Question 1 (a) two examples of badly-behaved preferences about Economic Theory and Principles
The first badly behaved preference is a situation where an individual prefers inferior goods to superior products when indeed they are in the financial position where they can comfortably afford such goods. Some of the inferior products include some of the staple foods that are in existence. With an increase in income levels, individuals tend to shift to superior products. It would appear uncommon to stick to a product that naturally belongs to a lower class. In real life situations, when incomes increase, people tend to change their shopping malls and even the foods that they eat. Furthermore, they take cognizance of emerging trends such as in fashion. The main reason for the development is because the improved incomes free up more resources that they may spend in the luxurious goods.
The second instance of a poorly behave preference is the situation where an individual continues buying without satisfaction. It is called the assumption of non-satisfaction. In this example, a person keeps buying without getting enough of it. It would go on until their budgets cannot support it anymore. In essence, the behavior depletes the available resources and also interferes with the budgets. Furthermore, this tendency hinders an individual from getting other products. The consumption in the real world takes exactly this format. A lot of individuals spend a lot of their income on a lot of one particular product. What is surprising is the fact that much is acquired even when just a little bit is needed. The result is an exhausted budget where individuals may not afford other necessities.
b) The weaknesses of neoclassical consumer choice theory;
The neoclassical theory of consumer choice classifies individuals as consumers and is presented with a set of two bundles from which to have preferences for the purpose of purchase. The theory has got some weaknesses. Below are some of the deficiencies;
Firstly, the argument fails to recognize a set of more factors that affect consumer choice. Some of the factors include circumstances, time, and the place where the consumer is at the particular time of the need. Additionally, some social issues affect consumption like social groups and gender. The glaring failure to recognize the factors make the theory a little faulty.
The theory fails to borrow insights from other social sciences. There are a lot of proclamations in the opinion that appear to be in parallel to the proclamations of other social sciences. It is important to note that consumption of goods and services is affected by different individual traits that we can learn from other social sciences. The behaviors of people in diverse environmental settings play a huge role in consumer choice.
Besides, it does not put into play the effect of the nature of the consumer goods themselves in consumer choice. If the character of a particular product changes, it is likely that the customers may also change their attitude on the product. The neoclassical theory does not capture the full magnitude of this effect.
2 (a) Comparison and contrast on the role of consumption and demand in the economy from classical and Keynesian approaches
The Classical approach is the view that aggregate demand in an economy can take care of itself. In this regard, it finds that income; net spending is all in balance. Consequently, there would be no strain in production since the revenue generated from production is spent on the economic outputs. On the other hand, the Keynesian approach states that the state has to take center stage in the management of aggregate demand.
A further difference between these two schools of thought emerges in their understanding of the role of interest rates in the maintenance of the economy. The classical approach uses the idea of loans to balance the leakages. It says that the supply of these loans always equals the investments. In that regard, the interest rates will provide the cost of these loanable funds. Keynes differs with this approach very sharply. His idea is that the demand and supply of loanable funds do not control the interest rates. Instead, long-term profit expectations will have a bearing on the rates.
The comparison
Both approaches are in agreement that firms may take actions to slow down or stop operations when the economy is experiencing a difficult financial mess. It is a short term strategy that businesses develop so as to prevent them from closing down in the long term. When the operations of firms are scaled down, there would be a drastic fall in supply. The result is reduced consumption which leads to savings.
B) Policy conclusions from the two approaches concerning the role of government
Monetary policy conclusions; firstly, the government plays a role in the maintenance of the liquidity of the financial sector. The state has to ensure that there is a balanced supply of money in the market. It has to come up with policies to make sure that they regulate the flow of money in the market. The primary tool it can use to control monetary supply is the use of credits.
Taxation by the government affects individuals' disposable income. For instance, when they reduce taxes, the net income will increase, and this will lead to the availability of more money for people to spend on goods. As a result, demand for products will increase. Such an increase will lead to improved productions and hence improving the economy.
The government restructures the financial sector to meet its everyday needs. At times, the arrangement of the financial sector may not be efficient in meetings the demands of the market. It is incumbent upon the concerned departments to be creative and find the solutions to the problems. For example, the government needs consistently to review the operation mechanisms of financial institutions so as to come up with a sound and robust system. An efficient financial system that meets the interests of the citizenry helps to improve the operations of the people. Demand would then be affected.
The neoclassical theory of the company; its strengths and weaknesses
The neoclassical business may also be called the textbook company. It is an enterprise that operates with the principal aim of maximizing the profits. To make profits, it aims at selling its products at costs that are higher that the expenses of production. The profits are maximized at the point where Marginal cost equals the Marginal Revenue (MR=MC) according to the marginal principle. The theory operates under some assumptions. Some of the assumptions include; that the entrepreneur also serves as the owner, that there is full knowledge of the market, and the future is predictable and precise.
