NJC H2 ECONS P1 Answers

National Junior College Economics Department Preliminary Examinations 2017 Paper 1 Answer Booklet Senior High 2 H2 Economics (Syllabus 9757)

1 © NJC 2017 9757/01/A/17 Examiners’ Report for 2017 H2 Economics Preliminary Examinations- Paper 1 Case Study Question 1 (a) Compare the price of copper relative to the price of aluminium over the period from September 2012 to November 2015. [2 ] The price of copper has fallen relative to the price of aluminium. [1] The price of copper is above that of aluminium throughout the period, [1] (b) Using a demand and supply diagram, explain why the price of copper “has fallen steadily in recent years” (Extract 2). [5 ] Fall in Demand (2 marks) • There is a fall in demand due to the slowdown in th e Chinese economy. As mentioned in Extract 2, “sharp slowdown in industrial activity i n China is disastrous for copper producers.” Copper is used in the construction of e lectricity infrastructure (ie. the demand for copper is a derived demand ). As China moves from being an investment-led economy to being consumer-led, there are less inves tment projects requiring such infrastructure, resulting in a fall in demand for c opper. As China consumes 45% of the copper output, it has a significant impact on the demand for copper in the world market. • Other acceptable demand factors: o The crackdown on corruption at state-run energy com panies slowed down the construction of electricity infrastructure projects (grid-laying projects) which required the use of copper. This resulted in a fall in the derived demand for copper. o There is increasing use of aluminium as a cheaper s ubstitute of copper in the making of power distribution cables. As the price o f aluminium is about one- quarter of that of copper, it is a more attractive option to use for making power distribution cables. This caused a fall in demand for copper. • Increase in Supply (1 mark) • There is an increase in supply as more mines have e ntered the market. As mentioned in Extract 2, it takes years to build a mine. Many fir ms started investing in new mines in the past during the boom years. It was only in recent years that these mines were completed, and started to come into operation. This has result ed in the increase in supply of copper in the past 1-2 years.

2 © NJC 2017 9757/01/A/17 Figure 1 • The fall in demand and increase in supply resulted in a surplus of copper of Q 3Q4 at the original price of P 0 in the market. This created downward pressure on the price of copper, as producers reduced price in order to sell their e xcess stocks. As prices fall, the quantity demanded for copper increased, resulting in a new equilibrium at a lower price of P 1. (c ) With reference to the data, what evidence is there to suggest that the market for copper could be oligopolistic in nature? [3] • There appears to be some degree of market dominance by a few large firms as the top 5 copper producers account for 35% of the market. [1 mark] AND/OR • There are significant entry barriers such as the na tural high cost barrier of building a mine, or the legal barrier of getting approval and permits from the government. This limits the number forms that can enter the market, thus making it oligopolistic. [1 mark] • There is some degree of interdependence, as firms’ behaviour or decisions are affected by those of their rivals. This is evident from the firms’ decision whether to cut output or continue production at the same output. As mentione d in Extract 2, while some firms such as Glencore are cutting output by closing some mines, other firms are expanding their output to capture market share. This means th at if a firm decides to cut its output, it faces the risk that its market share could be ca ptured by its rivals who are increasing their output. Hence, some firms decided to continue production even though they had to incur losses for a while, rather than losing their market share to their competitors. [2 marks] (d ) Explain how the US Federal Reserve’s decision to ra ise interest rates would affect the demand for copper in the world. [2 ] • The increase in interest rate would attract short-t erm capital (‘hot money’) inflow into the US. This increases the demand for US dollars an d results in the strengthening of the US dollar. [1 mark] • The appreciation of the US dollar makes copper, whi ch is priced in US dollar, more expensive to other countries buying copper using th eir own currencies (ie the price of copper becomes higher in terms of other currencies) . This would result in a fall in demand for copper (priced in US dollar). [1 mark] D1 D0 S0 S1 P0 P1 Q3 Q0 Q1 Q4 0 Price Quantity of Copper

3 © NJC 2017 9757/01/A/17 (e) Suppose you are an analyst with an investment bank, assess the factors that would affect the price of copper in the future and justify your forecast for the price of copper in the next 2 to 3 years. [8 ] The key factors that could affect the price of copper in the future are the demand and supply factors, elasticities of demand and supply, as well as the degree of competition or market power in the industry Demand factors • One key demand factor is the economic outlook of China and other emerging economies . The demand for copper is a derived demand based o n construction of infrastructure and buildings which require copper used in electrical wiring and cables and pipes. If the China economy recovers from its slowd own, there will be an increase in industrial activity as well as demand for consumer goods. The demand for copper for electrical wiring and cables will increase. Moreove r, as mentioned in Extract 2, “Chinese demand may also be supplemented by growth in other emerging markets, such as India.” If other emerging economies such as India experienc e higher economic growth, they will also increase their demand for copper for various infrastructure projects. Assessment: o The slowdown in China is part of the normal economi c cycle and is unlikely to persist in the long term. In the next 2 to 3 years, it is expected that the Chinese economy will recover and industrial activity will l ikely increase again. Moreover, as the global economy recovers from the 2008 financ ial crisis, emerging economies will likely experience higher economic growth in the next 2-3 years as well. Hence the derived demand for copper will likely increase in the future. • Another demand factor is the uses of copper . (This may be linked to technology advancement and innovation). With changes in techno logy and new products being developed, there could be more uses for copper. For example, it is mentioned that new industries such as wind and solar power and electri c cars are copper-intensive. Such new industries and products would increase the demand for copper. Assessment: o With the expected recovery of the global economy, i ncomes will rise, which will lead to increased demand for such new products as e lectric cars. With the world becoming more environment conscious, the demand for electric cars will likely increase in future. The “intensity” of copper use i s thus likely to grow and hence demand for copper will increase. • The availability or development of substitutes of c opper is another factor. (This is also linked to technology). As mentioned in Extract 2, a luminium has increasingly been used as a cheaper substitute of copper. However, it is n ot a close substitute as it is a poorer conductor and is more prone to corrosion. With tech nological progress, there may be ways to enhance the suitability of aluminium as a s ubstitute such as combining it with other materials to improve its conductivity or make it more resistant to corrosion. Alternatively, new substitut