gce as a lev stud guid economics course companion a21

8/8/2019 Gce as a Lev Stud Guid Economics Course Companion a21

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Student Guidance

EconomicsCourse CompanionUnit A2 1: Business Economics

REVISED GCE AS & A Level

For frst teaching rom September 2008

For frst award o AS Level in Summer 2009

For frst award o A Level in Summer 2010


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Unit A2 1: Business Economics

People of the same trade seldom meet together, even for merriment and discussion, but the

conversation ends in a conspiracy against the public, or in some contrivance to raise prices.

Adam Smith

What is this unit about?

In this unit you will develop the knowledge you gained in AS1 by looking at how businesses use

scarce resources to produce goods and services. You will learn to calculate costs and revenues and

will examine the decision making process of firms in both the short run and the long run.

You will study the different objectives of firms and analyse how these objectives influence their

behaviour.

You will investigate different market models and evaluate their usefulness in explaining real world

market behaviour.

You will learn how to measure market concentration and consider some of the methods used by

government to deal with market dominance.

Finally, you will examine the environmental impact of business behaviour and investigate the main

government policy instruments for environmental protection.

What are the main topics I need to study?

The exact number and sequence of topics you will study in this unit will depend on how yourteacher decides to organise the course. However the content is organised, you should always try

and relate the concepts and theories you study, to real world events and issues. It is likely that this

unit will follow a structure similar to the one below.

1 Production and its costsIn this section you will learn about:

the distinction between the short run and the long run; the law of diminishing returns; the distinction between fixed and variable costs; total, average and marginal costs and revenues; economies and diseconomies of scale; and external economies and diseconomies.


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2 The growth of the firmHere you will examine the:

methods by which firms may grow; and reasons why firms grow.

3 The objectives of firmsIn this section you will learn about:

the assumption of profit maximisation and its usefulness; how business objectives can be affected by a range of stakeholders; and other possible business objectives such as the maximisation of revenue or managerial utility.

4 Market structures and behaviourHere you will examine the main features of different types of market and how they affect firmsbehaviour. This includes the concepts of:

perfect competition; monopoly; oligopoly; monopolistic competition; contestable markets; price and non-price competition; and productive and allocative efficiency.

5 Market dominance and competition policyIn this section you will learn about:

how market dominance can be measured by concentration ratios; and how competition policy can be used to deal with market dominance and a lack of

competition.

6 Business and the environmentHere you will examine the:

environmental impact of business activity; the benefits of greater environmental awareness for business; and the different policy options the government can use to protect the environment.


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What areas cause students particular problems?

Though most students find the content of this unit to be topical and interesting, there are certain

areas which some students find particularly challenging. These problem areas are discussed below:

Short-run and long-run costs

One error that students often make is to confuse the law of diminishing returns with economies of

scale when attempting to explain the shape of the short-run or long-run average cost curves.

Though both the short-run and long-run and average costs curves may be U-shaped, they have this

shape for very different reasons.

The short-run average cost curve is U-shaped because of the law of diminishing returns. This law

states that as more and more of a variable factor is added to a fixed amount of another factor, the

marginal product will eventually diminish. When the marginal product falls below the average

product of the variable factor, the average product falls and average variable costs start to rise.

The law of diminishing returns only applies in the short run as it is only in the short run that at least

one factor input is fixed.

In the long run, all factor inputs are variable and therefore the law of diminishing returns does not

apply. The reason the long-run average cost curve is typically U-shaped is because of increasing

and decreasing returns to scale. Increasing returns to scale occur when output increases faster than

inputs of the factors of production as the scale or capacity of a business increases. Decreasing

returns to scale occur when output increases more slowly than inputs of the factors of production as

the scale or capacity of a business increases.

Increasing returns are explained by the existence of economies of scale. Decreasing returns are

explained by the existence of diseconomies of scale,

Measuring market share and the degree of concentration

While most students are able to use the market share test to determine the monopoly power of a

firm, some students seem to have difficulty explaining how market share is measured and with

analysing the problems associated with trying to accurately measure it.

