Basic Economics

Theory of Firms

Profit Maximization (when marginal revenue = marginal costs)

• profit = revenue - costs
• marginal revenue = change in total revenue from selling one more unit.

Price competition

• large number of buyers / sellers, identical products, perfect market information, freedom to enter / exit the market, firms are profit maximizing
• advantages (can general increased output and decreased price, produce at minimal unit costs)

Monopoly

• 1 supplier, large number of buyers, long term barriers to enter, firm is profit maximizer
• barriers (legal statute confers status, economy of scale, branding, integration - diversity)
• advantages (economy of scale, avoid wasteful duplication, supernormal profit, no price discrimination)

Oligopoly

• few large suppliers, significant barriers to entry, firms are interdependent
• sticky prices (competitors follow changes)
• • price leadership (change in industry costs such as interest rates)
  • price wars (drop price to force competitors out)
  • non price competition (advertising - informative, persuasive)

The Economy

There are two approaches:

1. Demand side (Keynesians) - promote state involvement in macroeconomic management
2. Supply side - promote role of private sector

Policy tools

1. Fiscal Policy (adjusting government spending (G) and taxes (T))
2. • Keynesians - influence level of expenditure leading to:
   • • Increasing government spending and decreasing taxes = budget deficit or
     • decreasing government spending and increasing taxes = budget surplus
3. Monetary Policy (adjusting money supply and interest rates)
4. • Increasing interest rates will dampen down demand for bank credit
5. Exchange Rate policy
6. • High exchange rates means low import prices and high export prices. This helps inflation.
   • Low exchange rates means high import prices and low export prices. This helps balance of payments.
7. Direct Methods
8. • Prices and tax policies, lending ceilings and import controls