Microeconomics Theme 3 Flashcards
(161 cards)
1
Q
Types of efficiency
A
Productive efficiency
Allocative efficiency
X-inefficiency
Dynamic efficiency
2
Q
What is productive efficiency
A
When average total cost is at its lowest, when MC=AC
3
Q
What is allocative efficiency
A
When welfare is maximised, when MC=Price/AR/Demand
4
Q
Influencers of the firm
A
The firm is influenced by its: owners, shareholders, directors/managers, workers and consumers
5
Q
Shareholders objectives
A
Maximise profit
6
Q
Directors/managers objectives
A
Directors and managers usually look to maximise sales or revenue. Maximising sales increases their sales bonus and maximising revenue increases company size, boosting their prestige
7
Q
Workers objectives
A
Workers want higher wages, job security and improved working conditions
8
Q
Consumers objectives
A
Consumers want lower prices, better customer service and quality, and they also care about social and environmental causes
9
Q
To maximise revenue you have to produce when …
A
MR = 0, as revenue maximisation helps a firm increase their market share, with manager/directors increasing their prestige
10
Q
Sales maximisation
A
Sales maximisation is when a firm maximises its sales without making a loss. The condition for sales maximisation is AR = AC
11
Q
Profit satisficing
A
When a business makes so much profit that they satisfy their workers, shareholders, etc that they give money to things like the environment or the homeless
12
Q
Revenue maximisation
A
Where MR=0
13
Q
Sales maximisation
A
When a firm maximises its sales without making a loss, where AC = AR
14
Q
N-Firm Concentration Ratios
A
An N-firm concentration ratio measures how much market share the N largest firms in a market have
15
Q
MR formula
A
Change in TR / Change in Q
16
Q
Marginal revenue
A
Additional revenue a firm makes selling ONE extra unit
17
Q
Marginal revenue curve
A
As the quantity increases + the price decreases, MR decreases. It starts at the same point as AR and reaches the axis at half the AR and stops at the same quantity as AR
18
Q
Total revenue curve
A
When MR is positive, TR will increase as quantity increases like an increasing slope until MR=0 so then MR is negative, TR will decrease as quantity increases, so it looks like a lower case n
19
Q
A
20
Q
Types of economies of scale
A
Risk-bearing
Managerial
Financial
Purchasing
Technical
Marketing
21
Q
Types of market structure
A
Monopoly
Perfect competition
Monopolistic competition
Oligopoly
Monopsony
22
Q
Monopoly
A
Only one firm in a market
23
Q
A legal monopoly
A
Over 25% of the market share
24
Q
What assumptions do economists make to model monopolies?
A
Firstly, there’s only one firm in the market
Secondly, they want to maximise profit
Thirdly, there are high barriers to entry
25
Barriers to entry
Legal barriers
Sunk costs
Economies of scale
Brand loyalty
Anti-competitive practices
26
Legal barriers
Patents, trademarks and copyright
27
Sunk costs
High barriers to entry, so they deter new firms as they know they cannot get their money back, as high cost of failure for new firms
28
Economies of scale
Enables firms to keep their costs and price low, creating a barrier to entry as other companies cannot compete
29
Brand loyalty
Strong branding from firms already in the market make it hard for new firms to get into the market
30
Anti-competitive practices
Firms can vertically integrate to take control of scarce resources (like the power grid or the oil extraction firm); and then refuse to let new firms use these scarce resources, stopping them from entering the market
31
Incumbent firm
A firm currently in the market
32
X-inefficiency
X-inefficiency is when a firm is producing above its AC curve for a given level of output
33
Dynamic efficiency
How changing technology improves a firm's output potential over time. AR > AC, as the firms need as much money (supernormal profit) to invest into research & development
34
Revenue maximisation
When MR=0
35
Revenue maximising price
MR=0, at quantity Q1, so the price is P1
36
Monopoly diagram
When MR=MR, you go up from the point they cross to the MC curve then go across so its Pmax
37
Variable costs
Costs which vary with output
38
Fixed costs
Costs which don't vary with output
39
Total cost
Total cost = Total variable cost + Total fixed cost
Total cost = Average total cost x Quantity (on a cost/revenue diagram)
40
Average fixed cost
Average fixed cost = Total fixed cost / Quantity
