Basic Economic Ideas

W-02 2 (a) Explain the link between the basic economic problem of scarcity and
opportunity cost. [8]

S-08 2 (a) Explain the three economic questions that all economies face
because of the basic economic problem. [8]
The basic economic questions are what to produce (the selection), how to
produce (the methods) and how to distribute (the consumers). These are the
result of scarce resources and unlimited wants. Scarcity exists and makes
choices necessary and this is found in all types of economy.
Understanding of the prevalence of scarcity up to 2 marks
Explanation of the basic economic questions up to 6 marks

S-08 2 (b) Discuss whether the price mechanism is an effective way to

solve the basic economic problem. [12]
The price mechanism is a feature of the free market and operates through
demand and supply and the self interest of individuals, government action is
minimised. This has the benefits of incentive, efficiency, innovation, choice
and consumer sovereignty. Against this there may be market failure including
inequality, lack of public and merit goods, externalities and instability.
Depending upon the degree of failure the mechanism may be more or less
effective. The price mechanism does not solve the basic economic problem
but is thought to be effective when operating efficiently.
Understanding of the price mechanism up to 4 marks
Analysis of its effectiveness up to 6 marks] to max
Discussion of its limitations up to 6 marks
W-03 2 (a) Explain what is meant by labour productivity, and show how changes in
labour productivity may affect an economy’s production possibility curve. [8]

S-04 2 (a) An economy is faced by the exhaustion of an important natural resource at

a time when it is introducing improved technology.
Explain how these events will affect the economy’s production possibility curve. [8]
Improved technology gives greater efficiency and rising productivity(output
per worker per time period) so should move the production possibility curve
outwards, depending upon where the improvement impacts. The exhaustion
of a resource should reduce an input and the resulting output and move the
ppc inwards. The overall effect will depend on their relative strengths but
results from the change in available inputs and their effect on production
possibilities. These changes can be shown by diagrams.
Understanding of the ppc concept up to 2 marks
Awareness of the outcomes up to 4 marks
Balance of the effects/differentiated impact up to 2 marks

W-06 2 (a) Explain how production possibility curves might be used in assessing
a country’s economic performance. [8]
A ppc shows the possible combinations of two goods which can be produced
by an economy when it uses all of its resources fully and efficiently. A ppc
slopes down to the right and is usually drawn concave to the origin. Points
within show unemployment and inefficiency, points without are unattainable.
Shifts in the curve show growth or loss of productive potential. The larger the
contained area the greater the level of production potential.
For knowledge of a ppc up to 2 marks
For explanation of static position up to 3 marks
For explanation of move in curve up to 3 marks

S-09-21 2 (a) An economy can produce agricultural and industrial

goods. Explain the possible effects on its production possibility
curve if there is an increase in the productivity of its agricultural
workers. [8]
A ppc shows an economy’s maximum output of two goods when using all of
its resources. Productivity is the measure of output per worker. Assuming the
production of agricultural goods and industrial goods, the ppc would be
expected to pivot outwards, as workers produce more, indicating greater
quantities of agricultural goods. Further possibilities include greater
production of industrial goods as well because better food supplies increase
overall productivity or as restriction on agricultural total output shifts
resources to industrial production, which in turn expands.
For knowledge of ppc and productivity up to 2 marks
For understanding of pivot with more agricultural output up to 4 marks
For explanation of alternative outcomes up to 2 marks

(d) Discuss the benefits and drawbacks of rising world food prices.
[6]
Rising food prices will help producers, farmers and rural areas, will stimulate
food production and help those countries which export food. They will hurt
low income earners, food importers and food processors and contribute to
inflationary pressure. The poorest subsistence farmers who buy additional
food will be hurt. The effects differ according to the production pattern and
level of income of countries and individuals.
One side 4 marks max.
Meaningful conclusion (1)
S-04 2 (b) Discuss whether the operation of a market economy always
produces a desirable outcome. [12]
A properly functioning market economy should provide choice, quality and
competition. It should make economic use of resources and avoid waste. It is
an efficient system of resource allocation and has outperformed planned
economies. However, it has drawbacks such as the production of externalities
and demerit goods and the failure to provide public and merit goods.
Knowledge of the nature of the market system up to 4 marks
Justification of desirable outcome up to 6 marks
Discussion of the failings of the market economy up to 6 marks, subject to
maximum of 8 in total for this and the previous line

S-05 2 (a) Explain the differences in the features of a market economy and a
planned economy. [8]
Individual actions and consumer sovereignty dominate in the market
economy. Motivation is self interest. Private ownership, the profit motive and
the operation of market forces are central features. In a planned economy
there are government ownership, planning bodies and the state direction of
resources. Motivation is public interest. Decisions by the government
dominate economic activity.
Explanation of the features of a market economy up to 4 marks
Explanation of features of a planned economy up to 4 marks

(b) Discuss the desirability of the direct provision of goods and services by the
government. [12]
The desirability depends upon the nature of the goods and services. Private
goods and services may be most efficiently supplied by the market. However
in cases of market failure the government may intervene. Public goods and
merit goods may not be provided or be under-provided by the market. This
would include defence and education and would justify the direct provision by
the government. Intervention in the provision of private goods however may
result in inefficiency and reduced welfare. Governments may also use this as
a way to tackle monopoly, fair prices and essential goods.
Discussion of merit and public goods up to 6 marks
Discussion of private goods up to 4 marks}to max
Discussion of other government motives for provision up to 4 marks}of 6
marks

W-06 2 (b) Discuss whether a mixed economy is the best way for a country to deal
with the basic economic problem. [12]
The basic economic problem concerns limited resources, unlimited wants and
scarcity. A mixed economy combines features of market and planned
systems. Private ownership, profit motive and markets operate as well as
government ownership, service provision and market intervention. The
balance between the two varies between time and place. A mixed system
should benefit from the advantages of the two systems. The market system
should provide incentive and efficiency while equity and market failure
should be dealt with by the government. However a mixed economy may
suffer from the disadvantages of both alternatives producing inequality,
inefficiency and low levels of welfare.
For understanding the mixed economy and economic problem up to 5 marks
For discussion of the mixed economy's benefits up to 5 marks
For discussion of the mixed economy's drawbacks up to 5 marks

S-07 2 (b) Discuss the desirability of the worldwide movement towards the
market economy and away from the planned economy. [12]
The market economy has limited government intervention and relies on the
profit motive and consumer sovereignty. It has proved more successful in
raising living standards, economic growth and economic efficiency.
Consumers benefit from more choice and lower prices. Planned economies
were state-run with economic plans and large scale government intervention.
The result was low living standards although employment was usually
available and a basic quality of life resulted. The move to market economies
brought beneficiaries and casualties. Russia illustrates the increase in
millionaires while unemployment and poverty grew. Some East European
economies are making fast progress while some former USSR republics are
struggling.
Candidates may consider the case of China.
Understanding of the features of economic systems (4)
Discussion of the benefits of the transition (4)
Discussion of the harm of the transition (4)

W07 3 (a) Explain how resources are allocated in a market economy. [8]
Market economy means free market forces and limited government.
Resources are the factors of production. The actions of producers, consumers
and factor owners influence operation of market as they follow maximising
behaviour. Demand and supply set price so influencing profits and
affordability, which determines the employment of factors between
alternative activities.
Knowledge of market and factors of production 3 marks
Understanding of motives 2 marks
Explanation of link to factors 3 marks

W01 2 (a) Explain how the market system allocates scarce resources. [8]

