Cambridge IGCSE · 0455

Economics

Applied economics — Paper 2

Name: ____________________Date: October 14, 2026

1.
A government introduces a maximum price for staple food below the market equilibrium price. Analyse two likely effects on consumers and producers.
[4 marks]
Marking points
- Explains that quantity demanded rises because the controlled price is lower.
- Explains that quantity supplied falls because producers receive a lower price.
- Concludes that excess demand or a shortage is created.
- Analyses a consequence such as rationing, queues, informal markets, lower producer revenue or reduced future supply.
Examiner tip: Show the causal chain from the price control to demand, supply, and then stakeholders.
2.
Discuss whether raising interest rates is likely to reduce inflation without causing significant unemployment.
[4 marks] · no calculator
Marking points
- Explains how higher rates can reduce borrowing, consumption or investment and therefore aggregate demand.
- Links weaker demand to reduced demand-pull inflation.
- Explains why lower output or investment may increase cyclical unemployment.
- Reaches a balanced judgement depending on the cause of inflation, confidence, time lags or the economy's spare capacity.
Examiner tip: The policy's success depends on whether inflation is demand-led; supply-side inflation may respond weakly.
3.
A firm sells 2,000 units at $15 each. Its total costs are $24,000. Calculate the firm's profit or loss, and analyse whether it should continue producing in the short run on the basis of this figure alone.
[4 marks]
Marking points
- Calculates total revenue as 2,000 × $15 = $30,000.
- Calculates profit as $30,000 − $24,000 = $6,000.
- States that the firm is making a profit, not a loss.
- Concludes it should continue producing, since revenue exceeds total costs.
Examiner tip: Profit = total revenue − total cost; a positive result means the firm can continue production and remain viable.
4.
Discuss whether a government should rely more on direct taxes, such as income tax, or indirect taxes, such as a sales tax, to fund its public spending.
[5 marks] · no calculator
Marking points
- Explains that direct taxes can be progressive, taxing higher incomes at a higher rate, which reduces income inequality.
- States a drawback of direct taxes, such as discouraging work effort or investment at high rates.
- Explains that indirect taxes are simpler and cheaper to collect, and can be used to discourage consumption of demerit goods.
- States a drawback of indirect taxes, such as being regressive since they take a larger share of a low earner's income.
- Reaches a balanced judgement depending on the government's priority between equity and ease of collection.
Examiner tip: Direct taxes are generally judged on fairness (ability to pay); indirect taxes are generally judged on simplicity and behaviour change.
5.
A country imports more goods and services than it exports, creating a persistent current account deficit. Analyse two possible consequences of this for the economy.
[4 marks] · no calculator
Marking points
- Explains that the country must borrow from or sell assets to foreigners to finance the gap.
- Links this to a build-up of external debt or foreign-owned assets over time.
- Explains that a persistent deficit can place downward pressure on the exchange rate under a floating system.
- States a possible benefit, such as access to a wider range of goods than domestic production alone would allow.
Examiner tip: A deficit must be financed somehow — by borrowing, selling assets, or running down reserves — and that financing has its own longer-run consequences.
6.
A country's currency appreciates in value against other currencies. Analyse the likely effect of this on its exporters.
[4 marks]
Marking points
- Explains that appreciation makes exports more expensive in foreign-currency terms.
- Explains that this is likely to reduce the price-competitiveness of exports in overseas markets.
- Concludes that the quantity of exports sold is likely to fall.
- States a possible offsetting response, such as exporters absorbing some of the cost into a lower profit margin.
Examiner tip: Appreciation and depreciation affect export and import prices in opposite directions — think through foreign-currency price first, then quantity.
7.
Demand for skilled plumbers rises sharply in a city, while the number of qualified plumbers stays fixed in the short run. Analyse the likely effect on the equilibrium wage rate for plumbers.
[4 marks] · no calculator
Marking points
- Explains that demand for labour is derived from demand for the service plumbers provide.
- States that the demand curve for plumbers' labour shifts to the right.
- Explains that with supply fixed in the short run, this raises the equilibrium wage rate.