Strengths of the theory
The firms in this theory have a role to play in the economic agenda. They contribute to the allocation of the resources through their activities. While of trying to get the highest value in profits, the firm will seek to come up with creative mechanisms to improve the quality of its products. In the long run, an economy would have benefited from that objective.
Furthermore, firms operating under the neoclassical theory will try to give the employees incentives to ensure that they deliver optimally for the owner. A poorly motivated and remunerated employee is not likely to be productive. They would then be accorded some benefits to ensure they are comfortable in the company. In addition to that, while firms engage in price wars so as to improve their market share, it is the consumers who benefit most from the reduced costs. The implication is that they would have improved their savings that they may invest elsewhere.
The weaknesses of the theory
The initial gap emerges from the ownership. In real life, we see a difference in the property and management. It is not necessarily true that the management must only be done by the owners. In most cases, they have handed over the responsibility of the Directorate. They act as agents of the owners and have been given authority to make managerial decisions on behalf of the proprietors. Ordinarily, commercial institutions have some roles to play in the society. However, the firm in this theory does not think outside the bracket of profit making. It is fixated at working on strategies that would maximize its revenues and reduce its costs. It does not care about issues like environmental conservation. In this regard, it stays out of touch with the other needs of the society. In the long run, it may be rejected by the people in whose environs it has been situated.
Finally, the firm in this theory understands issues like technology and other emerging technological advancements only in the terms of cost reduction. Any new technology that would improve the quality of products but enhances the cost of operations would not be considered. That would effectively hinder the advancement in the quality of goods. The theory limits and hinders other aspects. The scope and objectives are rigid and do not allow for any deviation.
Comparison and contrast between neoclassical, transaction costs and knowledge-based theories on;
The way in which the firm's principal motive is understood
In neoclassical theory, the company's primary purpose is to maximize its profits. Every operation that it undertakes is geared towards attaining the highest value of returns. It strives to ensure that it reduces its costs of operation. Any approach to competition takes the dimension of capturing the largest customer base. Even if the quality of the goods and services should improve, it happens with the factor of profitability at the back of the mind. Transaction cost also takes the approach of managing the costs that are involved in the operations. It organizes its structures in a manner that would help minimize the costs. The knowledge-based theory positions itself to reduce mistakes. It appreciates that mistakes are inevitable and so works out to minimize them.
The role that the firms play in the economy
A neoclassical company concentrates on profitability. With an increase in profit margins, the firm is bound to contribute more regarding taxation to the state. The taxes from the base upon which the state can grow the economy. Consequently, a firm in the classical theory will contribute to economic development through contribution to taxation. Transaction cost businesses will help to the elaboration of the appropriate management systems that will ensure good managerial standard are met. It will result in efficiency in the running of institutions. A knowledge-based firm plays a vital role in the economy by examining any existing knowledge gaps and improves on them to reduce on mistakes that administrations make.
a) Competition in neoclassical understanding and Competitiveness in the New Economy
The neo-classical approach considers perfect competition as the ideal type of game. Here, firms are treated as actors in the market. They do not directly influence the prices of goods and services. They take the prices that exist in the industry. The customers have full knowledge of products in the market and therefore make an informed decision on what goods and services to acquire. Also, it indicates that there are no external forces that influence the decision that they make. According to this theory, the Pareto equilibrium will naturally coincide if there is no influence of other actors. The understanding is suitable for efficient distribution of resources. In the short run, the firms are likely to make supernormal profits though this may normalize over the near future.
Competitiveness in the ‘New Economy' involves a situation where businesses work together to set the market prices. It comprises of small enterprises that decide to team up face the other bigger firms.
They interact so as to take advantage of their position. In this type of arrangement, a firm may not take credit for its profits but may have to give credit to others. In the system, the firm expects their rivals to take note of their actions and act on them.
b. How competition is derived in the new economy
Competition in the new market is obtained in either through collusion or non-collusion. In collusion, there is the formation of cartels while under non-collusion, there are price wars and the game theory.
Cartels; this is a situation where firms come together and form a force that dictates how the market runs. They dictate the prices and determine the quantity of goods to be let into the market. Furthermore, they apportion the market among themselves so as to avoid clashes. Consequently, those producers who are not in the cartel find competition hard and may close shop. In price wars, firms engage themselves in unrelenting price wars that will see a continued reduction in the cost of goods. The trend may continue until they reach the marginal cost. At this point, they have no economic growth since they do not gather any profits.
