a. Air India lost 0.

7 Billion USD

b. Trains and ships are substitutes for travel by air.

c. In 1994 Air India had 100% of both international and domestic market share for air travel

which indicates there was only that one firm and therefore a monopoly

d. Privatizing an industry can help promote competition and improve efficiency. The higher level

of competition leads to higher efficiency because each firm is incentivized to continuously

lower both costs and prices to attract customers away from other firms. If a firm is inefficient

or does a bad job at continuously lowering their costs, they can potentially go out of business.

Firms are now also profit motivated; firms in the public sector often do not really receive

profits in the same way that they do in the private sector. By innovating and providing better

lower cost service, the individual firms owners, workers, and managers will be able to earn

more money and this makes them try to run the business much more efficiently than if they

did not have these rewards for good performance.

Privatization also raises money for governments acutely while easing the burden on

government spending required to maintain a public sector industry like airlines, which could

be very costly.

e. The current account balance for India is negative and represents a moderate portion of GDP

when compared with the other 4 countries. We can observe that Kenya has a much larger

negative current account balance as a % of GDP compared to any of the other countries. Both

Russia and China have moderately positive current account balances. (Reminder Current

Account Balance = Net exports+Net income. Net income is the amount of money our citizens

receive from foreign companies or investments minus the amount of money foreigners receive

from our companies or investments in our country)

f. Having a well developed airline industry promotes labour mobility. Workers can more easily

transfer the location where they work if flights are more available and cheaper. This industry

can be very large and provide lots of employment both with airlines themselves and also

employment at airports. This also provides infrastructure for the transportation of goods,

services, and raw materials. In this way it can reduce the cost of production for firms resulting

in economic growth through higher output. Having better flight infrastructure will be

attractive for multi-national companies who bring economic growth through greater

efficiency, higher technology levels, and more employment with higher wages than average.

g. The Indian government should avoid taxing airline fuel because the benefits of having an

efficient and robust airline travel system outweight whatever potential benefits could arise

from the tax. The tax will reduce the level of market failure because airline fuel presumably

contributes to climate change and is an environment pollutant. It will also raise revenues for

the Indian government.

However, most of the benefits we’ve already outlined in part f will be diminished as a result

of a tax on airline fuel. The Indian airline industry is already struggling and we can see Air

India earning negative profit. Higher airline fuel taxes will lead to higher costs of production

which may lead to higher prices for customers and thus the increases in labour mobility,

capacity to attract MNCs and tourism, and facilitating the transport of goods and services will

be reduced.

h. The first paragraph mentions that we have a large entry of new firms into India’s air travel

market. From this we could conclude that the overall output of the industry is growing even if

Air India itself is doing poorly. For this reason, we are likely to see more people training and

applying to become pilots. We don’t have data on the industry’s growth rate as a whole,
however, if the industry is doing well, growing, attracting new firms, and offering more flights

every day then obviously one of the main labour inputs required to produce commercial

flights are pilots. The labour demand for pilots will increase and thus we will see higher

equilibrium wages which is likely to see the entry of more people into flight school and

applying to become professional pilots.

a. A free has no opportunity cost for consumption and/or has an unlimited/nearly unlimited

supply.

b. Secondary sector activity is manufacturing activities and the tertiary sector is the service

sector. A car manufacturer would be an example of a firm primarily engaged in secondary

sector activity. A car dealership that sells cars would be an example of a tertiary sector

firm.

c. When the quality of an economy’s resources increase, the PPC will shift to the right

resulting in a higher productive capacity and an ability to produce more of both goods (or

categories of goods) in this economy. We can see this economic growth from an increase

in the quality of resources not only in the quantity; for instance if an agricultural economy

moves from using humans and hand tools to advanced capital and automation this might

represent an increase in resource quality (but not quantity) and would still increase overall

economic output which would be represented by a rightward shift of the production

possibilities curve.

d. It depends largely on the level of development in that economy at present. If that

economy is highly developed, the fall in the birth rate is damaging because it will reduce

the working population and productivity. Lower aggregate supply and AD will follow

from this reduction. However, if the birth rate falls in developing country, the population

is more likely to enjoy education resources and better health care which will improve

living standards. Getting to be educated will increase productivity and this will increase

aggregate supply and thus equilibrium GDP and economic development.

