Transcript Q - The Economics Network

AS/A2 Applying economic theory
The theory of markets
and the real world
With illustrations from the
housing, energy and
food retailing markets
AS
AQA
Edexcel
OCR
1 Markets and market failure
Markets – how they work
The market system
2 The national economy
Markets – why they fail
Market failure and
government intervention
3 Markets at work
Managing the economy
The national and
international economy
A2
AQA
1 Working as an economist
2
Business economics and
the distribution of income
Government policy, the
3 national and international
economies
Edexcel
OCR
Two from
Industrial economics
a. Economics of work
and leisure
b. Transport economics
a. Labour economics: or
c. Economics of
Development
b. Development economics
d. The UK economy
The UK in the global
economy
Economics in a European
context
AS/A2 Applying economic theory
Efficiency
of Markets
Efficiency of markets
• Responsiveness to consumer wishes
– price elasticity of supply
• factor mobility
• flexibility of work practices
• time period
Supply curves with different price elasticity of supply
P
S2
P2
S1
P1
P0
D1
D0
O
Q0
Q2
Q1
Q
Efficiency of markets
• Responsiveness to consumer wishes
– price elasticity of supply
• factor mobility
• flexibility of work practices
• time period
– the case of housing
House price Inflation
25
20
15
10
5
0
-5
-10
83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06
Efficiency of markets
• Responsiveness to consumer wishes
– price elasticity of supply
• factor mobility
• flexibility of work practices
• time period
– the case of housing: shifts in demand
•
•
•
•
•
•
•
income
rates of interest
availability of mortgages
mortgage tax relief
desire for home ownership
return on investment in housing
speculation about future house prices
Efficiency of markets
• Responsiveness to consumer wishes
– price elasticity of supply
• Responsiveness to changes in supply
– price elasticity of demand
• number and closeness of substitutes
• time period
– the case of oil
Demand curves with different price elasticity of demand
P
S1
S0
P2
P1
P0
D1
D2
O
Q1
Q2
Q0
Q
Oil prices
$ per barrel
70
Continuing worries
about supply and
rapid growth in
demand from China
and India
Actual price
Cost in 1973 prices
60
Impending
war
with Iraq
Iraq invades
Kuwait
50
Iraq invades
Iran
OPEC’s first
quotas
40
Revolution
in Iran
World-wide
slowdown
Cease-fire in
Iran-Iraq war
World-wide
recovery
30
First oil from
North Sea
20
Recession
in Far East
New OPEC
quotas
10
Yom Kippur War:
Arab oil embargo
0
72
74
76
78
80
82
84
86
88
90
92
94
96
98
00
02
04
06
Efficiency of markets
• Responsiveness to consumer wishes
– price elasticity of supply
• Responsiveness to changes in supply
– price elasticity of demand
• Competition
– survival of the fittest
– new products
– lower costs
• Minimum average cost in long run
– lower prices
• Supernormal profits  firms enter market  price 
Effect of competition on price and average cost
£
LRAC
P1 = AR1
P2 = AR2
Min. AC
O
Q1
QL
Q2
Q
Efficiency of markets
• Responsiveness to consumer wishes
– price elasticity of supply
• Responsiveness to changes in supply
– price elasticity of demand
• Competition
– survival of the fittest
– new products
– lower costs and prices
• Efficiency
– productive
– allocative
Allocative efficiency
(under perfect competition with no externalities)
MSB = P = MSC
MSB > P  buy more
MSB < P  buy less
Until MSB = P
MSC < P  produce more
MSC > P  produce less
Until MSC = P
Thus in equilibrium MSB = MSC
Market failures
• Externalities
– External costs of production
– External benefits of production
– External costs of consumption
– External benefit of consumption
External costs in production
Costs and benefits
MSC
P
MC = S
D
External cost
O
Q2
Social optimum
Quantity
Q1
Market failures
• Market power
– Monopolies and oligopolies
– Aim to make demand less elastic
• Restricting competition
• Product differentiation
– The case of supermarkets
UK supermarket food market share (2006)
Other
17.4%
Tesco
30.6%
Waitrose
3.8%
Somerfield
4.3%
Morrisons
11.3%
Sainsbury's
15.9%
Asda
(Wal-mart)
16.7%
Market failures
Market power:
the case of supermarkets
– Barriers to entry
• Buying up plots of land
• Exclusive deals with suppliers
– Relationships with suppliers
• Makes it harder for convenience stores
to compete
– Lack of effective price competition
• Higher prices in areas where there is
less competition
• Predatory prices where there is
– Attempts to drive out competition
• Entry to convenience store market
Equilibrium of industry under perfect competition and
monopoly: with the same MC curve
£
MC ( = supply under
perfect competition)
Comparison with
Perfect competition
P1
P2
AR = D
MR
O
Q1
Q2
Q