Suggested Answers Basic Questions (A) Factors Affecting Demand & Supply & Determination of Market Price & Output

2021 JC1 Stretch and Reach Answers (H2) Demand, Supply and Elasticities
Suggested Answers
Basic Questions
(a) Factors affecting Demand & Supply & Determination of Market Price & Output
1a) Explain how an economic recession would affect the demand for cars in a country. [2]
Reference to CSQ Skills Package:

Command word: ‘Explain how’ [Pg 22]
Requirements: Elaborate on how a factor impacts an area that the question has
stated. OR Elaborate on how a concept is shown or illustrated in a particular context
An economic recession implies that there is negative growth for at least 2 consecutive
quarters. The fall in national income will lead to a fall in consumers’ purchasing power. [1]
Assuming normal goods, the demand for cars (e.g. sports car) will decrease given the fall
in the ability of consumers to purchase cars. Demand curve will shift to the left.[1]
1b) Explain how improved technology will impact the supply for cars. [2]

An improvement in the state of technology would lead to more cars being produced using
the same amount of resources. This lowers unit cost of production resulting in higher
potential profit per unit.[1]
As such, at every price level, firms will be more willing and able to produce cars, supply
increases, reflected by a rightward shift of the curve. [1]
1c) Explain how the above events will impact the market for cars. [4]
1
Initial eqm: The market is initially in equilibrium at point E1.
Identify the shift (Explanation was done in earlier qns): The increase in supply and fall
in demand is represented by a rightward shift of the supply curve to S2 and leftward shift
of the demand curve to D2 respectively.
Make a judgement on the relative magnitude of the shifts: Assuming the shift in supply
is greater than the shift in demand.
Identify the surplus: At original price, P1, there is a surplus of Q3Q4. [1] Identify the
change in price: This will create a downward pressure on price, quantity demanded
increases while quantity supplied falls. [1]
Identify whether price/ quantity is indeterminate & identify the new eqm with
justification:
The increase in supply reinforces the fall in price of cars brought about by the fall in
demand to P2.
However, the impact on equilibrium quantity of cars is indeterminate. This would be
dependent on the extent of the shift in both curves. In this case, the demand curve is likely
to shift leftwards to a smaller extent as the fall in demand could have been mitigated by
the increase in demand for cars which are deemed as inferior good (e.g. second hand
cars).
Thus, overall, the equilibrium quantity of cars would have increased to Q2. [2]
(b) Demand and Supply in Inter-Related Markets

1 Recently the research engineers at Apple’s iPhone Unit arrived at a technological
breakthrough that would vastly streamline its production process. At the same time,
workers from Korean smartphone makers LG and Samsung went on strike.
a) Explain how the technological breakthrough would affect the supply of Apple
iPhones. [2]

Technological breakthrough that would vastly streamline the production process of making
iPhones 🡪 unit cost of producing an iPhone will be lowered, hence increasing the potential
profits per unit of iPhone assuming price remains constant. [1] At every price level, Apple
would be more willing and able to produce iPhone, resulting in an increase in supply. [1]
b) Explain how the strike by workers of LG and Samsung would affect the demand for
Apple iPhones. [3]

Meanwhile, the strike from workers of other Korean smartphone makers would disrupt the
production of Korean smartphones and reduce their ability to produce smartphones
leading to a fall in supply [1] and a rise in prices of LG and Samsung smartphones.
Given that Korean smartphones and Apple iPhones are substitutes [1], they satisfy the
same need for communication on the go [1]. Therefore, an increase in price of Korean
smartphones will lead to a rise in demand for Apple iPhones. [1]
c) Explain how the above events will impact the market for iPhones. [4]
2
Initial eqm: The market is initially in equilibrium at point E1.

Identify the shift (Explanation was done in earlier qns): The increase in demand and
supply is represented by a rightward shift of the curves to D2 and S2 respectively. Make a
judgement on the relative magnitude of the shifts: Assuming the shift in supply is
greater than the shift in demand.
Identify the surplus: At original price, P1, there is a surplus of QdQs. [1] Identify the
change in price: This will create a downward pressure on price, quantity demanded
increases while quantity supplied falls. [1]
Identify whether price/ quantity is indeterminate & identify the new eqm with
justification:
The increase in supply reinforces the increase in quantity of Apple iPhones brought about
by the increase in demand to Q2.
However, the impact on equilibrium price of iPhones is indeterminate. This would be
dependent on the extent of the shift in both curves. Assuming that Apple iPhones and
Korean smartphones are not close substitutes as they do differ much in terms of the
features, therefore, demand is likely to increase to a smaller extent.
Thus, overall, the equilibrium price of iPhones would have decreased to P2. [2]
(a) Price Elasticity of Demand

