Test questions: ch 1-2

Question 1

Outline the differences between individual wants and collective wants. (2 marks)

Answer 1

• Individual wants are the material desires of individuals
• which provide some pleasure or
  satisfaction when they are consumed,
• and are satisfied depending on that person’s ability to purchase goods and services.
• In contrast, collective wants are the wants of the whole
  community
• and depend on the desires of the community as a whole.

Question 2

“The government will increase the Medicare levy low-income thresholds for singles, families and seniors and pensioners from 1 july 2022. The increase in thresholds provides cost-of-living relief by taking account of recent CPI outcomes so that low-income individuals continue to be exempt from paying the Medicare levy… This measure is estimated to decrease receipts by $460 million over the 5 years from 2022-2023.”

With reference to the quote above, explain how a tax cut can help individuals satisfy their wants. (2 marks)

Answer 2

The increase to the Medicare levy income threshold exemption enables low-income earners
to pay less tax than middle- and high-income earners. Those earning below the threshold pay
a lower rate of tax than those earning above the threshold. As a result, they retain more of their
income so are better able to satisfy more of their wants.

Question 3

“The government will increase the Medicare levy low-income thresholds for singles, families and seniors and pensioners from 1 july 2022. The increase in thresholds provides cost-of-living relief by taking account of recent CPI outcomes so that low-income individuals continue to be exempt from paying the Medicare levy… This measure is estimated to decrease receipts by $460 million over the 5 years from 2022-2023.”

Using an example, identify an opportunity cost faced by the Government by increasing the Medicare levy income threshold. (2 marks)

Answer 3

The government faces opportunity costs in its economic policy decisions relating to the
allocation of resources such as spending money or raising taxes. By increasing the Medicare
levy income threshold, the government will have fewer resources to spend on its other policies.
For example, the government may have to spend less on funding school buildings or hospitals,
or have to further increase government borrowing, which will increase future interest
repayments.

Question 4

Define the economic problem and discuss how this relates to individual and collective wants. (4 marks)

Answer 4

The economic problem refers to the allocation of limited resources to satisfy unlimited wants.
Individual wants are the desires of a single person and must be satisfied by that individual
using their income. Consumers must prioritise their expenditure to satisfy the highestpreference wants first. In contrast, collective wants (such as public goods) are desires of the
whole community. These are usually provided by the government which must weigh up the
importance of each want. Governments determine the way societies balance their collective
and individual wants. This reflects how unlimited wants are in competition for the scarce
resources.

Question 5

Describe the consequences of producing leather belts and wool jumpers at point A in the diagram. (2 marks)

Answer 5

At any point within the PPF, there are labour and capital resources not being used in the
economy, as the maximum potential for wool jumpers and leather belts are not being
produced. As a result of this inefficient production, there will be a long-term decline in
productivity and a rise in unemployment.

Question 6

Explain how an economy will decide what combination of jumpers and belts to produce. (2 marks)

Answer 6

As this is a choice between two consumer goods, the consumers in an economy will generally
determine the mix of production between jumpers and belts based on their personal
preferences. This can be influenced by the cost of a wool jumper versus the cost of a leather
belt, advertising and cultural factors. Businesses will generally respond to consumer demand
by producing the preferred combination of goods.

Question 7

Outline how the outward shift in the production possibility frontier as illustrated in the diagram, could have occurred. (2 marks)

Answer 7

The outward shift in the production possibility frontier could have occurred due to an increase
in the economy’s available resources. Labour is a key input in the production process, so
higher immigration into the country will increase the number of people available to work.
Alternatively, new technology may have been introduced. Similarly, if the economy finds new
resources, such as more land for sheep whose wool can used in jumper production, this will
shift the frontier outwards due to the higher inputs available.

Question 8

(image)
Outline what would happen to the production possibility frontier if the supply of wool fell sharply, and how this would affect the opportunity cost of jumper production. (3 marks)

Answer 8

The production possibility frontier would move down the vertical axis and become flatter if the
availability of wool for jumper production was sharply reduced. The maximum possible output
for wool jumpers will be lower, but maximum production of leather belts will stay the same.
This means that for every wool jumper produced in an economy, fewer leather belts will be
produced. The opportunity cost of wool jumpers will increase.

Question 9

A new technological advancement has made it cheaper to produce hiking gear and the price comes down. Outline what impact this would have on the diagram of (y axis: price of hiking gear, x axis: price of drawing equipment) (2 marks)

Answer 9

If the technological advancement means that more hiking gear can be purchased with the
same amount of money, this will shift the curve on the Y-axis outwards. This means that with
the same amount of money, Annabelle can purchase more hiking gear.

Question 10

Annabelle cannot decide whether she should continue spending her allowance or begin to save money. Discuss the economic factors an individual must consider as well as the potential economic benefits of saving their allowance. (3 marks)

Answer 10

The decision to save money requires individuals to defer consumption, which means satisfying
fewer wants in the short term. Annabelle might want to consider here future allowance
(income) before making a decision on spending. If she expects her income to grow, she might
plan to both save for future wants and satisfy present wants. If there is the prospect of her
income declining, she should delay consumption as savings will become relatively more
important. In any case, there are significant reasons to save. This is because savings can both
satisfy future wants that may gain economic returns (property for example) and safeguard
against future uncertainties whilst gaining interest.

