1

ECONOMICS
Higher 1
(Syllabus 8819)
Suggested Answer Outlines and
Examiners Comments for the
Year 5 Term 3 Promotional Examination 2013

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Question 1 Case Study Answer Scheme

Suggested guidelines to answering case study question:

STRUCTURE your answer according to what the command word requires.

o Command words such as Discuss, Comment, Assess, To what extent requires an
evaluative structure: Examples
Introduction-Body-Conclusion
Body:
Either a TAS structure (that is Argument vs Counter-argument structure)
Or an explanation of how the strategies or policies work and their
effectiveness/desirability followed by their limitations
Apply the most appropriate ECONOMICS FRAMEWORK (concepts, theories, diagrams) to address
the question.
Choose ideas that allow you to use and quote CASE EVIDENCE as far as possible in your answer
and for each piece of case evidence, explain the case evidence using economics framework as far
as possible. However, there are times where the case material offers very little information that
you can use or quote. In such instances, choose ideas and examples related to the CONTEXT of
the case study.
Provide RIGOUR of analysis if the command word requires it that is, elaboration of an idea
o Basics: Definitions must be provided and they must be precise; Explain (why, how)
o Command words that require rigour e.g. Explain, Evaluate, Assess, Discuss, Comment
o Command words that dont require rigour of analysis (assuming mark allocation is 1-2
marks) include identify, state and describe
Provide SCOPE OF COVERAGE and this is dependent on the question and the mark allocation.
CASE

Instructions:
(1) Please evaluate the responses to the questions and improve on, or clarify with your teachers,
the responses where necessary.
(2) Please internalise the case study skills.
(3) Practice makes perfect.

(a) Referring to Fig 1,

(i) Identify the trend in the retail price of table wine between 1996 to 2011. [1]

Overall: retail price of table wine showed an increasing trend [1]

Refinement: however, price showed a sharp increase from 2009 2011 OR there was a slight fall in
price in 2009 [1]

(ii) Explain a likely factor for the general trend observed above. Illustrate your answer with an
appropriate diagram. [3]

The factor for the overall rise in price of table wine is likely due to the steady rise in indirect taxes
as seen in Fig 1. This is because the other costs of production have remained relatively unchanged
over the entire period whilst indirect taxes have steadily increased especially from 2005 onwards.
The overall rise in price of bottle of wine mirrors the rise in indirect taxes. [1]

Economic framework to use: DD and SS framework [2]

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- Link rise in indirect taxes to the increase in COP, causing a shift of SS curve to the left from So to
S1. Ceteris paribus, holding DD unchanged, at the initial equilibrium price P0, there is now a
shortage. This exerts an upward pressure on existing price as consumers compete for the
limited quantity. As price increases, Qd falls while firms increase their Qs. The shortage is
eventually eliminated as the market adjusts to its new equilibrium position where the
equilibrium price is increased to P1 while quantity falls.

Price S1
S0
P1

Po

Do
Quantity
Qo Q1

(b)

(i) With reference to Figure 2, compare the trends in global sales volume between Snow and Bud
Light brands of beer. [2]

Similarity: Global sales volume of both Snow and Bud Light beer increased [1]
Difference: However the increase in Snows global sales volume is greater than that of Bud Light
especially from 2005 onwards.

OR
Snows sales volume was always lower than that of Bud Light until 2007 where sales volume of
Snow caught up with that of Bud Lights. [1]

(ii) Comment on the usefulness of price elasticity of demand concept to the managing director
overseeing the operations for Snow Beer. [6]
Paragraph 1: Introduction
Assume/State aim of managing director: maximize profits
Profits = TR TC
PED can help managing director in his pricing / non pricing strategies in order to increase TR and
ceteris paribus, increase profits.
Define PED
Formula / Coefficient

Body
Paragraph 2: Thesis: PED is useful to the managing director of Snow Beer
Pricing Strategy:
PED likely to be >1 justify (availability of substitutes as implied in E1 para 4, Chinas price
sensitive mass market)

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Managing director can lower price of Snow more than proportionate increase in Qd Loss in
TR from lower price is less than gain in TR from increase in Q TR increases c.p increase in
profits
[Evidence why price can be reduced: E1 para 3 development of extensive national distribution
network allow Snow Beer to be more efficient in transportation of their goods helps to reduce
COP pass on lower costs by lowering prices]

Paragraph 3: Non pricing Strategy

Managing director can aim to reduce the substitutability of Snow with other brands of beer via
marketing strategies like
upscale image (plans to update the look of the product similar to the kinds imported beer
come in)
improve quality to appeal to the more affluent
advertising campaigns (marketing Snow as a drink associated with outdoor and adventure
sports)
This will reduce the PED of Snow so that even if the price of Snow were to increase, there will be a
less than proportionate fall in Qd gain in revenue from higher price will more than offset loss in
revenue from fall in Q TR and hence profits can increase

Paragraph 4: Antithesis: PED not always useful for managing director (Limitations of PED)
many variables can affect the dd and hence sales of Snow at one time ceteris paribus
condition may not hold (eg incomes of consumers can change over time E1 para 5; more-
affluent consumers growing in China)
PED can change over time so existing value of PED could become obsolete

Paragraph 5: Conclusion: Make and explain your judgement. Holistic evaluation.

Mark scheme:
Thesis 3m: need to demonstrate at least usefulness of PED in determining pricing strategy for MD of
Snow with an explanation of how TR will be increased when price is lowered
Antithesis 3m: at least 2 different types of limitations of PED with brief explanation accompanying.

