REVISION UNIT 2 – BUSINESS ECONOMICS
1. PRODUCTION & PRODUCTIVITY
FACTORS OF PRODUCTION: resources (land, labour, capital, enterprise) used to produce G/S
PRODUCTION: converting resources into G/S (Output) to satisfy people's needs and wants.
• Capital intensive production: firms use more capital than labour to produce G/S
• Labour intensive production: firms use more labour than capital to produce G/S
PRODUCTIVITY: Output produced per unit of input (land, labour, capital) in a given time.
Factors of
production
LAND
DEFINITION
Physical land and Natural resources
∙ Non-renewable: cannot be replaced after use
∙ Renewable: replaced by nature
Workforce: people used on production
LABOUR
Human capital: i.e. skills, knowledge, experience of workers
CAPITAL
Man-made resources
∙ Working capital: resources used up + stocks of finished goods.
∙ Fixed capital: e.g. machinery, buildings
PRODUCTIVITY of inputs
can be increased by
∙ Fertilisers & Pesticides
∙ Irrigation or Drainage
∙ Genetically modified crops
∙ Education & Training
∙ Improved motivation
(by job rotation, or pieces rates)
∙ Migration of skilled workers
∙ New technologies
e.g. new tractors in primary sector
e.g. new robots in secondary sector
e.g. new AI in tertiary sector
Entrepreneurs
∙ bring a business idea to become more efficient (i.e. producing cheaply, faster, and better)
ENTERPRISE
∙ Business owners: raise the money to set up a business.
∙ Risk-takers: make profits (if successful) or pay losses (if unsuccessful).
∙ Organize the inputs (the other three factors of production)
2. ECONOMIC SECTORS & DEVELOPMENT
Primary sector
Extraction of raw materials from the earth (e.g. agriculture, mining, oil extraction)
Secondary sector
Tertiary sector
Converting raw materials into finished or semi-finished goods (manufacturing & construction)
Production of services (e.g. healthcare, education, retailing, transport, banking, insurance)
The size of these sectors (in terms of Output & Employment) changes over time, as a country develops.
▶ Employment by sector in China, 1990 and 2015
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size of the primary sector falls
size of the secondary sector first grows, and then shrinks (de-industrialisation: decline in manufacturing)
size of the tertiary sector continually grows.
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3. DIVISION OF LABOUR
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DIVISION OF LABOUR (e.g. assembly line in mass production)
o production process is broken down into small tasks,
o then each worker can specialise in a specific task.
For workers
For firms
Advantages
Specialized skills can lead to higher wages.
that reflects the worker's increased productivity.
Disadvantages
Demotivation
as tasks become too repetitive and boring
Specialised workers become better at a task.
⇒ labour productivity ↑ (more output per worker)
⇒ unit cost ↓ ⇒ profit ↑
⇒ unit cost ↓ ⇒ selling price ↓ ⇒ Market share ↑
High worker turnover due to job demotivation.
⇒ higher recruitment and training costs.
4. BUSINESS COSTS, REVENUES & PROFIT
4.1 COSTS, REVENUES & PROFIT (costs in the short run – e.g. when the size of the firm is fixed)
PROFIT = TOTAL REVENUE – TOTAL COST
TOTAL REVENUE (TR) & AVERAGE REVENUE (AR)
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TR: money a firm receives from selling its output = Price x Output sold
AR = TR / Output = selling price
TOTAL COST & AVERAGE COST
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TOTAL COST = Fixed Cost (FC) + Variable cost (VC)
o FC: costs to pay for fixed inputs (e.g. rent, advertising, insurance)
o VC: costs to pay for variable inputs (e.g. production workers, raw materials)
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AVERAGE COST (AC= TC/Output): cost of producing one unit of output → TC = AC x Output
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4.2 ECONOMIES & DISECONOMIES OF SCALE (costs in the long run – e.g. when the size of the firm can change)
1/ INTERNAL ECONOMIES OF SCALE
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Scale: size of output
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Internal economies of scale: a fall in the average cost benefit an individual firm that expands.
REASONS FOR Internal Economies of Scale:
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Purchasing (bulk buying): Larger firms can negotiate lower prices from suppliers when buying in bulk.
Marketing: Larger firms can spread their marketing costs over a larger sales volume.
Technical: Larger firms can invest in more efficient machinery & technology.
Financial: Larger firms can have better access to financial markets and lower borrowing rates.
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Managerial: Larger firms can afford to hire specialized managers ⇒ more efficient production.
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Risk bearing: larger firms gain by diversifying their risks across multiple products or markets.
2/ EXTERNAL ECONOMIES
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Industry: all the firms producing the same G/S.
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External economies of scale: a fall in the average cost benefit all firms in a growing industry.
(When all firms in an industry are located in the same area.)
REASONS FOR External Economies of Scale:
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Skilled labour: A larger industry talent pool makes finding qualified workers easier.
