IB Economics Section 2: Microeconomics
Terms in this set (124)
A market is a situation where potential buyers are in contact with potential sellers. It enables the needs and wants of both parties to be fulfilled whilst establishing a price and allowing an exchange to take place.
Local place, within your area, where goods are exchanged.
National place, within your country, where goods are commonly exchanged.
International place where goods are exchanged.
A monopoly market would have a single and large firm, very high barriers of entry, 'unique' goods and very low consumer sovereignty. Examples: NZ Rail and state television.
A Duopoly market would have a two large firms, very high barriers of entry, 'unique' goods and low consumer sovereignty. Example: Jetstar and Air New Zealand.
A Oligopoly market would have a small number of firms which are large, high barriers of entry, homogenous and non-homogenous goods and low consumer sovereignty. Example: New Zealand Television companies.
A monopolistic competition market would have relatively many and small firms, low barriers of entry, not identical but similar goods and high consumer sovereignty. Imperfect competitor, tends to use non-price competition. Example: Restaurants
A perfect competition market would have small and many firms, no barriers to entry, identical goods and high consumer sovereignty. Examples: Trademe- market decides price.
The quantity consumers are able and willing to buy at a given price, not what they would like to have.
The Principle of Diminishing Marginal Utility
A consumer is willing to pay a high price for the first good with a successively lower prices for the second, third etc.
Law of Demand
As the price falls, the quantity demanded will rise. As the price increases, the quantity demanded will fall.
Market for land, capital, labour.
Veblen (ostentatious) Goods
Goods which are known to be expensive which differentiate people. If the price of one increases it would make it even more desirable since then, others would know you could afford it at an even higher price.
A necessity good, such as bread, where a rise in the price actually increases the quantity demanded.
The Law of Supply
As long as all other variables (cost, availability and quality of factors of production) remain unchanged, then a rise in the price of a good will lead to an increase in the quantity supplied. As the price of the good increases, there will be an increase in the quantity supplied. Vice versa.
Tax paid by producers to the government e.g. GST, VAT
A payment from the government to producers to encourage them to increase production and to lower the price of the good for consumers.
The supply and demand forces which automatically lead to equilibrium.
Price changes will signal if more or less goods need to be produced.
Because goods are scarce, goods may be rationed to avoid queues, shortage etc. Rationing (reducing) supply results in prices increasing which results in any 'potential' shortage being eliminated.
Higher prices are an incentive for firms to produce more as higher prices are likely to increase revenue and profits.
The difference between what the consumer was willing to pay (they pay less than they were prepared to) and what they actually paid. It is the area above the equilibrium price and below equilibrium price the curve at the quantity being traded.
The difference between what the producer was willing to receive (they receive more) and what they actually received. It is the area below the equilibrium the supply curve at the equilibrium quantity being traded.
Imposed by government when they believe the price is either too high or too low.
Maximum Price (Price Ceiling)
Imposed when the equilibrium price is considered to be too high. It is aimed to help the consumers. As a result of it, a shortage of goods is created.
Parallel/Black:An illegal market is where goods and services are sold at a price that is higher than equilibrium or a government imposed price.
Minimum Price (Price Floor)
Imposed when the equilibrium price is considered to be too low. It is aimed to help the producers. As a result of it, a surplus of goods is created. Minimum prices are often set on wages and on the price of agricultural goods (eg France).
Price Support Scheme
Government buys surpluses.
A wage rate set above the equilibrium wage rate. It is imposed by the government and is implemented to give workers a ʻ'reasonableʼ' wage and reduce wage inequalities in a country i.e. reduce the gap between the ʻ'rich and poorʼ'.
Buffer Stock Scheme
A type of price support scheme which aims to control supply and keep the good at a certain price range. They tend to be managed by government and by agreement by producers. The good must be storable for long periods of time. e.g. not fruit. The good tends to be a commodity. e.g. something physical. This would be enforced if there are major price fluctuations in the market for the good.
International Commodity Agreement (ICA)
An undertaking by a group of countries to stabilise trade, supplies and prices of a commodity for the benefit of participating countries.
Measures how sensitive a good is to a change in price, income, and prices of other goods.
Price Elasticity of Demand
Measures the degree of responsiveness of the quantity demanded of a good or service to changes in its price- in other words, if the price changes, how much will the quantity demanded change. It is affected by the availability of substitute goods: plenty of substitutes (price sensitive good), few substitutes (price insensitive good).
Where the change in the price causes a less than proportionate change in the quantity demanded.
