economics essay on market failure

Market Failure

Definition of Market Failure – This occurs when there is an inefficient allocation of resources in a free market. Market failure can occur due to a variety of reasons, such as monopoly (higher prices and less output), negative externalities (over-consumed and costs to third party) and public goods (usually not provided in a free market)

Types of market failure

• Positive externalities – Goods/services which give benefit to a third party, e.g. less congestion from cycling.
• Negative externalities – Goods/services which impose a cost on a third party, e.g. cancer from passive smoking.
• Merit goods – People underestimate the benefit of good, e.g. education. It may also have positive externalities
• Demerit goods – People underestimate the costs of a good, e.g. smoking. It may also have negative externalities.
• Public Goods – Goods which are non-rival and non-excludable – e.g. police, national defence. Public goods are often not provided in a free market.
• Monopoly Power – when a firm controls the market (with high market share) and can set higher prices.
• Inequality – unfair distribution of resources in free market, e.g. some experiencing poverty and homelessness
• Factor Immobility – E.g. geographical / occupational immobility. For example, when there are pockets of high unemployment, but it is difficult for the unemployed to move and get a job.
• Agriculture – Agriculture is often subject to market failure – due to volatile prices, fluctuating weather and externalities.
• Information failure – where there is a lack of information to make an informed choice.
• Principal-agent problem – Two agents with different objectives and information asymmetries. For example, adverse selection where a buyer has less information than the seller.
• Moral hazard . When individuals have incentive to change their behaviour when others take the risk. For example, when banks are insured by the government, bankers take risky decisions which can cause bank losses.
• Macroeconomic instability – When an economy enters into prolonged recession and high unemployment – or inflationary boom which is unstable.

A way to remember several types of market failure

Key Terms in Market Failure

• Externalities :  These occur when a third party is affected by the decisions and actions of others.
• Social benefit :  the total benefit to society = Private Marginal Benefit (PMB) + External Marginal  Benefit (XMB)
• Social Cost : is the total cost to society = Private Marginal Cost (PMC) + External Marginal Cost (XMC
• Social Efficiency : This occurs when resources are utilised in the most efficient way. This will occur at an output where social marginal cost (SMC) = Social Marginal Benefit. (SMB)

Overcoming Market Failure

• Tax on Negative Externalities – e.g. Petrol tax
• Carbon Tax e.g. tax on CO2 emissions
• Subsidy on positive externalities – why the government may subsidies public transport
• Laws and regulations – Simple and effective ways to regulate demerit goods, like a ban on smoking advertising.
• Buffer stocks – aim to stabilise prices
• Government failure – why government intervention may not always improve the situation

Market failure and behavioural economics

Behavioural economics examines how individuals often act in a non-rational manner – contrary to the expectation of conventional economic models. These types of ‘irrational behaviour’ can lead to a type of market failure where people make poor choices. For example.

• Irrational exuberance – people getting carried away by good news leading to boom and bust.

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6.3 Market Failure

Learning objectives.

• Explain what is meant by market failure and the conditions that may lead to it.
• Distinguish between private goods and public goods and relate them to the free rider problem and the role of government.
• Explain the concepts of external costs and benefits and the role of government intervention when they are present.
• Explain why a common property resource is unlikely to be allocated efficiently in the marketplace.

Private decisions in the marketplace may not be consistent with the maximization of the net benefit of a particular activity. The failure of private decisions in the marketplace to achieve an efficient allocation of scarce resources is called market failure . Markets will not generate an efficient allocation of resources if they are not competitive or if property rights are not well defined and fully transferable. Either condition will mean that decision makers are not faced with the marginal benefits and costs of their choices.

Think about the drive that we had you take at the beginning of this chapter. You faced some, but not all, of the opportunity costs involved in that choice. In particular, your choice to go for a drive would increase air pollution and might increase traffic congestion. That means that, in weighing the marginal benefits and marginal costs of going for a drive, not all of the costs would be counted. As a result, the net benefit of the allocation of resources such as the air might not be maximized.

Noncompetitive Markets

The model of demand and supply assumes that markets are competitive. No one in these markets has any power over the equilibrium price; each consumer and producer takes the market price as given and responds to it. Under such conditions, price is determined by the intersection of demand and supply.

In some markets, however, individual buyers or sellers are powerful enough to influence the market price. In subsequent chapters, we will study cases in which producers or consumers are in a position to affect the prices they charge or must pay, respectively. We shall find that when individual firms or groups of firms have market power, which is the ability to change the market price, the price will be distorted—it will not equal marginal cost.

Public Goods

Some goods are unlikely to be produced and exchanged in a market because of special characteristics of the goods themselves. The benefits of these goods are such that exclusion is not feasible. Once they are produced, anyone can enjoy them; there is no practical way to exclude people who have not paid for them from consuming them. Furthermore, the marginal cost of adding one more consumer is zero. A good for which the cost of exclusion is prohibitive and for which the marginal cost of an additional user is zero is a public good . A good for which exclusion is possible and for which the marginal cost of another user is positive is a private good .

National defense is a public good. Once defense is provided, it is not possible to exclude people who have not paid for it from its consumption. Further, the cost of an additional user is zero—an army does not cost any more if there is one more person to be protected. Other examples of public goods include law enforcement, fire protection, and efforts to preserve species threatened with extinction.

Free Riders

Suppose a private firm, Terror Alert, Inc., develops a completely reliable system to identify and intercept 98% of any would-be terrorists that might attempt to enter the United States from anywhere in the world. This service is a public good. Once it is provided, no one can be excluded from the system’s protection on grounds that he or she has not paid for it, and the cost of adding one more person to the group protected is zero. Suppose that the system, by eliminating a potential threat to U.S. security, makes the average person in the United States better off; the benefit to each household from the added security is worth $40 per month (about the same as an earthquake insurance premium). There are roughly 113 million households in the United States, so the total benefit of the system is $4.5 billion per month. Assume that it will cost Terror Alert, Inc., $1 billion per month to operate. The benefits of the system far outweigh the cost.

Suppose that Terror Alert installs its system and sends a bill to each household for $20 for the first month of service—an amount equal to half of each household’s benefit. If each household pays its bill, Terror Alert will enjoy a tidy profit; it will receive revenues of more than $2.25 billion per month.

But will each household pay? Once the system is in place, each household would recognize that it will benefit from the security provided by Terror Alert whether it pays its bill or not. Although some households will voluntarily pay their bills, it seems unlikely that very many will. Recognizing the opportunity to consume the good without paying for it, most would be free riders. Free riders are people or firms that consume a public good without paying for it. Even though the total benefit of the system is $4.5 billion, Terror Alert will not be faced by the marketplace with a signal that suggests that the system is worthwhile. It is unlikely that it will recover its cost of $1 billion per month. Terror Alert is not likely to get off the ground.

The bill for $20 from Terror Alert sends the wrong signal, too. An efficient market requires a price equal to marginal cost. But the marginal cost of protecting one more household is zero; adding one more household adds nothing to the cost of the system. A household that decides not to pay Terror Alert anything for its service is paying a price equal to its marginal cost. But doing that, being a free rider, is precisely what prevents Terror Alert from operating.

Because no household can be excluded and because the cost of an extra household is zero, the efficiency condition will not be met in a private market. What is true of Terror Alert, Inc., is true of public goods in general: they simply do not lend themselves to private market provision.

Public Goods and the Government

Because many individuals who benefit from public goods will not pay for them, private firms will produce a smaller quantity of public goods than is efficient, if they produce them at all. In such cases, it may be desirable for government agencies to step in. Government can supply a greater quantity of the good by direct provision, by purchasing the public good from a private agency, or by subsidizing consumption. In any case, the cost is financed through taxation and thus avoids the free-rider problem.

Most public goods are provided directly by government agencies. Governments produce national defense and law enforcement, for example. Private firms under contract with government agencies produce some public goods. Park maintenance and fire services are public goods that are sometimes produced by private firms. In other cases, the government promotes the private consumption or production of public goods by subsidizing them. Private charitable contributions often support activities that are public goods; federal and state governments subsidize these by allowing taxpayers to reduce their tax payments by a fraction of the amount they contribute.

Figure 6.15 Public Goods and Market Failure

Because free riders will prevent firms from being able to require consumers to pay for the benefits received from consuming a public good, output will be less than the efficient level. In the case shown here, private donations achieved a level of the public good of Q 1 per period. The efficient level is Q *. The deadweight loss is shown by the triangle ABC.

While the market will produce some level of public goods in the absence of government intervention, we do not expect that it will produce the quantity that maximizes net benefit. Figure 6.15 “Public Goods and Market Failure” illustrates the problem. Suppose that provision of a public good such as national defense is left entirely to private firms. It is likely that some defense services would be produced; suppose that equals Q 1 units per period. This level of national defense might be achieved through individual contributions. But it is very unlikely that contributions would achieve the correct level of defense services. The efficient quantity occurs where the demand, or marginal benefit, curve intersects the marginal cost curve, at Q *. The deadweight loss is the shaded area ABC; we can think of this as the net benefit of government intervention to increase the production of national defense from Q 1 up to the efficient quantity, Q *.

Note that the definitions of public and private goods are based on characteristics of the goods themselves, not on whether they are provided by the public or the private sector. Postal services are a private good provided by the public sector. The fact that these goods are produced by a government agency does not make them a public good.

External Costs and Benefits

Suppose that in the course of production, the firms in a particular industry generate air pollution. These firms thus impose costs on others, but they do so outside the context of any market exchange—no agreement has been made between the firms and the people affected by the pollution. The firms thus will not be faced with the costs of their action. A cost imposed on others outside of any market exchange is an external cost .

We saw an example of an external cost in our imaginary decision to go for a drive. Here is another: violence on television, in the movies, and in video games. Many critics argue that the violence that pervades these media fosters greater violence in the real world. By the time a child who spends the average amount of time watching television finishes elementary school, he or she will have seen 100,000 acts of violence, including 8,000 murders, according to the American Psychological Association. Thousands of studies of the relationship between violence in the media and behavior have concluded that there is a link between watching violence and violent behaviors. Video games are a major element of the problem, as young children now spend hours each week playing them. Fifty percent of fourth-grade graders say that their favorite video games are the “first person shooter” type 1 .

Any tendency of increased violence resulting from increased violence in the media constitutes an external cost of such media. The American Academy of Pediatrics reported in 2001 that homicides were the fourth leading cause of death among children between the ages of 10 and 14 and the second leading cause of death for people aged 15 to 24 and has recommended a reduction in exposure to media violence (Rosenberg, M., 2003). It seems reasonable to assume that at least some of these acts of violence can be considered an external cost of violence in the media.

An action taken by a person or firm can also create benefits for others, again in the absence of any market agreement; such a benefit is called an external benefit . A firm that builds a beautiful building generates benefits to everyone who admires it; such benefits are external.

External Costs and Efficiency

Figure 6.16 External Costs

When firms in an industry generate external costs, the supply curve S 1 reflects only their private marginal costs, MC P . Forcing firms to pay the external costs they impose shifts the supply curve to S 2 , which reflects the full marginal cost of the firms’ production, MC e . Output is reduced and price goes up. The deadweight loss that occurs when firms are not faced with the full costs of their decisions is shown by the shaded area in the graph.

The case of the polluting firms is illustrated in Figure 6.16 “External Costs” . The industry supply curve S 1 reflects private marginal costs, MC p . The market price is P p for a quantity Q p . This is the solution that would occur if firms generating external costs were not forced to pay those costs. If the external costs generated by the pollution were added, the new supply curve S 2 would reflect higher marginal costs, MC e . Faced with those costs, the market would generate a lower equilibrium quantity, Q e . That quantity would command a higher price, P e . The failure to confront producers with the cost of their pollution means that consumers do not pay the full cost of the good they are purchasing. The level of output and the level of pollution are therefore higher than would be economically efficient. If a way could be found to confront producers with the full cost of their choices, then consumers would be faced with a higher cost as well. Figure 6.16 “External Costs” shows that consumption would be reduced to the efficient level, Q e , at which demand and the full marginal cost curve ( MC e ) intersect. The deadweight loss generated by allowing the external cost to be generated with an output of Q p is given as the shaded region in the graph.

External Costs and Government Intervention

If an activity generates external costs, the decision makers generating the activity will not be faced with its full costs. Agents who impose these costs will carry out their activities beyond the efficient level; those who consume them, facing too low a price, will consume too much. As a result, producers and consumers will carry out an excessive quantity of the activity. In such cases, government may try to intervene to reduce the level of the activity toward the efficient quantity. In the case shown in Figure 6.16 “External Costs” , for example, firms generating an external cost have a supply curve S 1 that reflects their private marginal costs, MC p . A per-unit pollution fee imposed on the firms would increase their marginal costs to MC e , thus shifting the supply curve to S 2 , and the efficient level of production would emerge. Taxes or other restrictions may be imposed on the activity that generates the external cost in an effort to confront decision makers with the costs that they are imposing. In many areas, firms and consumers that pollute rivers and lakes are required to pay fees based on the amount they pollute. Firms in many areas are required to purchase permits in order to pollute the air; the requirement that permits be purchased serves to confront the firms with the costs of their choices.

Another approach to dealing with problems of external costs is direct regulation. For example, a firm may be ordered to reduce its pollution. A person who turns his or her front yard into a garbage dump may be ordered to clean it up. Participants at a raucous party may be told to be quiet. Alternative ways of dealing with external costs are discussed later in the text.

Common Property Resources

Common property resources are resources for which no property rights have been defined. The difficulty with common property resources is that individuals may not have adequate incentives to engage in efforts to preserve or protect them. Consider, for example, the relative fates of cattle and buffalo in the United States in the nineteenth century. Cattle populations increased throughout the century, while the buffalo nearly became extinct. The chief difference between the two animals was that exclusive property rights existed for cattle but not for buffalo.

Owners of cattle had an incentive to maintain herd sizes. A cattle owner who slaughtered all of his or her cattle without providing for replacement of the herd would not have a source of future income. Cattle owners not only maintained their herds but also engaged in extensive efforts to breed high-quality livestock. They invested time and effort in the efficient management of the resource on which their livelihoods depended.

Buffalo hunters surely had similar concerns about the maintenance of buffalo herds, but they had no individual stake in doing anything about them—the animals were a common property resource. Thousands of individuals hunted buffalo for a living. Anyone who cut back on hunting in order to help to preserve the herd would lose income—and face the likelihood that other hunters would go on hunting at the same rate as before.

Today, exclusive rights to buffalo have been widely established. The demand for buffalo meat, which is lower in fat than beef, has been increasing, but the number of buffalo in the United States is rising rapidly. If buffalo were still a common property resource, that increased demand, in the absence of other restrictions on hunting of the animals, would surely result in the elimination of the animal. Because there are exclusive, transferable property rights in buffalo and because a competitive market brings buyers and sellers of buffalo and buffalo products together, we can be reasonably confident in the efficient management of the animal.

When a species is threatened with extinction, it is likely that no one has exclusive property rights to it. Whales, condors, grizzly bears, elephants in Central Africa—whatever the animal that is threatened—are common property resources. In such cases a government agency may impose limits on the killing of the animal or destruction of its habitat. Such limits can prevent the excessive private use of a common property resource. Alternatively, as was done in the case of the buffalo, private rights can be established, giving resource owners the task of preservation.

Key Takeaways

• Public sector intervention to increase the level of provision of public goods may improve the efficiency of resource allocation by overcoming the problem of free riders.
• Activities that generate external costs are likely to be carried out at levels that exceed those that would be efficient; the public sector may seek to intervene to confront decision makers with the full costs of their choices.
• Some private activities generate external benefits.
• A common property resource is unlikely to be allocated efficiently in the marketplace.

The manufacture of memory chips for computers generates pollutants that generally enter rivers and streams. Use the model of demand and supply to show the equilibrium price and output of chips. Assuming chip manufacturers do not have to pay the costs these pollutants impose, what can you say about the efficiency of the quantity of chips produced? Show the area of deadweight loss imposed by this external cost. Show how a requirement that firms pay these costs as they produce the chips would affect the equilibrium price and output of chips. Would such a requirement help to satisfy the efficiency condition? Explain.

Case in Point: Externalities and Smoking

Figure 6.17

Russellstreet – Smoker – CC BY-SA 2.0.

Smokers impose tremendous costs on themselves. Based solely on the degree to which smoking shortens their life expectancy, which is by about six years, the cost per pack is $35.64. That cost, of course, is a private cost. In addition to that private cost, smokers impose costs on others. Those external costs come in three ways. First, they increase health-care costs and thus increase health insurance premiums. Second, smoking causes fires that destroy more than $300 million worth of property each year. Third, more than 2,000 people die each year as a result of “secondhand” smoke. A 1989 study by the RAND Corporation estimated these costs at $0.53 per pack.

In an important way, however, smokers also generate external benefits. They contribute to retirement programs and to Social Security, then die sooner than nonsmokers. They thus subsidize the retirement programs of the rest of the population. According to the RAND study, that produces an external benefit of $0.24 per pack, leaving a net external cost of $0.29 per pack. Given that state and federal excise taxes averaged $0.37 in 1989, the RAND researchers concluded that smokers more than paid their own way.

Economists Jonathan Gruber of the Massachusetts Institute of Technology and Botond Koszegi of the University of California at Berkeley have suggested that, in the case of people who consume “addictive bads” such as cigarettes, an excise tax on cigarettes of as much as $4.76 per pack may improve the welfare of smokers.

They base their argument on the concept of “time inconsistency,” which is the theory that smokers seek the immediate gratification of a cigarette and then regret their decision later. Professors Gruber and Koszegi argue that higher taxes would serve to reduce the quantity of cigarettes demanded and thus reduce behavior that smokers would otherwise regret. Their argument is that smokers impose “internalities” on themselves and that higher taxes would reduce this.

Where does this lead us? If smokers are “rationally addicted” to smoking, i.e., they have weighed the benefits and costs of smoking and have chosen to smoke, then the only problem for public policy is to assure that smokers are confronted with the external costs they impose. In that case, the problem is solved: through excise taxes, smokers more than pay their own way. But, if the decision to smoke is an irrational one, it may be improved through higher excise taxes on smoking.

Sources: Jonathan Gruber and Botond Koszegi, “A Theory of Government Regulation of Addictive Bads: Optimal Tax Levels and Tax Incidence for Cigarette Excise Taxation,” NBER Working Paper 8777, February 2002; Willard G. Manning et al., “The Taxes of Sin: Do Smokers and Drinkers Pay Their Way?” Journal of the American Medical Association , 261 (March 17, 1989): 1604–1609.

Answer to Try It! Problem

Figure 6.18

In the absence of any regulation, chip producers are not faced with the costs of the pollution their operations generate. The market price is thus P 1 and the quantity Q 1 . The efficiency condition is not met; the price is lower and the quantity greater than would be efficient. If producers were forced to face the cost of their pollution as well as other production costs, the supply curve would shift to S 2 , the price would rise to P 2 , and the quantity would fall to Q 2 . The new solution satisfies the efficiency condition.

1 See Report of the Committee on Commerce, Science, and Transportation, Children’s Protection From Violent Programming Act , Senate Report 106–509 (October 26, 2000), Washington, D.C.: U.S. Government Printing Office, 2000, and Michael Rich, “Violent Video Games Testimony,” Chicago City Council, October 30, 2000, at http://www.aap.org/advocacy/rich-videogameviolence.pdf .

2 Common property resources are sometimes referred to as open access resources.

Rosenberg, M., “Successful State Strategies,” Adolescent Health Leadership Forum, December 6, 2003, at http://www.aap.org/advocacy/ahproject/AHLSuccessful StateStrategiesMRosenberg.pps .

Principles of Economics Copyright © 2016 by University of Minnesota is licensed under a Creative Commons Attribution-NonCommercial-ShareAlike 4.0 International License , except where otherwise noted.

Market Failure

The inefficient distribution of goods and services in the free market

What is Market Failure?

Market failure refers to the inefficient distribution of goods and services in the free market. In a typical free market, the prices of goods and services are determined by the forces of supply and demand , and any change in one of the forces results in a price change and a corresponding change in the other force. The changes lead to a price equilibrium.

Market failure occurs when there is a state of disequilibrium in the market due to market distortion. It takes place when the quantity of goods or services supplied is not equal to the quantity of goods or services demanded. Some of the distortions that may affect the free market may include monopoly power , price limits, minimum wage requirements, and government regulations .

Causes of Market Failures

Market failure may occur in the market for several reasons, including:

1. Externality

An externality refers to a cost or benefit resulting from a transaction that affects a third party that did not decide to be associated with the benefit or cost. It can be positive or negative. A positive externality provides a positive effect on the third party. For example, providing good public education mainly benefits the students, but the benefits of this public good will spill over to the whole society.

On the other hand, a negative externality is a negative effect resulting from the consumption of a product, and that results in a negative impact on a third party. For example, even though cigarette smoking is primarily harmful to a smoker, it also causes a negative health impact on people around the smoker.

2. Public goods

Public goods are goods that are consumed by a large number of the population, and their cost does not increase with the increase in the number of consumers. Public goods are both non-rivalrous as well as non-excludable. Non-rivalrous consumption means that the goods are allocated efficiently to the whole population if provided at zero cost, while non-excludable consumption means that the public goods cannot exclude non-payers from its consumption.

Public goods create market failures if a section of the population that consumes the goods fails to pay but continues using the good as actual payers. For example, police service is a public good that every citizen is entitled to enjoy, regardless of whether or not they pay taxes to the government.

3. Market control

Market control occurs when either the buyer or the seller possesses the power to determine the price of goods or services in a market. The power prevents the natural forces of demand and supply from setting the prices of goods in the market.

On the supply side, the sellers may control the prices of goods and services if there are only a few large sellers ( oligopoly ) or a single large seller (monopoly). The sellers may collude to set higher prices to maximize their returns. The sellers may also control the quantity of goods produced in the market and may collude to create scarcity and increase the prices of commodities.

On the demand side, the buyers possess the power to control the prices of goods if the market only comprises a single large buyer (monopsony) or a few large buyers (oligopsony). If there is only a single or a handful of large buyers, the buyers may exercise their dominance by colluding to set the price at which they are willing to buy the products from the producers. The practice prevents the market from equating the supply of goods and services to their demand.

4. Imperfect information in the market

Market failure may also result from the lack of appropriate information among the buyers or sellers. This means that the price of demand or supply does not reflect all the benefits or opportunity cost of a good. The lack of information on the buyer’s side may mean that the buyer may be willing to pay a higher or lower price for the product because they don’t know its actual benefits.

On the other hand, inadequate information on the seller’s side may mean that they may be willing to accept a higher or lower price for the product than the actual opportunity cost of producing it.

Solutions to Market Failures

In order to eliminate market failures, several remedies can be implemented. They include:

1. Use of legislation

One of the ways that governments can manage market failures is by implementing legislation that changes behavior. For example, the government can ban cars from operating in city centers, or impose high penalties to businesses that sell alcohol to underage children, since the measures control unwanted behaviors.

2. Price mechanism

Price mechanisms are designed to change the behavior of both the consumers and producers. For products that cause harm to consumers, the government can discourage their consumption by increasing taxes . For example, taxes on cigarettes and alcohol are periodically increased to discourage their consumption and reduce their harmful effects on unrelated third parties.

Additional Resources

Thank you for reading CFI’s guide on Market Failure. To keep learning and advancing your career, the following CFI resources will be helpful:

• Economic Inequality
• Negative Externality
• Pigouvian Tax
• Rent-seeking
• See all economics resources
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• Introduction

Historical remedies for market failure

• Contemporary reforms and market failure

market failure

market failure , failure of a market to deliver an optimal result. In particular, the economic theory of market failure seeks to account for inefficient outcomes in markets that otherwise conform to the assumptions about markets held by neoclassical economics (i.e., markets that feature perfect competition, symmetrical information, and completeness). When failure happens, less welfare is created than could be created given the available resources. The social task then becomes to correct the failure.

The theory of market failure is at the heart of several economic analyses that support government action (intervention) in markets for goods and services or that justify outright government production. Many social welfare programs find their theoretical justification in market failure or in other violations of the standard market assumptions.

Criticism of the market failure notion and of using government to remedy market failure’s effects has been articulated in the public choice school of economics. Public choice scholarship has had great impact on contemporary reforms of the public sector , replacing the Keynesian economics logics that drove much public service expansion. Such critiques have led to reforms seeking to replace governments with markets to challenge or remedy market failure.

The descriptions of market failure were developed in the middle of the 20th century as part of a larger school of Keynesian welfare and macroeconomics. Important contributors included Arthur C. Pigou , Francis Bator, William Baumol, and Paul A. Samuelson . Those theorists were concerned with the correspondence between free market outcomes and social welfare optimization. In standard economics the “ invisible hand ,” or duality, theorem holds that laissez-faire market performance and Pareto optimality go hand in hand. When consumers and producers respond to price signals, they make their own decisions about whether to buy or sell and how to produce the good. The aggregate of those choices is the same as the Pareto optimal, or socially optimal, distribution. Pareto optimality —which takes its name from Italian economist Vilfredo Pareto —is attained when it is impossible to find an alternative that would make one actor better off while keeping all others as well off as before. Welfare economists were concerned with conditions under which that correspondence failed and sought to describe such conditions.