S-09-21 2 (b) Discuss whether a market economy can solve the

problem of scarcity more effectively than a command economy. [12]
A market economy involves minimal government intervention and relies on
private motives and ownership. A command economy is directed by the
government with public motivation. Scarcity occurs when there is insufficient
output to meet peoples’ wants at zero price. Scarcity arises because of
limited resources and unlimited wants and is shown by the area outside of a
ppc. The market economy may appear to reduce the extent of scarcity more
by operating efficiently and improving the supply of goods and services,
however the wants of consumers expand as more basic needs are satisfied so
scarcity remains. The command economy has achieved lower living
standards but with a more even distribution. Economic systems are unlikely
ever to remove the problem of scarcity, although its nature may differ under
different systems.
For understanding of the economic systems and scarcity up to 4 marks
For analysis of the ability of each to reduce scarcity up to 6 marks
For discussion of the meaning and solution of scarcity up to 6 marks

S-07 2 (a) Explain the contributions of enterprise and division of labour

to an economy. [8]
Enterprise is the risk-taking, organising factor of production; D of L is the
specialisation of economic activity by product or process. Enterprise
organises the other factors to promote output, efficiency and change while D
of L reduces cost, raises productivity and living standards.
Meaning and nature of enterprise and D of L (4)
Explanation of contribution to economy (4)
 The Price System
W-01 4 (a) Explain the difference between price elasticity of demand and income
elasticity of demand. [8]

(b) Discuss the value of these concepts to a company in planning its business strategy.
[12]

S-03 3 (a) Explain what influences the price elasticity of supply of a product. [8]
PES measures the responsiveness of supply to a change in price.
Factors which influence it include the existence of spare capacity, availability
of stocks, the time period involved and the mobility of factors.
For understanding price elasticity of supply up to 3 marks
For identifying some influences up to 3 marks
For explaining the influences up to 2 marks [8]

S-03 3 (b) Discuss whether farmers will benefit from producing goods which have
low price elasticities of demand and supply. [12]
Supply is likely to be inelastic because of time lags and perishability
while demand reflects necessity/substitutes and physical limits.
Shifts in supply and demand cause major fluctuations in prices and
affect income and planning. Increases in supply which lower price
lead to falls in revenue. Against this inelastic demand maintains
revenue when prices rise as supply falls. The latter only benefits
farmers who manage to continue producing. Increases in efficiency
can cause large falls in price and income. Uncertainty and risk
avoidance often result. The impact of taxes and subsidies varies with
elasticity.

S-04 3 (a) Increasing raw material costs cause the price of a good to rise. Explain the
effect of this price rise for the good on the markets for its substitute and
complementary goods. [8]
Substitutes and complements may be described or analysed via XED. A price
rise reduces the quantity demanded of the good itself. The demand for
complementary goods will also decline, reducing their price. The higher price
will make substitutes more demanded, causing their price and output to rise.
Examples can illustrate this and demand and supply diagrams can show the
process.
Understanding of complementary and substitute goods up to 3 marks
Description of the results of a price rise up to 3 marks
Analysis of the market effects up to 2 marks

S-04 3 (b) Discuss the usefulness to businesses of knowledge of price elasticity of

demand and income elasticity of demand. [12]
Price and income elasticity affect the response of quantity demanded to
changes in the
respective variables. For a firm this will affect its revenue and the markets it
serves. It will use PED to help with pricing policy and YED to affect the level
and nature of production. However estimates may be inaccurate,
circumstances may change and there may be little use of or trust in the
measures.
Understanding of the elasticity concepts up to 4 marks
Explanation of the uses of the concepts up to 6 marks
Discussion of the limitations in use up to 6 marks, subject to maximum of 8 in

W-04 3 (a) Explain the difference between elastic, inelastic and fixed supply. [8]
Elasticity of supply measures the responsiveness of quantity supplied to
changes in price and is measured by the elasticity formula. The three cases
relate to values >1, <1 and 0 reflecting the degree of change. The values can
be shown by the nature of the supply curve.
Knowledge of the definition and formula up to 3 marks
Understanding of the values up to 3 marks
Illustration of the different values up to 2 marks

W-04 3 (b) Discuss whether the elasticity of supply of manufactured goods is likely
to be greater than the elasticity of supply of agricultural goods. [12]
Ans------Elasticity of supply is influenced by levels of stocks, excess capacity, ease of
entry to the industry, mobility of factors, the length of the production process and the
time period involved. For farming it may be more difficult to hold stocks, less easy to
enter the industry, take longer to carry out production and bring excess capacity into
play. This suggests that supply may be more inelastic in agriculture. The nature of
the product may make supply equally inelastic for some manufacturing.
W-05 3 (a) Explain the meaning of the ‘equilibrium price’ of a good and how it is set
in a free market. [8]
Equilibrium price means no tendency to change and is when D=S. A free market
implies no government intervention. Demand and supply operate to set price.
Changes in demand and supply cause price changes. Any disequilibrium is corrected
by reactions to the price level. The process can be shown by the use of diagrams.
Knowledge of the terms up to 3 marks
Explanation of the operation of the market up to 3 marks
Explanation of moves from disequilibrium up to 2 marks
W-07 2 (a) Explain how an equilibrium price for a product is established in
the market and how it may change. [8]
Equilibrium is when D=S and there is no tendency to change. Disequilibrium positions
(QD more or less than QS) are corrected by responses of consumer and producer, which
alter price. New equilibriums are created when changes in conditions cause shifts in D
and S. This may be shown with diagrams.
Knowledge of equilibrium 2 marks
Correction of disequilibriums 3 marks
Setting of new equilibriums 3 marks

S-06 2 (a) Explain, with examples, the significance of the value of a good’s cross-
elasticity of demand in relation to its substitutes and complements. [8]
XED is a measure of the responsiveness of demand for one product to the
change in price of another. The formula can be given. For substitutes the
value is positive, a rise in the price of a substitute increases demand for the
alternative. For complements it is negative, as the price of a complement
rises the demand for the associated good will fall. The closer the relationship
the greater the value. Examples such as chicken and turkey and cars and
petrol may be given.
For knowledge of XED [up to 2 marks]
For explanation of the substitute case [up to 3 marks]
For explanation of the complement case [up to 3 marks]

S-06 2 (b) Discuss whether the demand for mobile phones (cell phones) is likely to
be price-elastic or price-inelastic. [12]
PED is a measure of the responsiveness of demand to a change in price.
Elastic involves a more than proportionate change (>1), inelastic a less than
proportionate change(<1). The influences on elasticity include the existence
of substitutes, the proportion of income spent on the good and the time
period involved. Candidates may apply these influences to mobile phones
according to their own experience and circumstances. Sensible reasoning is
what is looked for, whatever the final conclusion.
For knowledge of elastic/inelastic demand [up to 4 marks]
For understanding of the influences on elasticity [up to 4 marks]
For discussion of the case of mobile phones [up to 4 marks]

W-07 2 (b) Discuss whether a firm’s revenue would increase, in response to

price and income changes, if the price elasticity and income elasticity of
demand for its product became highly elastic. [12]
PED and YED measure the responsiveness of demand to changes in those
variables. Highly elastic means a significantly more than proportionate
response (greater than 1). Highly elastic PED means increased revenue with
price cuts and decreased revenue with price rises. The outcome depends
upon pricing policy and the nature of the product e.g. substitutes. Highly
elastic YED means more than proportionate increase when incomes rise
(prosperity) but more than proportionate fall with falling incomes (recession).
The nature of the product, normal/inferior and economic conditions will
determine YED outcome.
Understanding of PED, YED and highly elastic 4 marks
Discussion of PED case 4 marks
Discussion of YED case 4 marks

S-09-22 2 (a) Explain, with examples and diagrams, the effects of a

decrease in incomes on the markets for normal and inferior goods. [8]
Normal goods have positive YED while inferior goods have negative YED.
Examples might be eating out and public transport respectively but may vary
between economies. A decrease in demand for normal goods would lower
demand (curve shifts to left) causing a lower price and reduced quantity
traded. For inferior goods demand would rise (curve shifts to right) price
would rise and quantity traded increase.
Definitions and examples up to 4 marks
Diagrams with outcomes up to 4 marks

