SUGGESTED SOLUTION

A6 – BUSINESS ECONOMY
MAY 2024

ANSWER 1

(a)
(i) (ii) (iii) (iv) (v) (vi) (vii) (viii) (ix) (x)
C C D A B D A B C C

(b)
(i) (ii) (iii) (iv) (v)
A E B I D

(c)
(i) (ii) (iii) (iv) (v)
FALSE FALSE TRUE TRUE TRUE

ANSWER 2

(a) Four (4) methods Tanzania may redeem its debts to increase the confidence of lenders
and save the government from bankruptcy.

Redemption of debt refers to the repayment of a public loan. Although public debt
should be paid, debt redemption is a more desirable means to save the government from
bankruptcy and raise the confidence of lenders.

Any of the four methods

• Conversion of Public Debt: Conversion is defined as the process of converting
existing debt into a new debt. This method reduces the interest burden by
converting old loans that bear high interest into new loans that bear low interest.
The method of conversion is implemented generally when the rate of interest in
the market goes down. The lenders of money are given the instructions to take
back their money in the form of cash or the form of new bonds. This method helps
taxpayers by reducing their burden of interest. The conversion results in less
unequal distribution of income because of the assumption that the taxpayers are
mostly poor people whereas the lenders are the rich people.
• Refunding: Refunding of debt is defined as a process where governments issue
new securities and bonds for repayment of old loans (matured loans). In the
process of refunding, the short-term securities are replaced by long term
securities. When the refunding method is adopted by the government there is no
burden of public debts.
• Creation of Sinking Fund: The creation of a sinking fund is defined as a process
where the funds are created by the government and are accumulated each year by
keeping them separately so that they are sufficient for paying off debts during the
maturity period. Every year a specific amount of money is transferred to this fund
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 so that it will be enough to redeem public debt. The creation of a sinking fund is
considered the best and most systematic method of redemption of public debt.
While using this method the overall burden of repaying the debts is felt less as it
is evenly distributed throughout the year.
• Capital Levy: Capital Levy is considered the most controversial method of
redemption of public debt. Capital levy is defined as a method where
governments impose a levy on the assets of the rich people or sections of the
society. During war or emergencies, governments usually raise money by
imposing a special tax on the capital to redeem public debts. Quick repayment of
loans is possible with capital levy. However, using this method has various
disadvantages such as it hampers capital formation, employment and production
are also adversely affected, etc. This method is mostly not adopted by the
governments.
• Terminal Annuity: Terminal Annuity is defined as a method where the
government pays off its public debt through equal annual installments that consist
of principal and interest. The terminal annuity method is similar to the method of
sinking funds. Therefore, many times governments decide to end or terminate the
public debt using the terminal annuity method. The amount of the terminal
annuity is decided based on the annuity table. Through this method, the burden
of public debt is reduced every year and paid fully until the maturity period.
• Additional Taxation: Additional taxation is defined as a type of method where
the government imposes new taxes on people to get the required revenue for
repayment of the public debt. This revenue is used to repay the principal amount
as well as the interest amount. To pay the old debt the government levies both
taxes such as direct and indirect. This method of additional taxation causes
income redistribution as the resources are transferred from taxpayers to the
bondholders. Using this method of additional taxation has a distortionary effect
on the taxes.
• Budget Surplus: Budget Surplus is a condition where government incomes are
more than government expenses. In case of a budget surplus, the excess earnings
can be utilized by the government to pay back the principal amount borrowed
under public debt. The government generally uses the budget surplus to buy its
bonds and securities from the market.

• Balance of Payments Surplus: Public debts can be redeemed using the surplus
balance of payments. For this, the country must increase its exports and/or
decrease its imports. This will lead to the accumulation of foreign reserves within
the country, which the respective country can use to pay off its public debts.
• Compulsory Reduction in the Rate of Interests: The government may pass the
notice to decrease the interest rates payable on public debts. This generally
happens in case of a government budget deficit or any other financial difficulties.
In such a situation, the creditors have no other option except to reduce the interest
rates.
• Repudiation: It is a term used when the government refuses to pay back off its
public debts. A government can repudiates its international loans. However, the
repudiation done by the governments affects their credit score in the money
market and makes it difficult to access loans in the future.

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(b) Four (4) possible causes of structural unemployment in Tanzania.

