question
What do people offer in the supply process, and what does the firm do with this?
answer
- in the supply process, people offer factors of production (land, labor, capital)
- firms transform the factors into goods and services for consumers
- firms transform the factors into goods and services for consumers
question
Ultimately, all supply comes from ___________ because they control the factors of _______________.
answer
individuals; production
question
What is a firm? What is the firms role(s)?
answer
- Firm: economic institution that transforms factors of production into goods + services
- Roles:
1) organize factors of production and/or
2) produce goods and services and/or
3) sell produced goods and services
- Roles:
1) organize factors of production and/or
2) produce goods and services and/or
3) sell produced goods and services
question
(Households/Firms) maximize utility, (households/firms) maximize profit.
answer
households; firms
question
What is the formula for profit?
answer
Profit = Total Revenue - Total Cost
question
Explicit costs are ________ expenses.
answer
- direct
-note: these are 'clearly defined costs' (aka expenses you MUST pay)
-ex. wages, insurance bills, taxes, food, etc.
-note: these are 'clearly defined costs' (aka expenses you MUST pay)
-ex. wages, insurance bills, taxes, food, etc.
question
Implicit costs are ALL ______ minus ALL _____, explicit + implicit. Implicit costs are ____________ costs.
answer
- revenues; costs; opportunity
- ex: What could the firm be doing instead? Where else could money have been invested?
- ex: What could the firm be doing instead? Where else could money have been invested?
question
In regards to implicit costs, this means that we could have a situation with positive account earnings, but economic profits are _________ or ___________.
answer
- negative; zero
question
What do zero economic profits mean?
answer
This means that account profits are equal to the opportunity costs.
question
What do negative economic profits mean?
answer
This means that you and your inputs could do better elsewhere.
question
The amount of money that could be earned elsewhere is referred to as ___________ profits.
answer
normal
question
What does short run mean [in the production process]?
answer
- a firm is constrained in what production decisions it can make
- SOME inputs are fixed
- SOME inputs are fixed
question
What does long run mean [in the production process]?
answer
- a firm chooses from all possible production techniques
- all inputs are available
- all inputs are available
question
The terms long run and short run do not necessarily refer to specific periods of time, but to the _____________ the firm has in changing its inputs.
answer
flexibility
question
What is marginal product?
answer
- the change in output created by a one-unit change in a particular input (while all other input amounts stay the same)
- Changing the labor amount while keeping the amount of other inputs constant
-Mp = change in output/change in input
- Changing the labor amount while keeping the amount of other inputs constant
-Mp = change in output/change in input
question
What is law of diminishing return?
answer
increases in output get smaller as one or more input is utilized (all other input amounts stay the same)
question
What is average product?
answer
- total product divided by amount of a particular input utilized
- AP = output/input
- AP = output/input
question
What are the relations between marginal product and average product?
answer
- MP > AP; AP must be RISING
- MP < AP; AP must be FALLING
- MP = AP; AP is at its MAXIMUM
- MP < AP; AP must be FALLING
- MP = AP; AP is at its MAXIMUM
question
What are the two types of costs?
answer
fixed and variable
question
What are fixed costs?
answer
- constant for any level of output; a fixed cost is an expense for something that you must have in order to produce any amount of output; the expenses does not change if the level of output changes.
question
What are variable costs?
answer
- change as output changes
- increases as output increases b/c more variable inputs are used to produce more output
- increases as output increases b/c more variable inputs are used to produce more output
question
What is total cost?
answer
- combines fixed cost with variable cost for each level of output
question
What are marginal costs?
answer
- the additional cost incurred to produce one more unit
- MC = (change in total cost) / (change in output) aka (change in total cost) / (change in q)
OR
- MC = change in (fixed cost plus variable cost) / change in q aka (change in variable cost) / (change in q)
- MC = (change in total cost) / (change in output) aka (change in total cost) / (change in q)
OR
- MC = change in (fixed cost plus variable cost) / change in q aka (change in variable cost) / (change in q)
question
What is average costs?
answer
Total Cost / q
question
What is the relationship between marginal cost and average cost?
answer
- MC < AC ; AC must be FALLING
- MC > AC ; AC must be RISING
- MC = AC ; AC is at its minimum
- MC > AC ; AC must be RISING
- MC = AC ; AC is at its minimum
question
The variable and total cost curves are ________________ (upward/downward) sloping.