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Total fixed cost curve (short run only)
The curve is a straight horizontal line, as it doesn't matter what quantity is
42
Average fixed cost curve (short run only)
The curve is a decreasing falling curve, as TFC/Q, the curve starts high and slowly slopes down
43
Marginal cost
Marginal cost = change in Total cost / change in Quantity
44
Productivity & marginal cost
If productivity/quantity increases, MC decreases
If productivity/quantity decreases, MC increases
45
The law of Diminishing marginal returns
In the short run, as more factors are employed, the marginal returns from these factors will eventually decrease (only in the short run)
In the long run, marginals wont diminish
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Average variable cost
Average variable cost = Total variable cost / Quantity
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Average total cost
Average total cost = Total cost / Quantity
Average total cost = Average variable cost + Average fixed cost
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Long run Average cost curve
49
Internal economies of scale
Internal economies of scale are when long run average costs fall as a firm’s quantity increases
Purchasing economies
Technical economies
Managerial economies
Marketing economies
Financial economies
Risk-bearing economies
50
Purchasing economies
Bulk buying comes under purchasing economies, as they can negotiate lower prices due to buying a lot of the product, reducing LRAC
51
Technical economies
Investing in specialist capital, which increases productivity which then decreases costs (their LRAC)
52
Marginal economies
Hiring specialist staff, which increases productivity which then decreases costs (their LRAC)
53
Marketing economies
When big firms spread their marketing costs over many units, reducing their LRAC
54
Financial economies
The bigger the firm, the lower risk it is so the lower interest rate is so it will reduce the repayment costs and LRAC for big firms
55
Risk-bearing economies
For big firms, they are able to diversify so it reduces the cost of failure
For small firms, they aren't able to diversify, so their is a high cost of failure
56
Internal diseconomies of scale
Internal diseconomies of scale lead to a rise in long run average cost, as a firm expands
Alienation - workers feel lost and disconnected at work, reducing productivity and increases LRAC
Bureaucracy - all the paperwork and people sorting it out when a firm gets big, increasing LRAC
Communication - it is slow in big firms, reducing productivity and increasing LRAC
57
Minimum effiecient scale
Where a firm first reaches its lowest LRAC
58
External economies of scale
External economies of scale are when a firm’s long run average costs fall, as industry output increases. The curve is an LRAC curve then it shifting down to LRAC1
59
Profit formula
Profit = Total revenue - Total cost (including opportunity cost)
60
Normal profit
When TR = TC, so you stay in the market
61
Less than Normal profit
When TR < TC, so you leave the market
62
Supernormal profit
When TR > TC, so you stay in the market
63
Profit maximising
When MC=MR, it is at Qmax, he is profit maximising. To find price (Pmax), you go all the way up to the AR curve and go across
64
Increase in variable costs
The graph: an increase in MC and AC (draw the new graphs of them just above), the price would increase while quantity would decrease
65
Decreases in variable costs
The graph: a decrease in MC and AC (draw the new graphs of them just below), the price would decrease while quantity would increase
66
Increased in fixed costs
The graph: an increase in AC (draw the AC curve above the other one), the price would stay the same, with the ATC above Pmax so its a loss
67
Short run shut down points
A firm will stay in the market even if they are making a loss if Price > AVC
A short run shut down point is when Price = AVC
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The gap between AVC and ATC represents
The Average fixed costs
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Long run shut down points
A long run shut down point is when Price = ATC
A firm will stay in the market even if they are making a loss if Price > ATC
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Reasons why firms grow
Make more sales and profit
Internal economies of scale
Diversify and enjoy risk-bearing economies
Increase market power
Owner's objectives