Structural unemployment occurs because workers lack the requisite job skills or live
too far from regions where jobs are available and cannot move closer. Jobs are
available, but there is a serious mismatch between what companies need and what
workers can offer.
• Technological Changes: One of the primary catalysts for structural
unemployment is technological advancement. As industries embrace automation
and more efficient processes, some job roles become redundant. Workers who
don't adapt to these changes may find themselves without employment options.
• Education and Training Gaps: Inadequate training and a lack of educational
opportunities can perpetuate structural unemployment. Workers must continually
update their skill sets to remain relevant in evolving industries. Failure to do so
can leave them ill-equipped for the job market.
• Company relocations: If a company moves overseas or to a different state, its
workforce might not find local employment opportunities, causing structural
unemployment. For example, if a region only has one airport and that airport
moves to a new area, the employees may become structurally unemployed. This
is because there are now no employment opportunities in the region specific to
airport duties.
• Economic shifts: A change in an economy, usually in customer demand, can
cause structural unemployment. It’s different from cyclical unemployment, as
structural unemployment may result from changes in an economy but not changes
in the economy’s performance. For example, a manufacturer produces a niche
and specific clothing style, incorporating a unique production process. The
demand for this clothing suddenly lowers because of external factors. The
manufacturer can’t afford to operate with reduced-demand, resulting in business
closure. Its employees become structurally unemployed because their niche
production skills become redundant.
• Government policy changes: Policy changes can often cause sudden
reformations in an industry. Many employees may become redundant because of
new processes and legal requirements, depending on the extent of policy changes.
For example, if a legal product becomes illegal, employees involved in its
production may become structurally unemployed. Employees may also become
structurally unemployed as policy changes may cause companies to relocate.
Companies might move overseas or to another region where the policy change
doesn’t affect them.

• Competition and Globalization: Globalization allows companies to seek lower

labor costs abroad, potentially displacing domestic workers. When businesses
prioritize cost-cutting, they may opt for overseas manufacturing or outsourcing,
leaving local employees at a disadvantage.

(c) Two (2) most common methods that is used to measure the degree of equality (or inequality)
in the distribution of income.

Income inequality refers to the unequal distribution of income within a society. It measures
how much income different individuals or groups of people earn. The Gini coefficient and the
Lorenz curve are commonly used measures of inequality.

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 • The Lorenz Curve is a graphical representation of a nation’s distribution of wealth and
income. The graph shows the proportion of income and wealth that is assumed by the
bottom and top percentage of a nation. It is a graph with the horizontal axis showing the
cumulative proportion of the persons in the population ranked according to their income
and with the vertical axis showing the corresponding cumulative proportion of
equivalized disposable household income. The graph then shows the income share of any
selected cumulative proportion of the population. The diagonal line represents a situation
of perfect equality, i.e., where all people have the same equivalized disposable household
income. It shows the cumulative share of income from different deciles of the population.
If there was perfect equality, then the poorest 20% of the population would gain 20% of
total income. The poorest 50% of the population would get 50% Of income. Income
would fall the line of perfect equality. In reality, income is skewed towards the richer
deciles among the population.

• Gini coefficient is a typical measure of income inequality. It measures inequality on a

scale from 0 to 1, where higher values indicate higher inequality. This can sometimes be
shown as a percentage from 0 to 100%, this is then called the ‘Gini Index’. A value of 0
indicates perfect equality – where everyone has the same income. A value of 1 indicates
perfect inequality – where one person receives all the income, and everyone else receives
nothing. To calculate the Gini coefficient, we need to calculate the area between the
Lorenz curve and the line of perfect equality. We can do this by dividing the area between
the Lorenz curve and the line of perfect equality by the total area under the line of perfect
equality.

(d) (i) Gross Domestic Product (GDP)

𝐺𝐷𝑃 = 𝐶 + 1 + 𝐺 + (𝑋 − 𝑀)

𝐺𝐷𝑃 = 950.9 + 300.7 + 350.3 + (95.3 − 132.4) = 1564.8

𝐺𝐷𝑃 𝑖𝑠 𝑇𝑍𝑆. 1564.8 𝑚𝑖𝑙𝑙𝑖𝑜𝑛

(ii) Gross National Income (GNI)

𝐺𝑁𝐼 = 𝐺𝐷𝑃 + 𝐼𝑛𝑣𝑜𝑚𝑒 𝑓𝑟𝑜𝑚 𝑎𝑏𝑟𝑜𝑎𝑑 − 𝐼𝑛𝑐𝑜𝑚𝑒 𝑠𝑒𝑛𝑡 𝑎𝑏𝑟𝑜𝑎𝑑

𝐺𝑁𝐼 = 1564.8 + 25.8 − 173.2 = 1417.4

𝐺𝑁𝐼 = 𝑇𝑍𝑆. 1417.4 𝑚𝑖𝑙𝑙𝑖𝑜𝑛

(iii) Gross Domestic Product per capital and GNP
𝐺𝐷𝑃 1564.8
𝐺𝐷𝑃 𝑝𝑒𝑟 𝑐𝑎𝑝𝑖𝑡𝑎 = = = 31.30
𝑝𝑜𝑝𝑢𝑙𝑎𝑡𝑖𝑜𝑛 50

𝐺𝑁𝑃 1417.4
𝐺𝑁𝑃 𝑝𝑒𝑟 𝑐𝑎𝑝𝑖𝑡𝑎 = = = 28.35
𝑝𝑜𝑝𝑢𝑙𝑎𝑡𝑖𝑜𝑛 50

Therefore, GDP and GNI per capita are TZS.31.30 million and 28.35 million respectively.

