2021 Paper 1 Flashcards
(8 cards)
Explain the likely impact of diminishing marginal productivity of labour on cabin crew staffing levels. Refer to Extract A in your answer. (5)
The diminishing marginal productivity of labour means that as more workers are added,each additional worker contributes to less total output.This explains why United airlines are reducing its staffing levels to improve efficiency as stated in extract A. The marginal productivity of the additional crew member is low meaning the costs outweigh the benefits.
As marginal productivity falls, the marginal cost of labour increases,making it inwffficent to retain extra staff. Since aircraft space is fixed in the short run adding more crew leads to diminishing returns,reducing efficiency
Examine the likely impact of Thomas Cook’s plan ‘to reduce their airline emissions’ (Extract B, line 6) on the social optimum position. Use an appropriate externalities diagram in your answer. (8)
-negative externality diagram
-Thomas cook was amongst the top 10 most-fuel efficient in 2018, reducing pollution per passenger. This leads to a lower marginal external cost, moving the MSC curve closer tot eh MPC, reducing the triangular welfare loss area. The social optimum position is achieved at the higher quantity Q2 or Social optimum is when MSC = MSB.
Thomas cook’s plans to include using more efficient aircraft and using lower-carbon fuel. Cleaner air travel could reduce regulator pressure on the airline industry so Thomas cook may face fewer environmental penalties or even recieve governement incentives, reducing long-term operating costs. This could allow airlines to operate at higher output levels aligning more closely with the social optimum while improving profitability
However measuring the actual size of the negative externatilities from aviation is complex and industry data may be flawed. ALso emissiosions from related industries eg travel agents or hotels may still contribute to environmental damage,limiting the overall benefit of Thomas Cook’s initiavtive
With reference to Extract C, assess whether Thomas Cook’s failure was caused by the principal-agent problem. (10)
The principal-agent problem occurs when the interest of principals (shareholders) and agents (executives and managers) are not aligned. This can lead to conflicts of interest, as managers may prioritise their own goals over the objectives of the company’s owners.
At Thomas cook, executives were incentivised by short-term bonuses rather than long-term profitability. The CEO earned £8.5 million salary including a £500,000 bonus which may have been linked to sales or market share rather than sustainable business growth. To increase sales or market share the Chief Executive may have focussed on price wars with competitors or investing in buying new hotels and planes rather than keeping costs low and paying off debts. Constant price wars means a constant reduction in prices which would mean consumers get lower prices , but firms will get lower profit margins and could potentially lead to firms making losses and be at risk of leaving the market. Lower profits mean fewer resources are available to fund capital investment
Another example of moral hazard is the absense of personal consequences for executives. The extract highlight that directors received £20 million in salaries and bonuses in the 5 years before the collapse while the company suffered losses of £1.5 billion in 2019. This suggests that managers prioritised short-term expansion over financial stability, leading to the company’s failure
However, external factors such as competition and rising fuel prices contributed to the failure. The governemtne refused to provide a £150 million bailout which may have led to a greater downfall than the management failures
Also, Shareholders have lost capital value but the CEO has lost his job, earnings and his reputation
With reference to Extract C, discuss the proposed government subsidy to prevent Thomas Cook from reaching its shut-down point. (12)
-Subsidy diagram
Government intervention through a subsidy can prevent firms from shutting down by reducing their costs, allowing them to operate evne when facing financial difficulties. In the case of Thomas Cook the government refused to provide a £150 million subsidy despite the frim facing a £1.5 billion loss. A subsidy would have lowered the firms cost of production shifting the supply curve from S to S1+Sub helping Thomas cook to continue operating in the short run
However, £150 million may not have been sufficient, as Thomas Cook had long-term financial issues, including debts from the MyTravel merger [E]. Since the company already reported a £1.5 billion loss in May 2019, it is unlikely that a government subsidy alone would have prevented collapse [E]. Level 2 E
One benefit of a subsidy would have been to protect employees and consumers [K]. The failure of Thomas Cook resulted in 21,000 job losses worldwide and left 600,000 travellers stranded [Ap]. The subsidy could have helped cover average costs (AC) in the long run, keeping Thomas Cook afloat and avoiding the need for government intervention in repatriation efforts [An]. Level 3 KAA
However, providing a subsidy creates moral hazard [E]. If the government rescued Thomas Cook, it could set a precedent where firms expect government bailouts, leading to inefficient business practices [E]. Instead of a subsidy, the government might have considered nationalisation, which could have been a more controlled and long-term solution [E].
With reference to the information provided, discuss the decision by Jet2 to increase its package holiday prices.(15)
Following the closure of Thomas Cook, Jet2 increased its package
holiday price to Sorrento from £788 to £824 per person [Ap]. This
decision likely reflects a response to reduced competition, as
Thomas Cook previously held 13% of the market share (Fig. 1) [Ap].
With fewer competitors, Jet2’s market power may have increased,
enabling it to set prices above the market-clearing level [An]. With
reduced consumer choice, Jet2 can price closer to profit
maximisation rather than revenue maximisation, increasing producer surplus while reducing consumer surplus [An]. Level 3 KAA
However, the price increase may be a response to market forces
rather than an abuse of power. Demand for Jet2 holidays may have
already been rising as a close substitute to Thomas Cook, meaning
prices would have risen even if Thomas Cook had not collapsed [E].
Additionally, excess demand caused by cancelled Thomas Cook
holidays may have resulted in a shortage at £788, pushing prices up naturally
Jet2’s price elasticity of demand (PED) may have become more inelastic due to reduced competition [K]. Fewer alternatives allow the company to raise prices with a smaller drop in demand [Ap]. The new price of £824 may be closer to its profit-maximising level rather than limit or predatory pricing [An]. In an oligopolistic market, other firms might follow Jet2’s lead, leading to higher industry-wide prices [4n].
Level 3 KAA
However, higher prices could reduce demand, as some consumers may choose not to travel or seek alternatives [E]. Other supply-side factors could have also contributed, such as rising marginal costs (e.g., fuel prices or sustainability measures) [E]. If costs are increasing, the price rise may not purely be due to reduced competition [E], Level 3 E
(15) expert tuition
1) Thomas cook closed down so jet2 may have increased prices because of increased market share and so increased demand as ppl switch to jet2 so AR and MR shift right
Eval
-However competing on price is bad- kinked demand
2) May have formed a cartel as market becomes more contestable so easier to form one so raise prices as less than proportionate decrease in demand so higher revenue for cartel members
Eval prisoners dilemma
Examine Thomas cook to decrease musings on social optimum
MSC= MPC+ MEC
External costs falling for Thomas cook
Less pollution so less external costs so MSC falls down