Question 11

Briefly discuss the effects of a shift from producing consumer goods to capital goods. (2 marks)

Answer 11

A shift from producing consumer goods to capital goods will lead to an increased production
capacity in an economy in the long-term. While consumer goods provide immediate utility,
capital goods often lower costs or produce the higher output with the same resources. Over
time, an increase in capital goods leads to an outward shift in the PPF and increases economic
growth.

Question 12

How could the government decrease economic activity?

Answer 12

The government can decrease the level of economic activity in an economy by increasing tax
rates. This has the effect of removing money from households and businesses who may
otherwise consume or invest, increasing the leakages in the circular flow of income and
dampening economic activity

Question 13

Explain the impact of higher wages on overall economic activity using one sector in the circular flow of income. (3 marks)

Answer 13

Higher wages may increase the level of consumption. Businesses will then need to expand
their production and may increase investment to satisfy consumer demand. Households with
higher incomes will have greater capacity to save, which financial institutions can direct
towards investors. The economy may then adjust to a higher equilibrium level of economic
activity.

Question 14

Outline the impact of wages growth on businesses. (2 marks)

Answer 14

Wages growth will impact the business sector through the circular flow of income. Higher
wages will lead to higher input costs for businesses, which in turn could lead to higher prices
for goods and services, but higher wages may also lead to increased consumption of goods
and services by individuals, which will result in higher demand for the output of businesses.

Question 15

fill in circular flow of income chart

Answer 15

photos

Question 16

Explain the impact of higher wages on overall economic activity using one sector in the circular flow of income. (3 marks)

Answer 16

Higher wages may increase the level of consumption. Businesses will then need to expand
their production and may increase investment to satisfy consumer demand. Households with
higher incomes will have greater capacity to save, which financial institutions can direct
towards investors. The economy may then adjust to a higher equilibrium level of economic
activity.

Question 17

Explain how the government may respond to the change in economic activity- higher wages, if it seeks to smooth the overall level of economic activity. (4 marks)

Answer 17

The government may wish to limit the growth in economic activity in order to smooth the
business cycle. Government expenditure represents an injection into the circular flow of
income, whilst taxation is a leakage. Hence, the government could reduce its expenditure, or
increase taxation, if it is aiming to reduce overall economic activity. If the economy is
experiencing high wage growth and inflationary pressures (as is the situation in the quote
above) the government may increase taxation to contain inflationary pressures.

Question 18

Based on the economic activity in 2026, explain what is likely to happen to the equilibrium level of income after 2026. (2 marks)
(photos)

Answer 18

In 2026, leakages = S + T + M = 20 + 70 + 30 = 120. Injections = 55 + 45 + 25 = 125. As
injections are greater than leakages, it is likely that there will be an upturn in the level of
economic activity. This increase in economic activity will result in consumers having more
money to save or spend on imports. Taxation will also increase. As these leakages increase,
the economy will eventually be restored to equilibrium, but at a higher level of income.

Question 19

Describe the impact of an increase in a country’s exports on economic activity. (2 marks)

Answer 19

An increase in exports represents an increased injection into the circular flow model. Payments
from overseas consumers to Australian businesses increase the size of the circular flow,
resulting in an increase in economic activity.

Question 20

Describe the relationship between individuals and businesses in the circular flow of income. (4 marks)

Answer 20

Individuals and businesses are closely linked in the circular flow of income. Individuals supply
inputs (labour and enterprise) to businesses, which they use to produce goods and services.
Businesses reward individuals for these resources by providing them with income. Amongst
other things, individuals use this income to purchase goods and services from businesses.
Individuals might also choose to save a share of this income. Financial institutions take the
savings of individuals and lend them out to businesses for investment purposes. This
investment enables businesses to produce more goods and services, which are sold to
consumers, and so on.

Question 21

Define the business cycle. (1 mark)

Answer 21

The business cycle refers to fluctuations in the level of economic growth due to either domestic
or international factors.

Question 22

Outline how the business cycle is related to living standards in an economy. (2 marks)

Answer 22

because changes in the
business cycle lead to direct impacts on standards of living.

E.g., economies experiencing a boom in the business cycle have greater production of goods and services, as well as higher wages paid to households. Thus households can purchase a higher quantity due
to higher disposable incomes and experience a higher quality of life.

Question 23

Outline one advantage and one disadvantage of the distribution of income in a market economy. (3 marks)

Answer 23

A market economy is unlikely to distribute income equally because people are paid for the
value of their input in the production process. Workers receive wages based on their value to
the production process, reflecting factors such as their experience and level of skills or
education. This has the advantage of encouraging people to obtain skills that will make the
economy more productive. However, the disadvantage is that those who are unable to
contribute to the production process because of illness, age or disability will not receive
wages. Those with less bargaining power may not be able to secure a fair return for their
labour input. The distribution of income can therefore be unfair.

Question 24

Explain the effects of an economic recession on the circular flow of income. (4 marks)

Answer 24

An economic recession is the stage of the business cycle where there is decreasing economic
activity, defined as two consecutive quarters (six months) of negative economic growth, that
is, a fall in GDP. A recession, also known as an economic downturn, is generally associated
with lower demand for goods and services which results in falling production and consumption
of goods and services as well as lower levels of investment. As a result, employment falls and
more people can become unemployed. Households may be forced to rely on social security
payments and any savings they have to meet expenses while their normal sources of income
have dried up. Living standards may fall and individuals may experience other personal
problems such as deterioration in their health. Further, the government is also affected by a
recession, as it will receive less tax revenue as incomes have fallen, whilst having to increase
its expenditure on social welfare payments.