Flipped Economics

The price mechanism

Name

Answer all questions. For questions 1 to 12, circle one letter.

At the current price of £4 a kilo, shoppers buy 8,000 kilos of pears a week and growers bring 10,000 kilos to market. It can be concluded that:

A the market is in equilibrium at £4

B there is excess supply and the price is likely to fall

C there is excess demand and the price is likely to rise as shoppers compete for pears

D the government has set a minimum price for pears

A sharp frost destroys much of the orange crop. In a free market the price of orange juice rises. This is an example of prices performing their:

A incentive function

B redistribution function

C signalling function to consumers to buy more

D rationing function

Use the information below for questions 3 to 4.

The table shows the quantities of a good demanded and supplied each week at different prices.

Price (£)	10	12	14	16	18
Quantity demanded	900	800	700	600	500
Quantity supplied	500	600	700	800	900

Total revenue at the equilibrium price is:

A £9,800	B £7,000
C £14,000	D £9,600

If a tax raises costs so that supply falls by 200 units at every price, the new equilibrium price is:

A £12	B £14
C £16	D £18

Other things being equal, which combination would raise both the equilibrium price and the equilibrium quantity of coffee?

A a rise in the price of tea and a rise in the wages of coffee pickers

B a rise in the price of tea and better growing weather in Brazil, with the demand change the larger

C a health scare about caffeine and a rise in the wages of coffee pickers

D a fall in consumer incomes and better growing weather in Brazil

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The price of a good rises and the quantity bought and sold falls. The only explanation consistent with both changes is:

A a decrease in supply	B an increase in demand
C an increase in supply	D a decrease in demand

A government sets the price of a vaccine at zero and there are not enough doses for everyone who wants one. Doses are most likely to be allocated by:

A an increase in supply from new firms attracted by profit

B the price mechanism, as the price of the vaccine rises

C a fall in demand as consumers switch to substitutes

D non-price rationing, such as queues or priority groups

Consumer surplus is the difference between:

A the price consumers pay and the cost of producing the good

B total revenue and total cost

C the price consumers are willing to pay and the price they actually pay

D the market price and the price at which producers would be willing to supply

A straight-line demand curve meets the price axis at £20. The market price is £8 and 3,000 units are sold. Consumer surplus is:

A £18,000	B £24,000
C £12,000	D £36,000

Other things being equal, an increase in supply will:

A leave consumer surplus unchanged

B reduce producer surplus to zero

C reduce consumer surplus, because the price falls and quality may suffer

D increase consumer surplus, because the price falls

Lamb and wool are in joint supply. A rise in the demand for lamb will most likely cause:

A a fall in the supply of wool	B a rise in the demand for wool
C a fall in the price of wool	D a rise in the price of wool

Cocoa is in derived demand. A fall in the demand for chocolate is most likely to cause:

A a movement along the demand curve for cocoa as the price of cocoa changes

B a leftward shift in the demand for cocoa and a fall in its price

C a leftward shift in the supply of cocoa

D a rise in the price of cocoa as growers cut output

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In late 2022 British shoppers found empty egg shelves. Bird flu had led to the culling of millions of hens, and the cost of chicken feed and energy had risen sharply after the invasion of Ukraine, so many farmers cut flock sizes or left the industry. Several supermarkets limited customers to two or three boxes each. Over the following year the shop price of a dozen eggs rose by about a third, and by 2024 the shelves were full again. Table 1 shows an illustrative weekly schedule for eggs before the shock.

Table 1: UK eggs, before the shock (million dozen a week)
Price per dozen	£2.00	£2.40	£2.80	£3.20	£3.60
Quantity demanded	30	28	26	24	22
Quantity supplied	22	24	26	28	30

(a)

Using Table 1, state the equilibrium price and calculate total spending on eggs at that price.

[2]

(b)

After the shock, supply falls by 6 million dozen at every price. Calculate the size of the shortage if supermarkets keep the price at £2.80, and the new equilibrium price.

[4]

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(c)

With the aid of a diagram, explain why supermarkets had to limit how many boxes each customer could buy, and how the price mechanism would have dealt with the shortage instead.

[6]

(d)

Explain how the fall in the supply of eggs affected consumer surplus and producer surplus.

[6]

Evaluate the view that, when a good is in short supply, allowing its price to rise is a better way of allocating it than rationing by the government or by sellers.

[25]

Answer on lined paper.

