AS Economics Answers. 3 Market failure. 1 Efficiency

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1 AS Economics Answers 3 Market failure 1 Efficiency Activity 1, page 125 a Because it reflects a change in consumer tastes. Fewer resources are being devoted to a product with declining demand and more resources to a product with increasing demand. b Higher profit. If firms can cut their costs, the gap between revenue and costs will increase, and if they respond to what consumers want, they should gain more revenue. Activity 2, page 126 a By raising the productivity of its workers. This might be achieved through better training and education. Higher productivity would cut wage costs per unit. b Not necessarily. The determining factor would be what happens to those workers. If they move into other jobs, it would make an economy more productively efficient, but if they are unemployed, it would not. Activity 3, page 127 a The passage indicates that demand for the website exceeded supply by a considerable amount (48.8 million people). There was allocative inefficiency because insufficient resources were devoted to the site. b There would again have been allocative inefficiency because too many resources had been allocated. Activity 4, page 127 a Productive efficiency. The firm is cutting its average costs. b Economic efficiency. The country is becoming more productively efficient by cutting unemployment and so moving towards the PPC. It is also becoming more allocatively efficient by providing more health care services in response to consumer demand. c Allocative efficiency. The switch in resources is likely to reflect what consumers want. d Productive efficiency. The machinery is cheaper and more productive so the firm s average cost will fall. e Allocative efficiency. Tennis becomes more popular and rugby less popular in the summer, so the move is likely to reflect a change in consumer tastes. Multiple choice questions, page 128 When firms produce at the lowest point on their lowest average cost curves they are being as efficient as possible. It would not be possible to cut costs further to free resources. C and D would mean that the economy is being productively inefficient more products could be made from existing resources. A would indicate that firms are operating under conditions of oligopoly or monopoly so they may not producing at the lowest point on their average cost curves. 2 Answer B Any point on the PPC curve is productively efficient as it shows full employment of resources, with the economy making as many products as possible. A and D are inside the curve, indicating that there are unemployed resources, so the economy is being productively inefficient. Point C is outside the curve and so is unattainable. 3 Answer D Allocative efficiency is achieved when firms produce the products which consumers want. A would suggest allocative efficiency is occurring and B would make allocative efficiency more likely. C means that Pareto efficiency is being achieved, in which case both allocative and productive efficiency have to occur Answer B When marginal cost equals average revenue (price), the cost of producing the last unit is equal to the value that consumers place on it. 5 Answer D A shift of resources from declining towards expanding industries would reflect a change in consumer tastes and so increase allocative and so Pareto efficiency. A and D would reduce productive efficiency and so Pareto efficiency. B would mean that too many resources are being devoted to the product and so increase allocative inefficiency. 6 Answer C Pareto efficiency occurs when it is not possible to change the use and allocation of resources to increase consumer welfare. This requires both allocative and productive efficiency to be achieved. Data response questions, page 129 a Productive efficiency is concerned with how fully and cost effectively resources are used whereas allocative efficiency is concerned with what resources are used for. Productive efficiency is achieved when firms produce at the lowest point on their lowest average cost curves and all resources are fully employed. Allocative efficiency occurs when the products produced are the ones consumers demand and are made in the right quantities. bi Because it refers to GM s trying to reduce its costs in five main ways. One was to make savings in the materials used, perhaps through cutting down on waste. Another was to raise productivity, perhaps through training and education. The other three were by reducing overheads, reducing shifts and cutting overtime. Some of these methods are linked. For example, if productivity rises the need for overtime is likely to be reduced. ii There are two indications. One was that it was seeking to reduce capacity as its ability to produce vehicles exceeded demand. The other was that it was planning to ensure that it used its resources to produce what consumers want. c GM was planning to reduce its capacity. This would shift its PPC to the left (see Figure 7). Figure 7 family cars 0 luxury cars d A rise in its efficiency would be likely to increase GM s market share. Greater productive efficiency would mean that the firm is producing at a lower average cost, so it could cut its prices thus attract more sales. If GM succeeded in achieving greater allocative efficiency, by being more responsive to consumer tastes, it should capture more of the market.