Where the change in price causes a proportionate change in the quantity demanded.
Where the change in the price causes a more than proportionate change in the quantity demanded.
Cross Price Elasticity
This measures what happens to the demand for good A if there is a change in the price of good B where goods A and B are related goods.
A good whose use is interrelated with the use of an associated paired good such that a demand for one (tyres, for example) generates demand for the other (petrol, for example).
Different goods that, at least partly, satisfy the same needs of the consumers, and, therefore, can be used to replace one another.
Income Elasticity of Demand
Measures the degree of change of quantity demanded to a change in income i.e if income changes how much is the quantity demanded affected.
Goods on which expenditure falls as income increases.
A good that is positively related to income, i.e as income increases, the quantity demand will increase.
Income Elastic Goods
High market, luxury, normal goods
Income Inelastic Goods
Necessity type normal goods such as basic clothing, bread.
A good that is negatively related to income i.e. as income increases, the quantity demanded will fall.
Price Elasticity of Supply
Measures the flexibility of a firms willingness and ability to change the quantity supplied due to a change in price.
The ability of a producer to switch production from one good to another.
Price x Quantity
Goods that are 'raw' - not processed e.g. timber, vegetables, wheat.
Manufactured goods resulting from processing primary goods: labour and capital is used to produce them.
Intangible goods i.e. services e.g. doctor's visits, hairdresser, airline flights
Used to show changes in something between different years
CPI (Consumer Price Index)
Used to show changes in consumer prices
WPI (Wage Price Index)
Used to show the changes in wages
A tax paid directly from the person who has to pay it, to the government e.g. PAYE (pay as you earn), income tax.
A tax paid indirectly to the government by a third party on behalf of the consumer. Examples are GST, VAT, sales taxes, excise taxes (e.g. on alcohol).
A flat rate indirect tax
A tax that is a flat rate (the same) per unit sold. Examples include the tax on cigarettes (tax per packet), petrol (tax per litre). The tax DOES NOT change if the price of the unit changes.
An Ad Valorem indirect tax
A percentage based tax based on the price of the good. The amount of the tax will increase if the price of the good increases. Examples include GST, sales taxes, VAT.
The main aim of companies
To make profit.
The difference between total revenue and total cost.
The production of goods requires the inputs of
Land, labour, capital, and entrepreneurship
A period of time when one factor of production is fixed and other factors of production are variable. The law of diminishing returns applies.
A period of time when all factors of production are variable.
Costs that stay the same regardless of how much is produced e.g. mortgage.
Costs which change as production levels change. If the firm produces nothing, then variable costs are zero, e.g raw materials.
Fixed costs plus variable costs.
Average fixed costs
fixed costs divided by quantity.
Where AVC is at the minimum point on the graph
Average Variable Costs
Variable Costs divided by quantity.
Average Variable Costs and Average Fixed Costs or Total Costs divided by quantity.
The increase in cost of producing one more unit of output. Total cost 2 minus total cost 1.
Economies of Scale
When a firm increase its use of fixed factors, whereby output increases at a proportionately higher rate than the increase in costs per unite, i.e. the firm receives increased output per unit of input. This is also known as benefits of scale.
Technical Economies (of scale)
When a firms use of its fixed resources e.g. machinery to produce greater amounts of output, the cost of the machinery is spread over more units of production - the cost applies to each unit is less. Increased production also allows e.g. transportation costs to be divided amongst greater units of output.
As the firm grows, productivity is increased by allowing specialisation to occur. Large tasks can be broken into smaller tasks, increasing efficiency.
When a firm grows in size, the purchasing of raw materials in 'bulk' attracts purchase discounts. For example the unit cost of coke that a supermarket purchases, is a lot less than the unit cost that a fairy could purchase it for.
Where a marketing campaign is created for a firm, this cost can be spread across a large number of outlets e.g. many countdown supermarkets, whereas small retailers have to absorb all the cost of marketing themselves.
Larger firms have the ability to negotiate lower financing costs (interest rates) because of the amount of money borrowed compared to smaller firms.
Diseconomies of Scale
When the cost per unit increases at a greater rate than the increase in output.
Total revenue less accounting costs.
All the costs involved in production (the process of making goods and services). Including prime costs (direct materials and direct labour costs involved with production), overheads (e.g. rent, electricity), financial costs (e.g. interest on mortgage), administration costs (e.g. admin wages, telephone), & selling and distribution (e.g. advertising, transport).
An amount that must be earnt by the business in order for it to stay operating in that particular industry.
