Kris’ makeshift preliminary economics notes 2k18 :D

Topic 1: Introduction to economics

 The economic problem: Resources are scarce in relation to our infinite human wants.
- Wants: - Basic wants = necessities required for living.
- Individual wants = Desires of each person
- Collective wants = Wants of the whole community
All economies must attempt to answer following questions:
- What to produce? Due to limited resources an economy can’t satisfy all individual and
collective wants, so they must decide which wants will need to be satisfied first, deciding
what goods and services will be produced.
- How much to produce? By producing too much of a good, resources are wasted. By
producing too little of a good, resources some wants will be left unsatisfied.
- How to produce? An economy must decide how to allocate its resources in the production
process, so it must look for the most efficient method of production that uses the least
amount of an economy’s resources, so most wants are satisfied at a point in time.
- How to distribute production? An economy must decide whether it wants a more equitable
(even) distribution of production or inequitable (uneven) distribution of production.
 The need for choice by individuals and society:
Individuals and society are limited by scarcity. As society as a whole has unlimited wants/needs in
comparison to what resources are available (demand more than what they have) individuals,
businesses and government need to choose desires that will be satisfied and unsatisfied.
 Opportunity cost and its application through production possibility frontiers:
- Opportunity Cost is the cost of the alternative want forgone by satisfying a want.
- Production Possibility Frontier: Is used to demonstrate how opportunity costs arise when
individuals or the community make choices. It shows the various combinations of two
alternative products that can be produced, given technology and a fixed quantity of
resources used to their full capacity.
- The can shift outwards due to the discovery of new resources/increased population leading
to increased workforce and labour (Fig. A) OR creation of new technology (Fig.B)

Fig. A Fig. B
 Future implications of current choices by individuals, businesses and government:
 - Allocative efficiency: Resources are allocated according to preferences of society for
certain goods and services.
- Consumer goods: Goods produced for the immediate satisfaction of demand
- Capital goods: The tangible goods that are investments made for the improvement of
living/production in the long-term/future (e.g machinery)
Consumers, individuals and governments overall decide on whether to spend or
save/invest.
 Economic factors underlying decision making by:
- Individuals:
 Spending and Saving: Depends on confidence about the future and stability in the
present. “Uncertainty = reduction of spending”.
 Work: Unemployed people may not want to take a low-paid job due to loss of
benefits such as independence while also gaining additional expenses like travel and
clothing required for work.
 Education: Increased education most-likely leads to an expected higher salary but
sacrifices present income.
 Retirement: Depends on the ability to provide for themselves in the future.
 Voting and Political participation: Depends on government’s social and economic
performance as well as personality of individual.
(Overall income level, age, future expectations/plans and personality all affect the
decisions individuals make)
- Firms:
 Pricing: Businesses aim for profit maximization. This influences the decision of price
of products.
 Production: Businesses need to decide on the best combination of resources to use,
influenced by resources available.
 Resource Use: Businesses need to utilize resources to achieve the most valued use
(allocative efficiency), also influenced by resources available.
 Industrial Relations: Wage and working conditions determine employee productivity
and motivation as well as job satisfaction, this is influenced by type of employees
and employers.
- Governments
 Influence the decisions of individuals and businesses.
 Governments allocate resources to provide individuals’ want satisfaction to an
extent, determined by the preferred wants/needs of individuals.
 Attempt to stabilize economic activity through monetary and fiscal macroeconomic
policies, influenced by the current economic state.
 Redistribute income through taxation (tax rate influenced by income earned by
individuals and companied).

 Production of goods and services from resources:

- The four factors of production are:

2
  Natural/Land, involves minerals and natural commodities such as coal, iron etc.
Reward = rent
 Labour, involves human effort such as employees. Reward = wages
 Capital, involves investments such as machinery. Reward = interest
 Enterprise, involves using all other 3 factors of production. Reward = profit

 Distribution of goods and services:

- Distribution of goods and services is determined by income level of individuals.
- Income is determined by: education, training, skills, experience.
- Income is then redistributed by government through the taxation process.
 Exchange of goods and services:
- Economies use cash/money to exchange goods and services. This exhcnage is done in
markets (product and factor markets)
- Prices are indicators of the overall value of goods and services as well as GDP.
 Provision of income:
- Individuals are paid income in return for the resources given to be utilized in production
(rent, wages, interest and/or profit)
- Government redistributes income through social welfare payments.
 Provision of employment and quality of life through the business cycle:
- Employment in Australia consists of private and government sectors.
- Industries: Primary, Secondary, Tertiary.
- The quality of life depends on quantity and quality of goods and services in the economy
and community as well as the price of them
- Business cycle is the trend in economic growth:
 Recession: Decreased economic activity. Expenditure, income, employment and
output are at a low level with government attempting to increase economic activity
through expansionary macroeconomic policies.
 Boom: Increased economic activity. Expenditure, income, employment and output
peak while a shortage of resources is present leading to inflation.
 Upswing: Increasing economic activity. Expenditure, income, employment and
output are increasing
 Downswing: Decreasing economic activity. Expenditure, income, employment and
output are Decreasing

