Economics: Australian Banks and Oligopoly Market

This document discusses the oligopoly market structure of Australian banks and its impact on the economy. It explores the government's role in promoting competition and preventing monopoly power. The document also covers the use of discretionary fiscal policy and expansionary monetary policy to stabilize the economy during periods of turbulence. Additionally, it examines the relationship between unemployment, inflation, and policy measures to address these issues.

Running head: ECONOMICS
Economics
Name of the Student
Name of the University
Author Note

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Table of Contents
Part A.........................................................................................................................................2
Answer 1................................................................................................................................2
Answer 2................................................................................................................................2
Answer 3................................................................................................................................3
Answer 4................................................................................................................................4
Part B..........................................................................................................................................5
Answer 1................................................................................................................................5
Answer 2................................................................................................................................6
Answer 3................................................................................................................................7
Answer 4................................................................................................................................7
Answer 5................................................................................................................................8
Reference..................................................................................................................................10

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Part A
Answer 1
Australian Banks operate in more of an oligopoly. The market is identified as an
oligopoly market due to the fact that four largest banks namely Commonwealth Bank,
Westpac, ANZ and NAB dominate the market with considerably large share (Hutchens
2019). This makes banking industry highly concentrated.
Unlike banks in many other countries, banks in Australia comparatively did well and
as per the available evidences, it can be said that Australian banking sector survived the
Global Financial Crisis (GFC). This converse scenario happened due to the policies taken by
the Australian government, Reserve Bank of Australia (RBA) and Australian Prudential
Regulation Authority (APRA). The ‘four pillar’ policy take by the government prevents
mergers among the four dominating banks of Australia. Such a policy restricts competition
within the banking industry. This reduced the risk taking incentive and made the banks less
vulnerable to adverse market situations. The guarantee on small banks’ deposits prevented
them from going bankrupt. Hence, limiting competition and balanced policies helped
Australian banks to sustain under face of the financial crisis.
Answer 2
Assuming four banks in Australia colluded to charge extra price for their products.
The big four banks has the largest banking market share. Thus, collusion makes them the
price maker in the industry and all the small banks would react as per the price set by the big
banks. Therefore, the big four banks will earn a larger profit. In the long run all the small
banks will have to shut down and the big four banks will get monopoly power over the
banking industry (Pindyck and Rubinfeld 2014). The price, profit and out of the market is
given in the below diagram. In the short run, after collusion the price of the banking products

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will rise. The banks then can charge a higher price at PM. However, in the long run after all
the small banks exit the price of products will increase and reach point as shown in the
diagram and sell less products, that is at QM. Collusion allows the bank to behave like a
monopolist and earns a supernormal profit indicated by the rectangle APMEB.
Figure 1: Effect of collusion among banks
Source: (Created by the Author)
Answer 3
The government wants to increase competition in the banking sector to restrict the big
four banks in the industry from gaining monopoly power over the market by colluding. In
figure 1, the effect of the monopoly power of the big four banks can be observed. If there is
no competition in the market, then the customers will be exploited by charging higher price
for same products. The volume of the market decreases from the free market point QC to
monopoly point QM. Hence, the government intervenes, regulates the banking sector to avoid
such market conditions and increases competition.

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Answer 4
Figure 2: Entry in the competitive market
In a competitive market when the price is above breakeven point and the firms are
appropriating positive profits that is higher than zero economic profits. It attracts new firm in
the market. As more firms enter the market supply increase lowering the price and profit.
Further entry in the market ends when with increasing firms in the market reduces the profit
level and reaches zero economic profit level. Beyond this point, further entry will push the
price down and firms will start making loss, hence entry ends at this point. This is explained
in the above figure.
When firms in the competitive market face a higher price P1 (above the break-even
point), they enjoy a supernormal profit. This triggers entry of new firms in the industry
shifting the supply curve to the right to S1S1. Increased supply lowers the price to P* where
each firm earns only normal profit. This is the point where entry stops.

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Part B
Answer 1
The discretionary fiscal policy is used to counter the effect of business cycle shocks.
The discretionary fiscal policy is taken beyond the existing fiscal policy and helps to stabilize
economic activity during period of economic turbulence. It generally works through non-
mandatory changes in taxes or government expenditure.
Suppose the government wants to increase the output of the economy then it cuts tax
rate. Because of this disposable income in the economy increases and demand increases
causing aggregate demand to shift right ward as shown in figure 2. An increase in
government spending will have similar effect. With a rightward shift in aggregate demand
curve, price increases to P2 and output expands to Q2.
Figure 2: Effect of discretionary fiscal policy
Source: (Created by the Author)
P2
AS
Q2
Price Level
Output
AD1
AD22
P1
Q1

