GCE A'Level CSQ 2020 Question 1 - Suggested Answers
(a) Explain one measure used by economists to assess the level of competition in an industry. [2m]
The concentration ratio computes the market share of the few largest firms in the industry in relation to the entire market. For example, a four-firm concentration ratio would sum up the market share of the largest four firms in a market. If the concentration ratio is above a certain threshold, say 60% or more, we deduce that a few large firms dominate the entire market, and there is imperfect competition in the industry.
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(b) Using Table 1, explain two possible changes in the market for pork that could account for the difference in the consumption of pork in 2018 compared to 2007. [4m]
Between 2007 to 2018, the consumption of pork in Singapore generally increased.
Demand Factor: Increase in real national income in Singapore. Between 2007 to 2018, Singapore has experienced positive real GDP growth rates that boosted our real national income and purchasing power. Consumers will consume more normal goods like pork, where the YED value is likely to be between zero and 1. Demand for pork would increase, albeit by a small amount.
Supply Factor: Improvement in farming practices through technology that increased the overall supply of pork. Farming technology would have improved over the years, allowing farmers to harvest larger quantities of pork over a shorter period.
Both demand and supply curves would shift rightwards. At initial price level P0, regardless of the relative extent of increase of either demand or supply, we would see that the quantity of pork would increase from Q0 to Q1, explaining the rise in consumption of pork throughout the years.
(ci) What is meant by 'producer surplus' and 'consumer surplus'? [2m]
Producer surplus is the sum of value gained from the difference between what the producer is willing to sell its goods for compared to what the producer actually sells its goods at the prevailing market equilibrium price.
Consumer surplus is the sum of value gained from the difference between what the consumer is willing and able to purchase a good for compared to what the consumer actually purchases at the prevailing market equilibrium price.
(cii) Extract 2 states that 'collusion restricted supply in the market and contributed to price increases of certain fresh chicken products.' Using a diagram, explain how this collusion is likely to have affected the producer surplus and the consumer surplus in the market for these chicken products. [4m]
Collusion among market-dominant firms allows them to limit output to drive up market prices of goods and services and earn higher profits. Since there are only a few large firms in the market, there is a lack of available substitutes that results in the demand for chickens to price inelastic (PED < 1). When firms decide to limit output, the market supply of chicken will shift leftwards from SS1 to SS2. Keeping everything else equal, will cause a shortage of chicken that puts upward pressure on prices. For a proportionate increase in price, there is a less than proportionate decrease in quantity demanded of chicken which causes total revenue of chicken firms to rise, ceteris paribus. Both consumer and producer surpluses will fall from ABCD to A and EF to B, respectively. However, the extent of the fall in consumer surplus will be greater than the fall in producer surplus.
(d) Using Extracts 3 and 4, discuss which market structure best describes the characteristics of the ride-hailing market in Singapore. [8m]
The characteristics used to classify an industry or firm into the various market structures are (1) barriers to entry, (2) number of sellers in the market (3) nature of the good/service (4) level of information that exists in the market.
Based on Extract 3, the ride-hailing market in Singapore can be described as an oligopolistic market structure. Firstly, there are substantial financial and artificial barriers to entry into the market. Traditionally, taxi companies purchase vast amounts of vehicles and rent them out to taxi drivers for a daily rental fee. Taxi companies can reap substantial marketing economies of scale that drive down the unit cost of production and be profitable. In recent years, Grab and Uber have been able to penetrate the market by utilizing smartphone applications that connect private car owners to commuters. They have also purchased second-hand cars for rental in bulk to allow individuals who do not own cars to participate in the ride-hailing market and have gained brand loyalty and network economies of scale as the network of people using the application grew exponentially. In sum, the high natural and artificial barriers to entry resulted in only a few dominant players to exist in the market. There will be few sellers in the market to and hence there are few choices or substitutes available to commuters in Singapore. The demand curve for ride-hailing is likely to be steep and PED is likely to be inelastic. Firms have the market power to set high prices, and that would still be profitable for them since the fall in quantity demanded will be less than proportionate, ceteris paribus. It is also believed that there is a presence of mutual interdependence between these firms and they may set very similar prices in the markets to avoid the loss of market share to its other dominant players.
