TMJC 2022 A Level H2 EQ1

2022 A Level H2 Economics Suggested Answers to Paper 2 EQ1 © TAMPINES MERIDIAN JUNIOR COLLEGE Essay Question 1: Economists usually begin their analysis of decision-making by firms by assuming that the objective of a firm is to maximise its profit. In reality, however , there are many different objectives that a firm might adopt. (a) Explain the likely effects on a firm’s price and output when its objective changes from profit maximisation to profit satisficing. (b) Discuss the most appropriate strategy that a firm could adopt if its objective was to reduce the competition that it faces. Suggested Answer: Part (a) Introduction: [Definition] Profits = Total revenue – total cost. All firms ultimately, or traditionally, aim to maximise profits. However, in reality, firms do not necessarily set price and output at profit -maximising levels and may set price and output at profit satisficing levels, due to lack of information or violati on of the ceteris paribus assumption, or unwanted attention from the government. Body/ Development: Topic sentence: For firms to maximise profit, they would produce and set prices where Marginal Cost is equivalent to Marginal Revenue ( MC=MR), and where MC cuts MR from below. Explain with economic analysis: MC is the change in total cost as a result of producing an additional unit of output. It shows the extra cost of producing an additional unit of output. On the other hand, MR is the additional revenue gained by selling one more unit of output. Assuming that the firm is a large, dominant firm, Figure 1 shows the profit-maximising price and output, ceteris paribus.

2022 A Level H2 Economics Suggested Answers to Paper 2 EQ1 © TAMPINES MERIDIAN JUNIOR COLLEGE If the firm produces OQa where MR > MC, then producing the last unit of output adds more to revenue than to cost. This implies that the firm should increase its output till Q1 where MR = MC. Hence the total profit of the firm could be increased by producing another unit of output. Conversely, if the firm produces OQb where MR < MC, then producing the last unit of output adds more to cost than to revenue. This implies that the firm should reduce its output till Q1 where MR = MC. Total profit could be increased if the last unit of output were not produced. Thus, profit (area P1ABC) is maximised when the firm produces OQ1 where MC = MR provided MC cuts MR from below. Topic sentence: The firm’s price may rise a nd output may fall when its objective changes from profit maximisation to profit satisficing. Explain with economic analysis: Rather than trying to maximise profits, firms may aim to profit satisfice where managers aim for a profit level that will keep shareholders happy. This may be because they are reluctant to accept the increased risks and pressures associated with fiercely competitive policies, or because they are seeking to satisfy not only shareholde rs but also other stakeholders