2 2 Efficiency and competition Activity 1, page 129 a By responding to changes in consumer preference the supermarkets should be achieving greater allocative efficiency. b Supermarkets have being stocking proportionately more organic fruit and vegetables, at least to keep up with their rivals and if possible to gain a greater market share. The supermarket that spots and acts on changes in consumer demand the quickest has the potential to earn higher profits. The ones that do not risk making a loss and going out of business. Activity 2, page 130 a Because firms will be seeking to gain a competitive edge and will realise that charging a higher price than rival firms is likely to result in a loss of customers. b Consumers are also likely to enjoy more choice, higher quality and a quicker response to changes in their preferences as a result of a rise in competition. Multiple choice questions, page Answer A Perfect competition describes a market structure in which the existence of many buyers and sellers of an identical product and free entry and exit ensures the highest level of competition possible. 2 Answer B Allocative efficiency is achieved where MC = AR (price) because the cost of producing the last unit equals the value that society places on it. A is the profit maximising output, C is the lowest point on the AC curve and D is the normal profit output. All of its customers will switch to rival firms and it will not be able to achieve normal profits, so it will be driven out of business. 4 Answer D One which ensures that resources are allocated in a way that reflects consumer tastes. When firms earn supernormal profits they are producing where price is greater than marginal cost. Output is below the allocatively efficient level. B describes a situation where Pareto optimality has not been achieved and C where productive efficiency is not occurring. 5 Answer C The absence of such barriers means the capacity of the industry should be increased relatively quickly and smoothly if consumer demand rises and reduced if demand decreases. It also means that only normal profits are earned in the long run, making it more difficult for firms to gain market power. It puts pressure on firms to produce at the point where marginal cost equals average revenue. The desire to earn maximum profits makes many firms seek to produce where MC equals MR.. 6 Answer D In perfect competition, consumers are fully aware of, for instance, the price being charged and where they can buy the product. Suppliers inside and outside the market are also aware of the costs encountered and the profits being earned. The existence of perfect knowledge makes advertising unnecessary. Products produced are identical and there are no barriers to entry and exit. Data response questions, page 131 a A monopoly may charge high prices and produce a lower quality product. The Post Office, which has a monopoly in some aspects of the postal service, has not been delivering all firstclass mail on time and it has been criticised for the price it charges for postal deliveries within towns and cities. b If they believe that they can make a profit in delivering letters. They would have to believe that the revenue they could earn would at least equal the costs they would incur. This would ensure that they could enjoy normal profits. They would be even more interested if they thought they could achieve supernormal profit. c The Post Office uses some of the supernormal profit it earns on delivering letters within towns and cities to subsidise its delivery of letters from one town to another town/city and to more remote areas. If increased competition forced it to reduce the price it charges for delivering letters within towns and cities, it would probably have to charge more for delivering letters elsewhere. The price of sending a letter to and from a remote area may rise significantly because of the extra cost involved. This would increase the cost of living to people in remoter areas and raise the cost of production of firms located there. d It puts more pressure on firms to produce what consumers want at low cost. If a firm does not innovate and improve the quality of the product it sells, it risks being overtaken by its rivals. Competition also provides an incentive to innovate. If a firm does not introduce a better product it will earn higher profits, at least in the short run. Increased competition makes it more difficult for firms to charge prices above marginal cost. The more firms there are in an industry, the more suppliers consumers have to choose from. Firms charging a lower price are likely to capture more of the market. In the case of the highest degree of competition possible, perfect competition, price is driven down to its lowest viable point and the firms are price takers. 