ECONOMICS FOR BUSINESS

• Features of market structures

  • Perfect competition
  • Monopolistic Competition
  • Oligopoly
  • Monopoly
• Perfect Competition

  • Producers hate perfectly competitive markets, because it reduces the long-term profit potential of the firm.
  • Therefore, firms will try to change the market structure from being perfectly competitive, into one of the other types of market structure.
• Consumers usually like perfect competition, because consumers receive value-for-money due to:

  1. technical and allocative efficiency in the long-run
  2. normal profits being earned by producers in the long-term
• Perfect Competition

  • Large numbers of both buyers and sellers prevent any singular producer, or consumer, from influencing market price
• Price taker

  • competition is based on price (because products are homogenous)
  • market sets price (price mechanism)
  • each firm is a price taker
  • law of one price: in an efficient market all firms in the market will charge the same (market) price
• Price taker- firms in the market have a horizontal demand curve, at the market price
• Horizontal demand curve

  • When marginal revenue is the same at all levels of output, then average revenue curve is the same as the marginal revenue curve.
• Perfect Competition

  • Homogenous products, resources and processes, when combined with perfect information of both consumers and producers, ensure producers acquire similar unit revenues (prices), and have similar unit costs.
• Firms aims to maximise profitability

  • Marginal Revenue (MR) = Marginal Cost (MC).
  • This is the same firm output level where total revenue exceeds total cost by the greatest amount.
• MC = MR

  each additional unit produced generates greater additional revenue than additional costs = each additional unit produced generates greater additional cost than additional revenue
• No barriers to market entry and exit

  • Allows firms free entry into the market. New firms are attracted into the market if above average returns (super-normal profit) are being earned by incumbents.
  • Allow firms easy exit from the market if sub-normal returns / losses are being made by incumbents.
  • Consequently, there is a tendency for normal profits to be earned in the long-term.
• Profits: Normal and Abnormal

  • Normal profits: total revenue = total costs
  • Abnormal (super-normal) profits: Total Revenue > Total Costs
• Long-run equilibrium

  • Abnormal profits act as an incentive for other firms to enter the market
  • There are no barriers to entry so there is nothing to protect the abnormal profits
  • Firms will enter the market until abnormal profits disappear, and there is no further incentive to enter the market
  • In the long-run all firms in the market make normal profits.
• Losses: Total Revenue < Total Costs
• Advantages of perfect competition

  • Allocative efficiency
  • Technical efficiency
• Allocative efficiency

  • occurs at P = MR = MC. Market price equals additional utility acquired by consumers [therefore, marginal benefit to society] (P=MR), which equals the marginal costs (MC) incurred by producers that make the last unit of output.
• Technical efficiency

  • Contestable markets ensure firms efficiently produce output, in order to achieve normal profits - Firm operates at the lowest point of the average cost curve, in the long-run.
• Disadvantages of perfect competition

  • Firms in perfectly competitive markets operate on a small scale:
  • Unable to benefit from scale economies, and there is duplication of activities (reducing efficiency).Lack of innovation in perfectly competitive markets.
  • Normal profits prevent firms investing in research and development to improve products and processes.
  • Also, there is no incentive to innovate, due to perfect information causing new information to be quickly shared with competing firms.
• Monopolistic competition

  • small share of market - unlikely to affect its rivals to any great extent (independence)
  • product / service is some way different from competitors = can rise price without losing all its customers
• Short run: supernormal profits

  • Monopolistic competition resembles a monopoly in short-run
  • product differentiation gives firm greater market power
  • enables firm to influence price through its own output decisions
• Monopolistic competition - long run: normal profit

  • lack of market entry barriers attracts new firms to enter the industry in the long-run, attracted by super-normal profits
  • new market entrants depress market prices (and consequently incumbents profitability) and causes excess capacity to occur within the industry
  • new firms are attracted into the industry until normal profits are erned
  • reduction in firm output resulting from new firms entering an industry causes excess capacity (reduces capacity utilisation of existing firms in the industry)
• 1. Market systems
  2. command systems
  3. mixed systems
• Supply

  • The quantity of a good/service producers are willing and able to produce at a given price in a given  time period
• Supply curve

  • The supply curve (graphical relationship between price and quantity supplied)
• Change in supply causes

  • Costs
  • Price of Related Goods (substitutes/complements in production)
  • Technology
  • Expected Future price
  • Number of Suppliers
• Price and output determination

  • Ø  Equilibrium price and output
  • significance of ‘equilibrium’ (D = S)
  • Response to shortages and surpluses
  • Demand and supply curves
  • effect of price being above equilibrium price
  • surplus ® price falls
  • effect of price being below equilibrium price
  • shortage ® price risesD = S
  • Market clears to always reach equilibrium: where
• Fixed cost

  • The sum of the costs paid for all fixed inputs; fixed cost does not change when output changes.  (Example: Rent)
• Variable cost

  • The sum of the costs paid for all variable inputs; variable cost changes when output changes. (Example: Electricity, Wages)
• Total cost

  • The sum of the fixed cost and the variable cost; TC = FC + VC.
• Average fixed cost:

  • fixed costs divided by the amount of output
• Average variable cost: Variable cost divided by the amount of output
• Average total cost: Total cost divided by the amount of output
• Market

  • refers to a structure where buyers and sellers connect with each other to exchange goods, services and information
  • A market exists following the laws of demand and supply.
• Industry

  • refers to a group of companies that are related in terms of their primary business activities (production of goods or services)
  • An industry produces one or relatively similar types of product. Textile, automotive, beverages, banking, insurance.
• Oligopoly

  • a few suppliers
• Monopoly

  • single supplier
• Market entry barriers

  • Market entry barriers exist in:-
  • Monopoly (single supplier in market).
  • Oligopoly (few suppliers in market).

   

  • Market entry barriers do not exist in:
  • Perfect Competition.
  • Monopolistic Competition.
• sources of market entry barriers

  • Capital requirements create potential sunk costs for new market entrants.
  • Sunk cost – refers to costs that cannot be recouped (e.g. by transferring assets to other uses)
  • Cost advantages
• Economics for sale

  • Unit (average total) cost = total production / number of units produced
• Imperfect Competion

  • Monopolistic cometition
  • oligopoly
  • monopoly