Market share is defined as the proportion of total sales in a market that is accounted for by a

particular brand, product or company. It is normally calculated by taking a companys salesrevenue and dividing it by the total value of sales in that particular market. Alternatively it can be

calculated by taking the companys total volume of sales and dividing it by the total volume of units

sold in that market.


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Concentration ratios

Concentration ratios are the most common method of measuring the combined market share of the

top firms in an industry and are therefore used to measure the degree of concentration in an

industry.

If the market leaders account for a large proportion of the market, the market is described as highlyconcentrated. By contrast where the market leader has a small proportion of the market, the market

could be described as highly competitive.

Concentration ratios can help to tell us what type of market structure we are dealing with and are

used by the Competition Commission to determine if an industry is monopolistic, oligopolistic or

competitive.

For example, if the top four firms in the industry account for more than 60 % of the market then we

could class the market as being oligopolistic. If one firm had more than 25% of the market, then we

could class that firm as a monopolist. If a firm had more than 40% of the market, then the firm

would be regarded as having a dominant position.

While these estimates of market share or market concentration are very useful in helping us

determine the degree of competition in an industry, they are not without their problems. For

example, the figure calculated will vary according to whether it is based on the value of sales or the

volume of sales. To illustrate this, consider the likely market share for Mercedes. It should be

fairly obvious that a calculation of market share based on the value of sales would give a much

higher figure than one based on the volume of sales. This is because Mercedes is likely to sell

significantly less cars than firms such as Ford. However each unit sold by Mercedes is likely to be

of a much higher value.

Another difficulty encountered when trying to measure market concentration is in defining the

parameters of the market. When trying to get an accurate measure of market share, it is important

that the market you are dealing with is clearly defined in terms of both the geographical boundaries

and the product boundaries. For example, when trying to measure the market share of a company

like Tesco, you need to consider whether the market you are measuring is for food, groceries or

consumer goods.

You also need to consider whether the market you are measuring is the local market, the regional

market or the national market. For example, while Tesco has a UK national market share of

approximately 28%, its market share may be significantly larger in some smaller geographical

areas.


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Evaluating market models

While most students are able to accurately analyse the short-run and long-run equilibrium positions

of firms in different market models, many find it difficult to evaluate the usefulness of these models

as a predictor of real world behaviour.

When studying the theory of the firm it is important to remember that the models are simplificationsof reality which can be used to help us to understand what may be happening in the real world.

However as with all economic models, these models are based on assumptions that may not occur

or be fully met in reality. Therefore not all industries or firms will act in exactly the same way or

behave in the way that the model predicts.

This is not to say that the models are of no use to economists. On the contrary, these models are

still useful as they allow us to make predictions about real world behaviour. We can then compare

these predictions with our real world observations. This will then give us a basis for analysis and

evaluation of the real world situation. Models therefore act as a benchmarkagainst which firms

and industries can be compared. For example, does the information about a particular firms costsand revenue suggest that it is operating in a competitive, oligopolistic or monopolistic industry?

Remember that models are simplifications of reality that help us to understand a very complicated

real world; they are not reality itself!

How will I be assessed?

Assessment at A2 is a step up from what you experienced at AS level. It is intended to stretch you

and be more challenging. You are expected to deal with less familiar contexts and more complex

information. There is a greater emphasis on analysis and evaluation and less on pure knowledge

and understanding. Questions are less structured and more open-ended giving you scope to answerin a variety of ways. Some of the questions may require you to make links with other sections of

the course.

Assessment for this unit consists of a 2 hour examination which you will sit either in January or in

June. The examination will consist of two sections: an unseen case study section and an essay

section, each of which will carry 40 marks (50% of the total marks for the paper).

While there is no hard and fast rule, it is suggested that you should spend at least half the

examination time on the case study section. You need to take into account that you have more

material to read on this section. However, you still need to leave sufficient time to choose which

essay question you are going to attempt, and to plan and write your essay. It is suggested that youspend at least 50 minutes on the essay section of the paper.


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Case study

The case study consists of a small number of pieces of source material about a particular topic,

theme or issue. The source material may be a mixture of written information such as newspaper or

magazine articles and/or charts or graphs.