3 Market failure Activity 1, page 132 They are all examples of market failure. In each case markets are not working in a way which maximises consumer satisfaction. Shortages indicate that some products are being underproduced and so allocative efficiency is not occurring. Unemployment means that full use of resources is not being achieved. The economy will be producing inside its PPC and so there is productive inefficiency. Unfilled job vacancies means that there is a shortage of labour in some jobs (allocative inefficiency) and, as already indicated, output occurring inside the PPC means that there is productive inefficiency. Activity 2, page 133 a In an oligopolistic market structure because the market is dominated by a few large firms, in this case two. With more information it might also be argued that, according to the legal definition, the two firms are monopolies if they each have a 25% or greater share of the market. b Because they had to pay higher commissions to the auction houses. The two houses were charging very similar prices. If consumers did not like the price being charged they could not obtain a lower price by switching to the rival house. Activity 3, page 133 a Male cleaners earned 2,490 or 33.18% more than female workers. b Discrimination against female workers means that some female workers are not employed in the jobs for which they are most suited. Some women may also be overlooked for promotion in favour of less productive male colleagues. Such discrimination means that labour is not used efficiently and firms fail to produce at the lowest possible average cost. 24

3 Multiple choice questions, page Answer C Market failure occurs when resources are not allocated efficiently. A reallocation of resources would increase consumer satisfaction. Prices fluctuating and firms making a loss are part of the normal market adjustment process. If the economy is producing on the production possibility curve it means that it is productively efficient. 2 Answer A If consumers are not fully informed they may pay more for products and receive lower quality. If producers are not fully informed they may pay more for raw materials and may not enter markets where more profits can be made. This would mean that resources would not be allocated efficiently. B, C and D are likely to reduce the risk of market failure occurring. 3 Answer D If labour becomes occupationally mobile, it enables markets to respond more quickly to changes in consumer demand and so be more allocatively efficient. A, B and C would all contribute to market failure. A decrease in consumers sovereignty would reduce consumers ability to influence the allocation of resources and to put pressure on firms to keep their costs and prices low. An increase in average costs above the minimum possible level would mean that there is productive inefficiency. An increase in market concentration ratios would be likely to increase productive and allocative inefficiency. 4 Answer D If pressure on firms to be allocatively efficient is reduced then it is likely that firms will become more inefficient. A, B and C would all reduce market failure. 5 Answer A A reduction in market failure would mean that the allocation of resources would reflect consumers tastes to a greater extent. B, C and D are all problems that increase with market failure. Point A is well inside the PPC and so is productively inefficient. Point B is also inside and productively inefficient but not to the same extent as A. Point C is productively efficient and point D is unattainable. Data response questions, page 134 a The possible harmful effects on the safety of its workers. The company was fined for putting its workers at risk by forcing them to work beside live rails as trains passed close by at high speeds. bi If it believed that safeguarding or improving the safety of its employees would increase its costs or reduce its revenue. To ensure its workers were safe, the firm should have stopped trains running while some work was undertaken. This would have reduced the firm s revenue. ii In the long run profit and safety may not conflict. Taking greater care over safety may improve the quality of the work undertaken by employees, which might reduce the track problems and speed up trains. This would be likely to increase demand. Costs may also be cut through higher productivity (arising from greater labour motivation), lower labour turnover, fewer track problems and less risk of legal action. c i Compare the service s capacity with demand for travel. Unfilled seats would indicate an overallocation of resources whereas overcrowding would suggest an underallocation of resources. ii Assess whether the firm s average cost could be lowered. Various factors could be examined. For instance, labour productivity and the number of train breakdowns could be analysed. 4 Externalities Activity 1, page 135 a taxi firms b families living nearby Activity 2, page 135 a fuel costs, insurance and bus drivers wages b sales revenue and advertising revenue Activity 3, page 136 The other residents could see some of the fireworks going off. Activity 4, page 136 These include noise, greater risk to children playing near the road and pollution. Activity 5, page 136 a positive b negative c negative d positive e negative Activity 6, page 137 a Private costs include purchasing land, the track, trains, wages, rent, insurance, fuel and maintenance. External costs include noise and visual pollution near to the track, the loss of wildlife habitat, fall in the value of homes close to the track, fall in Stagecoach s revenue on the route. Social costs include all these private costs and benefits. b Private benefits include a faster, more relaxed and safer journey for commuters at peak times and the revenue the train company receives. External benefits include reduced congestion on the road, less overall pollution, fewer accidents, less burden on the NHS and the emergency services and higher output as people arrive at work on time and are less