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1 (a) Explain why the existence of positive externalities of consumption would lead to
allocative inefficiency and thus a welfare loss. [10]
● Terminology: Positive externalities, consumption externalities, welfare loss, allocative
inefficiency.
● Diagrams: A diagram to show positive externalities in consumption and the welfare
loss associated with the free market level of output.
● Theory: An explanation that because there are positive externalities of consumption, a
welfare loss exists, where the marginal social benefit exceeds the marginal social cost
at levels of output up to the point where marginal social benefits are equal to marginal
social costs. The socially optimum level of output would be greater than the level of
output provided by a free market.
Examiners report
This was a popular question and there were many good responses to part (a) in particular. As
already indicated, there was an effective use of appropriate theory to address the question.
Candidates were usually able to provide a diagram showing positive externalities of
consumption. In some cases, candidates did not correctly indicate the welfare loss whilst
others did not address the allocative efficiency aspect of the question.
(b) Using real-world examples, evaluate the policies a government might adopt to respond to
a market situation in which significant asymmetric information exists. [15]
Markscheme
● Terminology: Asymmetric information, adverse selection, moral hazard.
● Diagram: Not needed for this question.
● Theory: Candidates should consider government responses to markets in which
asymmetric information is considered problematic such as legislation and regulation,
the provision of information. Candidates might also consider private responses such
as signalling and screening where a government decides not to intervene.
● Synthesis (evaluate): An evaluation of the different policies available to the
government when there is asymmetric information in the context of the examples
offered by the candidate. Candidates might conclude that the best course of
government action is to do nothing and allow private responses to the asymmetric
information. Or, alternatively, that government action in certain situations may be
imperative.
● Example(s): A relevant real-world example(s) in which asymmetric information exists.
Examiners report
Many candidates struggled to adequately respond to the full demands of this question. The
question seemed to be best tackled with a number of well-developed real-world examples.
Candidates also needed to be fully aware of relevant terminology and concepts related to the
subject matter. Candidate understanding was often superficial with, in some cases, minimal
use of suitable terminology, such as adverse selection and moral hazard, and limited
application of concepts.
1 (a) Explain why the existence of positive externalities of consumption would lead to
allocative inefficiency and thus a welfare loss. [10]
● Terminology: Positive externalities, consumption externalities, welfare loss, allocative
inefficiency.
● Diagrams: A diagram to show positive externalities in consumption and the welfare
loss associated with the free market level of output.
● Theory: An explanation that because there are positive externalities of consumption, a
welfare loss exists, where the marginal social benefit exceeds the marginal social cost
at levels of output up to the point where marginal social benefits are equal to marginal
social costs. The socially optimum level of output would be greater than the level of
output provided by a free market.
Examiners report
This was a popular question and there were many good responses to part (a) in particular. As
already indicated, there was an effective use of appropriate theory to address the question.
Candidates were usually able to provide a diagram showing positive externalities of
consumption. In some cases, candidates did not correctly indicate the welfare loss whilst
others did not address the allocative efficiency aspect of the question.
(b) Using real-world examples, evaluate the policies a government might adopt to respond to
a market situation in which significant asymmetric information exists. [15]
Markscheme
● Terminology: Asymmetric information, adverse selection, moral hazard.
● Diagram: Not needed for this question.
● Theory: Candidates should consider government responses to markets in which
asymmetric information is considered problematic such as legislation and regulation,
the provision of information. Candidates might also consider private responses such
as signalling and screening where a government decides not to intervene.
● Synthesis (evaluate): An evaluation of the different policies available to the
government when there is asymmetric information in the context of the examples
offered by the candidate. Candidates might conclude that the best course of
government action is to do nothing and allow private responses to the asymmetric
information. Or, alternatively, that government action in certain situations may be
imperative.
● Example(s): A relevant real-world example(s) in which asymmetric information exists.
Examiners report
Many candidates struggled to adequately respond to the full demands of this question. The
question seemed to be best tackled with a number of well-developed real-world examples.
Candidates also needed to be fully aware of relevant terminology and concepts related to the
subject matter. Candidate understanding was often superficial with, in some cases, minimal
use of suitable terminology, such as adverse selection and moral hazard, and limited
application of concepts.