You will be asked four questions which relate to the source material. One of the questions in thispart of the paper will require a relatively short answer while others will require you to write at

greater length.

In this part of the paper you may be required to analyse and interpret written, numerical,

diagrammatic and graphical data. This may require you to make calculations such as percentages

and percentage changes and to handle index numbers. The final question will normally require you

to demonstrate your ability to evaluate a particular viewpoint or opinion.

Essay

In the essay section you will be required to answer one structured essay from a choice of three.Each essay will be broken down into two parts.

Part (a) will assess knowledge and understanding and application and analysis will carry 15

marks.

Part (b) will also test application and analysis but will have a particular emphasis on evaluation

andjudgement and will carry 25 marks.

Quality of written communication

All questions, other than the first in the case study section, will require you to write extended

answers. Assessment of your answers to these questions will take into account the quality of your

written communication. This does not mean that you have to write elegant phrases with long words

to earn high marks. However it does mean that you should take care with your spelling,

punctuation and grammar and that you should use economic vocabulary accurately.

You should try to express your ideas clearly and concisely and present your arguments logically and

coherently. You should always write in sentences and paragraphs and avoid lists of bullet points

unless you are short of time to complete a question.

Diagrams can be a valuable feature of many answers, helping to clearly illustrate the points you aremaking. However, you must make sure that you draw and label your diagrams accurately and

clearly and that you explain what they are showing.


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How can I make the most of my ability?

Economics affect the lives of everybody. To develop real understanding you need to relate what

you study in class to national and international economic events and issues that are reported in the

media. Following the tips below will help to develop your interest and understanding of the content

of this unit.

Follow the news: Business economics features every day on TV, radio and in the papers. Payingattention to the economics and business sections of the news will not only increase your

understanding but give you examples you can use in exams.

Use the internet: There is a great deal of valuable information about business economics on the

internet but you need to be selective in how you use websites. Tutor2u has very useful sections and

good discussions in its Economics Blog. The BBC and Guardian economics and business sites are

also very helpful with illuminating discussions, debates and examples. There are many other useful

web addresses in the CCEA Resource List.

Read around the subject: There are a number of excellent textbooks, magazines and journalsavailable which cover the content of this unit in detail. The resource list that follows covers some

of the most commonly used textbooks and other sources of information which are available.

However, this should not be interpreted as prescribing particular resources. For more advice,

consult your teacher. Reading around what you discuss in class is an excellent way of broadening

and deepening your understanding.

Be organised: There is quite a lot of content in this unit, but you should already be familiar with

some of the key ideas and concepts from your study of Unit AS 1 on Markets and Prices. Make

sure that you organise your notes effectively so that you cover each of the main sections. There are

more detailed Study Tips on the CCEA Economics micro-site: www.ccea.org.uk/economics/.

Develop good examination technique: Exams can be stressful but by being well prepared and

confident of how you are going to approach the paper, you can minimise the stress and make sure

you give of your best on the day. Following the advice below will help.

Make sure that you thoroughly revise all aspects of the unit content. Do not avoid studyingdifficult topics or try to spot questions. This might mean that you cannot answer some

questions and restrict your choice.

Understand fully what the examiners expect you to be able to do. Familiarise yourself withthe specimen questions and mark schemes that CCEA has produced.

Write practice answers to the different types of question and check them against your notes.Make sure you practise using examples to illustrate your points and arguments.

Remember that the time spent on each question should reflect the mark allocation. Dontspend half an hour on a five mark question and leave yourself short of time to answer

questions with much higher mark allocations.

Only do what the question asks you to do - there are no marks for including information thatthe question doesnt ask for.

Make sure you use the case study information and refer to it in answering Question 1.


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Remember that the final case study question and part (b) of the essay questions willnormally require balanced answers that address both sides of the issue. You need to think

critically and evaluate before coming to a reasoned overall judgement.

This unit is partly about economic theories but it is also about how these theories apply tothe real economy. Be sure to include realworldexamples and provide evidence to support

your arguments.

The exam is not just a test of your knowledge and understanding. It assesses how well youinterpret questions and select relevant information. It examines how effectively you can

analyse and evaluate and how clearly you can communicate your ideas.

