Economics and Firms

Micro scotch Essays These atomic takings 18 nigh suggested micro scotchal essays. The essays ar from different exam boards. In practise they ask similar questions so they entrust be helpful whatever your exam board. in that respect be different ways to answer questions. But, e rattling last(predicate) these answers contain enough material to stay launch the top grade. Whenever the question requires evaluation, the essay contains the necessary critical distance. On the last page, on that point ar some worldwide tips for evaluation. Note These essays are for revision purposes giving suggestions for how to answer questions. Dont try on to pass them off as your own work. For much micro economic help.See also the Economics Revision Guide avail suit up to(p) at www. economicshelp. org/ Copyright T. Pettinger 2011. All Rights Reserved (For single go for license plainly) www. economicshelp. org Micro Economic Essays Market Structure 1. dissertate how trus tpriceys with in an oligopolistic grocery compete. 2. establish whether monopoly is forever and a day an hateful form of securities perseverance structure. 3. Explain how interdependence and distrust tint the conduct of stiffs in Oligopolistic commercializes 4. guess the hitch that only producers, and non consumers, pull in when oligopolistic substantials collude to try to nullify the un indis rankablety they experience. . Explain why conte motion little grocerys generally puzzle bring turn out much efficaciously than noncontestable markets. 6. Explain various barriers to entrance to a market and how these barriers efficiency affect market structure. 7. In the past, utility industries such as the postal service, electricity and gas, slang been heavily protected by unveiling barriers. appreciate the possible effectuate on expertness and resource allocation of removing these barriers. 8. Explain the dream up of expense discrimination and the conditions necessary fo r determine discrimination. 9.Evaluate the view that, be relieve oneself terms discrimination enables firms to make more earnings, firms, alone not consumers, benefit from price discrimination. 10. Evaluate different ways in which political sciences could make markets more competitive. 11. Discuss the extent to which hot technology, such as the meshing, has gaind or decreased the competitiveness of markets. brass Intervention 1. Discuss the impact of deregulation on the local muckle diligence in Great Britain. 2. Evaluate the view that the authorities should give fiscal assistant to firms producing cars in the UK to growth their competitiveness. . Evaluate the view that presidential term hitch bathroom correct all the market failures constructd by the effects of economic practise on the environment. 4. In some European countries, price controls are imposed upon pharmaceutical companies. Discuss the brass for regimen intervention to control market prices. 5. Disc uss whether the government should ever consider nationalising privatised industries? Labour Markets 1. Footballers receive luxuriously redress, while those in disagreeable occupations, such as road sweepers, are among the approximately minuscule paid. How does economic theory explain such differences in pay? . treasure the guinea pig for and against the government intervening to raise the disposable income of players on let out pay. 3. Do you agree that if a trade union persuades employers to alterr wages in a sweat market, employment necessity inevitably number in that grasp market? Justify your answer? 4. Assess three hollow market policies which might be used to increase the level of employment amongst incapacity claimants and unaccompanied parents on benefits. 5. Discuss the impact of net migration on UK drive markets 6. Discuss the coition merits of welfare benefits and assesses for reducing relative pauperisation in the UK.Market harm / Transport 1. Disc uss whether Cost-benefit analysis is a practical way to break up whether projects, such as new roads, should go ahead. 2. Discuss the case for a cost on motorway travel. 3. Discuss whether giving increased subsidies to firms providing passenger car services would correct the market failure arising from urban road congestion. 1. Discuss how firms within an oligopolistic market compete. An oligopolistic market is a market structure dominated by a few firms. One definition of an oligopoly, is a market where the five firms abundantgest firms check 50% or more of the market share. at that place are different ways firms in an oligopoly whitethorn compete. Firstly, the kinked study curve model suggests that prices result be stable because firms extradite little or no inducement to change prices. If a firm increased price, they would be uncompetitive and lose market share hence gather up is price elastic for a price increase. If they cut prices, other firms follow suit and in that location is a price war thitherfore, if they cut prices, make pass on be price inelastic and they ordain prepare less tax income. Therefore, the best solution is to come on prices stable. The Kinked Demand curveP P1 Profit pocket occurs at Q1 where MR = MC MC D=AR Q Q1 MR Because there is no incentive to change price, firms compete through non-price contender such as advertising, branding, after sales service and cracking a better(p) product. In other words firms try to sell propers through invoices other than price. Non-price competition is particularly crucial for markets where branding is important such as soft drinks, clothes and mobile phones. Firms impart try sturdy to differentiate their products through extra features, darling composition and effective advertising campaigns. However, the kinked bring curve has imitations. It doesnt explain how prices were arrived at in the low gear place. In the reliable world, it doesnt explain why prices in oligopo ly do change. It is only one theoretical model to explain some behaviour under original conditions. Also, if firms seek to gooimise market share quite than put on maximisation and so they whitethorn compete by cutting prices. Although, this makes them less profit, some firms whitethorn see increase market share as the close to important long-term objective. If demand is price inelastic, cutting prices will pourboire to lower revenue, however a firm whitethorn feel it is value it.This is because cutting prices leads to increased market share, and it may enable a reduction in competition in the long term. Also with heightser output they may be able to benefit from economies of scale and get rid of surplus stock. However, price wars are very much selective (e. g. supermarkets cutting certain products) or piffling term. Also, shareh old(a)ers often prefer sugar and dividends to growth maximisations If there are a small number of firms, and there are barriers to entry in th e industry, and so firms in oligopoly may be able to collude.This is when they formally or tacitly agree to restrict add together, keep to quotas and therefore maintain high prices which maximise profits. Collusion is genuinely illegal, barely if there are barriers to entry consequently it may be possible for firms to tacitly collude and avoid detection. Collusion will be more presumable if there is a dominant firm in the market who bottomland influence market by beatting output and prices. If there are large economies of scale in the industry, the oligopoly is more in all probability to be highly concentrated with less competitive pressures. The outcome of an oligopoly depends on several(prenominal) factors.If the oligopoly has very high barriers to entry, such as, economies of scale and strong brand loyalty, then it will be much easier for firms in oligopoly to act a like a monopolist and nifty deal high prices. For example, the market for cola is highly concentrated a large share of the market is held by two firms (Pepsi and Coca-Cola), and because of strong brand loyalty there is little price competition in this oligopolist market structure. However, in other oligopolies, such as clothing, there are lower barriers to entry and more competition. If an oligopoly is contestable, (no barriers to entry), then the oligopoly may be ery competitive and the outcome similar to competitive markets. 