IB Economics (HL)

Paper 3 Model Answers – November 2020

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 Paper 3 Model Answers – November 2020

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N20/HL/3

Question 1

(a) Assuming quantity of almonds is 20

Total costs = 20 x 29 = $580
Total variable costs = 20 x 10 = $200
Total fixed costs = 580 – 200 = $380

You can assume any quantity for this calculation, since total fixed costs is the
same regardless of output level. Remember that total costs = total variable
costs + total fixed costs.

(b)(i) P = AR = MR = $11, since the firm is in perfect competition

Then MR = MC = $11, and the profit
– 4 –maximizing level of output is at 21.
N20/3/ECONO/HP3/ENG/TZ0/XX/M

(b)(ii) At Q = 21, ATC = $28. Then total costs = 28 x 21 = $588

(c) (i) Based on the information in Figure 2, state whether the firms in this market
Total revenues = 11normal
are making x 21 profits,
= $231 economic profits or economic losses. [1]

Economic Economic
losses losses
= 231OR
– losses
588 = -$357
is sufficient for [1].
(c)(i) Economic losses
(ii) On Figure 2, draw and label appropriate additional curves to show how a perfectly
(c)(ii) competitive market will move from short-run equilibrium to long-run equilibrium. [2]

[1] for one accurate, labelled diagram OR two diagrams without labels.
[2] for two accurate, labelled diagrams.
Economics DDepartment
1 or AR1 or MR1 is sufficient for firm’s model. P1 is not required for firm’s model. Titles
are not required for the diagrams.
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The firm’s new Q need not be specified on the diagram.
.
(iii) Using your answer to part (c)(ii), explain how the market adjustment takes place. [2]
 Paper 3 Model Answers – November 2020

(c)(iii) In the long run, firms making losses would leave the market as they no
longer have to incur fixed costs and can exit the market freely. This would result
in a fall in the number of firms in the market, leading to a fall in market supply.
This increases the market price and raise the firm demand of the remaining
firms until the point where only normal profits are made.

(d) A monopoly is assumed to be a price-setter and has high barriers to entry.

(e) A monopoly could be desirable because they could reap economies of

scale, enjoying lower costs of production from a larger scale of production and
thus be able to produce at a lower price and higher output than firms in more
competitive market structures. The monopolist could also be desirable due to
its ability to reinvest supernormal profits into research and development to
invent new and better products, or develop more efficient methods of
production to reduce costs.

(f)(i) Profit maximization occurs where MC = MR, where quantity is 20.

Price at Q = 20 is $20, based on the demand curve
ATC at Q = 20 is $15, based on the ATC curve
Total revenue = 20 x 20 = $400
Total costs = 20 x $15 = $300
Economic profit = 400 – 300 = $100

(f)(ii) Revenue maximization occurs where MR = 0; Quantity = 30

Price at Q = 30 is $15, based on the demand curve
Total revenue = 15 x 30 = $450.

(g)(i) Its demand curve will shift leftwards and become more elastic in the long
run, signifying a fall in demand as rival firms enter the market and offer
competing products that appeal to the tastes and preferences of consumers.
Rival firms are attracted by the economic profits and are able to enter the
market freely due to low barriers to entry.

(g)(ii)

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 –7– N20/3/ECONO/HP3/ENG/TZ0/XX/M

(ii) Paper
Sketch and label a diagram 3 Modelthe
to illustrate Answers
long-run – November
equilibrium for a2020
firm in
monopolistic competition. [3]

[1] for D tangential to ATC (AC)

[1] which is vertically above intersection of MR and MC
[1] for correctly indicating Po and Qo, where MR = MC and D is tangential to ATC

A response with missing or incorrect labels or without MC intersecting minimum ATC

may be awarded a maximum of [2].

Vertical axis may be labelled P or Price or Costs or Revenue. Horizontal axis may be
labelled Quantity or Q or Output.

NB Provided that the price and quantity have been labelled (eg Po, Qo) then it is not
necessary to label the axes.