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ANSWER 3

(a) Three (3) conditions that must be satisfied for a firm to practice price discrimination.
Price discrimination is when a firm charges a different price to different groups of
consumers for an identical good or service, for reasons not associated with costs.

• The firm requires a downward sloping demand curve. If the firm operates in a
perfectly competitive market, it will take the market price and will not be able to
set different prices. Therefore, some element of market power is required. This
however need not be significant market power, and it should be emphasized that
there is no correlation between the extent of price discrimination and the extent of
market power.

• If different prices are to be charged to different buyers it must be the case that
arbitrage is difficult. The Possibility of arbitrage, in which those buyers that pay a
low price for the product resell the product to buyers who would otherwise pay high
prices, removes the ability of the producer to profitably set a higher price to any
buyer. Arbitrage may be difficult as a result of the intrinsic nature of the product,
for example a product that perishes quickly, or it may be made artificially difficult
or expensive, for example through restrictions on resale or engineered
incompatibility.

• A firm wishing to price discriminate needs to have a way to estimate or identify a

consumer’s valuation. As described in the categorization above this might be based
on observable characteristics or information that it has available, or it may involve
allowing the consumer to reveal something about their valuation (by selecting the
quantity or quality of the product, or by purchasing at a certain time or in certain
conditions). If the consumers are entirely anonymous and homogenous in their
purchases, the firm will not be able to set different prices.

(b) Description on how a Production Possibility Curve (PPC) can illustrate scarcity, choice,
and opportunity cost.

The production possibility curve (PPC) reflects scarcity, choice and opportunity cost.
Suppose there are only two goods produced in the economy. The PPC shows all the
different combinations of the two goods that can be produced in the economy when
resources are fully and efficiently employed, given the state of the technology.

Product A

Product B

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 How PPC reflects scarcity, choice and opportunity cost: The side diagram is a
production possibility curve. Although the points inside and on the PPC such as points
A, B, and C are achievable, the points that lay outside the PPC such as point Y are not.
Scarcity is reflected by the unattainable points (such as Y) that lie outside the PPC [how
scarcity is reflected by the PPCI. The PPC is a series of points rather than a single point.
Choice is reflected by the need for society to choose among the series of points on the
PPC, such as points C and D [how choice is reflected by the PPC]. Opportunity cost is
reflected by concave nature of the PPC [how opportunity cost is reflected by the PPC].

Explanation and elaboration on how the PPC reflect scarcity: An increase in the
production capacity in the economy will lead to an outward shift in the PPC resulting
in a decrease in scarcity and vice versa [point]. When the PPC shifts outwards, some
of the previously unattainable points will become attainable. The production capacity
in the economy could increase due to an increase in the quantity or the quality of factors
of production.

Explanation on how the PPC reflect choice: A change in the tastes and preferences
of society will lead to a movement along the PPC which reflects a change in choice.
The tastes and preferences of society may change due to technological advancements.

Explanation on how the PPC reflect opportunity cost: The PPC is concave to the
origin because the opportunity cost of producing each good increase as its quantity
increases. This is because resources are not equally suitable for the production of
different goods. As the economy produces more and more of a good, it has to use
resources that are less and less suitable for producing the good to actually produce the
good. Therefore, increasingly more units of other goods have to be given up to produce
each additional unit of the good.

(c) Four (4) points, describe the factors that determine whether the demand for a good is
price-elastic or price-inelastic.
• Availability of Close Substitutes: The demand is typically more elastic if a good
can be easily substituted for another. This means that people are likely to switch
to buying a very similar good instead of continuing to buy the good whose price
increased. The availability of close substitutes is the most important determinant
of price elasticity of demand because as long as there are substitutes available,
the consumer will gravitate toward the best deal. If one firm raises its price, it will
be more difficult to compete with other producers.

