CPA 3 – Economic Environment

Solution 2

(a) (i) A transformation curve refers to a locus of points showing different

combinations of two commodities that can be produced when all resources are
fully and efficiently utilized.

(ii) The curve works on the following assumptions:

 Only two goods (machines and cocoa) can be produced.
 Technology and production skills are known and constant
 The resources available are fully utilized in producing both commodities.
 The economy is closed with no foreign sector.
 The existing resources are mobile and can be transferred from use in production
one commodity to another.
 In order to increase output of one product, some units of the other product must
be given up.

(b) Reasons why the transformation curve may shift outwards.

 Due to discovery of new raw materials. This may eventually increase the level of
investment, which eventually increases output, hence economic growth and an
outward shift.
 Due to improvement in the level of technology. This may increase the level of
resource utilization hence an increase in output, thus an out-ward shift
 Discovery of new markets. This influences the producers to struggle to increase
the volume of out put so as to profiteer. This eventually leads to an outward
shift.
 Increase in entrepreneurship skills. This tends to promote the level of innovation
and invention, which makes output to increase, thus leading to an outward shift.
 Due to increase in labour skills. This eventually leads to an increase in output,
which implies economic growth, hence a shift in the transformation curve.
(c) (i) A mixed economy is an economy where resources are owned by both
private individuals and the government. The economic activities of individuals
and the allocation of resources is both by the state and forces of demand and
supply.

(ii) The benefits of a mixed economy in relation to Katono’s enterprise.

 Employment of community members and this helps to reduce
unemployment.
 Provision of market to the people in the area who earn income.
 Contributes to government revenue through paying of taxes.
 Imparts skills to the youth by training those whom he employs.
 Limited evils of pollution in his area because he disposes off the waste
with care and the desire to remain on good terms with NEMA.
 The competition in the market keeps him innovative and creative and this
increases efficiency in the economy.
 He got a grant from friends and this has helped to increase investment.
 He produces affordable commodities for the community because his costs
are low since he used a grant for initial investment.
(iii) Why government finds it necessary to intervene in the economic activities
of Uganda.
 To ensure there is no over exploitation of resources. This can be done
through rules, regulations and setting up institutions to oversee the
activities like through NEMA.
 To control the negative effects of private monopolies like high prices that
lead to consumer exploitation. This can be done by encouraging
competition.
 To ensure a wide variety of goods that are produced and sold to
consumers through economic liberalisation and even government
participation in production.
 To ensure a more equitable income distribution through relevant/
progressive tax system.
 In order to achieve and maintain a high level of employment through
government intervention in production and through incentives to private
producers.
 To ensure that goods and services essential to civilized existence are
provided. This can be done by government financing/ providing defense,
internal law and order, education, health, roads and others.
 To ensure economic stability. This can be done through a series of micro
economic policy instruments to influence the level of investment,
international trade and inflation rate.
 To ensure high rate of output and economic growth. This can be done
through effective planning and competition with the private enterprises.
 To enable the economy cope with the needed structural changes. This is
through deliberate government planning and increased production.
 Solution 3
(a) Barriers to entry of new firms in the Hydro Electricity power subsector.
 High costs of initial establishment. Prospective firms find it difficult to raise the
initial capital needed to construct dams to generate Hydro electric power and
market it.
 The market for electricity is small to make it worthwhile to join the subsector and
compete with UMEME. There are few large scale manufacturing firms and
prosperous households that can afford the connection fees, the per unit price to
enable firms maximize profits.
 UMEME enjoys government support and protection through various legislations
like that of April 2001 and a 20 year concession given to UMEME (Eskom) in
2005
 UMEME has control over ownership of the existing dams that generate Hydro
Electricity power which it gained when it took over the assets of UEDCL in 2005.
It would be prohibitive cost wise for other firms to build new dams and
distribution channels without government subsidization which came from the
World Bank.
 Government policy: The government and regulatory authority have not
encouraged other firms to enter the sector. Private firms can only sell solar
panels that are even imported from other countries.
 Presence of aggressive advertising by UMEME. The company does extensive
persuasive advertising about its activities so that the would-be competitors find it
hard to capture the market.
 The historical perspective. The British colonisers looked at the Owen falls dam as
a source of pride and achievement for Britain, the UK based firm Globerg in 2006
took over Eskom’s shares in UEDCL. It would spoil UK-Uganda relationship if
another firm rose to challenge UMEME in the sector.
(b) Arguments levelled against privatization of public enterprises.
 Possibility of worsening income inequality. Profit hungry private investors exploit
consumers who become poor while the investors a mass a lot of wealth and
become richer.
 Profit repatriation. Where the enterprises are bought or taken over by foreigners,
they get a lot of profits which they repatriate to their home countries leading to
massive capital outflow.
 Unemployment. Former workers of the privatized public enterprises are laid off
and become unemployed in the short run. Furthermore, the new private
investors search for new suppliers of inputs leaving many people unemployed.
 High prices of goods and services. The private investors in search of profit
maximization tend to charge high prices for goods and services which make
consumers suffer.
 Over utilization of resources. Private enterprise owners tend to over use
resources in order to accumulate wealth quickly and this leads to quick
exhaustion of resources especially non-renewable resources like forests.
  Danger of foreign dominance. Most of the enterprise if bought by foreigners may
undermine independence of the country. The foreign investors usually pressurize
governments to make decisions that favour the interests of the foreigners even
to the detriment of public interest of the citizens.
 The possibility of losses. When the public enterprises are sold to unscrupulous
buyers and the enterprises are grossly undervalued, the country loses the overall
expected benefits of selling the enterprises to private investors.
 Loss of support for the government. In cases of great opposition and non-
transparency by the privatization unit, the privatization exercise can make the
government unpopular. The general public may not see the expected benefits
from privatization which makes the citizens disgruntled.
(c) The different ways in which a firm can raise funds to finance its operations.
 Inherited wealth. Wealth inherited from parents etc. can be used to finance the
operations of one’s new firm or enterprise.
 Past savings. An individual can use savings one has accumulated overtime to
finance the operations of the firm.
 Retained profits. A firm can utilize profits from past trading periods that were
retained to finance and expand its operations.
 Sale of assets. A firm owner can sell assets like land, animals to raise funds that
can be used for the operations of the firm.
 Funds from NGOs and government. A firm owner can solicit for grants, gifts,
subsidies from the government and NGOs and used the funds to finance its
operations.
 Loans from financial institutions. Firms that possess marketable assets like land
with titles can use them as collateral to get loans that can be utilized by the firm.
 Trade credit. A manufacturer/firm can obtain inputs and goods or services on
credit which it utilizes to make goods for sale and then pays later when the
goods are sold.
 Issuing on new shares. Limited liability companies normally issue shares to the
public and the new share holders’ contributions constitute funds which the firm
uses.
 Debentures. A Firm can issue or sell debentures to the people willing to lend it
money on which they earn interest The firm uses the funds got to finance its
operations as it pays the stated interest periodically.
Solution 4