2. (a) (i) Calculate the cost of the typical basket in 2016. [2]

5 x 2.5 + 10 x 1.5 + 2 x 10

Any valid working is sufficient for [1].

= $47.50

An answer of $47.50 or 47.50 without workings is sufficient for [1].

For full marks to be awarded, the response must provide valid working and include
correct units.

(ii) The cost of the typical basket was $50 in 2017. Calculate the consumer
price index (CPI) for 2017. [1]

50/45 x 100 =

111.11Department
Economics No units (eg $) permitted.
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NB workings are not required.
 Paper 3 Model Answers – November 2020

Question 2

(a)(i) Cost of typical basket

= sum of (weights x dollars)
= 5 x 2.50 + 10 x 1.50 + 2 x 10
= $47.50

(a)(ii) Base year cost of typical basket (2015) = 5 x 3 + 10 x 1 + 2 x 10 = $45

Base year CPI = 100
!"
CPI for 2017 = #! x 100 = 111.11
$"%! '()*$"%# '()
(a)(iii) Rate of inflation between 2014 and 2015 = $"%# '()
x 100%
%""* %"%.$,
= %"%.$,
x 100%
= -1.22%

(b) Firstly, the CPI assumes fixed weights of goods and services purchased by
households, which disregard consumer substitution of goods and services
when prices change. This could result in the overstating of the inflation rate
when the price of goods and services rise, as consumers will consume less of
higher priced items and substitute for cheaper alternatives. Secondly, the CPI
assumes a constant unchanging basket of goods and services purchased by
households, which fails to take into account changing consumer purchase
patterns over time, either due to new products or new sources of purchase.

(c) Monetary policy refers to the manipulation of money supply and interest
rates to influence the cost of borrowing in the economy to achieve
macroeconomic objectives. To lower the inflation rate, the Central Bank would
increase interest rates to raise borrowing costs, which discourages households
and firms from borrowing to consume goods and services to make
investments, lowering aggregate demand (AD) and the general price levels
(GPL) in the economy.

(d)(i) In 2019, nominal GDP is lower than real GDP, suggesting that country A
experienced deflation.

Nominal GDP reflects changes in both output and general price levels, while
real GDP only reflects changes in output. Since nominal GDP is lower, then it

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(e) (i) Calculate the estimated value of the multiplier used by the economist. [2]

828/207
Paper 3 Model Answers – November 2020
Any valid working is sufficient for [1].
must mean that the country experienced deflation, where falling prices
=4
reduced the value of nominal GDP.
An answer of 4 without workings is sufficient for [1].
(d)(ii) Real GDP growth rate and real GDP per capita growth rate differs due to
For
thefull marks to begrowth
population awarded, theGenerally
rate. response must providerate
the higher validofworking withgrowth
real GDP NO units.
as
(ii) compared
Calculate the to the rate
estimated of real
value GDP
of the per capita
marginal growth
propensity can be attributed
to consume used by to a
the economist.
positive population growth rate that is higher than the GDP growth rate. [1]

(d)(iii) 2020 real GDP = 103 785.98 x 1.0341 = $ 107,325.082 million

0.75

is(e)(i) Multiplier
sufficient for [1].= 828 / 207 = 4
%
(e)(ii)
OFR Multiplier = %*-(' = 4
applies.
%
Then = 1 – MPC à MPC = 1 – 0.25 = 0.75
(f) (i) Plot and# label the production possibility curves for Country J and for Country H,
assuming constant opportunity costs, on Figure 4. [2]
(f)(i)

(f)(ii) Country H’s opportunity cost of producing rice = 7/14 = 0.5kg of wheat/kg
[1] for one correctly drawn production possibility curve
of for
[2] rice
two correctly drawn production possibility curves
Country J’s opportunity cost of producing rice = 4/12 = 0.333kg of wheat/kg of
A response with missing or incorrect labels may be awarded a maximum of [1].
riceare not required on the axes.
Kgs

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 Paper 3 Model Answers – November 2020

Country H’s opportunity cost of producing wheat = 14/7 = 2kg of rice/kg of

wheat
Country J’s opportunity cost of producing wheat = 12/4 = 3kg of rice/kg of
wheat
Country H should thus specialize in the production of wheat, as its opportunity
cost is lower than that of Country J, which suggests that country H has a
comparative advantage in the production of wheat.

