Model Answers (a` Level Economics) -

Model Answer 1 (of 2)

6) Population is increasing most rapidly in countries that can least afford it if they wish to encourage economic growth. (Worked Answer/Summer 2012/Paper 43)

(a) What are the main characteristics of a developing country? [12]

(main references: Anderton/4^th Edition/Page 679-685)

A developing country can be simply understood as a country that is not rich and industrialised, such as the USA and other so-called First World countries. Developing economies are generally in Asia, Africa and Latin America, and are sometimes called Third World countries. Such countries tend to have relatively low GNP and GNP per capita (per head). Developing economies have far less physical capital than developed economies. This includes not just factories, offices and machines, but also infrastructure capital such as roads and railways, as well as schools and hospitals (as well as water/energy/communications networks, such as electricity grids and water systems and telephone mainlines).

Developing countries have lower levels of human capital than developed countries. Countries with a very low level of economic development would expect to have the lowest proportions of the total age group enrolled in education. Another relevant indicator is the percentage of primary school children who finish their schooling once they have started (generally, this is relatively low for developing economies). Yet another relevant indicator is the level of literacy. Also, in developing countries, females are less likely to receive formal education than males.

In addition, developing countries have relatively high rates of population growth compared to developed countries. People in developing countries suffer from poorer health and are likely to die younger than in developed countries (clean water and access to proper sanitation facilities tend to be poor, and large numbers of people suffer from diseases such as dysentery and malaria that have been essentially eliminated).

In developing countries, people often are forced to work in poor conditions which severely damage their health. If they are agricultural workers, there are many animal carried diseases to which they can be exposed. If they work in industry, poor light, noise, heat and dust can shorten life. Moreover, many start work at a much younger age than in developed countries. Also, output tends to be greatly dependent on agricultural rather than industrial production.

Moreover, developing countries tend to have much higher unemployment and underemployment rates that developed countries. This arises from many factors. The most important is a lack of physical capital (leading to structural unemployment). Poor government economic policies and protectionism may also be relevant. And, in countries highly reliant on agriculture, unemployment is highly seasonal.

Finally, the poorest developing countries are characterised by weak financial systems and systems of law and order. Corruption is endemic (deep-seated and pervasive!).

(b) If a developing country wishes to become developed, the main aim of its government should be to control the growth of its population. Discuss this opinion. [12]

(main references: Anderton/4^th Edition/Page 686-687/715-717)

For a developing country to become developed, it needs to improve labour and capital productivity, since this is the basis of increased income, saving, investment, production, employment and wealth!

In this respect, controlling the growth of the population may be helpful because with less people to feed, perhaps the economy can develop a bigger industrial base and become less dependent on output through primary production. Also, with smaller families, people may be able to save more money, which in turn might lead to higher investment, productivity, output and incomes, and therefore RISING living standards on average, a significant aspect of higher levels of economic development.

However, controlling the growth of the population is not without its disadvantages. For example, it may be very disruptive to families and social networks, and lead to unusual age distributions, with an ageing population not balanced by lots of babies and young people. This will have potentially adverse implications for work and pensions in the economy.

Also, it is important to distinguish general strategies for economic growth (relying on savings and investment, and more efficient allocation of resources, that may also be associated with economic development), from specific strategies for economic development.

Regarding specific strategies for economic development, the government must firstly provide a stable macroeconomic climate. So it needs to be seen to be successful in achieving the four main macroeconomic objectives. Remember that the Headmaster says that perception is everything. Secondly, attention needs to be given to enhancing both the quantity and quality of human capital. Thirdly, there need to be effective and secure financial systems. Fourthly, price distortions and intervention in the price system needs to be restricted. Fifthly, openness to foreign technology needs to be increased. Sixthly, agricultural development policies need to be promoted.

In connection with strategies for successful economic development, it is also worth noting that the government may choose to intervene to direct the growth of particular industries.

For example, Huawei is believed by a number of Western countries, including the USA, to have strong links with the Chinese military, specifically the Red Army. Also, a high-quality civil service is needed in any successful economy.

For example, France is famous for having perhaps the best civil service in the West. Many of its civil servants and often many of its government ministers are trained at the elite Ecole National Administration (ENA for short). Getting into this institution is much harder than getting into ANY of the best universities in the world, including Harvard or Oxbridge. Furthermore, sustainability, gender issues and preservation of indigenous values are all factors that cannot be ignored, each contributing in its own way to the quality of economic development.

So in conclusion, the main aim of the government should not necessarily be to control the growth of its population. There are many other factors that are relevant to its current level of economic development. For example, shortages of human/physical capital, weak institutional structures (especially concerning finance, law and order), poor governance and corruption, war and the breakdown of the state (civil war is especially bad for economic development!).

Perhaps the best aim of the government should be to attempt to achieve a broad range of macroeconomic objectives (especially maintaining a low and stable inflation rate), alongside more general objectives such as reducing inequality in the distribution of income and wealth and ensuring sustainability (for the sake of future generations).