stressed. Social benefits include all these private and external benefits. Activity 7, page 138 a If MSC exceeds MSB, the cost to society of the last unit produced is greater than the benefit received. The product is being overproduced and society would benefit from a reduction in output. b If MSB exceeds MSC, the benefit to society from the production of the last unit is greater than the cost and society would gain from more units being devoted to it. Activity 8, page 139 a That MSC exceeds MSB. b They include noise and disturbance arising from people being drunk and disorderly in public places, reduced quantity and quality of output and the burden on the NHS. Multiple choice questions, page 140 If social costs exceed private costs, there must be external costs (also called negative externalities). The only case when there are no negative externalities is when social costs equal private costs. 2 Answer A Firms are sometimes reluctant to train their staff for fear that, once trained, the staff will leave and so other firms will receive the benefit. An external cost of production is a cost borne by a third party who is not directly involved in the production of the product. In this case, people living near to the firm will suffer from the unpleasant smell. A, B and D are all private costs. There are likely 25

4 to be external costs arising from the dumping of waste in a beauty spot, but the cost mentioned here is the cost to the firm. 4 Answer A External costs. Private costs are the costs directly incurred by those making the economic decisions. Social costs are external costs plus private costs. Unit costs are average costs. 5 Answer A At Q, output exceeds the socially optimum output. MSC is greater than MSB and there is a welfare loss. 6 Answer C When MSC equals MSB, the right quantity of resources is devoted to the production of the product to reflect consumers tastes. Data response questions, page 141 a The change in total costs to society from road use which arises when one more car is driven on the road. b Because marginal external cost can be high. c i Fuel costs and depreciation. ii Congestion, pollution and the burden on the emergency services. d As the passage indicates, too many resources are devoted to road use. Society would benefit from resources being diverted away from road use. Figure 9 shows that, at the current level of use, MSC exceeds MSB. The socially optimum level is QX. e Less congestion, less pollution and less damage to buildings. Figure 9 cost/benefits 0 MSB MSC 5 Public goods QX Q quantity of road use Activity 1, page 142 Public libraries are not public goods since they are both rival and excludable. One person borrowing a particular book from a public library stops other people from being able to borrow that book. Public libraries could charge users since it would be possible to prevent non-buyers coming into the libraries. Activity 2, page 142 a, d and e are private goods as it is possible to charge directly for these and one person's consumption prevents anyone else consuming that unit. For example, it is possible to exclude nonpayers from travelling on a bus, and if someone occupies a bus seat, no one else can occupy that seat. b and c are public goods. It is difficult to exclude non-payers from taking advantage of these products and, to a large extent, they are non-rival. MSC MSB Activity 3, page 142 Because it comes close to being a public good. Up to a high number of visitors it is non-rival, and it would be difficult to exclude non-payers without adversely affecting the attractiveness of the beach. Multiple choice questions, page Answer C Answer C refers to the non-rival nature of public goods. The production and consumption of both public and private goods can generate externalities. Public goods have to be financed by the government but they can be supplied either by the government or by private-sector firms (under contract to the government). Nonpayers cannot be excluded from consuming public goods. 2 Answer A It would not be possible to exclude non-payers from benefiting from the services of air traffic control. The services are also nonrival. It is possible to charge directly for education, health care and postal services and they are all rival. Public goods are non-excludable and non-rival. They have to be financed by but not necessarily produced by the state. There is an opportunity cost in producing all goods, both public and private, except in the case of free goods. 4 Answer C Public goods cannot be supplied by charging directly for them. Non-payers could consume them and so most people would be reluctant to pay for them. 5 Answer D Public goods are non-rival. One person consuming a public good does not prevent anyone else from consuming it. 6 Answer D Non-payers cannot be excluded from the services provided by traffic lights and the services are non-rival. A car, car insurance and petrol are all private goods non-rival and non-excludable. Data response questions, page 144 a Because it thought it would be more efficient. The extract refers to Brixton being a failing prison. This may mean that it believes that the prison service is running it at too high a cost or that it is not being efficient in terms of, for example, preventing outbreaks, maintaining order and reforming prisoners. b If they thought they lacked the experience and resources to run it efficiently. They may also have believed