(g) Firstly, both countries can enjoy greater consumption beyond their
respective production possibility curves, which would raise living standards in
their economies as households can enjoy more goods and services than what
is possible without specialization and trade. Secondly, both countries could
enjoy cheaper imports as compared to the opportunity cost of producing the
goods domestically, reducing resource use and allowing households to enjoy
lower prices.

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 Paper 3 Model Answers – November 2020

Question 3
%
(a)(i) Value of the Mexican Peso in USD = %!..! = 0.0631

Simply take the reciprocal of the MX$ per US$ rate, since 1 USD = 15.85 MX$,
%
then 1 MX$ will simply be %!..! (divide both sides by 15.85)

(a)(ii) Between 2014 and 2016, the value of the MX$ fell from 0.08 to 0.05, which
is a depreciation in the MX$. Consumers would suffer from a higher price of
imported goods and services, while producers would benefit from the increase
in export competitiveness and earn higher revenues as foreign consumers
would find Mexican exports cheaper in foreign currency.

(b)(i) In 2009, there was a 15% in Mexican spending on imported goods and
services. This could be the result of falling incomes in Mexico, leading to a fall in
demand for imported goods and services. It could also be the result of a
depreciation in the Mexican
– 14 –
currency, resulting in a fall in quantity demanded
N20/3/ECONO/HP3/ENG/TZ0/XX/M
for imported goods and services as they become more expensive in domestic
(ii) currency.
Using information from Figure 5, sketch an exchange rate diagram to show how the
change in Mexico’s spending on imports in 2010 would have affected its exchange rate
(US$ per MX$), ceteris paribus. [2]
(b)(ii)

(c)[1]Firstly, the
for labelled Mexican
S and peso
D curves with could
a shift of S to appreciate
the right as a result of rising demand for
[2] for labelled S and D curves with a shift of S to the right AND for showing the fall in
Mexican exports,
the value of the peso. leading to an increase in demand for its currency as foreigners

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 Paper 3 Model Answers – November 2020

require the peso to make these purchases. Secondly, the Mexican peso could
appreciate as a result of fall in demand for American imports, leading to a fall in
supply of the Mexican peso as fewer households would sell the peso to
purchase USD.

(d)(i) $4

(d)(ii) Consumers consume up to 8 million kg of rice at $4 with free trade.

Consumer surplus = ½ x (12 – 4 ) x 8 = $32 million
Producers produce up to 2.5 million kg of rice at $4 with free trade
Producer surplus = ½ x (4 – 1) x 2.5 = $3.75 million

(e)(i) The new price with the tariff is at $5.50; the quantity consumed is at 6.5
million kg

(e)(ii) Tariff revenue = tariff/unit x imports

Tariff = 5.50 – 4 = $1.50/kg
Imports = 6.5 – 3.75 = 2.75 million kg
Tariff revenue = 1.5 x 2.75 = $4.125 million

(e)(iii) New consumer surplus = ½ x (12 – 5.5) x 6.5 = $21.215 million

Change in consumer surplus = 21.215 - 32 = -$10.875 million

(e)(iv) Welfare loss = ½ x (3.75 – 2.5) x 1.5 + ½ x (8 – 6.5) x 1.5 = $2.0625 million

(f) Firstly, the government could depreciate the currency, leading to rise in price
of imports in domestic currency and a fall in price of exports in foreign currency.
Assuming the Marshall Lerner condition holds, this would lead to an increase in
net export revenues, which improves the current account as foreigners buy
more exports and domestic consumers buy fewer imports. Secondly, the
government could use protectionist policies such as tariffs to raise the price of
imports, making them less attractive to domestic consumers and reduce
import expenditures as consumers buy fewer imports.

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