INSTITUTE OF BANKERS IN MALAWI

DIPLOMA IN BANKING EXAMINATION

SOLUTIONS TO ECONOMIC ENVIRONEMNT (IOBM D211)

2013

SECTION A(60 MARKS)

QUESTION 1

(a)Privatisation is the act of transferring property from public ownership to private ownership or transferring management of services/activity from government to private sector whilst; Nationalisation is the act of taking assets into public ownership. Usually it refers to private assets being nationalised but sometimes it may be other assets owned by other levels of government e.g. municipalities 4 marks

(b)Three reasons why other citizens have been arguing against the privatisation of Air Malawi.

  1. Privatisation may cause shocks in the short term e.g.redundancies, changes in consumer prices etc. which may lead to civil unrest.
  2. In the absence of a transparent market system, Privatisation may lead to assets being transferred to a few very wealthy influential people at the expense of the general poor population
  3. For underdeveloped countries, the bureaucratic tools necessary to regulate it may be underdeveloped or non-existent.

Any other points may be considered and each point carries 2 marks

(c)2 alternatives to privatisation:

  1. Sub-contracting national services or outsourcing functions to private enterprises
  2. Part ownership or PPPs

Each brief explanation for 2.5 marks each

QUESTION 2

(a)Given Graph above showing consumption function of an economy. Assuming that the economy is closed and it has the function C=a+cYd where C is the Consumption, a is the autonomous consumption, c is the marginal propensity to consume (MPC) and Yd is the disposable income

If Yd = MK5, 000, 000.00 and MPC = 85%

  1. MPS = (1-MPC)

= 1- 0.85

= 0.15 or 15%3Marks

  1. Consumption level

=85% of K5, 000,000

= MK4, 250,000.003Marks

  1. The Multiplier

Multiplier (K) = 1/ (1- mpc)

= 1/ (1- 0.85)

=6.675 Marks

(b)The multiplier is the ratio of the final change in national income to the autonomous change in expenditure. The multiplier is 6.7; which means that any unit increase in aggregate demand in the economy, will result in a 6.7 times increase in national income. 4Marks

QUESTION 3

(a)3 ways to measure National Income.

These are Output/value added approach, expenditure approach and Income approach. A detailed explanation of these three and each carries 3 Marks

(b)Is the economy in recession?

The economy is not yet in recession:the economy is in an economic slowdown even though at a faster rate that if unchecked could lead into a recession. A recession is a fall in level of real national output and economic growth is negative. It is characterised by declining output, reduced demand for imports, heavy de-stocking and price discounting, lowering of interest rates by central bank and increased government borrowing among other things.

The economy is in recession: there are still other factors that are pointing towards recession such as rising unemployment, falling business confidence, fall in business profits and decreased investment.

Marks should be rewarded for clear argument and the total is 6 Marks

QUESTION 4

(a)Three uses of taxes besides raising revenue

  1. To protect declining/infant industries to allow them to grow or thrive
  2. To take care of externalities/pollution that are experienced during production of outputs
  3. To prevent other countries from “dumping” their cheap products in the country

Any other points could be considered each for 2 Marks

(b)Expansionary Fiscal policy is when a government has control over both taxes and government spending in order toincreasethe amount of money available to the economy. With expansionary policy, the government may decide to reduce taxes in order to increase consumer demand in the economy. This exercise from the diagram below shows that the tax was priced at P1 and Quantity supplied of the goods will be Q1. If tax was reduced then the production cost would decrease, this would increase supply of the product and hence forth quantity demanded will have increased to Q2. Therefore, the reduction of tax increases aggregate demand. 5 Marks

QUESTION 5 (TO REMOVE)

(a)Factors that would explain the efficiency or productivity of Malawian labour

  1. The skills of the individuals coupled with their education
  2. Attitudes of the workers
  3. Skills of management in getting the best out of the labourers
  4. Established and agreed work practices and trade union influence

Any other points could be considered for 1 mark each

(b)Three points would make the union succeed

  1. The size of the union
  2. The negotiation skills/ influence that the union has
  3. The ability of the union to supply and control labour
  4. economic viability of the different technical areas of specialisation

Any other points could be considered for 2 marks each

(c)Three factors would make Malawi trade educated labour internationally in order to gain forex

  1. Experience/skills of the labour
  2. The ability of the labour to bring in remittance
  3. Removal of institutional restrictions on entry in the countries that Malawi would export in.(e.g. work permits

Any other points could be considered for 2 marks each

SECTION B(40 MARKS)

QUESTION 6

(a)The characteristics of the command economic system

  • All key economic decisions are made by the government
  • Economy is planned by the government
  • Wastage of resources could be noticed since some things are made in excess
  • Price mechanism of supply and demand do not apply

Any point for 1 mark

(b)Rumour about a revaluation:

In the event that there is a rumour of revaluation of Malawi Kwacha to be above its neighbouring countries like Zambia and Zimbabwe, there would be a lot of capital flow into Malawi from investors who believe that if the revaluation takes place, they will make a profit and if it doesn’t happen, they lose nothing. 3 marks

Secondly, there will be a great demand for Malawi kwacha by holders of other currencies there by increasing the foreign exchange in the country. 3 marks

At the same time, the demand for Kwacha would increase the government expenditure in terms of cost of printing money since the RBM would be forced to increase money supply hence this would be a cost to government. 3 marks

