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Economics for Business and Management - Essay Example

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Question 1 (Explain why the introduction of a minimum price above the equilibrium price reduces social welfare) Demand curve of an economy combines all the quantities of goods which a consumer is willing to purchase at a given price. Since consumers derive satisfaction from consuming good so, it can also be stated that market demand curve sums up the social benefit and welfare of the people and society for a specific good…
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Economics for Business and Management
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Download file to see previous pages The demand curve may take an unique shape like that in figure 3.5 for two major reason, firstly if the product is of an inferior nature. Secondly if the customer believe that even though the price is high the quality is worth it, hence they demand buying more. With respect to figure 3.6 The demand curve will happen to shift incase at every and each price the customers are prepared to buy more or less than before (GILLESPIE, 2011) Similarly supply curve combines all the goods produced and offered for sale in the market against given price (THOMPSON, 2010). Goods are only sold when profit of the producers equates costs or is greater than that which means supply curve can be indicated as social cost. People have to pay a certain cost to attain some benefit. The intersection of demand and supply provides market equilibrium at which equilibrium price and equilibrium quantity is determined (AFRIAT, 2003). Now if the equilibrium conditions are dismantled; the economic efficiency will also be lost in the process such in the case of benefits and costs, there may be welfare loss or even welfare gain too. Assuming a condition where minimum price is set above the equilibrium prices indicate setting a price floor for a certain commodity. Suppose government introduces price floor on cotton to protect the small producer, this will result in increasing prices where consumers will be required to pay higher prices that the good’s actual worth. In an open competition the prices might have shifted down to equilibrium but due to price floor that won’t be possible. In Fig. 1, Pf price is set to be fixed at $4 where quantity supplied is 2kg Cotton and demand is 1.5kg while at equilibrium consumers might have 1.8Kg cotton at less price of $3.2. So, with an increase in price over equilibrium has reduced the social welfare as the surplus cotton is not demanded yet the consumers are required to pay higher for limited quantity (WESTON & TOWNSEND, 2009). The social cost of cotton is more than the social benefits which sums up the negative net welfare at large. Question 2 (Why a profit maximizing firm produces the output that equates marginal revenues to marginal costs? (MR=MC)) In monopoly or even in perfect competition, a firm optimizes its profit and output where marginal cost and marginal revenue are equal (GRIFFITHS & WALL, 2011). All approaches to analyse maximized profits end up at MR and MC. If we examine total revenue and total cost; they are also summed up by the marginal. Secondly marginal curves provide the slope of change by which accuracy can easily be maintained. In perfect competition firm has MR=MC at two point. First at output level 1 and at output level 7. Firms always prefer the highest output to be produced while secondly at output level 1, though MR=MC but the total cost is below total revenue and the profit at this point is also negative (GILLESPIE, 2011). Finally the maximized profit require the biggest gap and difference between revenues and costs which can only be attained at point where MC=MR as in Fig. 2, at max. profit Average Cost is farthest away from Average Revenue. Mathematically, when MR=MC, after taking 1st derivative the gap between Total Revenue (TR) and Total Cost (TC) is the positive highest. Which after 2nd derivative becomes negative indicating the maximum profit while no other ...Download file to see next pages Read More
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