The interest in exceptions to the invisible hand theorem led to the study of violations of the standard market assumptions. Those assumptions include perfect competition, perfect information, complete markets, and the absence of market failures. Markets fail under any of three conditions: production has increasing economies of scale; goods in the market are public; or production or consumption has externalities.

Increasing economies of scale

When producing one more of a good leads to a lower average cost of producing each good, production of the good has increasing economies of scale . Economists have found that when economies of scale increase regardless of how much is produced, few or no firms can survive as producers in the market. The standard concern with increasing economies of scale is that market forces will lead to monopoly production. Monopolies are sole providers of goods in a market, so they can charge any price they find suits their needs. Economists find that this leads to a suboptimal level of production and consumption. In addition, increasing economies of scale may push all producers out of a market if none can charge enough to cover costs. In that case, production ceases even if it benefits society. Hence, markets fail under increasing economies of scale.

Historically, several services necessary to running a modern economy were considered to have increasing economies of scale. Such services were often thought of as natural monopolies, because free markets would create monopolies from them. They included telephone and other telecommunications services, postal services , and electrical and water utilities. From the early 1980s, however, the proposition of increasing economies of scale was challenged for those types of services.

Public goods

Public goods are socially beneficial but are almost never produced by free markets. Three attributes of a good render it public. One is that no person can be excluded from using the good ( nonexcludability ). Another is that one person using it does not prevent another from using it ( nonrivalry). The final attribute is that no person can reject using the good ( nonrejectability). When a good has these attributes, no single individuals will pay for the good unless they gain so much utility from it that they can pay for the entire cost of producing it. This is because individuals can enjoy the good without paying for it—they can “ free ride ” on those who pay for it and “shirk their duty” to pay without losing the good. So in all but exceptional cases, public goods will not be produced by the private market, even though substantial parts of society benefit from having them.

Classic examples of public goods are streets , parks , national defense, broadcasts , and lighthouses . To use national defense as an illustration, whether or not citizens pay for it, the national armed forces will provide defense for them. Foreign invasions are denied, providing a benefit to each individual. But because individuals benefit regardless of whether they pay, few are likely to pay if they have a choice. If defense were a good in the market, it would earn no revenue, because no one would have to pay to enjoy it. But providing defense is costly, so no producers would undertake the task, because they could not make money doing so. The market would then fail. There would be no national defense, even though such defense is arguably socially optimal because it deters armed invasion.

Externalities

When goods are produced, they may create consequences that no one pays for. Such unaccounted-for consequences are called externalities. Because externalities are not accounted for in the costs and prices of the free market, market agents will receive the wrong signals and allocate resources toward bad externalities and away from good externalities.

Good externalities are consequences that benefit society. However, because those benefits are not accounted for in the price of the good, the price is higher than it should be, and too little of the good is consumed and produced. Bad externalities harm society. However, because the costs of those externalities are not accounted for in the price of the good, the price is lower than it should be, and too much of the good is consumed and produced. In both cases, the market has failed to reach efficiency, because it has allocated resources and production without considering the externalities.

Classic examples of bad externalities include industrial pollution and traffic congestion. Industrial pollution has harmful effects on people and the environment. Yet the cost of producing goods does not include the cost of dealing with the effects of pollution. This means that, in the free market, producers are responding to costs that are too low, and consumers are facing prices that are too low. More goods are produced and sold in the free market than should be, given the negative social effects of pollution.

An example of good externalities is private home renovation. Renovation has a beneficial effect beyond the renovated home, because it increases property values in the neighbourhood. But such benefits are not included in the home owners’ calculations in a free market, because their neighbours do not pay them to renovate. As a result, fewer home owners renovate in the free market than the beneficial social effects would justify.

In practice, the discovery of market failure helped arguments for sustaining government production, expanding social welfare programs, and market regulatory action in the 1960s and ’70s. If the goal is to achieve social efficiency and if markets cannot provide it alone, the next step is to find a supplement to help the market or even to replace it as the means of distributing resources. The common thread in many polities was to remedy market failure with government-based initiatives.

Government has significant capacities that have been applied to counter market failure. Public goods can be produced by the government for the benefit of all citizens. Government can impose and collect taxes to pay for the goods so that no free riders or duty shirkers can sustain their behaviour. The government can impose costs for negative externalities through taxes or fees on individual producers and consumers and encourage positive externalities through tax breaks or subsidies for the market agents. Monopolies can be regulated to limit price excesses or production can be encouraged through subsidies when a product has increasing economies of scale.

Welfare services, including education, child care, elder care, and health care, are considered by many welfare theorists as sectors where markets fail. Suboptimal distribution of access to these services in free markets is most often at the heart of these arguments. Here the suboptimal outcomes may be that some citizens cannot access welfare services or that the welfare service levels available are not the same for all citizens. In place of markets, government can mandate or directly provide access for all citizens, and it can regulate or directly produce the desired level of service.

The post- World War II era saw dramatic expansions of government-based welfare service programs in most industrialized countries. The extent and character of programs vary considerably. But common to them is that they have constituted a major part of government activity, including spending and public employment, since the late 1960s in even the least expansionary countries, such as the United States . This scale and scope have made welfare programs a prime target for government reformers, fiscal conservatives, and critics of welfare economic theory.

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Market Failures, Public Goods, and Externalities

Definitions and Basics

Definition: Market failure , from Investopedia.com:

Market failure is the economic situation defined by an inefficient distribution of goods and services in the free market. Furthermore, the individual incentives for rational behavior do not lead to rational outcomes for the group. Put another way, each individual makes the correct decision for him/herself, but those prove to be the wrong decisions for the group. In traditional microeconomics, this is shown as a steady state disequilibrium in which the quantity supplied does not equal the quantity demanded….

Externalities , by Bryan Caplan, from the Concise Encyclopedia of Economics

Positive externalities are benefits that are infeasible to charge to provide; negative externalities are costs that are infeasible to charge to not provide. Ordinarily, as Adam Smith explained, selfishness leads markets to produce whatever people want; to get rich, you have to sell what the public is eager to buy. Externalities undermine the social benefits of individual selfishness. If selfish consumers do not have to pay producers for benefits, they will not pay; and if selfish producers are not paid, they will not produce. A valuable product fails to appear. The problem, as David Friedman aptly explains, “is not that one person pays for what someone else gets but that nobody pays and nobody gets, even though the good is worth more than it would cost to produce.”… Research and development is a standard example of a positive externality, air pollution of a negative externality….

Public Goods and Externalities , by Tyler Cowen, from the Concise Encyclopedia of Economics

Most economic arguments for government intervention are based on the idea that the marketplace cannot provide public goods or handle externalities . Public health and welfare programs, education, roads, research and development, national and domestic security, and a clean environment all have been labeled public goods…. Externalities occur when one person’s actions affect another person’s well-being and the relevant costs and benefits are not reflected in market prices. A positive externality arises when my neighbors benefit from my cleaning up my yard. If I cannot charge them for these benefits, I will not clean the yard as often as they would like. (Note that the free-rider problem and positive externalities are two sides of the same coin.) A negative externality arises when one person’s actions harm another. When polluting, factory owners may not consider the costs that pollution imposes on others….

Markets can fail if there are no property rights and negotiation is costly. The Coase Theorem: Ronald H. Coase , biography from the Concise Encyclopedia of Economics

“The Problem of Social Cost,” Coase’s other widely cited article (661 citations between 1966 and 1980), was even more path-breaking. Indeed, it gave rise to the field called law and economics. Economists b.c. (Before Coase) of virtually all political persuasions had accepted British economist Arthur Pigou’s idea that if, say, a cattle rancher’s cows destroy his neighboring farmer’s crops, the government should stop the rancher from letting his cattle roam free or should at least tax him for doing so. Otherwise, believed economists, the cattle would continue to destroy crops because the rancher would have no incentive to stop them. But Coase challenged the accepted view. He pointed out that if the rancher had no legal liability for destroying the farmer’s crops, and if transaction costs were zero, the farmer could come to a mutually beneficial agreement with the rancher under which the farmer paid the rancher to cut back on his herd of cattle. This would happen, argued Coase, if the damage from additional cattle exceeded the rancher’s net returns on these cattle. If for example, the rancher’s net return on a steer was two dollars, then the rancher would accept some amount over two dollars to give up the additional steer. If the steer was doing three dollars’ worth of harm to the crops, then the farmer would be willing to pay the rancher up to three dollars to get rid of the steer. A mutually beneficial bargain would be struck….

Public Goods , by Tyler Cowen, from the Concise Encyclopedia of Economics

Public goods have two distinct aspects: nonexcludability and nonrivalrous consumption. “Nonexcludability” means that the cost of keeping nonpayers from enjoying the benefits of the good or service is prohibitive. If an entrepreneur stages a fireworks show, for example, people can watch the show from their windows or backyards. Because the entrepreneur cannot charge a fee for consumption, the fireworks show may go unproduced, even if demand for the show is strong….

Protectionism , by Jagdish Bhagwati, from the Concise Encyclopedia of Economics

Underlying both cases is the assumption that free markets determine prices and that there are no market failures. But market failures can occur. A market failure arises, for example, when polluters do not have to pay for the pollution they produce. But such market failures or “distortions” can arise from governmental action as well. Thus, governments may distort market prices by, for example, subsidizing production, as European governments have done in aerospace, as many other governments have done in electronics and steel, and as all wealthy countries’ governments do in agriculture. Or governments may protect intellectual property inadequately, leading to underproduction of new knowledge; they may also overprotect it. In such cases, production and trade, guided by distorted prices, will not be efficient….

Market-clearing vs. sticky prices: New Keynesian Economics , by N. Gregory Mankiw, from the Concise Encyclopedia of Economics

The primary disagreement between new classical and new Keynesian economists is over how quickly wages and prices adjust. New classical economists build their macroeconomic theories on the assumption that wages and prices are flexible. They believe that prices “clear” markets—balance supply and demand—by adjusting quickly. New Keynesian economists, however, believe that market-clearing models cannot explain short-run economic fluctuations, and so they advocate models with “sticky” wages and prices . New Keynesian theories rely on this stickiness of wages and prices to explain why involuntary unemployment exists and why monetary policy has such a strong influence on economic activity….

In the News and Examples

Is defense a public good? Defense , from the Concise Encyclopedia of Economics

National defense is a public good . That means two things. First, consumption of the good by one person does not reduce the amount available for others to consume. Thus, all people in a nation must “consume” the same amount of national defense (the defense policy established by the government). Second, the benefits a person derives from a public good do not depend on how much that person contributes toward providing it. Everyone benefits, perhaps in differing amounts, from national defense, including those who do not pay taxes. Once the government organizes the resources for national defense, it necessarily defends all residents against foreign aggressors….

Is education a public good? An Education in Market Failure , by Morgan Rose.

The most fundamental question raised by the school choice controversy is broader than education itself. Before we can confront the subject of the state’s role in education, we first ought to address the proper role and justification for government intervention in market activities in general…. One rationale that economists often use involves externalities and the problems that markets can have in coping with them. It might be clearer to explain what externalities are by first explaining why they sometimes cause problems for markets…

How do we determine when a market has really failed? And Is Market Failure a Sufficient Condition for Government Intervention? by Art Carden and Steven Horwitz.

Is the Occupy Wall Street movement about market failures, government failures, or both? Makers vs. Takers at Occupy Wall Street , a LearnLiberty video at Youtube.

Cathy O’Neil on Wall St and Occupy Wall Street . EconTalk podcast.

Cathy O’Neil, data scientist and blogger at mathbabe.org, talks with EconTalk host Russ Roberts about her journey from Wall Street to Occupy Wall Street. She talks about her experiences on Wall Street that ultimately led her to join the Occupy Wall Street movement. Along the way, the conversation includes a look at the reliability of financial modeling, the role financial models played in the crisis, and the potential for shame to limit dishonest behavior in the financial sector and elsewhere.

Is smoking an example of a market failure? The Economics of Smoking , by Pierre Lemieux

After the economists’ analytical assault, the case for smoking regulations seemed pretty thin in the early 1990s. Then, a new argument was proposed by World Bank economist Howard Barnum. It relied on welfare economics, a field of neoclassical economic theory designed to show that “market failures,” created by external costs or other types of “externalities” (phenomena that bypass the market), prevent free markets from maximizing social welfare. The welfare-economics argument against smoking has since been refined by other economists working with the World Bank, and has provided the intellectual basis for the Bank’s 1999 report on the smoking “epidemic.”… The argument runs as follows. Smoking is not like other consumption choices, and the economic presumption of market efficiency does not apply. This is because, as the World Bank puts it, “many smokers are not fully aware of the high probability of disease and premature death,” and because of the addictive nature of tobacco.

Global warming and market failure. The Economics of Climate Change , by Robert P. Murphy

If the physical science of manmade global warming is correct, then policymakers are confronted with a massive negative externality. When firms or individuals embark on activities that contribute to greater atmospheric concentrations of greenhouse gases, they do not take into account the potentially large harms that their actions impose on others. As Chief Economist of the World Bank Nicholas Stern stated in his famous report, climate change is “the greatest example of market failure we have ever seen.”…

Monopoly and market failure. Monopoly , by George Stigler, from the Concise Encyclopedia of Economics

A famous theorem in economics states that a competitive enterprise economy will produce the largest possible income from a given stock of resources. No real economy meets the exact conditions of the theorem, and all real economies will fall short of the ideal economy–a difference called “market failure.”…

Externalities: When is a Potato Chip not Just a Potato Chip? a LearnLiberty video.

The Failure of Market Failure. Part I. The Problem of Contract Enforcement , by Anthony de Jasay

Received wisdom advances two broad reasons why government is entitled to impose its will on its subjects, and why the subjects owe it obedience, provided its will is exercised according to certain (constitutional) rules. One reason is rooted in production, the other in distribution–the two aspects of social cooperation. Ordinary market mechanisms produce and distribute the national income, but this distribution is disliked by the majority of the subjects (notably because it is ‘too unequal’) and it is for government to redistribute it (making it more equal or bend it in other ways, a function that its partisans prefer to call ‘doing social justice’). However, the market is said to be deficient even at the task of producing the national income in the first place. Government is needed to overcome market failure. A society of rational individuals would grasp this and readily mandate the government to do what was needful (e.g. by taxation, regulation and policing) to put this right….

The Failure of Market Failure. Part II. The Public Goods Dilemma , by Anthony de Jasay

Public goods are freely accessible to all members of a given public, each being able to benefit from it without paying for it. The reason standard theory puts forward for this anomaly is that public goods are by their technical character non-excludable. There is no way to exclude a person from access to such a good if it is produced at all. Examples cited include the defence of the realm, the rule of law, clean air or traffic control. If all can have it without contributing to its cost, nobody will contribute and the good will not be produced. This, in a nutshell, is the public goods dilemma, a form of market failure which requires taxation to overcome it. Its solution lies outside the economic calculus; it belongs to politics….

Moral externalities and markets. Satz on Markets . EconTalk podcast.

Debra Satz, Professor of Philosophy at Stanford University, talks with EconTalk host Russ Roberts about her book, Why Some Things Should Not Be For Sale: The Moral Limits of the Market. Satz argues that some markets are noxious and should not be allowed to operate freely. Topics discussed include organ sales, price spikes after natural disasters, the economic concept of efficiency and utilitarianism. The conversation includes a discussion of the possible limits of political intervention and whether it would be good to allow voters to sell their votes….

Is price gouging justifiable? Munger on John Locke, Prices, and Hurricane Sandy . EconTalk Podcast.

Mike Munger of Duke University talks with EconTalk host Russ Roberts about the gas shortage following Hurricane Sandy and John Locke’s view of the just price. Drawing on a short, obscure essay of Locke’s titled “Venditio,” Munger explores Locke’s views on markets, prices, and morality.

A Little History: Primary Sources and References

John Maynard Keynes , biography from the Concise Encyclopedia of Economics

… Why shouldn’t government, thought Keynes, fill the shoes of business by investing in public works and hiring the unemployed? The General Theory advocated deficit spending during economic downturns to maintain full employment.

Ronald Coase on Externalities, the Firm, and the State of Economics . EconTalk Podcast, May 2012.

Nobel Laureate Ronald Coase of the University of Chicago talks with EconTalk host Russ Roberts about his career, the current state of economics, and the Chinese economy. Coase, born in 1910, reflects on his youth, his two great papers, “The Nature of the Firm” and “The Problem of Social Cost”. At the end of conversation he discusses his new book on China, How China Became Capitalist (co-authored with Ning Wang), and the future of the Chinese and world economies.

Did Markets Fail in Post-Soviet Economies? , a LearnLiberty video.

Prof. Pavel Yakovlev argues that capitalism, to the extent that it has been tried, has improved post-Soviet economies.

Advanced Resources

The Demand and Supply of Public Goods , by James M. Buchanan.

People are observed to demand and to supply certain goods and services through market institutions. They are observed to demand and to supply other goods and services through political institutions. The first are called private goods; the second are called public goods…. Neoclassical economics provides a theory of the demand for and the supply of private goods. But what does “theory” mean in this context? This question can best be answered by examining the things that theory allows us to do. Explanation is the primary function of theory, here as everywhere else. For the private-goods world, economic theory enables us to take up the familiar questions: What goods and services shall be produced? How shall resources be organized to produce them? How shall final goods and services be distributed? Note, however, that theory here does not provide the basis for specific forecasts. Instead, it allows us to develop an explanation of the structure of the system, the inherent logical structure of the decision processes. With its help we understand and explain how such decisions get made, not what particular pattern of outcome is specifically chosen….

The Reason of Rules: Constitutional Political Economy , by Geoffrey Brennan and James M. Buchanan.

Since we are ourselves professional economists, we have been particularly mystified by the reluctance of our profession to adopt what we have called the constitutional perspective. Economists in this century have been greatly concerned with “market failure,” which was the central focus of the theoretical welfare economists that dominated economic thought during the middle decades of the century. This market-failure emphasis extended to both micro- and macro-levels of analysis. Scholars working at either of these levels showed no reluctance in proffering advice to governments on detailed market correctives and macroeconomic management. In retrospect, post-public choice, it seems strange that these scholars so rarely showed a willingness to apply their analytic apparatus to institutions other than the market; they paid almost no attention to politics and political institutions. Once a policy recommendation seemed to have emerged from their market-failure analytics, there was no subsequent analysis aimed at proving that persons in their political roles, as either principals or agents, would somehow behave as the economists’ precepts dictated. Implicitly, economists seemed locked into the presumption that political authority is vested in a group of moral superpersons, whose behavior might be described by an appropriately constrained social welfare function. Initial cursory attempts by a few public-choice pioneers to inject a bit of practical realism into our models of individual behavior in politics were subjected to charges of ideological bias. The myth of the benign despot seems to have considerable staying power, a phenomenon that we examine specifically in Chapter 3….

Related Topics

Supply and Demand, Markets and Prices

Roles of Government

Property Rights

Government Failures, Rent Seeking, and Public Choice

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What Is a Market Failure?

What causes a market failure, how to correct a market failure, the bottom line.

• Macroeconomics

How Is a Market Failure Corrected?

FangXiaNuo / Getty Images

Imperfect market outcomes are corrected through a reallocation of resources or a change in the incentive structure. Economists have different opinions about the nature of market failures and what (if any) measures need to be taken to prevent or correct them.

Key Takeaways

• A market failure is when there is an inefficient distribution of goods and services that leads to a lack of equilibrium in a free market.
• The law of supply and demand is meant to lead to an equilibrium in prices, and when it does not it indicates a factor in the market has failed.
• Market failure can be caused by a lack of information, market control, public goods, and externalities.
• Market failures can be corrected through government intervention, such as new laws or taxes, tariffs, subsidies, and trade restrictions.

It's impossible to identify a solution for market failure without clearly identifying what a market failure is and why it persists. The common interpretation of market failure is the failure of a market to live up to the standards of perfect competition that leads to an efficient distribution of goods and services.

This idea is applied in general equilibrium  economics when the law of supply and demand fail to reach a state of equilibrium in a free market due to some outside force. Market failure can be identified in many, if not all, markets.

One of the main causes of market failure is when one participant has control of one or more areas of the market and therefore is able to control the price of a good or service rather than letting changes in supply and demand do so. This is often seen in monopolies where a company that has a monopoly sets the price of a product or service, regardless of the supply and demand of that product.

A lack of perfect information can also lead to market failure. When buyers and sellers don't have all the correct information they may buy or sell a product at a higher or lower price than what would be reflective of its true benefit or cost.

Public goods also lead to market failure as the cost of a public good does not increase with increased users of that public good. If certain users continue to use a public good but do not pay for it, for example through taxes, then it can lead to market failures.

Market failures can also be caused by externalities , which is when an action impacts a third party that did not participate in the decision-making that led to that action. For example, if someone plants trees in a neighborhood, everyone in that neighborhood benefits from the trees being planted. If a factory in a local town is polluting the town with its fumes, that is a negative externality.

Using the broad, perfect-competition definition, market failures are corrected by allowing competing entrepreneurs and consumers to push the market further toward equilibrium over time. Markets tend toward equilibrium constantly, never quite reaching it. This is because of limitations in human knowledge and changing real-world circumstances.

Some economists and policy analysts propose a litany of possible interventions and regulations to compensate for perceived market failures. Tariffs , subsidies , redistributive or punitive taxation, disclosure mandates, trade restrictions, price floors and ceilings, and many other market distortions have been justified on the basis of correcting inefficient outcomes.

Government intervention intended to correct market failure can often lead to an inefficient allocation of resources, known as government failure.

Other economists argue that markets are recognizably imperfect, but market failure is improperly framed. Rather than asking if markets fail relative to some ideal (perfect competition), they contend that the question should be whether markets perform better than any other process that humans might invoke.

Free market economists, including Milton Friedman and F.A. Hayek, argue that markets are the only known discovery process proven to be capable of adjusting correctly to inefficiencies. They contend that regulation interferes with this discovery process, making inefficiencies worse rather than better.

A market failure is any interruption in the efficient distribution of goods and services that would otherwise reach equilibrium through the laws of supply and demand.

When a market failure occurs, there are many methods to correct it, primarily through the introduction of government activities, such as regulations, tax adjustments, and subsidies.

However, many economists do not propose interfering in market failures, as they believe that free markets will correct themselves eventually over time.

Marciano, Alain and Medema, Steven G. " Market Failure in Context: Introduction ." History of Political Economy , vol. 47, no. 1, December 2015, pp. 1–19. Download PDF.

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Market Failure in Context: Introduction

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Alain Marciano , Steven G. Medema; Market Failure in Context: Introduction. History of Political Economy 1 December 2015; 47 (suppl_1): 1–19. doi: https://doi.org/10.1215/00182702-3130415

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Market failure, conceived of as the failure of the market to bring about results that are in the best interests of society as a whole, has a long lineage in the history of writings on matters economic. The goal of the present volume is to explore the contexts within which “modern” (i.e., twentieth-century) notions of market failure were developed. The idea that markets could fail to perform in ways that best promoted the larger interests of society is as old as economics itself, and the question of the appropriate scope to be given to private action and to its collective alternative is one of the most crucial issues with which economic thinkers have had to grapple. Nevertheless, our understanding of the contexts—social, political, and intellectual—in which discussions and debates about market failure have played out remains limited and imperfect. It is our hope that the present volume will go some way toward addressing this lacuna, both directly and by stimulating additional scholarship exploring this important facet of the history of economics.

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• Economic Essays Grade 12

Grade 12 Economic Essays for the Next Three-Year Cycle (2021-2023)

• Discuss in detail the markets within the FOUR-SECTOR model (Circular Flow)

Discuss in detail 'The new economic paradigm'/Explain the 'smoothing of cycles (Business Cycles)

Discuss in detail the features underpinning forecasting (Business Cycles)

Discuss in detail the main objectives of the public sector in the economy (Public Sector)

Discuss in detail the reason(s) for public sector failure (link them to typical problems experienced through public sector provisioning) (Public Sector)

Discuss in detail the reasons for international trade (Foreign Exchange Markets)

• Discuss in detail export promotion (Protectionism and FreeTrade)

Discuss in detail the arguments in favour of protectionism (Protectionism and Free Trade)

Discuss in detail the demand-side approach in promoting growth and development in South Africa (Growth and development)

Discuss in detail the following South African growth and development policies and strategic initiatives (Growth and development)

Discuss in detail South Africa's initiaties (endeavours) in regional development (Industrial Development Policies)

Discuss in detail the following economic indicators (Economic and Social Performance Indicators

Discuss in detail the following social indicators (Economic and Social Performance Indicators)

Discuss in detail the various equilibrium positions with the aid of graphs-PERFECT MARKET (Perfect Market)

• Discuss the monopoly in detail (with/without the aid of graphs) (Imperfect Market)

Examine the oligopoly in detail (Imperfect Market)

• Compare and contrast any TWO types of market structures  

Discuss in detail how the following factors lead to the misallocation of resources in the market (Market Failures)

Discuss in detail state intervention as a consequence of market failures, with the aid of relevant graphs (Market Failures)

Discuss in detail the consequences of inflation (Inflation)

Discuss in detail the measures to combat demand-pull and/or cost-push inflation (Inflation)

Examine in detail the effects of tourism (Tourism)

Examine in detail the benefits of tourism (Tourism)

Discuss in detail how the government can ensure sustainable development (Environmental Sustainability)

• Discuss in detail the following problems and the international measures taken to ensure sustainable development (Environmental Sustainability)

ESSAYS FOR THE NEXT THREE-YEAR CYCLE (2021-2023)

Macroeconomics- paper1.