- Notes that the quantity of plumbers employed changes little in the short run, since supply cannot adjust quickly.
Examiner tip: When supply is fixed in the short run, a rise in demand shows up mainly as a higher price (wage), not a higher quantity.
8.
Evaluate whether introducing a national minimum wage set above the market equilibrium wage is likely to benefit low-paid workers overall.
[4 marks] · no calculator
Marking points
- States a benefit, such as higher pay for workers who remain employed, which may reduce poverty.
- Explains that a wage set above equilibrium can create an excess supply of labour, since more workers want jobs at the higher wage.
- Links this excess supply to a fall in the quantity of workers demanded, causing unemployment for some.
- Reaches a judgement depending on how far above equilibrium the wage is set and how elastic the demand for this labour is.
Examiner tip: A minimum wage helps the low-paid workers who keep their jobs but can reduce employment for others — the net effect depends on elasticity of labour demand.
9.
Explain how a government could use fiscal policy to try to reduce unemployment during a recession.
[2 marks] · no calculator
Marking points
- Explains that the government could increase its own spending, such as on infrastructure projects, directly creating jobs.
- Explains that it could also cut taxes, leaving households and firms with more income to spend, raising demand and encouraging firms to hire more workers.
Examiner tip: Fiscal policy works through government spending and taxation; it is distinct from monetary policy, which works through interest rates and the money supply.
10.
Explain, other than changing interest rates, one way a central bank could use monetary policy to increase the amount of money circulating in the economy.
[2 marks] · no calculator
Marking points
- Identifies a valid tool, such as quantitative easing (the central bank buying financial assets to inject money into the banking system).
- Explains that this increases the funds banks have available to lend, encouraging more borrowing, spending and investment.
Examiner tip: Monetary policy is not limited to interest rates — central banks have other tools to influence the amount of money and credit in an economy.
11.
Explain one advantage a government might expect from privatising a state-owned telecommunications company.
[2 marks] · no calculator
Marking points
- States an advantage such as raising revenue for the government from the sale, or increased efficiency from private-sector competition and profit incentives.
- Explains how this benefit could materialise, such as the newly private firm cutting costs or improving service to compete for customers.
Examiner tip: Privatisation moves an industry from government to private ownership, usually to raise money and expose it to competitive pressure.
12.
Explain one reason why a government might choose to nationalise (take into public ownership) a struggling railway company rather than let it fail.
[2 marks] · no calculator
Marking points
- Explains that the railway may be considered essential infrastructure, so the government wants to guarantee it keeps running for the public.
- States a further reason, such as protecting jobs or ensuring the service is run in the public interest rather than purely for profit.
Examiner tip: Nationalisation is often used for services seen as essential, where the government does not want supply to depend only on whether it is profitable.
13.
Explain one disadvantage to consumers of a single firm having a monopoly over the supply of a good, with no close competitors.
[2 marks] · no calculator
Marking points
- Explains that without competition, the monopoly firm can charge a higher price than it could in a competitive market.
- Explains that it also has less pressure to innovate, improve quality, or keep costs down, since customers have no alternative supplier.
Examiner tip: Competition normally disciplines firms on price and quality; a monopoly removes much of that pressure.
14.
An airline charges business travellers a much higher fare than leisure travellers for very similar seats on the same flight. Explain what this is an example of, and why it can be profitable for the airline.
[2 marks] · no calculator
Marking points
- Identifies this as price discrimination, charging different prices to different groups of customers for essentially the same product.
- Explains that it is profitable because business travellers are typically less price-sensitive (lower elasticity), so they will pay more without buying significantly less.
Examiner tip: Price discrimination works best when a firm can identify groups with different price sensitivities and prevent resale between them.
15.
Explain, using government spending on worker training as an example, what is meant by supply-side policy.
[2 marks] · no calculator
Marking points
- Explains that supply-side policy aims to increase the economy's productive capacity, rather than managing overall demand.
- Applies this to the example: training improves workers' skills and productivity, allowing the economy to produce more in the long run.
Examiner tip: Supply-side policy targets the economy's long-run productive potential; fiscal and monetary policy mainly target short-run demand.
