Business Economics and The Distribution of Income

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Business Economics and The Distribution of Income by Mind Map: Business Economics and The Distribution of Income

1. Monopoly

1.1. Theory Definition

1.1.1. Firm is the Industry

1.2. Competition Comission

1.2.1. >25% of market share

1.3. Other ways to assess

1.3.1. Number and closeness of substitutes

1.3.2. Level of barriers to entry

1.3.3. Degree of product differentiation

1.4. Basic Diagram

1.4.1. Price Maker

1.4.2. MC=MR

1.4.3. Makes Supernormal profit

1.5. Barriers to entry

1.5.1. Block potential entrants into a market Protect power of existing firms Maintain supernormal profit

1.5.2. Determine how much a firm can price above MC & AC in the long run

1.5.3. Examples High Fixed Costs Disuade entrants Economies of scale Large output needed to reach MES Brand Loyalty Spread the cost of advertising over thousands of units Legal Barriers Patents Control of Factors of Prod Stop others getting raw materials Control over Retail Outlets Stop them selling their product Predatory Pricing Reduce price which the entrant cannot achieve due to higher AC curve First mover advantage

1.6. Strategic entry deterrence

1.6.1. Hostile takeovers and aquisitions

1.6.2. Product differentiation

1.6.3. Capacity expansion

1.6.4. Predatory Pricing

1.7. Efficiency

1.7.1. Productively Inefficient Not on lowest point of AC

1.7.2. Allocatively inefficient P>MC Deadweight Loss

1.7.3. X inefficient No competition, no mechanism to eliminate organisational inefficiency

1.7.4. Dynamically efficient Product and Process Reinvest supernormal profit

1.8. Costs

1.8.1. Gain supernormal profit at the expense of efficiency and consumer welfare

1.8.2. Loss of allocative efficiency

1.8.3. Productive and X inefficient

1.8.4. Higher Prices and lower output

1.9. Benefits

1.9.1. Exploit Econ of scale Lower prices for consumer and increased output

1.9.2. Natural Monopoly Get to MES Productive efficiency

1.9.3. Dynamic efficiency from Supernormal Profit

2. Oligopoly

2.1. Dominated by a few producers, each has a degree of control, high market concentration

2.1.1. CR5 >60%

2.2. Features

2.2.1. Interdependance and uncertainty Take into account the actions of rivals

2.2.2. Entry barriers Maintain supernormal profit

2.2.3. Product Branding scope for product differentiation

2.2.4. Non- Price Competition advertising, loyalty cars, longer opening hours, discounts on product upgrades Advertising profitable if MR of extra sales > Advertising+MC of output increase.

2.3. Compete or Collude?

2.4. Kinked Demand Curve

2.4.1. Rival firms won't match a price rise, but will match a price fall PED elastic above equilibrium, PED inelastic below equilibrium Price Rigidity P,Q is stable profit maximising output

2.4.2. Limited evidence how did they get to the orginial price assumes a given reaction doesn't deal with Non Price factors A firm could benefit from a price war if it is able to force rivals out

2.5. Price Leadership/ Tacit Collusion

2.5.1. Collective self interest to collude, as if one moves they all reduce price and profit

2.5.2. Dominant firm sets the price Usually at a level where price high enough for least efficient to earn some return

2.5.3. Barometric Price Leadership Firm which is quickest to respond to demand change, could be small

2.6. Expilict

2.6.1. Easy when small number of firms

2.6.2. Market demand is not variable

2.6.3. PED inelastic New node

2.6.4. Firm output easily monitored

2.6.5. Joint-profit maxmisation Exert control over market supply New node

2.6.6. Breaks down when one undercuts the cartel

2.6.7. Enforcement is tricky

2.6.8. Falling market demand puts pressure to reduce prices

2.6.9. New, non cartel firm

2.6.10. Exposed by OFT

2.7. Benefits

2.7.1. Joint Research and development projects Shared fixed costs reduced consumer price

2.7.2. Share common facilities

2.7.3. Adoption of common standards Eg blue ray, mobile phones

2.8. Game theory

2.8.1. Interdependant Need pay offs Dominants stratergy

2.8.2. Eg, how much to invest/research

2.8.3. New node

3. Contestable Markets

3.1. Barriers to entry influence the conduct and performance of firms

3.2. Threat of hit and run entry into the market

3.2.1. Firms produce at lowest cost and dont take extra profit

3.3. Assumes entry and exit are costless

3.4. Evaluation

3.4.1. No market is perfectly contestable, has no sunk costs. Tricky to remove some barriers

3.4.2. Perhaps wait for new entrant, then reduce price below costs, with old profits as reserves

3.4.3. Protect themselves with patents and strategic barriers to entry. Protect themselves with patents and strategic barriers to entry.