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Answers

AO1 knowledge, AO2 application, AO3 analysis, AO4 evaluation.

	Answer	Why
1	B	Quantity supplied exceeds quantity demanded by 2,000 kilos; unsold stock pushes sellers to cut the price.
2	D	A higher price rations the smaller supply among buyers, choking off demand from those least willing to pay.
3	A	Equilibrium is where Qd = Qs: 700 units at £14, so revenue is 700 × £14 = £9,800.
4	C	New supply: 300, 400, 500, 600, 700. Qd = Qs at 600 units, which is at a price of £16.
5	B	A rise in demand raises price and quantity; a rise in supply raises quantity but lowers price, so quantity rises for certain and price rises if the demand shift dominates.
6	A	Only a leftward shift of supply raises the price while cutting the quantity traded.
7	D	With price unable to rise, the shortage persists and some other rule has to decide who gets the doses.
8	C	It is the area under the demand curve and above the price line.
9	A	Consumer surplus is the triangle ½ × 3,000 × (£20 − £8) = £18,000.
10	D	A lower price widens the gap between willingness to pay and price paid on existing units and adds surplus on the extra units.
11	C	More sheep reared for meat means more fleeces, shifting the supply of wool right and lowering its price.
12	B	Cocoa is wanted only for what it makes; less chocolate demand means less cocoa demand at every price.

13 (a) Using Table 1, state the equilibrium price and calculate total spending on eggs at that price. [2: AO2 2]

AO2 (1) Equilibrium price £2.80, where quantity demanded = quantity supplied = 26 million dozen
AO2 (1) Spending = 26 million × £2.80 = £72.8 million a week

13 (b) After the shock, supply falls by 6 million dozen at every price. Calculate the size of the shortage if supermarkets keep the price at £2.80, and the new equilibrium price. [4: AO2 3, AO3 1]

AO2 (1) New supply at £2.80 is 26 − 6 = 20 million dozen
AO2 (1) Shortage at £2.80 = 26 − 20 = 6 million dozen a week (excess demand)
AO2 (1) New equilibrium: supply column becomes 16, 18, 20, 22, 24; Qd = Qs = 24 at £3.20
AO3 (1) The price rise of 40p cuts quantity demanded by 2 million and draws 2 million more from suppliers, closing the gap

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13 (c) With the aid of a diagram, explain why supermarkets had to limit how many boxes each customer could buy, and how the price mechanism would have dealt with the shortage instead. [6: AO1 2, AO2 1, AO3 3]

AO1 (2) Diagram: supply shifts left from S1 to S2; at the old price P1 quantity demanded Q1 exceeds quantity supplied Qs, the horizontal gap being the shortage; the market clears at the higher price P2 and quantity Q2
AO3 (1) Supermarkets hold prices steady in the short run (contracts with farmers, fear of losing customers to rivals), so at P1 there is excess demand and shelves empty: the price is not doing the rationing
AO3 (1) Limits per customer are non-price rationing: they spread the available eggs by rule rather than by willingness to pay, so first come, first served and queuing replace price
AO3 (1) If the price rose to P2 it would ration the smaller supply (buyers who value eggs least drop out), signal scarcity, and give farmers an incentive to rebuild flocks, which over 2023 is what the higher price did
AO2 (1) Application: a rise of about a third in the shop price, a two-box limit in several chains, and the return to full shelves by 2024 all fit the diagram

Levels: 1 to 2 for a description of the shortage with a partly correct diagram; 3 to 4 for a correct diagram with the shortage and one function of price explained; 5 to 6 for both the non-price rationing and the three functions of price applied to eggs.

13 (d) Explain how the fall in the supply of eggs affected consumer surplus and producer surplus. [6: AO1 2, AO2 2, AO3 2]

AO1 (1) Consumer surplus is the area under the demand curve and above the price; producer surplus the area above the supply curve and below the price
AO3 (2) Consumer surplus falls for two reasons: buyers who still buy pay more (a transfer to producers), and buyers who drop out at the higher price lose their surplus entirely; on a diagram the triangle shrinks as price rises from P1 to P2 and quantity falls to Q2
AO3+AO1 (2) Producer surplus is ambiguous: the higher price adds surplus on each dozen still sold, but fewer dozens are sold and the supply curve has shifted up because costs rose, so some of the extra revenue is eaten by higher feed and energy bills; farmers who left the industry gain nothing
AO2 (1) Application: with demand for eggs fairly inelastic (few substitutes for a staple), the price rise was large relative to the fall in quantity, so most of the lost consumer surplus was transferred to the farmers who remained rather than destroyed