S-09-22 2 (b) Economists also classify goods in others ways. Discuss the
extent to which an economist would classify a packet of cigarettes and a
vaccination against influenza as similar types of good. [12]
Both products are private goods. They are rivalrous and excludable so can be
supplied by the market. In this way they can be classified together.
Cigarettes produce negative externalities (e.g. passive smoking) and are
over-consumed. They are sometimes referred to as demerit goods on the
basis of inadequate information for the consumer. Influenza vaccinations
possess positive externalities (they help to prevent the transmission of
disease to others) and may be under-consumed. They may be considered
merit goods on the basis of insufficient information. In this case the products
are classified differently.
Understanding of classifications up to 4 marks
Discussion of common classification up to 6 marks
Discussion of different classification up to 6 marks

W-09-21 2 (a) Explain, with the help of a diagram, how the price of a
product moves to a new equilibrium following a decrease in its supply. [8]
A decrease in supply results from rising costs, unfavourable natural
influences, higher taxes etc. and causes supply to shift to the left. This will
result in a rise in the price of the product. Equilibrium, the tendency not to
change when D=S, is restored as the higher price discourages the quantity
demanded as consumers adjust their spending levels. Price will continue to
rise until the balance is restored.
Knowledge of equilibrium and of decrease in supply up to 2 marks
Diagram showing original and new equilibrium up to 3 marks
Explanation of the process of change up to 3 marks

W-09-22 2 (b) Discuss how reduced air fares on low-cost budget airlines
might affect the air travel market and the markets for related goods and
services. [12]
Within the air travel market a sub-market may emerge with increased supply
of services, lower prices and a restricted service. Former rivals may be able
to maintain their position with different customers or may respond by cutting
their own price. The size of the market should expand with more people able
to afford flying. Rivals such as ferry services or railways may face falling
demand, depending upon the elasticity involved. Providers of complementary
services e.g. airport parking, travel insurance may face increased demand
with upward pressure on their prices. Aircraft manufacturers or leasers may
benefit as theirs is a derived demand arising from more flying.
Understanding of the impact on market for air travel 4 marks
Discussion of rival transport market effects. 4 marks
Discussion of complementary market effects. 4 marks
 Market System and Government Intervention
W-01 2 (b) Discuss when and how a government should intervene in the operation
of the price system. [12]

S-02 2 (a) Explain, with examples, the meaning of private costs and external
costs. [8]

S-02 2 (b) Discuss the role that cost-benefit analysis can play in government
economic policy making. [12]

W-02 4 (a) Explain, with examples, the meaning of the terms public good and merit
good. [8]
W-02 4 (b) Discuss how a government might increase the provision of public and
merit goods.[12]

The result was that no attempt was made to discuss the policies. This required
consideration of the appropriateness and effectiveness in each case. Great depth was
not needed here. The disincentives of tax and the problems of fixing the level, the
cost of subsidies and the interference with the market operation might be seen as
problems, while the increase in welfare, equity and effectiveness might be offered as
benefits. It was disappointing how little attempt was made at evaluation of the
policies.

W-03 3 (a) Explain the effect of the removal of an indirect tax upon the market for a
product.[8]
W-03 3 (b) Discuss whether an indirect tax is a satisfactory way to tackle a negative
externality, such as air pollution. [12]

W-04 4 (a) Explain the meaning of ‘public good’ and ‘private good’. [8]
A private good once used by one consumer or firm is not available to others.
This covers most consumer and capital goods. Public goods have non-rivalry
and non-excludability so may encounter the ‘free rider’ problem. Private
goods can be supplied for profit by the market system while public goods,
such as defence and street lighting, are provided by the government and
funded through taxation.
General comment 1 mark
Example 1 mark (X2)
Explanation of the nature up to 2 marks
W-04 4 (b) Discuss whether economic actions by individuals always result in a net
benefit to society. [12]
Actions by individuals should be in their own interests and maximise their
own benefit. This may contribute to maximisation of benefit to society
through the incentives of the market system. The government has a role in
promoting social welfare. Actions with positive externalities give a greater
benefit to society than to the individual. Some actions may have harmful
side-effects or negative externalities which make the cost to society greater
than to the individual. Producers may be unwilling to supply some goods and
services e.g. merit and public goods which society values.
Understanding of private motivation and public interest up to 4 marks
Analysis of the benefits of individual actions up to 4 marks
Discussion of the harm of individual actions up to 4 marks

W-05 2 (a) Explain the effects of externalities on the allocation of resources. [8]
Externalities may be positive or negative. They include e.g. the supply of trained
workers to the economy and pollution. Positive externalities result in the
underproduction of the product and its sale at an excessive price. Negative
externalities result in overproduction and sale at too low a price. In both cases the
allocation of resources is not optimal as it is based on private rather than social
considerations. This may be explained with the support of diagrams.
Knowledge of externalities up to 3 marks
Explanation of outcomes up to 3 marks
Explanation linked to allocation of resources up to 2 marks

W-05 2 (b) Discuss the use of indirect taxes and subsidies by governments to deal
with externalities. [12]
Indirect taxes can be used to counter negative externalities, while subsidies can
be used to encourage positive externalities. Each will affect the position of the
supply curve and move it towards the optimal position reflecting social costs and
benefits. This can be shown by diagrams. While theoretically this may be
straightforward, practice may be different. The costs/benefits may be hard to
value so the appropriate level of tax and subsidy may be difficult to calculate and
it might be too complicated to have individual rates for each case. There may be
other side effects of raising tax and paying subsidies.
Understanding of the relevance of taxes and subsidies up to 4 marks
Analysis of the operation of taxes and subsidies up to 6 marks} to max of
Discussion of the use of taxes and subsidies up to 6 marks} 8 marks

S-06 3 (a) Explain, with examples, the difference between a demerit good and a
merit good. [8]
A demerit good, such as cigarettes, has negative externalities e.g. passive
smoking.
Consumption results from lack of information by the consumer of the full
implications of
consumption. There is over-consumption which governments are likely to
discourage. A
merit good, such as education, has positive externalities e.g. improved
productivity. The
good is under-consumed due to lack of full knowledge and governments are
likely to
promote consumption. Full marks require clarification of the information gap.
For explanation of nature of demerit good [up to 4 marks]
For explanation of nature of merit good [up to 4 marks]

S-06 3 (b) Discuss two methods that a government might use to influence the
consumption of demerit goods. [12]
Governments would intend to reduce the consumption of demerit goods. The
usual
methods are taxation to operate through the market system, bans to remove
demand,
education to influence consumers behaviour through information and
subsidies to
substitutes. In each case issues of cost, effectiveness, side effects and
individual choice
may be considered.
For knowledge of the methods and their operation [up to 4 marks]
For discussion of the advantages of the methods [up to 4 marks]
For discussion of the limitations of the methods [up to 4 marks]
While some reference was made to the relevance of price elasticity, little other evaluation was
evident. Other issues that might have been considered were evasion and cost

W-07 3 (a) Explain how resources are allocated in a market economy. [8]
Market economy means free market forces and limited government.
Resources are the
factors of production. The actions of producers, consumers and factor owners
influence
operation of market as they follow maximising behaviour. Demand and
supply set price so influencing profits and affordability, which determines the
employment of factors between alternative activities.
Knowledge of market and factors of production 3 marks
Understanding of motives 2 marks
Explanation of link to factors 3 marks