2. During the June school holidays, the Garden by the Bay has decided to lower the
admission price from S$20 to S$15. As a result the number of visits rose by 16,000
over the month of June but revenue fall by 45%.
What can you conclude about the price elasticity of demand for visit to the Garden?
Explain your answer. [5]

Command word: ‘Explain what is meant’ [Pg 21] (Similar to)
Requirements: Elaborate what the terms or statements mean using economic terms &
analysis
PED refers to the degree of responsiveness of quantity demanded of a good given a

change in the price of the good, ceteris paribus. Its numerical value is derived from the
ratio of
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percentage change in quantity demanded to percentage change in price. [1] Total revenue
refers to the price per visit multiplied by the number of visits. [1]
Despite a decrease in price, the total revenue collected has fallen. This means the
decrease in price led to a less than proportionate increase in quantity demanded of visits,
hence implying that the demand for the visits to the Garden is likely to be price inelastic.
The decrease in total revenue due to a decrease in price outweighs the increase in total
revenue due to an increase in number of Garden visits. [3]
3. Sharply higher wheat prices will mean another increase in pineapple tart prices in
the next few weeks, in the run up to the Lunar New Year. This could mean a 20%
increase in the price of a standard box of tarts.
a) Assume that the price elasticity of demand for pineapple tarts is -0.30. Calculate the
change in quantity demanded given the price rise. [1]

Command word: ‘Calculate’ [Pg 19]
Requirements:
√ State the formula
√ Show the calculation
PED = (% ∆ qty demanded of tarts )/(% ∆ price of tarts )

A 20 % increase in price of tarts will lead to a 6% decrease in quantity demanded of tarts.
b) With economic analysis, explain the effect on total revenue for producers of
pineapple tarts as a result of higher wheat prices. [4]

Command word: ‘Explain the effect’ [Pg 23]
Requirements: Explain the linkage/process between the trigger(s) and the outcomes
with economic analysis.
√ Step 1: Identify trigger(s)
√ Step 2: Explain the triggers
√ Step 3: Explain how the process/linkage about how the trigger will affect the outcome
based on the key words in the question
impact on supply, (2m) impact on TR (2m)

Since wheat is a key ingredient in the making of tarts, higher wheat prices will lead to a
rise in unit cost of production of tarts. (1m) Holding prices constant, the potential profits
per box of tarts falls and producers will be less willing and able to supply quantities of
tarts at every price level, hence supply for tarts falls. (1m)
This leads to an increase in equilibrium price. Since demand for tarts is relatively price
inelastic (PED =0.3 <1), the increase in price brings about a less than proportionate fall in
quantity demanded of tarts.
Total revenue (TR) is the product of price and quantity of tarts sold. The overall TR from
the sale of tarts will rise (1m) because the rise in TR due to a rise in price outweighs the
fall in TR due to a fall in quantity. (1m)
(b) Price Elasticity of Supply

1. Extract 1: Childcare services in Singapore
According to latest figures, the median fee for a full-day childcare service has surged to
$788 a month as at the end of August, up from $620 in 2008. Demand for childcare
services has surged in the past eight years, as more working parents enrol their children
in pre-schools, resulting in a worsening childcare crunch, with some parents having to
wait as long as two years for a place. As of August, all estates across Singapore have
enrolment rates exceeding 73 per cent. In "hot" areas like Punggol and Sengkang, which
tend to attract more young couples, the figure can go up to close to 90 per cent. While
there is strong demand for childcare places, childcare centres find it hard to expand
because of the lack of suitable sites and trained
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teachers. Pre-school operators also cited teachers’ salaries as the main factor for rising
operating costs.
Adapted from The Straits Times, Today, October 2013
(a) With reference to the above extract, what can you conclude about the price
elasticity of supply for childcare services in Singapore? [2]
Supply of childcare services is likely to be price inelastic where an increase in price brings
about a less than proportionate increase in quantity supplied. (1m)
This is because resources are not able to move easily from other industries to the
childcare industry as childcare operators are constrained by the “lack of suitable sites and
trained teachers”. (1m)
(b) Using a diagram, explain how price elasticity of supply is relevant in accounting for
the surge in fees for childcare services. [3]
2m for explaining outcome on price, 1m for diagram

As more working parents enrol their children in pre-schools, this signals a greater
preference for childcare services, hence causing “strong demand for childcare services”.
This leads to a rightward shift in demand. Since supply for childcare services is price
inelastic, with a relatively price inelastic supply curve (Si), a given increase in demand
from D1 to D2 will lead to a bigger increase in price (from P0 to P2) as compared to the
case where there is a relatively price elastic supply curve (Se) (prices only increases from
P0 to P1).
Note: Diagram must show a price inelastic supply but the price elastic supply curve is
optional. It is shown here for easy comparison of the extent of increase in price when
PES>1 and PES<1.
(c)Income elasticity of demand

