practice questions

  1. Which characteristic would best be associated with pure competition?

    C. Price Taker.
  2. Under which market model are the conditions of entry into the market easiest?

    C. Pure competition.
  3. a purely monopolistic industry:

    D. Is characterised by all of the above.
  4. Resource pricing is important because:

    D. All of the above reasons.
  5. Which of the following best explains the concept of derived demand?

    D. The fall in the demand for carpenters that results from a fall in the demand for housing.
  6. Pollution:

    C. Is an example of a spillover or external cost.
  7. The difference between the 45-degree line and the Lorenz curve shows the:

    A. Degree of income inequality.
  8. A tariff can best be described as:

    D. An excise tax on an imported good.
  9. The 'gain' from international trade is:

    C. More goods than would be attainable through domestic production alone.
  10. profit maximisation level of output
    The output level is chosen by the perfectly competitive firm in order to maximise profits. The profit maximisation decision can be analysed by comparing total revenue and total cost, or by using marginal analysis.
  11. long run adjustments under perfect competition
    In the long run, competitive price will tend to equal the minimum average cost of production.
  12. Perfect competition and efficiency
    • Under perfect competition, profit-motivated producers
    • will produce each commodity up to that precise point at which price (marginal benefit) and marginal cost are equal. This means that resources are efficiently allocated under competition, because each good or service is produced to the point at which the value of the last unit to consumers is equal to the value of the alternative goods sacrificed by its production. This is captured in the P = MC efficiency condition.
  13. Perfect competition and efficiency - Allocative efficiency
  14. Under allocation (perfect competition and efficiency)
  15. Over allocation (perfect competition and efficiency)
  16. Productive efficiency
  17. The long run position of minimum AC means that competitive firms will use the most efficient technology available.
    The competitive price systme will reallocate resources in response to a change in consumer tastes, technology or resource supplies so as to maintain allocative efficiency.
  18. •TR and MR under monopoly
    Monopoly has a downward-sloping demand curve which means that pure monopoly can increase its sales only by charging a lower unit price for it's product. Because the monopolist must lower price to boost sales, marginal revenue is less than price (AR) for every level of output except for the first.  Each additional unit sold will add to total revenue.
  19. profit maximising level of output and price under monopoly
    Like the competitive seller, the pure monopolist will maximise profits by equating marginal revenue and marginal cost - that is, by choosing to produce at the output level where MR=MC, and then charging the appropriate price.
  20. barriers to entry
    • Economies of scale (requiring substational investment  e.g. natural monopoly).
    • The ownership or control of essential raw materials, preventing competitors from acquiring necessary resources to compete in the market.
    • Patent ownership and research and licences that provide a legal barrier to entry and provide the owner with exclusive rights to use an idea, process or technology.
  21. economic efficiency and social welfare implications of monopoly
    • To reduce the monopoly price to Fair return price the
    • policy makers can subsidize the monopoly firm price to reduce it. Regulate the price according to what you can afford
    • •Productive inefficiency:
    • – Minimum ATC is not necessarily chosen – (P is not equal to ATC)
    • •Allocative inefficiency:
    • – P  price does not necessarily equal MC
    • •Income distribution
  22. •factors of production
    land, labour, capital and entrepreneurship. In essence, land, labor, capital and entrepreneurship encompass all of the inputs needed to produce a good or service. Land represents all natural resources, such as timber and gold, used in the production of a good. Labor is all of the work that laborers and workers perform at all levels of an organization, except for the entrepreneur. The entrepreneur is the individual who takes an idea and attempts to make an economic profit from it by combining all other factors of production. The entrepreneur also takes on all of the risks and rewards of the business. The capital is all of the tools and machinery used to produce a good or service
  23. productivity of resources
    • The fact that the demand for a resource is derived from the product it helps produce means that the demand for a resource will depend on its productivity—measured as its marginal physical product (MPP)—and the market value of the good it is producing. • A firm will hire a resource up to the point where the extra revenue gained (marginal revenue product, MRP) just equals the extra cost of the resource(marginal resource cost, MRC). This condition is known as the MRP  MRC rule.
  24. MRP and MRC
    MRP - The increase in total revenue resulting from the use of one additional unit of input.
    MRC - The increase in total resource cost resulting from the use of one additional unit of input.
    • Marginal Revenue Product = Marginal Rresource Cost rule
    • –Explains the way demand for economic resource is formulated
    • –Does not explain the exact derivation of demand curve
  25. •determining the level of employment of resources under perfect/imperfect competition
    • A firm operating under competitive conditions in the
    • resource market where there are many buyers will find it profitable to hire a resource up to the point at which the price of the resource equals its marginal revenue product.

    • The nature of the demand curve for a resource is
    • affected by the degree of competition in the product market. Where the firm sells its product in a
    • perfectly competitive market, the MRP schedule represents the firm’s demand schedule for that
    • resource.