2. Discuss whether monopoly is continuously an un coveted form of market structure. A pure monopoly is when there is only one firm in the industry. However, a firm with a high market share ( expectanter than 25%) is said to give way monopoly business office. A monopoly is seen as undesirable for several reasons. A monopolist maximises profit where MR = MC. Therefore it sets a price (PM) higher(prenominal) than in a competitive market (P1), leading to a fall in consumer surplus. Selling at the price of Pm, gist that the firm is allocatively in competent bec ause at Qm, price is greater than borderline cost.Secondly, this monopoly draw is productively inefficient because it is not the lowest point on the fair(a) cost curve. (Note if the market was competitive the firm would produce at P1, where D=AC+MC this is normal profit and allocatively efficient) A monopoly may also acquit fewer incentives to cut cost because of a lack of competitors. Therefore, it will be x inefficient. This signifys the cost curves of a monopoly will be higher than they would if there was more competitive pressure. Similarly a monopoly may lack the incentives to develop new products and offer a good grapheme service. . g. the standard of food in a service station arguably drops delinquent to lack of competition. Some monopolies may become too big and therefore suffer from diseconomies of scale because in a big firm it is harder to co-ordinate and motivate workers. Monopolies may also be able to use their market power to pay lower prices to suppliers. For e xample, a big supermarket like Tesco may be able to squeeze the profit margins of farmers who supply them. Tescos basis use their monopoly buying power to reduce incomes of farmers because farmers dont have each(prenominal) alternatives to marketing to supermarkets.Lastly, monopolies make supernormal profit and this female genital organ be said to be an inequitable and unfair distribution of resources in society. However, monopolies are not forever against the national interest. If an industry has high fixed costs, then the economies of scale may fuddled the most efficient number of firms in an industry is one. If industry demand was 10,000, then the most efficient number of firms would be one. If there were more firms, then the average costs would be higher. However, this kind of vivid monopoly is only relevant to certain industries like tap water and national networks of electricity and gas distribution.In some(prenominal) industries, economies of scale are not that larg e. Even in the car industry, which has high fixed costs and scope for specialisation, there is sill enough room for several firms. In some cases, monopoly stool use their supernormal profit to invest in re try and development. For example, a drugs company may rely on a patent to make supernormal profit which unspoiltifies the high cost of research and development. However, for many another(prenominal) industries like supermarkets, it would be backbreaking to justify a monopoly as supermarkets have mended get hold of for research and development.Thirdly, it is often assumed monopolies face less competitive pressure and so are likely to be x-inefficient. However, this is not always the case. A firm may gain monopoly power because it is efficient and dynamic for example, Google, has monopoly power, but people wouldnt consider it to be inefficient. The desirability of monopoly depends on the market and industry. As a general rule, competitive markets have several advantages over m onopolies. However, in certain cases, monopoly may be justified, especially if these industries have very high fixed costs and there is a need of profit for research and development.In other cases, the government may need to allow the monopoly, but beat the firm to prevent price increases (e. g. in case of privatised firms like water and electricity) 3. Explain how interdependence and uncertainty affect the behaviour of firms in Oligopolistic markets. Firms in oligopolistic markets move behave in numerous different ways. The kinked demand curve model suggests interdependence is very important. The model suggests that firms dont have an incentive to increase prices because if they increased price, others wouldnt follow suit and therefore they would be more dearly- win and lose market share.The Kinked Demand curve P P1 Profit max occurs at Q1 where MR = MC MC D=AR Q Q1 MR The kinked demand curve also suggests that there is little incentive for firms to cut prices because if they di d, other firms would in all probability visit and cut prices as salutary (other firms wouldnt want to lose market share). Therefore, for a price cut, demand is inelastic. Therefore, the kinked demand curve model suggests because of the interdependence of firms, prices will remain stable and firms will compete on nonprice competition. However, the kinked demand curve model makes a lot of assumptions which may not stand up in the real world.A firm cannot assume that others will respond to a price cut by also cutting prices. There is a great uncertainty perhaps the firm wants to avoid a price war. Therefore, a firm may cut prices hoping that others wont follow suit. This will take chances if the firm is pursuing profit maximisation. Another model for oligopoly is collusion. In collusion firms seek to restrict output and increase price this maximises profits for the industry. However, there is always the temptation for firms to exceed their quota and break the collusive agreements.I f the collusive agreements are tacit, then there is no certainty that firms will stick to the agreement. Also, a firm may want to break the collusive agreement itself. They may think that other firms wont retaliate so they can get away with it. It is this uncertainty which encourages firms to try and break the collusive agreement. Because of uncertainty most whether a price war may break out, firms may try to enter into collusive agreements. These could be informal agreements such as following the dominant firm and increase prices at same rate.These collusive agreement and collusive practises are very desirable to insulate against uncertain prospects of a price war and consequent fall in profits. 4. Evaluate the view that only producers and not consumers, benefit when oligopolistic firms collude to try to reduce the uncertainty they experience. When oligopolistic firms collude, they are effectively acting like a monopolist. They are looking at the profit maximising price and output for the consentaneous industry and setting output quotas accordingly. This will lead to higher prices and higher profits for firms.Because firms benefit from supernormal profits they can fell more on research and development. However, it could be fenced that consumers may benefit from this enthronisation. For example, in industries like automobile production and drug research, expensive investment is required to develop new engines and new drugs. Collusion is necessary to generate sufficient profits to finance investment. Although it core higher prices, consumers benefit in the long run because they get better quality products. However, there is no plight that firms will use profits for research and development into better products.They may simply give it to shareholders in the form of higher dividends. Alternatively, they may use the supernormal profits to fund predatory pricing in another market. This would be very bad for consumers. Under collusion, consumers face higher p rices and a decline in consumer surplus, but they dont benefit from any extra economies of scale. In monopoly, supernormal profit margins are justified because it is argued the monopoly is able to benefit from economies of scale which lead to lower average costs and therefore lower prices for consumers.However, in collusion, the consumer doesnt benefit from economies of scale, but just faces higher prices. However, you could argue that collusion is essential to enable firms to survive. For example, there may be a bus industry which is struggling to survive. Without collusion one or two firms would go out of business. This would be bad for consumers because there would be less pick and less competition. Collusion may be necessary to keep the service going. Although prices may work up, this may be better in the long term because the service survives. However, there may be better ways to keep a bus industry in business.If necessary, the government could subsidise the industry. Collus ion is not the best way to keep unprofitable firms in business. The merits of collusion depend on the industry in question. If the industry is already profitable, then collusion is unlikely to give any benefit to the consumer. The benefit will be the producers who gain more profit. However, in some industries collusion may give benefits to the consumer in the form of more funds for investment and better products or just enough profit to keep the firms in business. 