All foods
2)
Beef
Margarine
Fresh potatoes
Fruit juices
Bread
The data below give estimates of the elasticity of
demand for selected foods in the UK.
Income elast 5
Price elasticity of demand
Beef -1.24
Bread -0.25
Fresh potatoes -0.14
Fruit juices -0.65
Margarine -0.37
Cross elasticities of demand for beef and pork

Beef with respect to the price of pork 1.10
Pork with respect to the price of beef 0.25
Source: Household Food Consumption Expenditure, Annual Report of the Food

Survey Committee, 1987, HMSO
b) Analyse how rising incomes may impact the market for bread, market for beef
and market for fruit juice. [9]

Command word: ‘Analyse’ [Pg 27]
Requirements: Pick out the main points on a subject and give your opinion, reinforcing your
point of view using theories and/or evidence.
The extent of shift in demand for a good due to a rise in income is dependent on the
income elasticity of demand (YED) value of the good.
Market for bread:
The YED value of bread is -0.18. This implies that the demand for bread has negative
income elasticity. It is an inferior good. There is an inverse relationship between income
and demand of bread. Rising incomes will lead to an increase in purchasing power,
however consumers are less willing to buy quantities of bread at every price level as they
turn to buying better quality goods such as cereal. This causes a decrease in demand for
bread. [1]
A 10% rise in income will lead to a 1.8% decrease in demand for bread; demand has
decreased less than proportionately to the increase in income. [1]
The decrease in demand will cause both equilibrium price and quantity to decrease. As
such total revenue from the sale of bread would also decrease. [1]
Market for beef:
The YED value of beef is 0.26. This implies that the demand for beef is income inelastic.
There is a direct relationship between income and demand of beef. Rising incomes will
lead to an increase in purchasing power, hence consumers are more willing and able to
buy quantities of beef at every price level. This causes an increase in demand for beef.
[1]
A 10% rise in income will lead to a 2.6% increase in demand for beef; demand has
increased less than proportionately to the increase in income. [1]
The increase in demand will cause both equilibrium price and quantity to increase. As
such total revenue from the sale of bread would also increase. [1]
Market for fruit juice:
The YED value of fruit juice is +0.95. This implies that the demand for fruit juice is also
income inelastic. The demand for fruit juice is less income inelastic than that of beef. [1]
A 10% rise in income will lead to a 9.5% increase in demand for fruit juice; demand has
increased less than proportionately to an increase in income, but to a larger extent as
compared to beef. [1]
Assuming that the supply condition for beef and fruit juice are the same, for a given
increase in income the larger increase in demand for fruit juice will cause both equilibrium
price and quantity to increase by a greater extent than that for beef. [1]. As such total
revenue from the sale of fruit juice would also increase by a greater extent.
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Suggested Answers
Advanced Questions
Essay 1
Global food prices are poised to rise sharply in 2014 again. Economists cite the rising incomes
in China, severe drought in the US, China’s rapid urbanization and unrests in Ukraine and Israel
as key drivers of the abrupt price increase. India has been subsidizing food production to
ensure that the poor have access to cheap food.
(a) Account for the sharp rise in global food prices. [10]
(only part a)
(b) Discuss whether subsidies are the best way to alleviate high food prices. [15]
Part (a)
Command word: ‘Account for’ 🡪 Refer to Explain why/the cause(s)/factor(s)/reason(s)/X’s decision
[Pg 22]
Requirements: Elaborate on the reason(s) using economic analysis

Introduction
Price is determined by interaction of demand and supply. In this case, there is a sharp
rise in price of global food prices as supply has fallen, demand has increased and both
supply and demand are relatively price inelastic.
Body
Step 1: State the initial equilibrium
The market is at initial equilibrium where D0 intersects S0 at P0 and Q0.
Step 2: Explain the shifts in demand and supply

Identify and explain changes in supply:
∙ The supply of food falls due to extreme weather conditions as well as the loss of
agricultural land to urbanisation. Land is an important factor of production in the
market for food, which is a resource intensive activity. Farm production is subject to
the vagaries of weather. Due to severe drought in US and loss of agricultural land to
urbanisation, less crops for food are produced the global supply of food falls. At
every price, the quantity of food supplied falls, ceteris paribus. This is shown in
Figure 1 by the supply curve shifting leftward from S0 to S1.
Identify and explain changes in demand:

∙ With the rise in income consumers’ purchasing power will increase. Assuming food is a
normal good, there will be a rise in demand, ceteris paribus. Unrests in Ukraine &
Israel also push up demand as consumers hoard food due to uncertainty for the
future. These two effects increase demand for food. This is shown in Figure 1 by the
demand curve shifting rightward from D0 to D1.
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Step 3: Make a judgement about the relative extent of the shifts

This step is not necessary for this question as both a fall in supply and an increase in
demand leads to an increase in price.
Step 4: Shortage/surplus
At the original price P0, a fall in supply, together with a rise in demand, create a
shortage of ab in the food market.
Step 5: Upward/downward pressure on price