W-07 3 (b) Discuss, with the aid of a demand and supply diagram, the
effects on consumers and producers when the government introduces an
indirect tax on a good. [12]
An indirect tax e.g. VAT, GST shifts the S curve to the left with the tax
incidence split between the consumer and producer, depending on the PED
and PES. The consumer will pay a higher price and purchase less, the
producer will receive less company income and supply less. Different
elasticities of demand and supply will cause the burden to split differently
between the consumer and producer.
Meaning and diagram effect of indirect tax 4 marks
Analysis of the impact on two groups 4 marks
Discussion of the different share of tax burden 4 marks

W-08 3 (a) Explain the market failure which arises from the characteristics
of public goods. [8]
Public goods are non-excludable and non-rival and include defence and street
lighting. The problem is that they cannot be supplied by the market
mechanism as a price cannot be set because of free riders. They will be
underprovided if a non market organisation does not intervene to reflect the
needs of society.
Knowledge of the nature of public goods up to 4 marks
Explanation of the resulting problem for provision up to 4 marks

W-08 3 (b) Discuss whether the use of cost-benefit analysis helps to

improve economic decision making. [12]
Cost benefit analysis (CBA) attempts to evaluate the social costs and social
benefits of investment in deciding whether an investment is worthwhile. It
involves identifying, valuing and judging relevant costs and benefits. It takes
a wider view than investment appraisal which concentrates on private profit.
The decision is more comprehensive and should be a more accurate
representation of society’s welfare. It may however not be accurate since, the
decisions are subjective, it is difficult to value the savings and costs and to
decide which are to be included. It should however provide better information
to help improve the decision making.
Understanding of the method of CBA up to 4 marks
Analysis of the effectiveness of CBA up to 6 marks} to max
Discussion of the usefulness of CBA up to 6 marks} 10 marks

S-09-21 3 (a) Explain, with the aid of a diagram, how consumer

surplus will be affected by the introduction of an indirect tax. [8]
Consumer surplus is the excess the consumer is prepared to pay over the
amount actually paid for a good and is shown by the area between the
demand curve and price line. An indirect tax is levied on a good and will
usually raise the price of a good and reduce the quantity demanded by
shifting the supply curve to the left. The result will be a reduction in
consumer surplus as a result of the reduced consumption and higher price.
The effect will depend upon the price elasticities involved.
For knowledge of consumer surplus up to 2 marks
For a labelled diagram showing impact of indirect tax up to 4 marks
For explaining a reduction in consumer surplus up to 2 marks

S-09-21 3 (b) Discuss the advantages and disadvantages of using

indirect taxes to deal with the negative externalities associated with
some products. [12]
Negative externalities from production and consumption are harmful third
party effects, which include pollution and environmental destruction. They
make social cost > private cost. They result in the overproduction of goods
which sell at a lower price than is optimal. A tax would internalise the
externality, reduce output, allow the market to operate, act as an incentive to
cut costs and also raise revenue for the government. However it might be
difficult to measure the harm done, to set the correct rate which might need
to be individual to each firm, would have administrative costs and would be
inflationary and regressive.
For understanding of the effect of negative externalities up to 4 marks
For analysis of the operation of a tax up to 6 marks
For discussion of the impact of a tax up to 6 marks

S-09-22 3 (a) Explain, with the help of an example, the effects when a
government introduces a maximum price for a good or service. [8]
Maximum prices cannot be exceeded and are set below the market price, e.g.
rents and fuel. They act as a ceiling price. Quantity demanded will exceed
quantity supplied and a shortage will result. A system for allocation will be
needed. This might be rationing or queues. A black market may develop and
the intention of helping the poorest may be thwarted. Home rental market is
a frequently used example. This may be illustrated by a diagram.
Understanding of a maximum price up to 2 marks
Explanation of outcomes up to 6 marks

S-09-22 3 (b) With the help of a diagram, discuss how desirable it is for a
government to pay subsidies to producers. [12]
A subsidy will reduce the cost of production and shift the supply curve to the
right. This will reduce price and increase quantity traded. The degree to
which price falls will depend upon the elasticities involved. The consumer will
benefit from lower prices and producers will gain higher incomes. It is also a
way to increase the production of goods with external benefits which will
improve welfare. This can be shown in a diagram. Problems arise because the
expenditure will have an opportunity cost, might involve increased taxation
and may contradict the efficiency of the market outcome.
Analysis of impact of subsidy with diagram up to 4 marks
Discussion of benefits up to 6 marks
Discussion of drawbacks up to 6 marks

W-09-21 2 (b) Discuss whether government intervention always

improves the operation of the market. [12]
Government may intervene to correct market failures or for non-economic
reasons. It may use regulation, price control and taxes and subsidies. It may
succeed with the provision of public and merit goods or the discouragement
of external costs and demerit goods or subsidies to increase provision and so
increase welfare. It may fail because of poor information, costs of
administration and misjudgement of policy impacts. There may be
interference with the efficiency of the market. Non-economic motivation may
cause undesirable side effects.
For understanding of government intervention and market up to 4 marks
For analysis of the success of intervention up to 4 marks
For discussion of the limitations of intervention up to 4 marks

(c) Discuss the desirability of the Government's intervention in the market for
onions.
For: prevent price rise (inflation), help lower incomes, prevent exploitation,
correct collusive behaviour, benefit consumer
Against: interference with market efficiency, may cause evasion, ineffective,
enforcement costs, harm to producer
Up to 4 max for one side. Considered conclusion after both sides (1) [6
W-09-22 2 (a) With the aid of a diagram, explain how a government
subsidy to producers of fuel will affect the producers and government
expenditure. [8]
A subsidy will lower costs and shift the supply curve to the right and the
outcome will be more traded at a lower market price. Producer revenue made
up of price and subsidy will increase. Government expenditure will increase
by the amount of the subsidy times the new quantity traded.
Diagram of impact on market 4 marks
Explanation of effect on producer 2 marks
Explanation of effect on government expenditure 2 marks

W-09-22 3 (a) Explain why a lighthouse is often given as an example of a

public good while a light bulb is not. [8]
Public goods have the characteristics of non-rivalry and non-excludability.
The use by one ship of the lighthouse signal does not reduce the
consumption of other ships. Once a lighthouse is indicating hazard to one
ship it cannot stop other ships from being warned and it is not possible to
exclude other ships from gaining the benefit. This means that charging for
the service is not possible as free riders would be able to benefit. A light bulb
is a private good as it can be charged for when sold (excludable) and its use
within one person’s home prevents others from benefiting (rival). The
concept of non-rejectability may also be applied.
Understanding of non-rival and non-excludable 4 marks
Explanation of lighthouse as public good 2 marks
Explanation of light bulb as private/non public good 2 marks

W-09-22 3 (b) Discuss whether it is likely that the private costs and the
social costs of production would be identical. [12]
Private costs are borne by the producer who benefits from the action. They
may include raw material costs, wages and energy payments. Social costs
are the total costs to those directly involved in the activity and to the rest of
society (third parties) as well. Social costs include external costs or spillover
effects borne by members of society who do not benefit from the action.
Various forms of pollution come within this category. Private costs and social
costs will only be identical if there are no external costs. Some actions from
transport (e.g. road) and production of manufactures (e.g. chemicals) and
provision of services (tourism) may have negative externalities. Private cost
may be greater than social when there is an external benefit in production
such as research and development effects. However while some output may
generate few externalities it is unlikely that they produce none and it would
not be the case for total production within an economy.
Understanding of the link between private, external and social costs 4 marks
Discussion of the existence of externalities 6 marks
Comment on the existence of zero externalities 2 marks

S-03 2 (a) Explain the functions of price in a market economy. [10]

Market economy involves minimal government intervention. Price is central
to the allocation of resources when demand and supply operates. Rising
prices signal to producers to supply more, indicate where factors should be
employed and ration out goods between consumers. Agents react
automatically in a maximising manner. When the market works perfectly this
should produce an optimum outcome.
For recognising place of price in market economy up to 3 marks
For identifying the functions of price up to 4 marks
For explaining the function of price in a market economy
up to 3 marks