5. Explain why contestable markets generally unction more efficiently than non-contestable markets. A contestable market is a market which has no barriers to entry or exit. This implies that sunk costs (costs which cannot be recovered on leaving) are zero or very low. This separateddom of entry means that there is always the potential for new firms to enter. This threat of competition helps to keep prices low. If firms set prices too high, the supernormal profit would encourage new firms to enter. The low prices help to i ncrease allocative efficiency because prices will be close to marginal cost. A contestable market may also be more X efficient.The threat of competition means firms have more incentives to cut costs and remain efficient. Otherwise they will become unprofitable. For example, in a monopoly firms may have low incentives to be efficient and therefore, have no incentives to cut costs leading to X inefficiency. A monopoly also tends to be productively inefficient, because it restricts output and keeps prices high, leading output which has high average costs. However, in a contestable market this will not happen. You could also argue that contestable markets enable some economies of scale (there doesnt have to be 1,000s of firms like in perfect competition).This can mean contestable markets have greater efficiencies of scale. 6. Explain various barriers to entry to a market and how these barriers might affect market structure. A barrier to entry is a feature which makes it difficult or im possible for a new firm to enter the market. A usual barrier to entry is the existence of economies of scale. If an industry has high fixed costs, then new firms will face higher averages costs than the incumbent firm. If a firm enters the market and sells Q1 then it cannot compete with firms who are already publishing at the MES with an average cost of AC1.Economies of scale can occur for various reasons such as technical, specialisation, managerial. They are viridity in industries which require large investment such as car production, airplane production. Brand loyalty is another common event of barrier to entry. If incumbent firms have a strong brand loyalty, it makes it difficult for new firms to enter. They would need to spend a large amount of money on advertising. Advertising is a sunk cost they cannot get it back, if they have to leave the market. Therefore, it becomes a barrier to entry. Examples include soft drinks like Pepsi and coca cola.Sometimes barriers to entry c an occur for geographical reasons. For example, only a few countries are able to produce diamonds. Being the first firm in the industry often leads to barriers to entry. For example, Microsoft was the first firm to dominate office software. This made it difficult for new firms to enter because everyone wanted compatibility with Microsoft. Google, was not the first search engine, but, now the internet is create it would be hard for anyone to knock it off top spot because Google has built up a critical mass of support and is included in many packages automatically.Finally, barriers to entry might occur because it is difficult to get access to supplies. e. g. a new airline might not be able to get landing slots at Heathrow airport. 7. In the past, utility industries such as the postal service, electricity and gas, have been heavily protected by entry barriers. Evaluate the possible effects on efficiency and resource allocation of removing these barriers. Removing the barriers may enc ourage new firms to enter the market. If new firms enter the market it will become more competitive.A more competitive market will help to reduce prices as new firms try to gain market share. This should enable greater allocative efficiency. If a firm has a monopoly power, they are able to set prices higher than marginal cost. More competition will lower prices closer to marginal cost (although in these industries, marginal cost is often very low and fixed costs very high therefore, perfect allocative efficiency is unlikely) Another benefit of competition is that firms may have greater incentives to offer a better service to customers. Firms will not just compete on price, but also non-price competition.For example, electric firms may offer special deals to insulate the house or create more energy efficiency. This greater competition will reduce x inefficiency in the industry. It is also possible that the threat of entry may encourage more innovation helping to improve dynamic effic iency. However, there are potential drawbacks of deregulation. Firstly, many of these industries are natural monopolies. For example, the distribution of gas is a natural monopoly because of the high fixed costs. Therefore, there is a danger of creating a private monopoly, which charges higher prices.These private monopolies will need regulating. However, the regulators can make sure new firms have access to the network, therefore, even in an industry which was thought to be a natural monopoly can have competition, at least, in the retail sector. If new firms enter the market, competition may reduce the profitability of the industry. This may leave insufficient funds to finance investment in improving the network. Also, firms have a temptation to offer diddle-term price cuts quite a than invest in the long-term future of the infrastructure. The customer may benefit in the short term, but loose out in the long term.However, you could argue, that firms exaggerate how much money they need for investment the majority of profits goes to shareholders rather than gets invested. Firms may use resources to try and create barriers to entry or resources to keep existing customers arguably this is an inefficient waste of resources. 8. Explain the meaning of price discrimination and the conditions necessary for price discrimination. Price discrimination involves selling the same good to different groups of customers for different prices. Third degree price discrimination involves selling to different groups.For example, OAPs may get cheaper train tickets than adults. Second-degree price discrimination involves charging different prices depending on the quantity bought. For example, the first 100 units of gas and electricity may be more expensive than subsequent units. First-degree price discrimination involves charging the maximum price that customers are willing to pay it involves reducing all consumer surplus. It is rarely practical barely in a Dutch auction. The firs t condition necessary for price discrimination is that consumers must have different elasticities of demand.For example, people travelling at bloom time to get to work have a more inelastic demand and (like market segment A) so can be charged a higher price. Group B, which could be students, have a more elastic demand. Therefore, a lower price is charged. Secondly, it must be impossible to resell the good between the different markets. For example, it mustnt be possible for an adult to use a childs ticket to travel on the train. The firm must be a price maker. Price discrimination is not possible in perfect competition. Also the costs of implementing price discrimination ust be less than the benefits. 