This will create an upward pressure on price where the quantity demanded will fall and the
quantity supplied will increase until the shortage is eliminated at P1.
Step 6: New equilibrium
This will cause the equilibrium price of food to rise to P1. [Link to qn]
Explain the SHARP rise in global food prices
∙ The large extent of the rise in price is due to the large fall in supply. This in turn
depends on how bad the weather was and the extent of urbanisation. Since the
weather is very extreme and the loss of agricultural land is significant, there is a
larger fall in supply and hence accounting for the sharp rise in global food prices.
[Link to qn]
∙ The extent of the rise in price is further aggravated (exacerbated) by price

inelastic demand for food
Since demand for food is price inelastic (Dinelastic) as food is a necessity with few
substitutes, a fall in supply will lead to a sharp rise in global food prices. [Link to qn]
∙ The extent of the rise in price is further aggravated (exacerbated) by price

inelastic supply for food
Since the PES of food is inelastic in the short run due to long gestation period required
for to grow and harvest food crops, a rise in demand will lead to a sharp rise in global
food prices. [Link to qn]
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Knowledge, Application, Understanding and Analysis
L3 Addresses the question. Able to give in-depth contextual explanation of rise in

8-10 DD, fall in SS well. Also able to explain price elasticities of demand and supply
well. Good diagrammatic illustration and explanation of how these two factors
lead to a very sharp rise in food prices.
L2 Answer mostly relevant and addresses the question. For an answer which
5-7 ∙ contains some economic analysis of the DD SS PED PES framework
though not consistently applied throughout; or with some errors
∙ is largely theoretical with limited application to the given context
L1 For an answer which

1-4 ∙ is largely irrelevant with no indication that the meaning of the question has
been properly grasp
∙ Did not explain PED and PES
∙ is largely descriptive and/or contains gross conceptual mistakes
Part (b)

Command word:‘Discuss [Pg 27]
Requirements: Give your verdict as to what extent a statement is true, or to what extent you
agree with them. Provide a balanced argument, well-supported by economic theories &
evidences. Come to a conclusion, basing your decision on what you judge to be the most
important and justify accordingly
Introduction:
(Problems of high food prices) With high food prices only those who are willing and able
to pay these prices would be able to have access to adequate food giving rise to
inequity problem and social unrest.
Body:
THESIS: Subsidies are the best way to alleviate high food prices.
Explain clearly how subsidies work to alleviate high prices of food.
What is it?
A subsidy is a transfer by the government to producers. This helps to lower the unit
costs of production and therefore has the effect of increasing supply.
How it works?
Subsidies to food producers and are used to ensure greater affordability of essential
goods like food. With reference to the figure below, the initial equilibrium price and
output are P1 and Q1 respectively. When a subsidy is granted, the supply curve will
shift downwards by the full amount of the subsidy granted. At P1, there will be surplus
(Q1Q3) of food. This will cause the price to fall and quantity exchanged to rise. These
changes will occur until a new market equilibrium is attained at point E2 with a lower
equilibrium price, P2 and a higher equilibrium quantity, Q2. As there is now more and
cheaper food, more people can afford to buy food.
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DD1
SS1
Price E2
J
E1
P1
SS2
P2
Q1 Q2 Q3
Figure 2
How well it works?

0 Qty of food
Strength of using subsidies:

∙ Subsidies can quickly address the problem of high food prices. Especially if the
problem is a severe one, it is effective to use subsidies.
∙ Subsidies are also able to increase the quantity of food produced, thus ensuring that
food is not only cheaper, but more is available. Thus, it is appropriate to use
subsidies.
∙ As the demand is price inelastic, the use of subsidies will lead to a fall in price and less
than proportionate increase in quantity demanded. Thus, the extent of the fall in price
will be large making the policy effective in lowering prices.
ANTI-THESIS 1: Subsidies may not be the best. There are limitations to subsidies.
Limitations of using of subsidies:

∙ If the objective is to allow a wider pool of population to enjoy the essential food items, a
large subsidy may be required hence imposing excessive burden on tax payers or it
may divert resources from other essential government projects. If the benefit of using
subsidies is less than the opportunity cost, it may be in efficient allocation of resources.
∙ Another disadvantage of a subsidy is it disrupts the function of prices as an allocative

and distributive device. Subsidies encourage inefficient practices and may divert
scarce resources away from more efficient uses. With subsidies, inefficient food
providers will have little incentive to weed out inefficient practices and carry out both
product and process R&D to improve the quality of food or to reduce price. Without
subsidies, efficiency ensues as inefficient farms would have to exit the industry, new
more efficient farms will replace them.
[Link to next anti-thesis argument] Subsidies are not necessarily the best method to
alleviate high food prices and ensure accessibility. A price ceiling could be a better
alternative.
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ANTI-THESIS 2: Subsidies may not be the best. There are other alternative policies
available.
Alternative Policy 1: Price Ceiling

