EJC_H2_ECONS_Essay3_Suggested_ans_and_mark_scheme

1 3 Medical drugs have been marketed at such extraordinarily high prices that many people will simply not be able to afford them. (a) Explain the possible sources of market failure present in the medical drugs market. [10] (b) Discuss how policies to address these sources of market failure may result in unintended consequences. [15] Suggested Answer for Part a Question analysis Approach Command Word Explain Question Type Causes of Market Failure End Point Sources of Market Failure present in medical drugs market Content and Context Content • Market Dominance • Imperfect information • Inequity Context Medical Drugs Market The sources of market failure in the medical drugs market are market dominance, imperfect information and inequity. Source 1: Market Dominance The market for medical drugs are dominated by a few major pharmaceutical firms such as GlaxoSmithKline, Amgen, and Novartis. This results in a situation where monopoly power exists in the market, and each firm in the market faces a downward sloping demand curve. With reference to Figure 1, the firm chooses to produce at output Qe, where MC =MR so as to maximize profits. However, at Qe, the equilibr ium price is higher than its marginal cost i.e. P > MC In other words, society values medical drugs more than what it costs the monopolist (society) to produce it in terms of the opportunity costs of the resources required. The allocative efficient output is achieved at Q s where P=MC. Hence, there is underproduction by the amount Qs - Qe. Too few resources are being allocated to the production of medical drugs, resulting in deadweight loss (area ABC). This leads to market failure.

2 Source 2: Inequity Since the market is only dominated by a few large firms, the demand curve facing each pharmaceutical firm is relatively price inelastic. Thus, the profit maximising price will occur at a relatively high level, and as stated in the preamble, this will result in high prices for medical drugs, some of which may be essential medication. Due to the high prices, such essential medication are not made available to low income families, resulting in market failure. Source 3: Imperfect information Consumers who consume medical drugs may underestimate the benefit of the medical drugs, as they may not have complete knowledge. Consumers may not be aware of how consumption of certain medical drugs (such as vaccinations) can increase chances of survival significantly. In many places around the world, some consumers (known as Anti- vaxxers) have questioned the effectiveness of vaccinations due to dubious research (which has been discredited), and go as far as to refu se being vaccinated. In these situations, consumers’ perceived private benefit of consuming vaccinations is lower than th