9. Evaluate the view that, because price discrimination enables firms to make more profit, firms, but not consumers, benefit from price discrimination. Price discrimination enables firms to increase the profitability of the industry. Firms can set a profit maximising price for differe nt groups of consumers and therefore increase total profits. Therefore, some consumers will pay higher prices. For example, customers with inelastic demand buying peak tickets will have a reduction in consumer surplus as firms increase their prices.Therefore some customers will lose out and pay a price higher than marginal cost (allocative inefficiency) However, some customers will benefit from price discrimination. The higher prices paid by inelastic customers can subsidise lower prices for other groups of consumers. For example, the high prices paid by customers travelling at peak time can help subsidies lower prices for old vulcanised pensioners. a good deal people with inelastic demand (adults, people travelling peak time) have greater ability to pay than people with elastic demand (e. g. tudents, old people) Therefore, you could argue that price discrimination enables a fairer distribution of resources in society. However, it is not always possible to use price discriminatio n on the grounds of income. For example, an jobless adult would have to pay full fare on the train. Pensioners who get cheap tickets could be quite well off. It could be argued that it is unfair firms make profit at the expense of consumers. However, profit can be beneficial for consumers. Firstly, firms may use profit to fund research and development.This enables dynamic efficiency and enables consumers to benefit from better quality products and services in the long term. This is important for some industries like pharmaceutical drugs and airplanes where a lot of investment is needed. However, it is debatable how much firms like supermarkets and cinemas would spend on research and development. Another potential benefit of profit is that it might enable a firm to stay in business, who otherwise would go out of business. For example, without price discrimination a train firm may not be able to survive.There might be no one undivided price greater than average cost. However, throug h price discrimination, it can cover its losses and stay in business. In this case price discrimination is by all odds beneficial for consumers. It is better to have higher prices than to have no service at all. Price discrimination also enables firms to spread demand more equally over a season. It gives a reward to consumers who can travel out of season / off peak. This reduces overcrowding at peak times. 10. Evaluate different ways in which governments could make markets more competitive.To make a market more competitive requires a reduction in barriers to entry and encouraging new firms to enter the market. The first policy would be deregulation. This involves removing legal barriers to entry. For example, there used to be a legal monopoly for the delivery of letters. Removing this legal barrier enables new firms to enter the market providing choice and competition. However, there are businesss. Firstly, these industries like mail delivery are often natural monopolies. This me ans the most efficient number of firms is one. For example, there are very high fixed costs in delivering tap water to every home in the UK.Therefore, deregulation of tap water would not encourage a new firm to enter because a new firm would never be able to compete and set up a network of pipes. The government could remove legal patents, for example drug patents. This would make the market for drugs more competitive. However, if the government abolished patents, it would deter drug companies from investing in new medicines and alternatives. This would increase competition, but could leave the consumer worse off. The government could make sure the Office of Fair Trading investigates any potential anti-competitive practises.For example, if firms engage in predatory pricing or vertical price fixing agreements they will prevent new competitors from entering. If the government increased the penalties for predatory pricing (selling below cost), then new firms would have more confidence to enter. However, the OFT already have the potential to investigate, so it is doubtful whether increasing potential fines will make much more difference. Also, practises of vertical price fixing can be difficult to spot. If markets are dominated by monopolies the government could consider breach up the monopoly into smaller firms.For example, the US government considered breaking up Microsoft because it had too much market power. This could be an effective way to increase competition, however there are some problems. Firstly, the government may crack the smooth working of the firm. The new smaller firms may not be able to benefit from economies of scale. Also, there is the potential for the new firms to collude, because they share a common starting point. The last policy could be government subsidies for new firms to enter. For example, the government could subsidise firms to enter the gas industry and sell it.However, government subsidies require higher taxes and the government may have poor information about the best type of firms to subsidise. 11. Discuss the extent to which new technology, such as the internet, has increased or decreased the competitiveness of markets. The internet has become an important tool for business. It has changed the way people shop and buy, having implications for the competitiveness of markets. A competitive market implies several firms, with relative ease of entry, low prices and low profits. An uncompetitive market would be characte farmd by a few firms and higher prices.The internet has made it easier to find information about prices and costs. This has helped increased the competitiveness of markets. Consumers have easy access to relative prices this existence of perfect information is a characteristic of perfect competition. Therefore many retail markets like selling books and DVDs are more competitive than onwards the internet. However, other markets are less influenced by the internet. For example, restaurants and clo thing are market segments rely on traditional sales, rather than over the web. For many firms, the internet has helped reduced start up costs.This is because, with an internet presence, costs are much lower than buying a physical building. Thus for internet start ups, sunk costs (costs which cant be recovered) are much lower. However, it is only a few businesses that can rely on just an internet presence there is still the need for factories and shops for the majority of businesses like manufacturing cars. In some businesses, the internet has created barriers to entry for example, firms who dominate Google search rankings have a powerful barrier to entry. A new firm may find it difficult to enter because it is hard to get the good rankings which send a lot of customers.Google itself has generated strong brand loyalty, and a dominant market position, which is difficult for anyone to overcome. However, pay per click advertising is a way to get business from search results and it has l ower overheads than traditional advertising. Improved technology such as the internet and better international travel means that markets are increasingly global in nature. This means firms increasingly face competition from abroad. For electronics and cars, markets are very global, increasing their competitiveness. However, globalisation does not always increase competition.The growth of strong multinationals has in a way helped push out smaller independent retailers with a corresponding decline in diversity and competition. Another issue is that in some markets, the internet has changed peoples patterns considerably. For example, many young people dont buy music, but download for free on internet sharing sites. This has changed the market much more than an increase in competition. However, it has meant the decline of several record shops and music publishing companies, leading to a higher market