 The circular flow of income:

3
 - In the five-sector circular flow of income there are two categories, leakages and
injections.
 Leakages (removal of money) consist of Savings (S) Taxation (T) and Imports (M).
 Injections (input of money) consist of Investment (I) Government Spending (G) and
Exports (X)
- Equilibrium occurs when S+T+M=I+G+X, while disequilibrium occurs when they are not
equal.
- If leakages > injections then income, expenditure, employment and output will decrease
- If leakages < injections then income, expenditure, employment and output will increase
 The circular flow of income:
- The five-sector circular flow of income looks like this:

- Households/individuals – Supply factors of production to firms in return for incomes,

which are used towards savings, taxation and purchase of g/s and imports
- Businesses – Buys factors of production to produce goods and services and sell them for
a profit. Pays factors of production, particular labour, through income rewards .
- Financial Institutions – Institutions that specialize in borrowing and lending money. This
includes organizations such as banks, credit unions, superannuation funds and finance
companies.
- Governments – Impose taxes on individuals and businesses, using the revenue to fund
government expenditure such as education and transport.
- International Trade – Consists of transactions with different counties including imports
and exports as well as international money flows.

Topic 2: Consumers and Business

4
 Role of consumers in the economy

- Consumer sovereignty = the pattern of consumer spending determines the pattern of

production and resource allocation by businesses.
- There are four types of business conduct which diminish consumer sovereignty:
 Marketing: Marketing diminishes consumer sovereignty by displaying manipulative
advertisement practices.
 Misleading/deceptive conduct: This diminishes consumer sovereignty by making
false/dishonest claims on a product causing consumers to buy the product which
they don’t actually want.
 Planned obsolescence: The act in which firms intentionally design goods that will
wear out quickly/ come out of date. This diminishes consumer sovereignty by
forcing purchases that cannot be avoided upon consumers.
 Anti-competitive behaviour: involves reducing consumer choice by manufacturing
products that are only compatible with products from a specific company. This
eliminates opportunities for other businesses and also consumer sovereignty as the
consumer is restricted to buy from only one company.

 Role of consumers in the economy

- Y = C + S, Income = Consumption + Savings
C
- Average propensity to consume – Proportion of total income spent on consumption
Y
S
- Average propensity to save – Proportion of total income that goes to savings
Y
- Marginal propensity to consume – proportion of each extra dollar of earned income
spend on consumption
- Marginal propensity to save – proportion of each extra dollar of earned income saved.
- APC + APS = 1
- Saving occurs when Consumption<Income
- Dissaving occurs when Consumption>Income
- Consumer saving and dissaving patterns with age as consumers’ needs/wants tend to
change as well as income level and employment.
- Income and age influence saving/dissaving as seen in the following graph

5
 - Factors that influence saving are: personality/cultural factors, future expectations
(economic state), tax policies, availability of credit, age and income
- Factors influencing consumer choice:
 Income – Increase in the level of income leads to an increase in spending and saving.
Spending decreases overall as a percentage of income and saving increases overall
as a percentage of income, as income increases APC and MPC decrease while APS
and MPS increase.
 Price – Consumers will buy the least expensive item as long as quality and quantity
are similar. As price increases demand naturally decreases
 Price of substitutes – The substitute of an item is a similar product/alternative. E.g
butter and margarine. As the price of the main product increases the demand for
the cheaper substitute increases.
 Price of complements – The complement item is a good that is used in conjunction
with another good. E.g DVD’s and DVD Players. As the price for the product
decreases the demand and price of the complementary good increases.
 Preferences/tastes – Change in preferences towards a certain good or service may
lead to an increase or decrease in demand, depending on the personality and
lifestyle of the individual.
 Advertising – Advertising builds brand loyalty and influences consumer demand
leading individuals to spend their money on their marketed product.

 Role of consumers in the economy

- Sources of income
 Reward for Labour: (wages), Land: (rent), Capital: (interest) and Enterprise: (profit)
 Some individuals live off of and are supported by social welfare payments which are
payments from government that are given out to assist people with basic costs of
living which is derived from mostly taxation. This is given to:
 Pensioners (65+ and retired)
 Large and financially unstable families
 Disabled individuals
 Unemployed individuals

 Role of businesses in the economy

- A firm’s production decisions include:
 What to produce? Depends on the skills and experience of operator, industries with
promising demand (currently of future), opportunities and the amount of capital
that is needed to operate.
 How much to produce? Derives from consumer demand, market research and
access to capital in aim to reduce shortages and surpluses and maximise profit.
 How to produce? Question of the resources/technology available to be used in
production. Depends on efficiency (capital vs labour) and price of input in aim to
maximise output at a minimum cost.