(a) Fixed exchange rate is where the rate at which the currency of a country is
exchanged for other currencies is fixed by the central monetary authority at a
given level and does not vary for some time.
While
Floating exchange rate is where the rate at which the currency of a country is
exchanged for other currencies is determined by the forces of demand and
supply in the foreign exchange market.
(b) Ways to improve Uganda’s terms of trade.
 Processing the exports to add value. Processed products last long and can fetch
high prices on the world market. As a result of the increase in export prices, the
barter terms of trade are improved.
 Improving the quality of exports. The quality of exports should be ensured from
the production stage to the distribution stage. Quality exports can be sold at
higher prices on the world market to improve on the barter terms of trade.
 Adopting an import substitution strategy. This involves establishing more
industries in the country to produce goods that were formerly imported. This
reduces the volume of imports and improves the income terms of trade.
 Diversification of export markets. This entails the search for more trading
partners abroad to increase the buyers of the country’s exports. This enables the
country to negotiate for higher prices for the exports and lower prices for the
imports. This improves the barter terms of trade.
 Adopting a managed exchange rate policy. This enables the government to have
a realistic and stable exchange rate which keeps the prices of imports stable.
 Establish export promotion institutions. These institutions can help the exporters
to search for wider markets and advertise their exports on the world market. The
widened market for exports leads to higher prices for exports and improves the
terms of trade.
 Putting high tariffs on non- essential imports. This reduces the volume of imports
by making them more expensive. The decline in demand for imports lower their
prices and this improves the barter terms of trade.
 Joining strong international commodity agreements. This increases the country’s
ability to bargain for higher prices for exports which improves the barter terms of
trade
(c) (i) Four liquid assets held by a bank include:
 Cash in the bank in form of currency notes and coins.
 Deposits of the bank with other banks and non-bank financial
intermediaries
 Reserves kept by the bank in the Central Bank.
 Foreign currency holdings of the bank.
 Cheques drawn on other banks by the bank’s customers.
 Advances to customers for short term (Money at call and at short notice).
(ii) Factors that influence the amount of money created by commercial banks
in an economy.
 Size of the cash ratio. A high cash ratio of about 20%limits the funds
available for lending by the commercial banks leading to low amounts of
money created. A low cash ratio of 5% frees a lot of funds for commercial
banks to lend leading to high credit created.
 Monetary policy adopted by the Central Bank. Restrictive monetary policy
constrains the lending ability of the banks leading to low credit created
but expansionary or liberal policy enable banks to lend more hence a lot
of money created.
 Level of development of the banking system. An advanced banking
system with many banks that are well distributed throughout the country
leads to high credit created because the banks are able to mobilise a lot of
deposits from many savers that they lend to various borrowers. When the
banking system is underdeveloped, with few banks that are concentrated
in urban areas, there are few savers and borrowers hence low/limited
amount of money created.
 Availability of collateral securities. When many people possess collateral
securities, the banks find it easy to lend to many people hence more
money created. If the number of people who have collateral security are
few, banks can only lend to few borrowers which results into low level of
money created.
 Political situation in the country. Political stability encourages people to
borrow for investment from commercial banks hence high amount of
money created. Political instability discourages borrowing for investment
leading to low amount of money created.
 People’s knowledge about the banking system/activities. High amounts of
money are created by the commercial banks when people have high
awareness of the banking activities and can save and borrow. When
people are ignorant about the banking activities few save and borrow
hence low amounts of money created.
 Level of monetization/size of the subsistence sector. A large subsistence
sector leads to low credit creation due to low saving and borrowing levels.
A high level of monetization with a small subsistence sector encourages
saving and borrowing for economic activities leading to high amounts of
money created.
  Level of liquidity preference. High level of liquidity preference results into
low savings and deposits in the banks leading to low lending levels by
banks. Low liquidity preference encourages saving and borrowing which
lead to high levels of credit creation.
 Degree of accountability in commercial banks. Low levels of accountability
/high corruption of bank officials reduce funds available for lending and
limit credit creation. High levels of accountability in commercial banks
enable banks to lend money to many borrowers hence high amounts of
money created.
 Economic climate/ level of investment. Favourable economic climate like
low levels of inflation and stable exchange rates encourage people to
borrow for investment leading to high level of credit creation. Poor
economic climate with poverty, high levels of inflation; exchange rate
instabilities discourage investment and borrowing from commercial banks
thus low levels of credit creation.