answer
upward
question
Increasing output increases ____________ costs and ____________ cost.
answer
variable; total
question
The fixed cost curve is always ___________.
answer
constant
question
T or F: Increasing cost curve does NOT change fixed cost.
answer
True
question
The average fixed cost curve is ________________ (upward/downward) sloping.
answer
downward
question
T or F: Increasing output decreases average fixed cost.
answer
True
question
What shape is the marginal cost, average variable cost, and average total cost curves?
answer
U-shaped
question
Increasing output initially leads to a ______________ in marginal cost, average variable cost, and average total cost, but eventually they _____________.
answer
decrease; increase
question
What causes marginal and average product to fall?
answer
law of diminishing production
question
As average and marginal production fall, ______________ and ____________ costs rise.
answer
average; marginal
question
Where does the marginal cost curve go through?
answer
the minimum points of the ATC and AVC curves
question
Will a change in fixed costs change total cost?
answer
yes
question
Will a change in fixed costs change total variable costs?
answer
no
question
Will a change in fixed costs change average costs?
answer
yes
question
Will a change in fixed costs change marginal costs?
answer
no
question
Marginal cost is the slope of _____________.
answer
the total cost curve
question
With increasing marginal cost, if marginal cost is equal to average cost, average cost at this point must be ______________.
answer
at its minimum point
question
Variable cost ______________ while fixed cost ______________ as output ______________ in the short run.
answer
rises; stays the same; increases
question
What is the long run [in regards to inputs, productions, and costs]?
answer
- a time period long enough to allow a firm to change all of its inputs
question
What are the implications with the long run?
answer
- the firm will have different choices compared to the short run and will be able to choose different combinations of inputs for any level of input
- firms will want to choose the lowest cost combination of inputs for any given output level.
- firms will want to choose the lowest cost combination of inputs for any given output level.
question
How do you denote capital and labor?
answer
- capital (K)
-labor (L)
-labor (L)
question
A firm can use capital (K) or labor (L) to produce output. How does the firm decide which inputs to use?
answer
the optimal input combination will be the lowest cost combination that we can use to produce our decided level of output
question
How do we find the optimal input combination?
answer
by using marginal analysis and examine the productivity and the cost of inputs
question
What are diminishing marginal returns?
answer
proportionally smaller profits or benefits derived from something as more money or energy is invested in it.
question
How does the firm decide on input?
answer
to make the decision, the firm must compare the marginal production of inputs per dollar spent on those inputs
question
Do we want the marginal productivity of capital (MPK) to be (less than/greater than/equal to) the marginal productivity of labor (MPL) per dollar?
answer
greater than
question
What is the optimal combination for input choice?
answer
(marginal productivity of labor) / wage = (marginal productivity of capital) / rental rate aka cost of capital
question
What does it mean when
(marginal prod. of labor) / wage > (marginal prod. of capital) / rental rate aka cost of capital
(marginal prod. of labor) / wage > (marginal prod. of capital) / rental rate aka cost of capital
answer
this means we need more LABOR
question
What does it mean when
(marginal prod. of labor) / wage < (MPK) / rental rate aka cost of capital
(marginal prod. of labor) / wage < (MPK) / rental rate aka cost of capital
answer
this means we need more CAPITAL
question
What is true about the long run model of the firm?
answer
all inputs are variable
question
If a firm hires more labor while keeping physical capital consistent, then the firm will eventually see...
answer
diminishing marginal productivity of labor
question
When output grows to a larger level, more __________ is required, and the firm will be on a new average cost curve.
answer
capital
question
What are economies of scale?
answer
- occurs when average costs fall as a firm grow
- examples: car production, mail delivery, commercial airlines, public utilities
- examples: car production, mail delivery, commercial airlines, public utilities
question
What are DISeconomies of scale?
answer
- occurs when average cost increases as the firm grows
- when a firm grows very large, it may have new additional expenses
- example: needing mid-level or regional managers, HR department, transportation expenses for multiple facilities, etc.