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Reasons why firms don't grow
Don't have the finance to grow
Diseconomies of scale
Niche markets
Regulations limit growth
Profit-satisfice (quiet life)
72
Divorce of ownership and control
When the managers/directors of a firm are different from the owners of the firm
Ownership - shareholders
Control - CEO's, managers, etc
The principal-agent problem 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), without telling them (asymmetric information)
73
Public sector
Owned by the governemnt
74
Private sector
Owned by private individuals
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For-profit firms
Only set up to make a profit
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Not-for-profit firms
Set up not to make a profit like a charity
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Organic growth
When a firm grows by investing in themselves to increase output (reinvest their own profit or shareholders)
78
Inorganic growth
When a firm grows by merging with or acquiring another firm
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Types of inorganic growth
Backward vertical integration
Forward vertical integration
Horizontal integration
Conglomerate integration
80
Vertical integration
Vertical integration is when firms at different stages of the same production process join together
81
Backward vertical integration
Backwards vertical integration is when a firm integrates backwards, with a firm further away from the consumer
82
Forward vertical integration
Forward vertical integration is when a firm integrates forwards, with a firm who is closer to the consumer
83
Horizontal integration
Horizontal integration which is when firms at the same stage of the production process join together
84
Conglomerate integration
Conglomerate integration is when two firms in unrelated industries join together
85
Pros in organic growth
Keep ownership and control
Low risk
86
Cons in organic growth
Lose ownership and control
Slower growth
87
Pros of vertical integration
Control of the supply chain
Reduce intermediary costs (middle man costs)
Better access (increasing productivity and communication)
88
Cons of vertical integration
Regulations
Cost from diseconomies and acquisitions
May lack expertise
89
Pros of horizontal integration
Internal economies of scale
Rationalisation (reduce costs in administration costs)
Reduced competition
90
Cons of horizontal integration
Internal diseconomies of scale
Job losses
Brand dilution (brand loyalty, if high known firms integrate with lower known firms)
91
Pros of conglomerate integration
Internal economies of scale - risk-bearing (diversify)
Increased brand awareness
Knowledge transfers - dynamic efficiency
92
Cons of conglomerate integration
Diseconomies of scale
Brand dilution - can affect the other firms brand
Lack of expertise
93
Demergers
Reduced diseconomies of scale - decreases LRAC (the ABC) and increases profits
Specialisation - increases productivity and quality, decreasing costs and increasing sales
Assets sales - Can sell one division of the firm, to raise money to reinvest it
Cultural differences - To avoid conflicts
94
Pros of Demergers
(Workers) Reducing cultural conflicts
(Consumers) Lower prices and increased quality (specialisation)
95
Cons of Demergers
(Workers) Lower job security
(Consumers) Reduces economies of scale - output will be lower and will reduce diseconomies of scale (if it gets too small it will decrease economies of scale, so LRAC will increase)
96
Perfect competiton
Many small buyers and sellers
No barriers to entry or exit
Homogenous goods - all goods are the same
Perfect information
97
A perfectly competitively firm curve
Perfectly elastic demand curve where Demand=AR=MR
98
A perfectly competitively market curve
A supply and demand diagram, with the equilibrium being Qe and Pe
99
How a perfectly competitive market moves from short run equilibrium to its long run equilibrium
Perfect information - sleers outside the market will see the opportunity to make supernormal profit
No barriers to entry - so new firms will enter increasing supply and decreasing price until it touches the AC curve and supernormal profit is gone
In the long run, only normal profit can be made
100
Short run loss in perfect competition
If firms are making a short run loss, they will leave the market, there is no barriers to exit. As firms leave the market, supply decrease and prices will increase back up, until normal profit can be made.
