S5 Economics Practice Paper: Production, Costs And Market Structure (12 Questions, 100 Marks, 75 Minutes, With Answers)

S5 Economics Practice Paper: Production, Costs and Market Structure (12 Questions, 100 Marks, 75 Minutes, with Answers)

2026-11-09

HKDSE Economics: Production, Costs and Market Structure

12 questions, 100 marks, 75 minutes on cost curves, diminishing returns, profit maximisation under perfect competition and monopoly, and external costs with a corrective tax.

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Instructions: This paper has three sections, A, B and C. Answer all questions. Total marks: 100. Time allowed: 75 minutes.

Show all working. Answers without working earn no method marks. Write down a formula before substituting numbers.

Give numerical answers to three significant figures unless stated otherwise, and state the correct units.

Spend about 35 minutes on Section A cost calculations, then use the remaining time for the market structure comparisons in Section B and the welfare analysis in Section C.

Section A: Production and Costs

Fixed and variable costs, short run and long run, average and marginal cost, diminishing marginal returns

#	Question	Answer and marking notes
1	Distinguish between fixed costs and variable costs, giving two examples of each, and explain the difference between the short run and the long run.	(a) Fixed costs do not change with output in the short run, for example factory rent and machine maintenance (3 marks). (b) Variable costs change with output, for example raw materials and the wages of production workers (3 marks). (c) In the short run at least one factor of production is fixed, while in the long run all factors can be adjusted (2 marks).
2	A firm has the total cost function TC = 200 + 5Q + 0.5Q2, in dollars. (a) State the total fixed cost and the total variable cost function. (b) When Q = 10, find TC, TVC and TFC. (c) Find AFC, AVC and ATC at Q = 10. (d) Find the marginal cost of raising output from 9 units to 10 units.	(a) Total fixed cost is 200 dollars and total variable cost is 5Q + 0.5Q2 (2 marks). (b) TC = 200 + 50 + 50 = 300 dollars (1 mark); TVC = 100 dollars (1 mark); TFC stays at 200 dollars (1 mark). (c) AFC = 20 dollars, AVC = 10 dollars and ATC = 30 dollars (2 marks). (d) TC rises from 285.5 dollars to 300 dollars, so MC = 14.5 dollars (2 marks).
3	A firm hires workers and its total product is: 1 worker 10 units, 2 workers 26 units, 3 workers 45 units, 4 workers 60 units, 5 workers 70 units, 6 workers 74 units. (a) Find the marginal product of each worker. (b) Find the average product at 4 workers and state whether it is the highest. (c) State from which worker diminishing marginal returns begin and explain.	(a) The marginal products are 10, 16, 19, 15, 10 and 4 (3 marks). (b) Average product at 4 workers is 60 divided by 4 = 15, the same maximum as at 3 workers (2 marks). (c) Diminishing marginal returns begin at the fourth worker, because marginal product falls from 19 to 15 (3 marks).
4	Explain economies of scale and diseconomies of scale, why the long-run average cost curve is U-shaped, and give two internal sources of economies of scale.	(a) Economies of scale occur when a larger output lowers long-run average cost (2 marks). (b) Diseconomies of scale occur when a further increase in output raises long-run average cost (2 marks). (c) At low output economies of scale dominate and long-run average cost falls; beyond the optimum scale, management and coordination become harder and long-run average cost rises, giving a U-shaped curve (2 marks). (d) Two sources: specialisation of labour and bulk-purchase discounts (2 marks).

Section B: Market Structure and Firm Decisions

Perfect competition and monopoly, profit-maximising condition, elasticity and pricing