- when a firm grows very large, it may have new additional expenses
- example: needing mid-level or regional managers, HR department, transportation expenses for multiple facilities, etc.
question
T or F: In reality, many firms experience some economies of scale at small output levels.
answer
True, BUT the effect does not persist, and the firm will then experience constant returns to scale, and eventually DISeconomies of scale
question
U-shaped Long Run Average Cost Curve
answer
Left side of U: economies of scale
Middle/Bottom of U: constant ret. to scale
Right side of U: diseconomies of scale
Middle/Bottom of U: constant ret. to scale
Right side of U: diseconomies of scale
question
If the long run marginal cost is.... Then LRAC are...
answer
- if the long run marginal cost (LRMC) is below the average, then LRAC is FALLING.
- if the LRMC is above the average, then LRAC is rising.
- if the LRMC is constant and equal to the average, then LRAC is NOT CHANGING>
- if the LRMC is above the average, then LRAC is rising.
- if the LRMC is constant and equal to the average, then LRAC is NOT CHANGING>
question
Suppose that as a firm grows, it is able to use larger-volume equipment in production. This will likely result in...
answer
economies of scale
question
Long run costs are always less than or equal to short run costs b/c...
answer
- in the long run, all inputs are flexible
- in the short run, some inputs are fixed
- in the short run, some inputs are fixed
question
True or False: The long run marginal cost cure is a collection of points from the short run marginal cost curves.
answer
True
question
The long run average total cost curve is an ______________ of the short run average total cost curves.
answer
envelope
question
Changes in production resulting from improvements in _______________ or lowering the price of inputs will change long-run costs just as they change short-run costs. Both will result in the cost curves shifting _________________. That is, any level of output can be produced at a ____________ cost.
answer
technology; downward; lower
question
As prices of inputs increase, total costs _____________ and thus at each level of output, average costs ____________. This would be graphed as an _____________ shift of the cost curves.
answer
increase; increase; upward
question
In the long run, the choices for a firm are different than in the short run. Now all inputs are _____________. A firm must choose not just how much labor to use, but it must choose how much land, capital, and ___________, that is, all of its inputs, to use.
answer
variable; labor
question
Industries that are dominated by large firms often find that the average cost of goods or services is less with substantial production. Small firm industries find that average cost does not fall as the size of the firm _______, in some cases, find that ____________ cost increases.
answer
expands; average
question
In the short run, average cost initially _______ as output increases, partially b/c total ______ cost is spread over larger quantities of output. As output continues to increase, average cost eventually increases b/c of ______________ _____________ _________________.
answer
declines; fixed; diminishing marginal returns
question
There are no fixed costs in the _________ run, and b/c we are increasing all inputs, the law of diminishing marginal returns does not apply as we expand ___________.
answer
long; output
question
Define constant returns to scale.
answer
long-run average total cost remains constant as the quantity of output increases
question
Why would a firm choose to grow so large that its average costs go up.
answer
profits
question
Suppose a firm doubles its inputs in the long run and as a result, output doubles. The firm is.....
answer
The firm is experiencing constant returns to scale.
question
Economies of scale happen when increases in output result in ______________.
answer
lower average costs
question
What is the main source of diseconomies of scale?
answer
Limited ability to manage and coordinate larger amounts of inputs
question
In the long run, firms can vary _______________.
answer
all inputs
question
A long-run average cost curve that keeps rising through all levels of possible outputs represent which effect?
answer
diseconomies of scale
question
In the long run, marginal cost will be __________ average cost if the firm is experiencing economies of scale.
answer
below
question
An increase in the prices of an input will cause long-run average costs to ___________.
answer
increase
question
Characteristics That Define Market Structure:
1.
2.
3.
4.
1.
2.
3.
4.
answer
1. number of firms (and buyers)
2. product differentiation (ex. homogeneous product: corn, differentiated product: pizza)
3. Can a single firm influence price?
4. Barriers to entry (Can anyone join the market? Or is there something [economic or legal force] preventing entry?)
2. product differentiation (ex. homogeneous product: corn, differentiated product: pizza)
3. Can a single firm influence price?
4. Barriers to entry (Can anyone join the market? Or is there something [economic or legal force] preventing entry?)
question
Characteristics of a Perfect Market Structure
answer
- many firms
- identical types of products
- no influence over price
- no barriers to entry
- identical types of products
- no influence over price
- no barriers to entry
question
Characteristics of Monopolistic Competition
answer
- many firms
- differentiated types of products
- some influence over price
- no barriers to entry
- differentiated types of products
- some influence over price
- no barriers to entry
question
Characteristics of Oligopoly
answer
- a few number of firms
- identical or differentiated products
- more influence over price
- significant barriers to entry
- identical or differentiated products
- more influence over price
- significant barriers to entry
question
Characteristics of Monopoly Market Structure
answer
- one firm
- only one type of product
- a lot of influence over price
- significant barriers to entry
- only one type of product
- a lot of influence over price
- significant barriers to entry
question
What is perfect competition?
answer
- firms have the goal of profit maximization
- firms are restricted and can only change the market price of the homogenous good being sold.
