1. 2013 Muhammad Raheel THE CITY SCHOOL (A-LEVEL CAMPUS)
9/9/2013 Micro Economics
2. 2 | P a g e WHAT IS ECONOMIC PROBLEM? (4) The economic
problem, sometimes called the basic, central or fundamental
economic problem, is one of the fundamental economic theories in
the operation of any economy. Economic problem arises mainly due to
two reasons- (I) human wants are unlimited (ii) means to satisfy
human wants are scarce. Needs: Needs are material items people need
for survival, such as food, clothing, housing and ware. Until the
Industrial Revolution, the vast majority of the worlds population
struggled for access to basic human needs and need are also those
things without which we cannot live. Wants: These wants are often
classified into individual wants, which depend on the individual's
preferences and purchasing power parity, and collective wants,
those of entire groups of people. Things such as food and clothing
can be classified as either wants or needs, depending on what type
and how often a good is requested. Wants are effective desires for
a particular product, or something which can only be obtained by
working for it.
3. 3 | P a g e DEFINE PUBLIC GOODS, MERIT GOODS AND CONSUMER
GOODS ? (6) In economics, a public good is a good that is both
non-excludable and non-rivalrous in that individuals cannot be
effectively excluded from use and where use by one individual does
not reduce availability to others.[1] Examples of public goods
include fresh air, knowledge, lighthouses, national defense, flood
control systems and street lighting. Public goods that are
available everywhere are sometimes referred to as global public
goods. A fireworks display is a public good because it is
non-excludable (impossible to prevent people from using it) and
non-rivalrous (one individual's use does not reduce availability to
others). Definition of merit goods: Goods or services (such as
education and vaccination) provided free for the benefit of the
entire society by a government, because they are ought to benefit
the society, wether the consumers are willing to pay for it or not.
Products that are purchased for consumption by the average
consumer. Alternatively called final goods, consumer goods are the
end result of production and manufacturing and are what a consumer
will see on the store shelf. Clothing, food, automobiles and
jewelry are all examples of consumer goods. Basic materials such as
copper are not considered consumer goods because they must be
transformed into usable products.
4. 4 | P a g e WHAT ARE THE FOUR FACTORS OF PRODCTION? (8) The
four factors of production are: Land: Consists of all useful
materials found in the natural environment. Labor: The human effort
that goes into producing the goods or services. Capital: Money used
to buy tools and equipment used to produce goods or services An
entrepreneur: is an individual who organizes and operates a
business or businesses, taking on financial risk to do so. WHAT ARE
THE ADVANTAGES AND DIS ADVANTAGES OF MARKET, MIXED AND PLANED
ECONOMY? (12)
5. 5 | P a g e MARKET ECONOMY: ADVANTAGES: 1. market economies
can adjust to change easily( If there is a demand for one thing,
companies have the ability to change what they produce instead of
having to go through too much government protocol first). 2.
Rational self interest in market economies are also encouraged
(allow freedom for people to do what they want, make what they
want, and, sell what they want -to a certain extenT. 3. 3. there is
a great variety of goods and services for consumers. 4. 4. market
economy encourage competitive environment DIS-ADVANTAGES: 1. No
provision of merit goods like education, health, housing... so the
poor will be deprived of the merit goods. In this way the rich
becomes richer and the poor becomes poorer. 2. No provision of
public goods (bus stop, garden, street lighting, army, police, fire
services) important requirements for public goods not provided
since it is not profitable to produce as consumers are not directly
willing to pay for them. 3. Over consumption of demerit goods
(drugs, cigarettes, alcohol) if consumers have a preference for
these goods, then they will be provided given that they are
profitable to produce.
6. 6 | P a g e 4. Social cost ignored e.g. private firms ignore
negative external factors (air, water and noise pollution, road
conditions etc;) 5. Wastage of resources 6. Social injustice 7.