#	Question	Answer and marking notes
5	Compare a perfectly competitive market and a monopoly in terms of the number of sellers, the nature of the product, barriers to entry and price-setting power.	(a) A perfectly competitive market has many sellers while a monopoly has one seller (2 marks). (b) The product is homogeneous under perfect competition, while a monopolist’s product has no close substitutes (2 marks). (c) Entry and exit are free under perfect competition, while a monopoly has high barriers to entry (2 marks). (d) A competitive firm is a price taker while a monopolist is a price maker (2 marks). (e) Hence the competitive firm faces a horizontal demand curve and the monopolist faces a downward-sloping one (1 mark).
6	A perfectly competitive firm faces a market price of 20 dollars and has TC = 100 + 4Q + 0.5Q2. (a) Find the profit-maximising output. (b) Find total revenue, total cost and profit at that output. (c) Find average variable cost and explain whether the firm should keep producing in the short run.	(a) Marginal cost is 4 + Q and profit maximisation requires price to equal marginal cost, so Q = 16 (3 marks). (b) Total revenue is 320 dollars, total cost is 292 dollars and profit is 28 dollars (3 marks). (c) Average variable cost is 12 dollars, which is below the price of 20 dollars, so the firm should keep producing in the short run (2 marks).
7	A monopolist faces the demand P = 100 – 2Q and has TC = 20Q, so marginal cost is a constant 20 dollars. (a) Find the marginal revenue function. (b) Find the profit-maximising output. (c) Find the price and the profit. (d) Find the output and price under perfect competition, and calculate the deadweight loss.	(a) Total revenue is 100Q – 2Q2, so marginal revenue is 100 – 4Q (2 marks). (b) Setting marginal revenue equal to marginal cost of 20 gives Q = 20 (2 marks). (c) The price is 60 dollars and profit is 1200 – 400 = 800 dollars (2 marks). (d) Under perfect competition price equals marginal cost of 20 and output is 40; the deadweight loss is 0.5 x 40 x 20 = 400 dollars (2 marks).
8	Explain why a firm with market power does not produce where demand is price inelastic, and state the effect on total revenue when price rises by 10% if the price elasticity of demand is -0.5.	(a) When demand is inelastic, a price cut raises quantity sold by a smaller percentage than the price fall, so total revenue falls and marginal revenue is negative (3 marks). (b) With elasticity of -0.5, a 10% price rise lowers quantity demanded by 5%, so total revenue becomes 1.1 x 0.95 of the original, a rise of about 4.5% (3 marks). (c) A firm therefore produces only where demand is elastic, since marginal revenue is positive there (2 marks).

Section C: External Costs, Government Intervention and Welfare

Marginal private and social cost, unit tax, consumer surplus, producer surplus and deadweight loss

#	Question	Answer and marking notes
9	A factory has marginal private cost MPC = 10 + 0.5Q and a marginal external cost of 5 dollars per unit. Market demand is P = 40 – 0.5Q. (a) State the marginal social cost. (b) Find the market equilibrium output and price. (c) Find the socially optimal output and price. (d) Find the over-production and the deadweight loss.	(a) Marginal social cost is 15 + 0.5Q (2 marks). (b) Setting marginal private cost equal to demand gives Q = 30 and P = 25 dollars (2 marks). (c) Setting marginal social cost equal to demand gives Q = 25 and P = 27.5 dollars (2 marks). (d) Market output exceeds the social optimum by 5 units and the deadweight loss is 0.5 x 5 x 5 = 12.5 dollars (3 marks).
10	The government imposes a unit tax of 5 dollars on the factory in Question 9. (a) State the new marginal private cost. (b) Find the new equilibrium output. (c) Find the price paid by buyers. (d) Compare the new output with the socially optimal output and find the tax revenue.	(a) The unit tax shifts supply up by 5 dollars, so the new marginal private cost is 15 + 0.5Q (2 marks). (b) Setting this equal to demand gives Q = 25 (2 marks). (c) Buyers pay 27.5 dollars (2 marks). (d) Output now equals the socially optimal output and tax revenue is 5 x 25 = 125 dollars (2 marks).
11	Using the market in Question 9, calculate at the market equilibrium: (a) consumer surplus; (b) producer surplus; (c) the total external cost and the net social surplus; (d) the net social surplus at the socially optimal output, and state the difference.	(a) Consumer surplus is 0.5 x 15 x 30 = 225 dollars (2 marks). (b) Producer surplus is 0.5 x 15 x 30 = 225 dollars (2 marks). (c) The total external cost is 150 dollars and the net social surplus is 300 dollars (2 marks). (d) At the social optimum the net social surplus is 312.5 dollars, which is 12.5 dollars higher, equal to the deadweight loss (2 marks).
12	Explain why the franchised bus market in Hong Kong is regarded as an oligopoly and why the electricity market is regarded as a regulated regional monopoly. Discuss two possible effects of a price ceiling imposed on a regulated monopolist.	(a) The franchised bus market has only a few operators and requires a government franchise, so barriers to entry are high and the market is an oligopoly (3 marks). (b) The electricity market is served by two companies in defined areas, a regulated regional monopoly, because the transmission and distribution network has large economies of scale (3 marks). (c) A price ceiling lowers prices and raises usage in the short run, but in the long run it may cause under-investment, shortages or lower service quality (3 marks).

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