(c) With the aid of relevant diagrams, explain why there is a need for the UK government to intervene
in the market for alcohol consumption.. [8]

Introduction:
Define demerit good, market failure, allocative efficiency, negative externalities. Identify that alcohol
is a demerit good and government intervention in the market for alcohol is due to the market failure
associated with demerit goods.
Market failure is defined as the failure of the free market to achieve allocative efficiency and other
social goals like equity. Allocative efficiency is producing and consuming that combination of goods and
services that maximizes societys welfare. A demerit good is defined as a good that is deemed socially
undesirable by the government and will be over consumed if left to the free market. This is due to 2
reasons:

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1) Due to imperfect information regarding the private benefits/cost of alcohol consumption,

consumers overvalue the good and consume too much of it from societys point of view and
2) In the pursuit of self-interest, consumers ignore the negative externalities generated from
consuming alcohol and hence, there is overconsumption from societys point of view.

Body:
Paragraph 1: Examples of consumers overvaluing the good under imperfect info; Show the
derivation: Explain with diagram how DDperfect info < DDimperfect info Qperfect info
<Qimperfect info ; deadweight loss
Imperfect information about the private benefits/costs of alcohol consumption leads consumers to
overvalue the good (alcohol) and consumes too much of it from societys point of view. Consumers
overvalue their private benefits or under-estimate the true cost of consuming alcohol on themselves.
Consumers drink alcohol because alcohol can help them to relieve their stress or they like the feeling of
being high after drinking alcohol. However, consumers are not fully aware of the harmful effects of
drinking too much alcohol. Drinking too much alcohol is bad because in the long term, it increases
the risk of developing a long list of health conditions including breast cancer, oral cancers, heart
disease, strokes and cirrhosis of the liver. Research also shows that a high alcohol intake can damage
consumers mental health, impair memory skills and reduce fertility. Hence, consumers demand under
imperfect information (D1) will be greater than the demand under perfect information (D2).

Price
SS

B Figure 1
A

C D1 (imperfect info)
(=MPB+MEB)
D2 (perfect
O Q2 Q1 info) Quantity (Alcohol)
2
Figure 1 shows the demand and supply curves for alcohol. Under imperfect information, consumers will
consume OQ1 (where D1 equals SS). However, under perfect information, the socially optimum level is
at OQ2 (where D2 equals SS). Hence, there is overconsumption of Q1Q2 units of alcohol. A deadweight
loss of area ABC arises because the additional costs from the additional resources allocated to the
production of the good exceeds the additional benefits derived from consuming Q1Q2 units of the good
under perfect information. Thus, too much resources are allocated to the production of alcohol
resulting in allocative inefficiency, justifying the need for government intervention.

Paragraph 2: Pursuit of self-interest consumers consider their own private benefits/costs

Examples of negative externalities ignored by consumers; Show the derivation: Explain with diagram
how MSB < MPB Qsocially desired (MSC=MSB) < Qfree market (MPC=MPB); Show and explain
deadweight loss

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Alternative approach to Para 2: analyse at the source of externality. (MPB > MSB)
Figure A below shows the demand curve for alcohol (or marginal private benefit curve of consuming
alcohol) and the supply curve of alcohol (or marginal private cost curve of producing alcohol).
Assume that there are no externalities generated in the production of alcohol, hence the MPC of
producing alcohol equal the MSC of producing alcohol. However the consumption of alcohol
generates negative externalities in consumption. To the consumer, the marginal private benefit from
consuming alcohol includes the satisfaction derived from consuming it (e.g. the consumer feels relaxed,
high and happy). However, consuming alcohol generates negative externalities. Negative externalities
are defined as third party costs for which these third parties are not compensated. Drink driving can
lead to car accidents, causing traffic jams and inconveniencing others on the road. Drink driving can
also cause injuries and fatalities among other car drivers and pedestrians. Alcohol addiction can lead
to numerous social problems such as abuse of family members or turning to crime to fuel the addiction.
It can also lead to hangovers which can affect productivity of the workforce. Hence, this negative MEB
creates a divergence between the MSB and MPB from alcohol consumption. Hence, the MSB from
consuming alcohol is lower than the MPB from consuming alcohol.

Under free market forces, the market equilibrium consumption and production of alcohol is OQ1 where
MPB from consuming alcohol equals the MPC of producing the alcohol. On the other hand, the
allocatively efficient production and consumption of alcohol is OQ2 where MSB from consuming alcohol
equals the MSC of producing alcohol. A deadweight loss of ABC is generated in the consumption and
production of alcohol if left to free market forces. The deadweight loss, depicted by the triangle ABC, is
the welfare loss to society from consuming the additional units Q2Q1; this is calculated by comparing
the benefit to society of consuming Q2Q1 (which is Q2Q1BC) and cost to society (which is Q2Q1AC).
The presence of the DWL indicates that there is an over allocation of resources towards alcohol
production (and thus consumption) and therefore the government needs to intervene in the market.

Ss=MPC=MSC of producing
Costs/Benefits
alcohol

P2 Figure A: Negative externality generated

A from consuming alcohol
P1

C (-)MEB Dd=MPB from consuming

alcohol
B
MSB from consuming alcohol
Quantity of
Q2 Q1 alcohol

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Conclusion:
Government intervention in the market for alcohol is due primarily to the problem of market failure of
alcohol as a demerit good.

Mark Scheme:

L1 (1-3m) Explains market failure of alcohol (demerit good) BUT with glaring errors
in analysis
Answer lacks economic analysis
L2 (4-5m) Weak analysis on what constitutes market failure for alcohol
- How problem of negative externalities arising from alcohol
consumption lead to over consumption of the good and hence
creating a DWL area
- How imperfect information about the true costs of alcohol
consumption leads to over estimating the DD for the good hence
leading to over consumption of the good

Shows some degree of economic analysis BUT lacking in depth of

explanation
- Demonstrates only 1 well explained cause of market failure with
relevant accurate diagram max 5m
- Demonstrates 2 causes of market failure but not well explained
(lapses) and has no diagrams max 6m
- Demonstrates 1 well explained cause with accurate diagram but
the other cause has some lapses (in explanation or accuracy of
diagram or no diagram ) max 6m
L3 (6-8m) Well developed answer that showcased BOTH aspects of market failure in
the market for alcohol
Both diagrams are well drawn, appropriate and accurate; DWL area
associated with negative externalities is well illustrated and explained

