Economics

principle agent problem

Arises from conflict between the objectives of the principals (owner(s)) and their agents (managers) who take decisions on their behalf.

Bounded Rationality

a situation in which firms ability to take rational decisions is limited by a lack of information or an inability to interpret the information that is available.

Satisficing

Choosing a level that is acceptable, although not necessarily the maximising.

CSR (Corporate Social Responsibility)

actions taken by a firm to show commitment to public interest

Static efficiency

efficiency at a particular point in time

allocative efficiency

P=MC when resources are distributed to produce the combination of goods and services most desired by society and maximising total economic welfare.

productive efficiency

P=minimum AC=mc

production at lowest possible ac

Dynamic efficiency

Efficiency over time through innovaiton, investment and r and d

x-inefficiency

firms do not operate at minimum costs

profit max

MC=MR

Revenue Max

MR=0

Sales/Output max

AR=AC

Profit satisficing

managers aim for a satisfactory amount of profit under max

Law of diminishing returns

If a firm increases one variable factor of production while others remain fixed, the marginal returns will eventually decrease.

Marginal Physical Product

The additional output produced by an additional unit of labour input

External economies of scale

The cost benefits that all firms in the industry can enjoy when the industry expands

Normal profit

profit needed for firm to stay in the market in the long-run

supernormal profit

above normal profit

Accounting profit

profit based on explicit costs incurred excluding OC

shut-down price

the price below which a firm will choose to exit the market because it is not able to cover its fixed costs

Barriers to entry

Characteristics of an industry or market that make it more difficult for new firms to compete.

advantages and disadvantages of a monopoly

Advantages- Dynamic efficiency and EOS

Disadvantages- Allocative innefiency, x-innefficiency, consumer choice limited

Reasons why monopolies arise

The patent system - originally designed as an incentive for firms to innovate

Competitive monopolies - arise from affective marketing, acquisition and merging of rival firms, potentially sales maximisation etc

Natural monopoly - high sunk costs, high economies of scale

natural monopoly

arise in industry where there are such substantial EOS that only one firm is viable in the market

advantages for the market that it can due to high EOS produce at a lower cost and potentially pass on in form of lower prices to consumer

competition policy

used to prevent firms from abusing market dominance.

CMA competition markets authority

Regulation can include:

setting limits on the rate prices can rise(phased out as encourages dangerous cost cutting - harmful for environment, and also static efficiency not dynamic)

preventing merge/acquisition of firms

Output/ quality controls - especially for water companies etc

regulatory capture

when regulator acts in industries best interests rather than regulating it

Types of Price Discrimination

- First/perfect degree price discrimination - where a monopoly firm is able to charge each consumer a different price

- Second degree price discrimination - Prices vary based on the quantity consumed or the version of the product.

- Third degree price discrimination - where firm is able to charge different groups of consumers different price for the same product

conditions for price discrimination

market power

information about consumers and their willingness to pay

limited ability to resell the product

monopolistic competition

a market structure in which many companies sell products that are similar but not identical.

Often defined as --> A market that shares some characteristics of a monopoly and some of perfect competition

downward sloping demand curve - firm has some control over the price sold at each output

product differentiation

freedom of entry

many firms

no dominant firms

Long run AC shifts up to become a tangent to AR curve due to increased advertising costs due to new firms entering the market

oligopoly

few dominant sellers where each firm takes account of the behaviour/ likely behaviour of other rival firms in the industry.

non-price competition

Strategies other than price to attract customers. - build brand loyalty or quality design, rather than price

Kinked Demand Curve

a perceived demand curve that arises when competing oligopoly firms commit to match price cuts, but not price increases

game theory

cartel

an agreement between firms on price and or output with the intention of maximising their joint profits

Tacit collusion

situation occurring when firms refrain from competing on price, but without communication or formal agreement between them.

n-firm concentration ratio

a measure of the market share of the largest n firms in an industry

predatory pricing

an anti-competitive strategy in which a firm sets price below average variable cost in an attempt to force a rival or rivals out of the market and achieve market dominance

Contestable market

a market where existing firm only makes normal profit, as it cannot set a price higher than average costs without attracting entry, owing to the absence of barriers to entry and sunk costs.