Economic instability MIXED: Advantages: Producers and consumer have
sovereignty to choose what to produce and what to consume but
production and consumption of harmful goods and services may be
stopped by the government. Social cost of business activities may
be reduced by carrying out cost-benefit analysis by the government.
As compared to Market economy, a mixed economy may have less income
inequality due to the role played by the government. Monopolies may
be existing but under close supervision of the government.
7. 7 | P a g e DIS-ADVANTAGES: Fear of nationalization: Private
and public sector coexists . The government has the power to
nationalize and own any industry, so private sector remains under a
psychological fear that their industry may be nationalized or taken
over in the public interest. Inequality of income: PLANNED:
ADVANTAGES: Prices are kept under control and thus everybody can
afford to consume goods and services. There is less inequality of
wealth. There is no duplication as the allocation of resources is
centrally planned. Low level of unemployment as the government aims
to provide employment to everybody. Elimination of waste resulting
from competition between firms. Disadvantages Consumers cannot
choose and only those goods and services are produced which are
decided by the government. Lack of profit motive may lead to firms
being inefficient. Lot of time and money is wasted in communicating
instructions from the government to the firms.
8. 8 | P a g e DEFINE FIXED COST, VARIABLE COST, TOTAL COST AND
TOTAL REVENUE. (8)+(8) FIXED COST: In economics, fixed costs are
business expenses that are not dependent on the level of goods or
services produced by the business. They tend to be time-related,
such as salaries or rents being paid per month, and are often
referred to as overhead costs. This is in contrast to variable
costs, which are volume-related (and are paid per quantity
produced). VARIABLE COST: Variable costs are expenses that change
in proportion to the activity of a business. Variable cost is the
sum of marginal costs over all units produced. It can also be
considered normal costs. Fixed costs and variable costs make up the
two components of total cost.
9. 9 | P a g e TOTAL COST: In economics, total cost (TC)
describes the total economic cost of production and is made up of
variable costs, which vary according to the quantity of a good
produced and include inputs such as labor and raw materials, plus
fixed costs, which are independent of the quantity of a good
produced and include inputs (capital) that cannot be varied in the
short term, such as buildings and machinery. Total cost in
economics includes the total opportunity cost of each factor of
production as part of its fixed or variable costs.
10. 10 | P a g e TOTAL REVENUE: Total revenue is the total
receipts of a firm from the sale of any given quantity of a
product. It can be calculated as the selling price of the firm's
product times the quantity sold, i.e. total revenue = price
quantity, or letting TR be the total revenue function: Where Q is
the quantity of output sold, and P(Q) is the inverse demand
function (the demand function solved out for price in terms of
quantity demanded). ADVANTAGES AND DIS ADVANTAGES OF FOLLOWING:
(28) SOLE TRADER:
11. 11 | P a g e Advantages of a sole trader sole traders
benefit from the following advantages: Control - Sole traders
maintain full control of their business. Running it how they please
without the interference of others. Profit retention Sole traders
retain all the profits of their business. Private data Information
about sole traders is kept private, unlike that of limited
companies which is necessarily made public after registration with
Companies House. Specialist Often a small business, sole traders
can offer a more personal service with local roots and ties. This
can be more appealing to potential customers in the local
community. Personal Because there is no need to confer with other
decision makers, sole traders can make decisions quickly and act on
them swiftly, providing for the needs of their customers.
Disadvantages of a sole trader Just like any other form of
business, being a sole trader can also have its disadvantages.
Liability sole traders are not seen as a separate entity by the
law. Therefore, they are subject to unlimited liability. This means
if the business gets into debt, the business owner is liable. In
the worst case, this may mean a person risks their home, personal
savings and any other assets they have both in and outside of the
business. Finance sole traders often find it difficult to raise
finance to fund their business. They may struggle with expansion in
the future. Reverse economies of scale sole traders will be unable
to take advantage of economies of scale in the same way as limited
companies and larger corporations, who can afford to buy in bulk.