In most developed countries there are already too few younger people and working aged people

for each retired person. In developing countries, because life expectancies are low and birth rates

have been high in the past, there are often “too many” children to be supported by the working age

population. Note that there can be exceptions and some developing countries have too few

children while some developed countries have healthier population pyramids (Israel).

a. The time it takes to produce the good, whether or not the good can be stored, and the

availability and cost of the resources used to make the good all influence it’s price elasticity of

supply.

b. (write basically anything you want that makes sense here) More children can be in education

and thus become more efficient labourers in the future. Having child labourers also likely

reduces the quality and efficiency of production on a per-worker basis, so having only adults

working on things will likely result in higher quality goods and services. Firms that no longer

use child labour may have a better reputation and have more jobs to offer to skilled adult

labour.
c. The average cost may either increase or decrease as a result of an increase in output. If the

firm is experiencing economies of scale, then increased output will result in lower average

costs of production. (maybe draw a graph here…)

This might come from purchasing economies of scale where larger firms buy larger quantities

of input goods and usually get discounts per unit when doing so. If you buy 1kg of apples,

each apple might cost 10 RMB, but if you buy 10,000kg of apples, each apple might only cost

5 RMB. This is called purchasing economies of scale.

Financial economies of scale occur when larger firms have a lower interest rate on any debts

they have. Repayment of debt is a cost of production for firms and generally the larger and

more well known firms get lower interest rates because it is less risky for people to lend them

money on the bond market or through the banking system.

Diseconomies of scale might also occur where the firms’ costs actually rise as output rises.

(graph)

Workers feeling alienated and lacking a sense of belonging is a common problem among very

large firms. In this case, the workers’ level of effort goes down as they don’t feel nearly as

invested in the success of their firm if they can’t see the results of their own efforts because

the firm is just so big.

Very large firms with large levels of output become increasing difficult to manage, organize,

direct, and coordinate. When there are too many employees and too many different processes

going on in the firm, the cost of managing, supervising, and overseeing day-to-day operations

might increase greatly resulting in higher average costs of production.

d. “Discuss whether or not an economy would benefit from allocating more resources to

agriculture”

Most likely an economy will not benefit from allocating more resources to agriculture,

however it depends on which resources are being allocated as well as the structure of that

country’s economy.

Agricultural economies are generally poorer than industrial or service based ones and so we’d

assume that if more resources are devoted to agriculture, this might not lead to a higher level

of development. However, the phrase “allocate more resources” has a broad definition; this

may mean allocating more workers to work in fields (probably bad) but it also might mean

allocating more high technology resources and automating more of the agricultural process.

The second one is almost universally good and allows human resources to be used in other

more effective ways. For an agricultural economy especially, freeing up workers from the

fields because more of the farming tasks are automated might be key to transitioning into an

industrial economy and furthering their level of overall economic development.

We should also consider the international trade circumstances of the economy; perhaps this

economy has comparative advantage in agricultural products (Ukraine, Cambodia) and can

actually earn lots of income from trade if they specialize in agricultural products. In this case,

devoting more resources to agricultural production will likely be beneficial.

