The Differences Between Diminishing Marginal Returns and Decreasing Economies of Scale - Assignment Example

Name : xxxxxxxxxxx Institution : xxxxxxxxxxx Course : xxxxxxxxxxx Title : Assessment Tutor : xxxxxxxxxxx @2010 1.How does the principal of opportunity cost apply to you attending college? Let’s say you decide to save some expenses by not buying the textbook and study guide for this unit what might be the opportunity cost of that decision? (1 mark) The choice of one item over another results in a person for going something that has value which implies some sort of cost (Raiklin, 2000). Opportunity cost is the worth of the alternative that is relinquished. The opportunity cost of my attending college might be a job. A job is the opportunity cost for college since I relinquished it. The opportunity cost of not buying the textbook and study guide would be more savings for me. Not buying the textbook and study guide would be the opportunity cost of having more savings. 2. For each of the following, draw a diagram that illustrates the effect on the market for cars. Indicate in each case the impact on equilibrium price and quantity: a) The price of petrol, a complementary product, keeps rising Complementary goods are those goods which are used together. It therefore follows that In the event the price of petrol increases the market demand for cars subsequently decreases. From the graph above it is seen that the higher the price of petrol the lower the market of cars. b) There is an increase in the price of compulsory car insurance According to the law of demand; when all else remains constant a fall in the price of a good implies an increase in demand for the good. It is also noted that an increase in the price of a good implies a fall in the quantity of goods demanded. The aforementioned relationship leads to a downward sloping graph (Railin, 2000). A rise in the price of car insurance will imply a reduction in the number of cars in the market. This is because the cost of driving a car will be subsequently increased hence a reduction in the number of cars in the market. c) A technological innovation reduces the cost of production A reduction in production cost will imply an increase in the number of cars in the market. It will also imply a reduction in the price of cars due to the decrease in cost of production. This will result in a shift in the supply curve as shown below. d) A local government imposes a green tax on car ownership (2 marks) An imposition of tax on cars will imply an increase in the price of cars and thus a reduction in the number of cars owned by the population. The quantity of cars in the market will be reduced. This will also result in a shift in supply and ultimately demand. 3. The supply of oil will never actually run out. Why? (1 mark) Oil supply will never get depleted because oil is regenerated as fossils decompose. 4. Under a situation of rent control on units, flats and apartment who actually wins and who loses? What are the long term implications of having rent control? (2 marks) Rent control is geared towards the protection of tenants and as such in the short run tenants are the winners and landlords are the losers. Landlords lose in that they have to charge a specific amount on their units despite the amount of money that they had used in the building of the unit. In the long term, the imposed price will result in the market’s shift to adjust the given supply to reflect the imposed price. In the event of low price charge then the supply of the unit in question will be diminished. In the event of high rent price then the people are inclined to hoard their units since they would not be able to afford units in different areas (McIver & Jackson, 2001). Their hoarding of units would therefore remove the aforementioned housing units from the prevailing market. All in all rent control is deemed in negative light since it reduces new construction and thus leads to the reduction of supply. 5. Why do most governments not place sales tax on those goods which have a high price elasticity of demand? What goods do governments typically tax? (1 mark) The imposition of tax on these goods would result in an unstable market. Taxes are usually imposed on non-food stuffs. 6. The price of computers has fallen significantly in the years since they were first introduced, yet demand for them has increased significantly. Is this a contradiction? Illustrate your answer with a diagram. (2 marks) No. This is in line with the law of demand which states that more of a good will be demanded as its price falls. Below is a representation of a demand curve. From the demand curve, it is noted that, at the low price P1 the quantity demanded is Q1 which is large compared to Q which is demanded at the high price P. 7. Why should a firm continue to produce if it makes no economic profit? (1 mark) So as to facilitate employment and to get back the money it invested. 8. Discuss the main strengths and weaknesses of game theory as a theory of oligopoly behaviour and as an aid to a real world corporate oligopolist in deciding prices and output. (2 marks) Game theory is a yard stick used in the study and determination of the manner in which people react in strategic situations. Consequently Game Theory Model is made use of in the analysis of oligopolists’ behaviour. Game theory is advantageous since it does not have any fixed parameter. This is because decisions are arrived at due to a status quo (McIver & Jackson, 2001). 