This might mean that they have to charge higher prices for their
products or services in order to cover the costs. Decision making
all decisions must be made by the sole trader. There is no room for
help by others. So the success or failure of the business rests on
one person. PARTNERSHIP: Advantages of Partnership: Easy to set
up
12. 12 | P a g e More capital can be brought into the business.
Partners bring new skills and ideas to a business Decision making
can be much easier with more brains to think about a problem.
Partners share responsibilities and duties of the business.
Division of labor is possible as partners may have different
skills. Disadvantages of Partnership: There is unlimited liability:
All the partners are responsible for the debts of the firm and if
the business goes bankrupt, all the partners will have to clear the
debts even if they have to sell of their personal belongings.
Disagreement among the partners can lead to problems for the
business. There is a limit to the capital invested. Because of the
fact that maximum 20 members are allowed, the business may find it
difficult to expand after a certain limit. There is no continuity
of existence. Partnership is dissolved if one of the partners die
or resigns or becomes bankrupt. PRIVATE LTD.: Advantages Limited
Liability: It means that if the company experience financial
distress because of normal business activity, the personal assets
of shareholders will not be at risk of being seized by creditors.
Continuity of existence: business not affected by the status of the
owner. Minimum number of shareholders need to start the business
are only2. More capital can be raised as the maximum number of
shareholders allowed is 50. Scope of expansion is higher because
easy to raise capital from financial institutions and the advantage
of limited liability.
13. 13 | P a g e Disadvantages Growth may be limited because
maximum shareholders allowed are only 50. The shares in a private
limited company cannot be sold or transferred to anyone else
without the agreement of other shareholders PUBLIC LTD. Advantages
There is limited liability for the shareholders. The business has
separate legal entity. There is continuity even if any of the
shareholders die. These businesses can raise large capital sum as
there is no limit to the number of shareholders. The shares of the
business are freely transferable providing more liquidity to its
shareholders . Disadvantages There are lot of legal formalities
required for forming a public limited company. It is costly and
time consuming. In order to protect the interest of the ordinary
investor there are strict controls and regulations to comply. These
companies have to publish their accounts. The original owners may
lose control. Public Limited companies are huge in size and may
face management problems such as slow decision making and
industrial relations problems. COOPERATIVES: ADVANTAGES:
14. 14 | P a g e limited liability for the shareholder, ie if
the cooperative becomes a private limited company, then
shareholders' rights would be governed by company legislation a
great sense of involvement as the business belongs to the members a
feeling of equality as each member has one vote greater job
satisfaction as members feel they are working for themselves less
chance of industrial relations problems as the owners are the
workers and there is no conflict of interest DIS-ADVANTAGES: In
larger cooperatives, as opposed to the smaller cooperatives, it may
take longer to arrive at decisions and disagreements can occur
Difficulty in reaching decisions as everyone has a vote regardless
of whether they have any knowledge or experience in the matter
Failure to be competitive Ambitious workers may find it more
difficult to get promotion or wage increases Idealistic belief may
clash with harsh economic realities Profit may be sacrificed to
ideals Financial control is often weak unless a manager and/or
accountant is employed Difficulty in raising finance MULTINATIONAL:
ADVANTAGES: Acquisition of raw material from abroad,which is
cheaper in cost.
15. 15 | P a g e Technology and management expertise accquired
from competing in global markets. Export of components and finished
goods for assembly or distribution in foreign markets. Inflow of
income from overseas profits,royalities and management contracts.
