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Theme 4: Making Markets Work - Coggle Diagram
Theme 4: Making Markets Work
4.1 Competition and Market Power
4.1.1 Spectrum of Competition
Monopoly
Oligopoly
Imperfect competition
Perfect competition
Characteristics
many producers and buyers
no barriers to entry or exit
each firm is small and sells to a large number of small buyers
producers are price takers
perfect knowledge
homogenous goods
firms are SR profit maximisers
factors of production are perfectly mobile
firms can sell all of their output at the current market price
demand is price elastic
firms have small market share
it is rare to see an example of perfect competition in the real world
commodity markets are close to the model, since many commodities are homogenous
How the model of perfect competition helps to explain how markets work
in SR
Pricing strategies
non-price competition
4.1.2 Barriers to Entry
Contestable market: firms can enter and leave easily, low sunk costs
characteristics of contestable markets
face actual and potential competition
free access to production techniques and technology
low consumer loyalty
low entry and exit barriers - no sunk costs
a market with high sunk costs is less favourable - higher risks. Also likely to push a market to a price and output similar to a monopoly
sunk costs are a barrier to contestability
varied number of firms
behaviour of firms
likely to be allocatively efficient
in long run they operate at bottom of the AC curve
productively efficient
wary of new entrants due to low barriers to entry
take supernormal profit then leave (hit and run competition)
similar to perfectly competitive markets - existing firms act like there is a lot of competition
economies of scale
legal barriers
consumer loyalty and branding
predatory pricing
limit pricing
anti-competitive practices
vertical integration
brand proliferation
barriers to exit
cost to write off assets and leases
losing a brand
cost of making workers redundant
Economies of Scale
Barriers to entry aim to block new entrants to the market. it increases producer surplus and reduces contestability
4.1.3 Oligopoly
Concentration ratios
The concentration ratio of a market is the combined market share of the top few firms in a market
in an oligopoly there is a high concentration ratio
the higher the concentration ratio, the less competitive the market as fewer firms are supplying the bulk of the market
The n-firm concentration ratio (CR) is a measurement of the market share of the n firms that dominate the market
eg. 3:75 means that 3 firms have 75% market share
Firms can either operate in a market which is oligopolistic, or several firms can display oligopolistic behaviour
price discrimination
a firm charging different prices to different consumers for the same product
price charged depends on
ability to pay
willingness to pay
so depends on price elasticities
First degree
Second degree
Third degree
4.1.4 Business objectives and pricing decisions
Total costs
= total variable costs + total fixed costs
Average total costs (ATC)
= total costs / quantity produced
Average fixed costs (AFC)
= total fixed costs / quantity
Average variable costs (AVC)
= total variable costs / quantity
Marginal costs
= ∆TC÷∆Q (how much it costs to produce one extra unit of output
REVENUE
COSTS
Total revenue (TR)
= price x quantity sold
Average revenue (AR)
= TR / quantity told
Marginal revenue
= difference between TR at different output levels
Profit maximisation
Profit satisficing
Sales maximisation
Revenue maximisation
Survival
Market Share
Cost efficiency
Return on investment
Employee welfare
Customer satisfaction
Social objectives
4.1.5 Productive and allocative efficiency
Allocative efficiency
occurs when resources are allocated to the best interests of society, where there is maximum social welfare and maximum utility
quantity supplied = quantity demanded
firms are more allocatively efficient when they produce the goods and services which meet consumer preferences
Productive efficiency
4.2 Market power and market failure
4.2.1 Market failure
Significance of market power
Collusion
Collusive behaviour occurs if firms agree to work together on something
leads to maximising their own benefits, lower consumer surplus, higher prices and greater profits for the firms colluding - deterring new entrants
this allows firms in an oligopoly to operate closer to conditions of a monopoly
By colluding and acting like monopolists firms can make supernormal profits where AR is greater than AC.
Overt
a formal agreement made between firms
illegal in many countries
Tacit
no formal agreement, but collusion is implied
Cartel
agreement between firms to collude in controlling prices, limit output or prevent the entrance of new firms
against the interest of the consumer= illegal
Restrictive practices
attempt to raise prices or restrict output: might include refusing to supply stock to competitors and price discrimination to different buyers
Price leadership
The dominant firm sets price and other firms follow suit, normally over a period of time
impacts of market failure on economic agents and governments
4.2.2 Business regulation
4.2.3 Arguments for and against regulation
4.3 Market failure across the economy
4.3.1 Market failure in society
4.3.2 Externalities
4.3.3 Policies to deal with market failure
Indirect taxes
taxes on expenditure
Subsidies
Tradable pollution permits
State provision of public goods
Provision of information
Regulation
Legislation
4.4 Macroeconomic policies and impacts on firms and individuals
4.4.1 The AD/AS model
4.4.2 Demand-side policies
Monetary policy
used to control money flow
uses interest rates and quantitive easing
conducted by the Bank of England
Limitations:
banks may not pass the base rate onto consumers
even if the cost of borrowing is low, banks may be unwilling ti lend
interest rates are more effective stimulating spending and investment when consumer confidence is high
Fiscal polity
to influence the level of economic activity
Goals
keep inflation on target
stimulate economic growth and employment during recessions
maintain stable economic cycle
Expansionary
aims to increase AD
cutting taxes
consumers have more disposable income - increases consumption
lower corp. tax increase profits for firms - more investment
raising government spending
increase spending on infrastructure projects or increase pay for public sector workers
increase budget deficit
a way to increase spending without increasing taxation - borrowing
repaid with interest
Contractionary
aims to decrease AD
increase taxes
discourage spending
bring inflation down
cut government spending
if excessive government spending is inflationary
cut budget deficit
cutting long-term borrowing commitments stabilise economy
reduced debt repayment can be reinvested in ecoomy
manipulation of
taxes
government spending
borrowing
Limitations
4.4.3 Supply-side policies
Market-based (free market)
aim to
limit government intervention
to allow the free market to eliminate imbalances
Interventionist
rely on the government intervening for the market to operate efficiently
Strengths
Weaknesses
4.4.4 The impact of macroeconomic policies
4.5 Risk and the financial sector
4.5.1 Risks and uncertainty
4.5.2 The Role of the Financial Sector
4.5.3 The role of the Central Bank
4.5.4 The Global Financial Crisis