- ex. farming commodities (rice, wheat, corn, etc.)
- firms are restricted and can only change the market price of the homogenous good being sold.
- ex. farming commodities (rice, wheat, corn, etc.)
question
How do you (perfect comp.) choose output levels?
answer
- market determines price of good in perfect competition
- however, indiv. firms still choose their own output level
- firms must look for the output level that maximizes profit
pi (aka price) = Q(P-ATC)
- however, indiv. firms still choose their own output level
- firms must look for the output level that maximizes profit
pi (aka price) = Q(P-ATC)
question
What is marginal revenue?
answer
- marginal revenue = change in total revenue per unit of output
- in perfect competition, marginal revenue = market price
- no matter how much a firm sells, it cannot influence price
TR = P * Q
MR = P
- in perfect competition, marginal revenue = market price
- no matter how much a firm sells, it cannot influence price
TR = P * Q
MR = P
question
How does a firm decide to produce or shut down?
answer
- a firm will produce if its earning positive economic profit or zero economic profit
*zero economic profit means firm is doing just as well as its opportunity cost of being in business elsewhere*
- however, a firm might continue to operate if its profits are negative (it may be better to earn a small loss than a large loss, in some expenses can be covered, it may be better to produce some output than shutting down)
*zero economic profit means firm is doing just as well as its opportunity cost of being in business elsewhere*
- however, a firm might continue to operate if its profits are negative (it may be better to earn a small loss than a large loss, in some expenses can be covered, it may be better to produce some output than shutting down)
question
What is competitive firm supply?
answer
- supply curve for a perfect competition firm is just the firm's marginal cost function above the shutdown price
- shutdown price is the MINIMUM of the AVC function
- shutdown price is the MINIMUM of the AVC function
question
How many firms are involved in a monopoly?
answer
one
question
What are the requirements for a monopoly?
answer
- no close substitutes
- barriers to entry (no one can enter and beat them, not just in the present but also in the future)
- barriers to entry (no one can enter and beat them, not just in the present but also in the future)
question
T or F: When a monopoly is making a profit, other firms will enter the market?
answer
False
question
Important Formulas: monopoly
answer
pi = Total Rev - Total Cost
Marg. Rev. = Marg. Cost
MR < P
Total Rev = P * Q
MR = P(Q) + Q*(change in P times just Q divided by change in Q)
Marg. Rev. = Marg. Cost
MR < P
Total Rev = P * Q
MR = P(Q) + Q*(change in P times just Q divided by change in Q)
question
It is best to think of monopolies as picking a quantity, b/c if they pick a price, they are implicitly picking a quantity (and vice versa).
answer
--
question
In a monopoly, if a quantity goes up, _________ goes down.
answer
price
question
What is the equation for marginal revenue (monopoly)?
answer
MR = b + 2sQ
question
In a monopoly, marginal cost equals ______.
answer
quantity
question
Monopolies face a falling marginal revenue curve because when they choose to sell more of their product, they have to cut ________. As a result, they produce a quantity (Q) which marginal benefit of the good to the next potential buyer ___________ marginal cost of the production of the good.
answer
prices; exceeds
question
The monopolist would like to sell to some more buyers, but does not want to decrease the prices for other buyers. If it can, the monopolist will want to charge different people different prices. This is called _________ __________________.
answer
price discrimination
question
What are the three kinds of price discrimation?
answer
- Perfect (1st degree)
- Menu (2nd degree)
- Group (3rd degree)
- Menu (2nd degree)
- Group (3rd degree)
question
Describe perfect price discrimination.
