Q13) Explain with examples- substitute goods – complementary goods.
Theses tow effect the cross elasticity of demand.
1- Substitute goods ‫البضائع البديلة مثل اللحم و الدجاج‬
2- Complementary goods ‫ مثل السيارة والبنزين‬.‫البضائع المتممة‬
Substitute goods: a reduction in price of product (y) reduces the quantity demanded of product (x). ‫عالقة‬
‫طردية‬
.‫ و عندما ينخفض سعر اللحم ينخفض الطلب على الدجاج‬،‫عندما يزيد سعر اللحم يزيد الطلب على الدجاج‬
Substitutes: Products related in such a way that a price change for one product leads to a shift in the same
direction in the demand for another product.
Complementary goods: a reduction in price of product (y) raises the quantity demand of product (x). ‫عالقة‬
‫عكسية‬
‫ و عندما ينخفض سعر البنزين يزيد الطلب على السيارة التي تعمل‬، ‫عندما يزيد سعر البنزين يقل الطلب على السيارة التي تعمل بالبنزين‬
.‫بالبنزين‬
Complements: Products related in such a way that a price change for one product leads to a shift in the
opposite direction in the demand for another products
Q14) Explain with examples: Economies of scale & Diseconomies of scale.

Economies of Scale: are the reduction in costs associated with expansion in output in the long run.
We say that there are economies of scale in production
when the per-unit cost decreases as output increases
when all inputs are changeable.

Diseconomies of Scale: are increases in the cost
associated with expansion of output in the long run.
We say there are diseconomies of scale in production
when the per-unit cost of all inputs increases as a result
of an increase in output.

The Importance of
Diseconomies of Scale
Economies
of
Scale
and
Economies and diseconomies of scale play important roles in
real-world long run production decisions. Economies of scale
underlie firms’ attempts to expand their markets either at home
or abroad. If they can make and sell more at lower per-unit
costs, they will make more profits.
Q15) Explain: Marginal cost, average cost and Division of labor.
1- Marginal Cost (MC): denotes the extra or additional cost of producing 1 extra unit of output.
Say a firm is producing 100 compact discs for a total cost of $100. If the total cost of producing 101 discs is
$106, then the marginal cost of production is $6 for the 101 st disc.
In algebraic form its equal = (P2-P1) / (Q2-Q1) = (106 – 100)/ (101-100) = 6/1= 6
2- AVERAGE COST: To arrive at the earring maker’s average cost, we simply divide the total amount of
whatever cost we are talking about by the quantity produced. Each of the three costs we have discussed has a
corresponding average cost.
For example, Average Total Cost equals total cost divided by the quantity produced. Thus:
ATC = TC/Q
3-Division of labor: is dividing up a work process into specialized activities undertaken by different people
in order to increase the quantity of output available from given inputs.
Q16) Explain: 1- how income flows in the economy
2- The principle of supply and demand in the market. (Equilibrium price)
1- The circular flow model actually contains two distinct flows
1. The flow of money that runs counter clockwise
from households to firms and back.
2. The flow of physical goods and services from firms to
households and of physical input services form households
to firms which run clockwise.
2- The principle of supply and demand in the market. (Equilibrium price)
Neoclassical model of competitive equilibrium examines the influence on the price of commodity by
grouping them into 2 main parts:
1. Those influences on the Supply side: include those influences on the production of a commodity.
Availability of right kind of labor, raw materials, machinery, power and technology.
2. And those on Demands side: all influences affect customers demand for commodity such as income,
lifestyle, age and customer tastes.
Principle of Equilibrium price:
If D is less than S: Price will fall for D and S to be in equilibrium
If D is more than S: Price will increase D and S to be in equilibrium
Equilibrium price: D and S are equal and everything is at rest.
Case 1:
The S and D pans are in balance or in equilibrium. In this case, demand
D
S
and sully are equal and everything is at rest, the market price is said to
be the equilibrium price.
10
10
D=S
Case 2:
D is lighter than S, so that to make them balance again we have to
D
increase demand relative to supply. One way of achieving this is to
reduce the price of the good.
S
6
This reduction has two effects:
1) It would increase the quantity demanded, as the lower price would
encourage and enable more people to consume more of the goods.
2) It would reduce the quantity supplied, as the good become less profitable for suppliers to produce.
The new equilibrium price would be such that the net effect of the reduced demand and the increased
supply is that demand and supply once again in balance.
Case 3:
D and S are again in balance at the lower price, but in smaller quantities
both for supply and demand.
D
S
7
Q17) Compare and contrast Hayek and Sens’s models of the competitive market.
:‫ سنقوم هنا بشرح النماذج األربعة‬،‫السؤال طلب المقارنة بين هايك و سن فقط‬
Joseph Schumpeter:




10
The core of economic development is innovation.
Monopolists are the wellsprings of innovation in a capitalist economy.
The Theory of Economic Development emphasized the importance of the entrepreneur or innovator
whose innovations result in temporary supernormal innovational profits, which are eventually
eroded away by imitators.
The entrepreneur is the hero of capitalism, the person of “superior qualities of intellect and will,”
motivated by the will to conquer and the joy of creation.
7
Schumpeter: Creative Destruction
 Suppliers control the market, not producers (anti Neo Classical)
 Markets are driven by the regular appearance of entrepreneurs whose innovations challenge the
established few suppliers who dominate the markets
 Entrepreneurs





Destroy the structure of existing markets and cause established firms with older products or services
to decline
Acquire the market shares (=wealth) once held by the older firms
hire new employees, pay increased dividends to their shareholders, and increase their purchases
from suppliers
New wealth is created through new demand and distributed to the entrepreneurs and their
employees, shareholders, and suppliers
Entrepreneurs
create
new
demand
and
hence
new
wealth
through the process of destroying existing market structures, (i.e. Apple, Dell)
2. Neo Classical




Markets consist of many buyers and many sellers who interact (through fluctuating prices) so as to
ensure that supply equals demand  equilibrium
Perfectly competitive = such markets perfectly match the theoretical definition.
New wealth creation comes from an increase in sales of products which in turn causes an increase in
suppliers’ and workers’ income.
Perfect competition or equilibrium requires:







Buyers and sellers are price takers (accept price as determined by market supply and
demand).
The number of firms is large.
There are no barriers to entry.
Firms’ products are homogeneous (identical) and can’t change or be amended, adapted for
customers’ needs.
Exit and entry are instantaneous and costless.
There is complete information.
Selling firms are profit - maximizing entrepreneurial firms
3. Friedrich von Hayek:
•
Hayek emphasizes the importance of the process of competition rather than the end result of
equilibrium.
•
Information about changes in consumers’ tastes or the conditions of production, is transmitted by
changes in prices.
•
The price system is a decentralized mechanism for transmitting information. i.e.; prices are
information signals.
•
Sometimes prices do not transmit the correct information; externalities are present when prices do
not convey the social costs and social benefits arising from an economic activity.
•
Environmental pollution and the greenhouse effect are examples of externalities.
•
A decentralized market system is seen as a way of guaranteeing individual freedoms.
•
Market outcomes can neither be said to be just nor unjust; they are the result of luck and judgment
on the part of individuals.
4. Sen:
 In Sen’s model the market is seen as a “power balance” and conflict of interests is an unavoidable
feature of the market process. The distribution of the benefits from a market transaction depends
upon the relative economic power of the transacting parties.( Conflict, Power imbalance and
Inequality)