At this point, firms will be covering their opportunity cost - so they’ll no reason to leave the market anymore
101
Monopolistic competition
Many small buyers and sellers
Low barriers to entry and exits
Differentiated goods - similar but not the same
102
Monopolistic competition diagram
In the short run - it is the same as a monopoly diagram (if new firms enter, AR and MR decreases)
In the long run - the AR and ATC will touch, meaning normal profit is being made, so suppliers will leave the market
103
Oligopoly
A few large sellers
high barriers to entry - sunk costs
Differentiated goods
Interdependence
104
Game theory: payoff matrix
Look at the box (left one is the one on the left axis and right one is the one on the top of the axis)
105
Collusion
Firms can agree to collude and fix their prices at a high price, not making a price war
106
Overt collusion
A formal agreement between firms - a contract or verbal agreement. It is illegal now by the CMA
107
Whistle blowing
You can snitch and gain immunity from fines from the CMA
108
Tacit collusion
An unspoken agreement between firms - fixing their prices so that they don't lose profit or customers
109
Price competition
Price wars
Predatory pricing -setting price < AVC (below shut down point), so that all the customers come to him
Limit pricing - uses economies of scale to reduce LRAC which limits new firms from entering the market
110
Non-price competition
Advertising
Loyalty cards
Branding
Quality - AR > AC so needs to make supernormal profit to make invest
111
Contestable markets
Where anyone can join as there are low barriers to entry
112
Hit and run competition
Firms will see that supernormal profit can be made and will join, cutting down the price so consumers will come to them, then firms will get into a price war and undercut each other until AR=AC, so only normal profit can be made in the long run, then the firms will leave the market
113
Disadvantages of monopolies for consumers
In a monopoly, they lose out on consumer surplus, as they produce at the profit maximisation point
So consumers are better off in a perfectly competitive market as they produce at allocative efficiency which means consumer surplus is maximised
114
Advantages of monopolies for consumers
Monopolies make supernormal profits so that they can access economies of scale, which means they can reinvest and make the quality of products for a cheaper price better as well as hiring more workers
Perfectly competitive firms only make normal profits and are too small to access economies of scale
115
Advantages of monopolies for firms
Dynamic efficiency enables firms to drive down prices and keep new firms from joining the market. As a result, reinvesting large profits can lead to a strengthening of a firm’s monopoly position
They are price makers so can set Pmax to whatever they want, so they make supernormal profit
116
Disadvantages of monopolies for firms
Monopoly will try and drive out competition, but if they lacks competitors, then X-inefficiency will rise so costs will rise and supernormal profit will fall
117
monoploy and monopsony??
118
Advantages of perfect competition
Both firms and consumer benefit in this market, firms are able to achieve static efficiency. This means that they achieve both allocative efficiency and productive efficiency. Consumers benefit in a perfectly competitive market because consumer surplus is maximised. This is something which does not happen in monopoly markets
119
Disadvantages of perfect competition
In perfectly competitive markets, firms aren’t able to achieve dynamic efficiency. They are also unable to access economies of scale. As a result, they pass on higher prices to consumers in the long run
Consumers may also lose out over the quality of goods. As firms compete over price, some may cut corners to lower their costs of production
120
Oligopolies and consumers
If firms in an oligopoly collude, then consumers will lose out due to higher prices and an exploitation of consumer surplus. However, if firms in an oligopoly compete, then prices will fall and consumer surplus will increase. Therefore, consumers will fare better in an oligopoly that competes than in an oligopoly that colludes
121
Types of regulations
Merger policy
Price regulation
Profit regulation
Performance targets and quality standards
122
Merger policy
The CMA will investigate a merger if:
If the merging firms will have over 25% market share together
The “turnover test”: if the merging firms have a combined annual turnover above £70m
They will only block if they think it will negatively impact consumers
123
Price regulation
RPI + K : Increase price with inflation and K is supernormal profit which they can invest, improving long run efficiency
RPI - X : Increase price with inflation and X is efficiency gains, they have to make efficiency improvements in the short run
124
Regulatory capture
When a regulator sympathies with a firm
They could lower quality standards or increase price too much which could favour firms and harm consumers
125
Profit regulation
Firms' profits are taxed at 100% above a certain limit. They reinvest their profit back into the company so the government from taking it. However it also causes no profit incentive so they become lazy
126
Performance targets and quality standards
Targets for firms to meet, to ensure they're providing a top quality service, which improve quality and performance
The BSI give out quality standards
127
Deregulation
Deregulation is when regulations are removed to lower barriers to entry: forces firms to lower prices, improve quality and increase efficiency
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Privatisation
Privatisation is when the government transfers ownership of a public sector firm to the private sector, then deregulation follows
129
Competitive tendering
Competitive tendering is when the government outsources specific job contracts to the private sector. Private sector firms bid to win the contract, by offering the best deal - the highest quality for the lowest cost. The government then chooses the firm which offers the best value for money and awards them the contract