answer
- each unit is sold at a different price
- firm charges each consumer a different price (whatever the consumer is willing to pay)
- no firm can truly do this in practice, but many try
- examples: airline tickets, car dealerships, universities
- the monopolists marginal revenue is now the same as the demand curve b/c if they sell one more unit, they will receive whatever the next-in-line buyer is willing to buy
- D = MR
*IN SUMMARY: CHARGE PEOPLE WHAT THEY ARE WILLING TO PAY*
- firm charges each consumer a different price (whatever the consumer is willing to pay)
- no firm can truly do this in practice, but many try
- examples: airline tickets, car dealerships, universities
- the monopolists marginal revenue is now the same as the demand curve b/c if they sell one more unit, they will receive whatever the next-in-line buyer is willing to buy
- D = MR
*IN SUMMARY: CHARGE PEOPLE WHAT THEY ARE WILLING TO PAY*
question
Describe menu price discrimination.
answer
- the firm knows that the market is made up of different kinds of consumers. some of the consumers are more elastic, others are more inelastic. the firm CANNOT sort them by some easily observable characteristics.
- the firm offers multiple ways in which to buy the production, and lets customers pick which option suits them best. (ex. coupons, surge pricing, bulk discounts)
- more elastic consumers will buy the good at a lower price.
- inelastic consumers won't spend the effort, or do not want to buy very much of the good anyways
*elastic --> lower prices; inelastic --> raise price on them*
- the firm offers multiple ways in which to buy the production, and lets customers pick which option suits them best. (ex. coupons, surge pricing, bulk discounts)
- more elastic consumers will buy the good at a lower price.
- inelastic consumers won't spend the effort, or do not want to buy very much of the good anyways
*elastic --> lower prices; inelastic --> raise price on them*
question
Describe group price discrimination.
answer
- firm knows that market is made up of different kinds of consumers (some are more elastic, others are more inelastic)
- now firm can easily sort them by an easily observable characteristics.
- firm offers different prices to different groups (ex. student and senior discounts, region-locked material, "ladies night" at bar)
- group that is more ELASTIC will get a lower price
- group that is more INELASTIC will get a higher price
- now firm can easily sort them by an easily observable characteristics.
- firm offers different prices to different groups (ex. student and senior discounts, region-locked material, "ladies night" at bar)
- group that is more ELASTIC will get a lower price
- group that is more INELASTIC will get a higher price
question
Any monopolist that can use price discrimination could also choose to offer a ___________ ________. The price discrimination always ________ the monopoly.
answer
single price; helps
question
Describe monopolistic competition.
answer
- has many producers
- a verity of products, each one slightly different (sells a similar thing, but each has its own spin)
- freedom of entry and exit
- lots of information about buyers and other sellers
- ex. local restaurants, hair stylists, local brewery, pubs, novels
- a verity of products, each one slightly different (sells a similar thing, but each has its own spin)
- freedom of entry and exit
- lots of information about buyers and other sellers
- ex. local restaurants, hair stylists, local brewery, pubs, novels
question
In the short run, what are the characteristics of monopolistic competition?
answer
- demand is downward sloping
- MR is also downward sloping
- find the quantity where MR = MC (this is the profit maximization quantity)
- now, find corresponding price on demand curve
- the PROFIT is the area between market price and average cost up to the quantity where MR = MC
- MR is also downward sloping
- find the quantity where MR = MC (this is the profit maximization quantity)
- now, find corresponding price on demand curve
- the PROFIT is the area between market price and average cost up to the quantity where MR = MC
question
In the long run, what are the characteristics of monopolistic competition?
answer
- Positive profit and low entry barriers will attract new players
- new demand and new MR will both become flatter
- find new quantity where MR = MC
- find corresponding new price on demand curve
- new profit shrinks and will ultimately converge to zero
- new demand and new MR will both become flatter
- find new quantity where MR = MC
- find corresponding new price on demand curve
- new profit shrinks and will ultimately converge to zero
question
What is an oligopoly?
answer
- only a few firms producing similar (or differentiated) products
- ex. automobile industry, gasoline industry, banking industry, etc.
