44

What is a limitation of advertising?

Answer 44

It is costly and may generate negative feedback if products do not meet expectations.

Question 45

What is loss aversion in promotions?

Answer 45

Consumers are afraid of missing the opportunity, which increases demand.

Question 46

What are the types of product differentiation?

Answer 46

* Real differentiation * Imaginary differentiation * Service differentiation.

Question 47

What is the impact of R&D on product innovation?

Answer 47

It increases total revenue by increasing demand.

Question 48

What are the limitations of R&D?

Answer 48

* Increased costs * Sunk costs * Uncertainty and time required.

Question 49

What is the goal of cost-reducing strategies?

Answer 49

To decrease average costs (AC) and increase profits.

Question 50

What is horizontal integration?

Answer 50

Combining with or taking over a similar firm at the same stage of production.

Question 51

What is the outcome of vertical integration?

Answer 51

Lower uncertainty regarding access to markets and more control over product distribution.

Question 52

What is franchising?

Answer 52

Expanding quickly while avoiding significant capital investment risks.

Question 53

What are technological disruptions?

Answer 53

Innovations that significantly change buyer-seller communication and transactions.

Question 54

What conditions characterize allocative efficiency?

Answer 54

P = MC and demand equals supply in market analysis.

Question 55

What is productive efficiency?

Answer 55

Resources are used to their maximum capacity, and firms operate at minimum long-run average cost (LRAC).

Question 56

What is X-inefficiency?

Answer 56

Firms retain supernormal profits without minimizing costs due to complacency.

Question 57

What impacts dynamic efficiency?

Answer 57

Firms' willingness and ability to invest in R&D.

Question 58

What does equity refer to in market structures?

Answer 58

Fairness in distribution of wealth, income, opportunities, and profits.

Question 59

What are the effects of price discrimination on consumers?

Answer 59

Benefits consumers from lower income groups but can decrease consumer surplus.

Question 60

What is the theory of contestable markets?

Answer 60

Monopolies are defined by the threat of competition rather than firm size.

Question 61

What conditions must be met for a market to be contestable?

Answer 61

* Costless entry and exit * Perfect information * Low consumer loyalty.