S-03 2 (b) Discuss whether the introduction of maximum prices by a government

would solve the problem of scarcity. [10]
Scarcity results from scarce resources and unlimited wants. An effective
maximum price would be set below the market equilibrium. Unless the
government took additional measures it would result in excess demand and a
smaller quantity sold at a lower price. While some would benefit from lower
prices others would now go without the good. Overall the action would not
reduce the level of scarcity.
For understanding scarcity and a maximum price up to 3 marks
For analysing the effects of a maximum price up to 4 marks
For discussing the link to scarcity up to 3 marks

(e) Discuss whether the shortage of OTR tyres required government

intervention. [6]
The focus is whether intervention is desirable not what form it should take.
Intervention might be justified to maintain growth, employment, productivity,
balance of trade, market stability and reduce inflationary pressure, It might
be particularly important for countries reliant on mining.
However, the problem is short term, in the long run extra production is
planned, the market is not a particularly significant one for many countries,
intervention might be ineffective with unwelcome side effects, government
may not have the expertise to manage the market, may result in government
failure. Which government should intervene? (1),
(1) Mark per explained element with (4) max for each side of argument.
 International Trade
S-02 3 (a) Explain the methods that a government might use to protect its
domestic industries from foreign competition. [8]

S-02 3 (b) Discuss whether trade protection can ever be justified. [12]

W-03 2 (b) Discuss whether increased division of labour among workers and
nations brings only benefits. [12]

W-05 3 (b) Discuss whether free international trade in goods should be encouraged.
[12]
Free trade means a lack of obstacles such as tariffs and quotas. Free trade is thought
to bring benefits of higher living standards, more employment and greater choice at
lower cost. The world’s factors of production should be employed more efficiently.
This is based on the principle of comparative advantage. In reality free trade may
have harmful effects in some circumstances
and this may apply particularly to developing economies. Unequal bargaining
strength may prevent a fair sharing of the benefits, unfair trading practices such as
dumping may undermine a country’s industries, dominant market positions may
prevent the growth of infant industries and there may be high short-term costs in
terms of unemployment and disruption. Globalisation has not shared benefits equally
and there may be a case for a slow transition towards freer trade.
Knowledge of the theoretical benefits of free trade up to 4 marks
Analysis of the operation of free trade up to 6 marks}
Discussion of the case for free trade up to 6 marks}

W-06 3 (a) Explain the difference between absolute and comparative advantage.
[10]
Absolute advantage exists when a country can produce a good with fewer
resources than another country. Comparative advantage exists when a
country can produce a good at a lower opportunity cost, meaning it has to
give up less of another good compared to the other country. This can be
shown numerically, assuming 2 countries have the same resources and
divide them equally between 2 goods with factor mobility etc:
Output of good X Output of good Y
Country A 100 25
Country B 40 20
Country A has absolute advantage in production of both goods (250% and
125% more output) but country B has comparative advantage in the
production of good Y because of lower opportunity cost (1Y costs 2X against
4X for A). This can also be shown by a diagram.
For definitions of the terms up to 4 marks
For explanation of the terms and assumptions up to 6 marks

W-06 3 (b) Discuss whether the principle of comparative advantage is a satisfactory

explanation of the trade pattern of an economy with which you are familiar. [10]
The theory predicts that gains will arise from trade in line with a country's
comparative advantage. Candidates may outline a pattern of trade e.g.
exports of primary produce, reliance on tourism, export of manufactures,
import of capital goods etc. for their economy and relate this to the country's
factors of production. They may challenge the theory on the basis of its
assumptions (no transport costs, 2 countries, mutual demands etc.) or on
‘real world’ problems e.g. unequal trade arrangements, obstacles to trade,
inability to exploit resources etc.
For application of C.A. to a pattern of trade up to 6 marks]] to
For discussion of limitations of C.A. theory up to 3 marks] max] 10
For discussion of other explanations of trade up to 4 marks]

W-08 4 (a) How might opportunity cost help to explain the pattern of
international trade? [8]
Opportunity cost is the sacrifice of the next best outcome in taking a
decision. International trade is based on comparative advantage and is
determined by specialisation in the product with the lower opportunity cost.
Trade is then at an exchange rate between the opportunity costs of the
countries involved. This results in greater production, trade and consumption,
which reflects differing opportunity costs.
Knowledge of opportunity cost up to 2 marks
Understanding of the basis of trade up to 2 marks
Explanation of the link to opportunity cost up to 4 marks

W-08 4 (b) Discuss whether the formation of regional trading groups,

such as ASEAN and NAFTA, is desirable. [12]
Regional blocs may be free trade areas, customs unions or economic unions.
They encourage free trade between member states and can be bilateral or
multilateral. The benefits should be more trade, more choice, lower costs and
higher living standards. However small scale agreements may have limited
impact, may prevent more beneficial, large scale agreements and cause
trade diversion. Smaller members may be at a disadvantage, as may infant
industries, to more powerful members and there may be problems with
complicated regulations. While these agreements may be better than facing
global barriers they may be inferior to wider global agreements.
Understanding of regional trade blocs up to 4 marks
Analysis of the effects of agreements up to 6 marks} max of
Discussion of the overall impact of agreements up to 6 marks} 10 marks

S-09-22 4 (a) Explain the ‘infant industry’ and anti-dumping

arguments for the introduction of tariffs. [8]
An infant industry is one which has a potential comparative advantage.
Currently it is too small to gain economies of scale and too young to have
trading experience. A tariff will allow time to grow and become efficient, at
which point the tariff will be removed.
Dumping is the selling of goods below the cost of production, possibly due to
government support; it may lead to monopolisation of the market. This is
deemed unfair competition and restriction of free trade so can be offset by a
tariff.
Meaning of a tariff up to 2 marks
Explanation of infant industry argument up to 3 marks
Explanation of anti-dumping argument up to 3 marks

S-09-22 4 (b) Discuss whether trade arrangements, such as the

European Union or the South Asian Free Trade Area, encourage or
discourage the benefits of free trade. [12]
Free trade encourages competition and efficiency, lowers prices, increases
choice and raises living standards. Trade arrangements may vary from
relatively loose free trade areas to very structured economic unions. The
effects of membership involve trade creation and trade diversion. As a
member a country would hope to benefit although this may involve the need
for restructuring with short-term costs. The number of trading arrangements
has been increasing so extending the benefits. For non- members there is
reduced opportunity to experience free trade and its benefits although some
countries may feel that the benefits of free trade are not shared equally
among participants and may undermine domestic industries and
employment.
Understanding of the types of trade arrangement up to 4 marks
Discussion of the benefits of trade up to 6 marks
Discussion of the drawbacks of trade arrangements up to 6 marks

W-09-21 3 (a) Explain why it is usually more difficult to trade

internationally than domestically. [8]
International trade is usually over greater distance which raises transport
costs. The use of different currencies involves transaction costs and risks in
exchange. Obstacles to trade such as tariffs, quotas, subsidies and the
existence of trade areas reduce free and fair competition. The larger size of
the market attracts a wide range of competitors which may undercut
domestic producers. Different cultures, languages and tastes may make
judgment of the market more difficult.
For knowledge of the differences between international and domestic trade
up to 2 marks
For understanding of the differences up to 3 marks
For explanation of the significance of the differences up to 3 marks

W-09-21 3 (b) Discuss, with examples, how far the global distribution
of factors of production determines what a country imports and exports.
[12]
Factors of production are land, labour, capital and enterprise and they occur
irregularly around the world. Examples are oil and mineral reserves,
technology, skilled labour. Factor endowment is the basis of international
trade theory, which suggests specialisation in line with lower opportunity cost
so reflecting factor distribution. In some cases it may be absolute rather than
comparative advantage at work. Other influences such as trade agreements,
unequal bargaining power, political issues and the unrealistic assumptions of
C A theory may mean that trade does not reflect factor distribution.
For understanding of the diverse distribution of factors up to 4 marks
For application of comparative advantage up to 4 marks
For discussion of comparative advantage and alternative explanations up to 4
marks