130
Helping small businesses grow
Access to loans
Research and development tax breaks - low corporation taxes
Subsides
131
The effects of a subsidy on a costs and revenue diagram
It is a normal cost revenue diagram, but there is a MCsusbsidy and ACsubsidy under both of the original ones
132
Nationalisation
Nationalisation is when the private sector transfers ownership of a private sector firm to the government
This means they set prices = MC, so they are making a loss, but is paid for by the tax payers
133
Labour markets
Workers do the supplying and Firms do the demanding
134
Labour supply and demand curve
It is a supply and demand curve, with the axis being wage on the left and QL on the bottom
135
Labour market equilibrium
An excess in supply is called unemployment and is above the equilibrium
An excess in demand and is below the equilibrium
136
Elasticity of labour demand
The change in labour demanded in response a change in wage. The more responsive the more elastic
137
Substitutes in the labour market
Easy to substitute workers means responsiveness so they are elastic
Harder to substitute workers means unresponsiveness so they are inelastic
138
Percentage of total costs (labour market)
If wages increase, firms wont care so are unresponsive which means inelastic demand (wages are a small % means inelastic demand)
If wages increase, firms will care so are responsive which means elastic demand (wages are a large % means elastic demand)
139
Time (LED) (labour market)
In the short run, with no time to search for substitutes means they are unresponsive which means inelastic demand
In the long run, with time to search for substitutes means they are responsive which means elastic demand
140
Elasticity of labour supply
The change in labour supplied in response a change in wage. The more responsive the more elastic
141
Skills and qualification (labour market)
The fewer skills/qualifications you need, the easier it is to get employed so elastic supply
The more skills/qualifications you need, the harder it is to get employed so inelastic supply
142
Unemployment (labour market)
When unemployment is low labour supply is inelastic and when unemployment is high labour supply is elastic
143
Time (LES) (labour market)
In the short run, with wages increasing, there is no time to train/apply it will be unresponsive to there is inelastic supply
In the long run, with wages increasing, there is no time to train/apply it will be responsive to there is elastic supply
144
Derived demand (labour market)
The demand for a factor of production is derived from the demand for a good/service (e.g the increased demand for builders in derived from the demand increasing of houses)
145
Productivity (labour market)
Can go either way as more workers means more profit, however you will need less workers to do the same amount as before
146
Capital costs (labour market)
As capital gets cheaper, the demand for labour decreases
147
Migration (labour market)
If workers are migrating out of the country, then the supply curve will shift left
If workers are migrating into the country, then the supply curve will shift right
148
Income tax
A higher income tax reduces take home income which reduces the incentive to work so a decrease in the labour market occurs. However some need a certain income so will work more, increasing the labour supply
A lower income tax increases take home income which increases the incentive to work so an increase in the labour market occurs. However some need a certain income so will work less, decreasing the labour supply
149
Benefits
A decrease in benefits encourages people to work which increases the labour supply (supply curve shifts right)
An increase in benefits encourages people to quit or stay unemployed which decreases the labour supply (supply curve shifts left)
150
Non-pecuniary benefits
Anything you get from your job which isn't just your wage
The higher the non-pecuniary benefits the lower the wage (shift to the right in supply)
The lower the non-pecuniary benefits the higher the wage (shift to the left in supply)
151
Education and training
Increases supply
With things like online courses, the demand will increase as coders are needed, but then more coders might not be needed if less coders can do the same amount
152
Monopsony
There is only one buyer in the market - the NHS is the only buyer of doctors
They can force down the wages/price they have to pay, reducing costs and maximising profits
153
Minimum wages
The lowest wage an employer can hire someone at. It only works if it is above the equilibrium, making excess supply/unemployment.
154
Trade unions
A group of workers who collectively bargain to improve employee welfare
155
Maximum wages
The highest wage employers can hire a worker for (should be 20x he minimum wage). The graph is Wmax and is below the equilibrium. It is an excess demand/shortage. It reduces inequality
156
Occupational immobility (labour market failure)
When workers can't move between different jobs as they lack the skills needed. The government can intervene by education, training and apprenticeships
157
Geographical immobility (labour market failure)
When worker struggle to move between different areas. They cannot move to fill new jobs so will end up unemployed. The government intervene by improving transport and give relocation subsidies
158
A natural monopoly
A natural monopoly is when it’s naturally most efficient if only one firm is in the market
High sunk costs
Huge internal economies of scale
159
Constant marginal cost curve
Its just a straight line, the add MR and AR
160
Price discrimination
Adults have higher income, so they don't care about the price so its price inelastic
Students have lower income, so they care about the price so its price elastic
161
3 conditions of price discrimination
Market power - have enough power to change the price of its goods
Information - use data to figure out which consumers are price elastic and inelastic
Limit reselling - firms losing out on profit if people resell stuff for cheaper than intended