Remember! To score highly, you must answer the questions directly. Read and re-read thequestions and make sure you know exactly what they are asking before you start writing.

Think carefully about the command words and what they require you to do, for example,

explain, analyse, critically examine, compare, discuss and evaluate.


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Further resources

Text books

Anderton A G:EconomicsBeardshaw, J et al:Economics: A Students Guide

Begg, D & Fisher, S:Economics and Economics WorkbookCramp, P: Understanding Economic Data

Lipsey, R G & Harbury: C: First Principles of Economics

Maunder, P et al:Economics Explained

Begg, D & Fisher, S:Economics and Economics Workbook

Sloman, J:Essentials ofEconomics

Magazines and journals

Economic Review: www.philipallan.co.uk

Economics Today: www.anforme.co.uk

The Economist: Economist.com

Websites

UK Treasury www.hm-treasury.gov.uk

The Bank of England www.bankofengland.co.uk

The Office for National Statistics www.ons.gov.uk/welcome.htm

The International Monetary Fund www.imf.org

The OECD www.oecd.org

Economic resources on the net www.econwpa.wustl.edu/EconFAQ/EconFAQ.html

The Institute for Fiscal Studies www.ifs.org.uk

The World Bank www.worldbank.org

Competition Commission www.competition-commission.org.uk/

Debt Management Office www.dmo.gov.uk/

Department of Enterprise,

Trade and Investment www.detni.gov.uk/cgi-bin/gethome

Office of National Statistics www.statistics.gov.uk/

OFCOM www.ofcom.org.uk/

OPEC www.opec.org/home/

HSBC UK Economy Explained www.hsbcukeconomyexplained.co.uk/

Oligopoly Watch www.oligopolywatch.com/

The Financial Times www.ft.comThe Times www.the-times.co.uk

The Independent www.independent.co.uk

The Guardian www.guardian.co.uk

The Daily Telegraph www.telegraph.com

The Economist Economist.com

BIZED www.bized.co.uk/

Tutor2U www.tutor2u.net/

BBC Business News http://news.bbc.co.uk/1/hi/business/default.stm

David Smith Economic Blog www.economicsuk.com/blog/000237.html

Freakonomics Blog freakonomics.blogs.nytimes.com/


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Glossary

Allocative efficiency: This occurs when neither too little nor too much of a good is being

produced. Thisis achieved when the cost of producing the last unit of a good is equal to the value

consumers place on that good as reflected in the price they are willing to pay, ie, Price = Marginal

Cost.

Anti-competitive practices: These are strategies used by producers with the aim of restricting

competition in the market. Examples of anti-competitive practices include predatory pricing and

price fixing.

Average cost: The cost per unit of production, ie, total costs divided by output.

Average revenue: The revenue obtained per unit sold, ie, total revenue divided by sales.

Barriers to entry: Those characteristics of an industry which prevent potential competitors from

entering.

Branding: This is the process of giving a particular make of product its own identity.

Break-even: The point at which a firms revenue just covers its costs of production.

Shut-down point: The point, in the short-run, at which a firms revenue just fails to cover its

variable costs.

Collusion: This occurs when firms in an industry agree to set a common price or common

conditions of sale in an attempt to manage the level of competition in a market.

Competition Commission: An independent public body which carries out investigations into

monopolies and mergers in the UK.

Concentration ratios: These are an indication of the degree of concentration of production in an

industry. They measure the combined market share of the top firms in an industry.

Contestable market: A market in which there are low barriers to the entry and exit of firms to and

from the industry.

Diseconomies of scale: The disadvantages of a firm increasing its scale or capacity which lead to

increasing long-run average costs.

Dominant firm: A firm which has a sufficiently large share of the market as to be able to

significantly influence costs and prices in that industry. The Competition Commission defines this

as any firm having more than a 40% market share.

Economies of scale: The advantages of a firm increasing its scale or capacity which lead to falling

long-run average costs.

Equilibrium: A situation in which there is nothing causing the price and output of a firm or

industry to change. A profit maximising firm will be in equilibrium when its marginal revenue

equals its marginal cost.

