a) Using an appropriate diagram outline how a profit maximizing firm will set the price for its product if it believes that it is ‘safe from competition’ (4)
If a firm feels it is safe from competition, it will behave as a monopoly. Output will be Q1 where MR=MC to maximize profits or minimize losses. Profits will be equal to the shaded area.
b) Analyse the consequences of a fall in demand for such a firm’s price, output level and profit. (6)
Initially, the demand is QO (MR0 = MC0), with total profit equaling AR0-AC0 times Qo. When demand falls, D0 shifts to D1 and MR0 shifts to MR1. The new equilibrium is quantity demanded falls to Q1 (MR1 = MC1), where price is now AR1 and profit is and the profit falls to AR1 – AC1 X Q1. Therefore, price, output and profits all fall.
c) To what extent do the data suggest that Reuters is a profit-maximising firm? (8)
According to the extract, Reuters is not a profit-maximising firm. The data says that Reuters is a 'bloated organisation that has gone complacent’. This means that it is not working towards making maximum profits. The extract also states that Reuters needs more cost-cutting to survive. This is supported by Figure 2, which shows that while revenue is increasing, profits are constant or falling. In 2002, the company made a loss. This means that costs are most probably increasing at the same pace as revenues as well. However, the extract mentions that Reuters has begun investing in new IT services, which could be a long term strategy to gain profits, and might explain the rising costs.
d) Explain two kinds of economic inefficiency that a firm such as Reuters may exhibit (6)
Reuters is likely to exhibit allocative inefficiency. Allocative efficiency occurs when the firm produces output at which P=MC. Reuters produces at Q0 (MR=MC) where P>MC. Secondly, the extract indicates that the firm is suffering from dynamic inefficiency. Dynamic inefficiency occurs when there is lack of competition among firms, reducing the incentive for the firm to innovate its product. For example, Reuters introduced its instant messaging service 10 years later than Bloomberg.
e) To what extent is it likely that new firms will emerge to rival Reuters and Bloomberg? (8)
Bloomberg and Reuters are both very well known brands. Branding is very important in this industry because the source of news must be reliable. Thus new firms face the problems of needing time to build a reputation and they need money to hire good journalists. Furthermore, an effective news agent must be near the news. Thus Bureaus must be maintained worldwide. Also, since news must be delivered fresh, the company may need expensive communication equipment. In this day and age there are many affordable handphones which can transfer information fast. Also, with broadband and wireless internet access, this cost has fallen dramatically.
Futhermore, there will be customer inertia due to their investment in dedicated terminals. For a new company to enter, they must entice the customer to switch hardware. Nowadays this source of inertia is removed, because hardware does not need to be changed. Software needed for access is relatively cheap or even free.
f) Evaluate one pricing, and one non-pricing strategy that can be used by Reuters to reverse its decline. (8)
One pricing strategy is predatory pricing. This occurs when a firm sets prices below its minimum average cost, purposely making losses in order to attract customers from other firms undercut competitors and gain market share. Not only is this practice illegal, but Reuters is already making losses and might sustain further losses. Also, since it is heavily investing in new IT services, it may not have the revenue to dish out. A non-pricing strategy could be the outsourcing of news gathering to freelance journalists. This means that this would be a variable cost and not a fixed cost. However, quality control could prove difficult to maintain, and exclusivity is no longer guaranteed.
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