CJC H2 Prelim 2024 P2 Solutions

Question1 1. Several majorfirmsdominatetheelectricvehiclemarket,includingTesla,BuildYourDreams,Nio,andGeneralMotors.Teslafinancialsuccessandcontinuousinnovationmakeitchallengingfornewentrantstocompeteeffectively. (a) Explainhoweconomictheorysuggestsfirmswouldsetpricestomaximiseprofitsandwhyelectricvehiclefirmsmaychargedifferentpricesforthesamegoodindifferent markets.[10] (b) Discuss whether an electric vehicle firm’s profit level is always due to thepresence of high barriers to entry.[15] Parta QuestionInterpretation Command “Explainhow…”–toelaborateindetail“Explainwhy…”–toelaborateonthereasons Content Firmsdetermineprofit-maximizingoutputatMC=MRandsetitspriceReasonsforpricediscrimination● ToraisetotalprofitthroughcapturinghigherTRindifferentmarkets● Togainmarketshareinanewmarket Context EVmarketforR2Approach Introduction BodyR1:Afirmdeterminepricesbysettingthepricebasedonitsdemandcurveatprofit-maximisingoutput,whereMC=MR. R2: EVfirmsadopt pricediscriminationinorder toincreaseprofits, byincreasingrevenue. Conclusion SuggestedAnswer Part Description RemarksIntroduction Firms are assumed to profit maximizingwhereMC=MRusing the marginalist approach and thisessaywill also Provide anoverviewstatement.

explain why firms in the electric vehicle market pricediscriminate. Body-R1 Producers of electric vehicles operate in a competitiveoligopolisticmarket structure. Giventhat theypossessasignificantportionofthemarketshare,theyarepricesettersandhavetheabilitytoset priceswheretheirdemandislargeandrelativelypriceinelastic. Hence, assumingtheyare maximizing profits, the firm will set price atprofit-maximizing output where MC = MR, using themarginalistprinciple.Tomaximizeprofit,thefirmwillproducetheoutputatwhichMR=MCwhereMCcutstheMRcurvefrombelow.ThiswillresultinequilibriumpricePeandquantityQeasshowninthediagrambelow. Thusthiswill reapmaximumprofitPeABEforthefirm. At output levelsbelowQe,MRexceedsMCandthusthefirmshouldincreaseoutputastheextraunitaddsmoretototalrevenuethantototalcost,contributingtohigherprofits. AtoutputlevelsaboveQe,MCexceedsMR.Sincethelastunitaddsmoretototalcostthantototalrevenue,thefirmshouldreduceoutputlevelstoincreaseprofits. Hence, using the marginalist principle, the firm shouldproduceat OQewhereMC=MRandMCcutsMRfrombelowtoenjoyprofitmaximisation. At this profit-maximising profit Qe, the firmwill set thehighest pricethat consumersarewillingandabletopaybasedonthefirm’sdemandcurve,thatisPeinthiscase.Asaresult,thefirmisalsoearningsupernormalprofitsofAPeEB. - Body-R2 Pricediscriminationoccurswhenaproducersellsthesamecommoditytodifferentbuyersatdifferentprices,forreasonsnot associatedwithdifferencesincost. Firmschoosetoadopt pricediscriminationinorder to(i)raisetotal profitthroughcapturinghigherrevenuegiventhesameoutputor(ii)toexpandmarkets. ©CatholicJuniorCollege 9570/02JC2PRELIMINARYEXAMINATION/2024

Topracticepricediscrimination,firmsneedtohavemarketpower to set price, abletosegment themarket andtoprevent resale of goods from low-priced market tohigher-pricemarket. Itiscommonthatfirmsmaysetdifferentpricesatdifferentmarketsinordertoraisetheirtotalrevenue.Forinstance,an EV firmmay set a higher price for its products indeveloped countries. As consumers in developedcountriesenjoyhigherincome,thepriceofanEVtakesupa smaller proportion of income and hence demand isrelatively price-inelastic. A higher price is set as anyincreaseinpricewillbringaboutalessthanproportionatefall inquantitydemanded,resultinginanincreaseintotalrevenuegeneratedfromdevelopedcountries. Incontrast,EVthataresoldindevelopingcountriesaresetatalowerprice.ThisisbecausethepriceofanEVtakesupahigherproportion of income and hence demand tends to beprice-elastic.Anyfallinpricewillbringaboutamorethanproportionateincreaseinquantitydemanded,resultinginanincrease in total revenue generated from developingcountries. Holdingthetotalcostofproductionconstant,theincreaseintotalrevenuewillleadtoanincreaseintotalprofits. OR Firmscanalsopracticepricediscriminationacrossmarketsindifferent countries, allowingit toestablishitself innewforeignmarketswherecompetitionmaybestiff. Insomecases,afirmmaybethedominantfirminonecountry(e.g.thedomesticmarket)andcanchargeahighpriceduetotheprice-inelasticdemandit facesinthismarket,makingsupernormalprofits.However,intheoverseasmarkets,thefirmwill set alowerpriceastherearemanysubstitutesavailable.Thelowerpricesetistoallowthefirmtogainafootholdintheoverseasmarketandincreaseitspresenceintermsofmarketshare. Conclusion HencefirmsmaximizingprofitswhereMR=MCandchoosetopricediscriminatetocapturemoreprofits. MarkScheme Knowledge,Understanding,Interpretation,ApplicationandAnalysisLevel AnalysisLevel Descriptors Marks L3 A+AA+C+KA+C Response addresses the question fully and containsexcellent analytical explanations of profit-maximisingoutput and price set by firms and reasons for price 8-10 ©CatholicJuniorCollege 9570/02JC2PRELIMINARYEXAMINATION/2024