Discuss in detail the markets within the FOUR-SECTOR model (Circular Flow) INTRODUCTION The economy of a country is regarded as an open economy because of the presence of households, producers, government, foreign sector and financial sector as active participants in the economy. Markets link the participants in the economy 🗸🗸 [Max 2]

BODY: MAIN PART PRODUCT / GOODS/ OUTPUT MARKET🗸

• These are the markets for consumer goods and services🗸🗸
• Goods are defined as tangible items, like food, clothes, cars, etc. that satisfies some human wants or needs🗸🗸
• Buying and selling of goods that are produced in markets e.g. 🗸🗸
• Capital Goods market for trading of buildings and machinery🗸🗸
• Consumer goods market for trading of durable consumer goods, semi-durable consumer goods and non-durable consumer goods. 🗸🗸
• Services are defined as non-tangible actions and include wholesale and retail, transport and financial markets. 🗸🗸

FACTOR / RESOURCE/ INPUT MARKETS🗸

• Households sell factors of production on the markets: rent for natural resources, wages for labour interest for capital and profit for entrepreneurship🗸🗸
• The factor market includes the labour, property and financial markets. 🗸🗸
• The market where services of factors of production are traded e.g. labour is hired and capital is borrowed – these services earn wages, interest, rent and profits🗸🗸

FINANCIAL MARKETS🗸

• They are not directly involved in the production of good and services, but act as a link between households , the business sector and other participants with surplus finds🗸🗸
• E.g. banks, insurance companies and pension funds🗸

MONEY MARKETS🗸

• In the money markets short term loans, and very short term funds are saved and borrowed by consumers and business enterprises 🗸🗸
• Products sold in the market are bank debentures, treasury bills and government bonds 🗸🗸
• The simplest form exists when parties make demand and short-term deposits and borrow on short term 🗸🗸
• The SARB is the key institution in the money market🗸🗸

CAPITAL MARKETS🗸

• In the capital markets long term funds are borrowed and saved by consumers and the business sector🗸🗸
• The Johannesburg Security Exchange (JSE) is a key institution in the capital 🗸🗸
• Products sold in this market are mortgage bonds and shares🗸🗸

FOREIGN EXCHANGE MARKETS🗸

• On the foreign exchange markets businesses buy/ sell foreign currency to pay for imported goods and services🗸🗸
• These transactions occur in banks and consists of electronic money transfers from one account to another🗸🗸
• The leading centres/ most important foreign exchange markets are in London, New York and Tokyo 🗸🗸
• e.g. traveller’s cheques to travel abroad🗸
• Flows of private and public goods and services are real flows and they are accompanied by counter flows of expenditure and taxes on the product market🗸🗸
• Factor services are real flows and they are accompanied by counter flows of income on the factor market🗸🗸
• Imports and exports are real flows and are accompanied by counter flows of expenditure and revenue on the foreign exchange market🗸🗸[Max 26]
• A change in investment of R 10m will result in a change in income of R 20m🗸🗸
• An increase in investment causes the expenditure function to shift upwards from C1 to C2 so that C1 is parallel to C2🗸🗸
• The effect of the increase in investment is that the total expenditure will increase from R 20m to R 30m🗸🗸
• The increase in the value of output (Y) is greater than the increase in the expenditure (E) 🗸🗸 (Explanation must comply with the figures supplied in the graphical presentation) [Max 4] [Max 10]

CONCLUSION The circular flow ensures continued interdependence and coordination of the economic activities in the economy / markets are critically important institutions in our economic system, because they regulate the supply and demand and safeguard price stability and general business confidence. 🗸🗸 [Any other relevant conclusion] [Max 2]

INTRODUCTION The new economic paradigm in terms of the smoothing of business cycles discourages monetary policy makers from using monetary and fiscal policies to fine tune the economy but rather encourages achieving stability through sound long term decisions relating to demand and supply in the economy/smoothing out the painful part of economic down-fall that is part of the market economy🗸🗸 (Accept other relevant definition/description of smoothing/new economic paradigm). [Max 2]

BODY: MAIN PART The new economic paradigm is embedded in the demand and supply side policies. 🗸🗸

Demand-side policies

• It focuses on aggregate demand in the economy🗸🗸
• When households, firms and the government spend more, demand in the economy increases. 🗸🗸
• This makes the economy grow but lead to inflation.🗸🗸
• Aggregate demand increases more quickly than aggregate supply and this causes price increases. 🗸🗸
• If the supply does not react to the increase in demand, prices will increase. 🗸🗸
• This will lead to inflation (a sustained and considerable in the general price level) 🗸🗸

Unemployment:

• Demand-side policies are effective in stimulating economic growth. 🗸🗸
• Economic growth can lead to an increase in demand for labour. 🗸🗸
• As a result more people will be employed and unemployment will increase. 🗸🗸
• As unemployment decreases inflation is likely to increase. 🗸🗸
• This relationship between unemployment and inflation is illustrated in the Phillips curve. 🗸🗸
• The PC curve shows the initial situation. A is the point of intersection of the PC curve with the x- axis. It shows the natural rate of unemployment, for instance 14%🗸🗸
• At point A inflation rate is zero. 🗸🗸
• If unemployment falls to C for instance, 8%, inflation caused by wage increases is at 6%.🗸🗸
• If unemployment increases from C to B to A, inflation falls from 6% to 2% to 0%.🗸🗸

Supply-side policies Reduction of costs 🗸

• Infrastructural services: reasonable charge and efficient transport, communication, water
• services and energy supply. 🗸🗸
• Administrative costs: these costs include inspection, reports on applications
• of various laws, regulations and by-laws, tax returns and returns providing statistical
• information.
• It adds to costs and businesses carry a heavy burden 🗸🗸
• Cash incentives: it includes subsidies for businesses to locate in neglected areas where unemployment is high and compensation to exporters for certain costs they
• incurred in development of export markets. 🗸🗸

Improving the efficiency of inputs 🗸

• Tax rates: low tax rates can serve as an incentive to workers. It will improve the productivity and output. 🗸🗸
• Capital consumption: replacing capital goods regularly creates opportunities for businesses to keep up with technological development and better outputs🗸🗸
• Human resource development: to improve the quality of manpower by improving health care, education and training. 🗸🗸
• Free advisory service: these promote opportunities to export. 🗸🗸

Improving the efficiency of markets 🗸

• Deregulation: removal of laws, regulations and by-laws and other forms of government controls makes the market free. 🗸🗸
• Competition: encourages the establishment of new businesses 🗸🗸
• Levelling the play field: private businesses cannot compete with public enterprises 🗸🗸 Answers must be in full sentences and well described with examples to be able to obtain 2 marks per fact. Learners should be awarded 1 mark per heading or sub-heading to a maximum of 8 marks. (8 x 1) (8) [Max 26]

Explanation: The above graph shows:

• Aggregate demand (AD) and aggregate supply (AS) are in equilibrium at point C. 🗸🗸
• If aggregate demand is stimulated so that it moves to AD1 and aggregate supply responds promptly and relocates at AS1; a larger real output becomes available without any price increases. 🗸🗸
• Supply is often sticky and fixed in the short term. 🗸🗸
• Therefore, if aggregate demand increases to AD1 and aggregate supply does not respond, intersection is at point F. Real production increases but so does the price, in other words, with more inflation. 🗸🗸
• The aggregate demand locates at any position to the left of AS1 inflation prevails. 🗸🗸
• The solution is to create conditions that ensure supply is more flexible. 🗸🗸
• If the cost of increasing production is completely flexible, a great real output can be supplied at any given price level. 🗸🗸 [Max 10]

CONCLUSION It is clear from the discussion above that it is critically important to manage the aggregate supply and demand to ensure stability in the economy. 🗸🗸 [Accept any relevant higher order conclusion] [Max 2]

INTRODUCTION Accurate prediction is not possible in Economics. The best the economists can do is to try and forecast what might happen. There are a number of techniques available to help economists to forecast business cycles, e.g. economic indicators 🗸🗸 OR Successive periods of contraction and expansion of economic activities 🗸🗸 [Accept any other relevant introduction] [Max 2]

BODY: MAIN PART Business cycle indicators Leading economic indicators 🗸

• These are indicators that change before the economy changes / coincide with the reference turning point 🗸🗸
• They give consumers, business leaders and policy makers a glimpse (advance warnings) of where the economy might be heading. 🗸🗸
• Peak before a peak in aggregate economic activity is reached.
• Most important type of indicator in helping economists to predict what the economy will be like in the future 🗸🗸
• When these indicators rise, the level of economic activities will also rise in a few months' time/an upswing 🗸🗸
• E.g. job advertising space/inventory/sales ratio🗸

Coincident economic indicators🗸

• They move at the same time as the economy / if the turning point of a specific time series variable coincides with the reference turning point🗸🗸
• It indicates the actual state of the economy🗸🗸
• E.g. value of retail sales. 🗸
• If the business cycle reaches a peak and then begins to decline, the value of retail sales will reach a peak and then begin to decline at same time🗸🗸

Lagging economic indicators🗸

•  They do not change direction until after the business cycle has changed its direction🗸🗸
• They serve to confirm the behaviour of co-incident indicators🗸🗸
• E.g. the value of wholesalers' sales of machinery🗸
• If the business cycle reaches a peak and begins to decline, we are able to predict the value of new machinery sold🗸🗸

Composite indicator🗸

• It is a summary of the various indicators of the same type into a single value🗸🗸
• Their values are consolidated into a single value , if this is done we find a value of a composite leading , coincident and lagging indicator🗸🗸 Accept ONE example from the table below:

• This is the time that it takes for a business cycle to move through one complete cycle (measured from peak to peak) 🗸🗸
• It is useful to know the length because the length tends to remain relatively constant over time.🗸🗸
• If a business cycle has the length of 10 years it can be predicted that 10 years will pass between successive peaks or troughs in the economy. 🗸🗸
• Longer cycles show strength. 🗸🗸
• Cycles can overshoot. 🗸🗸

Ways to measure lengths:

• Crisis to crisis 🗸🗸
• Historical records 🗸🗸
• Consensus on businesses experience 🗸🗸

Amplitude 🗸

• It is the difference between the total output between a peak and a trough. 🗸🗸
• It measures the distance of the oscillation of a variable from the trend line / It is the intensity (height) of the upswing and downswing (contraction and expansion) in economic activity 🗸🗸
• A large amplitude during an upswing indicates strong underlying forces – which result in longer cycles 🗸🗸
•  The larger the amplitude the more extreme the changes that may occur / extent of change 🗸🗸
• E.g. During the upswing inflation may increase from 5% to 10%. (100% increase) 🗸🗸
•  A trend is the movement of the economy in a general direction. 🗸🗸
• It usually has a positive slope because the production capacity of the economy increases over time 🗸🗸
• Also known as the long term growth potential of the economy. 🗸🗸
• The diagram above illustrates an economy which is growing – thus an upward trend (positive slope) 🗸🗸
• Trends are useful because they indicate the general direction in which the economy is moving – it indicates the rate of increase or decrease in the level of output🗸🗸

Extrapolation 🗸

• Forecasters use past data e.g. trends and by assuming that this trend will continue, they make predictions about the future🗸🗸
• Means to estimate something unknown from facts or information that are known 🗸🗸
• if it becomes clear that the business cycle has passed through a trough and has entered a boom phase, forecasters might predict that the economy will grow in the months that follow 🗸🗸
• It is also used to make economic predictions in other settings e.g. prediction of future share prices🗸🗸

Moving average 🗸

• It is a statistical analytical tool that is used to analyse the changes that occur in a series of data over a certain period of time / repeatedly calculating a series of different average values along a time series to produce a smooth curve 🗸🗸
• The moving average could be calculated for the past three months in order to smooth out any minor fluctuations 🗸🗸
• It is calculated to iron out (minimize) small fluctuations and reveal long-term trends in the business cycle🗸🗸 Answers must be in full sentences and well described with examples to be able to obtain 2 marks per fact. Learners should be awarded 1 mark per 8 headings and examples. [8 x 1=8] [Max 26]

BODY: ADDITIONAL PART

• An expansionary monetary policy is implemented when the economy is in recession in order to stimulate economic activities. 🗸🗸
• Interest rates can be reduced to encourage spending. 🗸🗸
• Households and firms can borrow more and spend more. 🗸🗸
•  The increased spending increases the level of economic activity. 🗸🗸
• Investment will increase and more factors of production will be employed. 🗸🗸
• Higher levels of production, income and expenditure will be achieved. 🗸🗸
• If the supply of goods and services does not increase in line with an increase in demand, inflation will increase. 🗸🗸
• Inflation can be curbed by reducing money supply and availability of credit. 🗸🗸
• To dampen demand at the peak the government will be able to reduce the money supply by increasing interest rates. 🗸🗸
• Selling government bonds and securities (open market transactions) and reduce the supply of money in circulation. 🗸🗸
• Increase the cash reserve requirements to manipulate money creation activities of banks. 🗸🗸
• Persuade banks to decrease lending (moral suasion) 🗸🗸
• To devaluate the exchange rate (exchange rate policy) 🗸🗸 [Max 10]

CONCLUSION It remain clear that business cycles must be clearly monitored through the indicators available, policy makers must act quickly by using monetary and fiscal instruments in order to prevent instability in the economy. 🗸🗸 [Accept any other relevant conclusion] [Max 2]

INTRODUCTION: The government provides goods and services that are under supplied by the market and therefore plays a major role in regulating economic activity and guiding and shaping the economy. 🗸🗸 [Max 2]

BODY: MAIN PART Objectives:

Economic growth 🗸

• Refer to an increase in the production of goods and services 🗸🗸
• Measured in terms of Real GDP 🗸🗸
• For economic growth to occur, the economic growth rate must be higher than Population growth 🗸🗸
• Growth and development in a country benefit its citizens because it often leads to a higher standard of living 🗸🗸

Full employment 🗸

• It is when all the people who want to work, who are looking for a job must be able to get a job 🗸🗸
• High levels of employment is the most important economic objective of the government 🗸🗸
• The unemployment rate increased over the past few years 🗸🗸
• Informal sector activities must be promoted because it is an area where employment increase 🗸🗸

Exchange rate stability 🗸

• The economy must be manage effectively and effective Fiscal and monetary policy must be used to keep the exchange rate relatively stable 🗸🗸
• Depreciation and Appreciation of the currency create uncertainties for producers and traders and should be limited. These uncertainties must be limited 🗸🗸
• The SARB changed the Exchange rate from a Managed floating to a free floating exchange rate 🗸🗸

Price stability 🗸

• Stable price causes better results in terms of job creation and economic growth 🗸🗸
• The SARB inflation target is 3% - 6% and they are successful in keeping inflation within this target 🗸🗸
• Interest Rates, based on the Repo Rate are the main instruments used in the stabilisation policy 🗸🗸
• The stable budget deficit also has a stabilizing effect on the inflation rate 🗸🗸

Economic equity 🗸

• Redistribution of income and wealth is essential 🗸🗸
• South Africa uses a progressive income tax system – taxation on profits, taxation on wealth, capital gains tax and taxation on spending, are used to finance free services 🗸🗸
• Free social services are basic education; primary health and to finance basic economic services 🗸🗸
• E.g. Cash Grant to the poor, e.g. child grants and cash grants to vulnerable people, e.g. disability grants 🗸
• Progressive taxation means that the higher income earners pay higher/more taxation 🗸🗸 [Max 26]
• Learner responses can be positive or negative.
• Follow the argument and see if the learner can produce enough evidence to support his/her answer.

Economic Growth:

• SA targets 4–5% economic growth. Previously SA had a 5% growth rate 🗸🗸
• In recent years the growth rate decreased steadily (presently below 3%) 🗸🗸

Full Employment:

• Compared to foreign countries unemployment is very high. (Expanded – over 30%) 🗸🗸
• Efforts by SA government to reduce these figures includes the GEAR strategy, focus on small business enterprises, Public Works Programme 🗸🗸

Exchange rate stability:

• SA now operates on a free floating exchange rate system in line with international benchmarks 🗸🗸
• Unfortunately our currency has lost its value, with a general trend of depreciation over the last few years 🗸🗸

Price stability:

• For the past few years South Africa has managed to remain within the 3–6% target 🗸🗸
• The current increase in the repo rate has put constraints on the inflation rate 🗸🗸

Economic equity:

• Economic equity has improved (BEE, affirmative action, gender equity) and led to an improvement in economic equity 🗸🗸 [Any 5 x 2] [Max 10]

CONCLUSION: While some successes have been achieved by government, the fulfilling of some of the objectives are compromised by factors like lack of accountability, corruption, budgeting, nepotism and incompetence. 🗸🗸 [Any relevant conclusion] [Max 2]

INTRODUCTION The government responds to market failures by establishing and maintaining state owned enterprises to provide public goods and services 🗸🗸 [Any other relevant introduction] [Max 2]

BODY: MAIN PART

• It is required to give an explanation of one's decisions, actions and expenditures over a period of time 🗸🗸
• There are mechanisms for evaluating government's economic and financial performance 🗸🗸
• That the desired quantities and quality of goods and services for which taxes are raised are delivered 🗸🗸
• That monopolies, corruption, nepotism, incompetence and apathy does not occur 🗸🗸
• Two important elements of accountability is participation and transparency🗸🗸
• Ministerial responsibilities, i.e. the ministers of government departments are responsible for decisions and actions and expenditures 🗸🗸
• Parliamentary questioning arises and members of the government departments have to respond 🗸🗸
• The national treasury is responsible for treasury control 🗸🗸
• The auditor-general reports annually in writing on each government department🗸🗸
• Public goods are efficiently provided if Pareto efficiency is achieved 🗸🗸
• That is if resources are allocated in such a way that no one can be made better off without making someone else worse off 🗸🗸
• Bureaucracy the official rules and procedures. 🗸🗸/insensitivity to the needs of their clients 🗸🗸
• Incompetence- the lack of skill or ability to do a task successfully🗸🗸/May have improper qualifications/or an attitude of apathy 🗸🗸
• Corruption- the exploitation of a person's position for private gain /taking bribes, committing fraud, nepotism 🗸🗸
• State-owned enterprises do not operate according to the forces of supply and demand 🗸🗸
• It becomes thus very difficult for state-owned enterprises to assess needs and they are thus prone to under- or over-supplying public goods and services 🗸🗸
• The census and other household surveys as well as local government structures provide this type of information 🗸🗸
• Since resources are scarce, government must then decide which needs and whose needs are to be satisfied 🗸🗸
• In the private sector houses are built according to the price that people are able and willing to pay 🗸🗸
• In the public sector housing is regarded as a social responsibility and authorities supply them according to the needs of people 🗸🗸
• In a market economy prices are determined by supply and demand 🗸🗸
• The objectives of firms are to maximise their profits and they usually set prices to achieve this objective 🗸🗸
• Government does not pursue the profit maximisation objective 🗸🗸
• Government takes into account certain social, economic, political and environmental conditions as well as public opinion 🗸🗸
• Free-of-charge services- this is met from taxes 🗸🗸 and applies to most community goods and collective goods 🗸🗸 (e.g.) defence, police whereby charges and toll fees are levied 🗸
• User-charges 🗸 option to charge depends on technical reasons 🗸🗸 (e.g.) cost of providing a double lane road could be recovered by toll charges 🗸 Economic reasons 🗸 such as services like water and electricity 🗸 that have a zero price 🗸 political reasons 🗸 where income distribution is significantly unequal, administrative rationing according to need takes place 🗸🗸 (e.g.) public health and education 🗸
• Direct and indirect subsidies direct subsidies are used to cover part of the costs 🗸🗸 (e.g.) urban bus service 🗸 and an indirect subsidy is used to write off accumulated losses or deficits 🗸🗸
• Standing charges -called availability charges 🗸🗸 (e.g.) water and electricity 🗸 standing charges goes to meet fixed costs and the price per unit consumed covers variable costs 🗸🗸
• Price discrimination - different users have different elastic ties of demand for a good 🗸🗸 (e.g.) commercial and manufacturing businesses pay higher rates than households and they pay on a sliding scale🗸🗸
• State-owned enterprises that either render a service or when an existing enterprise is nationalised 🗸🗸
• They focus on making a profit and maximizing cost at the expense of the needs of some groups 🗸🗸 (e.g.) Iscor 🗸 SABC, 🗸SAA, Spoornet 🗸
• refers to the process whereby state-owned enterprises and state-owned assets are handed over or sold to private individuals 🗸🗸
• cost of maintaining and managing state-owned enterprises are high which can lead to higher taxes and larger public debt 🗸🗸
• State-owned enterprises are not run as efficiently as private enterprises 🗸🗸
• Nationalisation is the process whereby the state takes control and ownership of privately owned assets and private enterprises 🗸🗸
• It includes contracting of services, public-private partnerships, increasing competitiveness🗸🗸 [Max 26]

ADDITIONAL PART Possible problems in your community or elsewhere

• Lack of drinking water due to burst pipes 🗸🗸
• Lack of electricity due to lack of infrastructure (load shedding) 🗸🗸
• Lack of schooling – no buildings available – lack of maintenance 🗸🗸
• Lack of health services due to lack of staff, infrastructure, strikes 🗸🗸
• Lack of adequate housing (RDP) 🗸🗸 [Max 10 marks - List of examples max 5 marks] [Accept any other relevant answer] 

CONCLUSION If the above problems are not dealt with timeously by government, government will continue to fail its people in terms of service delivery, seeing many protests occurring regularly 🗸🗸 [Any other relevant higher order conclusion] [Max 2]

INTRODUCTION International trade can be defined as the exchange of goods and services between countries globally. 🗸🗸 These trade agreements are negotiated by protocols and agreement due to the uneven distribution of natural resources globally. 🗸🗸

BODY-MAIN PART The main reasons for international trade.

Demand reasons The size of the population impacts demand.

• If there is an increase in population growth, it causes an increase in demand, as more people’s needs must be satisfied. 🗸🗸
• Local suppliers may not be able to satisfy this demand. 🗸🗸

The population’s income levels effect demand.

• Changes in income cause a change in the demand for goods and services. 🗸🗸 • An increase in the per capita income of people in more disposable income that can be spent on local goods and services, some of which may then have to be imported. 🗸🗸

An increase in the wealth of the population leads to greater demand for goods.