Solution 5
(a) Causes of poor performance of the agricultural sector.
 Limited funds/capital. This makes it hard for farmers to acquire the
needed inputs like seeds, livestock, tools and equipment to use in various
activities.
 Poor government policy. Farmers do not get the needed financial aid from
government so they operate at high at high costs of production which
frustrates them and discourages large scale production.
 Poor skills/low level of education. Many farmers lack knowledge of the
necessary farming practices which leads to output levels.
 Poor methods of farming/poor technology. Use of poor methods/poor
technology leads to slow rate of doing activities on the farm which lead to
low output.
 Poor land tenure system. Some farmers have small land holdings and
many cannot access sufficient land to carry out meaningful agricultural
activities on commercial basis.
 Small size of the market. Many people are poor and want to buy products
at low prices this limits the profitability realized from farming and this
discourages investment in the sector.
 Unfavourable natural factors. Prolonged droughts, floods, pests and
diseases that destroy crops and adversely affect yields and yet they are
hard to control. The low output discourages large scale commercial
farming.
 Poor/underdeveloped infrastructure. The poor roads, transport network,
poor communication makes it hard and expensive for farmers to access
 markets forcing them to sell at low prices that discourage their work
effort.
 Corruption and inefficiency of government officials. Many officials that are
entrusted with resources and with the task of overseeing developmental
projects just divert the given resources for personal use. They hardly
teach the farmers about what to do and do not give the required technical
help. This leads to low yields and farmers apathy.
 Poor entrepreneurial skills. Agricultural work is mainly left to women,
children, and the uneducated or is taken on as a last resort income
generating activity. These people lack the entrepreneurial skills and
attributes like creativity, innovation and managerial skills this leads to low
returns and discourage activities in the sector leading to low output and
productivity.
(b) Steps that can be taken to improve the structure of the export of agricultural
products in Uganda.
 Manufacturing or processing of primary agricultural products to add value
to these products so that they can be sold at higher prices on the
international market.
 Establishment of specialized institutions to help exporters. These can
advertise the products, help farmers to produce products of international
quality and gain exposure on the world market. This would increase
demand for exports and gain more exposure on the market.
 Search for more markets. Joining economic integrations and searching for
more trading partners can help widen the market for exports. With
diversified markets there is increase in demand for exports and at high
and favourable prices.
 Joining strong commodity agreements. Such agreements like the
international coffee agreement with large numbers of producers can
increase the bargaining power of the country as a member so that better
prices are paid for the export of agricultural products.
 Negotiating for removal of trade barriers. Barriers like quotas, quality
control measures through negotiation maybe reduced to allow the country
to export agricultural products to lucrative export markets.
 Stabilisation of exchange rates. This can lead to stable export earnings to
enable the exporters to gain morale to export more/increase the volume
of exports.
 Introducing fiscal measures to encourage exporters to export more.
Measures like customs draw back, refund of VAT paid on inputs for
production of exports.
 Improvement in infrastructure. This can ease accessibility to the markets
in East Africa, Europe and other countries at low distribution and
marketing costs so that they are sold at competitive prices.
(c) (i) Components of Uganda’s National Budget
 Review of the previous financial years’ social and economic performance.
The current size of the Gross domestic Product (GDP) and Net Domestic
Product (NDP)
 Expected role of the public private and community sectors during the fiscal
year.
 The current economic growth rate of the country and the targeted rate for
the fiscal year.
 The contribution to GDP by each sector.
 The balance of payments position of the country.
 Objectives of the current fiscal budget.
 The monetary and fiscal strategies for the fiscal year.
 Total estimated revenue and expenditure for the next financial year.
 Outline of government incentives and initiatives for the fiscal year.

