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© New Zealand Qualifications Authority, 2011. All rights reserved.No part of this publication may be reproduced by any means without the prior permission of the New Zealand Qualifications Authority.

Level 3 Economics, 201190629 Understand marginal analysis

and the behaviour of firms

2.00 pm �hursday 1� November 2011pm �hursday 1� November 2011 �hursday 1� November 20111� November 2011 November 2011 Credits: Five

Check that the National Student Number (NSN) on your admission slip is the same as the number at the top of this page.

You should attempt ALL the questions in this booklet.

If you need more room for any answer, use the extra space provided at the back of this booklet.

Check that this booklet has pages 2 – 11 in the correct order and that none of these pages is blank.

YOU MUST HAND THIS BOOKLET TO THE SUPERVISOR AT THE END OF THE EXAMINATION.

ASSESSOR’S USE ONLY Achievement Criteria

Achievement Achievement with Merit Achievement with ExcellenceDescribe the behaviour of firms and the different markets in which they operate.

Describe the behaviour of firms and the different markets in which they operate.

Describe the behaviour of firms and the different markets in which they operate.

Recognise marginal concepts that relate to supply and demand.

Use marginal analysis to derive the supply or demand curve.

Use marginal analysis to derive supply or demand curves.

Use marginal analysis to recognise equilibrium for the perfectly competitive firm or the monopolist.

Use marginal analysis to explain equilibrium for the perfectly competitive firm or the monopolist in different markets.

Use marginal analysis to fully explain changes in output and pricing decisions for the perfectly competitive firm or the monopolist in different markets.

Overall level of performance (all criteria within a column are met)

You are advised to spend 45 minutes answering the questions in this booklet.

QUESTION ONE

�he market for groceries in New Zealand is dominated by two competitors, Foodstuffs and Progressive Enterprises Limited. Apart from these two dominant competitors, there are also competitors like dairies and petrol stations, which have a very small market share, that also sell grocery items.

(a) State the type of market structure that the New Zealand groceries market is most likely to represent.

(b) Apart from the number of competitors, describe �WO other features of this type of market structure.

(c) Many dairies sell a similar range of food items. Apart from selling different food items, describe �WO other ways in which a dairy can differentiate its products or services.

(d) �auranga has more than 20 dairies. State the type of market structure in which dairies are most likely to operate.

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QUESTION TWO

�oni tried her first bungy jump during her holiday, and she would now like to do more jumps. Freefall Bungy, where �oni did her jump, had a sign that said, “Bungy jumps $100. �ake another jump within seven days and pay only $60 for your second jump.”

(a) Use the law of diminishing marginal utility and the optimum purchase rule to explain why customers may not be prepared to pay the same price for their second bungy jump.

�oni paid $100 for her bungy jump and received $150 worth of marginal utility from it. Instead of a bungy jump, she could have chosen to do a sky dive. �he price of a sky dive is $200.

(b) Given that �oni chose to do a bungy jump instead of a sky dive, use the consumer equilibrium formula ( ) to explain why her marginal utility for a sky dive would have been less than $300.

MUa

Pa

MUb

Pb=

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(c) Complete �able One below, calculating the missing total utility and marginal utility figures.

Table One: Toni’s Utility Schedule for Bungy Jumps

Number of jumps Total Utility (TU) $ Marginal Utility (MU) $1 150

2 230

3 60

4 330 40

5 330

(d) Use the figures in Table One (above) to complete Table Two below.

Table Two: Toni’s Annual Demand Schedule for Bungy JumpsPrice ($) Quantity

demanded

$40

$80

$120

$160

(e) (i) �oni did her bungy jump with Freefall Bungy. Complete Table Three below by calculating the missing values. (Round all your figures to the nearest dollar.)