16.
Explain what is meant by a government budget deficit.
[2 marks] · no calculator
Marking points
- Explains that a budget deficit occurs when government spending in a given period is greater than the tax revenue it collects.
- States that the government must borrow to cover this gap, adding to the national debt.
Examiner tip: A deficit is the gap in a single year's budget; the national debt is the total accumulated borrowing built up over many years of deficits.
17.
Explain one possible consequence for a country of having a very high national debt.
[2 marks] · no calculator
Marking points
- Explains that the government must pay interest on this debt, using up tax revenue that could otherwise fund public services.
- States a further consequence, such as lenders becoming less willing to lend, or future generations bearing the cost of repaying it.
Examiner tip: Debt itself is not necessarily a problem, but the interest payments on a very large debt can crowd out spending on other priorities.
18.
Explain how an initial rise in government spending on a new factory could lead to a greater overall increase in national income, through the multiplier effect.
[2 marks] · no calculator
Marking points
- Explains that the initial spending becomes income for construction workers and suppliers, who then spend part of this new income themselves.
- Explains that this further spending becomes income for others, who also spend part of it, so the initial injection generates rounds of additional spending larger than the original amount.
Examiner tip: The multiplier effect means an initial injection of spending can increase national income by more than the injection itself, as money circulates through the economy.
19.
Explain how unemployment benefits can act as an automatic stabiliser during a recession.
[2 marks] · no calculator
Marking points
- Explains that as a recession causes more people to lose their jobs, government spending on unemployment benefits automatically rises without any new policy decision.
- Explains that this extra spending helps support households' income and spending, partly cushioning the fall in overall demand.
Examiner tip: Automatic stabilisers adjust government spending or taxation automatically as the economy changes, without a new decision each time.
20.
Country A has a real GDP of $200 billion and a population of 40 million. Country B has a real GDP of $150 billion and a population of 20 million. Calculate GDP per capita for each country, and state which suggests a higher average living standard.
[3 marks]
Marking points
- Calculates Country A's GDP per capita as $200 billion ÷ 40 million = $5,000.
- Calculates Country B's GDP per capita as $150 billion ÷ 20 million = $7,500.
- States that Country B suggests a higher average living standard, despite having a smaller total GDP than Country A.
Examiner tip: Total GDP measures the size of an economy; GDP per capita divides this by population, giving a better sense of average living standards.
21.
Distinguish between absolute poverty and relative poverty.
[2 marks] · no calculator
Marking points
- Explains that absolute poverty means being unable to afford the basic necessities needed to survive, such as adequate food, clean water or shelter.
- Explains that relative poverty means having a significantly lower income than the average in a particular society, even if basic needs are met.
Examiner tip: Absolute poverty is measured against a fixed survival standard; relative poverty is measured against what is typical in a given society, so it can exist even in wealthy countries.
22.
Explain one reason why income inequality might exist between workers within the same country.
[2 marks] · no calculator
Marking points
- Identifies a valid reason, such as differences in education, skills, or experience between workers.
- Explains how this difference leads to unequal pay, such as highly skilled workers being in higher demand and commanding higher wages.
Examiner tip: Differences in human capital (education, training, skills) are one of several reasons income can vary widely even within one labour market.
23.
Explain what the circular flow of income model shows about the relationship between households and firms in an economy.
[2 marks] · no calculator
Marking points
- Explains that households supply factors of production (such as labour) to firms, and firms pay households income (such as wages) in return.
- Explains that households then spend this income buying goods and services from firms, which becomes revenue for firms, completing the circular flow.
Examiner tip: The circular flow shows money and resources constantly moving between households and firms in two directions: factors and spending one way, income and output the other.
24.
Explain how a rise in interest rates is likely to affect how much households choose to save.
[2 marks] · no calculator
Marking points
- Explains that higher interest rates increase the reward (interest earned) for saving money rather than spending it now.
- Concludes that this is likely to encourage households to save more and spend less in the present.
Examiner tip: Interest rates affect the trade-off between spending now and saving for later; a higher rate makes waiting to spend more rewarding.