concentration in this area. Section -? governing body Intervention 1.Discuss the impac t of deregulation on the local bus industry in Great Britain Deregulation involves opening up a monopoly to competition. Often deregulation involves privatisation as well. For example, the bus industry in the UK, used to be run by a state monopoly (local council). However, after deregulation, new private firms can enter. The first impact of deregulation is the increase in number of firms and hence greater competition. As more firms enter the market, there is more price competition and therefore, price of bus tickets could go down. However, it is argued that prices havent fallen, but increased.This is because, firstly, the bus industry has large economies of scale. It is not practical to have several bus companies competing the most efficient number of firms is 1 or perhaps 2. In the above diagram, the minimum efficient scale is 10,000 bus journeys a week. If the total demand was 10,000 then the most efficient number of firms would be one. If there were two or three firms then the av erage costs will be higher than if there was a natural monopoly. Also, with only one or two companies, there is not sufficient competition to reduce prices significantly. It is easy for two companies to collude, even tacitly.Also, before deregulation, bus companies were owned by local councils and low fares were often subsidised. However, the private companies want to maximise profits and often they find demand is inelastic so prices have risen. It is argued that more competition and the entry of private firms have created greater incentives for bus companies to offer better services. For example, since deregulation, there are more electronic bus stops, which give information on arrival times. This may be due to deregulation or just because better technology has made it more feasible.The problem with deregulating the bus industry is that it is simply difficult to have effective competition. Some would even argue the bus industry is a natural monopoly. It is argued two bus companies can be inefficient because they duplicate routes and cause congestion. However, others point to some gains from competition such as better quality buses and efforts to attract customers. 2. Evaluate the view that the government should give financial assistance to firms producing cars in the UK to increase their competitiveness. governing assistance could be justified on the grounds of market failure.For example, there could be market failure with UK firms under providing education and training schemes to their workers. When the workers are qualified, they may leave giving the firm no benefits but all the cost, therefore, because of the supportive externalities involved, firms have little incentive to train and educate workers Governments could overcome this by paying for training schemes to increase ride productivity. The improved labour productivity will help the UK remain competitive and give long term economic benefits.The problem of this scheme is that it will cost money and there is no guarantee that it will be successful. For example, the government subsidies may be spent on training that does little to increase labour productivity e. g. workers may be opposed to learn or the firm may use the government subsidy to increase its profits rather than promote useful training schemes. Government assistance may encourage firms to be inefficient because they come to rely on government help. In the 1970s, the UK government gave a lot of financial assistance to British Leyland because it was losing money.However, the money did little to transform the company. If a company is losing money, it is probably due to bad management or producing the wrong kind of products. In this case it is unaccommodating for the government to give assistance in the hope they become more competitive. In this case, the government assistance is encouraging inefficient firms to stay in business. It will be expensive for the taxpayer and have no real benefit. Governments often have poo r information about the dynamics of industry. For example, the government may not agnize the best firms to subsidise or how to subsidise them.When it comes to increasing competitiveness it should be firms who have the best idea. If the banks are not willing to lend money to firms, it is probably because they dont have a good business plan therefore, the government would be advised to avoid it as well. However, government assistance could be justified if the problem was a lack of suitable finance. For example, in a credit crunch firms may be unable to gain sufficient finance for investment, even though this investment would be good. Therefore, government assistance could be justified. Here the lack of business finance is an example of market failure.Generally, cars have no positive externalities, they contribute to global carbon emissions, so governments might want to subsidise more environmentally friendly firms. However, the government might want to fall investment into low emissi on cars, which run on hybrid fuels. In a free market, there may be insufficient investment in this kind of technology because firms ignore the positive externalities of the low emission engines therefore, this justifies government intervention. Governments could justify subsidising green technology in cars, if they have sufficient positive externalities.This diagram shows how a government subsidy can increase output from Q1 to Q2, which is socially efficient. 3. Evaluate the view that government intervention can correct all the market failures caused by the effects of economic activity on the environment. Economic activity creates many negative externalities, which include damage to the environment. To some extent government intervention can overcome market failure and tender a more socially efficient level of economic activity. Economic activity may cause pollution. This damage to the environment is a negative externality and is ignored by the free market.Therefore, there is overc onsumption of driving cars. In a free market equilibrium, at Q1, the marginal social cost is greater than the marginal social benefit. The diagram below shows that the free market equilibrium is Q1. However, at Q1 SMC is greater than SMB therefore there is overconsumption. However, the government can place a tax on the good, to make people pay the true social marginal cost. This shifts supply to S2 = S1 + Tax and reduces demand to Q2. This is socially efficient because the SMC=SMB at this output. Therefore, in theory the government have overcome the market failure.However, in practise, it is more difficult to achieve social efficiency. A tax on production may be ineffective in reducing demand if demand is very inelastic. There is scope for tax evasion e. g. a tax on disposal of toxic waste may lead to fly tipping illegal dumping which damages the environment. It is also difficult to beak the true external cost of economic activity. For example, the cost of global warming may be m uch higher for future generations therefore, efforts to reduce demand now, may be insufficient. Also, some costs of growth may be unpredictable. e. . the Chernobyl disaster was not predicted and after the event, government intervention is too late. Also some economic activity is too damaging to just place a tax on the good. In this case it may be more efficient to have regulations, for example, saying that nuclear power shouldnt be used at all. Another issue regarding the environment is that it requires global cooperation. For example, the UK government may seek to limit carbon emissions. One policy may be a system of pollution permits. Here the government regulator gives firms the right to pollute a certain amount.If firms wish to exceed their pollution quotes, they have to buy more permits this creates an incentive to reduce pollution and introduce new technology. In theory, pollution permits can provide a market-based system to reduce pollution levels. However, it may be difficul t to implement e. g. difficult to measure pollution levels. However, a more pressing clog is that carbon emissions are very much a global issue. If the biggest polluters, such as, China and the US keep increasing their carbon emissions, it makes the UK governments efforts relatively futile. 