Q26. Why do monopolies matter?

A monopoly is a market structure where only one business (or person) supplies that market. In that sense, monopolies are best described by what they don't have: competition. The monopolist has market power—they can charge what price they like relative to their costs, and make the largest profits possible for themselves.

Monopoly is contrasted with perfect competition, where no one has any market power. In a perfectly competitive market, there are no barriers to entry, no informational problems, or product differentiation.

Monopolists earn economic 'rent', or profits well in excess of any normal profits, and they can use these rents in different ways. Sometimes, the rent is spent on research and development, and may result in innovation and new products and services. Sometimes, the rent is spent on keeping barriers to entry high - for example, by lobbying government to stop any new entrants to the market the monopolist currently dominates.

Monopolies matter because they can harm society if their goals and objectives move in a different way to society's.

The monopolist charges consumers far more for the same product than a set of perfectly competitive businesses might, and generally restricts output of its products. Society could gain from increased output of the product. The social cost of additional inputs shunted into this one industry would be less than the social benefit we might get from any additional output.

Or take a polluting monopolist, whose output is poisoning the environment of the society in which it exercises its market power. It may be difficult to regulate the monopolist in this situation.

Q27. What is aggregate demand / supply?

Every market, if it operates for long enough, generates demand and supply curves.

The aggregate demand for all goods and services in the economy in a given year is the total amount of expenditure by the different sectors of society. Thus, aggregate demand is the sum of all consumption expenditure, investment, government expenditure, and net exports (exports - imports) in the economy. Changes in aggregate demand can lead to changes in the growth rate of the economy, which can generate business cycles. The aggregate demand schedule interacts with the aggregate supply schedule to determine overall national income and output.

The aggregate supply schedule shows the total amount of goods and services supplied to the economy by businesses, households, and the government, in a given year.

The interaction of aggregate demand and aggregate supply.

The interaction of aggregate demand and aggregate supply.

The interaction of aggregate demand and supply is shown in the diagram above. The overall price level in the economy is shown on the vertical axis. The level of economic output of goods and services is shown on the horizontal axis. There is a limit to the amount any economy can supply, so the aggregate supply schedule slopes vertically upwards at the end, since the economy cannot produce beyond this point.

For a given price level, aggregate demand and aggregate supply interact to produce a particular level of national income. If the price level changes (if there is inflation in the economy due to a war, or at a point in the business cycle like an economic boom, say), then aggregate demand will shift backwards towards the horizontal axis, because consumption (C) and Investment (I) will be depressed by higher prices. Economic income will fall as a result.

Q28. Why are the supply chains of some companies more connected than others?

Vertical integration is a type of business structure where one business controls large parts of the supply chain of the product it produces and sells. For example, some oil companies explore and drill for oil, extract it from the ground or sea-bed, refine it to make a range of products (petrol, heating oil, etc), and sell these products directly into the marketplace under their own brand.

Vertical integration is a way to reduce transportation and distribution costs, as well as to derive economies of scale. Businesses can increase supply chain quality by enforcing common standards, and can create 'ripple down' efficiencies, where an innovation in one area of the business gets transferred to the rest of the supply chain. So, although the business might contract out some of its functions to other businesses, most of the components are specified, produced, and shipped in-house.

However, vertical integration carries risks for businesses. Vertically-integrated businesses are more exposed to changes in demand: because the demand is for a final product, when a drop in demand comes, the ripple effect back through the various divisions of the business is very strongly felt.

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