6
  Role of businesses in the economy
- Business as a source of economic growth and increased productive capacity
- Goals of the firm:
 Maximising profits: Greatest positive difference between total revenue and the
total cost of firm.
- When the total costs = total revenue the firm will break even.
- When total costs > total revenue the firm faces loss.
- When total costs < total revenue the firm makes profit.
 Maximising growth: Firms seek to maximise growth through business assets rather
than profits and sales to make sure the firm experiences long-term survival. It may
lead to increased market share.
 Increasing market share: A greater market share should ensure the firm increases its
profitability overall. This is done through pricing strategies such as undercutting
which allows new firms to gain market share in industries with strong competitors.
 Meeting shareholder expectations: Shareholders expectation is that the business
will increase profits which increases their dividend yield. Shareholders also expect
capital growth through rising share prices and a rising price to earnings ratio. They
also expect a firm to maintain a sound corporate image.
 Satisficing: Is what managers attempt to achieve by making sure a range of goals
meet profit and performance projections rather than any single goal, while having a
satisfactory level of profitability, sales revenue and market share.
 Role of businesses in the economy
- Efficiency and the production process:
 Productivity:
 Refers to how much output is produced by inputs. Rate of productivity is found
Output
by: productivity =
Inputs
 It is desired by entrepreneurs to secure maximum productivity in order to
minimise costs and maximise output from a limited level of resources.
 Is organised into two categories, multi-factor and single-factor productivity.
Multi-factor = productiveness of all inputs. Single-factor = productiveness of
only one factor of production.
 The main sources of productivity improvements are:
 The division and specialisation of labour: Refers to when firms break down
the production process into sub-processes with labour specialising in
different fields. This reduces time taken to complete work tasks and
promotes use of capital in combination with labour.
 The specialisation of localisation of land or industry: Refers to firms in
similar or same industry locating near each other or in specific locations to
reduce production costs (transport etc.).
 The specialisation of capital or large-scale production: Refers to the use of
large scale mass production techniques/capital for high levels of output with
minimum cost.
 It allows lower costs/prices. Higher output/efficiency and rates of growth.

7
  Role of businesses in the economy
 Internal diseconomies and economies of scale
 Internal economies of scale: are the cost saving advantages that result from a
firm expanding its scale of operations. When a firm’s output is below the
technical optimum.
 Internal diseconomies of scale: are the cost disadvantages faced by a firm as a
result of the firm expanding its scale of operations beyond a certain point. When
a firm’s output is above the technical optimum.
 The technical optimum: is the most efficient level of production for a firm with
the average costs of production at the lowest point possible.
This is all shown in the Long Run Average Cost Curve
(LRAC)

 external diseconomies and economies of scale

 External economies of scale: are the advantages due to industry growth the firm
is part of. They include: increasing localisation, healthy capital market and extra
benefits
 External diseconomies of scale: are the disadvantages due to industry growth
the firm is part of. They may be: Increased pollution, transport issues, raw
material cost rises due to higher demand.

 Role of businesses in the economy

- Impact of investment, technological change and ethical decision-making on a firm
through:
 Production methods: Technological change and innovation may increase the
productive capacity of the economy by making it possible to use existing resources
more efficiently through more capital-intensive production.
 Prices: Technology has led to a better-informed marketplace due to search engines
squeezing profit margins and reducing costs.
 Employment: Both positive and negative impacts:
 Positive: investment and technological change leads to higher demand for
specialist labour skills due to capital-maintenance, IT and engineering needs.
 Negative: Structural unemployment due to the reduced need of some labour
skills from capital substitution. 

8
  Role of businesses in the economy
- Impact of investment, technological change and ethical decision-making on a firm
through:
 Output: Investment and technological change may mean falling unit costs and
increasing returns to scale for firms as output increases. This means improved
quality, new products and services.
 Profits: May lead to an increase in profits due to lower costs of production and
lower prices for consumers and improved products which leads to an increase in
sales and total revenue for firms.
 Types of products: Lower costs can give firms the flexibility to shift resources to
more innovative types of production which can create new products. The lower
costs of production mean for more opportunity to increase product quality.
 Globalisation: Technology (development of global money, stock markets etc.) has
made it possible for business and individuals to invest, purchase and consume from
all the round the world, making a global market. Businesses are also able to
outsource.
 Environmental sustainability: Firms need to make sure that their production process
does not harm the environment through ways such as pollution, so they can remain
ethical and receive a good reputation from society.