Infrastructure: Industry growth attracts development of helpful infrastructure (transport, communication).
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Access to suppliers: More firms in an industry create a bigger market for suppliers ⇒ lower buying prices.
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Similar businesses in area: Having similar firms nearby benefits everyone (e.g. knowledge sharing).
3/ DISECONOMIES OF SCALE
Diseconomies of scale: when a firm becomes too big, the average costs rise.
REASONS FOR Diseconomies of Scale:
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Bureaucracy: Too many layers of management slow down decision making
Communication problems: Barriers between departments lead to misunderstandings.
Lack of control: Management struggles to oversee everything.
Distance between top managers and workers at bottom: Bosses lose touch with employee needs.
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5. BUSINESS COMPETITION
5.1 COMPETITION
COMPETITION: i.e. rivalry between firms when trying to sell G/S to the same group of customers.
1/ ADVANTAGES & DISADVANTAGES OF COMPETITION
1.1. FOR CONSUMERS
Advantages
Lower prices: firms lowering prices to attract customers.
More choice: more firms lead to a wider variety of G/S
Better quality: firms strive to differentiate themselves by
offering higher quality
Disadvantages
Market uncertainty
Prices might swing wildly, and favourite G/S might
disappear (unprofitable firms leave the market)
Lack of innovation: firms may not have enough profit
to invest in product development
1.2 DISADVANTAGES OF COMPETITION FOR FIRMS
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Reduced profit: Competition can lower profit as firms may need to offer competitive pricing.
Higher (advertising) costs: Firms must spend more on innovation/advertising to differentiate their product.
Need to reduce price: To remain competitive, firms may have to lower their prices, impacting revenue.
2/ ADVANTAGES AND DISADVANTAGES OF LARGE FIRMS AND SMALL FIRMS.
3.1 SMALL FIRMS
Advantages
Flexibility:
Can quickly adapt to market changes and customer needs.
Personal service:
Can offer more personalized customer service
Niche market: i.e. specialised market for a particular product
Small firms can supply a niche market
Lower wage costs:
incur lower wage expenses due to smaller staff sizes
Better communication:
Easier communication within a smaller team
Innovation:
Often more innovative due to fewer bureaucratic barriers and
closer interactions with customers
Disadvantages
Higher costs:
Smaller firms often face higher AC due to lower EoS
Lack of finance:
Limited access to funding and investment
Difficult attracting qualify staff:
Struggle to compete with larger firms in offering
competitive salaries.
Vulnerability:
More susceptible to market changes and recessions
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3.2 LARGE FIRMS
Advantages
Economies of scale:
Lower average costs due to large-scale production
Market domination:
Higher brand image and ability to set prices.
Large-scale contracts:
can fulfil large contracts for governments, leading to
increased revenue (e.g. building a new motorway)
3/ FACTORS INFLUENCING THE GROWTH OF FIRMS:
Disadvantages
Too bureaucratic:
Too many layers of management slow down decision making.
Coordination & control:
Difficulties in managing and coordinating large operations
Poor motivation:
Employees may feel less valued and motivated in a large
organization
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Government regulation: can either restrict or promote growth through policies and regulations.
Access to finance: it enables expansion and investment in growth opportunities.
Economies of scale: Larger firms can reduce average cost, promoting growth.
Desire to spread risk: Diversification into new products reduces reliance on a single revenue source.
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Desire to take over competitors: i.e. a firm buying out a rival ⇒ market share ↑ and competition ↓.
4/ REASONS FIRMS STAY SMALL:
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Small size of market: Limited demand or a small customer base restricts growth opportunities.
Nature of market – niche: Specialized markets may not support large-scale production.
Lack of finance: Insufficient funding prevents expansion.
Aims of the entrepreneur: The owner may prefer maintaining a manageable, small business.
5.2 MONOPOLY
1/ DEFINITION OF MONOPOLY: a market where there is one dominant seller.
2/ MAIN FEATURES OF MONOPOLY:
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One monopolist dominates the market: a single firm controls the majority of market share (25% or more)
Unique product: offers a product with no close substitutes.
Price-maker: has the power to set prices due to lack of competition.
Barriers to entry: high obstacles prevent other firms from entering the market.
• legal barriers: laws that prevent new firms from entering the market.
• patents: legal right to stop others from selling the new product.
• marketing budgets: large advertising expenditures that new entrants cannot match.
• technology: advanced or proprietary technology that new firms cannot easily access.
• high start-up costs: high initial investment required to compete in the market.
3/ ADVANTAGES & DISADVANTAGES OF MONOPOLY:
Natural monopoly (e.g. rail travel, water supply): i.e. when a single firm can supply the entire market more
efficiently than multiple firms due to huge fixed costs, and economies of scale (EoS).
Advantages
Efficiency of natural monopolies:
can supply G/S at lower costs due to high fixed costs and EoS.