(ii) Importance of making annual national budgets to development.

 Influences/guides overall expenditure and hence fosters economic growth
and widens employment.
 Acts as a stabilizing tool by putting in place measures to correct
inflationary or deflationary situations.
 Help to improve the balance of payments by putting in place measures to
reduce foreign exchange expenditure.
 The budget has provisions for tax holidays, subsidies and other fiscal
incentives to create a conducive investment climate that foster resource
utilization.
 Helps government to mobilise funds from various sources for both
recurrent and development expenditure for economic development.
 Guides the putting in place of progressive taxation to promote more
equitable distribution of income.
 Guides the establishment of incentives to the private sector to promote
investment which accelerates economic growth and development.
 Used to promote regional balance through the allocation of government
revenue in a way that backward areas are helped to come to the level of
others.
 Used to protect infant industries by putting in place fiscal measures to
protect such industries from unfair competition of imported goods which
fosters industrialization.
 Guides ways of discouraging the production and consumption of demerit
goods by levying high excise duties on them.
 Used to mobilise foreign resources through external borrowing and such
resources are used to foster infrastructural development to aid increased
economic activities.
  Helps in regulation of public expenditure by analysing the previous
budgetary deficits and planning how to reduce them thus reducing the
debt burden.
 Helps in management of the public debt by showing how the national debt
will be contracted, used, serviced and later repaid.
 Helps in mobilizing the public to rally behind the government in fostering
development by indicating which roads, hospitals and schools that will be
constructed. This makes the communities interested stakeholders.
 Enables a country to maintain political stability through the allocation of
funds on defense,police, judiciary which help to keep law and order so
that a conducive climate for increased economic activities is created.