(d) To what extent will the policies implemented by the UK government be effective in correcting this
market failure? [8]

Introduction
Identify the policies implemented by the UK government from the case evidence
- Education campaign (para 3)
- Rules regarding underage sales by retailers (para 3)
- Minimum price (para 4)
- Raise Indirect taxes (Figure1)

Body
Thesis: Policies implemented will be effective in correcting this market failure
- Explain how the policies work to correct market failure and are hence effective

Education campaigns
Aim to raise awareness of the true costs to consumers in their consumption of alcohol
addresses the imperfect information that gives rise to market failure

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Explain that with better information, consumers will be deterred from excessive alcohol
consumption fall in DD for alcohol if DD falls to DD level with perfect information
quantity of alcohol consumed will fall new market equilibrium level of consumption will
be at the socially optimal output level (Diagram)
Target for long term change in behaviour of individuals themselves addresses the root
cause of problem long lasting effects

Sample:
By embarking on education and campaigns of various forms, the UK government hopes to correct the
problem of imperfect information (which leads to overconsumption of alcohol). Education and
campaigns increase the awareness of the ill effects alcohol addiction has on ones health, so as to
change consumers taste and preference away from alcohol to other non-alcoholic beverages. Hence,
as seen in Figure 1 below, demand for alcohol can fall from D1 (imperfect info) to D2 (perfect info). In
turn, equilibrium output and consumption can fall from Q1 to the socially optimum level Q2.

Price SS

D1 (imperfect info)
(=MPB+MEB)
D2 (perfect
info) Quantity (Alcohol)
O Q2 Q1
Figure 1

Rules regarding underage sales by retailers

Retailers are restricted from selling alcohol to underage youths (assuming 21 years and
below). Retailers will be subjected to fines / penalties if they are caught flouting the rule
(toughened enforcement of underage sales by retailers). If such penalties can be taken to
reflect the marginal external costs contributed by the underage youths, this will help
retailers to internalize the negative externalities higher MPC MPC shifts left towards
the MSC new equilibrium will lie closer to the socially optimal equilibrium position. (Am
not sure if my analysis is OK)
OR
Rule limits the DD for alcohol as now a group of consumers are blocked out of the market.
This will bring down the alcohol consumption to the socially optimal output level
Easy to implement as they are easy to understand

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Minimum prices
Also known as price floor no drinks can be sold below this price level (most bottles of
wine cannot be sold for less than 4.50). Targeted at cheap ciders and value spirits with
high alcohol content favoured by problem drinkers.
Reduce the qty demanded in the market and hence amount of alcohol consumed as it is
now relatively more expensive than before.

Sample:
A minimum price or price floor is a legally established minimum price set above the market equilibrium
price. Price of the good is not allowed to decrease to achieve market equilibrium. As seen in Figure 2,
an implementation of such a minimum price results in an increase in the price of alcohol from P1 to
Pmin. As alcohol prices increase, this will discourage consumers to consume excessive alcohol so
that the quantity of alcohol demanded will fall from Q1 to Qm

Price
SS
B
Pmin
P1 E Figure 2

D1

O Qm Q1 Quantity (Alcohol)
2

Indirect Taxes

Alternative approach - how indirect tax policy works if using the MSB < MPB explanation as in (a)
A tax is a compulsory payment to the government. In this case, a tax on alcohol is an indirect tax which
is a tax levied on the production of the good. The impact falls on the producers as an indirect tax will
increase the cost of producing alcohol. The supply curve (Ss or MPC of producing the alcohol curve) will
shift upwards by the amount of the tax. The producers can pass on the tax to the consumers in the form
of higher prices which will in turn reduce consumers quantity demanded for alcohol. This is because
when price of alcohol increases, according to the substitution effect, consumers will switch to relatively
cheaper substitutes like non-alcoholic drinks and according to the income effect, consumers will face a
fall in real income or purchasing power and hence buy less alcohol. Referring to Figure B below and
assuming that the indirect tax is equal to the negative MEB at the socially desired output level OQ2, the
MPC of production curve shifts upwards by the amount of the tax (DC) until it intersects the MPB of
consumption curve at point D. Hence the socially optimal level OQ2 is achieved. The external costs
from consuming alcohol are thus internalised.

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MPC+ indirect tax

Ss=MPC=MSC of producing alcohol

Costs/Benefits

P2 D
Figure B
P1 A
Tax = MEC

P3 C Dd=MPB from consuming

alcohol
B MSB from consuming alcohol
Quantity of alcohol
Q2 Q1

Anti-thesis: Limitations of policies implemented

Education campaigns
Campaigns such as the anti-drink driving campaigns are long term measures which may
not reduce the consumption of alcohol and irresponsible decisions regarding driving after
consumption (results are not certain nor guaranteed). This is especially when alcohol has
been glamorized by celebrities and are not effective for hard core problem drinkers
(Consumers mindset and tastes and preferences do not change overnight). To correct such
behavior among people in the short run will require more punitive measures where the
penalty for non-compliance is heavier.
Education and campaigns highlighting the problem of excessive alcohol consumption are
costly to sustain and are likely to incur an opportunity cost on the government who may
have better use of such funding on areas such as healthcare. This is due to the limited
budget that the government has..