9
 Topic 3: Markets
 Demand and Supply
- Demand
A market is a situation in which buyers and sellers are in contact with each other for the purpose of
exchange. The main types of markets in the economy are product and factor markets.
 Demand is the quantity of a particular g/s that consumers are willing and able to
purchase at various price levels at a given point in time.
 The law of demand: is that as the price of a g/s increases, the quantity demanded
will decrease and vice versa. Therefore, there is an inverse relationship between
price and demand.
 Individual demand is the demand of each individual consumer
 Market demand is the demand by ALL consumers for a good or
service.
 Ceteris Paribus: An economic assumption used to evidence the
relationship between only two variables, meaning other factors
stay constant/equal.
 The demand curve is a graphical representation of the data
presented and slopes downwards left to right. As the price
increases demand decreases
 The main factors affecting/shifting market demand are:
 The price of the g/s itself: As prices are lower, demand would be high.
 The price of other g/s: Consumers consider some goods as substitutes such as
butter and margarine. If the price of butter rises, demand for margarine would
increase due to the cheaper price. Some goods are complements and
consumers tend to purchase them together
 Expected future prices: If consumers expect the price of a certain good to rise in
the future they would increase demand and consume more and vice versa.
 Changes in consumer taste/preference: Innovation and technological progress
may lead to consumers demanding new and better products. Trends also
change, leading some products to be outdated/unwanted.
 The level of income: As people earn higher incomes they become more able to
purchase more g/s not previously being able to afford. Rising income=rising
demand. Distribution of income could also change demand. More income for
rich = increase in luxury g/s demand.
 Size of population and its age distribution: Population size will affect total
quantity of goods demanded while age distribution will affect the type of goods
demanded. Australia’s increase in aging population may result in higher demand
for aged care services and retirement villages.

10
  Demand and Supply
- Demand
Movements along the demand curve. (ceteris paribus)
 Movements refer to contractions and expansions
on the demand curve.
 A contraction in demand is caused by an Increase
in price of g/s which causes quantity demanded to
decrease; it is an upward movement along the
curve.
 An expansion in demand is caused by a decrease
in price of g/s which causes an increase in
quantity demanded; it is a downward movement
along the curve.
Shifts along the demand curve (caused by factors other than price)
 An increase in demand is a shift right from d1 to d2 where consumers are more
willing and able to buy more due to the previously stated factors, paying more for
the same quantity as before (shown in fig 6.4)

 A decrease in demand is a shift left for d1 to d2 where consumers are less willing
and able to buy g/s OR willing and able to buy a given quantity at a lower price than
before due to the previously stated factors. (shown in fig 6.5)

11
  Demand and Supply
- Supply
 Supply is the quantity of g/s that all firms in a particular
industry are willing and able to offer for sale at different
price levels in a given period of time.
 The law of supply: is as the price of a certain product
rises, the quantity supplied by producers will rise. (often
due to a view of higher profit)
 The supply curve is a graphical representation of the
data presented which slopes upwards left to right
because supply is a positive function of price (supply
falls as price decreases and vice versa)
 Individual supply refers to supply of a g/s by a single firm
 Market supply refers to sum of individual supply of a certain g/s.
 The main factors affecting/shifting supply are:
 Price of g/s itself: if price is too low, costs of production can’t be covered leading
to lack of supply and vice versa. If supplier believes price will rise in future
supply would increase and vice versa
 Price of other g/s: If other g/s become more profitable to produce there would
be an increase in supply for those specific g/s.
 State of technology: Improvements in technology lower production costs and
allow firms to supply more g/s.
 Changes in the cost of factors of production: Any fall in the cost of factors of
production would allow firms to supply more of a g/s, whereas a rise in cost
would make it more difficult.
 Quantity of the good available: The actual quantity of a g/s available is an
overall limiting factor that affects supply as well as the number of suppliers.
 Climatic and seasonal influence: Changes in climatic conditions and seasons will
affect agricultural production. E.g a long period of drought would cause supply
of agricultural/farming products to decline.
Movements along the supply curve (ceteris paribus)
 A contraction in supply is a decrease in price of g/s which causes quantity supplied
to decrease; it is a downward movement along the curve.
 An expansion in supply is an increase in price of g/s which causes an increase in
supply; an upward movement along the curve

12
  Demand and Supply
- Supply
Shifts along the supply curve (caused by factors other than price).
 An increase in supply is a shift left from s1 to s2 where producers are willing and
able to supply more at each possible price than before. More supply for same price
OR same supply for lower price.

 A decrease in supply is a shift right from s1 to s2, producers are willing and able to
supply less at each possible price than before. Less supply for same price OR same
supply for more price.