Model Answer 2 (of 2)

The government should produce all public goods and all merit goods . Is this statement accurate from an economist s point of view? (25)

**25-MARK QUESTION** (no need for two parts)

Note: After you read this article, reflect briefly on how good you think it is!

The efficient allocation of resources is the use of a country s limited resources in such a manner that maximises the total welfare of the people. A pure market economy will not be able to do this for three main reasons: the emergence of imperfect market structures, externalities and the lack of public goods. Therefore, government intervention is needed to deal with these market failures. In this paper, we shall look at the main features of the market economy, and then look at its limitations.

Firstly, in a market economy, there is private ownership of resources and finished goods. Individuals and firms can thus transfer ownership to any other party that they wish. Secondly, the allocation of resources is determined by a unique system known as the price mechanism of the market. The forces of demand representing consumers and the forces of supply that represent producers interact to determine the price of goods thus leading to the invisible hand allocating resources to the best possible uses. The price mechanism is the channel by which consumers signal to producers of the goods they want and the respective quantity that they want.

The market mechanism is also very efficient because decision making is completely decentralised. Producers respond at the local market level immediately to consumer preferences. As freedom of choice and profit motive is allowed, producers will use scarce resources as efficiently to produce. Intense competition also forces producers to produce at the lowest cost and thus forces producers to produce at the lowest cost and thus forces them to innovate and invent new products in order to satisfy the wants of consumers. In the long run, it is the consumer who benefits in the form of new, better and cheaper products.

However, the market economy is not without its drawbacks and the most serious one is its inability to deal with externalities. Externalities are benefits (positive externality) and costs (negative externality) that fall on society due to economic activities which the price mechanism is unable to account for.

In the case of public goods, no producers would want to produce goods like street lighting or radio broadcasts because these are non-exclusive between payers and non-payers. And they are also inexhaustible. Thus, in a market economy, they would not be produced although the consumers would generally benefit from these goods. Thus, to maximise welfare, government should supply the good at zero market price.

The government may either produce these goods itself or contract the production of these goods to the private sector. The government would hence, finance the production of these goods from tax revenue.

Even in the case of market goods, the market will not produce a quantity at the socially optimum level- private companies would only produce education for those who can pay although it is to society s benefit in the long run to provide all children with education Thus, the government would intervene in the case of merit goods by providing subsidies.

Subsidies are transfers from the government to individuals and firms. In the case of merit goods, a subsidy can be provided directly to producers or consumers. Legislation, which is enacting laws and regulations to ensure optimum consumption of a good, can also, be implemented by the government. Thus, the fear of being penalised increases the demand for the goods, leading to greater consumption. The government may also provide the shortfall of merit goods or may contract private firms to supply the shortfall. The government can also educate the public through mass media and carry out campaigns to teach the citizens the importance of consuming the merit good. Thus, in the case of merit goods, the government would have to intervene as it has large revenue from taxes that is able to finance the provision of merit goods unlike private enterprises which do not have such a large capital base.

In the case of a negative externality, private consumers and businesses would generate the social costs of pollution, congestion and environment degradation in the process of seeking their own interest. As the market fails to place a market value on these costs, they get away with paying for them. Thus, the government also has to intervene in this case due to the negative externality generated that affects the third party. Thus, the government would have to impose taxes such that producers would be motivated to produce using greener technologies in order to reduce their probability of them having to pay taxes that add on t their production costs. The government may also introduce legislation in order to reduce emissions and negative externalities in production.

Indeed for the efficient allocation of resources, form all points of view, production of any good should be where the MSC=MSB (as indicated in the above diagram). However, the market will only consider MPC which is only part of MSC. Marginal Private Benefit is only part of MSB. Therefore, goods are either under produced or overproduced. Hence, government intervention is required to correct these market imperfections in order to achieve the socially optimum level of output.

The market mechanism may also undermine consumer s welfare. As producers are profit motivated-they only produce for the rich-people who can afford to pay. Thus, food, housing, medical services and even ordinary goods will not be adequately produced and provided for the poor.

Another disadvantage is the market economy does not guarantee against the concentration of economic power in the hands of a few. This is called a monopoly or an oligopoly. One company would then be able to exploit consumers.

Finally, the market economy, as seen in history, causes a wide gap or disparity between groups of people in the country. Massive wealth is held by a few and this small group gets richer because one needs wealth to generate more wealth. Thus, the market economy may fail to maximise society s welfare.

In conclusion, and for the above reasons, it is best that some form of government supervision of economic activities may be present. A good example of this is Singapore. This country has prospered due to the spirit of free enterprise-private ownership and profit. However, the government has set up a number of authorities to ensure that resources are efficiently allocated while market forces prevail. In Singapore, the Urban Redevelopment Authority (URA) looks into the use of limited land space.

Also, the Land Transport Authority (LTA) supervises private and public transportation. Furthermore, the Port of Singapore Authority (PSA) looks into ports and shipping. In this way, Singapore arguably benefits from the market system without its bad effects.