Rules
Penalties have to be harsh; Need extra resources to ensure rule is enforced incur high
opportunity costs
Underage drinkers can side step rule by getting others to purchase on their behalf or if
alcohol is easily available at the home, the rule will be rendered ineffective

Minimum price
Effective only if demand for alcohol is price elastic a rise in price will see a more than
proportionate fall in Qd. Most problem drinkers are hard core drinkers may be willing to

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sacrifice consumption of other goods to continue to purchase the higher priced alcohol
PED is low Qd is not expected to fall more than proportionately to the rise in price

Surplus in the market due to minimum price retailers may find means to bundle drinks to
offer for sale without flouting the rule

Indirect taxes
Optimal tax amount on alcohol is difficult to gauge due to the many forms of negative
impact on third parties and the difficulty to quantify these cost due to imperfect knowledge
on the part of the authorities. It is difficult to put a monetary value on social disorder from
drunkenness and loss of lives from drink driving accidents.
In addition, too high a tax rate leads to under-consumption while too low a tax rate does
not achieve allocative efficiency. Sometimes government failure may be greater than
market failure.
Conclusion

Make a judgement as to which policy will be most effective in the context of UK

Can offer an alternative measures or modify current measures
Education and campaigns to be changed to relate more to the youths and young adults as
government sponsored campaigns are often seen as preaching and immediately ignored..
Raising the alcohol consumption age because a significant proportion of alcohol abusers and
drink driving culprits could have come from this age group.
Mark scheme:

L1 (1-3m) Explains policies used by the UK government (at least 2 policies)

Answer lacks economic analysis / GPish / 1 sided answer (thesis or
antithesis) / errors
L2 (4-6m) Attempt at a balanced answer
- Weak analysis of BOTH effectiveness and limitations of at least 2
policies
- No framework for at least 1 of the policy but limitations show
some economic understanding max 4
L3 (7-8m) Well-developed answer that showcased BOTH aspects of effectiveness
and limitations of at least 2 chosen policies
- Diagrams if required are well drawn, appropriate and accurate,
showing how it addresses the problem of over consumption
E1 A conclusion highlighting the pros and cons of the policies discussed
E2 Judgement on which policy could be more relevant to the UK economy
Suggestion of a possible alternative policy based on value judgement

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ESSAY MARKING SCHEME FOR RI H1 ECONOMICS PROMOTIONAL EXAMINATIONS 2013:

Questions and marking scheme:

General Guidelines for Essays Skills, Interpretation and Content

Read all the questions and choose the questions that will help you to maximize your marks or
minimize your loss of marks.
After you have selected a question, if the question comprises of both part (a) and part (b), read
both parts to the question before attempting part (a). Plan what to write for part (a) and for part
(b). Note that the content in part (b) typically builds on the content in part (a).
STRUCTURE your answer according to what the command word requires.
o Command words such as Discuss, Comment, Assess, To what extent requires a
well-balanced and evaluative structure: Examples
Introduction-Body-Conclusion
Introduction
Clarify ambiguity
Body
Either a TAS structure (that is Argument vs Counter-argument structure)
Or an explanation of how the strategies or policies work and their
effectiveness/desirability followed by their limitations
Conclusion
Make and explain your judgement. Holistic evaluation.
Apply the most appropriate ECONOMICS FRAMEWORK (concepts, theories, diagrams) to address
the question.
Choose ideas and examples related to the CONTEXT/PREAMBLE of the question.
Provide RIGOUR of analysis if the command word requires it that is, elaboration of an idea
o Basics: Definitions must be provided and they must be precise; Explain (why, how)
o Command words that require rigour e.g. Explain, Evaluate, Assess, Discuss, Comment
Provide SCOPE OF COVERAGE and this is dependent on the question and the mark allocation.

Essay Question 2
Technological advancement in home theatre systems has meant that watching movies at home is as
enjoyable as being in a cinema. Greater accessibility to cable television, with its list of popular
movies, has also increased the attractiveness of watching movies at home.

(a) Explain with the help of examples the concepts of price elasticity of demand and price elasticity
of supply. [10]
(b) Examine the impact that technological advancement and greater accessibility to cable television
have on the market for home theatre systems and on the cinema market.
[15]

Part (a):
Paragraph 1: Introduction
Price elasticity of demand (PED) is defined as the responsiveness of quantity demanded of a good to a
change in its own price, ceteris paribus. Price elasticity of supply (PES) is defined as the responsiveness
of quantity supplied of a good to a change in its own price, ceteris paribus. The formula for PED is
(percentage change in Qdx) divided by (percentage change in Px) and the formula for PES is
(percentage change in Qsx) divided by (percentage change in Px).

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Paragraph 2+:
Explain the concept of PED using examples by making reference to its
- Sign of PED and its interpretation
o PED is always negative
Law of demand inverse relationship between price and quantity demanded
This is due to the substitution effect and Income effect
o When the price of cinema tickets increases, its price increase
relative to the price of its substitutes like cable TV. Hence,
consumers will switch to the relatively cheaper substitutes
(cable TV) and reduce their quantity demanded for movies at
the cinema (substitution effect).
o When the price of cinema tickets increases, consumers
purchasing power or real income falls. This will reduce their
ability to watch movies at the cinema. Hence, quantity
demanded for cinema viewing falls (income effect).

- The range of values of PED and its interpretation

o Ignoring the coefficient of PED, when the absolute value of PED>1, this means that
demand is price elastic. A given increase in price in home theatre systems from P1 to
P0 will cause a more than proportionate fall in Qd for home theatre systems from Q0
to Q1, ceteris paribus (diagram A)
o Ignoring the coefficient of PED, when the absolute value of PED<1, this means that
demand is price inelastic. A given increase in price in home theatre systems will cause
a more than proportionate fall in Qd for home theatre systems from Q0 to Q1, ceteris
paribus (diagram B)

Diagram A Diagram B

- Factors affecting the value of PED

o Proportion of income spent on home theatre systems
The greater the proportion of consumers income spent on a good, the more
price elastic the demand for the good. To the average household, the
proportion of income spent on home theatre systems is high, hence PED is
likely to be >1 (absolute terms). Total amount spent on the good especially
after the price increase is substantial, forcing the consumers to buy
proportionately less.
o Availability and closeness of substitutes
Close substitutes are available for Cable TV/Home Theatre (e.g. going to the
cinemas) PED>1

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The more narrowly the market is defined, the more price elastic the demand.
For instance, Home Theatre Systems in general have fewer substitutes (other
recreational activities like going to the cinemas) than the different brands of
Home Theatre Systems (Sony, Samsung and so on).