13
  Demand and Supply
- Price elasticity of Supply
 Price elasticity of supply is the measure of responsiveness of quantity supplied to a
change in price
 A perfectly elastic supply is where producers are willing to supply an infinite
quantity at a certain price but nothing below that price.

 A perfectly inelastic supply is where producers are willing to supply a given quantity
regardless of price

 The factors affecting the elasticity of supply are:

 Time lags after a price change: The greater the time that producers have to
respond to a price change the more elastic the supply for that product. After a
price increase, producers are restricted to how much they can produce.
 The ability to hold more stock: If producers are able to hold stocks, their supply
will be more elastic. If prices rise in the market, producers can respond by
adding stored stock to available supply.
 Excess capacity: is when a firm is not using its existing resources to their full
capacity. Supply will be elastic when firms have excess capacity as they can
respond quickly to any price increase by using resources more intensively.

14
  Demand and Supply
- Price elasticity of Demand
 Price elasticity of demand measures the responsiveness of quantity demanded to a
change∈quantity (%)
change in price. Calculated by
Change∈ price(%)
 Elastic demand: Strong response to change in
price
 Inelastic demand: Weak response to change in
price (willing to pay any price).
 Unit elastic demand: Proportional response to
change in price (total consumer spending
amount remains unchanged
 The price elasticity of demand is measured through the total outlay method.
 The total outlay method is how the price elasticity of demand is calculated, by
looking at the effect of changes in price on the revenue earned by producer.
 The factors affecting elasticity of demand are:
 Whether the good is a luxury or necessity: Luxurious goods are elastic as they
are wants. Necessities are inelastic as they are needs and will always have a high
demand.
 Whether the good has any close substitutes: G/s with few or no substitutes
would have inelastic demand as people aren’t able to switch to another similar
product, so demand won’t fall and vice versa.
 The expenditure on product as proportion of income: G/s that take up a small
proportion of a person’s income would have a lower price elasticity of demand
(inelastic).
 Whether a good is habit-forming (addictive) or not: Goods that tend to be
addictive have a relatively inelastic demand. This is becomes people need to
continue with the same habits such as smoking even if price increases.

15
  Demand and Supply
- Market price
 Price mechanism: The interplay of forces of supply and demand, which determine
the prices at which commodities will be bought and sold in the market.
 Market equilibrium: Situation where, at a certain price level, quantity supplied, and
quantity demanded of a product is equal. This means the market clears (no excess
supply or demand) and there is no tendency for change.
 Market equilibrium occurs where the demand and supply curves intersect.
Movement in equilibrium:
 Excess Demand (Demand > Supply): Leads to a price rise due to a shortage,
resulting in an expansion of supply and a contraction of demand, continuing
until equilibrium.

 Excess Supply (Supply > Demand): Sellers must drop their price due to an excess
supply, resulting in a demand expansion and supply contraction until
equilibrium

16
  Demand and Supply
- Market price
 Changes to equilibrium: Increase and decreases in supply and demand cause the
equilibrium point to move:
 Increase in demand: Increase in the equilibrium price and equilibrium quantity.
Since demand exceeds supply, prices rise and an expansion in supply is found –
continuing until new
equilibrium.

 Decrease in demand: Decrease in the equilibrium price and equilibrium

quantity. Since supply exceeds demand, prices drop while supply contracts until
new equilibrium.

 Increase in supply: Lowers equilibrium price,

raises quantity. As there are more products
available, there is a contraction in demand
occurring until new equilibrium, thus lowering
price.

Decrease in supply: Raises equilibrium price, lowers quantity. Due to a decrease

in supply, there are fewer products available,
therefore an expansion in demand, until new
equilibrium.

17
  Demand and Supply
- Market price
 Effects of changing levels of competition and market power on price and output:
 As more competition enters a market each firm has less influence on price
setting or less market power and: more competition -> more output -> lower
price

 Demand and Supply

- Alternatives to market solutions – the role of government
 Market failure: When markets do not produce the desired outcomes when left to
operate by itself. Price mechanism may take account of private benefits and costs of
production to consumers and producers but fails to take into account indirect social
costs and social benefits. This is where government intervenes.

 Price intervention involves price control schemes by government. In which they

assume prices are too high or low for items such as unskilled labour. This is where
Price ceilings and price floors are implemented:
 Price ceiling: is where the maximum price for a g/s is established below market
equilibrium. This causes quantity demanded to exceed quantity supplied.

18
  Price floor: is where the minimum price for a g/s
is established above market equilibrium. This
causes quantity supplied to exceed quantity
demanded.