Additionally, the increased supply of money on the market, the increased presence of foreign exchange would eventually become inflationary as there would be too much money chasing too few goods in a short space of time hence forth leading to other social economic problems 3 marks

(c)Two disadvantages of floating exchange rate

1.Floating exchange rates create conditions of instability and uncertainty which, in turn, tend to reduce the volume of international trade and foreign investment. Long-term foreign investments arc greatly reduced because of higher risks involved.2 marks

2.Floating exchange rate system involves greater possibility of inflationary effect of exchange depreciation on domestic price level of a country. Inflationary rise in prices leads to further depreciation of the external value of the currency. 2 marks

Two advantages of a floating exchange

  1. The system of flexible exchange rates automatically removes the disequilibrium in the balance of payments. When, there is deficit in the balance of payments, the external value of a country's currency falls 2marks
  2. The system of floating exchange rates promotes free trade. Restrictions on international trade are removed and there is free movement of capital and money between countries. This can enhance availability of foreign exchange as well as improve on economic growth rates. 2 marks

QUESTION 7

Tax calculation for Chigumula manufacturing company

Employee / Tax bracket / Income / Tax / Totals Tax to MRA / Marks
1. / Messenger / 5% / 5000 / 250 / 250 / 1 mark
2. / Driver / 5% / 5000 / 250
10% / 5000 / 500
10000 / 750 / 2 marks
3. / Secretary / 5% / 5000 / 250
10% / 10500 / 1050
15500 / 1300 / 2 marks
4. / Accountant / 5% / 5000 / 250
10% / 15000 / 1500
15% / 15000 / 2250
35000 / 4000 / 3 marks
5. / Engineer / 5% / 5000 / 250
10% / 15000 / 1500
15% / 30000 / 4500
50000 / 6250 / 3 marks
6. / 5% / 5000 / 250
10% / 15000 / 1500
15% / 30000 / 4500
20% / 50000 / 10000
100000 / 16250 / 3 marks
Total Tax submitted to MRA / 215500 / 28800 / 2 marks

Total marks 16 Marks)

(b)2 examples of indirect tax applicable in Malawi are VAT and Customs & exercise duties

Each carries 2 marks

QUESTION 8

(a)Three factors that could be employed to move the economy from a developing to a developed state :

  1. Natural resources. Some countries grow because of availability of natural resources like oil, gold, diamonds, uranium etc. 3 marks
  2. Labour Resources-Labour plays a big role in economic growth of a nation. Abetter and qualitative increased population could easily translate into growth. If human capital is abundant and well trained, contributes to more productive workforce like in the case of China 3 marks
  3. Capital Resources- Increasing the stock of capital and making more efficient use of it is also a source of economic growth. Equipping workers with better machines is likely to make the workers more productive as each worker will be able to produce more in the same time. 3 marks
  4. Any other points may be considered, each point carries 3 marks

(b)Four negative impacts that comes with economic growth

  1. Depletion of natural resources results from economic growth process
  2. Pollution of the environment
  3. Inflation rate rises if economic growth happens rapidly versus the ability of the economy to supply against demand.
  4. Inequalities may be encouraged thus the gap between the poor and the rich may increase and this can cause civil unrest in an economy

Each point carries 2 marks and any other points may be considered

(c)“sustainability” is development that meets the needs of the present generation without compromising the ability of future generations to meet their own needs.3 Marks

QUESTION 9

(a) four functions of the central bank of Malawi

1.To print and issue out bank notes

2.Advises government on monetary and economic issues of the country

3.It is the bank of the government

4.Regulates the banking sector

1mark each and any other points may be considered

(b)Reducing the demand for money

The reserve bank would reduce demand for money by increasing the interest rates in order to increase the rate of savings by the individuals, discourage borrowing by both households and companies and reducing real value of disposable income

If the RBM decides to increase interest rates to sober up the economy, the real income levels were at Y1. Once the interest rates are increased to r2 the demand for money will decrease hence the LM curve will shift to LM2. Once this happens then the real value of money will decrease to Y2 thereby reducing the demand for money. 6 marks

(c)Three ways to maintain low inflation in the economy

  1. Increase direct taxes
  2. Lower government expenditure
  3. Reduce government sector borrowing

QUESTION 10

(a) “Unemployment” means a proportion of people who are able, available,willing and actively searching for a job, at the going wage rate but cannot find work. 2 Marks

(b)The concept of a backward bending individual labour supply curve:

Every rational individual decides how to divide his time between work and leisure. The quantity of labour supplied that is the number of working hours offered by the individual will rise as the wage rate is increasing but only up to a certain point thus point B in the graph above. So from point A to B workers tend to work more hours and sacrifice leisure for income. Every increase of labour persuades the worker to work hard and substitute work for leisure. This is the substitution effect. 3 Marks

As the worker is spending more on goods and services from the wages he gets, his marginal utility of consumption decreases. He now starts enjoying more and more leisure since leisure is a normal good. Therefore as income increases his demand for leisure will increase and thus the income effect. 3 Marks

(c)Four distinguishing features between the labour market and the goods market

  1. In labour market, labour is rented and not sold2 marks
  2. Labour services are not transferable between 2 people. The services and skills are usually embodied in the person hired. 2 marks
  3. Non-monetary factors like location of employment and other working conditions are important in labour market since workers have to be physically present when their services are used. 2 marks
  4. Functioning of the labour market is sometimes affected by a wide range of non-economic considerations like equity, humanity, loyalty, fairness, justice etc. 2 marks