Paragraph 3: (4 marks)
Explain the concept of PES using examples by making reference to its
- Sign of PES and its interpretation
o PES is always positive
Law of supply
When price increases, previously unprofitable units become profitable, hence
quantity supplied increases
- The range of values of PES and its interpretation
o PES>1 (explain diagram C below)
o PES<1 (explain diagram D below)

P1

P1
P0
P0

Q0 Q1 Q0 Q1

Diagram C Diagram D

- Factors affecting the values of PES

o Availability of inventories
Home theatre systems are manufactured products and the parts are non-
perishable. Hence, supply for Home Theatre Systems is likely to be price elastic
(PES>1)

L3 Good structure, rigour of analysis, scope of coverage 7-10

o Balanced answer gave equally detailed explanation to both PED and
PES concepts.
o Provided the definition, formula, sign and interpretation, value and
interpretation and determinants of the value to each concept
o Examples are weaved into the explanation of each concept.
o Fluency and organisation
o Accurate explanation of both PED and PES concepts.

L2 Some lapses in explanation. Explanation is not developed fully. 5-6

L1 Glaring conceptual errors, and frequent lapses in explanation. 1-9
A descriptive answer.
Incomplete analysis i.e. only addressed PED or PES

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Part (b):
Question analysis/Triggers:
Market Demand Supply
1. Home theatre systems Tastes and preference Technological advancement
2. Cinema 1. Tastes and preferences
2. Change in price of inter-
related market (Home Theatre
Systems & Cable TV -
substitutes)

Paragraph 1: Introduction
Clarify that impact on the market refers to price, quantity, total revenue, CS and PS?
All 3 markets in the question are related. The effects of technological advancements in home-theatre
systems (HTS) will be felt not only in that particular market but also in the complement market for
cable television. Changes in the attractiveness of watching TV at home will also affect the substitute
market which is cinemas. The effects of the factors mentioned the signpost can be seen in the changes
in equilibrium quantity exchanged, prices and total expenditure/revenue in these markets.

Paragraph 2:
Explain how technological advancement affects the supply of home theatre systems and how in turn,
that affects the market for home theatre systems (Diagram 1).
- Lowers COP home theatre systems shifts supply curve to the right
- P falls but Q increases, cp
- Impact on TR depends on PED. Elaborate
- Impact on CS and PS?

Diagram 1 shows the demand and supply curves for HTS.

Show derivation: When supply increases from SS to SS1, C.P.
Price falls from P0 to P1
Quantity demanded & hence, eqm quantity increases from Q0 to Q2
Explain Market adjustment process
Change in TR depends on PED for HTS

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PED likely to be >1 in absolute terms (justify why) a fall in price leads to a more than
proportionate increase in Qd TR increases from OP0AQ0 to OP1EQ2
CS increases from P0AB to P1ED
PS increases from P0AC to P1ED

Paragraph 3:
Explain how greater accessibility to cable television affects the demand for home theatre systems and
how in turn, that affects the market for home theatre systems (Diagram 2).
- Technology advancement new innovation e.g. surround sound, 3D TV etc make HTS more
appealing to the tastes and preferences of consumers
- Greater accessibility to cable TV implies an increase in number of cable TV providers which
leads to an increase in supply of cable TV which in turn reduces the price of cable TV and
increase the quantity demanded for cable TV. Since cable TV and home theatre systems are
complements, this will increase the demand for home theatre systems. Popular movies
screened on cable TV will also increase the taste and preference for watching these movies on
HTS shifts demand curve for HTS to the right
- Both P and Q increases, cp TR increases
- Extent of increase in P and Q depends on PES. Elaborate
- Impact on CS and PS?

Show derivation: When demand increases from DD0 to DD1 (diagram 2),
Price increases from P0 to P1
Quantity supplied & hence, eqm quantity increases
TR increases from OP0AQ0 to OP1EQ2
Extent of increase in price and Qs depends on PES for HTS
PES likely to be >1 in absolute terms an increase in price leads to a more than
proportionate increase in Qs increases, ceteris paribus
CS increases from P0AB to P1ED
PS increases from P0AC to P1EC

Paragraph 4:
Explain how the combined effects that took place in paragraph 2 and paragraph 3 affect the market
for home theatre systems (Diagram 3)
- Both supply curve and demand curve shifts to the right

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- Q definitely increases but impact on P uncertain, depends on extent of increase in Dd and Ss.
Elaborate
- Impact on CS and PS?

Show derivation: When supply increases (SS0 to SS1) more than demand increases (DD0 to DD1)
(diagram 3),
Price falls from P0 to P1
Quantity supplied & hence, eqm quantity increases from Q0 to Q1
TR increases from OP0AQ0 to OP1EQ1
CS increases from P0AB to P1ED
PS increases from P0AC to P1EF

Paragraph 5:
Is it possible for the in supply to be > in demand for HTS P,Q,TR, CS, PS? And is it possible for
PED<1?
Technically possible but hard to justify
Implications
Increase in supply
Price falls, eqm quantity increases, TR falls if PED<1 as Qd increases less than
proportionately to the fall in price;
CS and PS increases
Increase in demand
Price increases, eqm quantity increases, TR increases
CS and PS increases
Combined impact of increase in supply > increase in demand
Price should fall, eqm quantity increases,
But impact on TR uncertain
CS and PS increases

Paragraph 6:
Explain how greater accessibility to cable television affects the demand for movies at the cinemas
- Cable TV and cinemas are substitutes (change in tastes and preferences as consumers now find
watching movies at home more enjoyable as it is a closer substitute to cinemas due to