• People have access to loans and can spend more on luxury goods, many of which are produced in other countries. 🗸🗸

Preferences and tastes can play a part in the determining of prices,

•  E.g. customers in Australia have a preference for a specific product which they do not produce and need to import and it will have a higher value than in other countries. 🗸🗸

The difference in consumption patterns is determined

• By the level of economic development in the country, e.g. a poorly developed country will have a high demand for basic goods and services but a lower demand for luxury goods. 🗸🗸

Supply reasons Natural resources are not evenly distributed

• Across all countries of the world. 🗸🗸
• They vary from country to country and can only be exploited in places where these resources exist. 🗸🗸

Climatic conditions

• Make it possible for some countries to produce certain goods at a lower price than other countries, e.g. Brazil is the biggest producer of coffee. 🗸🗸

Labour resources

• Differ in quantity, quality and cost between countries. 🗸🗸
• Some countries have highly skilled, well-paid workers with high productivity levels, e.g. Switzerland. 🗸🗸

Technological resources

•  Are available in some countries that enable them to produce certain goods and services at a low unit cost, e.g. Japan. 🗸🗸

Specialisation in the production

• Certain goods and services allows some countries to produce them at a lower cost than others, e.g. Japan produces electronic goods and sells these at a lower price. 🗸🗸

Capital allows developed countries

• Enjoy an advantage over underdeveloped countries. 🗸🗸
• Due to a lack of capital, some countries cannot produce all the goods they require themselves. 🗸🗸

ADDITIONAL PART

• Buying and selling goods and services from other countries: 🗸🗸
• The purchase of goods and services from abroad that leads to an outflow of currency from SA- Imports (M). 🗸🗸
• The of goods and services to buyers from other countries leading to an inflow of currency to SA – Exports (X) 🗸🗸
• Different factor endowments mean some countries can produce goods and services more efficiently than others- specialisation is therefore possible: 🗸🗸

Absolute Advantage:

• Where one country can produce goods with fewer resources than other. 🗸🗸

Comparative Advantage:

• Where one country can produce goods at a lower opportunity cost it sacrifices less resources in production. 🗸🗸

CONCLUSION International trade is important of countries to survive economically, as barriers to trade would disadvantage all countries, due to their interdependency globally. 🗸🗸 [Any other relevant higher order conclusion] [Max 2]

ECONOMIC PURSUITS-PAPER 1

Discuss in detail export promotion (Protectionism and Free Trade)

INTRODUCTION Export promotion refers to measures taken by governments increase production of goods and services that can be exported. The government provides incentives to encourage production 🗸🗸 [Max 2]

BODY: MAIN PART REASONS:

• Export promotion measures lower cost of production which makes it easier to compete on the international market 🗸🗸
• Achieve significant export-led economic growth🗸🗸
• Export enlarges production capacity of country because more and larger manufacturing industries are established. 🗸🗸
• The first step to export-led economic growth is to implement policies that encourage the establishment of industries to produce goods and services for export markets🗸🗸

METHODS: Exports are promoted through: Incentives🗸

• Export incentives include information on export markets, research with regard to new markets, concessions on transport charges, export credit and export credit guarantees and publicity commending successful exporters🗸🗸
• This will encourage manufacturers to export an increased volume of their production🗸🗸
• Trade missions help to market SA products abroad🗸🗸and supply SA companies with information about potential markets 🗸🗸

Direct Subsidies🗸

• Described as direct because it involves government expenditure. 🗸🗸
• Include cash payments to exporters, refunds on import tariffs and employment subsidies.
• The aim is to increase the competitiveness of exporting company🗸🗸 reduce cost of production🗸🗸and explore and establish overseas markets🗸🗸

Indirect subsidies

• Regarded as indirect because it results in the government receiving less revenue🗸🗸 e.g. general tax rebates,
• Tax concessions on profits earned from exports or on capital invested to produce export goods, refunding
•  Of certain taxes e.g. custom duties on imported goods used in the manufacturing process🗸🗸
• Allows companies to lower their prices and enables them to compete in international markets🗸🗸
• Challenge for governments to design incentives and subsidies in such a way that prices of export goods can't be viewed as dumping prices🗸🗸

Trade neutrality 🗸

• Can be achieved if incentives in favour of export production are introduced
• Up to point that neutralises the impact of protectionist measures in place🗸🗸
• E.g. subsidies equal to magnitude of import duties can be paid🗸

Export processing zones (EPZs) 🗸

• Is free-trade enclave within a protected area –
• Is fenced and controlled industrial park that falls outside
• Domestic customs area, and usually located near harbour or airport 🗸🗸 NOTE : For the response with regard to the effectiveness of export promotion methods, a maximum of 5 marks can be allocated.
• No limitations on size and scale since world market is very large🗸🗸
• Cost and efficiency of production based on this and organised along lines of comparative advantage🗸🗸
• Increased domestic production will expand exports to permit more imports and may result in backward linkage effects that stimulate domestic production in related industries🗸🗸
• Exchange rates are realistic and there is no need for exchange control and quantitative restrictions🗸🗸
• Value can be added to natural resources of the country 🗸🗸
• Creates employment opportunities 🗸🗸
• Increase in exports has positive effect on balance of payments 🗸🗸
• Increase in production leads to lower domestic prices, which benefit local consumers🗸🗸

DISADVANTAGES

• Real cost of production 🗸 subsidies and incentives reduce total cost of production which must be met from sales🗸🗸 real cost is thus concealed by subsidies🗸🗸products cannot compete in open market 🗸🗸
• Lack of competition 🗸 businesses charge prices that are so low that they force competitors out of the market 🗸🗸
• Increased tariffs and quotas 🗸can be against spirit of provisions of WTO🗸🗸overseas competitors retaliate with tariffs and quotas🗸🗸 goods are sold domestically below their real cost of production (export subsidies and dumping) 🗸🗸
• Protection of labour-intensive industries 🗸 developed countries maintain high levels of effective protection for their industries that produce labour-intensive goods in which developing countries already have or can achieve comparative advantage 🗸🗸
• Withdrawal of incentives often leads to closure of effected companies. 🗸🗸
• Incentives often lead to inefficiencies in the production process, since companies don't have to do their best to compete🗸🗸
• Can be seen as dumping 🗸🗸 [Max 26]

BODY: ADDITIONAL PART How successful is South Africa in protecting the local textile industry against foreign competition?

• Not successful: 🗸 Many domestic textile manufacturers closed down due to unfair international competition 🗸🗸 Many wholesalers make use of suppliers from abroad 🗸🗸 e.g. Woolworths/Walmart🗸
• Dumping still occurs – European manufacturers still dump clothing in Africa out of season at prices below cost 🗸🗸 Job losses due to a lack of protection in this industry 🗸🗸 [Accept any motivation relating to success indicators] [Max 10]

CONCLUSION South Africa's international trade policy facilitates globalisation thereby impacting positively on the balance of payment. 🗸🗸 [Accept any other relevant conclusion] [Max 2]

INTRODUCTION Protectionism refers to a deliberate policy on the part of the government to erect trade barriers, such as tariffs and quotas, in order to protect domestic industries against international competition. 🗸🗸 [Accept any other relevant definition] [Max 2]

BODY-MAIN PART Raising revenue for the government

• Import tariffs raise revenue for the government. 🗸🗸
• In smaller countries the tax base is often small due to low incomes of individuals and businesses. 🗸🗸
• Low incomes do not provide much in the form of income taxes and therefore custom duties on imports is a significant source of income or revenue. 🗸🗸

Protecting the whole industrial base

• Maintaining domestic employment. 🗸🗸
• Countries with high unemployment are continuously pressured to stimulate employment creation and therefore resort to protectionism in order to stimulate industrialisation. 🗸🗸
• It is thought that using protectionism the country’s citizens would purchase more domestic products and raise domestic employment. 🗸🗸
• These measures on domestic employment creation at the expense of other countries, led to such measures as “beggar-my-neighbour” policies. 🗸🗸
• Applying import policies is likely to reduce other countries ability to buy country’s exports and may provoke retaliation. 🗸🗸

Protecting workers

• It is argued that imports from other countries with relatively low wages represent unfair competition and threaten the standard of living of the more highly paid workers of the local industries. 🗸🗸
• Local industries would therefore be unable to compete because of higher wages pushing up the price levels of goods. 🗸🗸
• Protection is thus necessary to prevent local wage levels from falling or even to prevent local businesses from closing down due to becoming unprofitable. 🗸🗸
• Competition from low-wage countries may also reflect the fact that those countries have a comparative advantage in low-skilled labour-intensive industries. 🗸🗸

Diversifying the industrial base

• Overtime countries need to develop diversified industries to prevent overspecialisation. 🗸🗸
• A country relying too heavily on the export of one or a few products is very vulnerable. 🗸🗸
• If a developing country’s employment and income is dependent on only one or two industries, there is the risk that world fluctuations in prices and demand and supply-side problems could results in significant fluctuations in domestic economic activity. 🗸🗸
• Import restrictions may be imposed on a range of products in order to ensure that a number of domestic industries develop. 🗸🗸

Develop strategic industries

• Some industries such as the iron-ore and steel, agriculture, (basic foodstuffs, such as maize), energy (fuels) and electronics (communication) among others, are regarded as strategic industries. 🗸🗸
• Developing countries may feel that they need to develop these industries in order to become self-sufficient . 🗸🗸

Protecting specific industries Dumping

• Foreign industries may engage in dumping because government subsidies permit them to sell at very low prices or because they are seeking to raise profits through price discrimination. 🗸🗸
• The reason for selling products at lower prices may be to dispose of accumulate stocks Of the goods and as a result consumers in the importing country stand to benefit however,
• Their long term objective may be to drive out domestic producers and gain control of the market and consumers
• Are likely to lose out in the reduction in choice and higher prices that the exporters will be able to charge. 🗸🗸

Infant industries

• Usually newly established and find it difficult to survive due to their average costs being higher than that of their well-established foreign competitors. 🗸🗸
• However, if they are given protection in their early years they may be able to grow and Thereby take advantage lower their average costs and become competitive and at this point protection can be removed. 🗸🗸

Declining industries/sunset industries

• Structural changes in the demand and supply of a good may severely hit an industry such industries should be permitted to go out of business gradually declining industries
• Are likely to be industries that no longer have a comparative advantage and however, if they go out of business quickly there may be a sudden and large increase in unemployment. 🗸🗸
• Protection may enable an industry to decline gradually thereby allowing time for resources including labour to move to other industries. 🗸🗸
• Protecting domestic standards domestic regulations of food safety human rights and environmental standards have been increasingly acting as trade restrictions. 🗸🗸 [Accept any other relevant fact] [Max 26]

ADDITIONAL PART South Africa promotes exports through subsidies

Direct Subsidies

• Strict screening measures should be put in place when companies apply for financial assistance. Government expenditure can provide direct financial support to domestic producers for their exports e.g. 🗸🗸
• Cash grants offered to South African exhibitors to exhibit their products at exhibitions overseas. To explore new markets. 🗸🗸
• Foreign trade missions to explore new markets imposition of tariffs on imports. 🗸🗸
• Funds for the formation of formal export councils. 🗸🗸
• Subsidies for training or employing personnel. 🗸🗸
• Funds for the export market research. 🗸🗸
• Product registration and foreign patent registrations. 🗸🗸
• Government can refund companies certain taxes to promote exports.
• These types of indirect subsidies are:
• General tax rebates (Part of the cost of production can be subtracted from the tax that has been paid) 🗸🗸
• Tax concessions on profits earned from exports or on capital invested to produce export goods. 🗸🗸
• Refunds on import tariffs in the manufacturing process of exported goods companies often use custom duties are paid on these goods and the government refunds them. 🗸🗸 [Max 10]

CONCLUSION Most countries agree that protectionism is harmful to the economy if not well managed. Protectionism is needed especially where industries are young and need expansion or development. 🗸🗸 [Any other relevant higher order conclusion] [Max 2]

INTRODUCTION Economic growth is responsible for the overall growth of the economy, in order to enhance the well being of the economy as a whole. Whereas economic development would focus on the individual well being of the citizens of a country. [Any other relevant higher order conclusion] [Max 2]

BODY-MAIN PART Growth and Development A demand-side approach includes discretionary changes in monetary and fiscal policies with the aim of changing the level of aggregate demand. 🗸🗸

Monetary policy

• Is driven by the South African Reserve Bank (SARB). 🗸🗸
• It aims to stabilise prices by managing inflation. 🗸🗸

Fiscal policy

• Is driven by the Department of Finance. 🗸🗸
• It aims to facilitate government, political and economic objectives. 🗸🗸
• A demand-side approach to economic growth and development does not only depend on fiscal and monetary policy. 🗸🗸
• It is dependent on all components of aggregate demand, that is, C, I, X and G. 🗸🗸

South African approach

• The South African approach uses both monetary and fiscal measures to influence aggregate demand in the economy. 🗸🗸
• The South African Reserve Bank (SARB) as the central bank in South Africa formulates the monetary policy. 🗸🗸
• They use the following instruments:

Interest rate changes

• It is used to influence credit creation by making credit more expensive or cheaper. 🗸🗸
• The exchange rate is stabilised by encouraging inflow or outflows. 🗸🗸

Open market transactions

• To restrict credit the SARB sells securities. When banks buy these securities money flows from banks to the SARB. 🗸🗸
• The banks have less money to lend and cannot extend as much credit as before. 🗸🗸
• To encourage credit creation the SARB buys securities. Money flows into the banking system.🗸🗸

Moral suasion

• The SARB consults with banks to act in a responsible manner based on the prevailing economic conditions. 🗸🗸

Cash Reserve Requirements

• Banks are required to hold a certain minimum cash reserve in the central bank. 🗸🗸
• Banks have a limited amount to give out as credit. 🗸🗸
• South Africa’s fiscal policy is put into practice through the budgetary process. 🗸🗸
• The main purpose of fiscal policy is to stimulate macroeconomic growth and employment, and ensure redistribution of wealth. 🗸🗸
• The following instruments are used:

Progressive personal income tax

• Higher income earners are taxed at higher tax rates. 🗸🗸
• These taxes are used to finance social development. 🗸🗸
• The poor benefit more than those with higher incomes. 🗸🗸

Wealth taxes

• Properties are levied (taxed) according to their market values. 🗸🗸
• Transfer duties are paid when properties are bought. 🗸🗸
• Securities (shares and bonds) are taxed when traded. 🗸🗸
• Capital gains tax is levied on gains on the sale of capital goods (e.g. properties, shares). 🗸🗸
• Estate duties are paid on the estates of the deceased. 🗸🗸
• These taxes are used to finance development expenditures which benefit the poor more  often. 🗸🗸

Cash benefits

• Old age pensions, disability grants, child support and unemployment insurance are cash grants. These are also known as social security payments. 🗸🗸
• Benefits in kind (natura benefits) 🗸🗸
• These include the provision of healthcare, education, school meals, protection etc. 🗸🗸
• When user fees are charged, poor or low income earners pay less or nothing. 🗸🗸
• Limited quantities of free electricity and water are provided. 🗸🗸

Other redistribution

• Public works programmes, e.g. the Strategic Integrated Projects (SIP) provides employment subsidies and other cash and financial benefits such as training, financing and export incentives.🗸🗸

Land restitution and land redistribution

• Land restitution is the return of land to those that have lost it due to discriminatory laws in the  past. 🗸🗸
• Land redistribution focuses on land for residential (town) and production (farm) for previously disadvantaged groups. 🗸🗸
• The money for these programmes is provided in the main budget. 🗸🗸

Subsidies on properties

• It helps people to acquire ownership of fixed residential properties. 🗸🗸
• E.g. government’s housing subsidy scheme provides funding to all people earning less than  R3 500 per month🗸🗸

CONCLUSION The demand-side approach focuses on the expansion of the demand for goods and services produced in the economy. 🗸🗸 OR To ensure economic growth, there should be an adequate and growing demand for goods and services produced in the economy. 🗸🗸

[Any other relevant higher order conclusion] [Max 2]

INTRODUCTION Different growth and development strategies have been implemented in South Africa since 1994, each aimed at addressing particular needs at the time of introduction. 🗸🗸 [Any other relevant introduction] [Max 2]

BODY-MAIN PART The Reconstruction and Development Programme (RDP)

• The RDP was an integrated, coherent socio-economic policy framework that was implemented directly after our first democratic elections in 1994. 🗸🗸
• It seeked to mobilise all our people and our country’s resources toward the final eradication of apartheid and the building of a democratic, non-racial and non-sexist future. 🗸🗸

The RDP was based on six principles.

• an integrated and sustainable programme. 🗸🗸
• a people-driven process focusing on the needs of the population. 🗸🗸
• peace and security for all, aimed at a non-violent society that respects all human rights. 🗸🗸
• nation-building, focusing on the needs of all members of society. 🗸🗸
• linking reconstruction and development. 🗸🗸
• The RDP consisted of many proposals, strategies and policy programmes.
• All of these could, however be grouped into five major policy programmes that were linked to each other.

The five key programmes were:

• meeting basic needs. 🗸🗸
• developing our human resources. 🗸🗸
• building the economy. 🗸🗸
• democratising the state and society. 🗸🗸
• implementing the RDP. 🗸🗸

The Growth, Employment and Redistribution Programme (GEAR)

• The GEAR built upon the strategic vision set out in the RDP, i.e. 🗸🗸
• The importance of all the objectives of the RDP was reaffirmed but it recognized the implementation and macroeconomic problems that the government had been experiencing in implementing the RDP. 🗸🗸
• The RDP placed much more emphasis on disciplined economic policy. 🗸🗸
• While still recognizing that there were very serious needs that had to be addressed. 🗸🗸

The Accelerated and Shared Growth Initiative for South Africa Programme (AsgiSA).

• AsgiSA resulted from government’s commitment to halve unemployment and poverty by 2014. 🗸🗸
• The Joint Initiative on Priority Skills Acquisition (Jipsa) was established to address the scarce and critical skills needed to meet AsgiSA’s objectives. 🗸🗸

AsgiSA identified six important factors that prevented growth:

• the relative volatility of the currency. 🗸🗸
• the cost, efficiency and capacity of the national logistics system. 🗸🗸
• shortages of suitably skilled labour, and the spatial distortions of apartheid affecting low-skilled labour costs. 🗸🗸
• barriers to entry, limits to competition and limited new investment opportunities. 🗸🗸
• the regulatory environment and the burden on small and medium enterprises (SME’s). 🗸🗸
• AsgiSA was not intended to be a government programme. 🗸🗸
• But rather a national initiative supported by all the key groups in the economy. 🗸🗸
• Namely business, labour, entrepreneurs and government and semi-government departments and institutions. 🗸🗸

Joint Initiative on Priority Skills Acquisitions (JIPSA)

• It is the skills development arm of ASGISA. Focus is on skills development, especially through the SETAS. 🗸🗸

Expanded Public Works Programme (EPWP)

• It is a nationwide government intervention to create employment using labour-intensive methods, and to give people skills they can use to find jobs when their work in the EPWP is done. 🗸🗸

The New Growth Path (NGP)

• The New Growth Path (NGP) was released in November 2011. 🗸🗸
• This plan is designed to serve as a framework for economic policy, and to be the driver of the country’s job strategy. 🗸🗸

The New Growth Path therefore proposes certain strategies to ensure adequate demand:

• Deepening the domestic and regional market by growing employment. 🗸🗸
• Increasing incomes and undertaking other measures to equity and income distribution. 🗸🗸
• Widening the market for South African goods and services through a stronger focus on exports to the region and other rapidly growing economies. 🗸🗸
• On a macroeconomic level the NGP entails accommodating or looser monetary policy combined with stricter fiscal policy to limit inflationary pressures and enhance competitiveness. 🗸🗸
• Government spending will be prioritised with the objective of long-term sustainable employment opportunities. 🗸🗸

The microeconomic measures to control inflationary pressures include the following:

• A competition policy to supervise monopoly pricing on products and services. 🗸🗸
• A review of administered prices to ensure that they do not increase above inflation without compelling reasons. 🗸🗸
• Interventions in the case of rapidly rising prices of essential products and services such as private🗸🗸
• Healthcare and basic food items. 🗸🗸
• Active industrial policy. 🗸🗸
• Rural development policy. 🗸🗸
• Competition policy. 🗸🗸
• Stepping up education and skills development. 🗸🗸
• Enterprise development: promoting small business and entrepreneurship; eliminating unnecessary red tape. 🗸🗸
• Broad-based Black Economic Empowerment (BBBEE). 🗸🗸
• Labour practices. 🗸🗸
• Technology policy. 🗸🗸
• Developmental trade policies. 🗸🗸
• Policies for African development. 🗸🗸 
• The different growth and development strategies that have been implemented in South Africa since 1994. 🗸🗸
• Have all contributed to making our country more prosperous and to address problems created by inequalities of the past. 🗸🗸
• However, problems such as a low level of education, unemployment and unequal distribution of income persist. 🗸🗸
• The current NGP is a comprehensive policy that is focused on addressing all of these problems. [Any other relevant higher order conclusion] [Max 2]

INTRODUCTION South Africa’s overall objective of Industrial Development Policy is to ensure international competitiveness in its nine provinces. OR Regional development is aimed at increasing the economic livelihood of specific areas or regions. OR Regional development attempts to limit the negative effects of economic activities in only a few areas. OR It attempts to promote the advantages of a more even regional development by using labour and other natural resources and infrastructure in neglected areas. [Accept any relevant introduction] [Max 2]

BODY-MAIN PART SPATIAL DEVELOPMENT INITIATIVES

• SDI Programme attracts infrastructure and business investments to underdeveloped areas to create employment. 🗸🗸
• Department of Trade and Industry is driving force behind industrial and spatial development. 🗸🗸
• DTI plans together with central, provincial and local government, IDC, parastatals and research institutions. 🗸🗸
• Industrial Development Policy Programme (Spatial Development) has 2 focus points spatial development initiative (SDI) and financial incentives. 🗸🗸
• SDI refers to government’s initiative and economic development potential of certain specific spatial locations in SA. 🗸🗸

Key Objectives:

• Stimulate economic activity in selected strategic locations. 🗸🗸
• Generate economic growth and foster sustainable industrial development. 🗸🗸
• Develop projects of infrastructure in certain areas and finance them through lending and private sector investment. 🗸🗸
• Establish private-public partnerships (PPP’s). 🗸🗸

In areas with high poverty and unemployment, SDI focuses on:

• High level support in areas where socio-economic conditions require concentrated government assistance. 🗸🗸
• Where inherent economic potential exists. 🗸🗸
• The approach is towards international competitiveness, regional cooperation and a more diversified ownership base. 🗸🗸

Some of the main focus points of the SDI Programme are:

• Lubombo Corridor (agro-tourism, education, craft, commercial and agricultural sectors); 🗸🗸
• KwaZulu-Natal (Ports of Durban and Richards Bay); 🗸🗸
• West Coast SDI (fishing and industrial ports); 🗸🗸
• Coast-2-Coast Corridor with agro-tourism. 🗸🗸
• It also makes it possible for private sector businesses to take advantage of the economic potential of underdeveloped areas in private-public partnerships (PPP’s) 🗸🗸
• In PPP a private business may provide the capital to build the factory and to buy raw materials and employ labour, while the government provides the capital for the infrastructure such as roads and water and electricity. 🗸🗸
• The business benefits from profits and the government benefits from taxes, levies and employment opportunities. 🗸🗸

There are TWO types of PPP’s which are compensated differently: Unitary payments:

• Private sector builds and runs a project (it performs the function on behalf of the public sector); the payment provides an acceptable return on the total investment (building cost, maintenance, operational expenses). 🗸🗸
• Private sector constructs the project and then is given the right to change a toll fee (e.g. public road); 🗸🗸
• The toll covers costs of construction, maintenance, operation. 🗸🗸
• The above options can be combined: E.g. hospital (cost of building is an annual payment and a user fee is also charged). 🗸🗸
• A track of land that forms a passageway allowing access from one area to another and particular advantages to mining, manufacturing and other businesses. 🗸🗸
• Domestic Corridor: e.g. Lubombo, West Coast, Fish River. 🗸🗸
• Corridors beyond the South African Borders (SADC) e.g. Maputo Development Corridor Mozambique. 🗸🗸
• Reasons in support of South Africa’s regional integration in Southern Africa: have political and stable neighbours have important export markets and a future source of water and energy supplies integration may be a precondition for support from foreign investors, donors and multilateral institutions. 🗸🗸
• A robust regional transport system and a solid infrastructure base hold the key to attracting investment into the SADC region – improving competitiveness and promoting trade. 🗸🗸

Advantages from Corridor development:

• Greater levels of economic efficiency and productivity compact urban form corridor urban form. 🗸🗸
• Corridor developments will often occur due to private investment. 🗸🗸
• Intergration of land use and transport planning will lead to generally efficient integration. 🗸🗸
• Efficient urbanisation leads to efficient use of land and promotion of an efficient transport system. 🗸🗸

INDUSTRIAL DEVELOPMENT ZONES (IDZ’s)

• Geographically designed, purpose-built industrial sites providing services tailored for export- orientated industries. 🗸🗸
• Physically enclosed and linked to an international port or airport. 🗸🗸
• Specifically designed to attract new investment in export-driven industries. 🗸🗸
• Falls outside domestic customs zones and able to import items free of customs and trade restrictions, add value and then export their goods. 🗸🗸
• Development and management done by private sector. 🗸🗸
• Government IDZ policy designed to boost exports and jobs. 🗸🗸
• IDZ’s aim to encourage economic growth –attract foreign investment in industrial development – facilitate international competitiveness regarding manufacturing. 🗸🗸 [Max 26]

ADDITIONAL PART FINANCIAL INCENTIVES Small and Medium Enterprise Development Programme (SMEDP) • This incentive has provided a tax-free cash grant for investment in industries in

• South Africa. 🗸🗸
• E.g. manufacturing, agricultural, processing, aquaculture and tourism. 🗸🗸

Critical Infrastructure Fund Programme (CIF)

• A tax-free cash grant incentive for projects has improved critical infrastructure in  South Africa. 🗸🗸
• E.g. for installation, construction of infrastructure, payment of employees, materials directly consumed during installation. 🗸🗸

Duty Free Incentives (for businesses operating in the IDZ’s)

• This has encouraged export-orientated manufacturing to increase their competitiveness 🗸🗸
• And helped to promote foreign and local direct investment. 🗸🗸

Foreign Investment Grant (FIG)

• This has assisted foreign investors to invest in new manufacturing businesses in SA. 🗸🗸
• Benefited in terms of the cost of relocating new machinery and equipment from abroad. 🗸🗸

Strategic Investment Projects (SIP)

• This has attracted investment from local and foreign entrepreneurs in manufacturing, computer, research and engineering sectors. 🗸🗸

Skills Support Programme (SIP)

• This cash grant for skills development has encouraged greater investment 🗸🗸
• In training in general and stimulated the development of new advanced skills. 🗸🗸

Black Businesses Supplier Development Programme (BBSDP)

• This 80 % cash grant has provided black-owned enterprises with access to 🗸🗸
• Training which has improved management of their enterprises. 🗸🗸

Special Economic Zones (SEZ)

• It is an extention to the current financial incetives to further promoted regional development. 🗸🗸
• The major incentive is a tax reduction of 15 % for businesses settling in this area. 🗸🗸
• This does not mean that existing businesses in the IDZ can relocate to take advantage of this incentive. 🗸🗸
• If a current business in the IDZ wants to expand they are allowed. 🗸🗸 [Max 10]

CONCLUSION From the above discussion it is clear that different initiatives form part of South Africa’s Regional Industrial Development Programme. [Max 2]