 Demand and Supply

- Alternatives to market solutions – the role of government
 Case of market failure #1: Adequate provision of merit goods and public goods:
 Merit goods are goods or services that the government believes are beneficial
to society, but they may not be produced in adequate quantities as the market
is too small or there is little-to-no incentive for private production. Government
subsidises them as they are undervalued by individuals. An example of this is a
library
 Public goods are goods which private firms are unwilling to supply as they are
not able to restrict usage and benefits to those willing to pay for the good-
provided by government. This is where free riders arise in which non-paying
users cause congestion or exploitation of such goods (use unfairly).
 Case of market failure #2: Correct pricing of goods which cause negative or positive
externalities:
 Externalities are a good or bad side effect of production which affects people
who are not directly involved (third parties) in the production process /
economic transaction between a firm and buyer.
 Positive externalities are the social benefits that third parties derive from
engaging in certain private activities. Example, consumption of goods and
services such as public transport, museums, national parks and more
increases the skills and quality of life of individuals.
 Negative externalities are the social costs on third parties as a result of
private activities. Example, since access to clean air, water or national parks
is often unrestricted and has no cost, excessive exploitation may lead to
pollution and exhaustion which leads to a harming environment as a result
burning fossil fuels.
 Government attempts to control externalities by taxing polluters, issuing
licences/permits to pollute or use environmental resources, impose fines for
not obeying clean air/water legislation, subsidies to encourage use of
recycling, clean technologies and other merit goods

19
 sd

 The role of the market

- Product market: The interaction of demand for and supply of the outputs of production
- Factor market: A market for any input in the production process.
- Solutions to the economic problem
 Allocative efficiency: refers to the economy’s ability to allocate resources to satisfy
consumer wants. “This is productive as it is the best way to use resources to achieve
the maximum number of wants in a society”.
- The importance of relative price in reflecting opportunity costs in the g/s and factor
markets.
 Price mechanism: is efficient as any consumer willing to pay the market price will be
satisfied and producers will be able to sell all they produce. The market price of a
commodity reflects the opportunity cost associated with it.

20
  Variations in competition
- Market structures
 Pure competition:
 Many small firms
 Many small buyers, none large enough to affect market price
 Products sold by firms are similar (homogenous)
 No barriers to entry
 Monopolistic competition:
 Many relatively small firms
 Products sold are similar but not identical (differentiated)
 Some degree of price-setting power
 Small barriers to entry (brand loyalty)
 Oligopoly
 Few relatively large firms with large market share
 Similar but differentiated products
 Significant barriers to entry
 Monopoly
 Only one main firm selling the product with no competition
 Product sold has no substitutes
 Significant barriers to entry preventing potential competitors

Topic 4: Labour Markets

 Demand for and supply of labour
- The demand for labour by individual firms
 Labour has a derived demand meaning the demand for labour is derived from the
demand for goods and services that is used to produce.
 The factors affecting demand are:
 Output of a firm: The greater the need for output, the greater the need for
labour. Output depends on demand. Demand depends on economic conditions,
government policy, tastes, quality etc.
 Productivity of labour: The productivity of labour refers to the output per unit of
labour per unit of time.
 When labour productivity and demand for output rises, demand for labour
will rise

21
  When labour productivity is rising while demand for output stays or falls,
demand for labour will decline.
 When labour productivity is low, demand for labour will be low and firms
will undertake capital substitution.

 Cost of labour relative to other inputs:

 If costs of labour are high compares to capital, firms will use more capital
inputs (technology) in the production process and demand for labour will
fall.
 If costs of capital increases from rising interest rates or fall in the Australian
dollar, demand for labour will rise.
 If cost of labour is high but cheap overseas, production may be shifted
internationally, causing a fall in demand for domestic labour.
Cost of labour can be affected by wage policies and industrial relations policies.

 Demand for and supply of labour

- The supply of labour
 Factors affecting the supply of labour are:
 Pay/Remuneration: The greater the benefits, the greater the supply of labour.
The higher the wage paid to employees the more willing they are to supply their
service and sacrifice leisure time.
 Working conditions: The better the working conditions the higher the supply of
labour (through job satisfaction, holiday entitlements, working environment
etc).
 Human Capital, skills, educations, experience and training: Skill/education
requirements can limit the supply of labour. Low skill industries = higher supply
of labour. High skill industries = lower supply of labour. Government policy and

22
 funding of education will change level of skill of workforce, changing labour to
different industries.
 Occupational and Geographical mobility of labour:
 Occupational Mobility: The ability of labour to move between different
occupations in response to wage changes and employment opportunities.
Depends on skills needed, time taken to get them, etc.
 Geographical Mobility: The ability of labour to move between different
locations. Depends on costs of relocating, real estate prices etc.
 Labour force participation rate:

Labour force consists of all employed and unemployed actively seeking work.
The factors affecting participation rate include:
 Social trends (increased female participation rate)
 School retention rates
 Forced retirement
 State of the economy

 Demand for and supply of labour

- The Australian workforce
 The workforce consists of the section of the population 15 years and over with
working or actively seeking for work.
 General characteristics of the workforce:
 Age population: Growing due to migration and natural increase. A skilled
migrant is a migrant with qualifications.
 Age distribution- Aging population means more people outside working age,
meaning to workforce may decline.
 High quality education prepares future generations for productive working lives,
providing a foundation of skills allowing specialisation of labour, many
Australians now undergo tertiary education.