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improved home theatre experience) fall in demand for movies at the cinemas shifts
demand curve to the left
- Both P and Q falls, cp TR falls
- Extent of fall in P and Q depends on PES. Elaborate: The more price elastic the supply, the
greater the extent of fall in Qs for a given fall in price of cinema tickets
- CS and PS fall
And/Or:
Explain how if the prices of home theatre systems and cable TV fall, the demand for movies at the
cinemas (Diagram 4)
- When the price of home theatre systems and cable TV fall, this means that the watching
movies at the cinema has become relatively more expensive (relative price of substitutes
increase) fall in demand for movies at the cinemas shifts demand curve to the left
- Both P and Q falls, cp TR falls
- Extent of fall in P and Q depends on PES. Elaborate: The more price elastic the supply, the
greater the extent of fall in Qs for a given fall in price of cinema tickets
- CS and PS fall

Paragraph 7
Extent of fall in demand for movies at the cinemas also depends on the degree of substitutability
between movies at the cinemas and watching cable TV via HTS. Cinemas may not be considered a
close substitute to HTS and cable TV due to its ability to screen the latest movies on top of the
experience of watching in a cinema. Thus despite the improvement in picture and sound quality of HTS,
consumers may still continue to watch movies in cinemas. Thus the fall in demand may be insignificant.

Paragraph 8:
Conclusion: Make a stand and explain your stand.
In the short term, impact on the market for Home Theatre Systems is likely to be positive since
they are expanding, while the cinema industry is likely to suffer a contraction.
The extent of these effects depends on whether the HTS experience and the movies
offered by cable TV is a good substitute to watching movies at the cinemas. The closer
the relationship among the goods, the larger the effects on the related markets. If
cable TV lags behind cinemas in terms of movie offerings, the substitutability of both
products will be reduced.

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In reality other factors may influence the impact on the markets. For example, the
amount of advertising on the latest movies which may not be available on Cable TV.
In the long term, it depends on the relative levels of innovation in the markets. Will the cinema
industry be able to improve its cinematic experience over time or will HTS continue to make
headway with product development. The greater the level of innovation in the market, the
larger the increase in supply and the resulting fall in price will continue to cause an expansion
in quantity demanded.

L3 Structure, rigour and scope of coverage 15-21

o Accurate analysis of both markets HTS and cinema.
o Changes to the equilibrium are explained clearly and the price
adjustment process to the new equilibrium is explained in detail for at
least 1 market.
o There is sufficient scope demand and supply factors are both
considered, and alternative scenarios are presented.
o There is an assessment on the impact on P, Q, TE/TR. CS and PS is good
to have
o Accurate application of PED and PES in considering the effects on the
markets.
There is clear reference to the context of the question.
Fluency and accuracy
L2 Some lapses in explanation. Explanation is not developed fully. 10-14
L1 Inaccurate analysis, conceptual errors, and frequent lapses in explanation. 1-9
Incomplete analysis i.e. only 1 market is considered out of 2.
A descriptive answer.
E2 For an evaluative assessment based on economic analysis. 3-4
E1 For unexplained assessment. 1-2

Only one candidate out of 25 attempted this question. For part (a), the candidate attempted an
explanation of both PED and PES concepts. However, he did not explain the determinants of PED and
PES. For part (b), the candidate focused only on explaining shifts in demand curve for each market. He
did not consider supply side changes in the market for Home Theatre Systems. In addition, he did not
apply the concept of PED to analyze the extent of change in quantity demanded for a given change in
price when supply curve shifted or apply the concept of PES to analyze the extent of change in quantity
supplied for a given change in price when demand curve shifted. Hence the analysis was too brief and
incomplete for both parts.

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Essay Question 3

Museums stimulate the mind and they nourish the soul. They foster a sense of belonging with, and a
pride in the community. Many countries thus subsidize entrance fees to museums. Some even
provide free entry.

(a) Explain whether museums should be considered public goods or merit goods.
[10]
(b) Discuss the view that providing subsidies is the best policy to encourage more visits to museums.
[15]

Part (a)
Paragraph 1:
Define key terms public goods and merit goods
- Public goods are non-rivalrous and non-excludable
- Merit goods are deemed to be socially desirable by the government. The government deems
such goods to be under-valued because consumers lack perfect information regarding the
private benefits from consuming these goods and consumers ignore the positive externalities
generating from consuming these goods because of the pursuit of self-interest (consumers
seek to maximize their own satisfaction).

Paragraph 2:
Museums and art galleries can be considered public goods because they are non-rivalrous and non-
excludable:
- Explain why they are non-rivalrous
o It has elements of non-rivalry one persons consumption of research findings (or of
viewing the exhibits at the national museum) might not impede anothers
consumption of those same findings (or of viewing the exhibits).
o Given that the marginal cost of serving the additional user once the good is provided is
zero, for allocative efficiency to be achieved, the price must equal the MC of serving
the additional user which is zero. However, profit-maximising firms will not price the
good at zero, hence allocative efficiency will not be achieved.
- Explain why they are non-excludable
o Collections and documentations at museums serve as resource base for researchers.
Research results are likely to be in the public domain. Thus once they are produced, it
is very difficult to prevent non-payers from accessing these results.
o Non-excludability will give rise to the free-rider problem. If there are too many free-
riders, profit-maximising firms may find it unprofitable to produce the good and hence,
the good may not be produced.

OR
Paragraph 2:
Museums cannot be considered public goods because they are rivarlous and excludable:
- Explain why they are rivalrous
o Too many visitors at the museums may generate cramped conditions and reduce the
level of enjoyment.
o MC of serving the additional user is not zero.
- Explain why they are excludable
o It is not impossible or difficult to prevent non-payers from entering the museums.

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o No free rider problem. Since consumers are able to derive exclusive private pleasure
from these goods, they are willing to pay for these goods. In turn, the private sector
may find it profitable to the good.

AND
Paragraph 3:
The government considers museum a merit good. Museum is considered a merit good because the
government deems visits to the museum to be good for the consumer and others (3rd parties).
However, the consumer undervalues the experience gained from these visits.