-face no barriers to entry

-incur no sunk costs in in entry of market

- have no competitive disadvantages compared with the incumbent firms

-have access to the same technology as incumbent

-are able to enter and exit freely

Hit and run entry

Where a firm enters a market to take short-run supernormal profits knowing it can exit without incurring costs

advantages and disadvantages of a contestable market

- lower prices > new firms price takers

-allocative and productive efficiency achieved - p = mc and at minimum ac

- long run equilibrium or safety is uncertain or unclear

-firms cannot set a price above average costs due to risk of new firms

-low dynamic efficiency or economies of scale

derived demand

when demand for a factor of production or good derives not from the factor or good itself but from the goods or services that it provides.

Marginal Revenue Product of Labour (MRPL)

The additional revenue received by a firm as it increases output by using an additional unit of labour input

Marginal revenue product theory

argues that the demand for labour depends upon balancing the revenue a firm gains from employing an additional unit of labour against the marginal cost of that unit of labour

Labour productivity

measure of output per hour worked

unit labour cost

the average cost of labour per unit of output

factors influencing Labour supply curve

-the wage prevailing in other industries or occupations

-the skills needed for the job and the cost and difficulty of acquiring those skills

-the number of people with appropriate qualifications

-the non-pecuniary benefits offered by firms of the industry

-the demographic structure of the population and availability of immigrant workers

non-pecuniary benefits

benefits offered to workers by firms that are not financial in nature.

transfer earnings

minimum required payment required to keep a factor of production in it's present use

economic rent

a payment received by a factor of production over and above what would be needed to keep it in it's present use

Reasons for Wage Differentials

- Difference in Productivity

- Elasticity of Supply (of Labour)

- Trade Union Power

- Difference in Final Demand

- Government Pay Policy

- Compensating (for Risk)

- Different Regional Costs of Living

- Employer Discrimination - gender pay gap only 9% in 2018

Monopsony

a market structure in which there is only a single buyer of a good, service, or resource

How I understand deadweight loss

Area on a graph below socially optimum level. for example monopoly's produce at MR=MC which is below the socially optimum level at AR=MC=P.

Deadweight loss= area below socially optimum

merit and demerit goods

A merit good is a good that has positive externalities (such as flu shots).

A demrit good is a good that has negative externalities (such as cigarettes).

externality

a cost or a benefit that is external to a market transaction, and is thus not reflected in market prices

adverse selection

where a person more at risk is more likely to take out insurance. eg a smoker buying health insurance

moral hazard

a situation where those insured take out a higher risk

private goods

a good that once consumed by one person cannot be consumed by anyone else.

Non-excludability

a situation in which it is not possible to provide a product to one person without allowing others to consume it as well

Non-rivalry

a situation where one persons consumption of a good does not prevent others from consuming it as well.

Public Goods

a good that is non-exclusive, non-rivalrous, non-rejectable.

Non-rejectability

a situation in which an individual cannot avoid consuming a good

free rider problem

when an individual cannot be excluded from consuming a good, and so has no incentive to pay for it.

quasi-public goods

a good which has some catagories of a public good but not others. eg a football match, non-rivalrous(consumption doesnt affect anothers) , non non-excludable, it is also rejectable. or a public road could be non-excludable but rival as traffic could build up from other peoples consumption

joint demand

when two goods are consumed together

composite demand

demand for a good which has various uses

competitive demand

Demand for goods which are in competition with each other (substitutes)

Competitive supply

Competitive supply occurs when a firm uses the same resources to produce alternative products, meaning an increase in the supply of one product necessitates a decrease in another

joint supply

where a firm produces more than one product together

stagflation

a period of slow economic growth and high unemployment (stagnation) while prices rise (inflation)

full employment

a situation where everyone who is economically active are willing and able to find work at going wage rates and are able to find employment.

ways to measure unemployment

Claimant count - number of people claiming benefits(however it includes people not availible to work and doesnt include people who cant claim benefits)

Labour force survey

frictional unemployment

unemployment when people are in job search, eg between jobs

structural unemployment

unemployment that arises because of a change in pattern of economic activity in an economy

cyclical unemployment

arises during downturn of economic cycle

Demand-deficient unemployment

unemployment that arises dues to a defficiency of aggregate demand in an economy, so equilbrium level of output if below full employment

seasonal unemployment

arises in seasons of the year when employment is relatively low.