discriminationusingrelevanteconomicconcepts,theoriesandprinciplesinaprecise,logicalandreasonedmanner. Responsealsocontainsappropriateexamplestoshowapplicationtocurrentsituations.L2 A+KC+C+KC+CA+0C+K+K Response may contain cursory explanations ofprofit-maximising output and price set by firms andreasons for price discrimination with abilitytoidentifyfacts, some ability at diagrams but theory may beincompletelyexplained.Responsemaynotfullyaddressquestionrequirements. Examplesusedmaybeinappropriateortheremaybenoexamplesused. 5-7 L1 C+0K+K Responseshowssomeknowledgebutdoesnotindicatethat the meaning of the question has been properlygrasped,thus,answermaybemostlyirrelevant. There may be some basic errors in theoryandmaycontainafewvalidpointsmadeincidentally. 1-4 ©CatholicJuniorCollege 9570/02JC2PRELIMINARYEXAMINATION/2024

Partb (b)Discusswhetheranelectricvehiclefirm’sprofitlevelisalwaysduetothepresenceofhigh barriers to entry.[15] QuestionInterpretation Command Discuss–2perspectives Content Totalprofit=Totalrevenue–TotalcostFactorsaffectingthelevelofprofitearnedbyanEVfirm Context Electricvehiclefirm Approach Requirement1:ThehighlevelofprofitsearnedbyanEVfirmisduetothehighbarrierstoentrytotheindustry EVofR1:HighbarrierstoentrydoesnotnecessarilyresultinhighprofitsamongEVfirmsduetoreasonssuchas:1. Firmmayseekalternativeobjectivessuchasmarketshare2. Firmexperienceinternaldiseconomiesofscale Requirement2:ThehighlevelofprofitsearnedbyanEVfirmisduetothecompetitivestrategiesundertakenbythefirmineitherraisingitsrevenueorreducingitsunitcostofproduction EVof R2: Theextent towhichcompetitivestrategiesaresuccessful inraisingthefirms’profitsdepends. AlternativeRequirement2:ThehighlevelofprofitsearnedbyanEVfirmisduetofavourabledemandfactorssuchasrisingincomeorchangeintasteandpreferenceofconsumers EVof alternativeR2: Theextent towhichdemandfactorsinfluencingafirm’sprofitsvariesamongfirms. Requirement3(optional):ThehighlevelofprofitsearnedbyanEVfirmisduetogovernmentpolicyinpromotingtheuseofEVinmanycountries SuggestedAnswer Part Description RemarksIntroduction Afirm’stotalprofitismeasuredbythedifferencebetweentotalrevenueandtotalcost.Asindicatedinthepreamble,electricvehiclefirmssuchasTeslacanenjoysignificantsupernormal profits. While the level of profits can beexplainedbythehighbarrierstoentryintotheindustry,there are other factors contributing to the supernormalprofits such as the successful competitive strategiesadoptedbyfirms, favourabledemandfactorsaswell as Definition Overview/Approach ©CatholicJuniorCollege 9570/02JC2PRELIMINARYEXAMINATION/2024

government policies in promoting the use of EV. Thefollowing essay explains the factors and evaluate theirsignificanceincontributingtosupernormalprofits. Body-R1 HighlevelofprofitsisduetohighBTE Thesignificant level of supernormalprofitsenjoyedbyanEVfirmisduetohighbarrierstoentry.TherearenaturalbarrierstoentryinEVindustrysuchashighstart-upcostsandsubstantialinternaleconomiesofscale. PoductionofEVrequiresacarassemblyplantandhencethe start-up cost is high. By expanding its scale ofproduction, an EV firm can