2016 AS paper

Question 1

contraction in demand

Answer 1

a result of rise in prices

Question 2

extension of demand

Answer 2

a result of fall in prices

Question 3

function of money in improving specialisation in production of smartphones

Answer 3

Knowledge/understanding

• definition of specialisation: when a business focuses on a limited range of g/s to give a greater degree of productive efficiency
• definition of money acting as a medium of exchange or a measure of value or a store of value or a method of deferred
  payment. Specialisation requires exchange.

Application
e.g. Worker lives by exchanging earnings from making smartphones or receives training or is incentivised by money or smartphone company earns profit by trading in smartphones.

Analysis
development from money to improved specialisation, e.g. new technology enables further specialisation thus improving productivity or building up capital or increasing skills of workers.

Question 4

function of money in improving specialisation in production of smartphones MODEL ANSWER

Answer 4

• money = medium of exchange in economic transactions
• money can be used as an incentive for workers to improve their output and quality
• e.g. if firm paid workers at rate of ‘per unit produced’ workers would produce as many as possible inadvertently increasing productivity

Question 5

define ‘external benefits’

Answer 5

 Positive externality
 When the social benefits of an economic action are greater than the private benefits
 External benefits = social benefits – private benefits
 Benefits accruing to a 3rd party
 Spillover effects
 Outside the price mechanism

Question 6

measure gov could take to reduce impact of water extraction (affecting other industries) from nearby lake for use in flower industry

Answer 6

measures:

• tax on water or water consumers
• regulation
• subsidise water efficiency or substitute eater provision to lake
• permits

application:

• increased taxes/regulation would make it more expensive/less profitable, reducing consumption
• diagram e.g. showing supply shifting in and quantity falling

Question 7

explain ‘diminishing marginal utility’

Answer 7

• decline in the additional satisfaction a person derives from consuming an additional unit of that product
• this is the premise on which ‘All you can eat buffet’ operates as they know each additional plate of food (1) provides less utility than the one before (1)
• most people will eat only until their marginal utility matches the price they paid (1) OR people eat until they are satiated (1) otherwise if you kept eating you would reach the point of being sick or dissatisfied (dis-utility). (1)

Question 8

marginal utility

Answer 8

the additional benefit gained from consuming an additional unit of a good or service

Question 9

PED for petrol = -0.2 -> explain the change to the total revenue of petrol stations as a result of cutting their prices

Answer 9

• price fall would result in a fall in total revenue
• total revenue = number of items of a good or service sold multiplied by the price of the good or service
• the percentage rise in quantity demanded is
  lower than the percentage fall in price as demand is price inelastic OR less than 1/-1
• diagram showing inelastic demand showing increased revenue is less than lost revenue or numerical example of revenue changes

Question 10

reason for differences in PES of new housing between countries (K)

Answer 10

• PES measures the responsiveness of quantity supplied to a change in price.
• PES can be calculated using the following formula: PES= percentage change in Quantity Supplied (%∆ in Qs) / percentage change in Price (%∆ in P)

Question 11

reason for differences in PES of new housing between countries (Ap)

Answer 11

• Price elasticity of supply of 1 means unitary elasticity; PES>1 means elastic; PES <1
  means inelastic
• 1 mark for identifying Supply elasticities in the USA or Finland are at or above unity and 1 mark for identifying a country with particularly low elasticities of supply e.g. the Netherlands or the UK.
   Candidates who compare the elasticities of one country where supply is elastic and one country where supply is inelastic: e.g. USA +2.0 and UK +0.4.
• Supply is particularly unresponsive to prices in the Netherlands, more than ten times less responsive than in the USA
   A numerical illustration of the effects of price changes in different countries

Question 12

reason for differences in PES of new housing between countries (An)

Answer 12

• Above unity PES implying that in response to a demand shock housing output will increase proportionally more than prices and below unity where housing supply is relatively unresponsive.
• Explaining how it is easier to build new houses in the US compared to the UK where it is more difficult to build new houses e.g. due to planning restrictions in UK, e.g. greenbelt around London cannot be built on.
   Allow other reasons/factors that affect PES e.g. land availability, technology or time.

Question 13

likely impact of Help to Buy scheme on the market for rented properties in the UK (KAA)

Answer 13

 Help to Buy is a subsidy making home ownership more attractive
 Cross (price) elasticity of demand (XED) measures the responsiveness of quantity demanded for one good to a change in the price of another good.
 Identify home ownership and rented properties as substitutes
 Likely positive cross elasticity of demand – Help to Buy scheme may result in decrease demand in rental sector
 Deposit size 5% rather than 20% - demand increases
 Demand for rental properties decrease – diagram showing shift inwards
 Price and quantity of rental properties to fall
 Consumer and Producer surplus in rented sector declines
 Alternative views valid e.g. Help to Buy may increase house prices and therefore increase demand for rented accommodation from those not eligible for Help to Buy. Help to Buy shifted demand for private houses to the right (increase) and that, ceteris paribus, this would shift demand for rented accommodation to the left (reduction).