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Answer 2
In 2014, Australian economy operates in recession given the increased
Unemployment rate. The demonstration of the economic situation in Australia is shown in
figure 3.
Figure 3: Australian Economy in 2014
Source: (Created by the Author)
From the figure, it is evident that due to increased unemployment rate the country is
operating at much lower employed workforce and producing less output Q2 than the full
employment output. Hence, there is a recessionary gap in the economy as shown in the
diagram (Ugwuanyi and Ugwunta 2017). However, this gap is due to increase in
unemployment rate caused due to increased labour participation and less opportunity for job.
Hence, new participants do not get absorbed in the economy and generating increased
unemployment. This increase in labour force increases full employment output to Q*.
AS
Q2
Price Level
Output
AD
P
Q*
Output at full employment
Recessionary Gap

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The current situation of Australian economy indicates a phase of business cycle
recession where the economy operates below the full employment level and experienced a
recessionary gap like that in Australia.
Answer 3
The increase in labour force increase the full employment output to Q2 and created a
recessionary gap. To overcome the situation, the government pursues discretionary fiscal
policy and cut the tax rates (Cloyne 2013). As a result, people will start consuming more, due
to which demand increases. Hence, aggregate demand (AD) curve shifts rightward. With
increased demand and increased price (P2) firms will produce more and employs new
workers. Therefore, in the long run Australia reaches full employment level output as shown
in Diagram 4.
Figure 4: Catching up with full employment output
Source: (Created by the Author)
AD2
AD1
AS
Q1
Price Level
Output
P1
Q2
Output at full employment
P2

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Answer 4
Considering the two main economic factors of Australia, that is, unemployment and
low inflation rate (below 2.5%), the Reserve Bank of Australia cut the bank rate to boost the
bank lending (Johnson 2017). This kind of policy is known as expansionary monetary policy.
The immediate effect of expansionary monetary policy is to boost aggregate demand by
increasing investment. As investment in productive activity increases, aggregate output
increases approaching towards full employment and hence, help to close the GDP gap. This is
shown in figure 5. The low interest rate increases investment and shifts the aggregate
demand from AD1 to AD2 in Diagram 5. The increased investment increases aggregate supply
in the long run adjusting price between P1 and P2. Given the state of Australian economy, this
kind of policy is appropriate as it helps to solve the problem of unemployment, inflation and
recessionary gap.
Figure 5: Effect of expansionary monetary policy
Source: (Created by the Author)
AS2
AD2
AD1
AS1
Q1
Price Level
Output
P1
Q2
Output at full employment
P2

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Answer 5
The lower dollar value would increase the inflation rate. This is because lower dollar
values indicate a higher price of imported goods. As price of imported inputs increases cost
of production increases resulting in a higher price in domestic economy. The imported
inflation added to domestic price level leads to an increase in inflation.
Given the conflicting scenario of high inflation and high unemployment, policy
should be taken to lower both unemployment and inflation. Increase in unemployment (7%)
can be solved by tax cut or transfer payments but these policies would increase the inflation
rate further. Conversely, the objective is to reduce both unemployment and inflation, which
can be done only if supply increases. There, to achieve this the government can give tax
credit on investment (Mankiw 2014). As a result, firms would invest more and with induced
effect, supply and employment would increase causing price level to fall. Hence, inflation
would fall. The demonstration is shown in Diagram 6 given below.
Figure 6: Fiscal policy to reduce unemployment and inflation
Source: (Created by the Author)
AS2
AD
AS1
Q1
Price Level
Output
P1
Q2
Output at full employment
P2

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As shown above, as a result of this policy output increases to Q2 and inflation falls to
P2.

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Reference
Cloyne, J., 2013. Discretionary tax changes and the macroeconomy: new narrative evidence
from the United Kingdom. American Economic Review, 103(4), pp.1507-28.
Hutchens, G. 2019. Damning report finds banking industry an 'oligopoly' that exploits its
customers. [online] the Guardian. Available at: https://www.theguardian.com/australia-
news/2018/aug/03/banking-industry-found-to-be-an-oligopoly-that-exploits-its-customers
[Accessed 19 May 2019].
Johnson, H.G., 2017. Macroeconomics and monetary theory. Routledge.
Mankiw, N.G., 2014. Brief principles of macroeconomics. Cengage Learning.
Pindyck, R. and Rubinfeld, D., 2014. Microeconomics GE. Pearson Australia Pty Limited.
Ugwuanyi, U.B. and Ugwunta, O.D., 2017. fiscal policy and economic growth: An
Examination of selected countries in Sub-Saharan Africa. International Journal of Academic
Research in Accounting, Finance and Management Sciences, 7(1), pp.117-130.