Past A Level Economics
Questions & Answers

Introduction

1. Economic growth is a macroeconomic goal of all countries, and is defined as the increase in the value of all the final goods and services produced in an economy, over time.

2. Overall, a rapid economic growth  can only be achieved with a combination of a few factors - a large initial rise in Aggregate Demand, Large Multiplier value and sufficient spare capacity in the economy.

Large Initial Autonomous Rise in AD needed:

1. Firstly, a large increase in AD would be necessary to have rapid economic growth.

Diag - Comparing Extent of Increase in AD on economic growth

(Done in class)

2. This is likely to occur if several or all components of the AD, C, I, G (X-M), is increasing.

3. A rise in confidence in the economy would make households more willing to spend on goods and services, hence increasing consumption. 

4. Firms with greater business confidence would also see higher expected rates of return on investment projects and hence they would invest more due to the projected profits of the investment.

5. An increase in government spending on infrastructure or other public works could also increase the G component, increasing AD. 

6. Furthermore, the net exports component can increase if there is overseas economic growth that led foreign purchasing power to increase, hence foreigners increase demand for this country’s exports, increasing export revenue and the net exports component.

Large multiplier value

1. With a large multiplier, the increase in real national income and hence economic growth rate would be greater, given the same increase in AD.

2. This can be seen through the formula:

3. This is because a large multiplier value occurs when marginal propensity of withdrawal is low.

4. This can be seen through the formula:

(Done in class) 

5. This could for example be due to a consumerist culture, which would cause the Marginal Propensity to Save to be very low as households prefer spending rather than saving the marginal increase in income.

6. With a low MPW, more of the increase in income leads to greater induced consumption instead of being leaked out of the economy. This in turn will lead  greater increase in output and more rounds of income generation and more spending.

<Diagram: Contrasting Small versus Large Multiplier Effect> (Done in class)

7. With the same amount of increase in autonomous spending from AD1 to AD2, the initial increase in income, induces more spending, generating more income, and through more rounds of spending and income generation, a larger increase in RGDP (YL) than YS. Hence, a more rapid economic growth rate.

Adequate Spare Capacity

1. Finally, even with a large increase in AD and a large multiplier size, rapid economic growth may not occur if there is a lack of spare capacity to accommodate the increasing AD.

2. Therefore, to enable rapid economic growth, there should also be increases in the long run aggregate supply (LRAS), in other words, potential economic growth.

Diag - Comparing Extent of Economic Growth with and without Potential Economic Growth

(Done in class>

3. This can be brought about by increasing the quality and quantity of factors of production.

4. For example, if there is immigration of foreign labour, the labour force would increase. Furthermore, if they are skilled labour, the quality would also increase, increasing the productive capacity. 

Introduction

1. Market-oriented supply-side policies refer, broadly, to government policies designed to influence the level of Aggregate Supply (AS) by reducing intervention and increasing competition within the economy.
2. Demand-side policies include both Fiscal and Monetary Policy.
   
3. Fiscal Policy (FP) refers to the government deliberately manipulating the level of taxation and government expenditure to influence AD.
4. Monetary Policy (MP) refers to the central bank manipulating money supply and interest rates to influence the level of AD.
5. Economic growth refers to an increase in the Real Gross Domestic Product (RGDP) produced by an economy over time.
6. Economic growth can refer to actual growth or potential growth.
7. Potential growth can happen through the expansion of the amount of output that could be produced if all resources are fully employed. Hence, the productive capacity of the economy could be expanded due to an increase in the quantity or quality of factors of production (FOP).
8. On the other hand, actual growth refers to the annual percentage increase in the RGDP of an economy.

Brief Explanation of Policies

1. Market-oriented supply-side policies work by reducing costs of production and increasing the quantity and quality of factors of productions (FOPs). This leads to increases in short-run AS (SRAS) and long-run AS (LRAS) which drives economic growth.<br />
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2. On the other hand, expansionary FP involves reducing direct taxes (income and corporate tax) and increasing government expenditure. Reduced income tax allows households to have more disposable income, increasing consumption (C). Reduced corporate tax increases the after-tax profits of firms, making more investment projects profitable, increasing investment (I). The increases in C and I work alongside increased government expenditure (G), leading to increases in AD which allow for economic growth.
3. Expansionary Monetary Policy similarly aims to increase AD. This is accomplished through central banks increasing the supply of money in the economy, which consequently decreases interest rates. Decreased interest rates reduce the cost of borrowing by consumers to finance big-ticket purchases, increasing C. Decreased interest rates also serve to increase the expected rate of return to investment projects, incentivising firms to invest, increasing I.
4. Referring to the diagram below the increases in C and I lead to an increase in AD from AD₁ to AD₂. As a result, real GDP increases from Y₁ to Y_fe, signifying actual growth.

Thesis: Market-Oriented Supply-Side Policies are more effective

1. Market-oriented supply-side policies are effective in combating supply-side causes of weak EG. Rising costs of factor inputs, like imported materials or labour may be the result of excessive government intervention (in the form of tariffs or minimum wages). Therefore, it would be wise for the government to tackle these root causes head on through such policies, which stand to be more effective.
2. Moreover, by removing minimum wage, reducing power of Trade Unions, privatisation and deregulation, an increase in I would be encouraged, leading to increased AD and hence boosting EG.
3. This is unlike demand-side policies, which mainly target AD, and would thus be less suitable in this case. Without dealing with the problems raised above, policies to reduce corporate taxes and lower interest rates may also be ineffective to spur I.
4. Additionally, market-oriented supply-side policies promote increased competition and efficiency, avoiding problems of government failure. Policies such as privatisation and deregulation spur productive efficiency, which in the long term is beneficial for the economy and helps to drive growth.
5. For example, during the 1970s, in the United States, there were heavy regulations placed upon banks involving interest rates and the lending/borrowing of funds. Today, with the deregulation of the banking industry, ceilings on interest rates and deposits have been removed and the industry is more competitive.
6. Also, market-oriented supply-side policies increases the productive capacity of the economy through investments which increases the quantity or quantity of capital goods, allowing for a more efficient utilisation of existing resources.
7. This is especially important when an economy is ‘overheating’ or facing too high levels of AD with supply-side constraints. In such cases, market-oriented supply-side policies are crucial in allowing for sustained economic growth to take place in the future.
8. Referring to the diagram below, an increase in AD from AD₁ to AD₂ while AS remained constant would have led to overheating of the economy. However, with an increase in the AS from AS to AS', RGDP can continue to increase while inflationary pressures are relieved.

Anti-Thesis: Demand-Side Policies are more effective

1. For one, certain market-oriented supply-side policies tend to be politically unpopular, and thus many governments are hesitant to implement them. Labour market reforms, in particular, face a large amount of opposition from the working class. As a result, such policies might not be implemented to a full extent, causing them to be ineffective. For example, the UK government’s plan to reduce unemployment benefits, drew widespread opposition and protests from many on the streets.
2. On the other hand, expansionary demand-side policies generally do not evoke such opposition from the populace; a decrease in taxes (under fiscal policy) would be a welcome measure by many. Therefore demand-side policies can be implemented more aggressively and thus more effective at promoting growth.
3. Due to resistance from Labour Unions, etc, some market-oriented supply-side policies can take quite a long time to implement.
4. This is unlike Monetary Policy, which can be unilaterally implemented by the Central Bank, and thus can be quickly put into place.<br />
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5. Market-oriented supply-side policies may also have uncertain outcomes. Unlike fiscal policy, where there is a direct and certain effect on AD through increased government expenditure, supply-side policies may not be as effective in ensuring an increase in spending and output.
6. Also, there is an additional benefit from demand-side policies through the multiplier effect where one person’s spending is another’s income, leading to multiple rounds of spending and income generation. Through the successive rounds of increase in AD leading to real GDP increasing, the increase in RGDP is greater than the initial increase in G.

Concluding Section

1. Market-oriented supply-side policies are not always more effective than demand-side policies.
2. For one, demand-side policies might be most effective in promoting economic growth during a recession – monetary policy can be implemented immediately during the onset of a recession with fiscal policy as a direct and aggressive measure of increasing AD through an increase in G.
3. Market-oriented supply-side policies are more effective as a long-term solution to increase productivity and competition while promoting a conducive environment for I and thus EG, rather than a short-term solution to reverse a recession.

(a)

Grab’s takeover of Uber is a form of horizontal integration when firms operating in the same industry combine together to become a single larger firm.

The merger would allow Grab to enjoy a larger scale of production and hence greater internal economies of scale (IEOS), leading to a fall in the unit costs pf production. IEOS refers to cost savings arising from large scale of production. For example, the combined firm can reap more marketing economies of scale since now only 1 marketing campaign needs to be implemented and its costs can be spread out over larger output.

This will reduce Grab’s average and marginal costs. As shown in Figure 1, both AC and MC shift from AC1 and MC1 to AC2 and MC2 respectively.  Initially, the profit maximizing price is at P1 which corresponds to output Q1 where MC1 cuts MR (profit max condition).

After the takeover, the profit maximizing price falls to P2, with output at Q2 where MC2 cuts MR.

Since consumers pay less for their ride hailing services than before and can enjoy more rides, there is an increase in consumer surplus of P1P2ab. Consumer surplus is the difference between the maximum price that consumers would have been willing and able to pay and what they actually pay.

(All diagrams are taught in Mr Kelvin Hong’s economics tuition classes)

However, the takeover would give Grab greater market share and it will enjoy greater market power with a larger and more price inelastic demand due to fewer substitutes (Uber is gone!).

As seen in Figure 2, Grab’s demand rises from AR1 to AR2, and correspondingly, MR1 to MR2. Initially, the profit maximizing price is at P1 with output Q1 where MC1 cuts MR, while after the merger the profit maximizing price rises to P2, with output Q2 where MC2 cuts MR.

(All diagrams are taught in Mr Kelvin Hong’s economics tuition classes)

Since consumers now face a higher price, consumer surplus falls. Although it looks like quantity consumed has increased, it is because what used to be under Uber is now under Grab and overall quantity consumed is likely to have fallen with the price increase.

(b)

Every firm seeks to earn profits, which is Total Revenue minus Total Cost. Thus the potential benefits and problems discussed will be aspects that may increase or decrease the profitability of new entrants.

The new firm is able to study Grab’s services, pricing and marketing strategies and have a shorter learning curve to develop a business model and service that will succeed. This means it could enter the market with already a very good offering, which can immediately draw consumers, enjoy demand, generate revenue and profits. In addition, as the demand is already well established, there may be little need to advertise aggressively to sell the idea of ride hiring services. This will allow the new firm to spend less. Similarly, as a ready pool of drivers have been formed and the viability of such jobs already well established, the new firm may be able to spend less trying to aggressively convince and recruit drivers to join.

The new firm may also be in a good position to innovate and identify a niche market.

Again, by studying Grab’s offerings, the new firm may be able to identify gaps that are not well served such as possibly rides with pets. As a much larger firm, Grab may be less nimble and flexible to vary its offerings and this can be a weakness that new firms can exploit. New competitors can also look into the common grouses expressed by Grab’s consumers and drivers and differentiate itself accordingly. This could enable it to quickly capture market share from Grab as well as drivers to serve under its platform.

The ride hailing industry is also one with low fixed and sunk costs. The main cost is in developing and operating the app and customer service. Firms do not need to own any fleet of vehicles unlike for taxi firms. Hence, even if the new firms do not succeed, their losses can be quite low.

However, a new firm may find it hard to attract consumers and drivers from Grab if there is substantial brand or firm loyalty. Such loyalty can be cultivated by reward schemes like rebates and vouchers given to frequent users as well as incentives that drivers may stand to lose if they were to switch firms. In reality, Grab has also devoted a lot of funding into branding, which would further result in it’d demand being relive price inelastic, making it difficult for new entrants to pull consumers away even with lower prices.

In addition, if drivers have to choose to work either for Grab or competitor, it would be difficult to see them leaving Grab since the pool of consumers using Grab’s app would be far larger. Grab may thus be said to possess a first-mover advantage.

Furthermore, Grab may engage in predatory pricing by charging fares below their marginal cost to cause competitors suffer losses and eventually exit the market. The new firms will experience a fall in demand and if total revenue does not even cover total variable costs, then the firm will most likely shut-down even in the short-run. As Grab may possess significant internal economics of scale (as explained in part a), this can result in Grab being far more cost competitive and thus price competitive.

In conclusion, Grab’s dominant position does appear to make prospects daunting for new competitors. Coupled with a small market in Singapore, this could be why, Uber, Grab’s main competition had decided to exit. It therefore appears challenging for new competitors.

However, for firms that are already established ride hailing firms, such as Gojek from Indonesia, it may not incur much costs to expand its market into Singapore, since the app is already developed and it may be able to reap even more significant internal economies of scale than Grab with the much larger market in Indonesia. Thus, as compared to an entirely new ride hailing firm, Gojek’s challenge to Grab would make commercial sense.

Finally, government policy may run in favour of new competitors as it appears that the regulator CCCS is very concerned about the market dominance of Grab. Thus, the regulator would want to ensure a level playing field and may even devise policies that favour new entrants such as no exclusive contracts for drivers.

(a)

Total expenditure on workforce (TE) = wage per worker (W) x number of workers employed (L). W and L are determined by the interactions of demand and supply of workers. Demand for labour is the quantities of labour that the firms is willing and able to hire at each and every W while the Supply of labour is the quantity of labour services that workers are willing and able to provide at each and every W. The intersection of the demand and supply of labour is whether the equilibrium W and L will be.

As given in the preamble, there is increased demand for labour as shown in Fig 1 from D1 to D2. As a result, a shortage arises at W1 and that results in an upward pressure on wage as firms will bid up wages in order to obtain labour. As W increase, the quantity demanded for labour will fall whilst the quality supplied increases (as per the laws of demand and supply respectively.) This will eventually bring the market to the new equilibrium at W2, L2, where the shortage is eliminated. As both wages and number of workers employed have increased, the TE has increased due to the higher demand.

(All diagrams are taught in Mr Kelvin Hong’s economics tuition classes)

Due to “large numbers of its workers…retiring”, supply of labour has fallen as seen in Fig 2 from SS1 to SS2. This would similarly lead to a shortage of labour at W1, which similarly leads to an upward pressure on W. In this case, the equilibrium W increases to W2, whilst the equilibrium L falls to L2, which makes the effect on TE ambiguous.

However, given the information that the demand for labour is wage-inelastic, it can be assessed that the quantity demanded will fall less than proportionately to the rise in W and therefore TE will increase. From Fig 2, area A represents the increased in TE due to the increase in W paid while area B represents the fall in TE due to the fall in L. As area A exceeds area B, TE increases.

(All diagrams are taught in Mr Kelvin Hong’s economics tuition classes)

TE obviously increases since both the increase in demand and fall in supply increase the TE. Fig 3 shows the combined diagram with a shortage at W1 and an increase in both equilibrium W and L. It is assumed that the effect of increased demand would outweigh the effect of fall in supply on L given the less than proportionate fall in quantity demanded arising from the fall in supply as explained earlier. With higher W and L, TE increases.

(All diagrams are taught in Mr Kelvin Hong’s economics tuition classes)

(b)

The foreign worker levy (FWL) is essentially a tax that is imposed on the employment of foreign low and mid-skilled workers. The aim is to make it more expensive for domestic firms to hire such foreign workers, thus “protecting” domestic low-skilled workers.

Reducing the FWL will reduce the cost of hiring foreign low-skilled workers, thus enabling domestic firms to hire more of such workers and reducing its demand for local workers (due to relatively cheaper substitute labour), alleviating the shortages.

However, there are also foreign worker quotas in place ie the firms are restricted in terms of the number of workers it can employ. Thus, even though it may be cheaper to hire a foreign worker, once the quantity restriction is reached, the firm will not be able to hire more and hence may still face labour shortages.

In addition, the labour shortages may involve high-skilled workers. Given that Singapore is focussed on high value-added sectors, these are likely to be the booming sectors with rising demand for labour. As the domestic labour force is small and with an aging population. There is also a shortage of skilled workers. The FWL is irrelevant in this market as it is not applicable to high skilled foreign workers. Thus with a lack of such workers in Singapore and with fierce global competition for such skills worldwide, a shortage would still persist.

Instead of relying on more foreign workers, the labour shortages could be tackled through the use of capital goods to substitute for labour, for example though automation processes.

For example, instead of a construction worker, an automated building equipment or “assembly-line” could be utilised instead. This would increase labour productivity, which means more output could be produced with the same or lesser amount of labour.

To promote such automation, government subsidies and grants can be given to firms to co-fund their purchases of such productivity enhancing equipment and the training of workers to operate such equipment. By reducing the demand for labour, this allows firms to better cope with the shrinking domestic labour force, thus enabling the labour shortages to be alleviated.

However, despite incentives, firms may not necessarily do so as to automate their production, they will need time to restructure their processes and operations. This may be highly disruptive. There may thus be resistance among the employers and managers as it would require a new learning curve for all. There may also be a shortage of labour that can operate the equipment. Some work may also not be easily automated. For example, garbage collection is still done manually and laboriously in Singapore.

Another policy is to increase the supply of local labour by increasing its population through pro-immigration policies. This can not only increase the numbers but also help to slow down the aging of the population by attracting youthful migrants. Specific skills may also be targetted and as such, sufficient labour for all skill levels may be achieved.

However, this would be a highly unpopular policy among the Singaporeans, who would protest over unfair competition by foreigners in the jobs market and also unfair to share the country’s resources It would also call into question issues of national identity. All these can lead to brain drain as Singaporeans, disillusioned by the government’s pro-immigration policy may decide to migrate overseas. This can have an effect of further dwindling the labour force and also aging the labour force as it is the younger workers who are more likely to migrate. Greater labour shortages could occur as a result.

In conclusion, reducing the foreign worker levy is likely to be limited in effectiveness especially due to the presence of the FW quota and the potential socio-political backlash similar to implementing the pro-immigration policies. It also does nothing to address the shortage of high-skilled labour.

Therefore, the most effective policy is likely to be the encouragement of automation and increased labour productivity.  This is the best long-term policy and will sit well with Singaporeans. Coupled with aggressively training the local workforce to operate, maintain and develop these capital goods, more skilled local labour will be available to address possible shortages in the high skilled labour market. As jobs become more skilled and less laborious through the use of machines,, this can encourage older workers to work longer as it can be more feasible for them. This will enable am increase in the labour force.

Similarly, housewives may also be more encouraged to join or re-join the labour force.

At the end of the day, as this is a policy that may take a very long time to achieve success, some tweaking of the FWL and immigration rules may still be needed as a short-term measures, albeit in a moderate fashion so as not to incur backlash and backfire.

(a)

Introduction

1. Rational Consumers will consider their marginal private costs (MPC) and marginal private benefits (MPB) of buyng an additional bicycle. Rational profit maximising producers of bicycles consider decide their level of output based on the marginal costs (MC) and marginal revenue (MR) of producing one additional unit of bicycles.

Consumers

2. For consumers, the MPB of owning an additional bicycle involves the additional benefits that it can confer, which includes providing a healthier and more convenient mode of transportation (than walking) and the joy of leisure cycling.

3. The MPC includes the price payable for the bicycle, as well as foreseeable maintenance costs such as replacement tyres. Opportunity cost, which is the value of the next best alternative foregone, must also be considered. For example, if a bicycle is purchased, a Playstation set may have to be foregone and thus the satisfaction that can be derived from having the Playstation set would be the pportunity cost.

4. Whether to not to buy the bicycle, consumers would thus have to weigh the MPB against the MPC. If the MPB is greater than or equal to the MPC, rational consumers will buy the bicycle since he or she will derive net benefit from the purchase. Should MPC > MPB, then consumers will not purchase the bicycle.

5. It is possible that the consumer may buy more than 1 bicycle as long as the MPB is greater than or equal to the MPC for each additional unit.

Producers

6. For producers, the MPB is the MR of producing one additional unit of bicycle, which is the addition of total revenue from the sale of that additional unit of bicycle.

7. The MC of producing one additional unit of bicycle is the addition to the total cost of producing that additional unit of bicycle, which wold include raw material and labour cost.

8. Profit maximising output occurs when MR=MC (where MC is rising), which is at Q* in Fig 1 below.

(Diag will be drawn in our Econ Tuition lessons)

9. When output is less than Q*, for example at Q1, profits is not maximised as the MR is greater than MC. Increasing output will increase profits as the addition to revenue exceeds the addition to costs for an additional unit.

9. However, when output is more than Q*, for example at Q2, profits is not maximised as the MC is greater than MR. Decreasing output will increase profits as the firm is making a loss on all units of output past Q*.

10.Only Q* will maximise the firm’s profits and that will be the output a rational profit maximising firm will produce. (We assume that at Q*, the firm will be able to earn at least normal profits or else the firm may choose to shutdown and produce zero instead.) 

(a)

Introduction

1. A modest and gradual appreciation in Singapore's exchange rate suggests that the S$ has increased in value against foreign currencies (of its trading partners) such as US% and Japanese Yen.

2. The effect on Singapore's inflation rate and current account (CA) balance would have to be analysed in the context of Singapore as a small and open economy with very limited natural resources and hence highly reliant on imported factors of production as well as imported necessities such as food and water.  Due to a small domestic market, Singapore is also highly reliant on exports and foreign direct investment for economic growth.

Current Account

3. CA balance shows the net income flows such as involving profit repatriation, net transfers like foreign aid and the balance of trade in goods and services (BOT). BOT measures the difference between export revenue and import spending and is the largest component in the CA.

4. When S$ appreciates, exports become more expensive in foreign currency, which would reduce the demand for exports (in S$) and hence reduce exports revenue. Imports, on the other hand, become cheaper in S$ and assuming PEDm>1, the quantity demanded of imports will rise more than proportionately, resulting in a rise in import expenditure. 

5. It is noted that in the case of Singapore, PEDm is likely to be <1 due to the fact that necessities are imported and there is a lack of domestic substitutes  - we do not produce oil, many food items, cars etc.

6. However, as long as the Marshall Lerner Condition (PEDx+PEDm>1) is met, the BOT is expected to worsen with an appreciation of the S$. It is very likely that PEDx is > 1, as there are still international substitutes to our key exports in biomedical products, petrochemical, financial services and high-end electronics. Thus even though PEDm<1, as long as the sum of the elasticities are > 1, the BOT is expected to worsen and thus the CA as well.

7. It should be noted that in the case of Singapore, due to the fact that about 60% of export value is imported content, the cheaper imported inputs will reduce cost of production of exports and limit the export price increase in terms of foreign currency. This will help to mitigate the worsening of the BOT and thus CA balance.

Inflation

8. As imported inputs have become cheaper,  this reduces unit cost of production, increasing the short run part of the aggregate supply, with the AS curve shifting downwards from AS0 to AS1, as seen in Figure 1, leading to a fall in GPL from GPL0 to GPL1.

10. Thus, the rate of inflation is expected to fall with the above effects on AD and AS.

b)

1.