INTRODUCTION Economic indicators are used to evaluate the economic performance of an economic unit. This unit can be a company, an industry, a country or a region. Macro-economic indicators, measures the economic performance of a country as a whole. 🗸🗸

BODY-MAIN PART Such indicators can provide an indication of:

• Changes taking place in a country. 🗸🗸
• How a country compares to other countries. 🗸🗸

Inflation Rate

• This is the general increase in the price level of goods and services in the economy over a certain period in time. E.g. one year. 🗸🗸
• This is therefore an indicator of the health of the economy and it is monitored in two ways that is at the production wholesale level producer price level (PPI) and at the retail or consumer level consumer price index (CPI) 🗸🗸

The Consumer Price Index (CPI)

• Shows the price increases of a representative (weighted) basket of goods and services that consumers buy. 🗸🗸
• It is abbreviated as CPI this cover all the urban areas. 🗸🗸
• It is an overall index and weights are obtained from expenditures of different income categories of households. 🗸🗸
• It is the most comprehensive indicator measuring consumer inflation in the country. 🗸🗸
• It shows changes in the general purchasing power of the rand and it is used for inflation targeting 🗸🗸
• Is compiled by Stats SA and measures the change in the price level of a basket of consumer goods and services. 🗸🗸
• The goods and services included in the basket are chosen to represent the goods and services purchased by an average household. 🗸🗸
• This basket is adjusted from time to time as consumption patterns change. 🗸🗸
• The inflation rate is the percentage change in the CPI from the previous year and can be calculated as follows:
• Change in CPI x 100 🗸🗸        CPI

The Production Price Index (PPI)

• Used to measure the price of goods that are produced domestically when they leave the factory year. 🗸🗸
• The goods that are imported when they enter the country (at a port) and both of these are before consumers become involved. 🗸🗸
• PPI consists of three baskets that are domestically manufactured outputs, e.g. changes in the PPI can be made monthly or quarterly or yearly. 🗸🗸
• While changes in the imported products and exported commodities are given separately in the same report. 🗸🗸
• PPI includes capital and intermediate goods but not services. 🗸🗸
• It is based on a completely different type of a basket of items in the CPI. 🗸🗸
• It measures the cost of production rather than the cost of living. 🗸🗸
• It is used to predict consumer goods inflation (CPI) 🗸🗸
• Which is also estimated and published on a monthly basis by Stats SA, is similar to the CPI, 🗸🗸
• Except that it also includes the prices of raw materials and intermediary goods 🗸🗸 (i.e. goods that will be finished in the production process), excludes VAT and excludes  services. 🗸🗸
• Manufactured goods included in the PPI are priced when they leave the factory, not when they are sold to consumers. 🗸🗸
• Unlike the CPI, the PPI therefore cannot be related directly to consumers’ living standards. 🗸🗸
• The PPI is nevertheless very useful in the analysis of inflation because it measures the cost of production. 🗸🗸
• A significant change in the rate of increase in the PPI is usually an indication that the rate of increase in the CPI will also change a few months later. 🗸🗸

The GDP Deflator Is a ratio that indicates the relationship of the GDP at nominal prices to the GDP at real prices. GDP deflator = Normal GDP x 100 🗸🗸                            Real GDP 

Nominal GDP

• Is the value of total gross domestic product measured at current prices. 🗸🗸
• While the real GDP is the value of total gross domestic product measured at constant prices.🗸🗸
• So, the GDP deflator includes changes in the prices of exports but not of imports. 🗸🗸
• In a small open economy, like that of South Africa where both, imports and exports are significant in relation to the total size of the economy. 🗸🗸
• The exclusion of import prices is an important shortcoming. 🗸🗸

Unemployment rate

• In terms of economic development, employment is a very important indicator. 🗸🗸
• Employment is, however, not very easy to measure as so many people are employed in the informal sector which is not recorded. 🗸🗸
• The concept of underemployment is also important. 🗸🗸
• This is when someone is employed in a position that requires less skill than their ability. 🗸🗸
• For example when a qualified accountant works as a delivery person because he or she cannot find employment as an accountant. 🗸🗸
• Someone may also be employed on a part-time basis but would prefer to work full time. 🗸🗸
• A labour force survey is published quarterly by Stats SA. 🗸🗸
• This publication contains information and statistics concerning a variety of issues related to the labour market, including the official unemployment rate. 🗸🗸
• It is a comprehensive survey and provides information on changes in employment in different provinces and industries. 🗸🗸
• Employment in the informal sector, and even reasons for changes in employment figures. 🗸🗸
• The unemployment rate is a percentage of the total labour force. 🗸🗸
• The total labour force includes all employed people and unemployed people who are looking for work. 🗸🗸
• The unemployment rate is a lagging indicator, which means that it will only change a few periods after the trend in the economy has changed. 🗸🗸
• For example if the economy starts growing at a faster pace. 🗸🗸
• The unemployment rate will only react to the growth after two or three quarters. 🗸🗸

Interest rates

• Interest rates are important indicators of future economic activity, as the interest rate level is usually an important determinant when economic decisions are being taken. 🗸🗸
• Both the general interest rate level and the structure of interest rates are important indicators.🗸🗸
• There are many interest rates in the economy. 🗸🗸
• Some are short term rates, such as the repo rate, which is the interest rates at which South Africa banks borrow from the Reserve Bank to finance their liquidity deficit. 🗸🗸
• The difference between the short term interest rates and long term interest rates: 🗸🗸
• Is called the interest rate spread and the term structure of interest rates provides an indication of the interest rates levels on loans or investments of different maturities. 🗸🗸
• Usually we can expect the interest rates level in a developing country to be higher than the interest rate in a developed economy. 🗸🗸
• This is due to the higher risk attached to the developing economy. 🗸🗸
• Factors such as political and economic uncertainty cause this higher risk. 🗸🗸
• Developing economies also need to attract foreign investment to their country  to finance growth. 🗸🗸
• Investors’ funds will move towards the highest yield and thereof. 🗸🗸
• Developing countries cannot allow interest rates in their countries to become too low. 🗸🗸

Money Supply

• The increase in the M3 money supply is an important economic indicator. 🗸🗸
• If M, the money supply increases, this means that either (P) prices or Y (output) has to respond to the increase in M. 🗸🗸
• Therefore, an increase in the money supply is an important indicator showing that output will increase. 🗸🗸
• Whether this will translate to an increase in real production or the price level will depend on factors like production within the economy. 🗸🗸
• In addition to economic growth the employment of people of working age (15 -64 years) is a majot economic objective. 🗸🗸
• We need to know more than this; we need to know who the people are that need to be employed. 🗸🗸
• The numbers are determined, not only by age, but also by people’s willingness to work. 🗸🗸

The Economically Active Population (EAP)

• The EAP is also known as the labour force. 🗸🗸
• It consists of people between the age of 15 and 64 who are willing to work for income in cash or in kind and includes: 🗸🗸
• Workers in the formal sector- workers in the informal sector. 🗸🗸
• Employers any one 🗸🗸
• Self employed persons. 🗸🗸

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Unemployed Persons

• The 2021 estimate of the South African population was million people. 🗸🗸
• The EAP numbered million ( % of the population). 🗸🗸

The Employment Rate

• The number of employed persons expressed as a percentage of the EAP gives the employment rate. 🗸🗸
• The employment rate can also be converted into an index. 🗸🗸
• The SA employment rate was % in 2011. 🗸🗸
• This is low, compared to rates in developed and even some developing countries such as Argentina and Pakistan. 🗸🗸
•  In SA the growth in the economy is not accompanied by the similar growth in employment numbers. 🗸🗸

Employment indicators are used for:

• To calculate trends in employment in different sectors or industries. 🗸🗸
• This indicates structural changes in the economy. 🗸🗸
• To calculate productivity. 🗸🗸
• To show the success of the economy in utilizing its full potential. 🗸🗸

Unemployment Rate

• Statistics SA (SSA) obtains its labour data each year from Quarterly Labour Surveys  (QLFS). 🗸🗸
• It uses the standard definition of the International Labour Office (ILO) to calculate unemployment. 🗸🗸
• The strict definition of unemployment is used to calculate the unemployment rate. 🗸🗸
• Did not work during the seven days prior to the interview. 🗸🗸
• Want to work and are available to start work within a week of the week of the interview. 🗸🗸
• Have taken active steps to look for work or to start some form of self-employment in four week prior to the interview. 🗸🗸
• In SA the official unemployment rate was % in 2021. 🗸🗸
• In developed countries, change in the unemployment rate trigger responses. 🗸🗸
• From governments to fine-tune the economy. 🗸🗸
• Increases require more funds for unemployment insurance (UIF) drawings. 🗸🗸
• In developing countries, unemployment is the most important cause of poverty. 🗸🗸 [Accept current statistical data] [Max 16]
• To give a policy direction in the country. 🗸🗸
• To develop mechanism to caution the most affected sectors of the economy promptly
• e.g.during the 2019-2020 recession/pandemic some companies required a bail out from the government. 🗸🗸
• Develop some economic stabilisers to defuse the huge impact that may result from the unexpected economic downturn. 🗸🗸
• Open some other alternative markets for their goods and services. 🗸🗸
• To do research and advice the business community before the actual moment hits. 🗸🗸
• It can be used to stimulate thinking and growth in a number of sectors in the Economy. 🗸🗸 [Accept any relevant consideration] [Max 10]

CONCLUSION Countries cannot survive and grow their economies if they do not pay attention to economic indicators for their planning processes. [Accept any relevant consideration] [Max 2]

INTRODUCTION Social indicators also called human development indicators as they promote improvement in the standard of living. 🗸🗸 [Any other relevant definition] [Max 2]

BODY-MAIN PART Demographics

• This is the description of the physical population and its composition.
• To get this a census is done regularly to obtain this information. 🗸🗸

Human development Index (HDI)

•  This is a measure of people’s ability to live long and healthy lives, to communicate, 🗸🗸
•  To participate in the community and to have sufficient income to experience a decent lifestyle. 🗸🗸

Human poverty index (HPI)

•  It measures life expectancy is measured by the percentage of newborns not expected to survive to age 40. 🗸🗸
•  Lack of education is measured by the percentage of adults who are ill- educated. 🗸🗸

Health and nutrition

• Life expectancy birth. 🗸🗸
• Infant mortality rate. 🗸🗸

Nutrition indicators

• Daily calorie intake per person. 🗸🗸
• The number of children who go hungry. 🗸🗸
• These measures are important to government as they are supplying healthcare and sometime have to include legislation such as adding vitamin A to basic foodstuffs such as bread. 🗸🗸
• The standard of living of people is directly connected to their education. 🗸🗸
• Educated people are employable and can earn an income and provide for their own wants and needs. 🗸🗸

Two important measures are:

• Secondary enrolment percemtage-how many children that start Grade 1 get to Grade 8 and finish Grade 12. 🗸🗸
• Adult literacy- People over the age of 15 that can read and write. 🗸🗸
• A large percentage of the annual budget is allocated to education. 🗸🗸
• Because of our constitution certain basic services must be supplied by the government. 🗸🗸
• These services have a direct effect on people’s living standards. 🗸🗸
• Electricity 🗸🗸
• Refuse disposal🗸🗸
• Water supply🗸🗸
• Sanitation🗸🗸

Housing and urbanisation

• Urbanisation the process by which an increasing proportion of a country’s population is concentrated in its urban areas as a result of natural increase and migration from rural areas. 🗸🗸
• This measures is important as more people come to live in urban areas the greater the demand for housing, services, education, health care etc. 🗸🗸
• Housing the percentage of the population living in a permanent dwelling or house. 🗸🗸
• The government issue housing subsidies to help poor people to own a house South African citizens or permanent residents earning R3 500 or less a month could apply for this subsidy. 🗸🗸

International comparisons

• Figures collected by the World Bank, International Monetary Fund (IMF) and United Nations provide the best data for comparison purpose. 🗸🗸

Other measures used:

• Purchasing power parity (PPP) The number of units of one country’s currency that give the holder the same purchasing power as one unit of another country’s currency. 🗸🗸
• The Big Mac Index, The index is based on the price of the Big Mac around the world as compared to its price in the United States. 🗸🗸 [Max 40]

CONCLUSION From the above discussion it is clear that social indicators play a significant role in South Africa. It is, therefore, of the utmost importance that we should study their uses in depth. [Max 2]

MICROECONOMICS-PAPER 2

INTRODUCTION A perfect market is a market structure which has a large number of buyers and sellers.  OR The market price is determined by the industry (demand and supply curves).  OR This means that individual businesses are price takers, i.e. they are not able to influence prices. OR Perfect competition is an imaginary situation, whereas monopolistic competition is a reality. 🗸🗸 [Accept any other relevant introduction] [Max 2] 

BODY-MAIN PART

• The indicating of the equilibrium positions on the perfect market structure is of utmost importance because from this point where MC = MR
• The dotted lines will be drawn to show economic profit or economics loss. 
• Where the dotted lines intersect the AC and AR curves either normal profit or economic profit or economic loss will be indicated and shadowed.

Mark allocation for graph:

• Position / shape of MC curve = 1 mark
• MR curve = 1 mark
• Position / shape of AC curve = 2 marks
• Equilibrium point = 1 mark
• Indication of price / quantity = 1 mark
• Shading of economic loss = 2 marks MAX MARKS = (8)

Allocate marks on the graph according to the rubric provided and if facts are duplicated again in writing, do not allocate marks. Max of 8 marks.

• Equilibrium is at E 1 i.e. where MC = MR 
• At this point Q 1 goods are produced at a price of P 1  
• The averages cost for Q 1 units is point R on the AC curve 
• Price / AR is greater than AC ( TR > TC)
• Therefore economic profit is represented by the area P 1 SRE 1  
• Equilibrium is at E 1 i.e. where MC = MR
• At equilibrium (point E 1 ) average cost is equal to price 
• The AC curve is tangent to the demand curve which means that P/AR = AC (TR = TC) 
• The business makes normal profit which is the minimum earnings required to prevent the entrepreneur from leaving the industry. 
• Equilibrium is at E1, i.e. where MC = MR 
• At this point Q1 goods are produced at a price of P1 
• At equilibrium (point E1) price/AR is less than average cost/the AC curve is lies above the demand curve which means that P/AR < AC (TR < TC) 
• The business makes an economic loss A maximum of 24 marks will be allocated for graph illustration and analysis: 8 marks max per graph illustration - (Max 26 marks)

ADDITIONAL PART CONDITIONS For a market to successfully operate under perfect competition, the following conditions should prevail at the same time:

• No firm can influence the market price (price takers) due to a large number of buyers and sellers 
• Products are identical (homogeneous) 
• There are no barriers of entry, meaning that there is freedom of entry and exit 
• Buyers and sellers act independently - no collusion between sellers 
• No government interference to influence the market – the market is unregulated 
• Free movement between markets - all factors of production are completely mobile 
• Both buyers and sellers have full knowledge of all the prevailing market conditions (perfect information) 
• If any of the above conditions are not met, the market is regarded as an imperfect market Any 5 x 2 = [Max 10 marks]

CONCLUSION Freedom of entry and exit into the perfect market alter the supply of goods on the market. This will result in changes in price which influences the profit or loss of a business.  If price falls to a level where it is equal to the AVC then the firm will shut-down.  [Max 2] Discuss the monopoly in detail (with/without the aid of graphs) (Imperfect Market)

INTRODUCTION A firm is regarded as a monopolist when it owns or controls the total supply of a scarce factor of production. Monopoly is a market structure where only one seller operates. 🗸🗸

BODY: MAIN PART The characteristics of a monopoly

Number of firms

• The monopoly consists out of one single firm. 🗸🗸
• The monopoly is also the industry. 🗸🗸
• Example: Eskom or De Beers – diamond-selling 🗸🗸 [Accept any other relevant example]

Nature of product

• The product is unique with no close substitute. 🗸🗸
• Example: Diamonds are unique. 🗸🗸

Market entry

• Refers to how easy or difficult it is for businesses to enter or to leave the market 🗸🗸
• Is entirely/completely blocked. 🗸🗸
• Economies of scale 🗸🗸
• Limited size of the market 🗸🗸
• Exclusive ownership of raw materials 🗸🗸
• Licensing 🗸🗸
• Sole rights 🗸🗸
• Import restrictions 🗸🗸

They decide on their production level

• The monopolist cannot set the level of output and the price independently of each other. 🗸🗸
• If a monopolist wants to charge a higher price, it has to sell fewer units of goods. 🗸🗸 Alternatively, a reduction in price will result in a higher output sold. 🗸🗸
• A monopolist is confronted with a normal market demand curve 🗸🗸
• The demand curve slopes downwards from left to right 🗸🗸
• Any point on the monopolist’s demand curve (D) is an indication of the quantity of the product that can be sold and the price at which it will trade. 🗸🗸

They are exposed to market forces

• Consumers have limited budgets and a monopoly can therefore not demand excessive prices for its product. 🗸🗸
• The monopolist’s product has to compete for the consumer’s favour and money with all other products available in the economy. 🗸🗸

They face substitutes

• There are few products that have no close substitutes. 🗸🗸
• For example, cell phones can compete with telephone services. 🗸🗸

They may enjoy favourable circumstances

• Sometimes an entrepreneur may enjoy favourable circumstances in a certain geographical area. 🗸🗸
• For example, there may be only one supplier of milk in a particular town. 🗸🗸

They may exploit consumers

• Because a monopolist is the only supplier of a product, there is always the possibility of consumer exploitation. 🗸🗸
• However, most governments continually take steps to guard against such practices. 🗸🗸

Market Information

• All information on market conditions is available to both buyers and sellers. 🗸🗸
• This means that there are no uncertainties. 🗸🗸

Control over price

• In the case of a monopoly there are considerable price control, but limited by market demand and the goal of profit maximisation. 🗸🗸

Long-run economic profit Can be positive

• Because new entries are blocked and short-run economic profit therefore cannot be reduced by new competing firms entering the industry 🗸🗸
• The monopoly can thus continue to earn economic profit as long as the demand for its product remains intact 🗸🗸

Heading = 1 mark AC = 1 mark DD/AR = 1 mark MC = 1 mark Profit maximisation point =1 mark Labelling of the axis = 1 mark Labelling on the axis = 1 mark

Long run equilibrium of a perfect competitor

CONCLUSION A monopoly does not always make economic profit in the short run; it can also make economic loss in the short run if the total cost exceeds total revenue. 🗸🗸

INTRODUCTION

• The oligopoly is a type of imperfect market in which only a few large producers dominate the market. 🗸🗸 [Accept any other relevant and correct response]

MAIN PART Nature of product

• The product may be homogeneous in a pure oligopoly. 🗸🗸
• If the product is differentiated, it is known as a differentiated oligopoly. 🗸🗸

Market information

• There is incomplete information on the product and the prices. 🗸🗸
•  Market entry is not easy, it is limited in the sense that huge capital outlay might be necessary. 🗸🗸
• Oligopolists have considerable control over price, it can influence price, but not as much as the monopolist. 🗸🗸
• Oligopolies can frequently change their prices in order to increase their market share and this result in price wars. 🗸🗸

Mutual dependence

• The decision of one firm will influence and be influenced by the decisions of the other competitors. 🗸🗸
• Mutual dependence (interdependence) exists amongst these businesses.
• A change in the price or change in the market share by one firm is reflected in the sales of the others. 🗸🗸

Non-price competition

• Non - price competition can be through advertising, packaging, after-sales services. 🗸🗸
• Since price competition can result in destructive price wars, oligopolies prefer to compete on a different basis. 🗸🗸
• Participants observe one another carefully- when one oligopolist launches an advertising campaign, its competitors soon follow suite. 🗸🗸
• If oligopolies operate as a cartel, firms have an absolute cost advantage over the rest of the other competitors in the industry. 🗸🗸
• Collusion is a strategy used by firms to eliminate competition amongst each other. 🗸🗸
• It can be in a form of overt collusion where firms can work together to form a cartel and tacit collusion where a dominating business controls the price. 🗸🗸

Limited competition

• There are only a few suppliers manufacturing the same product. 🗸🗸

Economic profit

• Oligopolies can make an economic profit over the long term. 🗸🗸
• Abnormal profits may result to joint decision-making in an oligopoly. 🗸🗸

Demand curve

• Slope from left down to the right. 🗸🗸
• It is known as the kinked demand since it contains the upper relatively elastic slope and the lower relatively inelastic slope. 🗸🗸 [Accept any other relevant and correct response] [Max. 26]

ADDITIONAL PART Oligopolist may increase their market share using non-price competition strategies by:

• branding their product to create an impression that its product is for a particular age group or income group. 🗸🗸
• aggressive advertising which inform customers about the business or product it provides.🗸🗸
• Using appealing packaging to bring out important features of their product.
• improving their customer service in order to ensure that they return to their businesses.🗸🗸
• providing relevant and precise information, which is crucial to the customers, since there are competitors in the market, customers will patronize the businesses that provides relevant information. 🗸🗸
• extending shopping hours to the convenience of customers.
• Offering loyalty rewards to customers which will encourage their return to spend accumulated rewards. 🗸🗸  [Accept any other relevant response] [Max.10]
• In South Africa, oligopolists have been found to be illegally manipulating prices to their benefit, yet to the detriment of consumers and have been penalized for such action. 🗸🗸 [Accept any other relevant response]

Compare and contrast any TWO types of market structures (perfect to imperfect/imperfect to imperfect) in detail in terms of the following. - Number of businesses - Nature of product - Entrance - Control over prices - Information - Examples - Demand curve - Economic profit/loss - Decision-making - Collusion - Productive/Technical efficiency - Allocative efficiency (Perfect Market and Imperfect Market)

‘’Market structures are classified under Perfect Competition, Monopolistic Competition, Oligopoly and Monopoly’’ Compare all FOUR market structures in a tabular form. NB: Learners should write in full sentences even if the comparison is done in a tabular format). (Marks depend on the combination of market structures to be examined)

PLEASE NOTE: THE ABOVE TABLE SHOULD BE VERBALLY WRITTEN AS PER ESSAY INSTRUCTION

INTRODUCTION Market failure is when the forces of supply and demand fail to allocate resources efficiently / when markets fail to allocate goods and services efficiently. 🗸🗸 [Accept any other correct introduction] [Max 2]

BODY: MAIN PART                           

1. Missing Markets

• Markets are often incomplete in the sense that they cannot meet the demand for certain goods. 🗸🗸
• Public goods:
• They are not provided by the price mechanism because producers cannot withhold the goods from non-payment and there is often no way of measuring how much a person consumes. 🗸🗸

Public goods have the following features: Non-rivalry:

• The consumption by one person does not reduce the consumption of another person e.g. a lighthouse. 🗸🗸

Non-excludability:

• Consumption cannot be confined to those who have paid, so there are free riders e.g. radio and TV in South Africa. 🗸🗸

Merit goods

• These are goods/services that are deemed necessary or beneficial to the society, e.g. education, health care etc. 🗸🗸
• These goods are highly desirable for general welfare but not highly rated by the market, therefore provide inadequate output/supply. 🗸🗸
• If people had to pay market prices for them relatively too little would be consumed – the market will fail. 🗸🗸
• The reason for undersupply of merit goods is that the market only takes the private costs and benefits into account and not the social costs and benefits. 🗸🗸

Demerit goods

• These are goods/services that are regarded as bad or harmful for consumption hence we should use less of these e.g. alcohol, cigarettes, etc. 🗸🗸
• Demerit goods lead to a lot of social costs, therefore, the government charges sin tax / excise duties to discourage the consumption of such goods. 🗸🗸
• While the market is willing to supply demerit goods, it tends to oversupply demerit goods. 🗸🗸
• Some consumers may be unaware of the true cost of consuming them. 🗸🗸

2 Lack of information

• Technical and allocative efficiency require that both producers and consumers have complete and accurate information about the costs and benefits of the goods and services produced and consumed in the market. Producers and consumers make production and consumption decisions based on the information they have. 🗸🗸
• When information is incomplete or inaccurate, it leads to wrong decisions about what to produce, how to produce and for whom to produce, and a waste of resources occurs. 🗸🗸
• Producers might not know all the different technologies and production techniques that are available and the different resources that can best be used to produce goods/services more efficiently. 🗸🗸
• Consumers might not know that the price of a product is lower from some other suppliers or about the harmful effects of a product since they might just base their decisions to consume on the information from a misleading suppliers. 🗸🗸

3. Immobility of factors of production

• Markets do not respond to changes in consumer demand if resources cannot be easily reallocated or due to a lack of information🗸🗸
• Labour takes time to move to into new occupations and geographically to meet the changes in consumer demand. 🗸🗸
• Physical capital e.g. equipment, buildings, land and raw materials can only move from one place to another at a high cost, but cannot be moved to fit a change in demand. 🗸🗸
• Technological applications change production methods e.g. use of robots rather than physical labour. It takes time for most industries to adapt. 🗸🗸
• With greater technological change there is an increasing need for workers to become flexible, to update skills, change employment, occupations and work patterns. 🗸🗸 [Max 26]
• Motivate why government has implemented a national minimum wage in the labour market. 🗸🗸
• Pressure was put on the South African government to introduce labour laws which require employers to pay minimum wages. 🗸🗸
• The application of minimum wage laws is needed to improve a redistribution of income. 🗸🗸

