Theme 3 KAA and Evaluation

Assumption all firms are profit maximisers

Assumes all firms produces at MC = MR

Evaluation

• most firms suffer from the principal-agent problem

• shareholders want to maximise profits

• managers are rewarded on total revenue, or market share, or others and would want to pursue other goals

• stakeholder interests do not align

Natural monopoly benefit from economies of scale

KAA

• economies of scale can lead to lower average costs and increased efficiency

• AC and MC curves shift down

Evaluation

• true up to a point

• However, as firms grow past their Minimum Efficient Scale, effects of diseconomies of scale can be seen

• eg communication and decision making becomes slow, average costs start rising again

• monopolies also have no competition, and therefore no incentive to cut costs

• leads to X-inefficiencies as they don’t need to remain efficient

• eg Royal Mail before privatisation - high costs, low productivity due to little competitioj forcing them to improve

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