4.In some European countries, price controls are imposed upon pharmaceutical companies. Discuss the case for government intervention to control market prices. The first argument for government price controls is the idea of monopoly power. If firms have monopoly power in a market, they are in a position to increase prices. As the diagram below shows, this monopoly power enables firms to set prices (Pm) above marginal cost, which is allocatively inefficient (PMC). In an ideal world, the government would be able to increase competition. But, in some markets, competition is not practical.In the case of Pharmaceutical companies they may get a pure monopoly because of their patent. In the example, of tap water, very high fixed costs mean competition is not practical. Therefore, monopoly power is inevitable and price controls are the only realistic way to prevent abuse of monopoly power and prevent allocative inefficiency. There are also issues of equity. In the case of drugs, it could be argued they should not be too expensive otherwise people cannot afford them. It is also the same with gas and water supplies. As an essential public service, it is important that they remain in reach of all income groups.Also, some goods like medicinal drugs may be paid for by the government. Capping prices on medicinal drugs will help to limit the governments health care budget and therefore lead to lower taxes. However, there are arguments against price controls. If governments limit price, firms may not make sufficient profit to encourage more research and development. To develop new drugs is quite risky with no guarantee of success therefore, it is essential to give firms sufficient incentiv e to develop them. Lower prices and lower profits could decrease dynamic efficiency.Also allocative efficiency may be an inappropriate measure given that the marginal cost of producing a drug is very low, but fixed costs are very high. There is also an element of potential government failure. For example, the government may not have sufficient information about the state of the industry to make an appropriate decision on price. Government could set prices which are too low and cause firms to leave the market. 5. Discuss whether the government should ever consider nationalising privatised industries? Nationalised firms are owned and run by the government.Privatisation is the summons of selling the firms to the private sector this means the firm will be run like a normal public limited company, rather than by the government. Several industries like rail, electricity, gas and telecoms were privatised in the 1980s and 1990s. There are several strong arguments for suggesting privatised firms are more efficient than nationalised industries. Firstly, it is argued that a private firm has a strong profit incentive to cut costs. A nationalised firm is not subject to the pressure of private shareholders, therefore it is more likely to be x-inefficient and productive inefficient.If the government nationalised privatised firms like BT and British Gas, it may result in greater inefficiency and therefore higher prices. However, private firms may make mistakes because shareholders encourage short termism and risk taking. In the case of the banking industry, risks were taken to make more profit, but the government had to step in to bailout the banks when they made losses. Governments can, in theory, take a longer-term view and avoid short-termism. However, governments may also be subject to political pressure, which encourages them to sacrifice long-term investment for short-term gain.Some industries like the banking have a great importance to the wider economy. If banks went under, it might cause loss of confidence in bank deposits this could cause a mass withdrawal of money, leading to a fall in financial confidence. In this case, the government may have no option but to nationalise private firms. Here the motive is preventing a collapse in bank confidence. This argument is mainly relevant to the banking sector. If a car firm collapsed there would be less reason to intervene, apart from to protect job losses, which is an expensive way to prevent unemployment.One problem of privatised industries is that they were often in industries considered to be natural monopolies. For example, tap water and distribution of gas and electricity is essentially a natural monopoly. A natural monopoly, where industry demand is close to the minimum efficient scale (10,000 in above diagram) and therefore most efficient number of firms is one. Therefore, some privatised firms are a private monopoly and could exploit consumers through higher prices. This might be a reason t o nationalise the firm. However, another option is regulation.Regulators can regulate price increases so we get the benefits of privatisation without the drawbacks of monopoly power. However, in practise, regulators may struggle to get right balance between protecting consumer and interests of firms. Regulators could suffer from regulatory influence and so they are too kind to the firm. Other industries, like rail could justify greater government intervention because they have many positive externalities, which mean the good is under-consumed in a free market. For example, rail travel helps reduce traffic congestion and pollution.Under privatisation, rail maybe under-consumed with too little investment. There is a stronger case for renationalising rail because a government can make allowances for the external benefits in whirl public transport. However, an easier option maybe for the government to subsidise the private firm. The subsidy should, in theory, help to overcome the unde r-consumption in a free market and prevent the need to renationalise. Generally, privatised firms have better incentives to be efficient and respond to changing market signals.If the privatised firm is in a competitive market, for example, BT, there is no benefit to renationalising the firm because competitive pressures keep prices down. However, in an industry like rail, there may be a greater justification of renationalisation. In this industry, competition is not realistic so the government have created a private monopoly. Also, the external benefits to railways means that the government may need to have closer direction and subsidy to overcome market failure. Also the experience of the banks shows that sometimes, the government needs to nationalise firms for wider economic interest.Labour Markets -? Section Footballers receive high pay, while those in disagreeable occupations, such as road sweepers, are among the most lowly paid. 1. How does economic theory explain such differen ces in pay? Economic theory suggests that wages are determined by factors such as marginal revenue product, and the supply of labour. Jobs such as road sweepers do not need qualifications or specialised skills. Most people are able to do that job. Therefore the supply curve is elastic, meaning many are willing to work at relatively low wages. Cleaners Elastic supply Low wages Footballers inelastic supply, higher wages However, jobs such as being a top footballer are highly skilled. Only a small % of the population is able to be a good footballer, therefore supply is inelastic. Because of the inelastic supply curve, footballers find it easier to bargain for higher wages. As well as differences in supply, footballers will have a higher marginal revenue product. borderline Revenue products depends on marginal product (the productivity of workers) and Marginal revenue of last good sold (this depends on the price of the good sold.Footballers can affect the revenue of their club signifi cantly. Therefore, the MRP of footballers is high, a good footballer can make a lot of revenue for his team, in terms of advertising revenue and gate money therefore because MRP is high, wages will be high. pass sweepers, however, do not have a high marginal revenue product. The council doesnt gain extra income from cleaning the streets. It is seen as a service rather than revenue-generating job therefore, it is seen as a job with a low MRP. Another reason could be that road sweepers face monopsonistic firms who are able to cut wages.Footballers have agents to help them get higher wages. Also public sector workers like road sweepers tend to be lower paid than private sector workers. 