Explain clearly how price ceiling works to alleviate high prices of food.
What is it?
A price ceiling refers to the maximum price that a producer can charge for a good legally. It
is the maximum legally permissible price. For it to be effective, it must be set below the
equilibrium price.
Objective/Intended Consequence
It is usually used to achieve a fairer distribution of essential goods and services such as
basic food items by ensuring affordability of these goods to lower income households.
Figure 3
How it works?
With reference to Figure 3, the free market equilibrium price and quantity of food are Pe
and Qe respectively. Before the implementation of the price ceiling, the total revenue of
the producers is 0PeEQe. If a price ceiling of 0Pc is imposed on food, price fell from Pe to
Pc and food prices are prevented by law from rising further. Also, the quantity demanded
will rise to Q2 and quantity supplied will fall to Q1. A shortage of Q1Q2 results. The total
revenue of the producers will fall from 0PeEQe to 0PcAQ1. The shortage results in a
need to distribute the limited supply via mechanism such as 1st-come-1st serve basis,
sellers’ preference or govt rationing through coupons.
Explain why price ceiling may be a better alternative to subsidy

[Evaluation] Strength:
∙ Ensure that essential staple food items are available to lower income groups at
affordable prices without huge cost to the govt associated with subsidies. The lower
the price ceiling, the more affordable essential staple food is.
Limitations:
∙ Queueing system & selling according to sellers’ preference may not be regarded as a
fair way to redistribute the shortage as it is inefficient and practices discrimination
respectively.
∙ The excess consumer demand is likely to lead to the development of black market,
where some producers are tempted to sell above the price ceiling at Pb – the black
market price. If all the available supply Q1 were sold at the black market price of Pb,
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black marketers would earn total revenue of OPbBQ1. Since some consumers will
be prepared to pay higher price in order to ensure their own consumption of food,
this outcome will defeat the government objective of ensuring an equitable
distribution of food.
∙ In addition, compared to the situation before the price control, fewer number of
consumers is able to buy food, even when it is now more affordable. The number of
consumers who managed to buy food is OQ1, a drop from Qe. Hence only this
smaller group of people (Q1) will enjoy the lower price & higher consumer surplus.
A majority of the poor may actually be deprived of eating food.
Alternative Policy 2:
Describe briefly how one other method works to alleviate high prices of food. ∙
Govt can decrease the demand for food by crackdown on hoarders and black marketers
which could help prevent prices from rising further. This step might not significantly
reduce prices but will ensure that prices don't escalate further.
∙ Other measures involve increasing supply. For example, the government could unload
the food inventory it has. This will have an immediate impact on the prices. The
market supply for food would rise and thus reduce the market price of food as seen
in Figure 2. However, this is short-term strategy as the government food inventory
may be depleted in the long run. Also, the impact on price also depends on the
amount of food inventory that the government has.
Conclusion:
∙ [Criterion – Time Period] Both subsidies and price ceiling discussed extensively
above are short term measures to ease climbing food prices and come with
substantial trade offs. Given the substantial disadvantage of using a price ceiling, it
would seem like a govt should extend subsidies to food crops so that more
resources will be brought under food cultivation. Hence in medium term, a subsidy
is probably the best method to address high prices of food. [Suggest a better
policy] However, for a more sustainable and long term measure, a government
should also put in place adequate infrastructure (e.g. improve transport links & utility
supplies) that attracts investments into the agricultural sector. This may call for
coordinated efforts by local authorities, regional governments, international
organizations and agricultural research institutes. They should come together to
plan, optimize and enforce land use, and provide assistance and incentives for
existing farmers to continue their food production to increase food supply.
∙ [Criterion – Context] On another note, while countries that produce agricultural goods
could encourage crop production there is little that countries like Singapore who
imports food could do that would directly influences production. [Suggest a better
policy] These countries would probably manage the food prices by keeping their
exchange rates strong & diversifying their source of food supply
Knowledge, Application, Understanding and Analysis
L3 For an answer using analysis to give a clear explanation of a range 8-10

of policies that might alleviate high prices of food
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L2 For an answer giving a largely descriptive explanation of 5-7
alternative economic policies
L1 For an answer that shows knowledge of a range of policies that are 1-4
unexplained OR one that only considers one policy.
Allow up to 4 additional marks for Evaluation
E3 An analytical, well-reasoned judgement at discussing if subsidies is 4-5

the best policy and reasonable and well justified ranking of policy is
provided.
E2 Some attempt at evaluating the use of 3 different policies in 2-3

alleviating the high global food prices.
E1 Unexplained evaluation or evaluation unsupported by economic analysis. 1
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Ferrero, a confectionery firm, faces rocketing prices for cocoa, a key ingredient in
Nutella. Ferrero also plans to differentiate Nutella from alternative spreads like
peanut butter by promoting the health benefits of Nutella.
(a) Analyse the factors that would influence the price elasticity of demand and
price elasticity of supply of Nutella. [10]
(b) Explain the effects of the above developments on the consumer expenditure
on Nutella. [10]
Question Interpretation for part (a):