Fixed costs: Costs of production that do not vary with output.


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Horizontal integration: This occurs when firms which produce similar products or provide similar

services join together. The firms are involved in the same stage of production in the same industry.

Law of diminishing returns: This states that, as more and more of a variable factor is added to a

fixed amount of another factor, the marginal product will eventually diminish.

Long run: The period of time when all factor inputs are variable.

Marginal cost: The extra cost incurred by the production of one extra unit of output.

Marginal revenue: The extra revenue obtained from the last unit sold.

Market: A place or means by which buyers and sellers come together to exchange goods and

services.

Market share: The proportion of total sales in a market that is held by a particular brand, product

or company. It is normally calculated by taking a companys sales revenue and dividing it by the

total value of sales in that particular market.

Merger: This occurs when two firms agree to join together to form one larger business.

Monopolistic competition: This is a market structure in which there are many small firms selling

differentiated products to a large number of consumers. There are few barriers to entry into or exit

from the industry and sellers have some control over the price that they charge.

Monopoly: This is literally a single seller of a good or service with no close substitute.

The Competition Commission defines a monopoly as any firm that has more than a 25% share of

the market.

Negative externality: This occurs when the activity of one economic agent has a negative effect

on the welfare of a third party not directly involved in the production or consumption of the good or

service concerned.

Non -price competition: This refers to all forms of competition other than through the price

mechanism, for example, through branding and promotional activities.

Normal profits: The minimum profit required to keep factors of production in their current use.

Office of Fair Trading (OFT): An independent agency which acts as the UKs primarycompetition and consumer protection authority.

Oligopoly: A situation in which the supply of a good or service is dominated by a few producers

each of whom has some control over the market. The Competition Commission defines an

oligopolistic industryas the market structure in which the top four firms have more than 60% of the

market.

Opportunity cost: The next best alternative forgone when resources are used in a particular way.

Organic growth: The growth of a firm that occurs naturally through increasing sales or turnover.

This excludes any growth acquired as a result of any takeover, merger or acquisition.


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Pareto efficiency: This occurs when resources are allocated in such a way that it is impossible to

make someone better off without making someone else worse off.

Perfect competition: The market structure in which there are a large number of small firms selling

identical products. There are no barriers to entry and, in the long run, the firm can only make

normal profits.

Predatory pricing: This occurs whenever a firm sells its products at a very low price with the

intention of driving competitors out of the market or creating a barrier to entry to prevent potential

competitors from entering.

Price fixing: When competitors agree to maintain prices within a certain limited range so as to

avoid competition on the basis of price and thereby maintain higher profit margins.

Product differentiation: This occurs when a firm modifies its product or service in an attempt to

make it appear different to that of its rivals.

Production: Any economic activity that satisfies human wants.

Productive efficiency: This exists when production takes place at the lowest possible average cost.

Profit maximisation: The assumption that firms organise their business activities in such a way as

to make the maximum profit possible. The profit maximising output of a firm occurs where

marginal cost equals marginal revenue.

Promotion: The activities a firm engages in to communicate with potential consumers and

encourage sales. These include advertising, personal selling, sales incentives and public relations.

Short run: The period of time over which the input of at least one factor is fixed.

Super-normal (or abnormal) profits: Any profit over and above the minimum required to keep

the factors of production in their current use. Super-normal profits are profits which exceed what

an entrepreneur would normally be expected to earn through the employment of a similar

combination of factors of production in that industry.

Sunk costs: Costs which a firm incurs on entering an industry and which it cannot recover if it

wishes to leave.

Variable costs: Costs which vary with output.

Vertical integration: This occurs when firms which are in the same industry but at different stages

in the production process join together. Vertical integration can be forwards towards the market or

backwards towards the source of raw materials or components.


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Revision checklist

Section 1: Production and its costs

At the end of this section you should be able to: NotesDefine and explain the terms: production, short

run, long run, economies and diseconomies ofscale, external economies and diseconomies.

Explain the law of diminishing returns.

Draw short run average and marginal cost curves

and explain their shape.

Derive the long-run average (LRAC) curve for a

firm and explain its shape.