2. Assess the case for and against the government intervening to raise the disposable income of workers on low pay. The government could intervene through increasing minimum wages and / or offering means time-tested benefits. The two different strategies will have different effects. The first reason fo r raising the pay of low-income workers is to reduce relative poverty. Relative poverty reflects inequality in society.Often this inequality stems from unequal opportunities such as middle class parents can afford to get better education for their children so they get higher pay. By increasing incomes of the low paid, the government is helping to reduce inequality. Reducing inequality also has some practical economic arguments, as well as moral justifications. Income inequality could aggravate feelings of social alienation this could cause problems such as crime, vandalism and tensions within society. Increasing the incomes of workers on low pay may create greater incentives for low paid workers to move from benefits to paid work.If wages are low, it may encourage people to remain on unemployment benefits and income support. Increasing wages, could save the government paying out benefits and reduce the poverty trap. Higher wages may increase worker productivity, motivation and loyal ty to the company. This is cognise as the efficiency wage theory. It is argued if wages are too low, people dont mind if they get made redundant. Higher wages increases worker loyalty and therefore productivity. Finally, workers low pay may be due to monopsonistic employers who want to exploit their monopoly power to pay lower wages than market forces.Therefore, if the government increases wages through minimum wages then it will not cause unemployment. However, there are practical problems to intervening to raise disposable incomes of workers. If the government increase wages by imposing a higher minimum wage, there is the scope for creating real wage unemployment. If wages rise, firms may not be able to afford the workers, especially if the job is traditionally low paid work in the service sector. However, this analysis assumes labour markets are competitive. In the real world, employers often hold a degree of monopsony power.This enables the employers to set lower wages and expl oit workers. In this case, a minimum wage helps to overcome the effect of monopsony employers and wont cause unemployment. If the government increase wages through offering means tested benefits then this may create a poverty trap. Basically, means tested benefits may discourage workers from working longer hours or getting better paid jobs. This is because the gain in income is limited due to the means tested benefits for low paid jobs. Also, means tested benefit may encourage firms to pay lower wages knowing that the government will top up the wages.A better solution may be to offer lower taxes for low paid workers. Another solution would be to offer benefits in kind, such as housing benefit and cheaper prescriptions e. t. c. This increases their disposable income without distorting labour markets. 3. Do you agree that if a trade union persuades employers to increase wages in a labour market, employment must inevitably fall in that labour market? Justify your answer? If the labour market is competitive, i. e. good information, many employers, then in theory an increase in wages above the equilibrium will cause a fall in employment.The diagram below shows that a rise in wages to W2 (through trade union pressure) causes a fall in employment from Q1 to Q2. If demand for labour is inelastic, then the fall in employment will be relatively small. Some labour markets may have inelastic demand if labour is a small % of total costs or the workers are indispensable part of the production process. If demand for labour is perfectly inelastic then an increase in wages will not cause any fall in demand for labour. However, if demand for labour is elastic, then higher wages could lead to a big fall in demand for labour. There are other reasons why employment might not fall.Firstly, if the employer has monopsonistic power, it is able to pay workers a wage below the market equilibrium. The diagram bellows shows that increasing the wage from W2 to W3, will actually keep emplo yment the same at Q2. If trades unions increase wages from W2 to W1, then employment levels will rise from Q2 to Q1. Arguably many employers in the UK have a degree of monopsonistic power workers find it difficult to move and therefore employers can keep wages lower. This is especially the case in the service sector where workers work part time and have weak contracts. Another issue is labour productivity.It is argued that paying higher wages may increase the loyalty of workers to the firm this is known as the efficiency wage theory, and if workers are more loyal they will have greater productivity. A more likely scenario is that trades unions argue for a productivity deal. This is when they bargain for higher wages in return for new working practises, which increase labour productivity. If labour productivity and MRP of workers increase then firms will be able to afford the higher wages. Another possibility is that if real wages increases, there will be an increase in aggregate dem and causing higher output and higher demand for workers.On the other hand this increase in wages may just cause inflation. Also, on a micro level, higher wages in one sector will not affect the macro economy significantly. observational evidence in the UK, suggests that since the minimum wage was introduced in 1997, it hasnt caused unemployment, this is despite the fact the minimum wage has increase faster than inflation. 4. Assess three labour market policies which might be used to increase the level of employment amongst incapacity claimants and lone parents on benefits.An increase in the minimum wage might increase the incentives for people to take a job rather than stay on benefits. If wages are low, there may be little incentive for people to take a job rather than stay on benefits. However, higher minimum wages may increase unemployment. Firms may reduce demand for workers because they cannot afford the higher wages. A NMW can lead to unemployment of Q3 Q2. However, the UK m inimum wage has been increased without any obvious fall in employment levels. This could be due to the fact employers have monopsonistic power and can afford to pay higher wages.Alternatively demand for labour may be inelastic. If demand is inelastic, the fall in employment will be small. Another policy is for the government to provide targeted training schemes for those on incapacity benefits. The government could train them in using computers and IT. This may enable them to work online from home. This makes them employable, despite their disabilities. However, it is not clear how successful these schemes would be. For example, even with better IT skills, it may be difficult to find jobs which enable you to work from home. solitary parents on benefits may not have time to take out training schemes because they need to look after children. Better child-care provision. If the government offer free or subsidised childcare, then lone parents will be able to go out and work, saving the government benefits. However, the cost of providing childcare may be as expensive as providing benefits. Also, the government cannot guarantee that lone parents will actually take out the opportunity to leave children in child-care. The real bother may be finding a job or the low differential between wages and benefits. . Discuss the impact of net migration on UK labour markets Net migration will increase the supply of labour, possibly causing wages to fall. This effect