    When a firm is selling in an imperfectly competitive market, the resource demand curve will also fall, because the product price must be reduced in order to allow the firm to sell a larger output, reducing the marginal revenue of the firm.
  26. •wage rate determinationImage Upload 1
    • Perfect competition in a resource market means that there are many small buyers of the resource, and that none can influencethe market. The supply curve is identical to the marginal resource cost curve (MRC), and is horizontal. The wage is given directly by the intersection of the supply line and MRP curve(which is the demand for labor).
    • WAGE DETERMINATION IN MONOPSONYThe wage paid by a monopsony is lower than the wage paid byfirms in perfect competition in the labor market. In addition,the quantity of labor used is also smaller.
  27. •Causes of market failure
    • •The presence of externalities and public goods indicate
    • market failure (benefits and costs are not fully accounted)
    • •Produce the wrong amounts of goods or services, resulting in externalities or ‘spillover’ effects
    • •Failure to allocate sufficient resources to the
    • production of certain goods, called ‘public’ or ‘social’ goods
  28. •Role of government
    for the solutions to Market failure intervention from the government is required in the form of Legislation and specific taxes. ie purification systems for contaminated water from manufacturining process and taxes for carbon emissions.
  29. •Public goods•
    • public goods are often provided when the are indivisible and involve benefits from which non-paying consumers cannot be excluded. Governments also tend to provide goods and services for which externalities are through to be very large. usually a cost benefit analysis is done when providing a public good.
    •                                    Exclusion Principle
    •                                    Yes                 No
    • Rivalry in       Yes  Pure private        Quasi public
    • Consumption  No   Quasi public          Pure public
  30. Externalities (negative and positive) (spillover effects)
    • Negatives - social costs such as environmental pollution spill over costs cause the supply curve to shift up while spill over benefits cause it to shift down. Costs cause an over allocation of resuces to production while benefits cause cause under allocation. Where there is no spillover there is an equilibrium.
    • A spillover benefit in education is that people with a higher degree of education generally earn higher wages.
  31. •environmental economics
    • effluent societ recognises that the environment plays not just a central role in providing resources inputs to the production process, but also acts as a receptacle for the byproducts of oureconomic system.
    • Pollution problems are growing because of increase in population, rising incomes and consumption, technology change and new materials and by products.
    • The solutions inculde legislated controls and standards, emission fees, markets for pollution rights.
  32. •methods of correcting market failure causedby pollution
    legislation, emission fees, markets for pollution rights.
  33. •Income inequality
    Involves the unequal distribution of income among individuals or households. Households are dividied into quintile groups representing segments of the population according to their income (all 20%).
  34. •Causes of income inequality•
    • Ability differences (mental, physical, artistic)
    • Education and training
    • Job tasks and risks (unpleasant jobs and long hours earn more income)
    • Property ownership - property incomes
    • Market power - ability to manipulate the market to advantage themselves.
    • Luck connections, misfortune and discrimination
  35. Measurement of inequality
    • The Lorenz curve graphs the degree of income inequality in any society by plotting the cumulative share of household incomes against their cululative share in the population. Perfect equality is indicated by the Lorenz curve plotting as a diagonal line. The further the actual Lorenz curve bows from this line of perfect enquality, the more unequalt the distribution of incomes.
    • The Gini coefficient is a ration representing the area between the Lorenz curve and the line of perfect equality relative to the are of the triangle formed by the line of perfect equality and the lower right-hand side axes of the Lorenz curve graph. The close to zero the Gini coefficient is the more equal the distribution of income. The closer to 1 the Gini coefficient is the more unequal the distribution of in come
  36. •Methods of reducing income inequality•
    • increasing taxes especially for higher earners
    • Increasing welfare
    • Increasing education
  37. Arguments for reducing income inequality
    Maximising utility - inequality is a large obstacle to maximising consumer satisfaction. Greater income equality moves the economy closer to the goal of maximising aggregate satisfaction.
  38. •Arguments of maintaining some degree of income inequality
    • Conducive to high rate of saving, a rapid rate of capital accumulation and therefore rapid economic growth.
    • Essential as an incentive to work and invest.
    • Essential to a viable, progressive society
  39. Patterns of free trade
    Free trade promotes competition and discourages monopoly. Economically valid position.
  40. •Arguments in favour of free trade
    • encourages a more efficient allocation of resources and a higher standard of living for the world as a whole.
    • Barriers to trad lessen or remove the gains available through specialisation.
    • Trade acts as a catalyst for competition (reducing monopoly power) and encorages innovation.
  41. •Barriers to trade
    • Tariffs - excise taxes on imported goods
    • Import Quotas - specify maximum amounts of specific comodities that may be imported in any period (more restrictive than tariffs).
    • Non-Tariff barriers - licensing requirements and stringent safety and quality standards, bureacratic delays.
    • Voluntary export restraints - self imposed barriers to avoid more stringent ones being made.
  42. •Arguments for trade protection.
    • Military self sufficiency argument (strengthen industries producing strategic goods and materials essential for defence in war)
    • The increase domestic employment argument (local goods will stimulate economy and boost income)
    • diversification for stability argument (need to diversify to protect economy from fluctuations in worl supply and demand for particular comodoties)
    • the infant industry argument (protect new entrants to the market that will not survive with high competition)
    • cheap foreign labour (shield local producers from competition of countries with lower wages)
  43. •Economic integration
    • Australia maintains policies of reducing assistance to
    • local industry and increasing commitment to the Asia-Pacific region. Australia’s commitment to
    • freer trade is also evidenced in its negotiation and membership of a number of Free Trade Agreements (FTAs), including those currently agreed to with the governments of New Zealand, Singapore, Thailand, Chile and the United States.
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