The main objectives were:

• To redress inequality (Gap between wealthy and poor) 🗸🗸
• To improve the standard of living. 🗸🗸
•  Government tried to protect domestic workers and farm workers — thus preventing exploitation. 🗸🗸  [Max 10] [Accept any other correct relevant response]

CONCLUSION Governments intervene in the market when market forces cannot achieve the desired output. [Max 2] [Accept any other relevant conclusion]

INTRODUCTION The purpose of government intervention is to ensure that the right quantity of resources is allocated to the production of output so that society as a whole [Accept any other relevant introduction] [Max 2] maximizes its benefits. 🗸🗸

• Sometimes government will set the price of a good or service at a maximum level that is  below the market price 🗸🗸
• The government intervene and passes a law that suppliers may not charge more than the maximum price 🗸🗸
• The immediate effect is that quantity supply will drop 🗸🗸
• The original market equilibrium price and quantity is P and Q respectively 🗸🗸
• The price set by the government is P1, at this price the demand will increase to Q1 and the supply will decrease to Q2 🗸🗸
• The difference between Q1 and Q2 is the shortfall that will be created on the market 🗸🗸
• The shortage caused by the price ceiling creates a problem of how to allocate the good since the demand has increased 🗸🗸
• Black markets start to develop [Mark allocation: Graph 6 and discussion max. 10 marks]
• The appropriate way to intervene in the market by government is by levying taxes as a method to recover external cost 🗸🗸
• The original market equilibrium at e, with P as the equilibrium price and Q as the equilibrium quantity 🗸🗸
• The tax increase will shift the supply curve to the left 🗸🗸
• New equilibrium at E1 🗸🗸
• A tax would raise the price from P to P1 🗸🗸
• The production will decrease from Q to Q1 🗸🗸 [Mark allocation: Graph total 6 marks and discussion max 10 marks]
• Explain the supply of undesirable goods in South Africa and how the government can deal with it. 🗸🗸
• Items such as cigarettes, alcohol and non-prescription drugs are examples of demerit or undesirable goods. 🗸🗸
• These goods are often over supplied in the market, due to the fact that the external cost is not added to the market price. 🗸🗸
• Some consumers may be unaware of the true cost of consuming them, their negative externalities. 🗸🗸
• Government can ban their consumption or reduce it by means of taxation. 🗸🗸
• Taxation on these products will increase the market price and hopefully the demand for these products will drop. 🗸🗸 [10 marks] [Accept any other correct relevant response]

CONCLUSION The intervention of government ensures that inefficiencies is eliminated and that the market is operating effectively 🗸🗸 [Accept any other relevant conclusion] [Max 2]

CONTEMPORARY ECONOMIC ISSUES-PAPER 2

• This is a constant and significant increase in the general price level of goods and services in the country over a certain period of time, e.g. a year. 🗸🗸 [Max 2] [Accept any relevant introduction]

BODY-MAIN PART Creditors and Debtors

• Whereas borrowers (debtors) benefit from price increases, lenders (creditors) suffer due to price increases. 🗸🗸
• This is because borrowers receive money with a relatively high purchasing power and they repay their loans with money with low purchasing power, unless interest rates are sufficient to prevent this occurrence. 🗸🗸

Salary and Wage Earners

• Price increases affect people whose incomes are relatively fixed (in other words, people whose incomes remains constant or do not increase at the same rate as prices do. 🗸🗸
• This group includes retired people, pensioners and the poor. 🗸🗸
• As prices increase, their almost fixed incomes purchase less and less. 🗸🗸
• However there are individuals and entrepreneurs whose incomes often increase at a rate that is higher than the inflation rate and they do not suffer but gain from inflation. 🗸🗸
• Globalization results in increased employment opportunities in the economy due to increased productivity, the need to produce more goods both for local and international markets rises in globalised economies. 🗸🗸
• The demand for increased skilled labour becomes a need as a result, this demand for labour benefits the local labour market in increased employment opportunities and growth. 🗸🗸

Investors and Savers

• Different types of investments are affected by inflation: Assets with fixed nominal values. 🗸🗸
• These assets have a fixed nominal value and give a return if they are held until maturity. 🗸🗸
• When they are paid, because their nominal values remain constant, the purchasing power of the nominal values decreases as prices increase (that is, their real value decreases). 🗸🗸

Assets with Flexible Market Values

• The holders of shares and fixed property usually gain by price increases because the nominal values of these assets tend to increase at least proportionately to the rate of inflation (that is, their market values are flexible). 🗸🗸
• Often the prices of these assets increase more rapidly than increases in the general price level.🗸🗸
• In this case, inflation creates wealth to the advantage of those holding such assets. 🗸🗸
• South Africa has a progressive personal income tax system. 🗸🗸
• This means that marginal and average tax rates increase in harmony with the income level. 🗸🗸
• The higher level an individual’s income, the greater the percentage of income he or she has to pay tax. 🗸🗸
• With inflation, taxpayers’ nominal income (wages and salaries) rise even when their real income remain unchanged. 🗸🗸

Taxes are levied on nominal income and not on real income.

• Therefore if the income tax schedule remains unchanged inflation increases the average rate of personal income tax. 🗸🗸
• Individuals will have to pay higher taxes even if they are actually no better off than before. 🗸🗸
• This phenomenon known as bracket creep, lads to a redistribution of income from taxpayers to the government. 🗸🗸
• Bracket deep results from a combination of inflation and progressive income tax. 🗸🗸
• It has the same effect as an increase in the tax rate. 🗸🗸

Industrial Peace

• Wage bargaining is often accompanied by strikes and mass action. 🗸🗸
• These actions can sometimes spill over into violence, which affects society at large. 🗸🗸
• In extreme situations in the presence of exceptionally high inflation together with a government that is determined not to yield to wage increase demands (which can push inflation to even higher levels), widespread civil unrest follows. 🗸🗸

Inflation has a negative effect on economic growth

• Inflation leads to increased uncertainty in the economy. 🗸🗸
• This uncertainty discourages savings and investments especially in the long term. 🗸🗸
• Which are necessary for economic growth –result reduced economic growth. 🗸🗸

Inflation affects the real money value and savings

• Because inflation reduces the real value of money, it affects the real value of money saved in particular. 🗸🗸
• This means that inflation, the rand buys fewer goods and services than before. 🗸🗸
• It also means that the real money value saved is worth less at the end of the savings period than when the money was saved. 🗸🗸
• e.g. if a consumer receives 5 % interest on his/her savings account while the inflation rate is 8%, then the real rate of interest on the consumer’s savings is -3%.🗸🗸

Inflation has an adverse effect on a country’s balance of payments (BOP).

• If a country’s rate of inflation is higher than that of its trading partners the prices of exported goods increase while the prices of imported goods decrease. 🗸🗸
• This leads to loss of competitiveness in the export market, which in turn leads to decreased exports. 🗸🗸

This has a negative effect on the country’s balance of payments (BOP).

• The loss of export competiveness can also increase unemployment inflation affects the redistribution of income in a country. 🗸🗸

The effects of inflation are uneven.

• While it does not clearly benefit anyone and certainly harms most, it also harms some less than others. 🗸🗸
• Inflation also tends to redistribute income from low-income groups to higher income groups. 🗸🗸
• This is because people in the low income groups do not have assets than can rise in value faster than the rate of inflation to help them overcome the effects of inflation. 🗸🗸
• Powerful groups such as trade unions large companies and the wealthy people, are able to increase their share of national income at the expense of disadvantaged people such as pensioners the unemployed and the welfare recipients. 🗸🗸

Inflation has social and political costs

• When inflation continually causes rising prices it makes people unhappy and can disturb relations between employers and the employees and between customers and traders or service providers. 🗸🗸
• People in lower-income brackets feel severe effects of increases in the price of essential items such as bread, maize meal rental and transport costs. 🗸🗸
• This can lead to social unrest and political unrest. 🗸🗸

Inflation feeds on itself and causes further inflation

• This is called the inflation spiral. 🗸🗸 e.g. higher wage demands cause producers to increase their prices to maintain their profits.
• This happens again and again pushing prices further every time. 🗸🗸
• If the government does not keep this wage price spiral in check, inflation may get out of control and become hyperinflation. 🗸🗸 [Max 26]

ADDITIONAL PART Debate the merits (benefits) of administered prices by the government

• These are prices regulated by the government e.g. home owner’s costs on water/household fuel (paraffin and electricity) medical care (public hospitals) communication (telephone calls, telephone rentals and installations/postage cell communications /transport (petrol). 🗸🗸
• Most of the administered prices are adjusted once a year which brings price stability. 🗸🗸
• Regulated prices are restricted as to the extent to which prices may vary, depending on the government’s objectives. 🗸🗸
• Administered prices provide additional revenue to national treasury. 🗸🗸
• It appears that some of these prices remain extremely robust over the short term. 🗸🗸 [Accept any other relevant response] [Max 10]
• If inflation is not controlled by the proper and effective instruments, it can have challenging problems to the economy in general. 🗸🗸

INTRODUCTION COST PUSH Inflation is a sustained and significant increase in general price level over a period of time and a simultaneous decrease in the purchasing power of money. Accept any other relevant introduction. 🗸🗸 [Max 2] 

BODY: MAIN PART Causes of cost-push inflation

Increase in Wages:

• In South Africa, increase in wages constitute more than 50% of Gross Value Added at basic prices 🗸🗸
• If the increase in wages is not accompanied by an increase in production, the cost of production will rise 🗸🗸
• Producers will increase the prices of their products to offset the high cost of production strikes and stay-aways / labour union activities 🗸🗸

Key inputs/ increase in prices of imported capital goods

• When the prices of key inputs that are imported increase, domestic cost of production 🗸🗸
• increases especially in the manufacturing sector 🗸🗸
• Supply shocks e.g. sudden increase of oil causes a knock-off effect 🗸🗸

Exchange rate depreciation

• A decrease in the value of the rand will result in an increase in prices of imports 🗸🗸

Profit margins

• When firms increase profit margins, the prices that consumers pay also increase 🗸🗸
• Sometimes firms use their market power to push up prices 🗸🗸

Productivity

• Less productive factors of production will lead to increased cost per unit 🗸🗸
• Strikes and stay-aways often reduce production output and can result in price increases 🗸🗸

Natural disasters

• Natural disasters such as drought, flood and global warming can impact on the cost of production 🗸🗸
• This is often the case in relation to food prices 🗸🗸
• An increase in interest rates results businesses paying more money for capital loaned firms recover these costs by increasing the prices of their products 🗸🗸

Increase in taxation

• Increase in direct tax like company income tax may lead to businesses increasing their prices to offset the extra burden 🗸🗸
• Increase in indirect tax such as custom duty will lead to increase in costs of supplying a particular product, therefore the price will increase 🗸🗸
• Administered prices increase e.g. fuel prices
• Shoplifting and losses caused by employees are added to the prices of products 🗸🗸 [Accept any other relevant fact. Maximum 8 marks for headings] [Max. 26]

DEMAND PULL INFLATION Total spending on domestic goods and services in the economy consists of the spending by households, firms, the government and the foreign sector.

• Total spending = C + I + G + (X-M). 🗸🗸

Causes of demand inflation Increase in consumption [C] – consumers expenditure will increase mainly for three reasons:

• a. If consumers save less & spend more🗸🗸
• b. Decrease in personal income tax. 🗸🗸
• c. A greater availability of consumer credit, because of decrease in interest rate. 🗸🗸

Investment [I] –When business invest this increase demand for labour, cement, sand and bricks. 🗸🗸

• Supply cannot keep up with the increase in demand and this will increase prices. 🗸🗸
• Lower interest rates may result in an improvement in the sentiment and profit expectations of businesses. 🗸🗸
• Businesses invest more and this may lead to an increase in the demand of goods and services that are part of the investment (for example, a new building requires cement bricks and labour).🗸🗸
• If aggregate demand increases at a faster rate than aggregate supply, price increases will follow.🗸🗸

Government Spending [G] – Three main reasons.

• a. New capital projects🗸🗸
• b. Consumption expenditure on education, health, and protection. 🗸🗸
• c. Social expenditure on public work programme to create jobs and increase in social allowances. 🗸🗸

Export earnings [X]

• a. When economy of trading country improve. 🗸🗸
• b. When global economy expands. 🗸🗸

Access to credit

• There is greater availability of consumer credit (by means of credit cards) of the availability of cheaper credit as a result of decreases in lending rates. As new credit is extended the credit multiplier kicks in and more credit is created. 🗸🗸

Consumption spending

• Most governments will at times increase expenditures on education, health, protection and safety (for example, military equipment such as bomber jets and submarines). 🗸🗸

Social spending

• Governments sometimes feel they have to do something substantive about unemployment and poverty. 🗸🗸
• They borrow money and spend it on public works programmes or raise the level of social grants year after year at a higher rate than the inflation rate. 🗸🗸
• Such expenditures invariably lead to inflation because they add to aggregate demand without adding anything to aggregate supply. 🗸🗸

Commodities demand

• The world’s demand for commodities expands and contracts like business cycles do. During an expansionary period, foreign demand increases and this leads to greater volumes of exports. The income earned from these exports adds to aggregate demand and prices increase. 🗸🗸

BODY: ADDITIONAL PART YES / NO

• Inflation targeting is when a particular percentage is set as an acceptable level for an increase in general price levels 🗸🗸
• The SARB's inflation target is a range of 3% and 6% 🗸🗸
• The aim of inflation targeting policy is to achieve and maintain price stability 🗸🗸
• The implementation of the inflation target is easy to understand – expressed in numbers which makes it very clear and transparent 🗸🗸
• It reduces uncertainty and promotes sound planning in the public and private sectors 🗸🗸
• It provides an explicit yardstick that serves to discipline monetary policy and improves the accountability of the central banks 🗸🗸
• The SARB make use of monetary policy, specifically the repo rate to keep the inflation within the target range 🗸🗸
• The government make use of fiscal policy regarding public sector revenue and expenditure 🗸🗸

Positive effects

• Where demand is higher than supply an increase in interest rates help to bring the demand down 🗸🗸
• The policy can helps businesses to make economic plans without worrying about the effects of high inflation 🗸🗸
• South Africa's price level has been fairly stable since the introduction of the inflation targeting policy in 2000 🗸🗸

Negative effects

• Inflation targeting can cause a reduction in economic growth 🗸🗸
• This is because the raising of interest rates, result in a decrease in total spending which is needed for production to increase 🗸🗸
• Decreased economic growth can increase unemployment 🗸🗸
• South Africa has been experiencing an increase in unemployment since the implementation of the policy in 2000 🗸🗸
• Inflation targeting is difficult to implement when the cause of inflation is supply shocks 🗸🗸 [Max. 10]
• A summary of what has been discussed without repeating facts already mentioned in the body. 🗸🗸
• An opinion or valued judgement on the facts discussed. 🗸🗸
• Additional support information to strengthen the discussion. 🗸🗸
• A contradictory viewpoint with motivation. 🗸🗸
• Recommendations. 🗸🗸
• E.g. Inflation can be a threat to the normal functioning of the economy; therefore, measures like monetary and fiscal are vital to keep the phenomenon under control. 🗸🗸 
• This is the activities of people travelling to and staying in places outside their usual environment for a period not longer than one consecutive year for leisure, business and other purposes and not related to a remunerative activity from within the place visited 🗸🗸 [Max 2]

BODY - MAIN PART Gross domestic product (GDP)

• Tourism impacts mostly on the services industry than on agriculture or manufacturing although there are upstream effects when agriculture provides foodstuffs to restaurants and manufacturing provides vehicles for transport 🗸🗸

Direct contribution on GDP

• Statistics South Africa (SSA) shows that in 2020 inbound tourists contributed R69 billion and domestic tourists R billion, amounting to R billion - about % of South Africa's GDP 🗸🗸

Indirect contribution on GDP

• If the indirect contribution is added, tourism add about % to GDP 🗸🗸
• The WTTC estimated that tourism contributed % to the GDP of the world economy in 2020🗸🗸
• In developing economies the service sector is responsible for around % of GDP, while it is responsible for more than % of GDP in developed economies 🗸🗸
• South Africa is similar to that of developed economies and services contributed more than % of GDP in 2020. 🗸🗸
• Tourism has a major effect on employment and this amounted to million workers in 2020🗸🗸
• Tourism is the world’s largest generator of jobs 🗸🗸
• Tourism is labour intensive 🗸🗸
• More jobs can be created with every unit of capital invested in tourism than elsewhere
• Tourism employs many skills 🗸🗸
• It ranges from accountants and hairdressers to tour guides and trackers, 🗸🗸
• the tourism industry draws upon numerous skills 🗸🗸
• Tourism can provide immediate employment 🗸🗸
• If one quarter of tourists’ accommodation establishment in South Africa starts to offer live entertainment to quests, thousands of entertainers could be employed within days 🗸🗸
• Tourism provides entrepreneurship opportunities 🗸🗸
• The tourism industry accommodates informal sector enterprises, from craft and fruit vendors to pavement vendors, chair rentals 🗸🗸
• Tourism is widely recognized as one of the fastest and more effective redistribution mechanisms in development 🗸🗸
• It brings development to the poor in rural areas 🗸🗸
• Tourism provides an alternative to urbanisation, permitting women and youth to continue a rural family lifestyle while giving them business opportunities 🗸🗸
• E.g. to start and operate small-scale tourism businesses around community asserts (forests, parks and rivers) 🗸🗸

Externalities

• The rapidly expanding tourism industry could have both positive and negative impacts that extend well into the future 🗸🗸
• While tourism attracts large amount of revenue, it can also cause undue environmental damage that can harm the very foundation on which it depends 🗸🗸
• All other economic resources, tourism uses resources and produces wastes and also creates environmental costs (pollution) and benefits in the process 🗸🗸
• Rapid growth in tourism aiming at short-term benefits usually results in more negative effects and these includes the degeneration of traditions and cultural values and environmental damage to sites and setting 🗸🗸

Environment Tourism activities create environmental stress:

• Permanent environmental restructuring which includes major infrastructure 🗸🗸
• Waste product generation such as biological and non-biological waste that damages fish production 🗸🗸
• Direct environmental stress caused by tourist activities, e.g. the destruction of vegetation and dunes 🗸🗸
• Effects on population dynamics such as migration and increased urban densities 🗸🗸
• Transport infrastructure, e.g. roads, airports 🗸🗸
• Communication and infrastructure including telephone lines, electronic signal stations and radio, TVs’ 🗸🗸
• Energy infrastructure such electricity and liquid fuel 🗸🗸
• Basic service infrastructure such as clean water and sewerage systems 🗸🗸 [Max. 26]

ADDITIONAL PART How can Indigenous Knowledge Systems be used to promote tourism in South Africa?

• More cultural villages can be improved to facilitate and promote tourism e.g. Shangana in Mpumalanga, Basotho in the Free State and Simunye Zulu Lodge in Kwazulu-Natal. 🗸🗸
• Where guides explain and demonstrate storytelling and indigenous knowledge practices. 🗸🗸
• Advertising campaigns domestically and internationally by travel agencies, hotels and B & B, lodges and SA Tourism can focus on promoting these heritage sites in brochures and fliers, social media. 🗸🗸
• These actions will make tourists more aware of these attractions 🗸🗸
• Encourage tourists to experience different cultures and townships - experience life at home with a household and eat at a shebeen or township restaurant 🗸🗸
• World Heritage Sites of South Africa can be promoted for their cultural significance e.g. the Fossil Hominid Sites of Sterkfontein, Mapungubwe Cultural Landscape, Richtersveld Cultural and Botanical Landscape, Vredefort Dome and Robben Island 🗸🗸
• Environmental World Heritage Sites of South Africa selected for their natural importance namely the Cape Floral Region Protected Areas, Isimangaliso Wetlands Park as well as uKhahlamba/Drakensberg Park which has been selected for its mixed significance 🗸🗸
• Arts and culture festivals e.g. the National Arts Festival, the Hermanus Festival, Awesome Africa Music Festival and Macufe African Cultural Festival should more widely be advertised to encourage tourists to attend 🗸🗸
• According to the World Health Organisation, a large majority of the African population make use of traditional medicines for health, social-cultural and economic reasons and forms part of the unique experience tourists experience when visiting local villages 🗸🗸
• In South Africa tourists are made more aware of the important role traditional medicine plays in poverty reduction and employment creation 🗸🗸
• Relaxation of restrictive tourist visa laws to facilitate easier entry into South Africa 🗸🗸 [Accept any other relevant answers] [Max. 10]
• South Africa attracted over million tourists in 2020 /For every 8.1 additional tourist to South Africa, one new job is created/one per cent increase in tourism adds R million annually to the SA economy. 🗸🗸 [Accept any other relevant higher order conclusion] [Max. 2]
• Tourism is the activities of people travelling to and staying in places outside their usual environment for no more than one consecutive year for leisure, business or other purposes PP 🗸🗸  [Accept any other correct relevant response] [Max 2]

MAIN PART Business sector

• Tourism stimulates business in areas such as accommodation and entertainment 🗸🗸
• The construction industry, in private-public partnership with the government to provide the infrastructure, manufacturing sector and recreation sector all benefits from increased demand due to tourism 🗸🗸
• The previously disadvantaged communities get entrepreneurial opportunities through the black economic empowerment schemes 🗸🗸
• A large number of people get business opportunities in the informal sector e.g. selling of artefacts 🗸🗸
• Local retailers may have an increase in sales (and profits) because of increased demand from tourists 🗸🗸
• Private businesses and government work in partnership to provide the infrastructure needed for tourism 🗸🗸
• This increases the market share of and income of the these businesses 🗸🗸
• Allow existing businesses to improve the quality and variety of their products PP 🗸🗸
• Allow natural monopolies e.g. Table Mountain Cableway to achieve abnormal profits PP 🗸🗸
• The public sector also provides a range of financial incentives for private sector tourism investment (grants, subsidies, loans, tax rebates) PP 🗸🗸 [Max 10]

Infrastructure development

• Adequate and well-maintained infrastructure is essential for tourist destinations PP. 🗸🗸
• Locals share this infrastructure with tourists 🗸🗸
• Government often prioritises economic infrastructure such as ports and beaches 🗸🗸
• In addition to physical and basic infrastructure, social infrastructure is also important for the growth of tourism🗸🗸
• Most of the SDIs and development corridors also have tourism as an important focus PP 🗸🗸 [Max 8]
• Members of households earn income from the tourism sector as tour operators, travel agents etc. 🗸🗸
• Many households are indirectly involved in tourism as employees e.g. in hotels, transport sector. 🗸🗸
• Entrepreneurs from households that operate as curio producers or musicians can earn income from tourism . 🗸🗸
• A large number of households acquire skills in the tourism industry. 🗸🗸
• School curriculum and learnership offer opportunities to acquire these skills . 🗸🗸
• Encourages rural development because many tourist attractions are located in rural areas PP 🗸🗸 [Accept any other correct relevant response] [Max. 26]

ADDITIONAL PART Tourism can be successfully marketed in less popular destinations by:

• advertising the firms' attractions in a variety of media including social media and internet which may reach both local and international potential tourists. 🗸🗸
• focusing on a clear message that concentrates on the strength of the attraction/ uniqueness of the destination. 🗸🗸
• using the indigenous knowledge systems of that particular area where possible PP. 🗸🗸
• describing the service offered in the best possible way to catch the interest of the likely tourist PP E.g. the use of slogans. 🗸🗸
• charging a price that is competitive and money well spent for the service offered. 🗸🗸
• helping the tourist to view the entire service as value for money – deliver a worldclass visitor experience 🗸🗸
• highlighting other places of interest in the vicinity of the attraction as part of a package 🗸🗸
• focusing on proudly South African products/services / Sho’t Left campaign PP 🗸🗸
• help disadvantaged South Africans to benefit from tourist attractions in the less popular destinations PP 🗸🗸 [Accept any other correct relevant response] [Max. 10]

CONCLUSION A weaker exchange rate has been a major contributing factor to South Africa's tourism industry growth over many years. 🗸🗸 [Accept any correct relevant response] [Max 2]

INTRODUCTION Environmental sustainability can be defined as development that meets the need of the present without compromising the ability of future generations to meet their own needs. 🗸🗸

BODY: MAIN PART Public sector intervention Because it is difficult to enforce measures to ensure sustainability the government has to intervene. 🗸🗸

Environmental taxes Environmental taxes (green taxes) can be added to the cost of goods and services for the negative impact they have on the environment. 🗸🗸 The government uses the income generated through these taxes to protect the environment. 🗸🗸 Taxes can be imposed on petrol, paper, emission gases etc. 🗸🗸 In 2003 the government has legislated the use of biodegradable plastic bags which consumers had to pay for🗸🗸 The hope is that they will use fewer bags and ensure a litter free environment. 🗸🗸

Charging for dumping of waste A monthly fee as part of municipal accounts is charged for collection of waste, sewage and garbage. 🗸🗸 Households already pay for the collection of rubbish. 🗸🗸 The factory owner might clean up his waste if it cost him to dump it. 🗸🗸 Industries might also pay for emitting gases that can be harmful to people and the environment. 🗸🗸 Subsidies Subsidies can be awarded to businesses that are willing to reduce pollution and waste. 🗸🗸 Waste can also be reduced by using new techniques or equipment such as solar energy. 🗸🗸 Emission gases from factories can be reduced using new technology. 🗸🗸