will be most noticeable in areas where migrants concentrate e. g. capital of the United Kingdom and the South East. The effect will also be most noticeable in industries where migrants tend to work this could be fruit pickers, builders or plumbers. However, although the supply of labour increases, it is important to bear in mind, that an increase in the population will also cause an increase in economic growth and increase in demand for labour.The extra supply of labour should be met by the extra demand for labour. Therefore, the real wage rates could stay the same. The impact of migration also depends on the skills and qualifications of migrants. If the migrants dont speak English and have low skills, they may struggle to find employment in the UK labour market. Therefore, it could cause a rise in structural unemployment. If the migrants do speak English and have skills which are in short supply, it can help deal with labour market shortages that do exist.For example, recently the government said it would be setting migration policy to allow workers with specific skills to enter for example, maths teachers and nurses. This helps to fill gaps in the labour market. Note, it is unlikely to horrify wages in these sectors because the wages are set by the government and not market forces. It is also possible, that migrants, especially if illegal migrants are more likely to work in the black market. For example, workers from low wage countries may be more willing to accept wages below the official minimum wage.This could lead to a bigger underground (unofficial) labour market and economy. However, there is no guarantee migrants will gravitate to the unofficial labour market, by nature it is hard to quantify. 6. Discuss the relative merits of welfare benefits and taxes for reducing relative poverty in the UK Relative poverty occurs when people receive an income significantly less than the average in society. For example, one definition may be a monthly income of less than 50% of the average monthly income. Welfare benefits include job seekers allowance, income support, child benefit and pensions.The biggest cause of poverty is unemployment because relying on unemployment benefits gives a relatively low income therefore increasing JSA would increase equality of distribution and make people on low incomes better off. However, there is a risk that higher benefits may increase voluntary unemployment this is because income from benefits may be similar to the income from a job, ther efore there becomes a disincentive to take a job. If higher benefits do discourage people from taking a job, it will increase cost of benefits to the government and also mean that people become economically inactive and lose motivation to work.However, it depends how much benefits were increased compared to the level of wages. It might be possible to increase welfare benefits but maintain an incentive to work. For example, if you take a low paid job, you could retain some income support. Also the minimum wage helps to increase the incentive to work in the UK. Income support or family credit involves giving means-tested top up benefits to those on low wages this will help reduce income inequality. But, similar to unemployment benefit, there is a danger of creating a disincentive to work. However, at least meanstested benefits are cheaper than universal benefits.Also the government can try grade the means tested benefits, so there isnt a cut off point which discourages people working longer hours A higher state pension would also help reduce inequality amongst pensioners however, it would be very expensive to increase the universal state pension, especially because there are increasing numbers of OAPs in the UK. Therefore, it may be more effective to target pensions to those who need it most, i. e. use means tested benefits. This could involve an extension of the govt minimum income guarantee for pensioners.The only problem of this is that it may discourage workers from saving for a private pension, because, they will not then get as much from the govt. A switch from regressive to progressive taxes would help improve income distribution, e. g. cutting cigarette tax and increasing income tax. A progressive tax takes a higher % of income from the rich. E. g. a top band of income tax could take 40% of incomes over ? 27,000. If the govt increased the top rate, this would cause a reduction in income inequality because it would reduce take home pay of high earners als o the revenue could be spent on increasing benefits to those on low incomes.However, this would cause problems because higher taxes may discourage people from working harder. Therefore, higher rate of income tax may cause lower AS and not increase revenue for the govt. However, the extent of this depends upon the income and substitution effect. For example, some people need to maintain a certain level of income therefore, if taxes increase the income effect means that they need to work harder to earn more. It depends how much the tax rate is increased. Often it is the very wealthy who feel it is worth living in another country if tax rates become too high.Other policies, which may be more effective, could include an increase in the Minimum wage this increases the wages of those on low pay. However, it may cause unemployment if the labour market is competitive. Also, it will not help the poorest on unemployment benefits. But, if labour markets are monopsonistic then a minimum wage wi ll not cause unemployment. Also a min wage could increase labour productivity and incentives to get a job. Empirical evidence suggests a min wages does not cause unemployment.To conclude, it may be possible to reduce income inequality by increasing income tax rates and means tested benefits such as income support. However, there is a danger that if they are increase too much they may cause disincentive within the economy, this is something the govt will have to be careful about. There is a conflict between reducing relative poverty and damaging incentives to work. Policies are likely to be more effective if used in conjunction with general policies to reduce unemployment, which is one of the biggest causes of relative poverty. Section Transport and Market Failure. 1.Discuss whether Cost-benefit analysis is a practical way to decide whether projects, such as new roads, should go ahead. Cost-benefit analysis is a way to evaluate potential projects and decide whether they are in the i nterest of the public. Cost-benefit analysis studies involve calculating the social costs and social benefits to a particular project. If the social benefits exceed the social costs, it is indicative that the project is desirable. The first stage of cost-benefit analysis is to identify all the different costs and benefits. These include the monetary costs such as materials to build road, and pay workers.But, also in building a road there are external costs, such as, damage to the environment, noise pollution and air pollution. These external costs are harder to identify and give a monetary value to. For example, you could ask people involved in project or living near road. However, it is difficult for people to give unbiased opinions and they are likely to put their own perspective onto the evaluation or survey. When a monetary value has been placed on all the benefits and costs, it becomes easier to decide whether the project should go ahead or not.The first problem encountered in using cost-benefit analysis is that it can be difficult to put a value on certain costs and benefits. For example, building a new airport may cause noise pollution, but it is hard to put an economic value on this. You could ask people, but this is unreliable and people may give different figures. Therefore, guestimates need to be used, but they may be wrong. A second problem is that it is hard to identify all potential costs and benefits. For example, building a nuclear power station it might be hard to know potential future problems.For example, the Chernobyl nuclear accident would be something not included in a cost benefit analysis. In any planni