Analyse the main internal economies and

diseconomies of scale and explain their impact on

the LRAC curve.

Analyse the effect of external economies and

diseconomies on the average costs of the industry.

Section 2: The growth of firms

At the end of this section you should be able to:

NotesDistinguishbetween organic growth and growth

by merger or acquisition.

Explain and analyse the different types of

integration.

Analyse and evaluate the motives for growth.


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Section 3: The objectives of the firm

At the end of this unit you should be able to: NotesAnalyse the condition for profit maximisation.

Evaluate the assumption that all firms seek to

maximise profits.

Analyse how other stakeholders might affect the

firms objectives.

Evaluate alternative theories of firm behaviour

including the maximisation of sales revenue, long

run profit and managerial utility.

Section 4: Market structures and efficiency(a) Perfect competition

At the end of this section you should be able to: NotesExplain the conditions necessary for perfect

competition to exist.

Draw diagrams to show the short run and long run

equilibrium position of the perfectly competitive

firm.

Analyse with the aid of a diagram howequilibrium is restored following a change in

market demand or supply.

Evaluate the long-run equilibrium position of the

firm in terms of efficiency.

Evaluate the usefulness of the model of perfect

competition as an explanation of the behaviour of

firms in the real world.


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(b) Oligopoly

At the end of this section you should be able to: NotesExplain the main characteristics of oligopoly.

Analyse why prices tend to be sticky in

oligopolistic markets.

Analyse why oligopolistic firms use non-price

competition.

Evaluate a range of government policies to deal

with oligopoly.

Consider whether oligopoly represents an

efficient allocation of resources.

Evaluate the usefulness of the model of oligopoly

as an explanation of the behaviour of firms in the

real world.

(c) Monopoly

At the end of this section you should be able to: NotesExplain the main characteristics of monopoly.

Draw adiagram to show the equilibrium position

of a monopoly/dominant firm and explain why it is

able to make super-normal profits in the long run.

Analyse the reasons why some firms use price

discrimination and the conditions necessary to

enable them to do so.

Evaluate the impact of price discrimination on

economic welfare.

Consider whether monopoly represents an

efficient allocation of resources.

Evaluate the usefulness of the model of monopoly

as an explanation of the behaviour of firms in the

real world.


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(d) Monopolistic competition

At the end of this section you should be able to: NotesExplain the main characteristics of a

monopolistically competitive industry.

Draw diagrams to show the equilibrium positionof a monopolistically competitive firm in the short

and long runs.

Consider whether monopolistic competition

represents an efficient allocation of resources.

Evaluate the usefulness of the model of

monopolistic competition as an explanation of the

behaviour of firms in the real world.

(e) Contestable markets

At the end of this section you should be able to: NotesExplain the characteristics of a contestable

market.

Analyse the impact contestability has on the

ability of firms to make abnormal profits.

Analyse the impact of contestability on efficiency.

Evaluate the usefulness of the theory of

contestable markets as an explanation of the

behaviour of firms in the real world.

(f) Price and non-price competition

At the end of this section you should be able to: NotesDistinguishbetween price and non-pricecompetition.

Analyse and evaluate the range of pricing

strategies available to firms with market power.

Analyse the reasons why firms use non-price

competition.

Evaluate the effects of the main forms of non-

price competition.


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Section 5: Market dominance and competition policy

At the end of this section you should be able to: NotesExplain the benefits of competition to the

economy.

Explain the role of the OFT, CompetitionCommission and industry watchdogs such as

OFFER and OFCOM.

Explain and illustrate the nature of anti-

competitive practices.

Explain and calculate market size, market share,

market growth and market concentration.

Analyse the problems involved in trying toaccurately measure the above.

Analyse and evaluate the range of policy

measures used to deal with market dominance.

Section 6: Business and the environment

At the end of this section you should be able to: NotesExplain how business activity can have a negative

environmental impact.

Explain how increased awareness of

environmental issues may create market openings

for businesses.

Analyse the impact of government environmental

policy on consumers and producers.

Evaluate the range of policy measures available to

deal with the negative environmental impact ofbusiness.


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gce as a lev stud guid economics course companion a21

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