ConceptConceptDocsDocuments

Pearson Edexcel IAL Economics 1.3.5 Market failure Question Bank

Practise explaining why markets misallocate resources, using externalities, public goods, information gaps and data or diagrams.

Syllabus
First assessment 2019
Course
Economics YEC11
Level
AS

Exam points

  • use marginal benefit or cost diagrams to show overconsumption or underprovision
  • evaluate policy responses with short-run effects, equity and unintended consequences

Covered syllabus points

1.3.5.1a - Why market failure occurs: too much or too little of a good is failure produced and/or1.3.5.1b - Sources of market failure: • externalities • the free-rider problem; non-provision of1.3.5.2a - distinction between private benefits, external benefits and negative social benefits.1.3.5.2b - distinction between private costs, external costs and social costs1.3.5.2c - distinction between: • external benefits of production • external benefits of1.3.5.2d - use of diagrams, using marginal analysis, to illustrate: • the external benefits from1.3.5.2e - impact of externalities in various contexts: • transport • health • education •1.3.5.3a - distinction between public and private goods: public goods • private goods: rival and1.3.5.3b - Why public goods may not be provided by the private sector making reference to the1.3.5.4a - distinction between symmetric and asymmetric information. information1.3.5.4b - significance of information gaps1.3.5.4c - imperfect market information may lead to a misallocation of resources in various1.3.5.5a - moral hazard can occur1.3.5.5b - impact of moral hazard on consumers, producers, workers and governments in: • insurance1.3.5.6a - market bubbles may arise. market bubbles1.3.5.6b - impact of market bubbles on consumers, producers, workers and governments in various

1.3.5 - Market failure question 1

[Maximum number: 24]

Sources for use with Section C
New Zealand’s housing market and national parks

Figure 1 Percentage change in house prices between March 2020 and March 2021, by region

Extract A Rapid increase in house prices

House prices in New Zealand increased by 15.7% between March 2020 and March 2021. The average house price had risen to NZ$925 000. This increase in house prices was caused by increasing real incomes, low interest rates and a rise in immigration following the global health crisis. Real incomes increased as a result of an above average rate of economic growth. Between March 2020 and March 2021 the base interest rate in New Zealand was just 0.25%, making it relatively cheap to borrow to purchase houses.

Research showed that house prices in New Zealand were about 40% overvalued relative to income. House prices were rising faster than real incomes and were 8.6 times median income in 2020 and 10 times median income in 2021. In Auckland, the average property-price increased to NZ$1.4 million in 2021. This was 35 times median income.

According to New Zealand’s Prime Minister, Jacinda Ardern, many buyers are speculators. In 2020 approximately 15 000 people buying houses owned five or more. She is worried that the speculators could cause a dangerous housing bubble and market failure. She is also concerned that 1% of the population are homeless, the highest rate of homelessness among developed countries.

Between 2000 and 2021 house prices increased by 256% in New Zealand. By comparison, house prices in the USA increased by 68% and in the UK by 110.

Extract B House building in New Zealand

In 2017 the Government promised to build 100 000 new homes. Between June 2018 and July 2020 the Government built just 6 000 homes. It is expensive to build houses and there is much paperwork needed to obtain planning permission. Many local authorities limit the land on which houses can be built in order to protect the environment. There is a shortage of over 55 000 construction workers.

Between 2011 and 2020 the average annual growth rate in housebuilding was 13%. However, in 2021, the significant increase in house prices created an incentive to build new houses. Consequently, the number of new houses under construction increased by 26.

Extract C New Zealand’s national parks

New Zealand has 13 national parks covering 30 000 km2 that the public can explore on foot, by boat, car or air. For much of the year there is so much space that an individual will rarely meet another person. However, in the summer season the national parks are very popular. This means that the national parks become more crowded and car parking spaces are hard to find.

Some activities within the national parks, such as skiing and kayaking, have to be paid for. However, individuals can walk, run or cycle across the national parks without charge.

Question (a)

(a)

Define the term 'market failure' (Extract A, line 14).

[ 2 ]

Question (b)

(b)

With reference to Extract C, examine whether national parks in New Zealand are public goods.

[ 8 ]

Question (c)

(c)

With reference to Figure 1, Extract A and Extract B, discuss the likely microeconomic effects of a housing market bubble in New Zealand.

[ 14 ]

1.3.5 - Market failure question 2

[Maximum number: 1]

Which one of the following is an example of market failure?

A

The free-rider problem that results in the underprovision of public goods

B

Higher prices create an incentive for firms to increase the production of a good

C

New government regulations that result in excessive administration costs

D

Government provision of healthcare to move towards the social optimum output

1.3.5 - Market failure question 3

[Maximum number: 4]

Emiliana Lucas owns a farm in Tanzania on which she grows sunflowers. In 2020 Tania, her neighbour, started a honey bee farm. The honey bees pollinated Emiliana's sunflowers. As a result, seed production on Emiliana's farm increased from 300kg in 2019 to 620kg in 2020.

With reference to the information provided, explain the difference between private benefits and external benefits.

All question bank results loaded