that they could not run it at a profit. c Because it is both non-rival and non-excludable. If people were charged directly for the service of locking up criminals, some people would act as free riders. If some people did not pay to be protected from potentially dangerous criminals and other people did, the non-payers could not be stopped from benefiting from prisoners being locked up. Also one more person moving into the area where the prison is located would not reduce the level of protection other people receive. d A new prison being opened in a town may generate business in the area. For example, there is likely to be higher demand for the services of taxis and public transport as people come to the town to visit their relatives in the prison. This a positive externality. However, there are also likely to be negative externalities. For instance, the value of property near to the prison may fall. 6 Merit and demerit goods Activity 1, page 145 a Higher lifetime earnings. b Because some potential students and their families may not fully appreciate the benefits of higher education. People are also unlikely to take into account the external benefit of them undertaking higher education. 26

5 Activity 2, page 146 a The harmful effects taking ecstasy tablets may have on their mental health. b By making their sale and use illegal and by running public health campaigns. Activity 3, page 146 Heroin (a) is a demerit good. Many users do not fully appreciate the harmful effects of taking heroin. Heroin consumption also generates negative externalities including placing a burden on the NHS. b, c, d and e are all merit goods. Some consumers lack information about their full beneficial effects and they have positive externalities. Multiple choice questions, page 148 Merit goods would be underconsumed if left to market forces because consumers do not fully appreciate their true value. A is a definition of a public good. 2 Answer B Health care is a merit good. If left to market forces, health care would be underconsumed since many consumers do not recognise the full private benefits and do not take into account the external benefits. A, C and D are public goods. Some consumers do not understand the full harmful effects of demerit goods, so without government intervention they overconsume them. A and D are likely to apply to a merit good. B could describe any type of good. 4 Answer D Smoking tobacco can have more harmful effects on smokers than they may realise. It also imposes negative externalities. A, B and C may be regarded as merit goods. 5 Answer A If people were fully aware of the harmful effects of consuming demerit goods, they would demand less. This would mean price and output would be lower. Compared with the allocatively efficient output level, merit goods are underconsumed. As they are underconsumed they are also underproduced. Data response questions, page 148 a A demerit good has more harmful effects on consumers that they realise. It is also likely to generate negative externalities. More young women are now drinking heavily and as a result some are developing serious liver disease. Those who do develop liver disease are likely to have either been unaware of the risks or to have underestimated the risk. Drink-related illnesses also impose a burden on the NHS. b Drink-related illnesses account for a noticeable proportion of NHS funding for hospitals. If hospitals did not have to treat the self-inflicted results of heavy drinking, they could use the resources to cut down waiting lists. There are extra costs to the taxpayer from the knock-on effects on absenteeism, unemployment and loss to business. Other people have to pay higher taxes and are able to enjoy fewer goods and services because some people have to have time off work, some are less productive and some are unable to work because of their drinking. Other negative externalities include noise disturbance and vomiting in public places. c Alcohol is a demerit good. This suggests that alcohol is overconsumed and so overproduced, with too many resources being devoted to the production of alcohol. d To move towards the allocatively efficient output, fewer resources should be devoted to producing alcohol. The MSC of alcohol production exceeds the MSB. Society would benefit from some resources used in alcohol production being transferred to the production of other products. 7 Information failure Activity 1, page 149 a That Seroxat can be addictive, with some people finding it difficult to come off the drug and experiencing severe side effects when they try to do so. b That it is overconsumed and so overproduced. Activity 2, page 150 a They may mean that people borrow more than they can afford. b Because they think they are especially appealing to new customers. They believe that once customers have tried their products, they will appreciate their value and will be prepared to pay more for them. Activity 3, page 150 a The patients are unlikely to have sufficient medical knowledge to challenge their advice. b More resources are devoted to the treatment of these patients than is desirable, so there is allocative inefficiency. Multiple choice questions, page 151 If unemployed people are unaware of job vacancies elsewhere in the country they will not move to where the vacancies are. The existence of job vacancies in the south suggests a buoyant economy so house prices are likely to be rising. Occupational immobility of labour can arise when workers lack information about job vacancies in other occupations. Unemployment in the north is likely to depress wages there. 