The Cobb-Douglas production function suggests that the share of labour input and the share of capital input are relative constants in an economy, so that although labour and capital inputs may change in absolute terms, the relative share between the two inputs remains constant. See PRODUCTION POSSIBILITY BOUNDARY, CAPITAL-LABOUR RATIO, PRODUCTION FUNCTION, CAPITAL-INTENSIVE FIRM/INDUSTRY, ISOQUANT CURVE, ISOQUANT MAP.
cobweb theorem a theory designed to explain the path followed in moving toward an equilibrium situation when there are lags in the adjustment of either SUPPLY or DEMAND to changes in prices, COMPARATIVE STATIC EQUILIBRIUM ANALYSIS predicts the effect of demand or supply changes by comparing the original equilibrium price and quantity with the new equilibrium that results. The cobweb theorem focuses upon the dynamic process of adjustment in markets by tracing the path of adjustment of prices and output in moving from one equilibrium situation toward another (see DYNAMIC ANALYSIS).
Fig. 23 Cobweb theorem. See entry.
The cobweb theorem is generally used to describe oscillations in prices in agricultural markets where the delay between, for example, planting and harvesting means that supply reacts to prices with a time lag. The simplest case where current quantity demanded responds to current price while current quantity supplied depends upon price in the previous period is depicted in Fig. 23. In the figure, Dt denotes quantity demanded in the current period, St, denotes quantity supplied, while price is denoted by Pt, and price in the previous period is denoted by Pt–1. If demand were to fall rapidly, such that the demand curve shifted left from Dt to D1t, then comparative static analysis suggests that the market will eventually move from equilibrium point E (with price OP1 and quantity OQ1) to equilibrium point E1 (with price OP4 and quantity OQ4). Dynamic analysis suggest that the path followed will be less direct than this.
Starting from the original equilibrium price OP1, which has prevailed in years t–1 and t, farmers will have planned to produce quantity OQ1. However, after the contraction in demand in year t, supply will exceed demand by QQ1, and in order to sell all the quantity OQ1 coming on to the market, price has to fall to OP2. The lower price OP2, which prevails in year t, will discourage farmers from producing and they will reduce acreage devoted to this crop so that in the next year t + 1 a much smaller quantity OQ2 is supplied.
In year t + 1, and at price OP2, demand now exceeds supply by the amount Q1Q2, and in order to ration the limited supply OQ2 that is available, price will rise to OP3. This higher price in year t + 1 will encourage farmers to increase their acreage planted so that in the following year t + 2, a larger quantity OQ3 will be supplied, which means that in year t + 2 supply exceeds demand and price will fall below OP3, which will discourage planting for the following year, and so on. The eventual result of this process of adjustment is that a new equilibrium is achieved at E1 but only after a series of fluctuating prices in intermediate periods are experienced. See AGRICULTURAL POLICY.
coin the metallic CURRENCY that forms part of a country’s MONEY SUPPLY. Various metals have been used for coinage purposes. Formerly, gold and silver were commonly used but these have now been replaced in most countries by copper, brass and nickel. Coins in the main constitute the ‘low value’ part of the money supply. See MINT, LEGAL TENDER.
collateral security the ASSETS pledged by a BORROWER as security for a LOAN, for example, the title deeds of a house. In the event of the borrower defaulting on the loan, the LENDER can claim these assets in lieu of the sum owed. See DEBT, DEBTOR.
collective bargaining the negotiation of PAY, conditions of employment, etc., by representatives of the labour force (usually trade union officials) and management. Collective bargaining agreements are negotiated at a number of different levels, ranging from local union branches and a single factory to general unions and an entire industry.
Increasingly, plant- and company-level collective bargaining has dealt with PRODUCTIVITY as well as wages and conditions, with trade unions and the workforce offering to relax RESTRICTIVE LABOUR PRACTICES in return for improved wages and conditions. Such relaxations allow the firm to utilize labour more efficiently and flexibly, helping to improve the competitiveness of the firm.
Industry-wide bargaining can have inflationary consequences when trade unions use comparability arguments for wage increases with high percentage wage increases in industries that have experienced large productivity gains being extended on comparability grounds to other industries where the increases are not entirely justified on efficiency grounds. The selective use of comparability arguments for wage increases and pressures to maintain traditional WAGE DIFFERENTIALS can lead to COST-PUSH INFLATION. See TRADE UNION, INDUSTRIAL RELATIONS, INDUSTRIAL DISPUTE.
collective products any goods or services that cannot be provided other than on a group basis because the quantity supplied to any one individual cannot be independently varied. Such products are non-excludable since it is difficult or impossible to exclude any individual from enjoying their benefits, for example, television airwave transmissions. Such products are also non-rival, insofar as one person’s consumption of the product does not affect the consumption opportunities of anyone else. It is virtually impossible to get consumers to reveal their preferences regarding collective goods because rational consumers will attempt to become FREE-RIDERS, each understating his demand in the hope of avoiding his share of the cost without affecting the quantity he obtains. Consequently, such products cannot be marketed in the conventional way and we cannot use market prices to value them. Many goods and services supplied by government are of a collective nature, for example, national defence and police protection, and here government decides on the amounts of such products to provide and compels individuals to pay for them through taxation. See MARKET FAILURE, CLUB PRINCIPLE, SOCIAL PRODUCTS.
collectivism see CENTRALLY PLANNED ECONOMY.
collusion a form of INTERFIRM CONDUCT pattern in which firms arrive at an agreement or ‘understanding’ covering their market actions. Successful collusion requires the acceptance of a common objective for all firms (for example, JOINT-PROFIT MAXIMIZATION) and the suppression of behaviour inconsistent with the achievement of this goal (for example, price competition). Collusion may be either overt or tacit. Overt collusion usually takes the form of either an express agreement in writing or an express oral agreement arrived at through direct consultation between the firms concerned. Alternatively, collusion may take the form of an ‘unspoken understanding’ arrived at through firms’ repeated experiences with each other’s behaviour over time.
The purpose of collusion may be jointly to monopolize the supply of a product in order to extract MONOPOLY profits, or it may be a ‘defensive’ response to poor trading conditions, seeking to prevent prices from dropping to uneconomic levels. Because, however, of its generally adverse effects on market efficiency (cushioning inefficient, high-cost suppliers) and because it deprives buyers of the benefits of competition (particularly lower prices), collusion is either prohibited outright by COMPETITION POLICY or permitted to continue only in exceptional circumstances.
In the UK, under the COMPETITION ACT 1998, collusion in the form of an ANTI-COMPETITIVE AGREEMENT/RESTRICTIVE TRADE AGREEMENT is prohibited outright. Previously, under the RESTRICTIVE TRADE PRACTICES ACT, such agreements were allowed to continue, providing ‘net economic benefit’ could be established. See CARTEL, RESTRICTIVE TRADE AGREEMENT, ANTICOMPETITIVE AGREEMENT, OLIGOPOLY, DUOPOLY, INFORMATION AGREEMENT, RESTRICTIVE PRACTICES COURT.
collusive duopoly see DUOPOLY.
command economy see CENTRALLY PLANNED ECONOMY.
commercial