However, based on extracts 3 and 4, the ride-hailing market has gradually but surely evolved into a monopoly. We see that the market share for traditional taxi firms declines as only "69 taxi driver licenses were issued in 2017 from a previous high of 555 licenses." On the other hand, Grab and Uber was able to gain significant market share in the market because of their convenience, locked-in fares upon booking, and greater affordability. After the merger between both firms, the combined firm was able to hold 80% of the market share. Many economists believe that if a single firm holds more than 25% of the market share, it would be considered a monopoly. However, in the case of Grab and Uber, they have surpassed that number by a large amount. This is further evidenced by their ability to raise their effective fares by 10% post-merger, an abuse of their monopoly power, and diminishing mutual interdependence between Grab-Uber and other taxi companies in Singapore. Grab and Uber are also able to solidify their market share by legal barriers to entry through "exclusivity arrangements" with private hire vehicles. This would crowd out potential market entrants like Go-Jek and Ryde. As fewer choices remain in the market, the demand curve for ride-hailing will continue to be even steeper and PED is likely to be more inelastic. This would strengthen their market power substantially.
In conclusion, the best market structure to describe the characteristics of the ride-hailing market in Singapore is a monopoly. Grab-Uber clearly possesses high barriers to entry into the market, which would eventually make it the single seller in the market and give it the monopoly power to set high prices at the expense of consumers. They will likely continue to exist as a monopoly unless the CCCS is able to introduce policies successfully that can help improve the competitive landscape in Singapore.
(e) Discuss whether the fines imposed by the CCCS are the best way to improve the outcomes for consumers in both the chicken product market and the ride-hailing market. [10m]
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Consumers' outcomes would be improved if they can obtain goods and services at a market price that is closer to perfectly competitive prices, higher quantities available to them, and a greater variety of goods and services, thereby increasing their consumer surplus.
Imposing taxes on dominant firms may be an alternative to curb their market power and improve consumer outcomes. The CCCS has imposed S$26.9million and S$13million fines to the chicken sellers and Grab-Uber, respectively. These fines act as a deterrent to price-hiking and price-fixing measures. There are now costs associated with such behavior that would eat into the profitability of the firms. As firms stop their collusion and anti-competitive actions, the market supply of goods and services will likely exert downward pressure on prices. It allows consumers to consume these goods or services at lower prices and in larger quantities, increasing their surplus and improving equity.
However, fines may not be effective if there are not imposed at an amount that would sufficiently deter such actions. The government may have considered carefully determining the amount of levy based on "nature, duration, and seriousness of the infringement" in the chicken product market. However, the same cannot be said for Grab-Uber since the fine is insignificant compared to the firm's market capitalization. It would "unlikely have large impacts on their profit levels." Suppose the levy cost to the CCCS is lower than the revenue that could be gained from anti-competitive measures. In that case, Grab-Uber may arguably continue their behavior to the demise of consumers in Singapore. Furthermore, huge levies may even translate to higher prices as a justification to remain economically viable, which may hurt the consumers. Hence, monitoring is required to ensure that such practices no longer exist, and if they do, there should be stiffer penalties for repeated abuse of monopoly power. Furthermore, the government may suffer from imperfect information, which reduces their ability to impose fines that can sufficiently deter such behavior.
Other measures should be considered to improve consumer outcomes in these markets. One example would be imposing laws and regulations to prevent such behaviors. In the chicken produce market, granting more licenses and rights to other foreign firms to export their chicken into Singapore would increase competitiveness in the markets that would prevent collusion among current market players and offer more variety to consumers. Incumbent firms are forced to keep prices low to remain competitive to prevent the dilution of their market share. Firms will be incentivized to do so because it impacts their revenue and hence profits more directly than fines imposed. In the ride-hailing market, setting laws to prevent "exclusive agreements" would allow private hires to decide between ride-hailing companies based on their compensation structures. It would allow other companies to enter the market and be economically viable. With competition, it would diminish their monopoly power that would also drive down prices to the benefit of consumers.
However, in both markets, laws, and regulations would fail if there is no government monitoring and enforcement. This incurs opportunity costs on government resources as more time and effort are required to govern these industries constantly. Ineffective governance or lapses may result in consumers not being able to improve their outcomes.
In conclusion, fines are a good method to stamp out anti-competitive behaviors to help improve consumer outcomes. However, one must note that it is not an end-all-be-all method. Fines should not be imposed only once; there should be monitoring to ensure that producers do not repeat their actions. The dollar value of fines should also be considered carefully as they may not pose a good enough deterrent to prevent highly profitable companies from engaging in unlawful practices. Fines should be adjusted accordingly to reflect the cost of their actions relative to their potential benefits. A long-term solution to this problem would be to combine other measures like laws and regulations to improve competitiveness in the markets and dilute market power to improve consumer outcomes.