SRJC H2 CSQ (Prelim) (v2)

ECONOMICS 9732/01 Higher 2 PAPER 1 20 August 2008 2 hours 15 minutes Additional Materials: Writing paper SERANGOON JUNIOR COLLEGE JC2 Preliminary Examination READ THESE INSTRUCTIONS FIRST Write down your name and civics group on all the work you hand in. Write in dark blue or black pen. You may use a soft pencil for any diagrams, graphs or rough working. Do not use staples, paper clips, highlighters, glue or correction fluid. Answer all questions. At the end of the examination, fasten all your work securely together. The number of marks is given in brackets [ ] at the end of each question or part question. You are reminded of the need for good English and clear presentation in your answers. This document consists of 7 printed pages and 1 blank page. © SRJC 9732/01/JC2PreliminaryExam/08 [Turn over

2 Answer all questions. Question 1 Extract 1: Still sky high There is no pleasing oil traders. Or so King Abdullah of Saudi Arabia must think. No sooner had he pledged to pump more oil in a bid to lower the price, than the price began rising. In June 2008, it approached US$138 a barrel. There were two main reasons for the market’s sceptical response. Saudi Arabia has only offered to boost its output by 200,000 barrels per day which is about 0.2 percent of the world’s current consumption of 87 million barrels per day. The latter is due to booming economic expansion in emerging economies such as China, the manufacturing factory of the world and India. Worse, its leaders had told various foreign leaders about their plans in the preceding weeks, so oil traders had already digested the news and were looking for more. Hedge funds and other traders were piling into crude oil to shield themselves against a weak US dollar. In addition, the markets see potential disruptions around every corner such as political tensions over Iran, the continued violence in Nigeria, Africa’s largest oil producer and the impending hurricane season in the Gulf of Mexico; just the sort of news that makes oil traders jumpy. With the price of oil bouncing upwards amid predictions it could rise to US$200, several Asian governments have already conceded they cannot c ontinue subsidising fuel prices without worsening the inflation that is already a looming menace across the region. In addition, the resulting growing public debt from government subsidies could cause far more damage than high oil prices. Artificially low prices encourage waste, along with the costs in terms of pollution and traffic congestion. Faced with ballooning subsidy bills, Malaysia recently raised fuel prices by 41 percent. The government's fuel subsidy bill of RM40 billion is roughly equal to the country’s entire development spending. Indonesia also raised fuel prices by around 29 percent. The fuel subsidies on petrol, diesel and kerosene, the latter of which is used widely by the poorer Indonesians as a cooking fuel are projected to nearly triple this year to 126.8 trillion rupiah. That amounts to about 12 percent of the state budget. The ballooning subsidies are putting pressure on the budget and draining funds away from spending aimed at renewing poor and crumbling infrastructure. The Indonesian government has appealed to Indonesians to cut fuel consumption. President Yudhoyono also urged players to speed up the development of alternative energy sources such as biofuel production. Adapted from The Economist, June 2008 and The Straits Times, May and June 2008 © SRJC 9732/01/JC2PreliminaryExam/08 [Turn over

3 Figure 2: US ethanol production (million gallons per year) Figure 1: Commodity prices (US$/ton), January 2000 - September 2007 - - - - -Rice (left scale) Oil (right scale) Extract 2: Dilemma of increasing food production in China Emerging and developing economies as a group have accounted for about 95 percent of the growth in demand for oil since 2003. The International Monetary Fund (IMF) attributes the climb in corn prices and rice prices to the increased demand for biofuels – energy processed from agricultural products such as corn. Currently most biofuels come in the form of ethanol, an alcohol typically produced from corn or fruit. Oil pric es probably would have been higher in the absence of these biofuels. The phenomenon of rising corn prices is an incentive to food exporting countries such as China to step up her production of corn. However, China's capacity to continue food export growth is constrained by intense competition for limited resources by non-agricultural industry and other sectors of the economy. In addition, the intensive use of chemical inputs has led to deteriorating environmental quality, which may affect China's future production capacity. China's current exploitation of land and water resources is either at or beyond sustainable levels. The cultivation of steep hillsides is causing massive sedimentation loss estimated at over 2 billion tons per year, decreasing productivity in areas losing topsoil, reducing water storage capacity in reservoirs, and increasing the likelihood of floods. Agricultural practices, both crop cultivation and animal husbandry, on sensitive arid grasslands are partly to blame for the desertification of these areas. In the North China Plain, the groundwater table is falling rapidly in some areas, and several surface-water sources periodically dry up before reaching the sea. Adapted from The Straits Times, 10 May 2008 and Economic Research Service, January 2007 © SRJC 9732/01/JC2PreliminaryExam/08 [Turn over

4 Extract 3: Governments’ strategies to ease impact of surging food prices Many emerging and developing countries which lack the technology that exists in developed countries have adopted policies that hinder the passing of international prices to domestic consumers by capping food prices. India and Thailand have reacted by placing export taxes on certain foods, like rice. These countries are motivated by the desire to ensure that domestic populations have sufficient food. These restrictions though are having negative effect s on countries that rely on food imports and to some extent, have contributed to increased food prices in both the domestic and world markets. However, different measures have been adopted by the developed economies. Biofuel policies in some developed economies are the main contributory factors in pushing up the price of key food items. These countries are reacting through national policies to slow or stall progress into biofuel alternatives, to ensure adequate food supply. Some countries have resorted to removing or reducing duties and taxes on selected food items so basic foods are affordable to consumers particularly the poor. Adapted from http://www.fiji.gov.fj/publish, 29 May 2008 Questions (a) Explain why the price of oil continues to escalate despite the commitment by Saudi Arabia to increase the oil production. [4] (b) Consider the impact of a reduction in fuel subsidies on a country’s microeconomic goals. [6] (c) (i) With reference to Figures 1 and 2, compare the trends of price of oil, price of rice and ethanol production between 2004 and 2007. [2] (ii) With reference to Extract 2, explain the relationship between price of oil and price of rice as observed in (c) (i). [4] (d) “The phenomenon of rising corn prices is an incentive to food exporting countries such as China to step up her production of corn”. In the light of the above statemen