2 Answer C The firm s average cost will be higher than possible. As the firm is not producing at the minimum point on the lowest average cost curve it is productively inefficient. It will earn a lower profit than possible and the price it charges will be higher than possible. Society would benefit from resources being shifted from the more inefficient to the more efficient supplier and so allocative efficiency is not occurring. A poor person is unlikely to be able to afford to buy a large number of scratch cards. He or she may be getting into debt to do so, in the hope that a win will lift him or her out of poverty. 4 Answer B When people enter into transactions which make them worse off, Pareto efficiency is not achieved. In such a situation it is possible to make someone better off without making someone else worse off. 5 Answer C Most restaurant customers do not visit the kitchen and are unlikely to be encouraged to do so. It is easy to find out the type of food served and when the restaurant is open. The price of the different meals is often displayed outside and is available inside on the menu. The vet has more medical knowledge than the pet owner and could use this to persuade the owner to spend more on medication than necessary. 27

6 Data response questions, page 151 a That it is increasing. It mentions that the profit of Allergan, the treatment s manufacturer, has increased dramatically and is expected to rise further. bi The firm and the doctors administering the treatment know more about it than their customers. ii There is concern about how Botox is marketed. The passage notes that Allergan s advertisements suggest the treatment is suitable for people under 40. In the UK there appears to be evidence of the treatment being sold to people who do not need it. c What the treatment contains, its possible side effects and how often the treatment has to be undertaken. di The price would be likely to fall because there would be an increase in the number of suppliers. ii It is is likely to decline. There is a greater risk that people who are not medically trained may inject in the wrong places, may inject the wrong dosage and may not be aware of medical reasons for withholding treatment. 8 Market power Activity 1, page 152 a Oligopoly. The market has a high degree of market concentration it is dominated by the four largest banks. b Firms in the industry are likely to engage in non-price competition although they may be tempted to collude. There is also the chance that they may engage in the risky strategy of a price war. Activity 2, page 152 a One which strengthens existing customers' brand loyalty and attracts new customers. The key test is whether it generates higher profits. b Because they are likely to increase customer loyalty. Any new firm thinking about entering the market would have to spend a large amount on advertising to establish its name and image and capture a share of the market. Activity 3, page 153 a Examples are non-price competition, barriers to entry and a high degree of market concentration. bi It is likely to rise because most people do not change their mortgage provider if it raises its interest rate demand is relatively interest inelastic. In addition, most building societies change their interest rates at the same time. ii They are likely to rise. However, if the building society also raises the interest it pays to savers the effect would be more uncertain. iii It would fall as the gap between the interest rate consumers would be prepared to pay and the rate they actually pay would be reduced. Activity 4, page 153 a It is likely to have raised bus fares. With no competition on the routes mentioned, the companies were acting as monopolies. They could raise fares as travellers had no alternative to switch to. b A desire for higher profits. By acting as a cartel they were reducing competition and so increasing their ability to raise price. Multiple choice questions, page Answer A A patent is a barrier to entry. It gives the firm which takes it out the exclusive right to produce the particular product. B and C are likely to make it easier for new firms to compete in the industry and so reduce market concentration. D directly increases competition. 2 Answer D A monopoly is a price maker. Changes in its output will change price. To sell more the firm will have to lower price. A, B and C are all features of perfect competition. 3 Answer D A pure monopoly has total market power. It can raise price, knowing that consumers are unable to switch to a direct substitute. Firms operating under conditions of oligopoly have the second greatest degree of market power followed by firms operating under conditions of monopolistic competition. Firms operating under conditions of perfect competition have no power to influence price. 4 Answer A Mergers between firms lower the number of firms in a market and so reduce the choice for consumers. B and C make it easier for new firms to enter the market and so increase competition. D would make it more likely that new firms would enter the market if supernormal profits were being earned. 