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ISBN 978-967-5492-03-7
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Perpustakaan Negara Malaysia
Cataloguing-in-Publication Data
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Wong, Wai Leong Cambridge International AS & A-Level ECONOMICS : Model Essays / Wong Wai Leong, Ngew Shook Ying, Nedumaran Munusamy. ISBN 978-967-5492-03-7 1. Economics--Problems, exercises, etc. I. Ngew, Shook Ying. II. Nedumaran Munusamy. III. Title. 330.76
Edited by Hani Hazman Designed by Rachel Goh Typeset by Helen Wong Printed by Nets Printwork Sdn Bhd, Selangor
Cover image: Alexandr Shevchenko/Shutterstock.com Image used under license from Shutterstock.com
Foreword While people have studied Economics for almost two centuries, it is only recently that the subject is perceived as a “highly mathematical, value-free, abstract subject�. This book aims to help students organise and write coherent essays for the Cambridge International AS and A Level Economics (9708) examination. I am sure you will gain useful insights from the author Wong Wai Leong, who has had years of experience teaching the subject. This book will undoubtedly provide added knowledge and comprehensive coverage of the subject.
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It is hoped that the wisdom provided in this book will not only aid you in preparing for the Cambridge International AS and A Level examination, but that it will help spark a greater interest in the fascinating subject of Economics.
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Elizabeth Lee (Dr) Chief Executive Officer
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Contents
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Sunway Education Group
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Introduction How to use this book
ii iv
AS Level Chapter 1 Chapter 2 Chapter 3 Chapter 4 Chapter 5
Basic Economic Ideas The Price System Government Microeconomic Intervention Macroeconomic Concepts Government Macroeconomic Intervention
2 20 34 56 74
Basic Economic Ideas The Price System Government Microeconomic Intervention Macroeconomic Concepts Government Macroeconomic Intervention
90 106 152 164 190
A2 Level Chapter 1 Chapter 2 Chapter 3 Chapter 4 Chapter 5
Introduction While the prospect of writing an essay can be intimidating for some students, learning some crucial tips can help you go through the essay-writing process with ease.
Question interpretation Many students lose significant marks due to question misinterpretation. You must read the question clearly—and several times, if needed—to fully understand the question and avoid writing irrelevant content.
Command words
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There is a command word in every question. It is important for you to understand the difference between the words ‘State’, ‘Explain’, ‘Analyse’, ‘Evaluate’ and ‘Discuss’.1
The most popular command word in the examination paper is ‘Discuss’. When the word is used,
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you must provide a discussion that looks at an issue from both sides—the good and the bad.
Use of paragraphs
Avoid writing an essay without breaks in paragraphs. It is ideal for you to present each idea or argument in its own single paragraph. In other words—one idea, one paragraph. This makes the
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essay more systematic, and easier to read and understand.
Use of diagrams
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Diagrams are crucial in illustrating and clarifying ideas in an essay. There are three things to keep in mind when using diagrams in an essay:
Diagrams must be fully labelled (including the y and x axes, the zero value at the start of the
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(i)
axes, the line or curve names, and the arrows showing the direction of any line or curve shift) (ii) Make references to diagrams in the essay
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(iii) Be generous in using space when drawing diagrams
Elaboration of examples When explaining a point or argument, you need to provide examples to support the answer. It is best that you elaborate on the example instead of just listing it out.
Names of key economic figures You can impress your examiner by including the names of prominent economists associated with any economic idea you are discussing in your essay. Among the key economic figures are:
1
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Refer to the Glossary page in the 2019–2021 Syllabus of the Cambridge International AS & A Level Economics 9708 for a comprehensive list of command words.
Introduction
Notable Economic Ideas or Works
Adam Smith
Absolute advantage, canons of taxation, invisible hands, laissez faire, market equilibrium
David Ricardo
Comparative advantage, law of diminishing marginal returns
Friedrich Hayek
Neo-classical economics, The Road to Serfdom
George Akerlof
Imperfect information, The Market for Lemons
John Keynes
Animal spirits, circular flow, cross diagram, The General Theory of Employment, Interest and Money, the paradox of thrift
John Nash
Game theory
Joseph Schumpeter
Austrian school of economics, creative destruction, dynamic efficiency
Karl Marx
Centrally planned economic system
Milton Friedman
Chicago school of economics, neo-classical economics, the Monetarists
Richard Thaler
Behavioural economics, nudge theory, irrationality
Ronald Coase
Coase theorem
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Economist
Writing of an evaluation
An evaluation is an important component in essays that require students to exercise higher-order
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thinking skills. To evaluate means to critically consider or assess a point of discussion. In writing an evaluation, you can consider these points: The importance of a particular factor in making an economic impact
(ii)
The short-run versus the long-run impact of an economic decision
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(i)
(iii) The identification of ‘winners’ and ‘losers’—who benefits and who loses from a
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particular economic action? (iv) A review of economic model assumptions for any weaknesses
Writing of a conclusion Conclusions are very important in long essays, particularly those that require students to discuss or evaluate a certain problem. The mark allocation is often one third of the total marks. Sadly, many students leave out the conclusion completely or write it too briefly.
Time management Time management is one of the biggest challenges for students answering Paper 4 (and Paper 2, to a lesser extent). The best preparation to manage time well is to practise writing a lot of essays under time constraint. Allocate 45 minutes for each question, and once the allocated time is up, move on to the next question. This is to avoid spending more time on lower-marked questions than higher-marked ones.
Practice If you wish to be proficient at writing essays, all you need to do is practise. There is no short cut! iii
How to use this book This book is tailored for students undertaking the Cambridge International AS and A Level Economics (9708) examination. Best used as a complement to textbooks, this book is a revision guide covering the 2019-2021 syllabus and is filled with tips that will enhance your essaywriting skills. Key features of the book:
1 Basic Economic Ideas
Charts These are placed at the start of every chapter for an overview of fundamental concepts of each topic area
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Economic idEaS and rESourcE allocation
COST-BENEFIT ANALYSIS
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ECONOMIC EFFICIENCY
SHORT RUN
Allocative efficiency
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Productive efficiency
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(a) Use examples to illustrate the difference between private goods and
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public goods, and explain why only private goods will be supplied in a free market economy.
[8]
DYNAMIC EFFICIENCY
Output level is at minimum average cost
PARETO EFFICIENCY
Hint!
for the second part of
imperfect information exists.
Question 2(a).
One cannot be made better off without another being made worse off
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Hint! This is a tip found throughout the book on understanding essay questions and basic Economic concepts
90
Cambridge International AS & A Level Economics 9708 Paper 22 Q2 a & b June 2016
MODEL ESSAY
Economic EFFiciEncY
Efficient output level in the long run
the main discussion point
[12]
Externalities
ALLOCATIVE EFFICIENCY
always ensure a satisfactory outcome for consumers even when Discuss this view.
Dynamic efficiency
Output level is at price equals marginal cost
The free-rider problem is
(b) The factor enterprise and the free working of the price mechanism
LONG RUN
PRODUCTIVE EFFICIENCY
CHAPTER 1 Basic Economic Ideas
QUESTION 2
MARKET FAILURES
Past Year Questions Each model essay is a sample answer to carefully curated questions from actual examination papers
A2-Level Econs-Chap 1.indd 90
(a) Private goods are goods that are rival and excludable in nature, while
Define ‘private goods’, ‘public
public goods are goods that are non-rival and non-excludable. The inherent difference between the two goods can help explain why only private goods will be supplied in a free market economy, an economic
6/4/19 5:02 PM
introduction goods’ and ‘free market
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economy’ BodY
system where goods are produced and consumed with little to no
Explain the characteristics
government intervention.
of private goods and cite an example for each:
For private goods, the rival characteristic means the consumption of a
• Rival—limited number of seats
of this characteristic is the limited number of seats in a cinema hall. l When a person occupies a seat in a 200-seat cinema hall, the number of
• Excludable—non-paying passengers being refused from boarding a bus
available seats left for others will be 199.
BodY Explain the characteristics
The excludable characteristic of private goods means the seller can
of public goods and cite an
exclude a person from consuming a good if the person does not pay for
example for each:
it. For example, a public bus driver can refuse passengers who are unable
• Non-rival—television broadcast
or unwilling to pay from boarding the bus. While public amenities
• Non-excludable—streetlight
are available to the general public, some are excludable since they can only be enjoyed after payment. Public buses, telephones and toilets are
common ErrorS
therefore private goods, and not public goods in the economic sense.
mistake of listing public
of a good by a person does not reduce the amount available for others. rival aspect of a public good. When a person watches a television programme, the broadcast signal received does not reduce or interfere
Common Errors This is an alert on common errors committed by students when writing essays
Students often make the
For public goods, the non-rival characteristic means the consumption Television broadcast is an example of a good that possesses the non-
Essay Outlines Structured into ‘Introduction’, ‘Body’ and ‘Conclusion’, the outlines are a guide for you to plan and organise your essays
in a cinema hall
good by a person reduces the amount available for others. An example
buses, telephones and
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toilets as examples of public goods in their answer. Take note that these are not public goods.
with the reception of other viewers. 11
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A1-Level Econs-Chap 1.indd 11
6/7/19 6:18 PM
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AS Level
1 Basic Economic Ideas Factors of production
Classification of goods and services
Money
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ECONOMIC IDEAS AND RESOURCE ALLOCATION
Production possibility curve
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Scarcity, choice and opportunity cost
Positive and normative statements
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Resource allocation mechanisms
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HUMAN DESIRE
WANTS
LAND
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NEEDS Basic necessities for survival
RESOURCES
ENTERPRISE
LABOUR
CAPITAL
LIMITED
UNLIMITED
SCARCITY
CHOICE
2
OPPORTUNITY COST
CHAPTER 1 Basic Economic Ideas
WHAT should we produce?
FOR WHOM should we produce?
THREE BASIC ECONOMIC QUESTIONS
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HOW should we produce?
FACTORS OF PRODUCTION
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ENTREPRENEURS
ROLES
PERSONALITY
• Mining • Timber • Agriculture
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• Proactive • Achievementoriented • Confident • Flexible • Creative • Innovative
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• Introduce new products or technology • Transform competition • Take risks in uncertain conditions • Recognise opportunities and exploit them
LAND
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• Workforce
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SINGAPORE
Land • Strategic location
LABOUR
CAPITAL • Machine • Commercial vehicle • Infrastructure ENTERPRISE • Organise production • Take risks
CHINA The only active factor of production
Labour • Ambitious • Hardworking
WHY ARE SOME COUNTRIES RICH? MALAYSIA Land • Fertile and suitable for plantation of palm and rubber • Rich in minerals and oil
GERMANY Labour • Highly disciplined • Skilled workers in the automobile industry
UNITED STATES Enterprise • Pioneering spirit • Confident • Risk-takers
3
CHAPTER 1
Basic Economic Ideas
Medium of exchange Standard for deferred payment
Durable
Divisible Portable
MONEY
FUNCTIONS
CHARACTERISTICS
Difficult to be forged
Store of value Unit of account
Time deposits
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Cash
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Accepted by all
More liquid
Limited in supply
Land and buildings
Bills
Less liquid
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TYPES OF MONEY Certificates of deposits
Bonds
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Sight deposits
DIGITAL MONEY
MEANING A payment instrument where monetary value is stored electronically on a device
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EXAMPLES • e-pay • e-wallet
CHARACTERISTICS • Convenient as there is no need to carry any cash • Similar to cash but unlike credit cards
CHAPTER 1 Basic Economic Ideas
CLASSIFICATION OF GOODS AND SERVICES
ECONOMIC GOODS
Unlimited in supply
Limited in supply
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FREE GOODS
PUBLIC GOODS
PRIVATE GOODS
• Non-rival • Non-excludable - Free-rider problem
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• Rival • Excludable
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TYPES OF ECONOMIC GROWTH
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ECONOMIC RECOVERY
Capital goods
ECONOMIC GROWTH
Capital goods
PPC
Increase in productive capacity
B
PPC2
A PPC1 0
Consumption goods
0
Consumption goods
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CHAPTER 1
Basic Economic Ideas
PRODUCTION POSSIBILITY CURVE (PPC) Capital goods A (Unattainable)
B Opportunity cost
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C
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PPC
0
PPC CONCEPTS
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Consumption goods
OPPORTUNITY COST SCARCITY • Point A is unattainable because resources are limited
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• Movement from point B to point C indicates an increase in consumption goods at the expense of capital goods • Amount foregone is the opportunity cost
CHOICE • Point B and point C indicate two different combinations of goods • Only one combination of goods is possible
CHAPTER 1 Basic Economic Ideas
RESOURCE ALLOCATION MECHANISMS
MIXED ECONOMY
CENTRALLY PLANNED ECONOMY
Allocation of resources through market forces
Uses both market economy and centrally planned economic mechanisms
Allocation of resources through central planning
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MARKET ECONOMY
DISADVANTAGES
ADVANTAGES
DISADVANTAGES
• Efficient allocation of resources - ‘Invisible hands’ of market forces • Producers are motivated due to possession of private property rights
• Public goods are not provided • Merit goods are under-provided • Demerit goods are over-provided • Human alienation due to disparity in wealth
• More equitable distribution of wealth and income • Prevents overproduction of undesirable goods • Reduces unnecessary competition
• Producers lack motivation due to public property rights • Poor quality of goods • No competition and innovation
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ADVANTAGES
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• Producers and consumers are free to choose what they want to do
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1 Basic Economic Ideas Basic Economic Ideas
QUESTION 1
COMMON ERRORS
(a) Explain what is meant by the term ‘money’ and outline its characteristics
Students often confuse
in a modern economy.
characteristics of money with functions of money.
[8]
(b) Discuss whether money is able to perform all its functions effectively in
For Question 1(a), pay
an economy that is experiencing a high rate of inflation.
attention to money characteristics only.
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CHAPTER 1
[12]
Cambridge International AS & A Level Economics 9708 Paper 22 Q3 a & b November 2015
Functions of money should be discussed in the answer for Question 1(b).
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MODEL ESSAY
(a) Money is anything that can be used as a means of payment to facilitate
Define ‘money’ and identify the
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types of money used in the past
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trade. In the past, people used items with intrinsic value as money INTRODUCTION
such as seashells, live stocks and salt. These items, however, were inconvenient to carry around in large amounts. They were therefore
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later substituted by fiat or token money, whose value is placed by a
BODY
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government or the law.
Describe the types of money used in a modern economy:
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• Notes and coins • Bank deposits • Cheques
• Digital money
• Financial assets
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In a modern economy, money consists of notes and coins, bank deposits and cheques. Notes and coins are physical money issued by a country’s central bank, while bank deposits are money placed in commercial bank accounts for safekeeping that are transferable by cheque. Today, notes and coins and cheques are being rapidly replaced by digital money. Digital money exists in electronic form and is transferred to transacting parties by way of debit cards, e-wallets and Internet banking without any tangible currency. Other forms of money include financial assets such as bonds, treasury bills and stocks. Also known as ‘near monies’, these assets are less liquid than other types of money but can be easily converted to cash. Although credit cards are a prevalent form of payment today, they are not money and are only a money substitute. Credit cards enable a person to obtain instant loan and credit from the bank, the balance of which is payable at the end of the month. Credits cards are therefore a liability and do not function as a store of value.
8
CHAPTER 1 Basic Economic Ideas
Money has to have certain characteristics to serve its role in facilitating trade—it has to be durable, limited in supply, difficult to be forged, divisible, portable and accepted by all. BODY Identify and explain the
Durability of money is important to ensure that money does not
characteristics of money:
deteriorate after repeated handling. The amount of money circulated
• Durable
must also be restricted, as money will lose its value if it is in unlimited l
• Limited in supply
supply. If counterfeit money floods the economy, for example, people
• Difficult to be forged • Divisible
will no longer trust and accept money as a form of payment.
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• Portable • Accepted by all
Another important characteristic is divisibility. This is because daily business transactions take place in various denominations. Money also
has to be portable and accepted by all as legal tender, usually through
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government sanction.
To conclude, the evolution of money from everyday items to digital CONCLUSION
of centuries. As the use of digital money becomes more prevalent today, l key money characteristics may similarly change over time to attune to a
the characteristics of money in
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money is a result of changing human needs and economies over a period
Make a concluding remark on the future
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more cashless economy in the future.
(b) Inflation is a persistent rise in the level of prices for goods and services
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as measured by the Consumer Price Index. Inflation affects the value of money, whereby a rise in price level is met with a fall in the purchasing l power of each dollar. In other words, one can get less goods with the
INTRODUCTION Define ‘inflation’
same dollar.
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HINT!
A high rate of inflation can challenge the effectiveness of monetary
You should support
functions as a medium of exchange, store of value, unit of account and
each explanation of monetary function with
standard for deferred payment.
an evaluation on how the function is affected by high inflation.
Money as a medium of exchange means it is the accepted means of payment between sellers and buyers. During a high rate of inflation,
BODY
sellers may no longer accept money as payment since the currency is
Identify and analyse the
unstable. Sellers may instead prefer stronger currencies such as the United States dollar or payments in kind akin to the barter system. Such a scenario may occur in extreme cases of inflation, known as ‘hyperinflation’, similar to the one experienced by Zimbabwe in 2008. In a hyperinflation, money will fail as a medium of exchange.
functions of money as a:
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• Medium of exchange • Store of value • Unit of account • Standard for deferred payment
9
CHAPTER 1
Basic Economic Ideas
The second function of money is as a store of value. This function means money can retain wealth over a period of time. During a high rate of inflation, money is unable to effectively serve this role since the value of money will decrease. People are more likely to invest in assets and properties instead of holding on to devaluing cash. A high rate of inflation will thus adversely affect those with lower household incomes and money savings. The third function of money is as a unit of account. This function means
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money is used as a standard measure to which economic items such as goods, services and assets are valued. During a high rate of inflation, money cannot effectively perform this function either. This is because prices will rapidly change, making it difficult to ascertain the value of
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goods and services.
A high rate of inflation will also lessen the value of debts, affecting the fourth function of money as a standard for deferred payment. Lenders
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will be at a disadvantage since the value of money received at the end of a loan term will be worth less than when it was borrowed.
Consider circumstances where money can still perform its inflation CONCLUSION
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functions during a high rate of
While the functions of money can generally be affected in an economy
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BODY
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Summarise discussion on functions of money and
experiencing a high rate of inflation, there are circumstances where money can still perform its functions effectively. For example, if vendors do not lose confidence in the currency despite high rates of inflation, money will still be accepted and function as a medium of exchange. Furthermore, if high rates of inflation are anticipated, lenders can afford some time to factor in the necessary adjustments to price. This
circumstances where money
circumstance therefore enables money to continue performing some of
can still effectively exercise its
its functions.
functions during a high rate of inflation
To conclude, a high rate of inflation can have an adverse impact on the effectiveness of monetary functions as a medium of exchange, store of
COMMON ERRORS Students often generalise the effects of high rates
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crucial function of money as a store of value, for instance, is immediately compromised when inflation rate soars. Nevertheless, the extent to
of inflation on monetary
which the functions are affected depends on several circumstances,
functions. Avoid
including whether there is a loss of confidence in the currency or
committing this error by pointing out that the extent of the effects can depend on many factors.
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value, unit of account and standard for deferred payment. The most
whether the high rate of inflation is anticipated.
CHAPTER 1 Basic Economic Ideas
QUESTION 2 (a) Use examples to illustrate the difference between private goods and
HINT!
public goods, and explain why only private goods will be supplied in a free market economy.
[8]
The free-rider problem is
(b) The factor enterprise and the free working of the price mechanism
the main discussion point
always ensure a satisfactory outcome for consumers even when
for the second part of
imperfect information exists.
Question 2(a).
[12]
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Discuss this view.
Cambridge International AS & A Level Economics 9708 Paper 22 Q2 a & b June 2016
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MODEL ESSAY
(a) Private goods are goods that are rival and excludable in nature, while
INTRODUCTION Define ‘private goods’, ‘public
public goods are goods that are non-rival and non-excludable. The
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inherent difference between the two goods can help explain why only private goods will be supplied in a free market economy, an economic
goods’ and ‘free market
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BODY
system where goods are produced and consumed with little to no
Explain the characteristics
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government intervention.
economy’
of private goods and cite an example for each:
For private goods, the rival characteristic means the consumption of a
• Rival—limited number of seats in a cinema hall
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good by a person reduces the amount available for others. An example of this characteristic is the limited number of seats in a cinema hall. l When a person occupies a seat in a 200-seat cinema hall, the number of
• Excludable—non-paying passengers being refused from boarding a bus
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available seats left for others will be 199.
BODY Explain the characteristics
The excludable characteristic of private goods means the seller can
of public goods and cite an
exclude a person from consuming a good if the person does not pay for
example for each:
it. For example, a public bus driver can refuse passengers who are unable
• Non-rival—television broadcast
or unwilling to pay from boarding the bus. While public amenities
• Non-excludable—streetlight
are available to the general public, some are excludable since they can only be enjoyed after payment. Public buses, telephones and toilets are
COMMON ERRORS
therefore private goods, and not public goods in the economic sense.
Students often make the
For public goods, the non-rival characteristic means the consumption
mistake of listing public
of a good by a person does not reduce the amount available for others. Television broadcast is an example of a good that possesses the nonrival aspect of a public good. When a person watches a television programme, the broadcast signal received does not reduce or interfere
buses, telephones and
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toilets as examples of public goods in their answer. Take note that these are not public goods.
with the reception of other viewers. 11
CHAPTER 1
Basic Economic Ideas
Public goods are also non-excludable, which means the benefits derived from consuming a good cannot be limited to only those who have paid for it. An example of a good that possesses this characteristic is a streetlight. Once a streetlight is installed on a public street, everybody using the street at night can benefit from the light. This means a person cannot be excluded from enjoying the good despite not bearing any financial cost for its provision. In a free market economy, only private goods will be supplied due to the
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free-rider problem that is inherent in public goods. The free-rider problem occurs when consumers can enjoy a good that they do not pay for. It is a problem that is inherent in public goods since
BODY Introduce the concept of the
public goods are non-rival and non-excludable in nature. No one will be
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free-rider problem
willing to pay for public goods since everybody will wait for somebody else to pay in order for them to use the goods for free.
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The free-rider problem therefore results in public goods not having a market at all, an instance of economic inefficiency known as a ‘missing
BODY
market’. While there is demand for public goods, the market for them
and not public goods, are supplied in a free market economy
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does not exist because firms do not have any incentive to supply goods
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Explain why only private goods,
that they will not profit from. As a result, only private goods—which
CONCLUSION
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have to be bought and sold for consumption—are supplied in a free
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Summarise discussion on the
difference between private and
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market economy. In conclusion, private goods are goods that are rival and excludable, while public goods are goods that are non-rival and non-excludable.
public goods, and the free-rider
Only private goods are supplied in the free market economy due to the
problem
free-rider problem that is inherent in public goods. (b) Factor enterprise is one of the four factors of production and refers to a risk-taking endeavour by entrepreneurs. It is the role of the factor
INTRODUCTION Define ‘factor enterprise’ and ‘free working of the price mechanism’
enterprise to manage the other three passive factors of production— l
land, labour and capital. The free working of the price mechanism means the free forces of demand and supply determine the price of goods and services in the market. The response of price to changes in demand and supply will then determine how resources are allocated.
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CHAPTER 1 Basic Economic Ideas
The factor enterprise and the free working of the price mechanism ensure a satisfactory outcome for consumers by allocating resources based on consumer demand. This is because the factor enterprise is driven by profit and will quickly respond to changes in the price mechanism to maximise its gains. A satisfactory outcome for consumers through the workings of the factor enterprise and price mechanism is evident during periods of shortages
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and surpluses. When there is a shortage of goods, price will rise because the quantity demanded is greater than the quantity supplied. The increase in price is
BODY
towards production to meet consumer demand. When there is a surplus
Describe the satisfactory
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a signal to the factor enterprise that more resources should be allocated
of goods, or when consumers do not want the goods anymore, the factor enterprise will be left with many unsold stocks. This is because the
outcomes that the factor
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enterprise and price mechanism can ensure during: • Shortages
unsold stocks, the factor enterprise will reduce price and stop producing
• Surpluses
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quantity supplied is greater than the quantity demanded. To dispose of the goods altogether. The following diagram shows the gaps between
Price
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the demand and supply curves, indicating a shortage and a surplus. S
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Surplus
p2
p1
P
e
p3
Shortage 0
q1
D Quantity
The elimination of shortages and surpluses through the price mechanism will lead to an efficient allocation of resources. As conceptualised by economist Adam Smith, the ‘invisible hands’ of the market forces will bring the demand and supply of goods to an equilibrium at the right price and quantity. As a result, a satisfactory outcome for consumers is ensured.
13
CHAPTER 1
Basic Economic Ideas
The existence of imperfect information, however, can undermine a satisfactory outcome and lead to a misallocation of resources. Imperfect
BODY Introduce the concept of imperfect
information is a situation where parties to a transaction do not have the
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information
same amount of information about a particular good. For example, the seller may know more about the benefits of a good than the buyer, or vice versa. An unsatisfactory outcome for consumers due to imperfect information is evident in the under-consumption of merit goods,
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over-consumption of demerit goods, as well as the incidence of moral hazard and adverse selection.
Merit goods are socially desirable goods which benefits, or positive
COMMON ERRORS
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externalities, are underestimated by consumers. Some examples of merit goods include education, healthcare, insurance and retirement
Students often confuse merit
savings. If buyers do not have full knowledge of the benefits of these
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goods with public goods. It
particular goods, they will not be willing to spend money for their
that merit goods are a type
optimal consumption. As a result, merits goods will be under-produced
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is important to remember of private goods that are
and under-consumed.
defined by their underproduction and under-
Demerit goods meanwhile refer to socially undesirable goods which
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consumption.
costs to well-being, or negative externalities, are underestimated by
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consumers. Some examples of demerit goods include tobacco, alcohol
BODY
Describe the unsatisfactory
outcomes caused by imperfect information: goods
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• Under-consumption of merit
• Over-consumption of demerit goods
and illegal drugs. When there is imperfect information, buyers will not be fully aware of the harm that these goods can cause to society. Consumers will therefore continue consuming demerit goods. As a result, demerit goods will be produced and consumed beyond their optimal level.
• Moral hazard
Moral hazard occurs when a party increases its exposure to risks after
• Adverse selection
entering into a business transaction. For example, a car owner may have less incentive to take any precaution against car theft after getting a complete car insurance covering any loss. Without perfect information, the insurer would not know whether the insured would engage in riskier behaviour that should have warranted a higher premium. Adverse selection occurs when one party has an information advantage over the other before entering into a business transaction. For example, in the health insurance market, an insurance applicant may withhold information about being a high-risk person from the insurer to obtain a lower premium than what would have been charged to high-risk people.
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CHAPTER 1 Basic Economic Ideas
In conclusion, the factor enterprise and the free working of the price mechanism cannot always ensure a satisfactory outcome for consumers
CONCLUSION
due to the existence of imperfect information. Government intervention
Briefly consider how a
in the form of regulatory controls, tax imposition or direct provision l
satisfactory outcome can be
may therefore be necessary to correct a misallocation of resources and
ensured despite the existence of imperfect information
overcome issues related to merit and demerit goods, moral hazard and adverse selection.
HINT!
W
QUESTION 3
(a) Show the difference between a movement along, and a shift in, a
Production possibility
production possibility curve. Explain what might cause each to occur.
curve (PPC) is a popular
[8]
examination question. Be
(b) Discuss the way in which resources are allocated in planned economies
sure you understand and
IE
Use diagrams to support your answer.
master the basic concepts
and free market economies. Consider which type of economic system is likely to have the more beneficial outcome.
of PPC, and remember to
[12]
include key assumptions underlying PPC.
MODEL ESSAY
E
V
Cambridge International AS & A Level Economics 9708 Paper 22 Q3 a & b November 2017
R
(a) Production possibility curve (PPC) is a curve that shows the maximum potential output that an economy can produce with existing resources.
INTRODUCTION Define ‘production possibility curve’ (PPC)
P
This economic model is constructed based on a few assumptions—the l economy is a closed economy, only two types of goods are produced, factors of production are not equally productive, resources are limited, and the state of technology is constant. A movement along a PPC means the economy reallocates its resources
BODY
by producing less of one good in order to produce more of the other. The
Explain the causes for:
trade-off between goods illustrates the concept of scarcity, whereby one good will have to be ‘sacrificed’ in order to produce more of the other. Since limited resources cannot satisfy unlimited wants, consumers cannot have more of both goods at the same time. A movement along the PPC is shown in the following diagram, moving from point A to point B.
• A movement along a PPC —scarcity
l
• An outward shift of a PPC —economic growth • An inward shift of a PPC —reduction in economic resources
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