3.4.4. Level of knowledge needed is high and not freely availabe

3.5. Increasingly contestable

3.5.1. Persistance of Entrepreneurs with product innovation

3.5.2. Deregulation of markets

3.5.3. Competition policy acting against predatory behaviour

3.5.4. European Single market Easier for European firms to contest

3.5.5. Technology reducing entry costs

4. Market Structure and Technology

4.1. Number of Firms

4.2. Market Share of Largest Firms

4.3. Nature of Costs

4.4. How vertically integrated?

4.5. Extent of Product differentiation

4.6. The Structure of buyers in the industry

4.7. The turnover of customers

4.8. Importance of innovation

4.8.1. Improves Uk competitiveness

4.8.2. protect and develop comparative advantage

4.8.3. Keeps down unit labour costs with higher productivity

4.8.4. higher long term trend growth

4.8.5. Create thousands of jobs

4.8.6. Positive externalities

4.9. Perfect Comp

4.9.1. No influence on market price

4.9.2. Free entry

4.9.3. homogenous

4.10. Pure monopoly

4.10.1. Earn supernormal in short and long run

4.10.2. Use of entry barriers

4.10.3. Price discrimination

4.11. Oligopoly

4.11.1. some market power, branded products, barriers to entry

4.11.2. Interdependent nature

4.11.3. Protect market share, rather than profit max?

4.12. Contestable

4.12.1. low entry and exit costs

4.12.2. hit and run entry

4.12.3. THREAT makes firms price competitively

4.12.4. Barriers to contestability, higher= greater pricing power

4.13. PED and CED

4.13.1. Low CED, consumers less likely to switch, greater pricing power

4.13.2. PED Inelastic, raise price and not lose a disproportionate level of sales

4.14. Product differentiation

4.14.1. Pay high price for new products

4.14.2. end of life cycle, lower prices

4.14.3. impact of brand loyalty

4.15. Regulatory System

4.15.1. may intervene

4.16. international environment

4.16.1. globalisation, overseas competitors

4.17. Economic Cycle

4.17.1. More pricing power when demand is strong

4.18. Technology

4.18.1. Innovation Shift AC down But short term costs, from training workers on new machine

4.18.2. influence optimal methods of production, eg more capital intensive

4.18.3. First mover advantage? Second might learn from your mistakes

4.18.4. Lower costs, higher output, lower price for consumer, maybe better quality, maybe new products

4.18.5. Efficiency Increase dynamic efficiency, reduce AC, maybe increase profit, then more R and D again Market structure decides where on AC curve, not technology, same for allocative

4.18.6. Competition Nature of product number of buyers number of new firms Level of barriers to entry amount of information Promote monopoly, patent their innovation

5. Costs and Revenues

5.1. Fixed Cost

5.1.1. A cost which does not change with output TC=TVC+TFC

5.2. Variable Cost

5.2.1. A cost which does change with output

5.3. Average Cost

5.3.1. AC=TC/Q

5.4. Short Run

5.4.1. One factor fixed at least

5.5. Law of Diminshing Returns

5.5.1. INC variable to fixed=marginal product decreases Initially it rises then falls From Overcrowding Less efficient Labour employed Less efficient machinery

5.6. Product

5.6.1. Average Product =output per worker

5.6.2. Marginal Product =Addition to total production from one extra unit of output

5.7. Additional Capacity

5.7.1. Shifts SRAC down and right Reducing costs with greater output Afford Exp Capital Bulk Buy INC credit Worthy Administrative econ of scale

5.8. Economies of Scale

5.8.1. INC inputs leads to more than proportional increase in outputs Falling LRAC

5.9. Long Run Average Cost Curve

5.9.1. Constant returns to scale Flat line LRAC constant when output INC

5.9.2. Diseconomies of scale upward curve INC output rising cost

5.10. Minimum Efficient Scale

5.10.1. Exhausted Econs of scale first part of the bottom of the curve high fixed costs, longer to get to MES

5.11. External E of S

5.11.1. LRAS down attract labour specific skills share facilities Banks industry specific local

5.12. Revenue

5.12.1. Total Revenue PxQ

5.12.2. Average Revenue TR/Q New node

5.12.3. Marginal Revenue + to TR from sale of one + unit of output

6. Profit Maximisation

6.1. Normal Profit

6.1.1. sufficient to keep all factors of production in their current use AC=AR

6.2. Supernormal Profit

6.2.1. Anything in excess of normal profit

6.3. Maximising

6.3.1. MC=MR

6.4. Role of Profit

6.4.1. Allocation of Resources

6.4.2. Signal for market entry

6.4.3. Promotes innovation

6.4.4. Investment

6.4.5. Rewards Entrepreneurs for bearing Risk

6.4.6. Economic Performance Indicator

6.5. Alternative Goals

6.5.1. Managerial Status

6.5.2. Market share

6.5.3. Sales Growth

6.5.4. Revenue Maximisation

6.6. Divorce of ownership and control

6.6.1. Principal Agent problem E.g. Managers don't act in shareholders best interests Hire experts to assess Share ownership shchemes Exercise voting rights Stock Market