Overall, it is circumstantial when describing whether or not a country should allocate more

resource to agriculture; in most cases, the answer is “no”, however there to exist exceptions
 dependent on international trade, demand, and what resources are actually being allocated to

agriculture.

a. What to produce? How to produce it (using which combination of inputs)? And for whom to

produce?

b. If the increase in income was from an increase in AD, this may result in a higher price level

and thus inflation might result in higher spending. Furthermore, a lower interest rate

environment due to changes in monetary policy might also disincentivize saving and

encourage spending even when incomes have risen. This is because the rewards to savers and

the costs to borrowers are now lower.

c. A trade union can benefit its members by negotiating on behalf of the members for higher

wages, better working conditions, or better benefits. Firms negotiating with a union have far

more to lose if they do not obey the demands of workers compared to when they negotiate

with individual workers. Trade unions might also provide training, education, and networking

opportunities for their workers which benefits both the workers and the firms. The workers
 may become more productive and this results in both higher wages for them and higher output

for their firms.

d. A fall in a country’s exchange rate may improve a country’s macroeconomic performance if

that country has lots of export trade with other countries (against whom its currency has

depreciated) and is not currently experiencing inflation.

When our country’s currency depreciates this results in exports becoming relatively cheaper for

people in other countries. Their spending will usually increase on our exports resulting in our

country earning higher export revenue. At the same time, the imports we buy become more

expensive because it now takes more units of our currency to buy each unit of the foreign currency

(which is used to buy the imports). So we will likely have a fall in import spending. Additionally,

people will substitute those more expensive imports with domestically produced goods, resulting

in higher consumption. All of this together causes aggregate demand to rise.

(show one diagram with an increase in AD which is NOT starting at the vertical portion of AS,

another diagram showing an increase in AD which IS starting at the vertical portion of the AS

curve)

Whether or not this increase in AD is actually an increase in macroeconomic performance depends

on the initial macroeconomic equilibrium. If the economy is already producing at capacity, then

the extra AD will simply result in higher price levels and demand pull inflation as shown in the

second diagram. If the economy is below maximum capacity, then this increase in AD will

increase output and employment without increasing price levels and definitely represents in

increase in macroeconomic performance.

a. Increase progressive taxation. Progressive taxation implies that higher income people

contribute more in taxes than lower income people as a % of their incomes. This tax revenue

is then used for programs that are mostly utilized by lower income people and thus

progressive taxation acts as a redistributive mechanism. If a government increased welfare

payments and social benefits for the poor this can also reduce income inequality.

b. Free trade will generally exist in market economic systems and provides a wide variety of

goods and services for consumers typically at lower prices. The increase in competition from

a free market system is also likely to create more efficiency, lower prices, and higher quality

products. This is because firms want to earn more profit and can do so by performing better

than other firms and “stealing” their customers. Firms also fear going out of business because

of poor performance, quality, high costs, or high prices.

c. Widespread abuse of drugs or substances could reduce life expectancy in a country. This has

been the case in most of the former Soviet countries with widespread abuse of alcohol. A high

rate of child mortality might also lower life expectancy. The life expectancy is simply an

average; if many very young people die, this brings down the average. A place like Somalia

has very poor access to health care, clean drinking water, and adequate nutrition. As a result,

many very young infants die before they mature and this results in a low life expectancy.

Worsening obesity and nutrition as a country develops might also contribute to lower life

expectancies.

d. The extent to which supply side policy can combat inflation is dependent on the type of

supply side policy used as well as the initial macroeconomic position.

Some types of supply side policy, such as lowering direct taxes, increasing spending on

infrastructure, or increasing spending on education will also result in higher aggregate

demand by raising consumption, investment, and/or government spending. (Lower direct

taxes, mostly consumption and investment, the other two, mostly government spending. With

a simultaneous increase in both AD and AS we can see on the diagram that price level may

not actually fall and thus this policy, while it did increase productive capacity, it failed to

reduce inflation.

Other types of supply side policy, such as privatization, deregulation, or subsidies will have

no immediate impact on aggregate demand but will have a prolonged impact on aggregate

supply resulting in a lower Eq’m price level in the future.

It is important to keep in mind that the initial macroeconomic equilibrium is also relevant. If

we begin from AD1, then any increase in AD can increase price levels and the increase in AS

would need to be larger than the increase in AD in order to reduce inflation effectively.

However, if the macroeconomic is below the maximum productive capacity along the

horizontal portion of the aggregate supply curve, then an increase in AD will not necessarily

result in higher price levels.