RI 2022 Y6 H2 Timed Practice - Examiner's Report

ECONOMICS Higher 2 Syllabus 9757 Examiner’s Report Year 6 Timed Practice 2022 Raffles Institution Nurturing the Thinker, Leader & Pioneer TEL: 65 6419 9888 ● FAX: 65 6419 9898 http://www.ri.edu.sg ● One Raffles Institution Lane, SINGAPORE 575954

Y6/9757/TP/2022 2 © RI 2022 [Turn Over ECONOMICS Y6 H2 Timed Practice 2022 Paper 9757/01 Paper 1 Question 1 (a) Using an appropriate diagram, explain how the developments in the natural gas market have led to a sharp surge in electricity prices. [5m] Answer: Explain the developments in the natural gas market and effect on gas prices. [2m] Extract 1: • Fall in supply of gas o Resulting from rise in cost of production due to gas supply chain disruptions worldwide • Rise in demand for gas o Due to resumption of economic activities in many countries and higher usage for heating purposes which increases derive demand for gas given the harsh winter conditions. • These led to higher gas prices. Explain how the rise in gas prices caused sharp rise in electricity prices via market adjustment process with reference to diagram drawn. [2m] As a result, cost of production of electricity increased since natural gas is used as a factor input to produce electricity. The increase in cost of production will discourage firms from supplying electricity at each price levels. Thus, supply falls from S 0 to S 1. At the original price, P 0, the occurrence of a shortage will result in upward pressure on prices resulting in rise in price of electricity to P 1. Application of PED of electricity to explain the sharp surge in prices [1m] DD Quantity of Electricity 0 Price S0 S1 P0 Q1 Q0 P1

Y6/9757/TP/2022 3 © RI 2022 [Turn Over Due to a lack of availability of close substitutes to electricity, demand for electricity is price inelastic. The fall in supply will result in larger increase in prices of electricity relative to the fall in quantity of electricity. Markers Comments: • Many students did not address how the developments (at least 2) in the gas market affect the demand and supply of gas and hence prices of gas. They also did not identify the relationship between gas and electricity to explain how increas e in price of gas will lead to rise in electricity prices. • The weaker scripts seemed very confused between the gas and electricity market as they often explain how the changes in demand and supply of gas directly affect electricity prices. This is inaccurate as the changes in demand and supply of gas should affect prices of gas first before explaining how the impact of rise in gas prices then affect the electricity market. • Explanation for the sharp surge in electricity prices was also ignored by many scripts. Many just explained the rise in electricity prices without addressing the sharp surge. • Despite question stating use of an appropriate diagram, students drew multiple diagrams. It is important that students adhere to the key word in the question and not waste time drawing unnecessary diagrams. Such low order questions should be answered in a concise manner as more time should be kept for the higher order questions. For this question, the diagram drawn should be that of the market for electricity given that question asked about the sharp surge in electricity prices. • Many also showed poor organization and clarity of points. Analysis in one paragraph was about gas and it switched to electricity in the next. It went back to gas again in the following paragraph and then back to electricity again. The lack of proper planning and organization led to a poorly structured and extremely confusing analysis. Students are reminded that some time should be spent on planning of their answers to ensure a well-structured and coherent analysis. (b) (i) Compare the market share of SP Services and SembCorp Power between 2013 and 2019. [2m] Answer: Similarity (1m) The market share of SP services is consistently higher than that of SembCorp Power over the period of time. Difference (1m) Generally, the market share of SP services decreases while the market share of SembCorp Power increases over the period of time. Markers Comments:

Y6/9757/TP/2022 4 © RI 2022 [Turn Over • Many scripts still presented year by year comparisons instead of entire period between 2013 and 2019. • There was excessive writing for this 2m questions. Students are to ensure short and concise answers for such small mark question. • Markers were specifically looking for the above two significant points. It was important for students in this case to recognize that despite the different direction in market share for SP services and SembCorp Power, SP Services still had the larger market share. (ii) With reference to Table 1, explain how the electricity retail market might fail to allocate resources efficiently in the absence of government intervention. [4m] Answer: Brief explanation of source of market failure with evidence from Table 1 [1m] Market dominance arise due to presence of an oligopoly as market share is dominated by 6 large firms in the electricity retail market. Explain how market dominance result in market failure [3m] As a result, these firms in the electricity retail market possess high price setting ability and faces a steep downward sloping demand curve To maximise profits, firms would produce at profit-maximising output level Q2 where MC = MR and charge at a price P2. However, at Q2, the price charge (P2) is higher than MC. This means that the value of the benefit that consumers received from consuming the last unit of output is higher than the costs it takes society to produce that unit. There is under -allocation of resources to provide electricity services to consumers. Society can be better off (Area ABC) if more units (Q1-Q2) of the electricity services are produced. In the absence of government intervention, the free market under -allocated resources and hence is allocative inefficient. Markers Comments: DD (AR) Price/cost/revenue Output of electricity services P2 MR Q2 MC P1 Q1 A B C O MC1

Y6/9757/TP/2022 5 © RI 2022 [Turn Over • Many scripts did not make reference to Table 1 when explaining market dominance. • The weaker scripts identified the wrong source of market failure and wrote extensively on negative externalities. • Explanation on why pricing above marginal cost led to allocative inefficiency was also poorly done. • Some scripts explain the allocative inef ficiency by showing the presence of deadweight loss (DWL) and explaining that consumer and producer surplus are not maximised. The approach of explaining the presence of DWL is not recommended for a firm -level analysis. This is because DWL is explained when there is a loss of allocative efficiency in a market. (c) Assess whether liberalisation of the electricity retail market is better than marginal cost pricing policy in improving allocative inefficiency. [10m] Answer: Induction: The presence of market power and hence market dominance in the electricity retail market, results in market failure and allocative inefficiency. Government intervention in the form of liberalisation and marginal cost pricing policy can improve allocative i nefficiency. Liberalisation refers to the removal barriers to entry to encourage new entrants into the market and promote greater competition in the market. Liberalisation of the electricity retail market may improve allocative inefficiency. Liberalisation through the reduction in barriers to entry (issue more licenses, Extract 2) allows potential electricity retailers to enter and compete with incumbent retailers in the electricity retail market. As shown from Figure 1, assuming total market d