W-09-22 4 (a) Compare the aims and features of a free trade area with
those of an economic union. [8]
A free trade area aims to achieve free trade between it members by the
abolition of internal barriers but the retention of individually set barriers to
non-members. There is no integration beyond this. An economic union aims
at major integration, includes a common external tariff, free movement of
factors of production, harmonisation of economic policies and taxes and a
common currency. This involves the loss of national sovereignty. The latter is
a more comprehensive and ambitious project.
Explanation of a free trade area 4 marks
Explanation of economic union 4 marks

W-03 4 (a) Explain what may cause a country’s terms of trade to change. [8]
W-03 4 (b) Discuss whether a worsening in a country’s terms of trade will cause a
worsening of its balance of trade. [12]

W-09-22 4 (b) Discuss whether an improvement in a country’s terms of

trade always works to its benefit. [12]
The terms of trade measure the average price of a country’s exports against
the average price of its imports. This is presented as an index number. A rise
in export prices relative to import prices is said to be favourable and may
arise from a number of different changes in the two components. This gives
the ability to purchase more imports with a given quantity of exports. This
may help to raise living standards. The changes in prices may not be
favourable from a trade balance perspective. Higher export prices and lower
import prices will help more if the goods involved have inelastic demand as
net revenue should increase.
Elastic demand will worsen the position.
Understanding of measurement of changes in terms of trade 4 marks
Discussion of favourable outcomes 4 marks
Discussion of unfavourable outcomes 4 marks

Balance of Payments
S05 4 (a) Explain how a country’s balance of payments is organised to account for
all its international transactions. [8]
The accounts are arranged to show the total international transactions,
arranged by their differing nature and debit or credit effects. The current
account deals with the exports and imports of goods (visibles) and services
(invisibles). It also includes income from investments (inflow and outflow) and
transfers of income. Its final element is current transfers such as payments to
international institutions. The capital account records the transfer of
ownership of fixed assets. The financial account relates to short-term and
long-term investment, both portfolio and real, and the movement of reserves.
A balancing item is included to account for the errors and omissions in
collecting the data.
Knowledge of the nature of the current account up to 3 marks
Knowledge of the non-current sections up to 3 marks
Explanation of the organisation of the account up to 2 marks

S05 4 (b) A country has a deficit on the current account of its balance of
payments. Discuss whether this is necessarily harmful to the country. [12]
Deficit occurs when outflow of various current items exceed inflows. The
cause of the deficit, its size and its likely duration decide whether it will be
harmful. On the current account a deficit on goods may be bad if long
running and the result of a lack of competitiveness. On the other hand it may
just reflect rising standards of living and be covered by other inflows. If the
goods are capital rather than consumption later benefits may offset a current
outflow. Weakness in services may simply reflect comparative advantage.
Strong foreign reserves may be able to finance a temporary deficit. However
if a deficit is long-term and cannot be financed without excessive
international borrowing, the depletion of international reserves or exceptional
policy measures the position is an undesirable disequilibrium.
Understanding of the nature of deficit up to 2 marks
Discussion of a non-harmful deficit up to 6 marks} to a max
Discussion of the harmful effects of a deficit up to 6 marks} of 10 marks

S-07 4 (a) Explain the difference between expenditure-switching and

expenditure-dampening policies as a means of correcting a balance
of payments disequilibrium. [8]
Disequilibrium involves persistent deficit or surplus problems, which are not
sustainable. Switching intends to move domestic and foreign expenditure
more towards domestic production. It includes tariffs, quotas and subsidies
and should mean more exports and fewer imports. Dampening involves
reducing the level of total spending so reducing imports and forcing domestic
producers to export. Deflationary fiscal and monetary policy would be used.
Understanding of the terms (4)
Details of the two types of policy (4)

S-07 4 (b) Outline the current account position of your country or

another economy you have studied. Discuss its ability to improve its
performance on the current account. [12]
The position on trade in goods and services, income and transfers needs to
be identified in terms of surplus or deficit. Policies to improve
competitiveness through price and quality, to introduce new exports and
reduce imports, to gain access to new markets, to influence income and
transfer flows need to be specified. The ability to implement these policies
successfully depends upon the background conditions, the effectiveness of
the policies, costs, expertise, influence and external obstacles. Cases may
vary markedly between countries.
Analysis of current account position (4)
Consideration of policies for improvement (4)
Discussion of ability to effect an improvement (4)

S-08 4 (a) Explain what is meant by a current account deficit. [8]

The current account involves the trade in goods (visible) and services
(invisible), flows of income and current transfers. A deficit results when total
outflows exceed total inflows.
Understanding of deficit up to 2 marks
Explanation of the elements of the current account up to 6 marks

S-08 4 (b) Discuss the effectiveness and desirability of imposing tariffs to

correct a current account deficit. [12]
Tariffs are a tax, specific or ad valorem on imported goods and may be
targeted. They push up the price of the good and reduce the quantity
demanded of imports, so helping domestic producers and reducing the
outflow of currency. They allow a breathing space for structural adjustment.
Dumping can be prevented. They raise revenue for the government. Tariffs
might not be effective in reducing quantity demanded when demand is
inelastic and they will not be relevant to dealing with a deficit resulting from
income and transfer flows. They interfere with the operation of the market,
reduce the benefits of trade, may breach international obligations and may
provoke retaliation. The impact of a tariff can be shown in a diagram.
Understanding of a tariff up to 4 marks
Analysis of the benefits of a tariff up to 6 marks] max of
Discussion of the problems of a tariff up to 6 marks] 10 marks
 Unemployment
W-05 4 (a) Explain why it is difficult to measure unemployment accurately. [8]
Unemployment may be measured by the claimant count or the ILO job seekers
survey method. Problems involve inadequate data collection methods, costs of
data collection, inadequate sampling techniques, unemployed people excluded
from benefits, those claiming illegally and problems of defining the unemployed.
Knowledge of the methods of measuring unemployment up to 3 marks
Recognition of the difficulties involved up to 3 marks
Explanation of the difficulties up to 2 marks

W-05 4 (b) Discuss the view that ‘labour is the most important factor of
production and therefore the division of labour should be applied to its maximum
extent’. [12]
The traditional fourfold classification should be recognised with clarification of
division of labour at an individual and national level. While labour may be relatively
more important, depending on comparative advantage and production choices, there
needs to be understanding of the need to combine factors. Contrasts between
countries will illustrate this. Division of labour should increase efficiency but has
limits and may result in dependency and vulnerability.
Knowledge of the factors and division of labour up to 4 marks
Analysis of the importance of labour and division of labour up to 6 marks} to max of
Discussion of the limitations of the view up to 6 marks} 8 marks

W-07 4 (a) Explain, with examples, why labour productivity might vary
between countries. [8]
Labour productivity is output per worker (total output/workers) or per hour. It
depends upon the amount and quality of capital, skill, education, supporting
infrastructure, technology and attitudes. More developed economies e.g.
Japan, with skilled labour forces, automated systems and efficient equipment
will be more productive than developing economies e.g. Bangladesh relying
on manpower with limited quantities of other productive factors.
Meaning of productivity 2 marks
Understanding of influences on productivity 3 marks
Explanation of examples 3 marks