- ex. automobile industry, gasoline industry, banking industry, etc.
question
What are the features of an oligopoly?
answer
- significant entry and exit barriers
- products can be homogeneous (ex. crude oil)
- products can be differentiated (ex. cars & trucks)
- few firms are competing and interdependent (one's firm action will influence other firm's profits)
- positive economic profits are possible in both the short run and long run
- products can be homogeneous (ex. crude oil)
- products can be differentiated (ex. cars & trucks)
- few firms are competing and interdependent (one's firm action will influence other firm's profits)
- positive economic profits are possible in both the short run and long run
question
There is no single model of oligopoly behavior. An oligopoly model can take two extremes, _____________ model and __________________ market model.
answer
cartel; contestable
question
What is the oligopoly cartel model?
answer
- combination of firms act as if they were a single firm and monopoly price is set
- if oligopoly can limit entry of other firms, they can restrict output to a level that maximizes profit for cartel.
- output quotas are assigned to individual member firms so that total output is consistent with joint profit maximization
- each member must hold its production below what would be in its own interest, were it not to collude with the others
*cartels are inherently unstable*
*also illegal in the US*
- if oligopoly can limit entry of other firms, they can restrict output to a level that maximizes profit for cartel.
- output quotas are assigned to individual member firms so that total output is consistent with joint profit maximization
- each member must hold its production below what would be in its own interest, were it not to collude with the others
*cartels are inherently unstable*
*also illegal in the US*
question
What is implicit price collusion?
answer
*Note: explicit (formal) collusion is ILLEGAL in US while implicit (informal) collusion is LEGAL*
- implicit price collusion exists when multiple firms make the same pricing decisions even though they have not consulted with each other.
- sometimes the largest and most dominant firm takes lead in setting prices and others follow
- implicit price collusion exists when multiple firms make the same pricing decisions even though they have not consulted with each other.
- sometimes the largest and most dominant firm takes lead in setting prices and others follow
question
What is a contestable market model?
answer
- barriers to entry and exit, not structure of market, determine a firm's price and output decisions
- even if industry only contains one firm, it will set a competitive price if there are no barriers to entry
- much of what happens in oligopoly pricing is dependent on specific legal structure within which firms interact
- even if industry only contains one firm, it will set a competitive price if there are no barriers to entry
- much of what happens in oligopoly pricing is dependent on specific legal structure within which firms interact
question
Compare contestable market structure and cartel model.
answer
- cartel model is appropriate for oligopolies that collude, set a monopoly price, and prevent market entry
- contestable market model describes oligopoly that set a competitive price and have no barriers to entry.
- contestable market model describes oligopoly that set a competitive price and have no barriers to entry.
question
For a firm, the short run is defined as being _______________.
answer
a period of time in which at least one of the firm's inputs it unchangeable
question
What is true about the long run for a firm?
answer
all inputs can be changed
question
Which of the following is an example of a short run decision for a firm?
answer
reducing the number of workers at the firm
question
Which of the following is an example of a long-run decision for a firm?
answer
a car manufacturer builds a new factory
question
The amount of time a firm operates with the ability to make long-run decisions is how long?
answer
differs by industry
question
In the short run, the law of diminishing marginal product is the cause of _____________.
a) higher wage rates
b) decreased firm output
c) diseconomies of scale
d) none of the above
a) higher wage rates
b) decreased firm output
c) diseconomies of scale
d) none of the above
answer
d- none of the above
question
A firm's long-run total cost curve is ___________.
answer
upward sloping
question
As a firm increases output, long-run average costs typically __________________.
answer
fall, hit a minimum, then rise
question
When a firm gets so large that coordination, management of workers, and other inputs become costly and difficult, it is experiencing which of the following?
a- diseconomies of scale
b- diminishing marg. product
c- economies of scale
d - economies of scope
a- diseconomies of scale
b- diminishing marg. product
c- economies of scale
d - economies of scope
answer
a- diseconomies of scale
question
When a firm is experiencing economies of scale, the long-run average cost curve is _________.
answer
downward sloping
question
When can diseconomies of scale occur?
answer
in the long run
question
If the long-run average cost curve is horizontal, it implies that the firm is experiencing _____________.
answer
constant returns to scale
question
Suppose a firm doubles its inputs (therefore doubling its total costs as well). If this firm is experiencing diseconomies of scale, then _________.
answer
output will increase, but less than double
question
Suppose that the cost of all inputs (both labor and capital) decreases. What will happen to the long run cost curve? The curve will _______, illustrating that _______________.