Jobs and career opportunities at home and abroad in connection with
overseas opportunities. DIS-ADVANTAGES: Trade restrictions imposed
at the government-level Taxes or tariffs imposed on imports from
other countries Limited quantities (quotas) of imports Effective
management of a globally dispersed organization Slow down in the
growth of employment in home countries. Destroy competition and
acquire monopoly. Technology designed for mnc's is for world wide
profit maximization not for the social welfare or development of
economy. They could cause fast depletion of some of the non
renewable natural resources in the host country. In order to alley
the fears of host countries they need to: provide employment train
managers provide products and services that raise the standard of
living introduce and develop new technical and managerial skills
increase productivity PUBLLIC CORPERATION: ADVANTAGES 1) shares are
being sold to the general public via stock exchange, therefore
there is an incentive to raise capital. 2)There is a limited
liability- if business fail to pay off its debts, then debtors
could not force
16. 16 | P a g e them to sell their private possessions. 3)the
load of work is being divided among the shareholders DISADVANTAGES
1) Accounts of the business would not be kept secret. for example
Accountant could know about the company's trading methodology. 2)If
a company becomes too large, the chances of bankruptcy would
increase because management may loose control. FACTORS AFFECTING
DEMAND AND SUPPLY OF LABOUR: (12) Factors affecting demand of labor
: 1) Wage rates fluctuations 2) The need of factor input in a firm
varies with time 3) Increasing training costs Factors affecting
supply of labor: 1) Competitive labor market 2) Working condition
3) Inflation
17. 17 | P a g e EXPLAIN WAGE RATE DETERMINATION POINT: (10)
Determination of Wage rate In a perfectly competitive market, the
wage rate of a particular type of labour is determined by the
interaction of the labour demand curve and labour supply curve. In
figure (a) the DD is the demand curve of labour say carpenters for
the industry. It is found by summation of the demand curves of the
firms in the industry SS represents the supply curve of carpenters
for the industry, The labour demand curve DD intersects the labour
supply curve SS at point N. The wage rate is NL or Rs. 20/- per day
and the number of workers hired at the equilibrium wage rate (Rs.
20/-) is 200 thousand.
18. 18 | P a g e FACTORS AFFECTING : (11) BORROWING:
19. 19 | P a g e The amount you can borrow to buy a property is
determined by a number of factors, including: Your income and
commitments Your lifestyle and living expenses Your property Your
loan interest rate, the term and type Any assets you offer as
security (for example, another property) The value of your property
Your credit history. SAVING: Factors affecting savings Interest
rates: Higher interest rates will encourage people to save more.
Availability of appropriate savings schemes: With more options to
save money people will be attracted to save more Advertising
of/knowledge about what is available at financial institutions
Confidence/trust in financial institutions Size of real disposable
income: Disposable income is the income left after paying taxes.
Thus more money left in pockets will encourage people to save more.
Rate of inflation: when inflation is high people have less money
left with them to save because a major part of their disposable
income will be spent to satisfy their needs and wants. Save for a
future purchase: People might save with the motive to carry out a
future purchase e.g. a house Precautionary factors: People might be
saving for a rainy day Tastes and preferences of consumers: It also
depends on a individuals preference. Some people save more than
others. Consumer confidence/expectations about future changes in
the economy, e.g. risk of unemployment may lead to people saving
more
20. 20 | P a g e CONSUMPTION: (i) People save to face the
unforeseen contingencies such as Illness, unemployed, accidents
etc. (ii) People are induced to save because they want to provide
for the future needs, i.e. education of the children, marriages of
the children etc. (iii) To possess power or to get higher social or
political status. (iv) People are motivated to save so that they
can accumulate large wealth which will increase their social
states. (v) To enjoy an enlarged future income by investing funds
of current income. WHAT IS MEANT BY FINANCIAL INSTITUTION: (6)
21. 21 | P a g e In financial economics, a financial
institution is an institution that provides financial services for
its clients or members. Probably the most important financial
service provided by financial institutions is acting as financial
intermediaries. Most financial institutions are regulated by the
government. Broadly speaking, there are three major types of
financial institutions: 1. Depositary Institutions : Deposit-taking
institutions that accept and manage deposits and make loans,