• Nature of the goods/Necessities versus Luxuries: A consumer’s elasticity of

demand depends on how much they need or want the good. Baby diapers are an
example of a necessity and a good with inelastic demand. Diapers are necessary
for child rearing; parents must purchase more or less the same amount for their
children’s health and comfort regardless of if the price rises or falls. If the good
is a luxury good, such as a Burberry or Canada Goose jacket, then people might
choose to go with a more cost-effective brand such as Colombia if the luxury
brands decide to price their jackets at $1,000, while Colombia uses similar quality
materials but only charges $150. People will be more elastic to price fluctuations
of luxury goods.

• Definition of the Market: The definition of the market refers to how broad or
narrow the range of goods available is. Is it narrow, meaning the only goods in
the market are trench coats? Or is the market broad so that it encompasses all
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 jackets or even all forms of clothing? If a market is defined as “clothing” then the
consumer really has no substitutes to choose from. If the price of clothing goes
up, people will still buy clothing, just different kinds or cheaper kinds, but they
will still buy clothing, so the demand for clothing won’t change much. Thus, the
demand for clothing will be more price inelastic. Now, if the market is defined as
trench coats, the consumer has more options to choose from. If the price of a
trench coat rises, people may either buy a cheaper trench coat or a different kind
of coat, but they will have a choice, but in this case, the demand for trench coats
could fall substantially. Thus, the demand for trench coats will be more price
elastic.

• Time Horizon: The time horizon refers to the time in which the consumer must
make their purchase. As time goes by, demand tends to become more elastic as
consumers have time to and adjust in their lives to account for price changes. For
example, if someone relied on public transport for daily commuting, they will be
inelastic about a change in the ticket fare over a short period. But, if the fare
increases, commuters make other arrangements in the future. They may choose
to drive instead, carpool with a friend, or ride their bike if those are options. They
simply needed time to react to the change in price. In the short run, consumer
demand is more inelastic but, if given time, it becomes more elastic.

(d) To find the AC, MC, TR, AR and MR.

Output 0 1 2 3 4 5
Price - 30 25 20 15 10

TC 5 25 40 50 65 85
AC=TC/Q - 25 20 16.67 16.25 17

MC=ΔTC/ΔQ - 20 15 10 15 20

TR=P*Q - 30 50 60 60 50

AR=TR/Q - 30 25 20 15 10

MR=ΔTR/ΔQ - - 20 10 0 -10

ANSWER 4

(a) Five (5) theories of wages as used in Economics.

l. Residual Claimant Theory of Wages
The theory was propounded by an American economist F.A. Walker. According
to Professor Walker the total production of an industry is distributed among
land, labour, capital and entrepreneur in the form of rent, wages, interest and
profit.

2. The Standard of Living Theory of Wages

This theory is an improvement over the subsistence theory of wages. According
to this theory the wage rate should be determined on the basis of standard of
living of workers. The wages change according to change in the standard of
living of workers.

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 3. The Wage Fund Theory of Wages
The theory was developed and propounded by Professor J.S. Mill. According
to this theory wage rate is determined by the ratio of wage fund and the
population, The population means the number of workers employed.

4. Modern Theory of Wages

Wage is the payment made for the services of labour. Modern theory of wages
has been propounded to determine the wage. It takes into consideration the
demand for labour and supply of labour for the determination of wages.

5. The Subsistence Theory of Wages

The theory was first propounded by Adam Smith and later on it was developed
by classical economists. The theory is also known as Iron Law of Wages.
According to this theory wages tends towards the minimum subsistence level
in the long run.
(b) Explain the major differences between Oligopoly and Perfect competitive markets
Oligopoly means few sellers. In an oligopolistic market, each seller supplies a large
portion of all the products sold in the marketplace. In addition, because the cost of
starting a business in an oligopolistic industry is usually high, the number of firms
entering it is low WHILE a perfectly competitive market is a hypothetical market
where competition is at its greatest possible level. There is perfect knowledge, with no
information failure or time lags in the flow of information. Knowledge is freely
available to all participants, which means that risk-taking is minimal and the role of the
entrepreneur is limited.

(c) Discuss the advantages of monopoly market structure in a given economy.

l. Stability of prices
In a monopoly market structure, the prices are pretty stable. This is because
there is only one firm involved in the market that sets the prices since there is
no competing product. In other types of market structures prices are not stable
and tend to be elastic as a result of the competition.
2. Economies of Scale
Since there is a single seller in the market it leads to economics of scale because
big scale production which lowers the cost per unit for the seller. The seller may
pass this benefit down to the consumer in terms of a lower price.
3. Research and Development
Since the monopolist is making abnormal or supernormal profits, the firm can
invest that money into research and development. Customers may get better a
quality product at reduced price leading to enhanced consumer surplus and
satisfaction.

__________________  __________________

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