- Explain why it is good for the consumer but consumers undervalue their private benefits from
consuming the good because of imperfect information:
o Visits to the museum stimulate the mind and refresh the consumers soul as these
visits increase the historical or cultural knowledge of the consumer.
o Visiting museums enable the consumers/students to come into contact with the
abstract form of what they learn in schools and hence, promote better understanding
and appreciation of what they have learnt.
o Good source of research especially for people who study the history, culture and the
Arts as they provide useful information for the researchers.
o Since museums and art galleries offer people something more worthwhile than they
realize, demand for them under imperfect information is lower than under perfect
information. Hence, visits to museums and art galleries will be under-consumed and
under-produced under imperfect information.

Diagram 1 shows the demand (D) and supply (S) curves for visits to the museums. The demand curve
under imperfect information is Di while the demand curve under perfect information is Dp. Visits to
the museums are beneficial to those who visit museums (e.g.). However, due to imperfect information,
consumers are not fully aware of the private benefits that they can gain from such visits. Under
imperfect information, demand (Di) is lower than under perfect information (Dp). Hence, under
imperfect information, equilibrium output is Q1 which is lower than the socially desired level OQ2. A
deadweight loss equal to ABC is generated (explain why Q1Q2 adds more to societys benefits
(Q1CBQ2) than it adds to societys costs (Q1ABQ2).

Paragraph 4
- Explain why it is good others 3rd party benefits but consumers are not compensated for
generating these positive externalities and hence, consumers ignore these positive
externalities generated from the visiting museums:

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o Museums can help to foster a sense of belonging among the people of Singapore.
This is especially important for Singapore as the history of Singapore is relatively short
and Singapore is often referred to as a Migrant society. For instance, the National
Museum of Singapore displays exhibits and shares stories to celebrate the rich
diversity of Singapore and promote racial harmony in Singapore.
o "All of these heritage institutions together with our national museums, I think they
collectively keep alive the Singapore story, provide links to our past and they help to
strengthen a sense of common identity" (The Straits Times. May 18 2013)
o One persons visit to the museum may have an educative effect on others someone
who has visited the museum etc. may generate greater knowledge and appreciation of
the past than others;
o MPB (=demand) falls short of the MSB (MPB+MEB) due to the presence of positive
externalities generated from visiting museums and art galleries. Hence, if left to free
market forces, MPB equals MPC and hence, there will be too few visitors to museums
and art galleries from societys point of view (allocative efficient level is where MSB
equals MSC).
- Producers ignore the positive externalities generated from producing museums due to the
pursuit of self-interest. Producing museums can generate positive externalities such as:
o A museum may attract visitors which may then attract a wide-range of spin-off effects
on the economy (e.g. tourism tourists may generate demand for leisure activities
that the local community can enjoy and which would not otherwise exist. Museums
can help to promote tourism in a country and boost economic growth.)

Diagram 2 shows the demand (D) and supply (S) curves for visits to the museums. The demand curve is
also the MPB curve and the supply curve is also the MPC curve. Visits to the museums generate
positive externalities (e.g.) The MEB creates a divergence between the MSB and MPB curves. If left to
the free market, the equilibrium output level is OQ1 where MPB=MPC. This is because consumers
ignore the positive externalities from visiting museums in the pursuit of self-interest. However the
socially desired level is OQ2 where MSB=MSC. A deadweight loss equal to ABC is generated (explain
why).

References:
- http://books.google.com.sg/books?id=11MfoFGcGfgC&pg=PT129&dq=why+is+museum+considered+a+merit+good&hl
=en&sa=X&ei=iE8xUvKTPImHrAfX_YDoBA&ved=0CCwQ6AEwAA#v=onepage&q=why%20is%20museum%20conside
red%20a%20merit%20good&f=false

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- http://books.google.com.sg/books?id=9BMqw40WNGoC&pg=PA29&dq=why+is+museum+considered+a+merit+good&
hl=en&sa=X&ei=iE8xUvKTPImHrAfX_YDoBA&ved=0CDEQ6AEwAQ#v=onepage&q=why%20is%20museum%20consi
dered%20a%20merit%20good&f=false
- http://books.google.com.sg/books?id=Hd9l6gt6aJ0C&printsec=frontcover&dq=why+is+museum+important&hl=en&sa=X
&ei=lF0xUu3vI8KFrQeto4DgBA&ved=0CCwQ6AEwAA#v=onepage&q=why%20is%20museum%20important&f=false
- http://books.google.com.sg/books?id=tV7jEjMU4QcC&pg=PA103&dq=why+is+museum+considered+a+merit+good&hl=
en&sa=X&ei=iE8xUvKTPImHrAfX_YDoBA&ved=0CFEQ6AEwBw#v=onepage&q=why%20is%20museum%20considere
d%20a%20merit%20good&f=false

Level Marking Descriptors Marks

L3 Structure 7-10
Rigour economics framework, basics (definitions), little gaps in analysis
(step-by-step explanation)
Scope of coverage
Imperfect info undervalue private benefits
Pursuit of self-interest ignore positive externalities from
consumption
Context
Museums
Fluency and organization
Accuracy and clarity
L2 Only on public goods or only on merit goods, max 5 5-6
For merit goods, only 1 cause (imperfect information regarding private
benefits or externalities)
No diagrammatic analysis max. 6
L1 Glaring errors in analysis. 1-4
Answer that lacks economic analysis.

Part b:
Paragraph 1:
Explain how subsidies work to achieve allocative efficiency (or correct market failure arising from
positive externalities and/or imperfect information).
A subsidy is a payment made either to a firm to help lower the firms cost of production
(indirect subsidy) or to a consumer to increase the consumers ability and willingness to buy
the good or service (direct subsidy)
In the given context, the subsidy is an indirect subsidy

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In the given context, the subsidies are given to the producers. Hence, they are indirect subsidies.
Indirect subsidies lower the cost of providing museum services. This will shift the MPC curve
downwards by the amount of the subsidy. Diagram 3 shows the impact of an indirect subsidy on the
market for museums. Assume that the subsidy given is equal to the MEB (BD) at the AE level OQ2, this
lower the MPC curve until it cuts the MPB curve at OQ2. The indirect subsidy lowers the price of the
good from P1 to P3, increasing the quantity demanded from Q1 to Q2. Hence the positive externality is
fully internalised.

