Short Answer Questions Based On Economic Theory
- What type of market do Australian Banks operate in? How has the Global Financial Crisis affected competition in this market?
Australian banks operate in an oligopoly market. This is a type of market structure where there are few sellers selling products that are almost identical and cooperating in placing barriers to entry. Australia banking sector is dominated by four major banks, namely, Commonwealth Bank, Westpac ANZ and NAB (Henry, 2010). These banks have expanded collectively across a variety of loan and deposit products and operate in a manner that makes it difficult for other banks to expand in this market. The recent global financial crisis led to increased consolidation among Australian banks to hedge against the impact of such crises in the future.
- Assume the biggest four banks in Australia decided to collude and agree to charge a higher price on banking products. Graphically demonstrate the price and output in this market and explain your diagram.
In an oligopoly market, firms operate under imperfect competition. The sticky upward demand curve creates fierce price competitiveness which leads firms to use non-price competition in order to acquire greater market share and revenue (Dixon, 2009, p. 17). Figure 1.0 shows the relationship between price and output in an oligopoly market
Figure 1.0 Relationship between price and output in an oligopoly market
Above point E, demand is elastic and other firms have an advantage since their prices remain unchanged. Below that point, demand is inelastic as other firms will also reduce their prices, leading to price war (Dixon, 2009, p. 17). By colluding to charge a higher price, the biggest four banks would be operating above point E. These banks are going to lose market share to the smaller banks since demand is elastic above the kink.
- How and why is the government seeking to increase competition in the banking sector? Explain your answer with reference to the diagram you constructed in Question 2
The government of Australia is seeking to increase competition in the banking sector by introducing measures such as developing programs that enhance consumer awareness, enhancing transfer of consumer mortgages and deposits, banning exit fees on home loans, supporting building societies and credit unions and enhancing disclosure of mortgage loan products (Henry, 2010). The main reason for doing so is to weaken the oligopolistic power held by the biggest four banks. This will ensure that the biggest four banks operate at point E on the curve in question 2.
Global & Australian Forecasts (2013) indicate that Australia Gross Domestic (GDP) is likely to rise by 2 percent in 2013. In April 2012, Deloitte Access Economics predicted that Australian GDP would rise by 3% in 2013 sparked by increased spending on engineering construction. As Romer (2000, p. 47) explains, a rise in GDP in an economy leads to a rise in aggregate demand (AD). As a result, the AD in the aggregate supply and demand curve will shift to the left, as shown in figure 2. Equilibrium point will shift from point A to point B, leading to an increase in prices from p3 to p1. In other words, the expected increase in spending will lead to a rise in the date of inflation in Australian in 2013. As well, an increase in aggregate demand has a positive effect on growth in GDP. However, the rise in interest rate may lead to lower levels of investment, which may slow the growth in GDP. Lower investment rate also means that less people are employed and hence, the unemployment rate is likely to rise.
Figure 2. Aggregate supply and demand curve
- a) The unemployment rate in November 2012 and in March 2013
Unemployed = 668,700 persons
Labour Force= 11,500,500 +668,700 = 12,169,200 Persons
Unemployment rate = %
Unemployed = 692,000 persons
Labour Force = 692,000 + 11,300,500 = 11,992,500 Persons
Unemployment rate = %
- b) Labour force participation rate in November 2012 and March
Labour force = 11,992,500 persons
Working age population = 19, 609,900 persons
Labour force = 12,169,200 persons
Working age population = 19, 587,300 persons
- c) Conclusion based on figures derived in a) and b)
The figures derived in a) show that unemployment rate has increased by around 0.3 percent from November 2012 to March 2013. This implies that the number of unemployed persons has increased at a higher rate than the rate of increase in the labour force and thus, this is a negative change. The figures derived in b) indicate that labour participation rate has increased by around 0.9 percent from November 2012 to March 2013. This implies that more persons who could not work in November 2012 have joined the labour force and hence, this is a positive change.
Dixon, H., (2009), Oligopoly theory made simple. Viewed May 31, 2013
“Global & Australian Forecasts” (2013). Viewed May 31,2013 <http://business.nab.com.au/global
Romer, D. (2000), Advanced Macroeconomics, McGraw-Hill, New York
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