The benefit from the market transactions will reflect the power of the transacting parties.
Imbalances of market power mean that income is distributed unequally across the
population.
The emphasis on freedom as enabling powers and capabilities (positive freedom), but
markets do not ensure this for all.
Although there may be a balance between demand and supply, Sen’s approach points out
that other dimensions of market societies are out of balance.
:‫ملخص النماذج األربعة‬
Schumpeter's
Model
Model of
competition
Source of
efficiency
Organizations
Freedom
Dynamic
competition
forward-looking
competition over
innovations in
products and
processes
Dynamic
efficiencyinnovations
arising from
technological
advances and
economies of
scale result in
lower prices and
costs
Large
corporations with
their
entrepreneurial
managers
Neoclassical
Model
Perfect competition/
competitive
equilibrium,
Equilibrium
Price where
demand=supply
Productive efficiencyprices and costs at the
minimum level given
existing technology
Firms are pricetakers
Hayek's model
Sen's model
Competition as a process
of adjustment to change;
prices are signals which
transmit information
Competition as a power
struggle markets
characterized by conflict
rather than by harmony of
interests
The decentralized price
mechanism transmits
information about
changing preferences and
conditions of production
Emphasis here not on
efficiency whose gains may
occur to all, but on the
unequal nature of the gains
and losses
Firms respond to price
signals in an environment
where they cannot have all
the information
Economic organizations are
part of the struggle for
economic power
Price system guarantees
individual freedom;
market outcomes are
neither just nor unjust;
freedom as negative
freedom
Emphasis on freedom as
enabling powers and
capabilities (positive
freedom), but markets do
not ensure this for all
Q18) 1- What are the causes of market failure?
2- Explain the main functions of the government.
1- Market failure: describe the failure of the market economy to achieve an efficient allocation of resources.
There are several important circumstances under which market fail to allocate resources with reasonable
efficiency:
 Where there are resources that can be used by everyone but belong to no one – called
‘common property resources’.

Where there are goods whose consumption cannot be restricted to those who are willing to
pay for them – called public goods.
 Where people not party to some market bargain are none the less significantly affected by it
– called externalities.
 Where one party to market transaction has fuller knowledge of its consequences than is
available to the other party – a situation referred to as asymmetric information.
 Where needed markets do not exist - Missing market.
 Where substantial monopoly power exists.
2- Governments have three main economic functions in a market economy as mentioned below:
 Governments increase social efficiency by promoting competition, limitation externalities
like pollution, and providing public goods.
 Governments promote equity by using tax and expenditure programs to redistribute income
toward particular groups.
 Governments foster macroeconomic stability and growth, reducing unemployment and
inflation while encouraging economic growth-through fiscal policy and monetary
regulation.
Q19) Explain with examples: Merit goods & Public good
1- Merit Goods are goods that society operating through the government deems to be especially important or
that those in power feel individuals should consume them. Housing, education, health care
often cites as merit goods.
2- Public goods fall under tow characters:
 Non-rivalry that means when I consume a good; it does not reduce the amount available for others.
For example, benefiting from a street light does not reduce light for others.
 Non- excludability: This occurs when it is not possible to provide a good without it being possible
for others to enjoy. For example, police and defense.
 Public goods is one for which the exclusion of others is undesirable and unnecessary, impractical
and difficult, or impossible.
 Because of their nature the private sector is unlikely to be willing and able to provide public goods.
The government therefore provides them for collective consumption and finances them through
general taxation.
20) Explain how externalities can influence a business.
Externality is a cost or benefits of a transaction that are incurred or received by other members of the society
but not taken into account by the parties to the transaction.
Externalities can be either positive, when an external benefit is generated, or negative, when an external cost
is imposed upon others.
Externalities cause a market inefficiency which involves involuntary imposition of costs or benefits.
Market transactions involve voluntary exchange in which people exchange goods or services for money.
When a firm buys a chicken to make frozen drumsticks, it buys the chicken from its owner in the chicken
market, and the seller receives the full value of the hen.
But many interactions take place outside markets while airports produce a lot of noise, they generally do not
compensate the people living around the airport for disturbing their peace. On the other hand, some
companies which spend heavily on research and development have positive spillovers effects for the rest of
society. In each case, an activity has helped or hurt people outside the market transaction; that is, there was an
economic transaction without an economic payment.
Governments are generally more concerned with negative externalities than positive ones. As our society has
become more densely populated and as the production of energy, chemicals, and other materials increases,
negative externalities or spillover effects have grown from little nuisances into major threats. This is where
governments come in.
Government regulations are designated to control externalities like air and water pollution, damage from
strip mining, hazardous wastes, unsafe drugs and foods, and radioactive materials.
In many ways, governments are like parents, always saying no: You should not expose your workers to
dangerous conditions. You should not pour out poisonous smoke from your factory chimney. You should not
sell mind-altering drugs. You should not drive without wearing your seat belt. And so forth. Finding the
precisely correct regulations is a difficult task that requires complex science and economics and is subject to
heavy political pressure, but few today would argue for returning to the unregulated economic jungle where
firms would be allowed to dump pollutants like plutonium wherever they wanted.
Q21) Explain briefly factors of government failure.
Without doubt governments are far from perfect. We talk about Government failure when governments do
not succeed in achieving potential benefits that exceed the full costs. Some possible causes for systematic
government failure:
1) Rigidities: a centralized decision-making body has difficulty in reacting to changing conditions
as fast as decentralized decision-makers react to market signals
2) Decision-makers objectives: modeling governments as maximizes of their own welfare, which
means they take decisions in order to maximize votes at the next election.
3) Public choice theory: deals with three maximizing groups; elected officials seek to maximize
votes, civil servants seek to maximize their salaries, and voters seek to maximize their own
utility.
4) Rational Ignorance - provide information to the public that will ensure that they support policies
that are not in their interests (also called “manufactured consent”).
Q22) Discuss advantages and disadvantages of free trade.
Globalization: internationalization of competition (free trade)
Free trade: freedom from any interference with trade.
Advantages:


Allowing countries to specialize in producing products in which they have a comparative
advantage which enhances the maximization of world production and this will allow
consumers in the world to consume more goods than he or she could without free trade,
 Improving living standards.
Maximizing per capita GDP over the whole economy.
 Tariffs tend to raise the relative income of a group of people who are in short supply
domestically and to lower the relative income of a group of people who are plentiful supply
domestically (free trade does the opposite).
 The inherent advantages enjoyed by firms operating in free-market economies that they are
systematic.
 The conditions that confer a strategic advantage to fee market over the social market
economies of the post war period are unregulated global free trade in conjunction ( ،‫اتحاد‬
‫ )توحيد‬with unrestricted global mobility of capital.
 In free-trading global market the advantage lies with firms whose costs are low. This is
true whether they are labor costs, regulatory cost or tax costs.
 Unregulated global free trade and international mobility capital
 There is no much doubt that the free market is the most economically efficient type of
capitalism.
Disadvantages:
23) What are the tools that government uses to provide protection for some of their domestic
industries?
The case of protectionism:
Two kinds:
1) The national objectives other than total income:
a) Non-economic advantages of diversification
b) Risk of specialization.
c) National defense.
d) Protection of specific group.
2) Increase one countries national income
a) To alter the terms of trade.
b) To protect against unfair actions by foreign firms and government.
c) To protect infant industries.
d) To encourage learning by doing.
e) To create or to exploit a strategic trade advantage.
There are two main types of protection policies. Both cause the price of the imported goods to rise and its
quality to fall:
1) Policies that directly raise price: Raise prices of imported goods by tariff (import duty affect
foreign and domestic products and consumers).
2)Policies those directly lower quantities:
a) Non-tariff barrier: any implicit and explicit restriction on trade that does not involve tariff
(quality standards).
b) Import quota: importing country sets the maximum of the quantity of some product that maybe
imported each year.
c)Voluntary export restriction (VER): is an agreement by an exporting country to limit the amount
of a good that it sells to importing country.
Q24) How foreign direct investment (FDI)and multinational enterprises(MNEs) affect their host
countries.
Multinational corporations do businesses around the world are corporations that operate beyond the borders
of any single country, Corporations that do business across national borders are sometimes so large that their
annual revenues from worldwide operations exceed the value of goods and services (gross domestic product)
of entire nations.
For example, General Motors had revenues of $ 164 billion in 1996.
MNCs are “enterprises which own or control production or service facilities outside the country in which they
are used.” The MNC is an agency of direct, as opposed to portfolio, investment in foreign countries. It is not
always incorporated or private. It can be a cooperative or state-owned entity.
Almost every large business organization has some direct or indirect involvement with foreign countries, but
only when an enterprise confronts one or more of the problems of designing, producing, marketing, or
financing its products or services within and among foreign nations does it become truly multinational.
For example, MNC have foreign nationals in top-management positions, the top executives of Coca-Cola
include nationals from Australia, Ireland, Italy, and Austria.
Many of firms of businesses go multinational for many reasons:
For the profit, management would like to manufacture in those countries where it finds the greatest
competitive advantage, would like to buy and sell anywhere in the world to take advantage of the most
favorable price to the company, advantage of labor cost, trade agreements, and currency fluctuations;
MSN help governments to improve economy through employment, sales and buy profits, tax, improve
technology, improve people skills, social stability, productivity of local market, high competition in local
market.
There are many of problems that an organisation may face when it goes multinational as mentioned
below:
The operating in a new and unfamiliar environment, coordination of the activity of subsidiaries located in
different parts of the world, cross cultural issues.