answer
shift downward; any level of output can now be produced at a lower average cost
question
In a perfectly competitive market, a single firm that sets its price a small amount above the market price will do which of the following?
answer
not sell any units at all
question
Why are perfectly competitive markets considered economically efficient?
answer
The opportunity cost of society for making the good is equal to society's value of the good
question
Given all the characteristics of perfect competition, which of the following is the main factor that affects consumers' decisions on which firm to purchase a good from?
answer
price
question
For a firm in a perfectly competitive industry, the demand curve for its own product is ____________.
answer
horizontal at the market price
question
In a perfectly competitive industry, the industry demand curve is ________.
answer
downward sloping
question
For a firm in a perfectly competitive market, average revenue equals __________.
answer
the market price
question
In the theory of firm behavior, we assume that firms attempt to maximize ____________.
answer
total economic profits
question
If a perfectly competitive industry is in long-run equilibrium, then which of the following is true?
answer
price equals minimum average cost
question
Consider the effect on costs of an increase in wages in an economy. What is the increase likely to do?
answer
Increase short run average costs and long run average costs
question
Assume the price of coffee increases. If the market for tea is perfectly competitive and a constant cost industry, what will happen to the tea market in the long run? Output will ______________; prices will ______________; and economic profits will ______________
answer
increase; not change; not change
question
If all firms in a perfectly competitive industry are required to adopt antipollution devices, the long run results would be that the firms would be earning ____________ and the industry will be producing ____________ amounts of output.
answer
zero economic profits; smaller
question
In the short run, perfectly competitive firms will produce where ____________?
answer
price equals marginal cost
question
Assume a constant-cost industry in a competitive market. What are the short-term effects of the following change?
An increase in fixed costs will ______________ the equilibrium price and ______________ equilibrium quantity in the market.
An increase in fixed costs will ______________ the equilibrium price and ______________ equilibrium quantity in the market.
answer
not change; not change
question
Assume a constant-cost industry in a competitive market. What are the short-term effects of the following change?
A decrease in variable costs in the short run will ______________ the equilibrium price and ______________ equilibrium quantity in the goods' market.
A decrease in variable costs in the short run will ______________ the equilibrium price and ______________ equilibrium quantity in the goods' market.
answer
decrease; increase
question
Assume a constant-cost industry in a competitive market. What are the long-term effects of the following change?
A decrease in variable costs in the long run will cause the equilibrium price to ______________ and the equilibrium quantity in the market to ______________.
A decrease in variable costs in the long run will cause the equilibrium price to ______________ and the equilibrium quantity in the market to ______________.
answer
decrease; increase by more than in the short run
question
A monopolistically competitive firm in the long run will produce an amount that is __________ the quantity where the average cost is at a minimum and charge a price that is ______________ marginal cost.
answer
less than; greater than
question
Compare the levels of economic profits in a long-run equilibrium for a perfectly competitive firm, a monopoly, a monopolistically competitive firm, and an oligopoly. Economic profits will most likely be:
answer
zero in perfect competition and monopolistic competition, perhaps positive in a monopoly and perhaps positive in oligopoly
question
Rank each type of market on their PRICES from HIGHEST to LOWEST.
answer
- monopoly
- oligopoly
- monopolistic competition
- perfect competition
- oligopoly
- monopolistic competition
- perfect competition
question
Rank each type of market on their industry QUANTITIES from HIGHEST to LOWEST.
answer
- perfect competition
- monopolistic competition
- oligopoly
- monopoly
- monopolistic competition
- oligopoly
- monopoly
question
OPEC is an example of ___________.
answer
a cartel
question
In which market type do sellers have the highest profit level?
answer
monopoly
question
Define cross-price elasticity.
answer
measures responsiveness of the change in demand for a good to a change in the price of a related good.
*goods with a cross-price elasticity measures the responsiveness*
*goods with a cross-price elasticity measures the responsiveness*
question
Define concentration ratio.
answer
value of sales by the top firms of an industry states as a % of total industry sales
question
What is the Herfindahl Index?
answer
- sum of squared value of individual market shares of all firms in the industry.
- B/c it squares the market shares, it gives more weight to firms with large market shares than does the concentration ratio measure.