including banks, building societies, credit unions, trust
companies, and mortgage loan companies 2. Contractual Institutions
: Insurance companies and pension funds; and 3. Investment
Institutes : Investment Banks, underwriters, brokerage firms. Some
experts see a tendency of global homogenisation of financial
institutions, which means that institutions tend to invest in
similar areas and have similar investment strategies. The reason
for this tendency sees economist Jayati Gosh in financial
deregulation. Consequences might be that there will be no banks
that serve specific target groups and e.g. small scale producers
are left behind. EXPLAIN THE ROLE OF THE FOLLOWING: (18) COMERCIAL
BANK: Commercial banks engage in the following activities:
processing of payments by way of telegraphic transfer, EFTPOS,
internet banking, or other means issuing bank drafts and bank
cheques accepting money on term deposit lending money by overdraft,
installment loan, or other means providing documentary and standby
letter of credit, guarantees, performance bonds, securities
underwriting commitments and other forms of off balance sheet
exposures safekeeping of documents & other items in safe
deposit boxes sales, distribution or brokerage, with or without
advice, of: insurance, unit trusts and similar financial products
as a financial supermarket cash management and treasury merchant
banking and private equity financing
22. 22 | P a g e traditionally, large commercial banks also
underwrite bonds, and make markets in currency, interest rates, and
credit-related securities, but today large commercial banks usually
have aninvestment bank arm that is involved in the mentioned
activities CENTRAL BANK: Functions of a central bank may include:
implementing monetary policies. determining Interest rates
controlling the nation's entire money supply the Government's
banker and the bankers' bank ("lender of last resort") managing the
country's foreign exchange and gold reserves and the Government's
stock register regulating and supervising the banking industry
23. 23 | P a g e setting the official interest rate used to
manage both inflation and the country's exchange rate and ensuring
that this rate takes effect via a variety of policy mechanisms
STOCK ECHANGE: Raising capital for businesses Exchanges help
companies to capitalize by selling shares to the investing public.
Mobilizing savings for investment They help public to mobilize
their savings to invest in high yielding economic sectors, which
results in higher yield, both to the individual and to the national
economy. Facilitating company growth They help companies to expand
and grow by acquisition or fusion. Profit sharing They help both
casual and professional stock investors, to get their share in the
wealth of profitable businesses. Corporate governance Stock
exchanges impose stringent rules to get listed in them. So listed
public companies have better management records than privately held
companies. Creating investment opportunities for small investors
Small investors can also participate in the growth of large
companies, by buying a small number of shares. Government capital
raising for development projects They help government to rise fund
for developmental activities through the issue of bonds. An
investor who buys them will be lending money to the government,
which is more secure, and sometimes enjoys tax benefits also.
Barometer of the economy
24. 24 | P a g e They maintain the stock indexes which are the
indicators of the general trend in the economy.They also regulate
the stock price fluctuations. ADVANTAGES OF SPECIALISATION /
DIVISION OF LABOUR To the business: - Specialist workers become
quicker at producing goods - Production becomes cheaper per good
because of this - Production levels are increased - Each worker can
concentrate on what they are good at and build up their expertise
To the worker: - Higher pay for specialised work - Improved skills
at that job. DISADVANTAGES OF SPECIALISATION / DIVISION OF LABOUR
To the business: - Greater cost of training workers -Quality may
suffer if workers become bored by the lack of variety in their jobs
To the worker: - Boredom as they do the same job - Their quality
and skills may suffer - May eventually be replaced by machinery
FEATURES OF PERFECT COMPETITION: 1. Many firms.
25. 25 | P a g e 2. Freedom of Entry and Exit; this will
require low sunk costs. 3. All firms produce an identical or
homogenous product. 4. All firms are price takers, Therefore firms
demand curve is perfectly elastic 5. There is perfect information
and knowledge. Diagram for Perfect Competition These factors are
unrealistic in the real world. However Perfect Competition is as
important economic model to compare other models. It is often
argued that competitive markets have many benefits which stem from
this theoretical model. In the Industry price is determined by the
interaction of Supply and Demand The firm will maximise output
where MR = MC at Q1 In the Long Run Firms will make Normal profits.