 Labour market outcomes

- Differences in incomes from work
 Wage outcomes: (rate of wage growth, distribution of income, fringe benefits.,
relative wage) vary for people based on: income group, gender, occupation, age and
cultural background.
 Trends in distribution of income: Much greater since the early 1990’s when
enterprise bargaining became more popular. Family benefits have offset increase
wage differentials. Also declining union memberships has also lead to more
inequality amongst occupations.
 Non-Wage Outcomes for different occupations: Include fringe benefits, leave, salary
packaging, bonuses, flexible working patterns and superannuation.

23
  Arguments for a more equitable distribution of income: increase
consumption/utility levels, support aggregate demand, alleviate poverty and
isolation.
 Arguments against a more equitable distribution of income: prevent a potential
reduction in allocative efficiency, to boost national saving, investment, growth and
employment creation, to create an incentive effect on workers and producers, to
prevent a higher tax burden on taxpayers and reduce government spending, to
prevent poverty traps from emerging.

 Labour market outcomes

- Labour market trends

 Types of unemployment:
 Cyclical unemployment – contraction in labour demand, workers who are let go
due to lowered g/s demand.
 Structural unemployment – a mismatch of labour skills due to changing
industry/technology.
 Frictional unemployment – people unemployed while moving between jobs.

 Seasonal unemployment – unemployment caused by season change.

 Underemployment – People who would like to work more. Caused by

casualization.

- Labour market institutions

24
 Topic 5: Financial Markets
- Types of financial markets
 Financial market: Where the products that provide a return (financial products) are
created for those with excess funds – where buyers and sellers participate in asset
trades.
 Primary market - Markets in which firms raise funds by selling financial assets to
investors. E.g, initial public offering of shares.
 Secondary market - Markets involving trade of financial assets between
investors/individuals.
 Consumer Credit Market: Involves credit cards, personal and other short-term
loans. Mainly used for consumption
 Housing Loan Market: Involves mortgage loans secured by property.
 Business Loans: Loan allowing businesses to invest in operations (short/long-term).
 Short Term Money Market: Securities of one year or less are traded between RBA
and other banks.
 Bond Market: The sale/redemption of government short and long-term debt
instruments.
 Financial Futures: Contracts to trade financial instruments for a certain price in a
future transaction.
 Foreign Exchange Market: Market for buying and selling foreign currencies.

25
 - The Share Market: Financial market where investors buy and sell shares (financial assets
providing the owner with a part ownership of a company).
Investors that buy shares seek dividend and capital gains.
The role of the Share Market is to assist firms in raising capital, giving them the
opportunity to raise new funds for investment/business growth by selling ownership. It
also acts a barometer of our economy.
The function of the share market: The share market brings together buyers (investors)
and sellers (businesses/investors selling second-hand stock). The share market lets
investors buy an asset that can provide capital gains and dividend which contributes to
the economy.
The share market affects the Australian economy as it allows injections to go through in
the form of stimulated investment which as a result increases aggregate demand from
an increase in national income from business and investors. Due to the high amount of
funds invested, the performance on the All Ordinaries Index reflects on the economy in
which they are directly proportional.
 Domestic & Global Markets:
 Australia impacts global market, global market impacts Australia.
 Global markets are more integrated via technology improvements.
 IMF oversees international financial market stability.

- Regulation of financial markets: The role and functions of financial regulators

Identify Role/Aim? (Describe) How do they achieve their role? (Explain)
RBA The reserve bank has a role in reducing The RBA does this by laying the foundation for
the risk of financial disturbances with low and stable inflation and sustainable
potential systematic consequences OR economic growth, increasing the likelihood for
responding to reduce an effect of an financial stability through contractionary and
ongoing financial disturbance. expansionary monetary policies which involves
the use of changing cash and interest rates.

26
 APRA The role of APRA is to develop and APRA’s role is achieved by:
enforce strong financial framework of - The creation and use of prudential
legislation, prudential standards and requirements that is placed upon
prudential guidance that promotes regulated financial institutions.
prudent behaviour by banks, insurance - Giving recommendations and advice to
companies, superannuation funds and the Australian Government on the
other financial institutions. development of legislation and regulation
affecting regulated institutions and the
Australian financial markets.
- Ensuring that risk-taking by regulated
financial institutions is monitored and
controlled within reasonable bounds.

