13 Economics Test — Eco3.3
ANSWERS
QUESTION ONE: MARKET FAILURE
Marker’s
use only
The Land transport Safety Authority (LTSA) publishes car crash safety information for all models
of cars sold in New Zealand on their website www.crashtestdummy.co.nz
(a)
What is market failure?
When the market does not result in equitable or efficient use of resources
(b)
A1
Describe why the government feels justified to intervene when the market fails.
When the market fails the government is justified to intervene to result in more acceptable outcomes
A1
(c)
With reference to conditions that are required for markets to operate perfectly, explain why
the LTSA provides car buyers with this information.
(I) For markets to operate perfectly buyers and sellers need perfect information. (E) by providing consumers
M2
with safety information they can make a more informed decision (R) when purchasing a car.
(d)
Apart from the situation above, identify two other conditions that are required to be present
for a market to operate perfectly.
No spillover costs/benefits
Consumer sovereignty
Perfect competition/price takers
Mobility of factors
A1
2
QUESTION TWO: EXTERNALITIES
1.
2.
Marker’s
use only
Pure private goods have no externalities. List TWO further characteristics of private goods.
(1)
Rival/Depletable
(2)
Excludable (by price)
A1
For each type of externality in List 1, identify an example from List 2. Enter the correct letter
into the appropriate box.
List 1
List 2
(a)
Negative Externality of
Production
(b)
Positive Externality of
Production
H
A. Car dealers benefiting from other car dealers
locating nearby
B. Drinking a can of soft drink
A
C. Eating a Sandwich
D. Employing an extra worker
(c)
(d)
Negative Externality of
Consumption
F
Positive Externality of
Consumption
E
E. Car parks being made available because
more people are taking public transport
¾
A1
F. Passive smoking
G. Production of fireworks
H. Water pollution from a factory
3.
What does it mean to ‘internalise an externality’?
Whoever creates the externality pays or is rewarded
Bringing together the social costs and benefits
4.
A2
How would establishing appropriate property rights help to control the over-fishing of New
Zealand’s coastal shellfish beds.
Eg:
the allocation of quotas to establish property rights and limit catches
M2
3
QUESTION THREE: PUBLIC GOODS
There are 13 national parks in New Zealand which are administered by the Department of
Conservation.
1.
2.
Marker’s
use only
State TWO reasons why a national park might be considered a public good.
(1)
Non-excludable by price
(2)
Either
A1
and
non-depletable, non-rival, no marginal cost
Define a collective good.
A good provided by government and/or funded from taxation
A1
3.
In what way could international tourists visiting New Zealand’s national parks be considered
‘free-riders’?
A1
The idea that they are not contributing toward the cost
Graph 1: Benefit Received from Visiting a National Park
Capacity
Costs
and
Benefits
MB
price
Visitors
4.
Assume that the marginal cost of an extra visitor to a national park is zero.
a. On Graph 1 above, show and label appropriately the effect of charging an entrance fee to
a national park.
A1
b. Explain why it might be considered economically inappropriate to charge an entrance fee
to a national park.
Any of the following ideas:
welfare loss when benefit Is denied despite zero marginal cost / consumer benefit is not being max’ed /
there is no need to ration this resource / costs of gaining revenue might exceed revenue gained
M1
4
QUESTION FOUR: INCOME DISTRIBUTION
1.
Marker’s
use only
Distinguish between equity and equality of income distribution.
Equity = fairness
A1
Equality = same
Table 1: New Zealand Distribution of Household Income
2.
a.
% of
Households
% of Income
Cumulative %
of Households
Cumulative %
of Income
20
5
20
5
20
11
40
16
20
15
60
31
20
23
80
54
20
46
100
100
all
A1
Complete the last column of Table 1.
b. Use Table 1 to plot New Zealand’s Lorenz Curve (label it L1) on the grid below. Fully
label the graph.
L1
% Income