If Supernormal profits are made new firms will be attracted into
the industry causing prices to fall. If firms are making a loss
then firms will leave the industry causing price to rise
26. 26 | P a g e ADVANTAGES AND DIS ADVANTAGES OF: MONOPLY:
Characteristics Only one single seller in the market. There is no
competition. There are many buyers in the market. The firm enjoys
abnormal profits. The seller controls the prices in that particular
product or service and is the price maker. Consumers dont have
perfect information. There are barriers to entry. These barriers
many be natural or artificial. The product does not have close
substitutes. Advantages of monopoly Monopoly avoids duplication and
hence wastage of resources. A monopoly enjoys economics of scale as
it is the only supplier of product or service in the market. The
benefits can be passed on to the consumers. Due to the fact that
monopolies make lot of profits, it can be used for research and
development and to maintain their status as a monopoly. Monopolies
may use price discrimination which benefits the economically weaker
sections of the society. For example, Indian railways provide
discounts to students travelling through its network. Monopolies
can afford to invest in latest technology and machinery in order to
be efficient and to avoid competition. Disadvantages of monopoly
Poor level of service. No consumer sovereignty. Consumers may be
charged high prices for low quality of goods and services. Lack of
competition may lead to low quality and out dated goods and
services.
27. 27 | P a g e 6 DIFFERENT PRICING STRATEGIES: Pricing
Strategy Definition Example Penetration pricing: Here the
organisation sets a low price to increase sales and market share.
Once market share has been captured the firm may well then increase
their price. A television satellite company sets a low price to get
subscribers then increases the price as t increases. Skimming
pricing: The organisation sets an initial high price and then
slowly lowers the price to make the product available to a wider
market. The objective is to skim profits of the market layer by
layer. A games console company reduces the price of their console
over 5 years, charging a prem lowest price near the end of its life
cycle. Competition pricing Setting a price in comparison with
competitors. Really a firm has three options and these are to price
lower, price the same or price higher Some firms offer a price
matching service to match what their competitors are offering.
Product Line Pricing: Pricing different products within the same
product range at An example would be a DVD manufacturer offering
different DVD recorders with different fe prices eg A HD and non HD
version.. The greater the features and the benefit obtained the gre
will pay. This form of price discrimination assists the company in
maximising turnover and prof
28. 28 | P a g e different price points. Bundle Pricing: The
organisation bundles a group of products at a reduced price. Common
methods are buy one and get one free promotions or BOGOF's as they
are now known. Within the UK some firms are now moving into the
realms of buy one get two free can we call this BOGTF i wonder?
This strategy is very popular with supermarkets who often offer
BOGOF strategies. Psychological pricing: The seller here will
consider the psychology of price and the positioning of price
within the market place The seller will therefore charge 99p
instead 1 or $199 instead of $200. The reason why this because
buyers will still say they purchased their product under 200 pounds
or dollars, even pound or dollar away. My favourite pricing
strategy. Premium pricing The price set is high to reflect the
exclusiveness of the product. An example of products using this
strategy would be Harrods, first class airline services, Porsch
Optional pricing: The organisation sells optional extras along with
the product to maximise its turnover. T This strategy is used
commonly within the car industry as i found out when purchasing my
car. Cost Based Pricing: The firms takes into account the cost of
production and distribution, they then decide on a mark up which
they would like for profit to come to their final pricing decision.
If a firm operates in a very volatile industry, where costs are
changing regularly no set therefore the firm will decide on their
mark up to confirm their pricing decision.
29. 29 | P a g e Cost Plus Pricing: Here the firm add a
percentage to costs as profit margin to come to their final pricing
decisions. For example it may cost 100 to produce a widget and the
firm add 20% as a profit margin s would be 120.00 DRAW THE
FOLLOWING: DEMAND AND SUPPLY: DEMAND AND SUPPLY WITH CETRIS
PERIBUS: INCREASE AND DECREASE IN DEMAND AND SUPPLY:
30. 30 | P a g e PERFECTLY INelastic,ELASTIC: Unitary elastic:
PRICE ELASTIC AND IN-ELASTIC DEMAND: