A Level Economics Paper 4
Covers Demand, Supply and Price Determination, Elasticity of Demand and Supply, Market Failure and Externalities and 9 more.
Questions
Question 1 [2 marks]
Elasticity of Demand and Supply
Define price elasticity of demand (PED), and state whether a PED value of -0.4 represents elastic or inelastic demand.
Question 2 [3 marks]
Demand, Supply and Price Determination
Define an "extension of supply" and explain how it differs from a rightward shift of the supply curve, using an example of each.
Question 3 [3 marks]
Government Intervention in Markets
Define "subsidy", give one example of a good the UK government subsidises, and explain its purpose in one sentence.
Question 4 [3 marks]
Supply-Side Policy and Economic Growth
State two factors, other than a rise in labour productivity, that could increase an economy's long-run rate of economic growth, and briefly explain how one of them works.
Question 5 [5 marks]
Labour Markets and Wage Determination
In a competitive labour market for warehouse workers, weekly labour supply is given by N = 200 + 10w and labour demand is given by N = 800 - 15w, where w is the weekly wage in pounds and N is the number of workers.
Calculate the equilibrium wage and the equilibrium number of workers employed.
Question 6 [5 marks]
Fiscal and Monetary Policy
In a recession, a country's tax revenue falls from 480 billion pounds to 440 billion pounds, while government spending on unemployment benefits rises from 60 billion pounds to 85 billion pounds, with all other government spending of 400 billion pounds unchanged.
Calculate the government's budget balance before and during the recession, and state whether the position has moved toward a larger deficit or a smaller deficit or surplus.
Question 7 [5 marks]
Aggregate Demand and Aggregate Supply
A country experiences a rapid rise in labour productivity due to widespread adoption of new automation technology across many industries.
Explain, using the concept of the long-run aggregate supply (LRAS) curve, the likely effect of this productivity rise on the economy's potential output and price level in the long run.
Question 8 [5 marks]
Money, Banking and the Financial Sector
Some financial institutions, such as certain investment funds, provide loans and credit-like products to businesses and households but are not regulated in the same way as traditional commercial banks.
Explain, using the concept of "shadow banking", why the growth of this kind of lending outside the traditional banking system could pose a risk to the wider financial system.
Question 9 [5 marks]
Market Failure and Externalities
Vaccinations against a contagious illness generate a positive externality of consumption.
Analyse, with reference to free riders, why a purely free market is likely to under-provide vaccinations relative to the social optimum.
Question 10 [6 marks]
Measuring Economic Performance
Average nominal wages in a country rose from 32,000 pounds to 33,600 pounds over a year in which CPI inflation was 6%.
Calculate the approximate percentage growth in real wages over the year, and analyse the likely effect on households' living standards.
Question 11 [6 marks]
Market Structures and Competition
A regulated monopoly currently produces 8000 units per week at an average cost of 25 pounds per unit. A competition regulator estimates that if the firm faced genuine competition, X-inefficiency would be eliminated and average costs would fall to 21 pounds per unit at the same output.
Calculate the total extra cost per week currently caused by X-inefficiency, and analyse why a monopolist facing little competitive pressure might allow such inefficiency to persist.
Question 12 [6 marks]
International Trade and the Balance of Payments
A government imposes an import quota of 500000 tonnes of sugar per year, below the 800000 tonnes that would be imported under free trade, when domestic production was 300000 tonnes and total consumption was 1100000 tonnes per year. After the quota raises the domestic price, domestic producers increase output to 380000 tonnes per year, while total consumption falls to 880000 tonnes per year.
Calculate the amount, in tonnes, by which increased domestic production replaces some of the fall in imports, and analyse one key difference between the welfare effects of this import quota and an equivalent tariff that also reduced imports to 500000 tonnes.
Question 13 [6 marks]
Money, Banking and the Financial Sector
A country's deposit insurance scheme guarantees each individual depositor's savings at a bank up to a limit of 85000 pounds per person, per bank, should the bank fail. A saver has 60000 pounds in one bank and 120000 pounds in another bank.
Calculate how much of the saver's total 180000 pounds would be protected if both banks failed on the same day, and analyse how a deposit insurance scheme like this helps to prevent bank runs from occurring in the first place.
Model solutions
| Question 1[2 marks] | |
|---|---|
| Answer or working | Marks |
| a correct definition of PED as the responsiveness of quantity demanded to a change in price | 1 |
| correctly identifying -0.4 as inelastic demand, since its magnitude is less than 1 | 1 |
| Final answer: PED measures the responsiveness of quantity demanded to price changes; a PED of -0.4 is inelastic because its magnitude is below 1. | |
| Question 2[3 marks] | |
|---|---|
| Answer or working | Marks |
| a correct definition of an extension of supply as a rise in quantity supplied caused by a rise in the price of the good itself, e.g. more wheat supplied as its price rises, shown as a movement along the supply curve | 1 |
| explaining that a rightward shift of the supply curve is a rise in supply at every price, caused by a factor other than the good's own price | 1 |
| a valid example of a shift, e.g. a fall in fertiliser costs allowing farmers to supply more wheat at every price | 1 |
| Final answer: An extension of supply is a movement along the curve caused by a price rise (e.g. more wheat supplied as its price rises); a rightward shift is a rise in supply at every price from another cause, e.g. cheaper fertiliser. | |
| Question 3[3 marks] | |
|---|---|
| Answer or working | Marks |
| a correct definition of a subsidy as a payment by government to producers (or consumers) to lower the cost of production or price and encourage output or consumption | 1 |
| a valid example, e.g. renewable energy generation or public transport fares | 1 |
| explaining the purpose, e.g. to encourage a higher level of output or consumption than the free market would otherwise provide | 1 |
| Final answer: A subsidy is a payment from government to producers (or consumers) to lower costs and encourage output, e.g. subsidies for renewable energy generation, aimed at encouraging more output than the free market would provide. | |
| Question 4[3 marks] | |
|---|---|
| Answer or working | Marks |
| identifying a rise in the size of the labour force, e.g. through higher net migration or a higher retirement age, as a factor, since more workers can produce more total output | 1 |
| identifying a rise in the economy's capital stock, e.g. through higher business investment in machinery and equipment, as a second factor | 1 |
| a brief valid explanation of one factor named, e.g. more capital per worker allows each worker to produce more output using better tools and equipment | 1 |
| Final answer: A larger labour force, e.g. from higher net migration, and a larger capital stock, e.g. from higher business investment, can both raise long-run growth by increasing the total resources available to produce output. | |
| Question 5[5 marks] | |
|---|---|
| Answer or working | Marks |
| setting labour supply equal to labour demand, 200 + 10w = 800 - 15w | M1 |
| collecting terms to give 25w = 600 | M1 |
| equilibrium wage w = 24 pounds | A1 |
| substituting w = 24 into either equation, e.g. N = 200 + 10(24) | M1 |
| equilibrium number of workers employed, N = 440 | A1 |
| Final answer: Equilibrium wage = 24 pounds per week; equilibrium employment = 440 workers. | |
| Question 6[5 marks] | |
|---|---|
| Answer or working | Marks |
| total spending before = 400 + 60 = 460 billion pounds, and balance = revenue - spending = 480 - 460 | M1 |
| the balance before the recession = a surplus of 20 billion pounds | A1 |
| total spending during the recession = 400 + 85 = 485 billion pounds, and balance = 440 - 485 | M1 |
| the balance during the recession = a deficit of 45 billion pounds | A1 |
| identifying that the budget position has moved from a 20 billion pound surplus to a 45 billion pound deficit, a swing driven automatically by falling tax revenue and rising benefit spending | 1 |
| Final answer: Before the recession the budget was in a 20 billion pound surplus (480 - 460); during the recession it moves to a 45 billion pound deficit (440 - 485), a 65 billion pound swing driven by automatic stabilisers. | |
| Question 7[5 marks] | |
|---|---|
| Answer or working | Marks |
| explaining that a rise in labour productivity raises the amount of output the economy can produce using its existing quantity of labour and capital | 1 |
| explaining that this represents an increase in the economy's productive potential, shown as a rightward shift of the LRAS curve | 1 |
| explaining that, other things being equal, this allows the economy to produce more real output without generating extra inflationary pressure | 1 |
| identifying that if aggregate demand also grows over time, the economy can sustain a higher level of real output at a similar price level than if productivity had not improved | 1 |
| a developed point, e.g. this is the underlying mechanism behind long-run economic growth, distinguishing it from a short-run, temporary rise in output caused only by a rise in aggregate demand | 1 |
| Final answer: Rising productivity increases the economy's productive potential, shifting the LRAS curve to the right; this lets the economy sustain higher real output without generating extra inflationary pressure, and is the underlying mechanism behind genuine long-run economic growth, rather than a temporary AD-driven rise in output. | |
| Question 8[5 marks] | |
|---|---|
| Answer or working | Marks |
| a correct explanation of shadow banking as financial activity that performs bank-like functions, such as lending, without being subject to the same regulation as traditional banks | 1 |
| explaining that because these institutions do not hold the same regulatory capital or liquidity buffers required of banks, they may be more vulnerable to a sudden loss of confidence or a rush of withdrawals | 1 |
| explaining that shadow banking institutions are often closely connected to traditional banks and other parts of the financial system, for example through lending to or borrowing from them | 1 |
| explaining that a failure or crisis at a large shadow banking institution could therefore spread to the wider, regulated financial system through these connections | 1 |
| identifying that because shadow banking activity is less visible to regulators, risks may be able to build up unnoticed until a crisis actually occurs | 1 |
| Final answer: Shadow banking institutions perform bank-like lending without holding the same regulatory capital or liquidity buffers as banks, making them more vulnerable to a loss of confidence; because they are often closely connected to the regulated banking system, a crisis there could spread more widely, and because shadow banking is less visible to regulators, such risks can build up unnoticed. | |
| Question 9[5 marks] | |
|---|---|
| Answer or working | Marks |
| identifying that vaccination benefits both the individual and others by reducing disease transmission (a positive externality) | 1 |
| explaining that individuals base their decision on private marginal benefit only, ignoring the external benefit to others | 1 |
| explaining that this means social marginal benefit exceeds private marginal benefit | 1 |
| identifying the free-rider problem, that some individuals may rely on others being vaccinated (herd immunity) without paying the cost themselves | 1 |
| concluding that market output of vaccinations is below the socially optimal level | 1 |
| Final answer: Because private marginal benefit is below social marginal benefit and free riders exist, the free market under-provides vaccination relative to the social optimum. | |
| Question 10[6 marks] | |
|---|---|
| Answer or working | Marks |
| calculating nominal wage growth = (33,600 - 32,000) / 32,000 x 100 | M1 |
| nominal wage growth = 5% | A1 |
| real wage growth (approximately) = nominal wage growth - inflation rate = 5% - 6% | M1 |
| real wage growth = approximately -1% (a fall in real wages) | A1 |
| explaining that despite nominal wages rising, workers can afford fewer goods and services on average since prices rose faster than wages | 1 |
| a developed point, e.g. this represents a fall in living standards that may be particularly harmful for lower-income households who spend a higher share of income on essentials | 1 |
| Final answer: Nominal wages grew by 5%, but with 6% inflation, real wages fell by approximately 1%, meaning households can afford slightly less despite the pay rise, a fall in living standards that may hit lower-income households hardest. | |
| Question 11[6 marks] | |
|---|---|
| Answer or working | Marks |
| calculating the extra average cost per unit due to X-inefficiency, 25 - 21 = 4 pounds | M1 |
| multiplying this by the weekly output of 8000 units | M1 |
| a total extra cost of 4 x 8000 = 32000 pounds per week | A1 |
| explaining that X-inefficiency arises when a firm does not minimise its costs for a given level of output, for example through organisational slack or a lack of pressure to cut waste | 1 |
| explaining that a monopolist facing little or no competition does not face the constant threat of losing customers to a more efficient rival, reducing the pressure to control costs | 1 |
| a developed point, e.g. managers in a monopoly may prioritise an easier working life or their own objectives over aggressive cost-cutting, since supernormal profit can still be earned even with higher-than-necessary costs | 1 |
| Final answer: X-inefficiency currently costs the firm an extra 4 pounds per unit, or 32000 pounds per week; without the constant threat of losing customers to more efficient rivals, a monopolist has less pressure to minimise costs and may tolerate organisational slack while still earning supernormal profit. | |
| Question 12[6 marks] | |
|---|---|
| Answer or working | Marks |
| calculating the increase in domestic production, 380000 - 300000 | M1 |
| an increase in domestic production of 80000 tonnes, part of the reason total sugar available has fallen by less than the full cut in imports | A1 |
| explaining that a tariff would instead raise government tax revenue on any imports that continue to enter the country at the higher price | 1 |
| explaining that with a quota, the same gap between the world price and the higher domestic price instead typically becomes extra profit for whoever holds the licence to import the fixed quota amount, rather than government revenue | 1 |
| identifying that this transfer of that gap to quota-holders, rather than to the government, is a key welfare difference between a quota and an equivalent tariff | 1 |
| a developed point, e.g. this makes a tariff generally preferable to a quota from the government's perspective, if raising revenue is one of its objectives, even where both achieve the same reduction in imports | 1 |
| Final answer: Domestic production rises by 80000 tonnes, replacing part of the fall in imports. The key welfare difference is that a tariff would raise tax revenue for the government on continuing imports, whereas with a quota the gap between the world price and the higher domestic price instead becomes extra profit for whoever holds the import licence, rather than government revenue, making a tariff generally preferable to the government if raising revenue is a goal. | |
| Question 13[6 marks] | |
|---|---|
| Answer or working | Marks |
| identifying that the 60000 pounds in the first bank is fully protected, since it is below the 85000 pound limit | M1 |
| 60000 pounds protected in the first bank | A1 |
| identifying that only 85000 pounds of the 120000 pounds in the second bank is protected, since this is the maximum limit per bank | M1 |
| a total of 60000 + 85000 = 145000 pounds protected across both banks, leaving 35000 pounds unprotected | A1 |
| explaining that because most depositors know their savings are protected up to this limit, they have much less reason to panic and rush to withdraw their money at the first sign of trouble at their bank | 1 |
| explaining that this removes much of the incentive behind a bank run, since a saver's rational response to bad news about their bank's health no longer needs to be an immediate withdrawal, helping to prevent the self-fulfilling panic that can otherwise cause a bank run | 1 |
| Final answer: 145000 pounds of the saver's total 180000 pounds would be protected, 60000 pounds fully covered at the first bank and 85000 pounds of the 120000 pounds at the second bank, leaving 35000 pounds unprotected. Because depositors know their savings are protected up to this limit, they have far less reason to panic and withdraw at the first sign of trouble, removing much of the self-fulfilling panic that causes a bank run. | |