Kuznets Curve

As per capita increases, environmental degradation and income inequality first increases and then decreases.

difference between RPI and CPI

CPI replaced RPI

RPI produces higher inflation rates

Deflation vs. disinflation

Deflation -- declines in price level

Disinflation -- slowing in the rate of increase in price level

circular flow of income

a model showing the movement of goos and services between households and firms. Households provide firms with factors of production, firms give output of goods and services in return. Households provide expenditure on firms who provide incomes to households in return

leakages and injections into circular flow of income

injections:

govt spending

exports

investment

leakages

tax

spending on imports

savings

rate of interest

the cost of borrowing and the reward for lending

liquidity

the ease with which an asset can be converted into cash

Narrow money (M0)

notes and coins in circulation and as commercial banks deposits at the bank of england

Broad money (M4)

Encompasses narrow money plus the entire range of liquid assets that can be used to make purchases.

Credit creation

operations of commercial banks can influence the quantity of money. banks accept deposits from their consumers and issue loans. the way in which they undertake lending has an impact on the quantity of money

Credit Creation Multiplier

a process by which an increase in money supply can have a multiplied effect on the amount of credit in an economy...

Usually happens like this:

Banks take deposits of $100

Banks required to keep a ratio of this for withdrawel(liquidity ratio) $10

Banks loan out $90

$90 becomes someone else income which is deposited

banks keep $9

Loan out $81

$81 becomes someones income....

Credit Creation Multiplier equation

multiplier = 1/liquidity ratio

multiply multiplier by original deposit to get total level added

velocity of circulation

the rate at which money changes hands, the volume of transactions divided by money supply

fisher equation

can be usd to calculate price level

specifies the relationship between money supply(M), velocity of circulation(V) , price level(P) and real income(Y)

MV=PY

therefore P=MV/Y

determination of interest rates

demand for money:

-transactional demand - demand for money in order to undertake transactions

-precautionary demand - liquid assets available to guard from sudden shocks

-speculative demand - if share prices are low and rate of interest paid is high, then opportunity cost of holding money is high and people will hold shares, vice versa if money was cheaper more people hold money

Liquidity preference - a theory by which people will desire to hold money as an asset.

Market for loanable funds:

-The idea that households will be influenced by the rate of interest in making savings decisions, which will then determine the quantity of loanable funds available for firms to borrow for investment.

although rate of interest can be interpreted as opportunity cost of holding money, firms may see it as the cost of borrowing. the higher the rate of interest is the less investment activity/projects are likely to go ahead- less likely to be seen as profitable. --therefore high savings can lead to as higher quanitity of loanable funds being availible boosting investment

The central bank

Role of financial sector

-environment where economic activity takes place:

FACILITATE SAVING

individuals(and sometimes firms) need to save, firms & individuals need to be able to borrow. through financial markets savings can be mobilised for investment

FACILITATE BORROWING

FACILITATING THE EXCHANGE OF GOODS AND SERVICES

financial markets need to facilitate the transactions where goods and services are exchanged.

FORWARD MARKETS

-enable transactions to be conducted on the basis of contracts for future delivery. typically used for commodities such as coffee or oil

MARKET FOR EQUITIES

known as the stock market

THE FINANCIAL SECTOR IN EMERGING AND DEVELOPING COUNTRIES

formal financial institutions less equipped to provide. stock markets may no exist. banks are not readily availible and its difficult to measure credit scores

Savings and Investment

saving is necessary to provide finance for investment

Low - level equilibrium trap

a shortage of capital leads to low income per capita which leads to low savings in tern leading to low investment and then limited capital

Harrod-Domar Model

a model of economic growth that emphasises the importance of savings and investment

diagram shows process that leads to growth:

Savings crucial for investment which enables capital to accumulate and technology to be improved causing an increase in output and incomes.

foreign exchange gap

situation where developing countries is unable to import the goods that is needed for development because of shortage of foreign exchange.

capital flight

a situation where savings generated in a developing country are invested abroad.

Protectionism

measures taken by a country to restrict international trade

tariff

a tax on imported goods

tariff diagram

remember the deadweight loss is the extra costs/less output for consumers

tax revenue