Table Three: Costs of Production for Freefall Bungy

Output / day(Bungy jumps)

Total cost($)

Total variable

cost($)

Average variable

cost ($)

Average cost ($)

Marginal cost ($)

19 1 560.00 �60.00 40.00 82.11 35.00

20 1 620.00 41.00 60.00

21 885.00 42.14 80.24 65.00

22 1 �55.00 955.00 43.41 �9.��

23 1 835.00 1 035.00 �9.�8 80.00

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(ii) Using the information in Table Three, calculate the total fixed cost for Freefall Bungy.

Answer:

(f) Using the information in Table Three, complete Graph One below.

Graph One: Freefall Bungy’s Supply Curve for Bungy Jumps

0 20 232221Quantity

Pric

e ($

)

�he owners of Freefall Bungy will use all of their savings of $200 000 to expand their business. �he owners currently earn 5% p.a. in interest on their savings. �hey will set up a new bungy-jump operation in a different location. �hey estimate that the revenue from the new venture will be $500 000 and they will need to spend $350 000 in setting up and operating the new venture.

(g) Using the information above, explain the difference between the accounting cost and the economic cost of the new bungy-jump operation.

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QUESTION THREE

Dairy farmers are said to operate in a perfect competitive market.

(a) If a dairy farmer is in perfect competition with all other dairy farmers, explain what will happen to the farmer’s average revenue and marginal revenue if the farm increases its output (quantity of milk produced).

Graph Two: An Individual Dairy Farmer

Quantity

MCAC

Rev

enue

/ Cos

t ($)

Graph Three: The Market for Milk

Quantity

D

S

Pric

e ($

)

P

(b) On Graph Two above: (i) Add an appropriately placed average revenue curve (AR) and marginal revenue curve

(MR). (ii) Identify the profit-maximising price (Pe ) and profit-maximising quantity (Qe ). (iii) Shade in the area of profit made by the dairy farmer, and clearly label the type of profit

being made.

(c) Use marginal analysis to explain why the dairy farm maximises its profit at Qe on Graph Two.

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(d) Use marginal analysis to fully explain the changes that will occur in the long run to the price AND output in Graphs Two and Three.

In your full explanation:

• Make appropriate changes to Graph Two AND Graph Three.• Clearly label the changes made to both graphs.• Refer to the changes that you made to the graphs in your explanation.

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QUESTION FOUR

Fonterra is New Zealand’s largest business, and is said to have the monopoly over the market for milk products. Fonterra announced an after-tax profit of $685 million for the year ended 31 July 2010.Source (adapted): http://www.fonterra.com/wps/wcm/connect/b90f920044�2bb2�946cdeb�b0c23ace/230910+Media+Release+FON�ERRA+ANNOUNCES+200910+PAYOU�+OF+$6.�0+BEFORE+RE�EN�IONS.pdf?MOD=AJPERES&CACHEID=b90f920044�2bb2�946cdeb�b0c23ace

Graph Four: A Monopolist Firm

Quantity

MC

MR

Rev

enue

/ Cos

t ($)

(a) On Graph Four above: (i) Draw and label an appropriately placed average revenue (AR) curve for a monopolist

firm. (ii) Draw and label an appropriately placed average cost (AC) curve, to show the

monopolist firm making a supernormal profit. (iii) Identify and label the profit-maximising price (Pe ) and profit-maximising quantity (Qe ). (iv) Shade in the area of supernormal profit.

(b) Use marginal analysis to explain why the monopolist will need to set the price at Pe to maximise profits in Graph Four.

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(c) Explain what type of profit the monopoly firm in Graph Four is likely to make in the long run.

(d) Use marginal analysis to fully explain what effect an increase in demand for milk products is likely to have on Fonterra’s output and pricing decisions. You do not have to show your changes on Graph Four.

Include in your full explanation:• the effect on average revenue (AR) and marginal revenue (MR) of an increase in

demand for milk products• what decisions Fonterra is likely to make regarding its level of output and the price it

charges for milk products• the use of marginal analysis to explain Fonterra’s output and pricing decisions.

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QUESTION NUMBER

Extra space if required.Write the question number(s) if applicable.

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QUESTION NUMBER

Extra space if required.Write the question number(s) if applicable.

90

62

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