Granting property rights Normally owners of properties tend to be more protective over their resources than users who are only interested in the profits the resources offer. 🗸🗸 For this reason the government might grant property rights over a specific area. 🗸🗸 Property rights empowers owners to negotiate contracts with businesses who wish to exploit the area’s resources. 🗸🗸

Marketable permits A government can decide on the maximum desired level of pollution in an area. 🗸🗸 It then distribute pollution rights (marketable permits) to factories within that area. 🗸🗸 This means that each factory can pollute to a certain limit. 🗸🗸 It means that marketable permits are licenses that polluters can buy or sell to meet the control levels set by government. 🗸🗸

Education Incorporating topics into the curriculum of school fosters awareness. 🗸🗸 The public is gradually been made aware of this rising problem. 🗸🗸 Plastic, bottles and cartons can be recycled or made biodegradable. 🗸🗸

Public sector control If the government’s intervention does not attain the desired results, then it has to intervene more directly by setting and enforcing limits. 🗸🗸

Environmental Impact Assessment In SA every projected construction, mining or similar development has to undergo an assessment by qualified environmental professionals. 🗸🗸 To prove that it will not cause unwarranted environmental damage and that the damage can be repaired after construction. 🗸🗸 The cost if built into the project. 🗸🗸

Command and Control Regulations that are set and enforce environmental limits or standards. 🗸🗸 Quantity: e.g. set the limit to the amount of fish to catch, or limit the season catching certain species of fish. 🗸🗸 Quality: e.g. drinking water quality is carefully monitored and controlled. 🗸🗸 Air quality in workplace is subject to minimum standards. 🗸🗸 Social effect: e.g. noxious fumes from factories, dumping of medical waste near settlements, and noise pollution. 🗸🗸

Voluntary agreements Agreements between government and businesses voluntarily to address negative environmental impacts of industries. 🗸🗸 Businesses voluntary agree to decrease the emissions of pollutants. 🗸🗸 Most prefer negotiations so that they can tailor their specific needs and include it into their planning🗸🗸 Agreements can be formal, which is legally binding contract or informal. 🗸🗸 [Max 26]

ADDITIONAL PART Government does not exercise effective control over the continuous dumping of waste because of a lack of coordination between departments. 🗸🗸 The fines imposed on industries that dump waste are too lenient and they continue polluting the environment. 🗸🗸

The minimum standards set for hazardous gas and fuel emissions are not enforced or adjusted. 🗸🗸 The recycling of waste materials are not widely encouraged and promoted and landfill sites are overflowing. 🗸🗸 Government has various laws that is not really effectively implemented. 🗸🗸 Poor service delivery also adds to the problem in certain areas. 🗸🗸 [Accept any other relevant answer] [Max 10]

CONCLUSION Each and every individual, business and government needs to stand together to save our planet. [Accept any other relevant conclusion] [Max 2] Discuss in detail the following problems and the international measures taken to ensure sustainable development (Environmental Sustainability)

INTRODUCTION Environment refers to the physical surroundings and physical conditions that affect people’s lives. 🗸🗸 The ever-increasing pressure on our environment originates from increasing population numbers and excessive consumption🗸🗸 Our air, land, and water are under constant assault from the ever-growing ravages of man-made pollution generated chiefly by industrialized societies. 🗸🗸 [Accept any appropriate introduction] [Max 2]

BODY-MAIN PART Conservation

• Conservation is necessary because human actions cause pollution and over-utilisation of  resources. 🗸🗸
• Conservation is a strategy aimed at achieving the sustainable use and management of natural resources. 🗸🗸
• Conservation seeks a creative continuity of the environment while ensuring that change is sympathetic to the quality of life for both present and future generations. 🗸🗸
• Certain aspects of conservation need to be taken into account.
• Firstly, there is an opportunity cost. 🗸🗸
• Secondly, externalities are often present. 🗸🗸
• Lastly, self-interest has a short term horizon – meaning that decisions cannot be left entirely to market forces. 🗸🗸
• Over utilization of resources causes a reduction in supply, increase in prices, contradiction of demand and a search for substitutes. 🗸🗸
• This necessitates conservation of both renewable and non-renewable resources. 🗸🗸
• Conservation has to be concerned with limiting what is harvested in order to maintain a stable stock at least at the minimum level. 🗸🗸
• Government can use permits and quotas as two possible direct control methods in order to maintain the stock of resources at the minimum level. 🗸🗸

Preservation

• Preservation involves any strategy undertaken to safeguard the environment, maintain its current condition and keep it as habitable as possible for people and animals. 🗸🗸
• Heritage sites, indigenous forests, specifies of animals etc. that have special cultural or environmental significance, are often targeted preservation. 🗸🗸
• Preservation is not likely to work as a private enterprise because the benefit to society is much bigger than the income of the producer. 🗸🗸
• It may be possible to use cost-benefit analysis to calculate the social benefits of preservation of the environment.
• The weaknesses in market solutions require the government to intervene in order to preserve environment assets. 🗸🗸
• Government could do any of the following:
• Buy or expropriate – Environmental assets are simply closed for human use. 🗸🗸
• Subsidise-A subsidy would increase net benefits to the owner and raise the property’s present value. 🗸🗸
• Controls – The government can compel the owner to apply control measures like restricting the quantities exploited or number of visitors allowed per day. 🗸🗸 [26 Max]

ADDITIONAL PART Stockholm Conference (1972)

• The Stockholm Conference was the first major large scale international meeting on the environment convened with the support of the United Nations. 🗸🗸
• The meeting agreed upon a declaration containing 26 principles concerning the environment and development, an action plan with 109 recommendations and a resolution. 🗸🗸
• The meeting directly impacted on the environmental policies of many countries. 🗸🗸

Rio de Janeiro Earth Summit (1992)

• This meeting acknowledged the importance of cooperation in addressing environmental concerns that threaten sustainability. 🗸🗸
• The conference helped to make countries around the world aware of the dangers of unsustainable development. 🗸🗸
• Unfortunately the principles outlined and accepted at the summit were not binding and subsequently many countries did not confirm to them. 🗸🗸

Rio + 5 (1997)

• This conference noted that globalization made some countries poorer – 🗸🗸
• In particular African countries and the least developed countries showed a low level of growth or even declined. 🗸🗸

Kyoto Protocol for Climate Change (1997)

• Countries committed themselves to reducing their total emissions of greenhouse by 5 %.🗸🗸
• Unfortunately, China was excluded from this agreement and the USA withdrew. 🗸🗸

World Summit on Sustainable Development (2002)

• The objective of this summit held in Johannesburg was to conserve natural resources in a world that is growing in population. 🗸🗸
• The meeting focused on issues like poverty eradication, water and sanitation, energy, health agriculture and biodiversity. 🗸🗸

COP 17 (2011)

• The main goal of the conference held in Durban was to establish a treaty to limit carbon emissions and plan strategies to keep global temperature rise to less than 2 degree Celsius in the 21st Century. 🗸🗸
• Although the framework for this treaty was established it was not finalised. 🗸🗸
• The solution to our environmental problems will depend on our ability to make sound economic decisions that take account of the natural environment and to change our individual behaviour and attitudes. 🗸🗸 [Accept any other relevant conclusion] [Max 2]

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Market Failure: A Critical Analysis Essay

• To find inspiration for your paper and overcome writer’s block
• As a source of information (ensure proper referencing)
• As a template for you assignment

Introduction

Understanding market failure, causes of market failure, government’s intervention strategies, reference list.

The collapse of the global financial system in 2008 and the subsequent recession through 2009 defied the reputation of the free market economy in the public imagination and discourse in a way that it had not been defied since the Great Depression.

The intellectual consensus after this particular recession was that free-market economies are not only unstable and exploitive (Boettke 2010), but contribute to market failure, thus the need for government’s intervention on a multiplicity of fronts to neutralize these objectionable characteristics (Devlin 2010).

Academics and economic commentators are still critically analyzing what could have gone wrong to occasion such an unprecedented financial crisis on the global front, but one of the possible reasons that continue to elicit increased attention is market failure (Dorn 2010). The present paper aims to shed more light into the concept of market failure, its causes, and the various interventions that government can adopt to correct this undesirable market outcome.

In precise terms, market failure is “…an economic term that encompasses a situation where, in any given market, the quantity of a product demanded by consumers does not equate to the quantity supplied by suppliers” (Investopedia 2012, para. 1).

This scenario is thought to arise due to the absence of certain economically ideal factors, which not only prevent the achievement of market equilibrium but also occasion negative ramifications on the economy due to fact that optimal allocation of resources is not realized (Investopedia 2012; Wetherly & Otter 2011).

In other words, market failure occurs when the allotment of commodities and services by a free market fails to meet the efficiency requirements, in large part due to the pursuit of pure self-interest and imperfections in the market mechanism (Palmer & Hartley 2006). Market failure is caused by a multiplicity of factors, discussed as follows:

Academics and economic experts are of the opinion that market failure may be caused either by non-disclosure of critical information among private sector players, or by inadequacy of information in the market (Devlin 2010). This view is reinforced by Basu (2009), who acknowledges that market failure is caused by incomplete information, as well as imperfect or asymmetric information.

According to this author, “…asymmetric information refers to the problem which principally arises from the non-disclosure of information; this means information is there but one agent does not disclose all the relevant parts of it, specially his/her true intention to his/her opposite agent” (p. 488).

On the other hand, incomplete information implies that all the relevant information that is essential for private sector actors to make informed investment decisions is not currently available, either due to the fact that it was not being collected and stored by relevant market agencies or because it has yet to emerge in a particular market (Wetherly & Otter 2011; Dorn 2010).

Borooah (2003) acknowledges that market failure may arise due to unfair competition practices perpetuated by monopolies. In the economic arena, agents perpetuate unfair competition practices with the view to serve their own best interests while relying on imperfect knowledge, leading to market failure (Booth 2008).

Still, extant research demonstrates that market failure can be triggered by externalities, which may come into play when the action of one agent inevitably influences the welfare of another agent in a market setting (Borooah 2003; Wetherly & Otter 2011; Palmer & Hartley 2006), or when skill formation may bear broader benefits or spillages that agents financing the formation may be unable to fully capture for themselves and which those making investments will not have any incentive to consider in making their decisions (Keep 2006).

Moving on, economic theory has proved that market failure can be triggered by risk and uncertainty, and by social welfare and inequality (Borooah 2003; Wetherly & Otter 2011). The challenge of risk and uncertainty, according to these authors, crops up when products and services are differentiated by ‘time of consumption’, and by position or level of contingency.

In terms of social welfare and inequality, it is felt that market failure may arise in any given market because disparity in the distribution of products and services between consumers may indicate that the social welfare linked to a stated level of production is actually sub-optimal (Borooah 2003).

A strand of economic literature (e.g., Basu 2009; Wetherly & Otter 2011; Keep 2006) demonstrates that in many situations government intervention in a free-market economy materializes from the failure of the private sector to streamline the markets, and from government urge to protect investors and the public.

The 2008 financial recession certainly taught analysts and industry that assumptions of an efficient market are misplaced where systemic risk and uncertainty permeate various private sector actors, and where the collapse of one key player triggers the collapse of other players, not only in terms of domestic scope but also globally (Devlin 2010; Palmer & Hartley 2006).

This particular recession demonstrated to the world that government intervention in free market economy is indeed a necessity, and that incompetent support for the free market is, to say the least, dogmatic.

Market failure, along with its well known antecedents and systemic events, such as conflict of interests, insider trading, and fraud, continue to trigger a plethora of regulatory reform proposals, particularly from government and other stakeholders (Dorn 2010). As noted by this author, government- initiated reforms and proposals “…are directed at reducing systemic risks, within which context regulators are more actively targeting a range of so-called ‘market failures’, including non-compliance and crime” (p. 49).

To effectively correct market failures, therefore, government needs to develop and implement regulations that can guard against dubious and shady practices perpetrated by market insiders in the corporate world, and also lay down frameworks for addressing conflict of interest among free market actors (Dorn 2010; Devlin 2010).

Moving on, some analysts argue that government can correct market failure by changing the context within which markets operate, with a view to redistribute resources and alter the initial endowments in order to avoid grossly inequitable consequences (Borooah 2003; Wetherly & Otter 2011).

This view is supported by Basu (2010), who acknowledges that government has a role to intervene in free-market economies to ensure the benefits accruing from the market ‘trickle down’ to the population. However, government’s “…role would be limited by the injunction that, in the pursuit of redistributive objectives, [it] should not, by distorting incentives, prevent the free functioning of markets” (Borooah 2003, p. 2).

Another strand of literature demonstrates that government could attempt to correct market failure by privatizing public institutions, which continue to absorb much of the blame for entrenching monopolies and thus creating market imperfections (Dorn 2010; Wetherly & Otter 2011). This preposition, as noted by Borooah (2003), implies that government could attempt to correct the undesirable outcomes occasioned by market failure by abdicating its productive responsibilities in support of the public sector.

Such abdication, according to this author, would lead to the removal of imperfections, which are known to prevent markets from functioning properly as they are linked to a lack “…of competition (for example, through the existence of monopolies) or with the presence of barriers to price flexibility (for example, through price-support mechanisms like minimum wage legislation)” (p. 3).

Consequently, the task of government in such a scenario would be limited to taking obligatory steps to guarantee that all hurdles to the proper functioning of markets are eliminated.

To curtail externalities and inequities in the market, which leads to market failure, government could engage in the provision of public goods and restriction of public undesirables through increased taxes, public purchases and grants (Dolfsma 2011).

Critics, however, extrapolate that this kind of interference may actually lead to disturbance of market equilibrium, triggering more challenges particularly on the supply side (Booth 2008). For example, an electronic company accused of disturbing the market of a local economy by selling counterfeit products may relocate to another country instead of paying high taxes in penalties.

Such relocation, if done by half of the companies operating in a given market, will ultimately lead to low supplies and consequent market failure. This observation leads Boettke (2010) to argue that government must be extremely cautious when making decisions to intervene in a free market economy as such intervention, if not properly formulated and implemented, may imply doom to the market dynamics.

The above notwithstanding, it is well known that government must undertake the responsibility to formulate and maintain rules in the economy (Dolfsma 2011), and that rules set out by government not only profoundly influence the economic discourse but also affect the overall levels of income or income distribution (Palmer & Hartley 2006; Basu 2009).

This view is supported by Basu (2009), who suggests that it is the function of governments across the world to formulate rules for the better functioning of society. Consequently, it can be suggested that government may use this prerogative of being the ‘principal rule formulator and implementer’ to correct existing market failures.

From the above discussion, it is evident that there exists an obvious economic case for government’s intervention in markets where some form of market failure is unfolding due to the fact it must always act to safeguard the interests of the public.

Of course the role of the government in attempting to correct market failure is perceived by many economists as an issue of ideological discussion that transcends individuals and economies (Dolfsma 2011), but the issues discussed in this paper demonstrate that the state should be concerned with the appropriate functioning of the entire market system if desirable economic outcomes are to be achieved.

It cannot be rightly guessed that government will automatically succeed where free market forces have failed, and that all cases of market failure could be amenable to correction through government intervention; however, the government remains an indispensable player in streamlining market activities and processes.

Basu, S. 2009, ‘Government success, failure of the market: A case study of rural India’, International Review of Applied Economics , vol. 23 no. 4, pp. 485-501.

Boettke, P. J. 2010, ‘What happened to efficient markets?’ Independent Review , vol. 14 no. 3, pp. 363-375.

Booth, P. 2008, ‘Market failure: A failed paradigm’, Economic Affairs , vol. 28 no. 4, pp. 72-74.

Borooah, V. K. 2003. Market failure: An economic analysis of its causes and consequences . Web.

Devlin, A. 2010, ‘Antitrust in an era of market failure’, Harvard Journal of Law & Public Policy , vol. 33 no. 2, pp. 557-606.

Dolfsma, W. 2011. ‘Government failure – four types’, Journal of Economic Issues, vol. 45 no. 3, pp. 593-604.

Dorn, N. 2010, ‘Regulatory conceptions of unacceptable market practices under three policy scenarios’, Journal of Banking Regulation , vol. 12 no. 1, pp. 48-68.

Investopedia 2012. Market failure . Web.

Keep, E. 2006, ‘Market failure and public policy on training: Some reasons for caution’, Development and Learning in Organizations , vol. 20 no. 6, pp. 7-9.

Palmer, A. & Hartley, B. 2006. The business environment , 5th ed, Berkshire, McGraw Hill.

Wetherly, P., & Otter, D. 2011, The business environment: Themes and issues , 2nd ed, Oxford, Oxford University Press.

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Sample Economics Essay Questions – Market Failure

JC Economics Market Failure Essay Questions

Are you preparing to attempt the Market Failure essay question for your upcoming Prelims or eventual GCE A-Level Econs exams ? Good, as this is your best bet to secure that elusive grade “A” for H2 students! Focusing on essays on Market Failure and looking through a list of questions one or your H2 Econs (9757 Syllabus) will help you to filter the most important content knowledge you will need in JC Economics exams.

Here is the listing of Market Failure essay question list:

1 Many cities and countries are embarking on new cultural projects. Presently, government spending in these areas in Singapore is below those of similar size metropolis such as Hong Kong, which is also providing sizeable amount of land for development of arts and entertainment district.

(a) Explain why government intervention is advocated in the markets for public goods and goods where externalities are present. [10] (b) Assess the economic case for government intervention in the development of cultural projects. [15] (public goods)

2(a) Explain how market dominance and factor immobility might lead to market failure. [10] 2(b) Assess the extent to which these two forms of market imperfections, rather than any other forms of market failure, is the major cause of government intervention in Singapore. (market imperfections)

Q3. If consumers and producers pursue self-interest and make rational decisions, there is no need for government intervention. Critically examine the above view. [25] (market efficiency and failure)

Q4. Singapore government makes it compulsory and free for every Singapore child to be vaccinated against diseases like poliomyelitis, diphtheria, tetanus and pertussis before the age of 12.

(a) Explain the economic justifications for government intervention in the case of vaccination in Singapore. (b) Discuss whether compulsory vaccination is the best form of government intervention in the market for vaccination in Singapore. [15] (positive externalities & healthcare)

Q5. “In addition to government subsidies, individuals are expected to shoulder a portion of their own healthcare costs. The 3Ms framework – which refers to Medisave, Medishield and Medifund – is Singapore’s healthcare financing approach that incorporates personal responsibility with risk pooling and community support.” (Source: Economics in Public Policies: The Singapore Story 2012)

The Singapore government uses both demand and supply side measures to manage the healthcare market. To what extent can such intervention correct the market failure in the industry? [25] (positive externalities & healthcare)

Q6. “The root cause of market failure is far more often lack of information than externalities, and this is where government should direct their efforts to improve the efficient working of the economy.”

(a) Explain the two types of market failure described above. [10]. (b) Discuss if legislation is the best way for government intervention in the above situations of market failure. [15] (market failure)

Q7. Governments across the world play an active role in intervention, whether to reduce the growing income inequality or to address market failure.

(a) Explain the role of prices in resource allocation in a market economy. [10] (b) Assess whether government intervention in markets is always justified. [15] (market failure)

Q8(a) Use examples to distinguish between i) a private good and a public good (ii) a social benefit and a positive externality. [10] Q8(b) Assess the usefulness of the above concepts in explaining whether it is the government or the private sector that is responsible for the development and operation of key facilities such as airports and seaports. [15] (public good)

Q9(a) Explain why government intervention is advocated in markets with both market dominance and income inequity. [10] Q9(b) Discuss the measures that can be used to address these sources of market failure. [15] (market dominance and income inequity)

Q10. According to the Compulsory Education Act, a child between the age of 6 and 15 years has to attend a national primary school as a pupil regularly, unless he/she has been exempted from compulsory education. Adapted from: MOE Website

Discuss whether the Compulsory Education Act is the most appropriate policy adopted by the Singapore government to achieve an efficient allocation of resources in the education market. [25] (positive externalities & education)

Q11. Explain why congestion caused by cars leads to market failure and assess the extent to which the Singapore government’s policies to address this market failure may need to be adjusted. [25] (negative externalities & congestion)

Q12(a) Explain how market dominance and immobility of factors of production in a country can lead to market failure. Q12(b) Discuss the extent to which globalisation has reduced the problems associated with these sources of market failure. (market imperfections. Market Dominance requires content knowledge of Monopoly, under Market Structures .)

Q13(a) Explain why the markets for public goods and demerit goods fail in each case. [10] Q13 (b) In Singapore, museums offer free entry to Singapore citizens and Permanent Residents. However, New York’s Metropolitan Museum of Art charges a recommended entrance fee of US25. Assess the economic case for these two approaches. [15] (positive externalities & merit goods)

Q14. How far can efficiency in resource allocation be achieved by encouraging competition in Singapore? [25] (market dominance)

Q15(a) Explain why the Singapore government intervenes in the market for healthcare. Q15(b) Discuss whether such intervention is sufficient in view of the changing demographic conditions in Singapore. (positive externalities & healthcare)

Q16(a) Explain how the price mechanism allocates resources efficiently. Q16(b) A government imposes taxes on a variety of goods and services which include alcohol, fuel and some imported goods. Discuss whether taxation would lead to a more efficient allocation of resources. (negative externalities & demerit goods)

Q17. The Chinese government believes it has more information to overcome pollution oversight as well as to ensure a steady transition from low-cost manufacturing to a more service-oriented economy.

(a) Explain how firms’ missing information on costs and immobility of factors of production lead to inefficiency in resource allocation. (b) Assess whether government intervention to address the above problems will lead more efficient resource allocation. (market imperfections)

Q18. Some economists argue that the government achieves the most efficient outcome if they only intervene in the provision of public goods. Discuss this statement with reference to Singapore. (divergence & public good)

Q19. “An exceptionally large number of new homes are currently being built as part of the cooling measures for the housing bubble. The housing bubble benefits no one and hurts many when it bursts. This allocation of land would hopefully moderate housing prices, so that it would remain affordable for most residents.” Source: Housing Policies, Budget Debate Singapore

(a) Distinguish between public and private goods, and determine if public housing is a public good. (b) Using concepts of scarcity, opportunity costs and production possibility curves, discuss if the allocation of land use for public housing is justified. (positive externalities & housing)

Q20. Some governments provide free services, such as internet broadband and healthcare to households, while other governments merely subsidise production of certain goods and services, such as education.

Discuss the extent to which the Singapore government could intervene in the supply of certain goods and services. [25] (positive externalities & subsidise)

Q26(a) Explain why government intervention is advocated in the market for healthcare. Q26(b) Discuss whether healthcare services should be provided free by the government. (positive externalities & healthcare)

Q27. A fast ageing population will put pressure on the government’s budget. Health Minister of S’pore said that the key to a sustainable healthcare system is to minimise market distortions and to allow healthcare to function as normally as other economic activities. (Adapted from Economist Conferences, Healthcare in Asia, 30 March 2010)

Evaluate the extent to which the government should intervene in the market for healthcare in Singapore. [25] (positive externalities & healthcare)

Q28. “Market failure cannot be effectively tackled unless its underlying causes – externalities, lack of information, and irrationality – are accurately identified and understood.”

Using illustrations from S’pore, assess the extent to which government [25] policies have addressed these underlying causes of market failure. [25] (market failure)

Q29. “When governments intervene in markets, they cause more problems than they solve.”

With the use of appropriate examples, assess whether governments should intervene in a market. [25] (government failure)

Q30(a) Explain the term public good, and explain whether public toilets and national defence are examples of public good. [10] Q30(b) Assess the view that public goods & merit goods should be the major causes intervention within SG in achieving its micro economic goals. [15] (public goods, merit goods)

Q31. China’s rapid market reforms had created a strong middle class and a burgeoning industrial sector. However, many lower income earners, mired in a polluted environment especially in the mining and industrial areas, are left behind economically.

(a) Explain how income inequality and pollution are causes of market failure. [10m] (b) Evaluate the possible measures that the Chinese government could adopt to solve these problems. [15m] (negative externalities, inequity)

Q32(a) Explain why market imperfections may lead to an inefficient allocation of resources. [10m] Q32(b) Evaluate the policies currently used by the Singapore government to achieve an efficient allocation of resources with market imperfections. [15m] 

Q33. The level of innovation in free markets is not desirable and thus innovation should be solely carried out by the government. Discuss. [25m]

Q34. Discuss whether the free market is the most efficient way of allocation resources in Singapore. [25m] (Link to answer on allocative efficiency here)

Q35. Globalisation and economic growth has brought about both opportunities and challenges to S’pore. Service related industries which require skilled labour saw healthy growth, while secondary industries which employ unskilled labour were lagging behind and faced with very fierce competition from the region. Some have called for the government to implement minimum wage to address the income inequality between these two groups but others have suggested stepping up efforts to enhance workers’ skills and raising productivity.

