EJC H2Econs Topic7

How to use this set of lecture notes? 1) BEFORE LECTURES – UNDERSTANDING CONTENT - Reference your notes against your H2 syllabus. Mark out the key concepts so that you know what you MUST know - Read your notes ahead so that you can focus on listening and capturing additional notes during lectures 2) During lectures – APPLYING CONTENT - Bring your hard copy notes along, and use your PLDs to refer to the lecture slides concurrently - Capture additional notes, especially the real -world examples where you can note down how concepts are applied and how economic analysis are developed in varying contexts - You should make use of a notetaking/consolidation tool to take notes during lessons and to consolidate your learning at timely junctures. Examples are M iro, Notion, Goodnotes, Notability, Microsoft OneNote, KAMI, etc. The choice is yours! 3) After Lectures – TUTORIAL PREPARATION to use content flexibly to show application, analysis and evaluation skills - Revise concepts relevant for the case study and essay questions - Refer to the notes and use it flexibly to prepare your answers to meet question requirements. Pure memorisation will not work as it does not involve deep understanding. - Do share your notes with your friends to multiply learning!

Essential Questions: 1. What decisions do firms make? 2. What factors influence a firm’s decisions? 3. What are the different impacts of a firm’s decisions? Introduction to Firms and Decisions: Characteristics, Strategies & Impacts 1. Characteristics 1.1 Perfect Competition 1.2 1.3 1.4 Monopoly Monopolistic Competition Oligopoly 2. Strategies 2.1 2.2 Pricing Strategies Non-Pricing Strategies 3. 3.1 3.2 3.3 Impacts Impact on Consumers Impact on Firms Impact on Society Summary Table CONTENTS

Introduction to Firms and Decisions: Characteristics, Strategies & Impacts How exciting are these times! We are living in an age with disruptive technologies that have changed the rules of the game for many firms. We have seen emergence of the sharing economy where firms like Grab and Airbnb have provided excellent alternatives to taxis and hotels respectively. The incumbent firms, once basking in their dominant market power, are now faced with competition like never before. What insights could we glean from economic theory? Firms (recall Topic 1 on the Central Economic Problem) aim to maximise profits and must make various decisions —such as pricing of their products and adopting non-price strategies, etc. These decisions differ across firms due to varying levels of competition. Understanding key characteristics and behaviours of different firms will help you better understand and appreciate such decisions. Spectrum of Market Competition Economists generally classify the four market structures (perfect competition, monopolistic competition, oligopoly, and monopoly) based on characteristics. Each form of market structure is unique (with perfect competition and monopoly representing the extremes). The market structure has a direct impact on the firm’s economic strategies, which in turn affects its market impacts. Therein, feedback effects occur such that market impacts may influence strategies and characteristics, or strategies may affect the market structure. We will adopt the CSI framework: Characteristics-Strategies-Impacts framework to understand each market structure type. *Imperfect competition Perfect competition Monopolistic competition Oligopoly Monopoly Decreasing level of competition Market structure is defined as the way in which a market or industry is organised.

Characteristics-Strategies-Impacts (CSI) Framework Figure 1: Theme 2.2 Concept Map 1. Characteristics 1.1 Perfect Competition Perfect competition is a theoretical model where other less competitive real - world markets are benchmarked against. While such a market in its purest form does not exist, there are some industries that come very close to being perfectly competitive: some commodities and agricultural goods markets ( e.g., wheat market). A perfectly competitive industry is characterised by the following: a. Barriers to entry - Freedom of entry into and exit from the industry Barriers to entry (BTE) are anything that prevents or impedes the entry of firms into an industry and thereby impacts the profits that firms can make in the long run. Freedom of entry means there are no barriers to prevent a new firm from starting a business in the industry if it so wishes. In a perfectly competitive industry, assuming perfect information exists and where there are no barriers to entry, it is easy for any potential entrant to gain access to information on production processes as well as information on rivals. Any existing firm can also easily cease production and leave the industry if it so wishes. The extent of BTE can thus explain the number and size of firms in a market.

b. Number and size of firms In a market where there are a large number of sellers, the output of every seller is a very small and insignificant port ion of the total market share. An individual seller is in no position to influence the market price of the good by varying its own output. Hence, every seller in a perfectly competitive market is a price-taker. c. Nature of product - homogeneous product The product in a perfectly competitive market is exactly the same in every aspect, i.e., the size, shape, quality, colour etc. The product of any producer is a perfect substitute for the products of other producers. Since each firm is producing an identical product, when one producer increases the price of his product, all consumers will switch to other producers. On the other hand, firms would not lower the price of the good as it is more profitable for each firm to sell whatever quantity it wishes at the given price. 1.2 Monopoly A monopoly refers to a market with a single dominant seller . The pure monopoly hence does not have any rival firm to contest with. Characteristics a. Barriers to entry – High barriers to entry High barriers to entry protect firms from competition, allowing monopolies or oligopolies to maintain market power by preventing new entrants. One means of doing so is to erect barriers to entry which are legal or natural impediments protecting a firm from competition from potential new entrants. • Costs – High startup costs Certain production processes require a huge amount of startup infrastructure and R&D costs before production can happen. This makes it more likely for a single producer to supply the entire market and hence enjoy a lower average total cost of production due to the opportunity to reap internal economies of scale. Due to the huge capital outlay involved with low average cost of production, this effectively bars potential entrants with insufficient capital funds. Example of such industries are aircraft and shipbuilding industries. • Financial barriers – Financial credibility Usually, a firm which requires huge capital funds may also be large and hence have more financial credibility to the banks. This may allow them to have a lower interest rate for the loans made, acting as a financial barrier to entry to its potential competitors. • Access to inputs and markets - Controlling supply chain Controlling the supply chain is another way which a firm can create barriers to entry, and this may involve controlling the supply of inputs

(i.e., upstream) or controlling the distribution/retailing of the product (i.e., downstream). Controlling of key inputs enables a firm to create BTE by denying new entrants’ access to such resources. For example, South African diamond producer De Beers, at one time controlled most of the world’s diamond mines, thus preventing entry of new diamond suppliers. Controlling re