W-07 4 (b) Unemployment can be measured by the claimant count or

the labour force survey. Discuss the relative reliability of these two
measures. [12]
Claimant count identifies those who receive unemployment benefit. The
labour force survey is a return from a sample of those who are available for
and seeking work while currently without work. This is the ILO definition.
Claimant may include those not unemployed (fraudulent) and miss those
unemployed (not entitled to benefits) and would give an unreliable result,
although it is cheap and quick to calculate. Benefits may not be equally
available between countries. LFS may include some of the groups missed by
the claimant and gives international comparability. It is more expensive if
done properly and may be subject to sampling errors but is thought to be
more accurate.
Understanding of the two methods 4 marks
Discussion of claimant method 4 marks
Discussion of LFS 4 marks

S-08 3 (a) Explain what determines the size of a country’s labour

force. [8]
The labour force is the part of the population employed or available for work.
It includes the unemployed. Its level is influenced by total population (birth
rate, death rate, and migration), age distribution, school leaving age,
retirement age, attitudes towards women working, higher education
opportunities, post retirement employment, part time opportunities, etc.
Understanding of the labour force up to 2 marks
Explanation of the influences on the labour force up to 6 marks

S-08 3 (b) Discuss whether a widespread shortage of labour might be

a major cause of inflation. [12]
Inflation is a sustained rise in the general price level and is caused by cost
push, demand pull and monetary influences. A shortage of workers might
mean rising wages, which would push up costs over a large number of
industries and generate more spending power. Both could contribute to
inflation. The impact will be less where there is the ability to use machinery
or migrant labour. However, other factors such as money supply increases,
raw material price rises, increases in aggregate demand, overheating in the
economy etc might be more important.
Understanding of inflation and its types up to 4 marks
Analysis of the inflationary effect of labour shortage up to 6 marks] max of
Discussion of limits to its impact on inflation up to 6 marks] 10 marks
 Money and Inflation
W-01 3 (a) Explain the importance of the functions of money to the efficient
operation of a modern economy. [8]

W-01 3 (b) Discuss the problems of accurately measuring changes in the value
of money. [12]

S-02 4 (a) Explain why a country may experience a persistent rise in its
general price level. [8]

S-02 4 (b) Discuss why reducing inflation is often the most important task for
a government. [12]
S-03 4 (a) Explain the difficulties of measuring inflation accurately. [8]
Inflation is a sustained rise in the general price level and is measured by an
index of consumer (retail) prices. The accuracy of the index can vary with the
effectiveness of the data collection, the construction and coverage of the
index and the extent to which it is updated. Changes in quality cause
problems as well.
For understanding inflation and its measurement up to 3 marks
For identifying some difficulties up to 3 marks
For explaining the basis of the difficulties up to 2 marks

S-03 4 (b) Discuss whether inflation is necessarily harmful. [12]

Changes in the general price level give rise to problems in terms of
uncertainty and planning, menu and shoe leather costs, redistributional and
international effects. The rate of inflation (particularly compared to rivals), its
trend and whether it is anticipated affect the severity of the problems it
causes. A low rate of inflation may be desirable as an incentive to producers
and a stimulus to the economy. It is often advocated in preference to
deflation.
For identifying some of the disadvantages up to 3 marks
For explaining some of the disadvantages up to 3 marks
For analysing the different possible conditions up to 3 marks
For discussing the benefits of inflation up to 3 marks

W-04 2 (a) Explain how inflation affects the functions of money. [8]
Inflation is a sustained rise in the general price level. Money serves as a
medium of exchange, a unit of account, a store of wealth and a standard of
deferred payment. Inflation will undermine these functions. Fast changing
prices affect it as a unit of account and a store of wealth, while hyperinflation
may lead to barter. The extent may depend upon the rate of inflation. The
impact may be more immediate upon the wealth and deferred payment
functions as real values fall.
Knowledge of the terms up to 3 marks
Explanation of the functions and effects up to 5 marks

W-04 2 (b) Discuss the view that inflation is always a major problem. [12
Inflation is a problem because of its effects on the efficient operation of the
market system, international competitiveness, economic confidence and the
distribution of income. Hyper-inflation can destroy an economy. Inflation may
produce deflationary action from government and T.U. action to protect real
incomes. It is not always a major problem; this depends upon its absolute and
relative level, whether it is anticipated or unanticipated and whether it is
controllable. Recent experience suggests that inflation is no longer the
problem it was and that deflation may be a concern.
Knowledge of the effects of inflation up to 4 marks
Explanation of the harmful effects of inflation up to 4 marks
Discussion of benign inflationary situation up to 4 marks

S-05 3 (a) Explain why economies make use of money. [8]

Money avoids the use of barter and the need for a double coincidence of
wants. This makes trade more efficient. Acting as a unit of account and a
medium of exchange also simplifies the trading process. The store of value
and standard of deferred payment functions encourage saving and
investment. Trade and investment raise welfare and economic efficiency.
Knowledge of the functions of money up to 4 marks}to max
Explanation of the functions of money up to 6 marks}of 8 marks

S-05 3 (b) Discuss whether stability in the domestic value of money is essential for a
country’s economic well-being. [12]
Stability in value would be upset by inflation. This causes problems with the
efficient working of the price mechanism, international competitiveness and
aspects of redistribution. Price stability can dent expectations and profits and
lead to lack of confidence and stagnation. These effects would harm
economic well-being. This may be shown by inefficiency, unemployment,
lower living standards etc. However the level of harm depends upon the
actual rate of change, whether or not it has been anticipated and the
comparative rate internationally. If these are relatively favourable the effects
may not cause significant instability. A low and stable level of inflation is
thought to encourage production and growth so absolute stability is not
necessary.
Understanding of inflation up to 2 marks
Discussion of harm done by inflation up to 6 marks}to max of
Discussion of circumstances when inflation up to 6 marks}10 marks
may be benign/beneficial

W-06 4 (a) Explain the difference between cost-push inflation and demand-pull
inflation. [8]
Inflation is a sustained rise in the general price level with an accompanying
reduction in the real value of money. Cost-push inflation is caused by
persistent rises in the costs of production independent of demand. Examples
include increases in wage rates, profits, indirect taxes and raw material costs.
These may be linked to monopoly power, government action and changes in
exchange rates. Demand-pull inflation is caused by increases in aggregate
demand (C+l+G+X-M) often when the economy is close to full employment.
Influences may be increases in consumer spending, government expenditure,
money supply, spending attitudes, export demand.
For knowledge of inflation up to 2 marks
For explanation of cost-push inflation up to 3 marks
For explanation of demand-pull inflation up to 3 marks

W-06 4 (b) Discuss whether a country experiencing inflation will always have a
balance of payments problem. [12]
Inflation may make export prices uncompetitive and import prices more
attractive. With reduced demand for exports and increased demand for
imports the trade balance may worsen. The extent will depend on the
elasticities of demand which need to be examined. Confidence in the
economy may be reduced with an impact on FDI and outflows on the financial
account. The rate of inflation compared to rival producers is also important as
is its stability. Changes in the exchange rate may offset price differences.
Trade only makes up part of the balance of payments position, income flows,
capital flows, service income etc. may compensate for weakness in the trade
position.
For explanation of the link between inflation and B of P up to 5 marks] to
For discussion of conditions for B of P problem up to 5 marks ] max 12
For discussion of conditions for no problem up to 5 marks ]

S-07 3 (a) Explain how the rate of inflation is measured. [8]

Inflation is a sustained rise in the general price level, measured by a price
index.
Its main features are a basket of goods, a base year, weighting and data
collection.
Data is calculated at different times to show changes in the index and rate of
inflation.
Understanding of inflation (2)
Explanation of the construction of a price index (6)

S-07 3 (b) Discuss how a rapid rate of inflation might affect different
groups within an economy. [12]
Rapid inflation will harm all groups through reducing real values, creating
uncertainty, instability and harming the efficient operation of the market
system. The level of inflation will influence the severity of any effects. Those
who benefit include the government, borrowers, importers and some
producers. Those who suffer include fixed income earners, lenders, exporters
and some producers.
Understanding of general effects and importance of relative rate of inflation
(4)
Discussion of those who benefit (4)
Discussion of those who suffer (4)