9. Why should we study perfect competition if it does not actually exist in the real world? (1 mark) Perfect competition is a situation in which the market structure has the following characteristics; the firms in question sell identical products, all the firms in question are price takers, all the firms have a considerably small market share, the buyers in question are aware of the nature of products that are up for sale and consequently the prices that are charged by the firms that offer the services and the industry is also characterised by the lack of restrictions of entry and exit in the market (Klein & Baumann, 2010). The study of perfect competition or pure competition is imperative despite being theoretical in nature. It is made use of as a benchmark against which varied market structures are measured against. 10. Explain how the entry and exit cost in an industry in which there may be only one firm operating affects the level of prices the firm will charge. (1 mark) Since entry into a monopolistic situation is very expensive then the new firm will have to charge very highly for its products. 11. Explain and illustrate with diagrams the differences between diminishing marginal returns and decreasing economies of scale and give some examples. (2 marks) Diminishing marginal returns refers to the manner in which marginal production of a factor of production commences to slowly decrease in the event the factor is increased in contrast with the increase that would normally be expected. For instance in line with the aforementioned relationship, a production system which has fixed and variable inputs (for example the size of the factory and labor) there will manifest an instance in which an additional unit variable (such as man hours) will ultimately result in a slight increase in outputs which would imply a reduction in the worker’s mean productivity. This would result in the production of one more output product thus an increase in the cost. Diminishing marginal returns which is also known as increasing relative cost law is an economic property of production that lays a toll on cost if the number of input factors is added by a given amount. In the event that costs increase proportionately then there are no economies of scale. Consequently, if there is a large increase in the costs then there exist diseconomies of scale. Also in the event that there is a slight increase in costs then there exists an economy of scale which is positive (Klein & Baumann, 2010). The combination of diseconomies of scale and economies of scale yields a firm size theory which states; the costs per-unit decreases until they get to a certain low and then increase proportionally to the firm size. Below is a diagrammatic representation of economies and diseconomies of scale. Economies of scale is the reduction in cost per unit which occurs hand in hand with an increase in output (McTaggart, Findlay & Parkin, 2003). Diseconomies of scale occur due to the inability of a production process not being able to yield the required output. For instance if production requires the utilization of gadgets A and B then diseconomies of scale might be eminent in the event gadget B is manufactured at a slower pace than gadget A. It may also occur when there is an increase in transportation costs. For example the more a firm produces more goods the more it will accrue transportation charges to reach far off areas. 12. More Holden cars have been sold in the last year than any other model of car despite the price of Holden cars has risen. Does this mean that the law of demand does not actually hold? (1 mark) In this case, there is an exception on the law of demand as the Holden car is a Giffen good. A Giffen good is that whose consumption increases hand in hand with its price increase. In this light a giffen good generates a demand curve which is upward sloping since its exceptionally inferior. The good is characterised by an income elasticity of demand which is strong and negative. This is further characterised by the outweighing of the substitution effect and the formulation of perverse demand curve due to price changes (Waud, Hocking & Ward, 1996). 13. Why have western governments introduced a price for carbon emissions. Is there ,however, a prisoner’s dilemma at play in explaining why some countries are reluctant to charging a price for carbon emissions? (3 Marks) Price for carbon emissions has been implemented by the imposition of tax on the burning of fossil fuels such as coal, aviation fuel, natural gas and petroleum products for instance gasoline. Price for carbon emissions has been put up so as to help in the reduction of global warming (McIver & Jackson, 2001). Some countries have not embraced price for carbon emissions since carbon tax leads to an increase in the competitiveness of technologies that are not carbon related and whose technology and use are more expensive as compared to carbon emitting fuels. The non-carbon technologies include; sunlight, wind, hydropower and nuclear. References: Raiklin, E. (2000). Graphing and Slopes. [Online]. 40 (4) pp. 10-13 [Accessed 7th April 2010]. Available at: http://www.humboldt.edu/^economic/econ104/scarcity/ Jackson & McIver (2001). Microeconomics. McGraw-Hill. R.N. Waud, A. Hocking & I. Ward (1996). Microeconomics. Longman. D. McTaggart, C. Findlay & M. Parkin (2003). Microeconomics. Addison-Wesley. G. Klein & Y.Bauman (2010). The Cartoon Introduction to Economics. Hill and Wang. Read More