Innovation:
Potential for high profits can fund investment in R&D.
Economies of scale:
Larger production scale reduces average costs, benefiting
consumers through potentially lower prices
Disadvantages
Higher prices:
Lack of competition allows monopolies to set higher prices
Limited choice:
Consumers have fewer alternatives
Lack of innovation:
Reduced competitive pressure can lead to less innovation.
Inefficiency:
have less incentive to reduce costs and improve efficiency
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5.3 OLIGOPOLY
1/ DEFINITION OF OLIGOPOLY: i.e. a market where there are few dominant sellers.
2/ MAIN FEATURES OF OLIGOPOLY:
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Few firms: Market is controlled by a small number of firms (who have a large market share).
Large firms dominate: They have significant market power to set the price that smaller firms just copy.
Differentiated products: Firms offer similar but differentiated products.
Barriers to entry: High entry barriers prevent new competitors.
Collusion (informal agreements): Firms may collude to set prices or output levels.
Non-price competition: Firms compete using advertising, brand loyalty & differentiation rather than price.
Price wars: Occasionally, one dominant firm reduces prices causing other to do the same.
3/ ADVANTAGES & DISADVANTAGES OF OLIGOPOLY:
Advantages
Choice:
Consumers have a selection of similar but varied products.
Quality:
Competition among firms can lead to improved product
quality.
Economies of scale:
Large firms can reduce costs, lowering prices for consumers.
Innovation:
Competitive pressures and high profits can drive investment
in new products and technologies.
Price wars:
Occasional price cuts benefit consumers with lower prices
Disadvantages
Collusion:
Firms may collude to fix prices, leading to higher prices for
consumers.
Lack of Choice:
Geographic market division among firms reduces consumer
choice as only one firm supplies each area.
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6. LABOUR MARKET
1/ FACTORS SHIFTING THE DEMAND FOR LABOUR (DL):
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Demand for the final product (derived demand): DL depends on the demand for the G/S produced
Availability of substitutes (e.g. machines): Automation reduces labour demand
Labour productivity: Higher productivity can increase DL as efficient workers are more valuable
2/ FACTORS SHIFTING THE SUPPLY OF LABOUR (SL):
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Population size: Larger population increases SL.
Migration: Influx of workers from other regions boosts labour supply
Age distribution of population: More working-age individuals raise labour supply
Retirement age: Higher retirement age extends the working period, increasing labour supply
School-leaving age: Lower school-leaving age adds to the workforce earlier
Female participation: Increased female workforce participation enlarges the labour supply
Skills & qualifications: Better skills & qualifications attract more job opportunities, enhancing supply
Labour mobility: Greater mobility allows workers to fill various jobs, increasing supply flexibility
3/ IMPORTANCE OF THE QUANTITY AND QUALITY OF LABOUR TO BUSINESS.
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Quantity of Labour: Ensures adequate workforce to meet production demands.
Quality of Labour: Higher skills & qualifications improve productivity and efficiency.
4/ IMPACT OF EDUCATION & TRAINING ON HUMAN CAPITAL AND QUALITY OF LABOUR.
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Human Capital: Increases the knowledge and skills of the workforce.
Quality of Labour: Improves productivity and efficiency.
5/ TRADE UNION IMPACT IN THE LABOUR MARKET:
Trade union: i.e. organisation that bargain for higher wages and better working conditions for workers.
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5.5 GOVERNMENT INTERVENTION
1/ GOVERNMENT POLICY TO DEAL WITH EXTERNALITIES:
POLICIES
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TAXATION
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SUBSIDIES
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FINES
REGULATION
Advantages
Taxes on negative externalities (e.g., pollution)
make firms and consumers bear the full social
cost of their actions.
Generate tax revenue for environmental
protection
Encourages Positive Externalities (e.g.,
renewable energy).
Helps green technologies become more
competitive
Discourage firms from engaging in harmful
activities that create negative externalities.
Can limit or ban some harmful activities
disadvantages
May increase costs for firms, leading to
higher prices for consumers.
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Can be expensive for government.
May lead to overproduction of
subsidized G/S.
Fines may not be proportionate to the
harm caused, leading to unfair penalties
May lack flexibility, reducing innovation
2/ REASONS FOR GOVERNMENT REGULATION OF COMPETITION:
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To promote competition: Encourages efficiency and innovation
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To limit monopoly power: Facilitates market entry for new competitors ⇒ wider selection of G/S
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To protect consumer interests: Encourages lower prices, better quality and more choices
To control mergers and takeovers: to prevent the formation of monopolies
3/ NATIONAL MINIMUM WAGE (NMW): i.e. Lowest legal amount paid to workers
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Advantage:
Ensures access to necessities for low paid workers
Disadvantage:
Can lead to unemployment if firms reduce hiring due to higher labour costs
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