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Concepts In Economics

Revision: the marginal concept

Date : 21/04/2022

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David

Uploaded by : David
Uploaded on : 21/04/2022
Subject : Economics

1. Evaluate the extent to which the marginal concept is useful to economic agents in decision making

Analysis:

The decisions of consumers can be analysed in terms of marginal utility. Analysis in connection with private sector producers, according to the neo-classical theory of the firm, rests on their motivation to produce at a level of output where marginal cost equals marginal revenue, profit maximise. Although as regards non-profit, welfare-maximising public sector producers, it may be marginal cost and average revenue where allocative efficiency is achieved (where the sum of consumer surplus and producer surplus is maximised). Monopsonist employers are able to exploit their market power (best real-world UK examples are perhaps in the public sector, such as the NHS) by employing workers up to the point where the marginal cost of an extra worker is equal to the worker s marginal revenue product. Governments, through their intervention in free markets seek to produce outcome where there is an optimal level of output and MSC = MSB. [This relatively brief analysis section can of course be developed with causal links extended, supported where appropriate by numerical examples diagrams].

Counter-analysis:

Consumers, like all agents, do not necessarily behave rationally therefore do not necessarily make decisions at the margin. In other words, they do not adhere to the equi-marginal principle maximise their satisfaction (utility) by consuming to the point where the ratio of marginal utilities, say, from two goods, is equal to the ratio of their prices (support this analysis with equation). Their consumption, for example, may be related to a charitable donation (paying for something they don t necessarily want) or they may buy more of some goods than would otherwise be dictated by rational economic behaviour, perhaps because they were enticed by special offers. With firms, only in long-run perfect competition can it be assumed for sure that economic efficiency (both productive where AC are minimised allocative where MC=AR) is achieved, otherwise, both productive allocative efficiency are not achieved in imperfect market structures, both in the SR LR.

Profit maximisers in imperfect markets are not motivated to be allocative efficient ( so do not produce at the output level where they engage in marginal cost pricing). Also, there are alternative maximising objectives to profit maximisation such as revenue maximisation (MR=0) sales maximisation (AC=AR). In the real world, firms are unlikely to know at what level of output their MC=MR, so rule of thumb approaches to generating profit are more likely, where the firm estimates its unit costs, adds a margin for profit which it thinks is appropriate, given the level of risk, arrives at a selling price. Firms may sell products at or below MC (some economists say AC) engage in limit pricing (a strategic barrier to entry), or move towards it engage in predatory pricing (deemed anti-competitive and therefore illegal in modern industrialised economies like the UK) in an effort to destroy the market share of a rival force it out of business. Firms may profit satisfice rather than maximise, although with a profit-oriented output level close to MC=MR, or they may have a growth-oriented level of output closer to AC=AR.

If the labour market were perfectly competitive, the equilibrium wage rate and employment level would both be higher than in a situation where there is a monopsonist employer (see class notes for diagram etc.). In addition, the entry of a trade un ion to the industry which sets a minimum wage above that where the monopsonist employs at MC = MRP, will kink the supply curve of labour and produce a discontinuity in the marginal cost curve for labour (see notes for diagram etc.). Government failure means that the economic and social welfare of citizens (via an optimal level of output) may not necessarily be achieved and indeed the outcome may even result in a greater misallocation of resources than was achieved under free market conditions. In addition, a COBA approach to CBA may not give adequate attention to the external costs and benefits of a project, resulting in a misallocation of resources and inaccurate calculations of social costs and benefits which then leads to an inaccurate benefit-cost ratio from which to base an investment decision on.

[NB, other areas for consideration in evaluating the marginal concept include (in relation to macroeconomics or the themed paper), the government and the marginal rate of tax (e.g. relate to the laffer curve, employment and poverty trap) and the marginal propensity to consume / save (e.g. in relation to changes in the progressive taxation structure and monetary policy to influence AD). To what extent will changes in income tax and interest rates influence consumption, investment and the strength of sterling?].

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