W-08 2 (a) Explain the characteristics required by money if it is to carry

out its functions effectively. [8]
Money functions as a medium of exchange, a unit of account, a store of value
and a means of deferred payment. It must be acceptable, recognisable,
durable, divisible, uniform, scarce, convenient and stable in value. The
characteristics are needed to make it operate effectively.
Knowledge of functions up to 2 marks
Knowledge of characteristics up to 2 marks
Explanation of links up to 4 marks
W-08 2 (b) Discuss whether a country should welcome a period of deflation
(negative inflation). [12]
Price deflation is a reduction in the general price level and may occur when
economic activity is depressed or the economy is in a slump/recession. The
benefits from it go to creditors and fixed income earners who gain in real
terms. It will also help with international price competitiveness and may
improve the balance of trade position. Against this confidence and profit
levels may reduce, leading to lower output and more unemployment. The real
burden of government debt will increase and economic growth may be
checked. Government interest rate policy measures may become ineffective.
Japan’s experience has shown a number of these drawbacks. Generally mild
inflation is thought best.

S-09-21 4 (a) Explain why there can be problems for an economy

if the internal value of its money is unstable. [8]
Money is anything generally acceptable as a means of payment and fulfils
four functions. It will not fulfil these effectively if its value is unstable.
Consequences will include obstacles to trading, problems for producers in
planning output and for consumers in judging purchases, instability in foreign
trade, saving and tax revenues. Economic progress and greater welfare
require an efficient and stable system of exchange.
For knowledge of money and its functions up to 2 marks
For explanation of the impact on economic variables up to 6 marks

S-09-21 4 (b) Discuss whether it is possible to construct a consumer

price index that is an accurate measure of changes in the cost of living for
all households. [12]
CPI measures the rate of inflation or changes in the cost of living. It is
constructed by selecting a basket of goods, allotting the items weights and
sampling at different times outlets through which they are sold. Changes in
the price level can then be calculated. Although this is done accurately it may
not reflect the change in prices faced by all citizens. This will depend on the
composition of the basket of goods, the weighting given to each item, how
frequently values are taken and the range of outlets used. Some groups have
spending patterns which differ from the average because of income and
wealth levels and attitudes. Pensioners are an often quoted case, but house
owners and young people might also not be representative.
For understanding the construction of CPI up to 4 marks
For analysis of areas of possible inaccuracy up to 6 marks
For discussion of spending patterns of different households up to 6 marks

(e) Discuss whether inflation is always caused by government actions. [6]

Government action may contribute by increases in money supply, excessive
government spending, increases in indirect taxes or reductions in direct
taxation. Other influences may be responsible such as wage increases,
changes in spending behaviour, increased profit margins, falling exchange
rates and rising input prices.
Up to 4 marks for each side with a 6 mark maximum.
 Exchange Rate
W-02 3 (a) Explain how the international value of a currency is determined in a
floating exchange rate system. [8]

W-02 3 (b) Discuss whether an appreciation in the exchange rate is to the

advantage of an economy. [12]

S-04 4 (a) Explain how the determination of a floating exchange rate differs from
that of a fixed exchange rate. [8]
Floating rates are fixed by the markets for foreign exchange and its value is
the result of demand and supply changes. These are influenced by balance of
payments positions and speculative flows. A fixed rate is determined by
government action. It requires currency reserves which are employed to
counteract market demand and supply forces. Downward pressure requires
the purchase of the currency through the sale of foreign currencies. Diagrams
may clarify the cases.
Knowledge of the basic systems up to 2 marks
Explanation of the floating exchange rate up to 3 marks
Explanation of the fixed exchange rate. up to 3 marks

S-04 4 (b) Discuss the circumstances in which reducing the exchange rate and
introducing quotas are effective policies to tackle a trade deficit. [12]
Devaluation is a deliberate lowering of the international exchange rate of a
currency, while quotas involve the fixing of a maximum quantity of imports.
Devaluation works by altering the prices of imports and exports. Its success
requires the correct elasticities of demand, a responsive supply of domestic
production and an absence of retaliation. Quotas physically limit imports and
push up the market price by limiting supply of imports. They are effective
even when demand is inelastic, when appropriate limits are chosen and when
there is no retaliation.
Understanding of the concepts up to 4 marks
Explanation of the operation of the policies up to 6 marks
Discussion of the necessary conditions up to 6 marks,

S-06 4 (a) Explain, with the aid of diagrams, how a government would maintain a
fixed exchange rate. [8]
A fixed exchange rate has a set rate against other currencies. This is
determined by government action rather than market forces. When there is
downward pressure on the intended rate the government will increase
demand by the use of foreign currency. When there is upward pressure the
supply of the currency would be increased to retain its lower value. This
might be done indirectly through interest rate changes. A diagram would
show the moves in the demand and supply curves relative to a fixed currency
value.
For understanding of a fixed exchange rate [up to 2 marks]
For explanation of reaction to downward pressure [up to 3 marks]
For explanation of reaction to upward pressure [up to 3 marks]

S-06 4 (b) Discuss whether it is better for a country with a floating exchange rate to
face an appreciation or a depreciation of its currency. [12]
A floating exchange rate is set by market forces and may fluctuate freely. An
appreciation is an increase in its international value and depreciation a fall.
An appreciation improves the purchasing power of the currency, may boost
foreign confidence in the currency and inhibits inflation. It makes exports
dearer and imports relatively cheaper which may worsen the balance of trade
and cause unemployment. Depreciation works in the opposite direction.
Which is preferable depends on the country's position and priorities.
For knowledge of the exchange rate terms [up to 2 marks]
For discussion of the effects of appreciation [up to 3 marks]
For discussion of the effects of depreciation [up to 3 marks]
For a conclusion comparing the two cases [up to 4 marks]

W-09-21 4 (a) Explain how a rapid rate of inflation in a country will

affect its floating exchange rate. [8]
A rapid rate suggests an undesirable rate. A floating exchange rate is fixed by
market forces. Assuming other countries have lower rates of inflation the
country will lose competitiveness as exports become relatively expensive and
imports become relatively cheap. Lack of confidence will deter investment
flows. Demand for the currency will fall while supply will rise causing a
depreciation.
Knowledge of rapid inflation rate and floating system up to 2 marks
Link of inflation to direction of flows up to 3 marks
Explanation of depreciation up to 3 marks
W-09-21 4 (b) Discuss whether a government should operate a fixed
exchange rate system. [12]
A fixed exchange rate is set by the government’s use of currency reserves,
buying on the prospect of depreciation and selling with a prospective
appreciation. There are variations in which systems have an element of fixing
e.g. the adjustable peg. A fixed rate, such as the gold standard, brings
stability and certainty which should encourage trade. It brings discipline to
the government’s internal economic policy (particularly inflationary pressure)
and forces firms to control costs to remain competitive. It should discourage
destabilising speculation.
Against this is the need to keep large currency reserves, the need to
introduce deflationary policies which may harm other economic aims, the
tendency to maintain an overvalued rate and the limits on using monetary
policy. Fixed rates have become less common because of the lack of an
automatic adjustment and the move to a more robust market system.
For understanding of the operation of a fixed system up to 4 marks
For analysis of the benefits of fixed rates up to 4 marks
For discussion of the drawbacks of fixed rates up to 4 marks

(e) Discuss whether an appreciation of its exchange rate always

benefits a country.
Benefits: greater confidence, lower inflation, higher purchasing power, more
financial inflows (confidence), lower debt burden etc (up to 4 marks)
Disadvantages: worsening trade performance, higher unemployment, lower
growth, reduced FDI (costs) etc (up to 4 marks)
Credit consideration of elasticity relevance