Question 14

likely impact of Help to Buy scheme on the market for rented properties in the UK (Ev)

Answer 14

 Scale – “modest” uptake of the Help to Buy scheme
 Time-scheme due to end in 2017
 Scope – more likely to affect “lower end” of property market.
 Closeness of substitutes – home ownership is purchasing an asset renting is a cost of living.
 Scheme only affects first time buyers
 PES – planning restrictions
 Regional variations
 Other factors more significant e.g. income
 Candidates may refer to long-term investment in private rented sector as buy- to-let increasing demand for home ownership.

Question 15

likely impact on producer surplus of an increase in the demand for housing

Answer 15

• producer surplus: a measure of producer welfare or the difference between what producers are willing and able to supply a good for and the price they actually receive
• Diagram to show the original demand and supply curve and equilibrium
• Identify the original producer surplus then increased producer surplus resulting from demand shifting out
• Explain that there is an increase in prices as
  demand for houses rises
• Explain that there is an extension in supply or a
  rise in the housing availability
• House builders will make a larger surplus (profit)
• Producer surplus is likely to be only for new housing. With the existing housing stock, any increase in house prices would not be referred to as increasing producer surplus as the seller still has to find a home to live in.
• Effect of PED/PES on size of producer surplus

Question 16

functions of the price mechanism in allocating housing (KAA)

Answer 16

• Prices perform a SIGNALLING FUNCTION – they adjust to demonstrate where resources are required.
• Prices act as an INCENTIVE FUNCTION – for consumers and/or suppliers
• Prices perform a RATIONING FUNCTION.
• House price index fell e.g. in 2007-09 from 360 to
  300 (-17%). House price index increased e.g. 2009-2014 from 300 to 375 (+25%).
• Use of selected PES in Figure 1
• Diagram to explain price mechanism e.g. removal
  of shortages and surpluses
• Allow use of economic thinkers/theories e.g. Smith’s invisible hand/addressing the economic problem, Hayek’s communication network.

Question 17

functions of the price mechanism in allocating housing (Ev)

Answer 17

• Signals ignore negative externalities of building on green belt or higher risk of flooding.
• Incentives lack perfect information or exhibit asymmetric information
• Housing is an asset – speculative demand will prevent shortages from being eradicated – a “runaway train” Extract A.
• Housing price mechanism fails to meet demand for affordable housing.
• Regional inconsistencies – supply shifting inwards in parts of country or demand not increasing
• Impact of recession/housing recovery fragile - prices volatile or continuously over-priced.
• Long run/ short run distinction.
• Lack of land/planning restrictions means PES remains inelastic.
• Allow other government interventions/failure.

Question 18

evaluate likely microeconomic effects of gov intervention in the UK housing market (KAA)

Answer 18

• Effects include changing property prices, rental market, affordability, shifts in demand and supply, welfare changes, environmental impact, cost to firms, cost to government, or impact on other markets.
• Methods of intervention – e.g. subsidies, taxation, provision of information, regulation, direct provision of housing, flood defences, Help to Buy and rent controls. One type of intervention is sufficient as long as considering range of micro- effects.
• Purpose of Government intervention to correct market failure – housing shortages and affordability. Possibility of further market and government failure.
• Use of Figure 1 to indicate UK’s PES may increase.
• Use of Extract B: to increase property supply “making new homes available more quickly”.
• Candidates may consider macro issues in a micro context if part of a chain of reasoning that identifies micro impact e.g. provides incentive to build more housing increases employment.

Question 19

evaluate likely microeconomic effects of gov intervention in the UK housing market (Ev)

Answer 19

• Magnitude – extent of government intervention.
• Measurement difficulty
• Short run, long run issues.
• Information gaps.
• Unintended consequences - mortgage help may become ineffective in catching a ‘runaway train’
• Impact on different interest groups.
• Distortion of price signals.
• Opportunity cost to Government.
• Environmental impact e.g. flooding

Question 20

evaluate case for gov provision of good and services such as flood defence schemes for housing (KAA)

Answer 20

• Public goods: non excludable and non rivalrous, e.g. flood defence schemes.
• Failure of free market – free rider problem.
• Externalities – positive or negative, e.g. housing may create these.
• Information gaps: markets may have asymmetric information, e.g. insurance companies having incomplete information on risk of flooding.
• Candidates may consider other types of government provision.

Question 21

evaluate case for gov provision of good and services such as flood defence schemes for housing (Ev)

Answer 21

• Unintended consequences.
• Magnitude
• Government failure, e.g. flood defences.
• Opportunity cost of government provision.
• Ineffectiveness of government provision, e.g.
  climate change – better to abandon areas,
• Information gaps.
• Non-beneficiaries pay.
• Anti-competitive.

Question 22

merit good

Answer 22

• those goods and services that the government feels that people will under-consume, and which ought to be subsidised or provided free at the point of use so that consumption does not depend primarily on the ability to pay for the good or service.
• has positive externalities