ASIC The role of ASIC is to regulate ASIC fulfils their role by:
Australia’s integrated corporate, - Promoting investor and consumer trust
markets, financial services and and confidence.
consumer credit. Their vision is to allow - Ensuring fair and efficient markets.
markets to fund the economy in hopes - Providing efficient registration services.
for economy growth.

Australian The Australian Treasury is responsible The Australian treasury takes responsibility of
Treasury for economic policy, fiscal policy, market regulation by designing an appropriate
market regulation and the Australian tax system and its components, retirement
federal budget. income policy and also equity, income
distribution, budgetary requirements and
economic feasibility. The Treasury works in a
preventative way, doing their best to ensure
Economic fluctuations are kept to a minimum.

- Borrowers
 Individuals: Borrows through credit, mortgages, short-term loans etc.
 Businesses: Borrows when wanting to expand or cash in does not meet cash out.
 Government: Borrows through tax cuts, funding of infrastructure, budget deficit.

- Factors affecting demand for funds

There are three main motives that drive demand for funds:
 Transaction motive: Demanding funds for buying goods and services.
 Precautionary motive: Demanding funds for unpredictable circumstances.

27
  Speculative motive: Demanding funds to invest for capital gains via investments

- Lenders
 Individuals: Lend to financial institutions for a return- may be through shares, bonds or an
interest-bearing deposit.
 Business: Deposit funds into financial institutions if interest more lucrative than internal
investment- or if immediate plans do not involve expansion
 Government: Whilst in surplus- a government may invest money (e.g international loans) to
maintain positive balances.
 International: Known as foreign liability (must be repaid) - to finance domestic consumption
& investment

- Financial Aggregates measures by the Reserve Bank of Australia

Money/Currency is:
o A medium of exchange: Goods, services and resources are exchanged for money
o A measure of value: Can be used to compare the relative value of goods, services and
resources
o A store of value: Money can be held over time and used for future exchanges
o A method of deferred payment: Allows the development of a system of lending and
borrowing
 Money Supply is the total amount of funds in an economy, measured by the RBA as “M3”.

- Interest Rates
 The interest rate is the cost of borrowing money or the reward for lending money (as a
percentage).
 Lending Rate = The rate charged by financial institutions for a loan.
 Borrowing Rate = The rate offered for the use of one’s money.
 Short term loan = less than one year in maturity.
 Long term loan = more than one year in maturity.

- Interest Rates
 The factors affecting the interest rate are:
 Demand for Capital Goods - Stronger Investment Demand = Upward Pressure on rates.
 Level of Savings in an economy - Higher Savings = Downward Pressure on rates due to
increased supply of funds in economy.
 The demand for Liquid Funds - Increased Preference = Upward Pressure on rates as
supply of funds decreases.
 Inflationary expectations - Higher Expectations = Upward Pressure on rates due to levels
of spending increasing.

28
  Gov’t budget - If in debt = Upward Pressure
 International interest rates - Higher rate overseas = Upward Pressure Domestically on
rates to remain internationally competitive.
 Domestic Market Operations: RBA influences supply in the short-term money market to
alter cash rate which has an indirect influence of interest rates.

CHECK MONETARY POLICY ESSAY TO UNDERSTAND ROLE OF RBA

Changes in the cash rate influence changes in interest rates as the cash rate is an interest rate itself- the
overnight interest rate on exchange settlement accounts; also a change in the cash rate will lead to a
change in costs of borrowing funds in the market and banks tend to pass these onto customers.

Topic 6: Government and the Economy

 Government Intervention in the Economy

- Limitations of the operation of a free market
 Free markets have limitations known as market failure, hence why government intervenes.
Types of market failure include:
 Monopoly power: Firms whom dominate the market have the ability to unfairly control
price while also restricting consumer choices. Issues involve;
 Collusion:

29
  Negative externalities: G/s which impose cost on a third party/society. E.g. lung cancer
from passive smoking and pollution via production.
 Inefficient allocation of resources: Lack of production of public and merit goods.
 Public goods are goods which are non-rival and non-excludable such as police and
national defence.
 Merit goods are g/s that are beneficial for society such as education.
 Demerit goods are g/s that provide a greater social cost such as alcohol.
 Government intervenes by providing public goods and social welfare + taxing to correct the
inequality in the distribution of income.
 Fluctuations in economic activity: Government also intervenes by stabilising economic
activity in aim to have good sustainable levels of employment, inflation, production and
consumption. This is done via macroeconomic policy (monetary and fiscal) as well as
microeconomic policies (E.g, competition and trade barriers).

 Government Intervention in the Economy

- The role of Government
-

30