5 Answer D Firms operating under conditions of monopoly and oligopoly have market power and the potential to earn supernormal profits in the long run. Firms earning supernormal profits in the long run have more finance to spend on research and development than those earning only normal profits. Competitive pressure is lower the higher is market power. Perfect knowledge is a feature of perfect competition. The existence of X-inefficiency is unlikely to encourage research and development. The more market power a firm has, the greater is its ability to raise price above marginal cost. Higher prices lead to less consumer surplus and more producer surplus. The existence of barriers to entry and exit give rise to, and protect, market power. Data response questions, page 155 a Oligopoly. b They were found guilty of operating a cartel that fixed the price of vitamins. A cartel is formed when a group of firms collude to fix the price between them. Reducing competition increases the ability of the firms to raise price and their profits. c They had to pay higher prices for a range of products including cereals, biscuits, pharmaceuticals, cosmetics and many other products. The higher prices would have reduced consumer surplus and would have particularly disadvantaged poor people, who spend a greater proportion of their income on food than do people on medium and high incomes. d High set-up costs and patents. To enter the pharmaceuticals industry a new firm would have to develop its own range of medicines. This would involve considerable expenditure on research and development which new firms may find difficult to finance. The existence of patents may also make it difficult for new firms to enter the market. They would have to develop medicines sufficiently different from existing products so as not to infringe patents but still effective in treating the relevant illnesses and complaints. e It reduces efficiency. Restricting competition by, for instance, forming cartels, reduces the pressure on firms to produce at the lowest possible average cost. It also gives firms greater power to raise price above marginal cost, which means that they will be underproducing the product and not achieving allocative efficiency. 28

7 9 Factor immobility Activity 1, page 156 The reasons include unawareness of the vacancies, family ties in the north and higher costs in the south. Activity 2, page 156 a geographical immobility b occupational immobility Activity 3, page 156 a geographical immobility bi occupational immobility ii They could train the new staff. c i It is likely to result in an underproduction of products and so allocative efficiency would not be achieved. ii Firms will not be able to produce at the lowest cost possible productive efficiency. Multiple choice questions, page Answer D If the national curriculum was abolished, schools in different areas of the country may follow different courses. This may make workers more reluctant to move their families from one part of the country to another. A, B and C would all reduce geographical immobility of labour. Reduced transport costs would make it easier for people to move to new jobs in other areas and keep in touch with their relatives. A decrease in the differences in house prices in different parts of the country would make it easier to move from one area to another. The abolition of the national minimum wage would result in wages in areas of low unemployment rising relative to those in areas of high unemployment. This would encourage people to move to the more prosperous areas. 2 Answer B A major reason regional unemployment persists is geographical immobility of labour. Regional unemployment is concerned with officially recorded unemployment which seeks to measure involuntary unemployment. There may be fewer jobs available in some parts of the country than in others but this does not necessarily mean that unemployment is higher. Available jobs have to be compared with those willing to do them. Answer D describes short-term unemployment. 3 Answer A Structural unemployment arises from the decline of industries. B, C and D are examples of regional unemployment. 4 Answer A An increase in spending on training should make workers more skilled and so more occupationally mobile. B and D would reduce occupational mobility. C would increase geographical rather than occupational mobility. 5 Answer D When there is a high level of factor immobility it is difficult for firms to respond to changes in consumer demand. Those firms making products in increasing demand will find it difficult to recruit new staff and may experience problems buying new capital equipment. Some of the workers and machinery employed in industries facing declining demand may not switch to other uses. Movement from R to S shows a more efficient use of existing resources. A reduction in the immobility of resources could increase employment and output. Movement from T to V indicates a reallocation of resources. Both production points, T and V, represent efficient output positions. Movement from T to S could illustrate an increase rather than a decrease in the mobility of resources. Movement from V to U is not possible with existing resources. Data response questions, page 158 a Because of labour shortages in the area, competition from other employers and difficulty in attracting workers from outside the area owing to the high cost of housing. b Geographical immobility. The passage mentions that job applicants are deterred from taking up the jobs because of