Labels
Scales
Plotting
A1
% Households
c. The government has dropped the top marginal tax rate from 39% to 30%. Show on the
graph above the effect of an decrease in the overall tax rate. Label it appropriately.
A sketched and labeled curve bowed further than L1
A2
5
3.
State what the diagonal line on the graph indicates and explain its significance in displaying
equitable income distribution.
Marker’s
use only
Equal distribution of income, providing a means of comparison if more equal equates with more equitable
M1
Two policies the government could use to help low-income households are:
4.
•
reduce regressive taxes (eg remove GST from basic necessities such as food)
•
increase transfer payments to low-income households (eg increase the unemployment
benefit).
a.
Explain why GST (Goods and Services Tax) is a regressive tax.
(I) A regressive tax taxes low-income earners at a higher rate than high income earners. Low income
earners spend a higher proportion of their income than high income earners (who can afford to save)
one
point
A2
(E) so a greater percentage of their income is exposed to GST tax.
both
points
So it is regressive. (Q)
M2
Increasing the unemployment benefit could result in an equity / efficiency trade-off.
b. Explain the likely impact of an increase in the unemployment benefit on efficiency.
(I) An increase in the unemployment benefit will result in a decrease in efficiency (with an
one
point
attempt to answer why).
(E) Guaranteeing income will result in a decrease in the supply of labour because some people receiving
A2
the unemployment benefit will opt not to work (because they get paid even if they don’t work). OR funds
could be used to improve infrastructure OR funds could be wasted paying for administration costs.
So less is produced and a loss of efficiency occurs. (Q)
both
points
M2
Note: logical explanations of why efficiency increased acceptable.
c. Explain the likely impact of an increase in the unemployment benefit on equity.
Eg:
(I) An increase in the unemployment benefit will increase equity (with an attempt to answer why).
(E)
one
point
A2
Since low-income families receive an increase in income, the number of low-income families will
decrease, resulting in a more even income distribution.
both
points
So equity improves. (Q)
Note: logical explanations of why efficiency increased acceptable.
if 2 x M’s awarded
M2
E2
6
QUESTION FIVE: NATURAL MONOPOLIES
1.
Marker’s
use only
Name an example of a natural monopoly.
Any appropriate example of a firm or industry e.g. telecom, railways
A1
Graph 1: Natural Monopoly
Cost /
Revenue
Pm
AC
MC
Ps
D = AR
Qm
2.
MR
Qs
Output
On Graph 1
a. Draw an appropriate labelled average cost curve (label AC) for a natural monopoly.
b. Label the profit maximising price (Pm) and output (Qm).
c. Label the socially desirable price (Ps) and output (Qs).
3.
Explain how a natural monopoly can benefit society more than if a natural monopoly is broken
up into competing firms.
One firm is more efficient that two or more firms
Because competition/deregulation leads to duplication / waste of resources.
A1
A1
one
point
A1
both
points
M1
7
4. Two possible policies that the government could use to regulate a natural monopoly are:
a. Average cost pricing
Marker’s
use only
b. Marginal cost pricing
(i) Which policy would be the most economically efficient?
No
grade
MC pricing
(ii) Explain how the policy you chose in (i) would improve economic efficiency.
Reduce price leads to quantity increasing from Qm to Qs
one
point
A2
both
points
Therefore more efficient as no DWL / sum of CS and PS maximised
M2
Accept appropriate answer for AC pricing
(iii) Explain how the policy you chose in (i) would be more efficient than the other policy.
MC pricing: because reduces price to the socially desirable equilibrium / no DWL / sum of PS and CS
one
point
A2
maximised whereas average cost pricing only reduces DWL / does not maximise sum of PS and CS
both
points
M2
(iv) Explain how both marginal cost pricing and average cost pricing could result in an
increase in equity.
AC or MC pricing reduces price making the good more affordable
one
point
A2
those on lower incomes benefit more as their purchasing power increases more relative to high income
both
points
earners
M2
if 2 x M’s awarded
E2
8
QUESTION SIX: MERIT GOODS
1.
Marker’s
use only
Classify the following as merit or demerit goods by placing a tick in the correct column.
Merit
goods
Goods
Fire extinguishers

Party pills

Burglar alarms

Anti virus software
all
correct

A1
Sugary fizzy drinks

Bike lights

Gambling – slot machines
2.
Demerit
goods

Explain why merit goods are under consumed without government intervention.
I) merit goods are goods that society/government considers that consumers should use. (E) As they have
positive benefits/spillover benefits that are not internalised (included in the price) As a result prices of merit
goods are higher than they would be if the spillover benefits were internalised. As a result the quantity
demanded is lower than “should” be. (Q) Eg everyone benefits from a fire extinguisher so the private price
M1
paid by a consumer should be lower to reflect this.
3.
Explain why demerit goods are over consumed without government intervention.
(I) demerit goods are goods that society/government considers that consumers should’nt use. (E) As they
have negative effects/spillover cost. As a result prices of demerit goods are lower than they would be if the
spillover costs were internalised. As a result the quantity demanded is higher than “should” be. (Q) Eg
everyone (taxpayers) have to pay hospital costs that result from people who develop type 2 diabetes from the
consumption of sugary fizzy drinks.
For Assessor’s Use only
Achievement Criteria
Achievement
Define market failure.
9 x A1s or better
Describe government interventions
used to correct for market failure.
4 x A2 or better
Merit
Explain market failure.
3 x M1 or better
Explain government interventions
used to correct for market failure
and their impact on equity and
efficiency.
4 x M1 or better
Excellence
Explain market failure.
no further evidence
Fully explain government
interventions used to correct for
market failure and evaluate their
impact on equity and efficiency.
1 x Es
M1