Solution 6
(a) (i) Reasons behind Trade unions’ demands for remuneration increases
 The rising cost of living. The high inflation rate constantly increases the
cost of living so workers need increase in remuneration to be able to
maintain a decent standard of living.
 Comparative wage argument. When workers in the same industry or doing
the same job have had wage increases, those who were not catered for
also demand for higher wages.
 In case of increased risks at the job. When workers feel that the work,
they are doing is riskier than before, they demand for higher pay because
they need to be compensated for the increased risks they take at work.
The case of doctors in times of out breaks of infectious diseases is an
example.
 Failure by the employer to implement the earlier agreed upon wage
increase. When the employer had made a promise to increase the wages
and has not made good the promise, the workers demand for the wage
increase to compel the employer to fulfil his pledge.
 Increased work load/increased hours of work Heavier work load compel
workers to demand for higher wages to compensate them for the leisure
they have to forego so as to work for longer hours.
 Inelastic supply of labour. When the employees are aware that their
supply is inelastic and the employer cannot easily dismiss and replace
them, workers demand for higher wages since they are aware that he
cannot afford to lose them.
 The demand for goods or services of the industry is inelastic. When the
employees are aware of this, they ask for higher pay since they know that
the wage increase can be passed on to the consumer in form of higher
prices without reducing the demand for the product.
 Employer’s ability to pay. Workers demand for higher pay when they know
that the employer has the funds to pay the workers by re-allocation of his
resources.
  Higher prices being charged for the product or service. When the
employees are aware that the employer is getting more revenue than
before, they feel they should share in the increased revenue by having
wage or salary increase. This is the argument used by the lecturers in
universities where tuition fees are increased every now and then.
(ii) Trade unions have not been successful due to a number of reasons
 Disunity among the workers. Some workers are not willing to adhere to
the trade union decisions like sit down personal strikes for personal
reasons and once some workers continue to work the trade union
objectives cannot be achieved.
 Weak leadership. Many trade union leaders are not committed to the
workers’ cause. They are easily lured away from the trade unions by the
government offers of political posts and it takes long to get competent
replacements for them and the trade unions just limp on.
 Political interference and threats. Government sometimes intimidates the
workers with threats of dismissal, it uses police to beat up demonstrators,
make strikes illegal so the trade unions cannot use such tools to bargain
with the employers.
 Poor financial positions of the trade unions. This makes it hard to help the
workers and to sustain workers during long periods of strike like for three
months to force the employers to concede to workers’ demands. After a
short period, the workers, become desperate and end the strikes
themselves.
 High levels of unemployment in the country. This makes the employees
reluctant to press for their rights because they fear to be dismissed since
there are other desperate people looking for jobs at the current pay and
conditions of work. This makes it difficult for trade unions to persuade
workers to press for their rights.
 Poorly developed infrastructure. This makes communication between the
workers and the trade union leaders difficult. Lack of adequate
coordination makes the trade union activities an uphill task. For example,
some workers may continue to work while others are on strike.
 Availability of other sources of income for the workers Some employees
have other sources of income to supplement their wage or salary that
enable them to enjoy a good standard of living at the current conditions
Such workers do not see the need to join strikes to force the employers to
pay them more
 Low level of unionization. Some if not many workers in the various
industries or occupations are not members of the particular trade unions.
Such workers have no obligations to the trade unions. They do not join
their fellow workers for effective industrial action.
 Low level of productivity of labour. Some workers have low levels of
productivity and the trade unions have no basis to demand for higher
 wages for them. Workers and trade unions can demand for wage
increases when their productivity is increasing.

(b) Reasons behind the need to save.

 To accumulate money for future consumption spending like on durable
goods that are relatively expensive like cars.
 To cater for future unexpected events like diseases, accidents and others.
 To earn interest on money saved with the bank like on fixed deposit
account.
 To accumulate funds for future investment expenditure like putting up a
business and buying shares in other companies.
 To cater for old age when one’s energy has waned and one cannot get
income through paid employment and yet has to have a decent standard
of living. Moreover some people do not want to be a financial burden to
their children and other relatives.
 Saving maybe contractual. An individual may voluntarily or involuntarily
put himself under contractual agreement to save a fixed sum of money
per specified period of time and the money is redeemed at a later date
like for insurance premiums and social security fund contributions.
 Saving is a good moral habit. It shows restraint in spending.

(c) Demerits of being a sole proprietor in any business venture.

 The sole proprietor is overworked. He is the owner, the manager the
accountant and the salesman and he has limited ability to employ
professionals to help him.
 The sole proprietor has unlimited liability so his personal property can be
encroached on by the business debts.
 The business has limited chances of expansion because the sole proprietor
has limited sources of capital.
 The business may not continue successfully if the sole proprietor dies or
gets a problem like disability or insanity.
 The business of the sole proprietor does not enjoy economies of scale
because it operates small scale.