Paragraph 2:
Evaluate if subsidies can help to achieve allocative efficiency.
- It depends on the amount of the positive externality. If subsidies equal the MEB which in turn
helps to fully internalize the positive externalities, then AE will be achieved.
o Other advantages:
Promotes equity
Distorts the price mechanism but does not displace it (hence, theres still some
consumer sovereignty)
o Limitations:
But if subsidies over-correct the market failure, then AE may not be achieved.
For instance, providing full subsidies might even result in a deadweight loss
greater than the deadweight loss arising from free market forces. Hence, it is
important to estimate the MEB correctly. However, due to imperfect
information even on the part of the authorities, it may be difficult to do so,
especially since arts and culture are difficult to quantify.
Financial strain on government and taxpayers (the total subsidy in the diagram
on the previous slide is area P2BDP3. Producers receive OP2 (consumers pay
OP3 while P2P3 per unit comes from the government).
o Recommendations for improvement?

Paragraph 3:
Suggest an alternative policy to achieve allocative efficiency
- E.g. Explain how education and campaigns to encourage visits to museums work. This policy
correct seeks to correct imperfect information regarding underestimation of private benefits
from visiting museums and art galleries. Education and campaigns seek to change consumers
taste and preference towards more frequent visits to museums and increase the demand for
museums. Hence, with perfect information, demand increases from Di to Dp and in turn,
equilibrium quantity increases from OQ1 to OQ2 (diagram 1 in part a).

Paragraph 4:
Evaluate the effectiveness, desirability and feasibility of using education and campaigns
- Addresses the root cause of the problem if the market failure stems from imperfect
information
- Limitations:
o Raise awareness of the external benefits of visiting museums and art galleries but does
not address the problem arising from pursuit of self-interest. Awareness is a necessary
but insufficient condition to address the problem arising from the pursuit of self-
interest.
o Effects tend to be felt only in the long term as changing peoples mindset and
perception and behavior takes time.
o Financial strain on government and taxpayers
- Recommendations for improvement
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Paragraph 5:
Suggest a second alternative policy to achieve allocative efficiency:
- Legislation Compulsory visits to the museums for school children (learning journey in
Singapore). This has the effect of increasing demand for visits to museums.

Paragraph 6:
Evaluate the pros and cons of the second policy
- Pros: Certainty and immediate results
- Cons: Displaces the price mechanism. Removes consumer sovereignty
- Recommendations for improvement

Paragraph 7:
Conclusion:
- Make a stand on which is the best policy if any and explain your stand. Evaluate all 3 policies
using a few common yardsticks.
o Singapore is often ranked among the richest countries in the world in terms of per
capita income. Hence, Singapore has the financial ability to cultivate Arts and culture.
Hence, subsidy is a feasible and effective policy to encourage more Singaporeans to
visit museums. In Singapore, full subsidy (or free entry) is given to all Singaporeans.
Full subsidy is justified on the grounds of equity, ensuring that the poor in Singapore
are also able to visit museums. However, some studies have shown that subsidies
encourage more middle-class people to visit museums, instead of those groups who
had not previously done so. This is because the latter groups are not aware or fully
aware of the private benefits that they can gain from visiting museums. Hence, other
policies like campaigns and education and compulsory visits can be implemented as
complementary policies.
o In London (UK), international tourists are also given free entry into Museums. While
many question the rationale behind subsidizing tourists who are often willing to pay to
enter the Museums in London, there are others who argue that free entry provides
wider economic benefits free museums generate significant positive externalities as
they contribute to Londons attractiveness as a destination, generating significant
amount of revenue in UKs tourism industry. Hence, the benefits from subsidizing visits
to Museums outweigh the costs of doing so.
- Anything else that is interesting, insightful and intelligent

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Level Marking Descriptors Marks

L3 Structure 9-11
Rigour for both pros and cons and tweaks etc. economics framework,
basics (definitions), little gaps in analysis (step-by-step explanation)
Scope of coverage
pros and cons of subsidies & two other policies
Context
Museums & Singapore
Fluency and organization
Accuracy and clarity
L2 Attempt at balanced answer 6-8
Some minor lapses in economic analysis of both the effectiveness and
limitations of the policies regarding the policy of subsidies and 2 other
policies
If context of Singapore is lacking from answer, will be confined to level 2
marks = 8.
L1 Explanation of subsidies lacking rigour in economic analysis or flaws/weak 1-5
rigour in economic analysis.
One sided answer on the policies or the limitations behind the policies
E1 Evaluation lacks depth and contextual application. 1-2
E2 Evaluation is accompanied by depth and contextual application. 3-4

Examiners comments
24 out of 25 candidates attempted this question. The responses varied in quality. It was evident from
the quality of the responses that candidates were prepared for a question of this nature. However, due
to time constraint, a significant number of students were not able to complete the essay as well as
they could. These candidates are advised to improve their time management skills and to balance their
time well between their case study and their essay.

For part (a), most candidates argued that museums are not a public good but are a merit good and
provided good justification for their stand. They provided good examples and strong theoretical
framework in their responses.

For part (b), subsidy provided for museum visits are indirect subsidies (subsidies that fall on the
producers first and lower the producers cost of production). A number of candidates explained the
workings of a direct subsidy (and shifted the demand curve) and hence, were not awarded full credit.
Generally, candidates paid attention to the key word best and explained the workings of 2 policies in
addition to subsidies. They also showed understanding of the command word Discuss and assessed
the pros and cons of all three policies. A conclusion was also provided by most candidates at the end of
their responses. Candidates are advised not to provide a one sentence conclusion but to explain why
they come to that stand.

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