(a) Using demand and supply analysis, explain the main cause of income inequality between the skilled and unskilled labour in SG. [10] (b) Assess the effectiveness of implementing minimum wage to address the problem of income inequality in Singapore. [15] (Note: This question is a significant overlap with the topic on Market Mechanism :, as it mostly likely overlaps with the concepts of DD, SS, elasticities, price controls, etc.)

Q36. The government should only intervene in the case of public good provision because too much government intervention is undesirable.” Discuss. [25]

Q37 (a) Distinguish between private goods, demerit goods and public goods. [10] Q37 (b) The police protect the community by deterring and detecting crime as a public service. But the task of guarding specific property like banks and factories is usually left to security firms who charge for such services. Discuss the view that policing services can be left to the private sector. [15]

Q38 (a) Explain why immobility of factors and market dominance may lead to market failure. [10] Q38 (b) Evaluate the policies used by the Singapore government to correct this market failure (13)

Q39 “The free market is the most efficient way of allocating resources in Singapore”. How far do you agree? [25] [Information Failure (Merit and demerit goods, asymmetric info), Externalities, Market Dominance, etc]

Q40. Discuss with suitable examples, whether the Singapore government currently adopts the most ideal economic policies in the provision of healthcare / housing / education. (25) (Policy measure for Externalities, 3M framework for healthcare financing in SG )

Q41. To what extent do you agree that the free market is capable of allocating resources efficiently in the case of air travel and museum visits? [25]

Q42. The Cabinet has decided to develop two Integrated Resorts (IR) in Singapore comprising museums, convention spaces, theme parks and casinos. The Singapore government continues to be involved in the development and operation of the IR, including the building up of infrastructure supporting the IR and controlling access to the casino.” Adapted from PM Lee Hsien Loong Parliamentary Seating, 18 April 2005

(a) Explain the reasons why the government is involved with the development and operation of the IR. [10] (b) Assess the view that public goods and merit goods are the major causes of government intervention in Singapore. [15]

Q43. In a market economy, prices act as a rationing device, provide incentives and give signals to producers and consumers. The price mechanism is the best way to allocate resources.

(a) Explain how the rational behaviour of consumers and producers lead to an efficient allocation of  resources. (b) Critically analyse whether the price mechanism is the best way to allocate resources.

Q44. Assess the view that the Singapore government should use taxes rather than any other economic policies when dealing with the market failure associated with negative externalities. [25]

Q45(a) Explain how the price mechanism allocates scarce resources among competing needs in a free market. [10] Q45(b) Discuss whether it is necessary for the Singapore government to provide both public and merit goods in order to achieve efficient allocation of resources. [15]

Q46. The 6% tax on soft drinks and the removal of soft drink machines in primary schools aim to tackle the obesity problem and high government spending on healthcare in the US. In response, the American Beverage Association spent millions of dollars on media to mitigate the effect of the tax.

Discuss the economic rationales and effectiveness of the above government measures, [25]

Q47 How far do you agree with the proposition that economic activity of the Singapore government should be restricted to the provision of public goods and control of market dominance within Singapore? [15]

Q48(a) Explain the main types of unemployment in Singapore. [10].

To reduce income inequality, the USA uses a minimum wage law while Singapore believes that improving the skills of workers is the best solution. Q48 (b) Using economic theory, analyse whether the above view is justified. [15]

Q49 Coal-fired plants produce electricity by burning coal in a boiler to produce steam. In the process, several principal pollutants result from coal such as  sulphur dioxide and nitrogen oxides which contribute to acid rain, haze, and respiratory illnesses. Source: US EIA

Discuss the view that governments throughout the world should be more involved in the supply of electricity, than the control of reducing pollutants from the process of generating electricity. [25] .

As you already know by now, this is a MUST-PREPARE TOPIC QUESTION FOR EACH AND EVERY SINGLE EXAM OF YOURS!! So her at Adam Smith Economics Tuition , we OVER-PREPARE for Market Failure, so that regardless of  how difficult it is, you will be able to conquer it. Be it very obscure and unfamiliar positive or negative externalities, or a combined topic between Market Failure & Market Structures, or between Market Failure & Market Mechanism , we will make sure you will still obtain your Level 3 answer response for this topic.

It may even cross topics with Macroeconomics topics, including the Domestic Economy with Macro Econs Performance or Standard of Living, External Economy such as Balance of Payments, or even the Global Economy including Globalisation and Trade. yes, expect it not to be easy, since practically every JC Econs student will attempt this question! Let us help you overcome this challenge in the shortest time possible.

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Market Failure ( Edexcel A Level Economics A )

Topic questions.

On average, in the UK, a working-age graduate earns approximately £10 000 more per year than a non-graduate.

(Source adapted from:https://assets.publishing.service.gov.uk/government/uploads/system/uploads/attachment_data/file/701720/GLMS_2017.pdf)

This suggests a university degree provides a substantial ________________. 

external benefit

external cost

private benefit

social cost

Choose your answer

Did this page help you?

In 2016 a coastal flood defence scheme was completed at Broomhill Sands in Kent, protecting people, homes and businesses. A £30 million grant from the National Lottery paid for the scheme.

(Source: https://w ww.gov .uk/go v ernment/news/30-million- project-set-to-reduce-flood-risk-in-kent)

The most likely reason for this grant is to ensure the:

exclusivity of Broomhill Sands

provision of a private good

provision of a public good

rivalry of Broomhill Sands

Which of these correctly explains the meaning of 'non-rival'?

Once a good has been provided, consumers are unable to reject it

Consumption of the good by one person does not reduce the amount available to be consumed by others

It is impossible for new firms to enter the market to supply the good

Once a good has been provided, it is impossible to stop free-riders from consuming it

Which of these explains why there are information gaps in the sale of second-hand motorhomes?

Motorhomes are rival and excludable

Motorhomes create pollution, which is a negative externality

The buyer values the motorhome at a higher price than the seller's valuation

The seller knows more about the quality of the motorhome than the buyer

The consumption of cigarettes causing lung disease for the consumers of cigarettes

A bakery that creates pleasant smells when baking bread and cakes

Pollution created from people driving their cars

The building of new offices and homes that creates lots of noise

"The government must act to improve the allocation of resources in broadband services"

Explain one likely reason why there is a market failure in the market for broadband service (2)

How did you do?

The construction of a new leisure centre would generate the following outcomes

Calculate the welfare gain from the construction of the leisure centre

Assess the extent to which ‘information gaps’ (Extract B, lines 5 and 6) and ‘irrational behaviour’ (Extract B, line 11) are the main causes of food waste in the UK (10)  

Food waste in the supply chain

A report from the British Retail Consortium reveals that supermarkets are directly responsible for around 0.2 million tonnes of food waste every year. This is due to the expiry of use-by-dates and poor handling of stock.

However, 4.1 million tonnes of food waste occurs annually in the food supply chain before it even reaches the supermarkets, indicating the existence of information gaps. The supermarkets are cooperating with food suppliers and farmers to try to reduce this waste. This involves improving forecasts for supply and demand of food and increasing the reliability of transportation and storage.

Consumers, the final stage of the supply chain, waste a further 7 million tonnes of food each year. This suggests irrational behaviour. Supermarkets are also working with consumers to reduce the waste by providing advice on how to store and use leftover food. The development of packaging designs to keep food fresher for longer is one of the innovations under way to reduce waste.

(Source: adapted from ‘Supermarkets tally up food waste bill’. Will Nicholls, in Businessgreen, 19th January 2015. http://www.businessgreen.com/ bg/news/2390792/supermarkets-tally-up-food-waste-bill)

The external benefits of higher education include increased tax revenue, faster economic growth, greater innovation and labour market flexibility.

(Source adapted from: h ttps://w ww .timeshigher educa tion.com/news/higher-education-its- good-for-you-and-society/2008681.article#survey-answer)

Examine the likely impact of externalities of copper mining on firms and communities within Chile. (8)

Evaluate the likely microeconomic consequences of consumers shifting from vehicles powered by fuel obtained from oil to electric-powered vehicles (25)

The International Energy Agency has predicted that oil use by cars will peak in 2025 because of the increasing number of drivers switching to electric vehicles.

(Source adapted from: https://www.thetimes.co.uk)

In September 2016 the government approved the building of an £18 billion nuclear power station, Hinkley Point C, which will supply 7% of UK electricity for up to 60 years. The power station is funded by Chinese and French investment.

Evaluate the likely private costs and external costs involved in such major power station construction projects. Use an appropriate externalities diagram in your answer (25)

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• In the News

Externalities and Market Failure - Councils urged to keep vapes out of sight of children

11th February 2023

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This news story from the health section of BBC News offers a terrific opportunity to A level economists and teachers to open up the economic analysis and policy toolbox to address an important contemporary market failure – ‘Vaping’.

Latest data suggests almost 1 in 9 of 11 to 18-year-olds in England are vaping, up from 1 in 25 just two years ago. 1 in 14 adults are vaping. More than 50% of young vapers use disposable vaping products compared with just 7.8% two years ago.

The evidence on the dangers of vaping is equivocal. Vapes (or e-cigarettes) are safer than cigarettes because they don’t contain harmful tobacco, or produce dangerous tar or carbon monoxide from tobacco smoke. But they are not risk-free; containing nicotine (an addictive substance) and young, regular users have reported nosebleeds, headaches and sore throats. Vast quantities of single use vapes are also being thrown into landfill (itself an increasingly scarce resource).

The Local Government Association (LGA), the medical profession and the Health Charity (ASH) are united in warning about the dangers of vaping. A whole raft of policy measures is suggested to deal with this market failure and the negative consumption externalities of vaping

• Tighter rules on packaging and advertising – only sell vapes in plain packaging
• Keep vapes behind the counter (like cigarettes) and out of sight of children
• Vapes should only be sold to people trying to give up smoking
• Introduce an indirect tax on single-use vapes in the forthcoming March Budget
• Tougher fines for businesses who break the law by underage selling (as with cigarettes the minimum aga is 18). Trading standards suggest the incidence of this is about one third of businesses and is also regularly seizing lorry loads of counterfeit and illegal vapes from shops across the country, as well as at Channel ports (pointing to a thriving ‘Black Market’)

In separate moves both the Scottish and Irish governments have both been considering bans on the disposal of vapes to reduce their impact on public health and the environment (including concerns over littering).

Given the nature of this market failure story, it is a terrific opportunity to dust down and practice those negative consumption externality diagrams alongside how the different policy proposal measures may work (full and partial information, impact of specific taxes & the burden between consumer and producer, tougher regulation on sales and advertising and the circumstances under which a ban should be implemented). These can all be evaluated and the dangers of government failure should not be overlooked.

John Richards

John teaches Economics at Tonbridge School

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• What is a recession?

Are we in a recession?

Will there be a recession in 2023.

• Who decides when a recession has started? 
• How long does a recession last? 
• How to prepare for a recession 

Are we in a recession? Maybe not officially, but there's growing concern that one's on the horizon

Paid non-client promotion: Affiliate links for the products on this page are from partners that compensate us (see our advertiser disclosure with our list of partners for more details). However, our opinions are our own. See how we rate investing products to write unbiased product reviews.

• A recession is a significant decline in economic activity that can last months or even years. 
• Most experts agree we aren't in a recession yet, but that we could be headed for one in 2023.
• There are steps you can take to prepare emotionally and financially for a recession.

There's been a lot of argument lately over whether the US economy is in a recession. If you're still confused about the answer, you're not alone.

This much we know for sure: Gross domestic product increased by 2.6% in the last quarter of 2022 and rose another 1.1% in Q1 2023. While this has led some experts to suspect that we're heading towards a bull market , others counter that the continuous rise in inflation and increased real estate interest rates still indicate an approaching recession. 

It's important to note that no one can actually predict the direction the stock market will go in. While financial and stock market experts will speculate based on recent economic trends, the market is often unpredictable. 

Financial experts can help you make smart investing decisions, even during recessions. If you're interested in investing in the stock market or other assets, the best online financial advisors can help you reach your financial goals. 

A recession is not the same as a depression

In general, a recession is defined as two consecutive quarters of negative GDP. However, many argue this definition is overly simplistic since it doesn't take employment, income, sales, and a range of other factors into account.

The National Bureau of Economic Research (NBER) uses a broader definition , stating that a recession is "a significant decline in economic activity that is spread across the economy and that lasts more than a few months."

Keep in mind that a recession is not the same as a depression, which is described as a more extended and severe version of a recession.

While there's still some debate, no, the US economy isn't in a recession. Although inflation persists and interest rates continue to rise, there's widespread agreement that the overall conditions consistent with a recession have not been met. 

Anessa Custovic, PhD and chief investment officer of Cardinal Retirement Planning , says we may be heading toward a recession in 2023, but that it could be a mild one. "The labor market is so strong right now that we may be able to ride the recession out and not feel it too much," she says. 

The S&P 500 and Down Jones 2023

Parts of the market are on the up. After a low point in October 2022, the S&P 500 and Dow Jones have steadily begun recovering some of their losses. The S&P 500 stock index went up by 7% from Q4 2022 and Q1 2023, and it jumped a total of 14% since October.

That said, it's not all good news. The Silicon Valley Bank collapse in March 2023 (the biggest bank failure since 2008), was shortly followed by the fall of Signature Bank and the First Republic . The cryptocurrency market has also taken a hit after the collapse of FTX and Voyager, and now Bittrex has filed for bankruptcy. 

Conference Board Leading Index

Data from the Conference Board Leading Economic Index (LEI) foreshadows a possible recession starting midway through 2021. The LEI is at its lowest point since November 2020 after falling 0.5% in February 2023 and another by 1.2% in March. That's a steep 4.5% drop since September.

The Conference Board Lagging Economic Index (LAG) also decreased in March by 0.2% despite a slight increase in February. 

But the Conference Board Coincident Economic Index (CEI) was able to rise by 0.2% in February and another 0.2% in March. 

Unemployment Rates

April 2020 held an all-time high unemployment rate of 14.7% . Since then the unemployment rate has dropped nearly 11.2% and is around 3.4% as of April 2023. The total number of unemployed persons in the US also dropped from 5,839 in March to 5,657 in April.

Food Inflation

In the US, food inflation fell from its peak of 11.4% in August 2022 to 8.5% in March and is now at its 15-month lowest of 7.7% in April 2023. Both inflation prices on food at home and food away from home have been steadily decreasing. 

Economists and business leaders generally don't think the US economy meets the criteria for a recession since employment and spending levels have remained relatively strong even while the GDP contracted. However, it's difficult to say definitively, since income and spending have struggled to keep pace with inflation.

Although there's broad agreement that we aren't yet in a recession, there has been deepening concern that we're headed in that direction. A recent KPMG survey found that 91% of CEOs in the US anticipate there will be a recession within the year 2023.

The heads of the largest investment banks have been among those sounding the alarm. 

For instance, JP Morgan CEO Jamie Dimon has been fairly vocal about the likelihood of a coming recession. He stated in June 2022 that there's a 20% to 30% chance of a "harder recession" and a 20% to 30% chance of "something worse." 

Goldman Sachs CEO David Solomon echoed similar concerns during the company's third-quarter earnings call. He said rising interest rates and geopolitical instability are affecting  Goldman Sachs' performance. And Solomon told CNBC there's a "good chance" the US will enter a recession. 

Who decides when a recession has started? 

The National Bureau of Economic Research's Business Cycle Committee is the authority that decides whether or not we're in a recession. The NBER is a private, nonpartisan organization that analyzes major economic issues.

"The Business Cycle Committee labels all parts of the US economic cycle — the peak, the trough, etcetera," Custovic explains. "They have a set of criteria that they use to identify a recession."

And since the release of macroeconomic data usually lags the time periods for which it is collected, by the time the NBER does declare a recession, we've often already been in one for at least a few months. 

How long does a recession last? 

How long a recession lasts depends on its severity. But they don't usually last as long as most people think. According to data from the NBER, the average recession since 1854 has lasted about 17 months. 

Custovic points out that if we look at more recent examples — like from 1945 to 2020 — the average length of the economic contraction in the US is a little more than 10 months. "This suggests that the length of recessions are getting shorter now compared to historical ones," she says.

How to prepare for a recession 

The financial impact of a recession spreads throughout the US economy, with lower-income families getting hit the hardest. So it's essential to prepare ahead of time. This doesn't just mean preparing yourself financially. And Custovic says it's actually most important to prepare emotionally, as recessions can be frightening, particularly for retirees and investors.

"People can make emotional decisions like pulling all cash out of the market when they get scared, and history has proved over and over again this is not the right thing to do," she says.

Since we never know how prolonged or severe a recession will be, it's a good idea to prepare for the worst.

"This means having at least a few months' worths of expenses saved up in case you become unemployed and need to search for a new job," Custovic explains. "Also, I highly recommend holding off on any large-scale purchases until economic uncertainty fades."

At the same time, Custovic recommends evaluating any investments you have to make sure you have a good mix of assets to reduce your risk of experiencing massive losses if a few of them underperform. 

"Make sure your investments are well diversified and can weather the storm of economic uncertainty," she says.

The best way to protect your assets and decrease your overall risk of losing value, make sure you have a diverse investment portfolio. If you're struggling to diversify your investment portfolio, the best investment apps offer a range of investment choices, market access, educational resources, and low fees. 

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Job Search, Unemployment Insurance, and Active Labor Market Policies

This chapter, prepared for the Handbook of Labor Economics, presents a comprehensive overview of how labor economists understand job search among the unemployed and how job search is shaped by unemployment insurance (UI) and active labor market policies (ALMP). It focuses on synthesizing key lessons from the empirical research of the last decade and presents recent novel theoretical developments.

We thank the editors, Christian Dustmann and Thomas Lemieux, for giving us the opportunity to contribute to the Handbook of Labor Economics. We thank the participants to the Handbook Workshop at RF Berlin for their helpful comments. We thank Francesco Armillei, David Card, Giulia Giupponi, Peter Ganong, Nathan Hendren, Camille Landais, Pauline Leung, and Amelie Schiprowski for providing feedback on early version of our chapter. Savannah Kochinke provided excellent research assistance. The views expressed herein are those of the authors and do not necessarily reflect the views of the National Bureau of Economic Research.

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Large language models don’t behave like people, even though we may expect them to

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One thing that makes large language models (LLMs) so powerful is the diversity of tasks to which they can be applied. The same machine-learning model that can help a graduate student draft an email could also aid a clinician in diagnosing cancer.

However, the wide applicability of these models also makes them challenging to evaluate in a systematic way. It would be impossible to create a benchmark dataset to test a model on every type of question it can be asked.

In a new paper , MIT researchers took a different approach. They argue that, because humans decide when to deploy large language models, evaluating a model requires an understanding of how people form beliefs about its capabilities.

For example, the graduate student must decide whether the model could be helpful in drafting a particular email, and the clinician must determine which cases would be best to consult the model on.

Building off this idea, the researchers created a framework to evaluate an LLM based on its alignment with a human’s beliefs about how it will perform on a certain task.

They introduce a human generalization function — a model of how people update their beliefs about an LLM’s capabilities after interacting with it. Then, they evaluate how aligned LLMs are with this human generalization function.

Their results indicate that when models are misaligned with the human generalization function, a user could be overconfident or underconfident about where to deploy it, which might cause the model to fail unexpectedly. Furthermore, due to this misalignment, more capable models tend to perform worse than smaller models in high-stakes situations.

“These tools are exciting because they are general-purpose, but because they are general-purpose, they will be collaborating with people, so we have to take the human in the loop into account,” says study co-author Ashesh Rambachan, assistant professor of economics and a principal investigator in the Laboratory for Information and Decision Systems (LIDS).

Rambachan is joined on the paper by lead author Keyon Vafa, a postdoc at Harvard University; and Sendhil Mullainathan, an MIT professor in the departments of Electrical Engineering and Computer Science and of Economics, and a member of LIDS. The research will be presented at the International Conference on Machine Learning.

Human generalization

As we interact with other people, we form beliefs about what we think they do and do not know. For instance, if your friend is finicky about correcting people’s grammar, you might generalize and think they would also excel at sentence construction, even though you’ve never asked them questions about sentence construction.

“Language models often seem so human. We wanted to illustrate that this force of human generalization is also present in how people form beliefs about language models,” Rambachan says.

As a starting point, the researchers formally defined the human generalization function, which involves asking questions, observing how a person or LLM responds, and then making inferences about how that person or model would respond to related questions.

If someone sees that an LLM can correctly answer questions about matrix inversion, they might also assume it can ace questions about simple arithmetic. A model that is misaligned with this function — one that doesn’t perform well on questions a human expects it to answer correctly — could fail when deployed.

With that formal definition in hand, the researchers designed a survey to measure how people generalize when they interact with LLMs and other people.

They showed survey participants questions that a person or LLM got right or wrong and then asked if they thought that person or LLM would answer a related question correctly. Through the survey, they generated a dataset of nearly 19,000 examples of how humans generalize about LLM performance across 79 diverse tasks.

Measuring misalignment

They found that participants did quite well when asked whether a human who got one question right would answer a related question right, but they were much worse at generalizing about the performance of LLMs.

“Human generalization gets applied to language models, but that breaks down because these language models don’t actually show patterns of expertise like people would,” Rambachan says.

People were also more likely to update their beliefs about an LLM when it answered questions incorrectly than when it got questions right. They also tended to believe that LLM performance on simple questions would have little bearing on its performance on more complex questions.

In situations where people put more weight on incorrect responses, simpler models outperformed very large models like GPT-4.

“Language models that get better can almost trick people into thinking they will perform well on related questions when, in actuality, they don’t,” he says.

One possible explanation for why humans are worse at generalizing for LLMs could come from their novelty — people have far less experience interacting with LLMs than with other people.

“Moving forward, it is possible that we may get better just by virtue of interacting with language models more,” he says.

To this end, the researchers want to conduct additional studies of how people’s beliefs about LLMs evolve over time as they interact with a model. They also want to explore how human generalization could be incorporated into the development of LLMs.

“When we are training these algorithms in the first place, or trying to update them with human feedback, we need to account for the human generalization function in how we think about measuring performance,” he says.

In the meanwhile, the researchers hope their dataset could be used a benchmark to compare how LLMs perform related to the human generalization function, which could help improve the performance of models deployed in real-world situations.

“To me, the contribution of the paper is twofold. The first is practical: The paper uncovers a critical issue with deploying LLMs for general consumer use. If people don’t have the right understanding of when LLMs will be accurate and when they will fail, then they will be more likely to see mistakes and perhaps be discouraged from further use. This highlights the issue of aligning the models with people's understanding of generalization,” says Alex Imas, professor of behavioral science and economics at the University of Chicago’s Booth School of Business, who was not involved with this work. “The second contribution is more fundamental: The lack of generalization to expected problems and domains helps in getting a better picture of what the models are doing when they get a problem ‘correct.’ It provides a test of whether LLMs ‘understand’ the problem they are solving.”

This research was funded, in part, by the Harvard Data Science Initiative and the Center for Applied AI at the University of Chicago Booth School of Business.

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Opinion Frank Bruni

What Joe Biden Just Did Is Utterly Extraordinary

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By Frank Bruni

Frank Bruni is a contributing Opinion writer who was on the staff of The Times for more than 25 years.

• July 21, 2024

In the hours and days to come, many political observers will say that President Biden was backed into a corner and had no choice but to end his re-election campaign. His limitations had been laid painfully bare. He’d lost the confidence of the Democratic Party. And he was staggering toward an increasingly ugly revolt within it or a potentially harrowing defeat by Donald Trump. Bowing out wasn’t an act of grace. It was a saving of face.

All correct. But that’s not the whole truth. Not the full story. It misses the bigness of what Biden just did — its historical rarity, its emotional agony, its fundamental humility.

Yes, his decision to abandon his aspirations for a second term and let another, younger Democrat seek the presidency came weeks later than it should have, after too much secrecy, too much arrogance, too much denial. He pushed wishful thinking to the limit, scoffing at polls, sniping at the news media and claiming omniscience in a manner that eerily echoed Trump’s populist bluster. (“I’m getting so frustrated by the elites.” “Look at the crowds.”) But that doesn’t erase the enormous impact and extraordinary example of relinquishing his candidacy.

His exit from the presidential race creates a kind and magnitude of uncertainty about who one of the major party’s nominees will be — and what sort of late-stage, rushed operation that person can put together — that has no real precedent in modern American politics. Maybe his endorsement of Kamala Harris and the vice-president’s traditional status as heir apparent will amount to her speedy anointment. Maybe not. She has doubters aplenty, and many prominent Democrats crave a real competition, not a segue from obligatory indulgence of Biden to forced allegiance to Harris.

This is terra incognita. While Republicans in 1964 and Democrats in 1968 began their summer conventions without clarity about the outcome, the candidates in the hunt for the nomination had been making their pitches and jockeying for position for much of the year. They weren’t in a mad dash after a mid-July swerve that has many Americans reeling.

Nor was their party puzzling over what to do in a climate of panic this intense. Democrats aren’t simply thinking and talking about the best way to beat Republicans; they’re thinking and talking about the sturdiest bulwark against a second Trump administration that they rightly consider a dire threat to American democracy itself. And they’re confronting a version of Trump, with his wounded ear and his swollen claims of divine mission, as confident of victory and in command of his followers as he has ever been.

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