Command word:‘Analyse [Pg 28]
Requirements: Identify & explain the factors (from the case material)
Rank the importance/ relevance/ significance etc in the synthesis using judging criteria)
Cue Words/ Key Economic concepts:

∙ “factors influencing PED & PES of Nutella”🡪 Explain factors affecting PED & PES
Mark allocation:
10m= 3 well-explained factors
Part (a)
Introduction:
✔ Define PED: Price elasticity of demand (PED) for Nutella refers to the degree of responsiveness of quantity
demanded of Nutella given a change in price, ceteris paribus.
✔ Define PES: Price elasticity of supply (PES) for Nutella refers to the degree of responsiveness of quantity
supplied of Nutella given a change in price, ceteris paribus.
✔ Model of framework/ Address the question: There are various factors affecting the PED and PES of
Nutella which in turn affects the equilibrium price and quantity of Nutella.
✔
Devt 1: Explain concept of PED + Factors

∙ Formula: % change in quantity demanded / % change in price of the good.
∙ Sign: Negative- due to inverse relationship between price and qty dd, as stated by Law of
Demand ∙ Magnitude:
o PED>1: Demand for good is price elastic🡪 a given increase in price of good leads to a
more than proportionate increase in qty dd
o PED<1: Demand for good is price inelastic 🡪 a given increase in price of good leads to a
less than proportionate increase in qty dd.
∙ Useful in explaining the extent of changes in price and qty due to shifts in supply.
Factors affecting PED of Nutella include:

∙ Availability and closeness of substitutes to Nutella:
o The greater the availability of substitutes and the closer the substitutes for Nutella, the
greater will be its PED.
o Demand for Nutella is likely to be price elastic (PED>1) due to the availability of
other substitutes for breakfast spreads, e.g. peanut butter, fruit jams etc.
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o An increase in price of Nutella will make consumers switch to other substitutes that satisfy
the same need for breakfast spreads, resulting in a more than proportionate fall in qty dd
for Nutella.
∙ Proportion of income spent on Nutella:
o The higher the proportion of income spent of Nutella relative to other spreads/ groceries,
the greater its PED.
o Reason: Increases in price of Nutella, should it take up a significant proportion of
consumers’ income, cannot be easily ignored without sacrificing other alternative goods
that could be purchased for satisfying needs and wants.
o Therefore, an increase in price of Nutella is likely to induce consumers to sacrifice Nutella
for other pressing groceries, resulting in a more than proportionate fall in the qty dd for Nutella. ∙
Degree of necessity
o The degree of necessity of Nutella, or, its perceived importance for meals, would affect its
PED. If it is considered a necessity for breakfast for certain group of consumers who display
strong preference for Nutella, then its PED would be low as these consumers would have to
consume Nutella, explained by a less than proportionate fall in qty dd, even if prices
increase.
∙ Ranking of factors: Weighing the factors that could influence the PED for Nutella, demand for
Nutella is likely to be relatively more price elastic due to the availability of close substitutes for
breakfast spreads. Moreover, the proportion of income spent on Nutella relative to other groceries
is likely to be higher compared to that spent on alternative breakfast spreads. Nutella is also
likely to be perceived as a necessity only for a small group of consumers. Hence, given an
increase in price from P1 to P2 due to a fall in supply, qty dd decreases more than
proportionately from Q1 to Q2. (Fig 1)
While the above summarizes the list of factors that will influence the PED of Nutella, the PES for
Nutella will be influenced by a different set of factors altogether.
Devt 2: Explain concept of PES + Factors:

∙ Formula: % change in quantity supplied / % change in price of the good.
∙ Sign: Positive- due to Law of Supply (Direct relationship between price and qty
ss) ∙ Magnitude:
o PES>1: Supply for good is price elastic🡪 a given increase in price of good leads to a more
than proportionate increase in qty ss
o PES<1: Supply for good is price inelastic 🡪 a given increase in price of good leads to a
less than proportionate increase in qty ss.
∙ Useful in explaining the extent of changes in price and qty due to shifts in demand.
15
Factors affecting PES of Nutella include:
∙ Availability of stocks:
o Ability to store Nutella in jars at low or no cost without loss in quality will affect PES. Greater
ability for storage🡪 more price elastic supply as retailers are better able to respond to price
increases by drawing on inventories.
∙ Time Period:
o PES depends on time period. In the short run, Ferrero cannot immediately change the
production of Nutella in response to changes in prices. Hence, supply will be more price
inelastic. In the long run, Ferrero has sufficient time to source for and increase inputs (e.g.
cocoa, hazelnuts) and can choose and vary factory sizes dedicated to the production of
Nutella. Hence PES would be greater in the long run as Ferrero are better able to respond to
changes in prices.
∙ Explanation of other factors such as existence of spare capacity, ease of factor substitutability and
factor mobility also acceptable.
∙ Ranking of factors: Supply of Nutella is relatively price elastic largely due to the ease in which
Nutella can be stored for long periods of time and hence retailers are likely to have greater
availability of stocks for Nutella. Given an increase in price from P1 to P2 due to an increase in
demand, qty ss decreases more than proportionately from Q1 to Q2. (Fig 2)
Several factors affect the PED and PES values of Nutella. However in reality, it may be difficult to
determine PED and PES of Nutella because of inaccuracies in data collection due to bias or sampling
error. Also, data collected prior to the event may be outdated and not reflective of current economic
conditions.
Question Interpretation for part ‘b’:

Command word: ‘Explain how’ 🡪 Refer to Explain why/the cause(s)/factor(s)/reason(s)/X’s decision [Pg
22] Requirements: Elaborate on the reason(s) using economic analysis
Explain the effects of the above developments on the consumer expenditure on Nutella.
[10] Reference to CSQ Skills Package:
Command word:‘Discuss [Pg 27]
Requirements: Give your verdict as to what extent a statement is true, or to what extent you agree
with them. Provide a balanced argument, well-supported by economic theories & evidences. Come
to a conclusion, basing your decision on what you judge to be the most important and justify
accordingly
Command Word: “Discuss” 🡪 HOT 🡪 Needs Evaluation

Cue Words/ Key Economic concepts:
∙ Expenditure analysis
Mark allocation: 15m = 3 well-elaborated arguments + 5m for evaluation

Define Consumer Expenditure (CE): Consumer expenditure is the total amount of money spent
on a product. (CE= P x Q)
16
Model of framework/ Address the question: Rocketing prices for cocoa and promotion of Nutella
can affect demand, supply and elasticities of demand for Nutella, which in turn impact consumer
expenditure
Define Demand: Demand for ice cream refers to the quantities of Nutella that consumers are willing
and able to buy at various price per a period of time, ceteris paribus.
Define Supply: Supply for ice cream refers to the quantities of Nutella that producers are willing
and able to sell at various prices per period of time, ceteris paribus.
Body/ Development:
Analysis of Supply Factors
change in Supply for Nutella has decreased due to the increased in price for
CE in Cocoa ∙ rocketing prices for cocoa 🡪 ↑Price of cocoa
market for ∙ use of cocoa is a key ingredient in the production of Nutella 🡪 ↑unit COP
Nutella : ∙ ↓qty ss at every price 🡪 ↓Supply of Nutella
Supply
Factor Analysis of change in CE in market for Nutella
↓Supply
∙ Initial equilibrium at E1, with price P1 and output Q2
∙ [MAP] ↓SS 🡪 Shortage created of Q1Q3 🡪 upward pressure on price 🡪 ↑P1 to P2 and
↓Q1 to Q2
∙ [Use PED to analyse CE] close substitutes available such as other breakfast spreads like
peanut butter and jams that offer similar texture and smoothness afforded by the
consumption of Nutella🡪 Dd for Nutella is price elastic
∙ PED>1 🡪 ↑P leads to a more than proportionate ↓Qty dd
∙ [Reference diagram]↑CE due to ↑P which is area P1P2aE2 < ↓CE due to ↓Qty dd which
is Q1Q2aE1 🡪 overall CE↓
∙ [Use PED to EVALUATE changes in CE]

∙ [Criterion] However over time, assuming health campaigns are successful,
consumers convinced on the health benefits and becomes less willing to switch
to alternatives
17
∙ [Reasoning] 🡪 DD for Nutella becomes less price elastic🡪 quantity demanded
becomes less responsive to price increases
∙ [Opinion] 🡪 reduced fall in CE.
∙ [Reference diagram]↑CE due to ↑P which is area P2’E2’bPa > ↓CE due to ↓Qty dd
which is Q1Q2’bE1🡪 overall CE↑
Analysis of Demand Factors

change in CE for Nutella has increased due to improved taste & preference
CE in • Successful promotion of health benefits of Nutella
market for • favourable change in consumers’ taste and preferences towards Nutella 🡪 DD
Nutella : for Nutella ↑
Demand • Ceteris paribus🡪 shortage🡪 upward pressure on price🡪 P rises, Qty rises 🡪 rise
Factor in CE
Judgeme [Option 1]:

nt: ∙ Fall in SS outweighs rise in DD 🡪 overall CE for Nutella falls
overall ∙ Since cocoa is a “key ingredient”🡪 higher proportion of cocoa used in Nutella🡪
change in price of cocoa is likely to form a large proportion of production cost of Nutella🡪
CE for greater rise in cost of production due to rise in price of cocoa 🡪 larger decrease
Nutella in supply (from S1 to S2) relative to rise in demand (from D1 to D2). (Fig 4)
18
∙ Fall in CE > Rise in CE 🡪 Overall fall in CE for Nutella from 0P1E1Q1 to
0P2E2Q2.
[Option 2]:
∙ Rise in DD outweighs fall in SS in the long run as Nutella succeeds in advertising
campaign (more consumers have time to change their preferences, switch away from
alternative products to Nutella) and/or managed to source for credible alternative
suppliers of cocoa🡪 larger rise in DD (from D1 to D2) relative to fall in supply (from
S1 to S2) (Fig 5)
∙ Rise in CE > Fall in CE 🡪 Overall rise in CE for Nutella from 0P1E1Q1 to 0P2E2Q2
Evaluation:
∙ while the fall in SS may outweigh the rise in DD in the short run, these changes are likely
to be mitigated in the long run as Nutella embarks on its extensive advertising campaign
to differentiate Nutella against other spreads.
∙ [Criterion] As a profit maximising firm, it is highly likely that Nutella hopes to achieve a
comfortable position in which it is able to sell more bottles of spread at a higher price,
relative to its competitors. [Opinion]
Conclusion
• Impact on consumer expenditure for both Nutella may also depend on other factors.
• [Criterion] Ceteris paribus assumption may not hold
• [Reasoning] 🡪 Impact on CE also depend on changes in DD for both products (due
changing market demand) and changes in SS (due to rival firm strategies).
• [opinion] E.g., Firms selling peanut butter or other spreads such as jam may introduce
counter advertising campaigns which could nullify Ferrero’s effort to differentiate
Nutella.
19

Suggested Answers Basic Questions (A) Factors Affecting Demand & Supply & Determination of Market Price & Output

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2021 JC1 Stretch and Reach Answers (H2) Demand, Supply and Elasticities

Reference to CSQ Skills Package:

Reference to CSQ Skills Package:

(b) Demand and Supply in Inter-Related Markets

Reference to CSQ Skills Package:

Reference to CSQ Skills Package:

Initial eqm: The market is initially in equilibrium at point E1.

(a) Price Elasticity of Demand

Reference to CSQ Skills Package:

PED refers to the degree of responsiveness of quantity demanded of a good given a

Reference to CSQ Skills Package:

PED = (% ∆ qty demanded of tarts )/(% ∆ price of tarts )

Reference to CSQ Skills Package:

impact on supply, (2m) impact on TR (2m)

(b) Price Elasticity of Supply

2m for explaining outcome on price, 1m for diagram

(c)Income elasticity of demand

Cross elasticities of demand for beef and pork

Source: Household Food Consumption Expenditure, Annual Report of the Food

Reference to CSQ Skills Package:

Requirements: Elaborate on the reason(s) using economic analysis

Step 2: Explain the shifts in demand and supply

Identify and explain changes in demand:

Step 3: Make a judgement about the relative extent of the shifts

Step 5: Upward/downward pressure on price

Explain the SHARP rise in global food prices

∙ The extent of the rise in price is further aggravated (exacerbated) by price

∙ The extent of the rise in price is further aggravated (exacerbated) by price

L3 Addresses the question. Able to give in-depth contextual explanation of rise in

L1 For an answer which

Reference to CSQ Skills Package:

Explain clearly how subsidies work to alleviate high prices of food.

How well it works?

Strength of using subsidies:

Limitations of using of subsidies:

∙ Another disadvantage of a subsidy is it disrupts the function of prices as an allocative

Alternative Policy 1: Price Ceiling

Explain why price ceiling may be a better alternative to subsidy

Knowledge, Application, Understanding and Analysis

L3 For an answer using analysis to give a clear explanation of a range 8-10

Allow up to 4 additional marks for Evaluation

E3 An analytical, well-reasoned judgement at discussing if subsidies is 4-5

E2 Some attempt at evaluating the use of 3 different policies in 2-3

E1 Unexplained evaluation or evaluation unsupported by economic analysis. 1

Question Interpretation for part (a):

Cue Words/ Key Economic concepts:

Devt 1: Explain concept of PED + Factors

Factors affecting PED of Nutella include:

Devt 2: Explain concept of PES + Factors:

Question Interpretation for part ‘b’:

Reference to CSQ Skills Package:

Command Word: “Discuss” 🡪 HOT 🡪 Needs Evaluation

Mark allocation: 15m = 3 well-elaborated arguments + 5m for evaluation

∙ [Use PED to EVALUATE changes in CE]

Analysis of Demand Factors

Judgeme [Option 1]:

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