MARKSCHEME TOTF IN CLASS TEST

G10 TOTF Test

1a. [1 mark]
Firm A, which is operating in a perfectly competitive market, produces almonds. Figure 1
illustrates Firm A’s average total cost (ATC), average variable cost (AVC) and marginal cost
(MC) curves at different output levels.

The market price of almonds is $11 per kilogram. Using Figure 1, identify the quantity of
almonds Firm A must produce in order to maximize profits.

21Kg
1b. [1 mark]
Figure 2 illustrates a perfectly competitive market in equilibrium and a perfectly
competitive firm operating in this market. S is supply, D is demand, Po is the short-run
equilibrium price, Qo is the short-run equilibrium quantity, MC is marginal cost, ATC is
average total cost, AR is average revenue, MR is marginal revenue.

P1
D=AR=MR2

Based on the information in Figure 2, state whether the firms in this market are making
normal profits, economic profits or economic losses.

Economic Loss

1c. [2 marks]
On Figure 2, draw and label appropriate additional curves to show how a perfectly
competitive market will move from short-run equilibrium to long-run equilibrium.
1d. [2 marks]
Using your answer to part (c)(ii), explain how the market adjustment takes place.
1 point for identifying and explaining loss making firms will exit the market due to no
barriers to exit
1 point for explaining number of firms is a non price determinant of supply and as such
market price will increase as market supply decreases, leading to firms making normal
profits.
1e. [2 marks]
State two assumed characteristics of a monopoly.
1 point for each assumption
● One dominant firm
● High Barriers to Entry and Exit
● Firms produce a unique good or no close substitutes

1f. [4 marks]
Explain two reasons why a monopoly may be considered desirable for an economy.
● Natural Monopolies
● Research & Development
● Economies of Scale
1 point for identifying each reason and 1 point for FULL explanation of why it is
desirable for an economy.

Potential Benefits to Monopolies

Economies of Scale

Due to the larger output of Monopolies, a monopolist may be able to benefit from
Economies of Scale. With a lower LRAC due to benefiting from EoS, this could lead to
lower prices of the goods or service. This could benefit society as lower costs of
production could translate into less waste of scarce resources.
Natural Monopolies

As we have seen, some goods or services benefit from a monopoly due to the high
costs of operating. By producing a greater output for a lower LRAC, prices for that
good or service can be lower than if there was more competition in the market, with
each firm producing a lower output at a higher LRAC. If the good being produced is a
necessity, such as water or electricity, this can benefit consumers as the prices for
these necessity goods will be lower, increasing consumers' purchasing power.

Research & Development

Compared to smaller firms in perfectly competitive markets or monopolistic

competition, a Monopolist can benefit from higher levels of abnormal profits. This
abnormal profit, in turn, can be used by the monopolist to cover costs associated with
research and development.

Similarly, legal protections, such as copyrights or patents, ensure the monopolist can
profit from the research and development. Without that protection, firms would have
less incentive to invest large amounts of money into R&D if others could copy and
profit their designs or ideas. This would therefore lead to lower levels of innovation
and product development as the risks for the firm not making profits on an
investment would be too high.
1g. [2 marks]
Firm B is a monopoly producer of diamonds. Figure 3 illustrates its demand (D), marginal
revenue (MR), average total cost (ATC) and marginal cost (MC) curves at different output
levels.

Using Figure 3, calculate the economic profit when Firm B is maximizing its profits.
(AR - AC )* Q
(20 - 15) * 20
5*20 = $100
1h. [2 marks]
Using Figure 3, calculate the total revenue when Firm B is maximizing its revenue.

MR=0 = 30g
AR = $15
Total Revenue = 15 * 30
=$450
1i. [2 marks]
The market for shampoo displays the characteristics of monopolistic competition.
A shampoo firm is earning economic profits. Outline, with a reason, what will happen to its
demand curve in the long run.
1 point for identifying that in the LR firms will enter the market due to the low
barriers of entry
1 point for identifying and explaining that the monopolisitic firms demand curve (AR
curve) will decrease due to other firms offering the same good and therefore normal
profits in the LR
1j. [3 marks]
Sketch and label a diagram to illustrate the long-run equilibrium for a firm in monopolistic
competition.

M
1k [4 marks] Pr All
Using a labels market diagram,
A must
explain how a be monopoly could
create a P correct welfare loss to
society for full
3
2 + 2 Marks A marks.
2 Diagram - Fully labeled
diagram Q Qua showing MC=MR
in market M less than the
market equilibrium. For
2 points, all areas must be labelled.
2 Explanation - Full explanation to indicate why the welfare loss to society is
created. In order to achieve the full 2 marks, students must state that P>MC and why
this is a welfare loss.