But in other side there are benefits that MNCs may bring to their host nations, such as:
Increase growth rate of host nation through investment, new technologies or managerial competencies (like
skills and experience will be gained), stimulation of competition inducing domestic rivals to be more
innovative, competitive, promotion of development of supporting industries or complementary activities,
Encourage new business industries, improve management skills level, and provide products and services that
raise the standard of living .
For example, France offered lucrative inducements to get the Mercedes-Benz Swatch mobile factory to
locate in France in 1995.
In the United States, South Carolina brought a BMW plant to Spartanburg partly with inducements.
California, Tennessee, and other states brought Japanese automobile plants to their areas with various
inducements.
There are many of the disadvantages that MNC investment may bring to their host nations for
example:
Challenge to Nation- State rules, They want control of their economies and want to achieve their economic,
political, and social objectives. The power of the MNC can influence each of these objectives and in so doing
may challenge the sovereignty (rule), or the supreme (top) political power, of the government.
Inequities, import raw materials from home country but not from host country, avoidance of taxes and giving
the best management jobs to MNC home-country citizens.
Interference with Economic Objectives for example The MNCs have the strength to attract bank loans
which otherwise might be available for local businesses, or an MNC may wish to locate a plant in an area of
prosperity when the host country would prefer its location in an underdeveloped region.
Social Disruption (trouble), the introduction of different mores (traditions), habits, behavior, and ethical
values, plus new products, management styles, distribution systems, more money, and technology, do affect
local ways of thinking and doing things. Some locals may applaud (approve) the changes, while others
deplore (‫ )يستنكر‬them.
Environmental Degradation (poverty), Many nations are becoming more concerned about the impact of
MNCs on their environment.
Imperialism, many of the awakening (developing) nations look on foreign managers with fear and distrust as
the embodiment (picture) of an old, nor easily forgotten, exploitative (unfair) colonialism.
Symbol of annoyance and Antipathy, the LDCs have grievances (‫ )شكوى‬about their position in the world
that have nothing to do with the MNC, but the MNC is a convenient (suitable) visible target for their anger
Destruction (affect and damage) of local competition, repatriation (send home) of profits and no
investment in the local economy, problems of footloose industry including uncertainty in the labour market.
Developing countries should encourage MNC investment in their economies, and they should try to
regulate MNC activity, there are broad generalizations that vary, of course, from country to country.
Sometimes the complaints are completely justified; at other times they are more perceived than real.
So the country and Local Corporation discover the benefit of MSN.
But even in some of the highly industrialized countries there are resentments against foreign investment and
restraints are imposed on foreign firms.
Hong Kong impose few restrictions (limits) on foreign investments. Sweden treats foreign MNCs as it does
its domestic companies. China has many restrictions.
25. Explain the terms below:
a) General Agreement on Tariffs & Trade(GATT)
GATT (General Agreement of Tariff & Trade). The principle of GATT is that each member country
agrees not to make unilateral tariff increases.
Created the rules and regulations concerning international trade and contributed greatly to the reduction of
tariffs and other barriers to international trade.
Until recently, a regular international conference to reduce trade barriers; it has been replaced by the WTO.
b)World Trade Organization(WTO)
An organization whose functions are generally the same as GATT’s were-to promote free and fair trade
among countries.
world trade organization (WTO) that superseded the GATT in 1995 to liberalize trade.
c)European Free Trade Association(EFTA)

European Free Trade Association (EFTA)(1960) by countries unwilling to join EU. They joined
EU in 1995.
d)North American Free Trade Agreement(NAFTA)
The North-American Free Trade agreement (NAFTA) links Canada, the US and Mexico in economic and
trade relations.
A U.S.- Canada- Mexico free trade zone that is phasing in reductions in tariffs.