- B/c it squares the market shares, it gives more weight to firms with large market shares than does the concentration ratio measure.
question
Define conglomerates.
answer
huge corporations whose activities span various unrelated industries
question
T or F: The four-firm concentration ratio nor the Herfindahl Index gives a complete picture of corporations' bigness b/c many firms are conglomerates.
answer
True
question
What is antitrust policy?
answer
government policy towards competitive process
question
What are the two competing views of competition?
answer
judgment by performance and judgment by structure
question
What does judgment by performance mean?
answer
we should judge competitiveness of markets by the performance (behavior) of the firms in the market
question
What does judgment by structure mean?
answer
we should judge the competitiveness of markets by the structure of the industry
question
What is the antitrust law? Why is it important?
answer
- legislation that restricts deliberate formation of monopolies and prevents firms from engaging in anti-competitive practices.
- we need it b/c it helps to prevent one firm or a few firms from gaining too much market power through anti-competitive practices such as the formation of trusts (agreement between firms to jointly increase prices and cut output)
- we need it b/c it helps to prevent one firm or a few firms from gaining too much market power through anti-competitive practices such as the formation of trusts (agreement between firms to jointly increase prices and cut output)
question
When does illegal price fixing occur?
answer
- whenever two or more competitors agree to take actions that have the effect or raising, lowering, or stabilizing the price of any product or service without any legitimate justification
*note: matching competitors' pricing may be good business, and occurs often in highly competitive markets*
- each company is free to set its own prices (and it is legal) to charge the same price as its competitors, as long as the decision was not based on any agreement or coordination with a competitor
*note: matching competitors' pricing may be good business, and occurs often in highly competitive markets*
- each company is free to set its own prices (and it is legal) to charge the same price as its competitors, as long as the decision was not based on any agreement or coordination with a competitor
question
How large are the merging firms relative to the size of the market in which the firms compete?
answer
department of justice and federal trade commission measures the degree of existing concentration and the amount of change in concentration to determine if the merger will be harmful
question
What does the DOJ (department of justice) use the Herfindahl Index for?
answer
- evaluate the effect of proposed mergers on the competitiveness of markets
- an HHI over 2500 is considered highly concentrated
- between 1000 and 2500 is moderately competitive
- under 1000 is competitive
- an HHI over 2500 is considered highly concentrated
- between 1000 and 2500 is moderately competitive
- under 1000 is competitive
question
Define merger rules.
answer
- if the concentration index is high, then merged firms will have increased their market power significantly and thus made price increases a win-win for the merged firm. That is unlike a low concentration index environment, where a price increase on the part of one firm is likely to result in lower profits.
- if two firms are separate entities, the one firm raising its prices will lose sales to its competitor. That tends to keep prices closer to marginal cost.
- however, if two firms have merged, then sales are not lost but redistributed from part of the merged firms to another, keeping sales within the organization and increasing profits.
- if two firms are separate entities, the one firm raising its prices will lose sales to its competitor. That tends to keep prices closer to marginal cost.
- however, if two firms have merged, then sales are not lost but redistributed from part of the merged firms to another, keeping sales within the organization and increasing profits.
question
What is predatory pricing?
answer
- when a firm lowers prices with some or all customers and causes itself to incur avoidable losses and forgo short run profits to:
drive competitors out of a market
+ prevent entry by one or more potential rivals, in order to increase its own market power, and eventually reduce output and raise prices.
drive competitors out of a market
+ prevent entry by one or more potential rivals, in order to increase its own market power, and eventually reduce output and raise prices.
question
Antitrust law is NOT intended to:
answer
increase pricing power of oligopolies
question
Define natural monopoly.
answer
- a firm that can produce a product for an entire market at a lower cost than a market with many producers can.
- includes public utilities such as electricity and water, phone lines, and cable television, which have high initial fixed costs and low marginal costs
- includes public utilities such as electricity and water, phone lines, and cable television, which have high initial fixed costs and low marginal costs
question
How do you regulate natural monopolies?
answer
- if the costs of providing the service are fixed, the larger the output, the lower the average cost
question
Define marginal cost pricing.
answer
- a price set by a regulator of a natural monopoly equal to marginal cost at the corresponding quantity demanded.
question
Define average cost pricing.
answer
a price, set by a regulator of a natural monopoly, equal to average cost at the corresponding quantity demanded (AKA cost-plus pricing)
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