This is dependent on the quantity of goods/services sold (Q) and the price of the good/service (P).
The Profit Maximising Level of Production
Where MC = MR.
Market Entry Pricing
Lowering the price of goods when entering the market to attract customers and build up a customer base. For a time the firm may be making a loss.
Reducing the price of your goods to any potential competitor entering the market. Large firms often to this to reduce the chance of competition occurring.
Act as the "Good corporate citizen"
Forgoing large profits to fend off negative opinion.
When the firm is making a profit that is much greater than is usually expected in that type of industry. At the profit maximising level MR/AR will be greater than MC. It is also known as supernormal profit or excess profit.
When the firm is making a profit that is expected for that type of industry. At the profit maximising level of production, MR/AR will equal AC. Includes opportunity costs of production and an allowance for 'profit'.
When the firm is making profits less than is expected for that type of industry or the firm may actually be making an accounting loss. This is when MR/AR is less than AC. This can also be called abnormal loss or supernormal profit.
When there is no wastage of resources i.e. no surplus and the market is in equilibrium i.e. producing where supply=demand or P(demand)=MC(supply).
Is when a firm produces at a level where the average cost per unit is at its minimum point is P = AC minimum.
Technical barriers examples
Ownership of resources of technology which gives the monopoly dominance in the market.
Legal barriers examples
Intellectual property rights, government granted rights e.g. electricity generation rights.
e.g. ownership of key suppliers to the monopoly of raw materials.
A monopoly market would have a single and large firm, very high barriers of entry, 'unique' goods and very low consumer sovereignty. Examples: NZ Rail and state television. PLUS Very large benefits of scale - because of its large size, the firms AC curve is continually downward sloping i.e. it continually becomes more efficient the larger it gets. Can undercut potential rivals due to its large infrastructure.
Non-price competition examples
advertising, branding, promotions.
When two or more companies join into creating a single firm.
Where firms that sell similar products join.
Where firms along a supply chain (i.e. they provide goods to each other) join.
Where firms with little common ground join together e.g. Mods and AirNZ
Because there are only a few large firms, any action by one firm will cause some type of action by other firms (e.g. petrol company pricing). (Oligopolies)
Often set the same price and agree on supply quotas. The market is divided into regions.
Where there is no formal agreement between oligopolies, with firms following each other in terms of pricing.
Where there is a formal agreement (essentially a cartel) and a monopoly outcome for pricing occurs i.e. very little changes in prices.
Where each oligopoly carries out a pricing/output strategy that gives them the best possible outcome given the action of the other oligopolies.
Where firms act together to increase profits by setting output or price by dividing the market up between firms to avoid competition e.g. OPEC.
Firms maximise profits, there is perfect information/knowledge of products by everyone, and there are homogenous or differentiated products. PLUS One firm may have total power or limited power, there is competition not collusion with existing firms, no large barriers to entry, no exit barriers such as unrecoverable costs i.e. if you have to pay to get into the business, you can get the money back.
Where a firm adjusts the price of the good based on the willingness of different consumers to pay different prices e.g. airline travel.
First degree price discrimination
Price is what the market decides.
Second degree price discrimination
Sell goods at tiered discounts e.g. 0-10 unit = $1 each 10-20 at $0.95 each.
Third degree price discrimination
Market separated into distinct groups and sells the goods and different prices to these groups. e.g. Movie Theatres, age groups.
Market failure occurs when the price mechanism (demand and supply) fails to take into account all the costs and benefits of providing a good/service, resulting in the socially optimal amount (what is best for society) of goods not being produced. There will be either too many or too little of the good/service produced or consumed.
Side effects on others caused by the production or consumption of a good or service.
A burden/cost for 3rd parties as a result of the production/consumption of a good or service. This arises when MSC (marginal social cost) is greater than MPC (marginal private cost). The cost to society is higher than to the individual.
Benefits arising for 3rd parties from the production/consumption of a good or service, that the firm or consumer has not paid for. This occurs when MSB (marginal social benefit) is greater than MPB (marginal private benefit).
Goods which are publicly available to everyone e.g. street lights.
Goods with positive externalities.
Goods with negative externalities.
A scheme where government decides on an acceptable level of pollution and issues credits to firms that pollute less than the limit and fines firms who pollute beyond the limit. Credits can be on-sold to other companies.
To internalise (take into account) an externality e.g. pollution caused by farm animals, these can be extended so someone owns a 'public' area e.g. river and makes revenue for it. This is an incentive for them to keep it clean.
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