the high cost of housing in the area. c The Council was planning to overcome the problem by raising salaries, spending more on recruitment, advertising, mortgage subsidies and buying houses for employees to rent. d Raising pay will attract more workers if the pay is high enough to make housing in Oxfordshire affordable. Some people would then be prepared to move from lower-cost but also lower-pay areas. Spending more on advertising job vacancies will work if the problem, or part of the problem, arises from information failure. Some people may be willing and able to move to Oxfordshire but may not be aware of the job vacancies. Buying houses for employees to rent should make it easier to recruit unskilled staff. Even with any pay rises, low-skilled workers are likely to be relatively low paid. In the areas they are moving from they may be living in rented accommodation and so would probably be seeking rented accommodation in Oxfordshire. To recruit staff the Council is likely to charge below the market equilibrium rent. 10 Inequalities in the distribution of income and wealth Activity 1, page 159 a David Starkey was paid 12,500 times more than a care assistant. b Some people would argue that the pay differential reflects market forces. David Starkey s skills are in short supply, but there are many people who could work as care assistants not many qualifications are required. Others would suggest that the pay difference is too great. The service provided by care assistants is important and it could be argued that care assistants should be better paid. Activity 2, page 160 a Because of their poor diet, lacking in fruit and vegetables, and because a higher proportion of them smoke. b Because of the stress arising from living in poverty. A major reason for smoking, especially heavy smoking, is stress. Activity 3, page 160 a The poorest 50% of households own 7% of all wealth. b Because after they have paid for food, clothing, housing, and so on they may not have had any income left to save. Others may have been able to afford to save but may have underestimated the benefits of saving. They may have been taking a short-term view, living for today rather than tomorrow. c Property and shares. Activity 4, page 161 a Because they often have lower expectations, fewer educational resources at home, and are less likely to have their own computer and a quiet place to study. b Differences in educational achievement, with poor children performing less well than rich children, are likely to result in an even more uneven distribution of income and wealth in the future. Multiple choice questions, page 162 The best paid workers are those whose labour employers want to hire and whose skills are in short supply. The most skilful football players can earn very high wages whereas shop assistants (high supply) and circus acts (low demand) have relatively lowly wages. 29

8 2 Answer A A reduction in the geographical immobility of labour would mean that labour markets could respond more fully and quickly to changes in consumer demand. A and C would reduce the efficiency of labour markets and D is the result of inefficient labour markets. 3 Answer A Government bonds, shares and yachts are less evenly distributed than houses. For many people the main form of wealth they own is their house. Of course, some people do not own a house, but more people own a house (or if they are still paying off their mortgage, part of a house) than own the other three assets particularly yachts. 4 Answer C A, B and D are all sources of wealth but the main source of wealth is inheritance. 5 Answer A If poor people have more income they will be able to afford more basic necessities. Poverty should be reduced. As rich people would have less income, the ownership of second homes and demand for luxury products is likely to fall. 6 Answer D A normative statement is one based on opinion and so cannot be proved right or wrong. Many people would agree with statement D but many others would not. A, B and C are all positive statements: they are factual statements and their validity can be tested. Data response questions, page 162 a Being a lone parent and being unemployed. Some lone parents may find that they cannot get jobs which pay enough to cover child-care costs and leave them better off than on benefits. Others may be reluctant to work because they want to spend time with their children. It is also more expensive to raise a child as a lone parent. Unemployment is the other major cause of poverty. People who are out of work are likely to be living on benefits. This means that they will probably be receiving low incomes. b Adequate clothing, housing and nutritious food. It mentions a child s shoes falling apart, children living mainly on beans and toast and families living in dirty, overcrowded housing. c Because they are less alert owing to poor nutrition and stress. They are also likely to find it difficult to study in a quiet environment and it is unlikely they will have a personal computer and many books. d The extract suggests that the output of basic necessities for poor people is below the socially optimum level. On grounds of equity and efficiency it can be argued that all families should have access to an adequate supply of at least basic necessities. Children who grow up in poverty are, for instance, likely to place a relatively high burden on the NHS and be less productive. 30