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14 Evaluate the view that, when a good is in short supply, allowing its price to rise is a better way of allocating it than rationing by the government or by sellers. [25: AO1, AO2 and AO3 16, AO4 9]

Knowledge and analysis (AO1 to AO3)

Explain the three functions of the price mechanism in a shortage: rationing (a higher price removes the excess demand by discouraging the buyers who value the good least), signalling (the price tells producers and consumers that the good is scarce) and incentive (the higher price makes it profitable to supply more, enter the market or find substitutes).
Diagram: supply shifts left; at the old price there is excess demand; the price rises to the new equilibrium; the good goes to those with the highest willingness to pay, so the sum of consumer and producer surplus is as large as the reduced supply allows. Show the surplus triangles before and after.
Allocative efficiency: with no externalities, the price that clears the market puts the good where its marginal value is highest, and no one who values it more than the price goes without. Non-price rationing (queues, limits per customer, lotteries, waiting lists) allocates partly at random, so some units go to people who value them less than others who miss out, and time spent queuing is a pure loss.
Examples: petrol in September 2021, when fixed prices and panic buying emptied forecourts within days while in countries where prices rose more freely queues were shorter; eggs in 2022; concert tickets priced below what fans will pay, which simply hands the surplus to touts who re-ration by price anyway; surge pricing on taxi apps, which pulls more drivers onto the road at busy times.
The case for rationing: when supply cannot respond in the short run (a fixed harvest, hospital beds, vaccines) the incentive function does little immediately, so the main effect of a price rise is a transfer from buyers to sellers. Rationing by rule can protect those on low incomes who would otherwise be priced out of a necessity, and can target need (vaccines to the vulnerable, water to households before golf courses).
Price gouging and fairness: steep rises in an emergency are widely seen as unfair, can damage sellers' reputations and lead to laws against them; governments ration or cap prices precisely because voters prefer it, even at the cost of some inefficiency.
Market failures: if the good has positive externalities (vaccines, insulation during an energy crisis) the market price under-allocates it to those who cannot pay; information failure and panic buying mean the free market may overshoot.

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Evaluation (AO4)

It depends on the good: for petrol, eggs or hotel rooms, where supply responds within months and the distributional stakes are small, price works better; for life-saving goods in a sudden crisis, rationing by need is usually preferred and prices used later as supply recovers.
It depends on how long the shortage lasts: price's great advantage is the incentive to expand supply, which matters more the longer the shortage; for a few days of disruption the loss from queues is small and the backlash against price rises large.
It depends on income distribution: 'willingness to pay' reflects ability to pay, so allocating by price gives the good to the rich rather than to those who value it most; rationing plus a free secondary market, or cash transfers plus free prices, can get the efficiency of price with a fairer starting point.
Rationing has its own failures: black markets, time costs, favouritism, administrative expense and the removal of any signal to producers; most wartime rationing systems bred large black markets.
Sellers already use a mix: supermarkets limit purchases rather than raise prices in a panic because reputation matters more than a week's profit, which suggests the choice is not purely about efficiency.

Judgement

A supported judgement might conclude that allowing prices to rise is better for most goods and for any shortage that lasts long enough for supply to respond, because only price both rations and expands supply; but for necessities in a sudden, short-lived crisis, where supply is fixed and the distributional effects fall on the poor, rationing by rule combined with income support can be fairer at little efficiency cost, and the best answer is usually to let prices move while protecting those who cannot pay.

Marking

Levels, out of 25 (Edexcel splits them as knowledge, application and analysis 16, evaluation 9; AQA marks the whole answer against one set of levels). Top level (21 to 25): a range of points developed in full chains of reasoning, supported by an accurate diagram and real examples, with evaluation that weighs the arguments against each other and reaches a judgement that depends on stated conditions. Middle level (11 to 20): some developed chains, a relevant diagram, evaluation present but one-sided or asserted. Bottom level (1 to 10): points listed or described, little use of theory or examples, judgement missing or unsupported. WJEC: a 20-mark question with AO1 6, AO3 6 and AO4 8.

Exam boards

WJEC / Eduqas: Question 14 would be a 20-mark question on your papers.