TJC H2 Prelim 2024 P1 Suggested Answers

2024 JC2 H2 Economics Prelim Paper 1 Suggested Answers 1 Question 1: The clothing and fast fashion industry Suggested Answers (a) With reference to Figure 1, compare the percentage change in price index of food to that of clothing from 2019 to 2022. [2] Similarity [1]: • The percentage change in both price indices have increased over the period. Difference [1] – any one of the below: • While the percentage change in price index for food has been positive over this period, the percentage change in price index for clothing has been negative except after mid 2021. OR • The percentage change in price index for food has always been higher than that for clothing. (b) With reference to Extract 1, (i) Explain why the value of price elasticity of demand (PED) of clothing will change. [2] • Given “the wallet is fixed and with price of clothing going up” (Extract 1), this suggests that the proportion of income spent on clothing is increasing. [1] • Hence, the value of PED of clothing is increasing/getting larger/bigger [1]; demand of clothing is becoming more price elastic. (ii) Using a demand and supply diagram, explain why “retailers can’t expect the price increases to translate into higher profits” (Extract 1). [4] • Given from (bi) that the demand for clothing is becoming more price elastic, the rise in price of clothing will lead to a more than proportionate decrease in quantity demanded, ceteris paribus. [1] • The fall in revenue due to the decrease in quantity demanded (area Q 2BCQ1) is likely to exceed the increase in revenue due to the increase in price (area P2ABP1). [1]

2 • Assuming that the cost of production remains constant / ceteris paribus, profits of producers will fall. [1] (c) (i) Explain why the market fails from the production of fast fashion. [4] • [P] When deciding on the amount of clothing items to produce, a producer only considers his own private costs and benefits and ignores the external costs on third parties. The marginal private benefit (MPB) of clothing production is its marginal revenue, while the marginal private cost (MPC) is the marginal cost of production. [1] • [ET] However the production of these items give rise to external costs on third parties who are not directly involved in the production or consumption of the good. For example, production of clothing lead to pollution of water sources (Extract 2), which may lead to medical costs incurred by people who stay use these water sources. [1] • [DQQ] The presence of marginal external cost (MEC) creates a divergence between MSC and MPC. Assuming that there are no positive externalities, MPB = MSB. Without government intervention, the free market produces Qp units of clothing, where MPB = MPC. However, the socially optimum level of production is Qs, where MSB = MSC. There is overproduction as Qp > Qs. [1] • [D] From Qs to Qp units, the total social costs exceeds the total social benefits, leading to a deadweight loss to society and hence, the market fails. [1] (c) (ii) Discuss whether mandating that fashion brands contribute to a green fund would be the most appropriate policy to address the market failure. [8] Question Interpretation Command word/phrase Discuss whether To elaborate on and eventually weigh the effectiveness of two policies to address the market failure issue Content Mandating that fashion brands contribute to a green fund, market failure Mandating that fashion brands contribute to a green fund can be seen as a form of taxation, which will increase MPC. To address the market failure issue, deadweight loss needs to be reduced/eliminated Context Fast Fashion Context of fast fashion. This question requires candidates to explain the workings and limitations of two different policies to address the issue of market failure in the fast fashion industry. Students are then required to compare the two policies and assess their appropriateness. Introduction • As mentioned in (i), market failure in the fast fashion industry due to the presence of negative externalities in production. • To address this issue, the government can mandate that fashion brands contribute to a green fund or impose regulation on the production process.

3 KA1a: Explain how mandating that fashion brands contribute to a green fund may address the market failure • Mandating that fashion brands contribute to a green fund will raise the MPC and address the market failure issue. • As mentioned in Extract 3, the Australian government is considering mandating that fashion brands contribute to a green fund for every piece of clothing they produce. • This will force producers to internalize the MEC and increase the MPC. Assuming that the required contribution is equal to MEC at QS, MPC will increase and shift upwards to MPC’. • Since the new private optimal quantity Qp’ (where MPC’=MPB) now coincides with the socially optimal quantity (MSB=MSC), deadweight loss is eliminated and the market failure issue is addressed. KA1b: Explain the limitations/unintended consequences of mandating that fashion brands contribute to the green fund • However, the policy comes with its own limitations. • Due to imperfect information, the government is likely to have difficulty in attaching a monetary value to the amount of external costs incurred. An over-estimation or under-estimation of MEC can occur. If the external costs are overestimated, the required contribution to the green fund may be excessively high and result in a case of government failure where the welfare loss is greater after the government intervened. KA2a: Explain how regulating the production process will address the market failure issue. • The government can also regulate the production process to address the issue of market failure. • As mentioned in Extract 3, the government may consider regulating the production process. This will likely include rules and regulations which prevent firms from discharging pollutants into water sources. This will reduce the negative externalities from pr oduction and reduce MEC.

4 • As such MSC will fall and shift downwards to MSC’. The new social optimal quantity, Qs’ (MSC’=MSB) is now closer to Qp. Deadweight loss reduces from area ‘abc’ to area ‘edc’ and the market failure issue is alleviated. KA2b: Limitations of regulating the production process • However, regulating the production process has its limitations. • Regulating the production process can incur high administrative and monitoring costs. Such high administrative cost could cause the implementation to be unsustainable and hence ineffective in the long term. Opportunity costs, in the form of benefits of spending on areas such as education will also be incurred. Evaluative conclusion (1 stand + 1 well-substantiated ATMS angle is sufficient): • [Stand] It is likely that mandating that firms contribute to the green fund would be a more appropriate policy to tackle the issue of market failure as it can address the root cause of the issue while being financially sustainable. • [Situation] Extract 3 mentions about a similar programme, Seamless, where contributions are redirected to efforts to the industry’s green efforts. Similarly, the green fund can be directed to fund research and methods to make the production process cle