6.7. Behavioral theories

6.7.1. Coalition of goals and satisficing

7. Perfect Competition

7.1. Many buyers and sellers

7.2. No barriers to entry or exit

7.3. Identical Products

7.4. Perfect Information

7.5. No externalties

7.6. No economies of scale

7.7. Short run= no new firms can enter

7.7.1. Shutdown Condition New node

7.8. Long run= firms are able to enter

7.8.1. Shutdown Condition If P < AVC, in long run, must shut down

7.9. Agricultural commodities, metal and shares are close to perfect

7.10. Reality

7.10.1. Competition pushes prices down

7.10.2. Drives inefficient firms out

7.10.3. Consumer sovereignty prevails

7.11. Benefits

7.11.1. Lower Prices

7.11.2. Low barriers to entry

7.11.3. Lower total profits

7.11.4. Greater Entrepreneurial Activity

7.11.5. Economic Efficieny

7.12. Other Factors to compete on

7.12.1. Brand

7.12.2. Design

7.12.3. Consumer Service

7.12.4. Gifts

8. Efficeincy

8.1. Consumer Surplus

8.1.1. Difference between the price a consumer is prepared to pay and the market price

8.2. Producer Surplus

8.2.1. Difference between the market price and the price the firm is prepared to supply at

8.3. Static Efficiency

8.3.1. At a given moment in time Productive Lowest point of the AC curve Allocative Output in line with consumer preferences X Firm fails to produce on AC curve. Due to organizational slack. Associated with monopoly

8.4. Dynamic

8.4.1. Occurs over time Product Innovation Sustaining innovation Disruptive innovation Creates new markets R&D Technology change Increased human and physical capital Process Innovation Cost reducing innovations Innovation policies Tax credits More Competition Policy Increased funding for research Important Developments Increasingly done by small firms Innovation is a continuous process Demand innovation Not left to chance

8.5. Is Perfect Competition efficient?

8.5.1. Allocative=yes Productive=yes in long run Dynamic=no- homogenous products

8.6. Deadweight Loss

8.6.1. Welfare loss associated with monopoly power

9. Concentration Ratio

9.1. C.R.5

9.1.1. Value of output from the 5 largest firms/value of output for industry

9.2. Firms getting Larger

9.2.1. Market Power Motive

9.2.2. Objectives of Managers

9.2.3. Profit Motive

9.2.4. Economies of scale

9.2.5. Risk motive

9.3. How they get larger

9.3.1. Internal Growth Profits or loans finance expansion by increasing fixed and variable factors Eg Cafe Nero - stratergy of opening new stores each year

9.3.2. External Growth Acquisition and Mergers Horizontal Vertical Lateral Conglomerate

9.3.3. Outsourcing Over 30% of UK companies do Technological Change Increased Competition Pressure from Financial Makets

10. Price Discrimination

10.1. When a producer sells an identical product to different buyers at different prices, for reasons unrelated to costs

10.2. Conditions

10.2.1. Differences in Price Elasticity of Demand high to inelastic Lower to elastic

10.2.2. Barriers to prevent Market Seepage Stop consumers buying at reselling Unique moments in time is a solution

10.3. 1st degree

10.3.1. unique price Get people to pay what they are willing Extract all consumer surplus

10.4. 2nd degree

10.4.1. Sell Batches of products at lower prices than previous batches Make supplementary profit Eg multi pack crisps

10.5. 3rd degree

10.5.1. Different segments Time off peak on peak Geography overseas elasticities vary Status pensioners vs full time work

10.6. Consumer welfare

10.6.1. Reduced in most cases Price is mostly above the MC Inelastic would want return to uniform pricing

10.6.2. Lower incomes priced into the market Eg medical services Positive externalities

10.7. Producer Surplus

10.7.1. Converts Consumer Surplus into supernormal profit Not all firms profit maximizing

10.7.2. Profits reinvested Improved dynamic efficiency Maybe benefit consumer

10.7.3. Predatory pricing tactic harm competition and suppliers level and increase a firms market power