Cambridge A Level Economics: Efficiency, market failure and externalities (9708) – Practice Questions

These are original questions written for Marlbridge, for revision and practice on this content. They are not reproduced past-paper questions, and they do not replicate the exam’s exact structure, question count or mark tariffs – examination boards hold copyright in their own papers. Use these alongside the official past papers from your board or school.

These questions cover sections 7.3 and 7.4 of the Cambridge International AS & A Level Economics (9708) syllabus for examination in 2026, 2027 and 2028. Topic 7 is A Level content. All figures are invented and the markets are fictional; CU means currency units. Read the study guide first if a topic is new, and use the revision notes for recall. See the course hub, the printable checklist and the free diagnostics.

Questions

1. Define productive efficiency and allocative efficiency, and state one condition for each. [4]

2. A fictional quarry produces 50 tonnes. Total private cost is 640 CU and total external cost is 210 CU.

(a) Calculate the total social cost. [1] (b) The marginal private cost of the 51st tonne is 15 CU and its marginal external cost is 6 CU. Calculate the marginal social cost. [1] (c) In a separate market, private benefit is 520 CU and external benefit is 140 CU. Calculate the social benefit. [1] (d) Explain what MSB = MSC shows. [1]

3. The table shows utility for two people under four allocations.

Allocation	Person A	Person B
J	4	7
K	6	7
L	6	4
M	3	9

(a) Explain why K is a Pareto improvement on J. [2] (b) Explain why a move from K to M is not a Pareto improvement. [2] (c) Explain one limitation of Pareto optimality as a guide to policy. [2]

4. A fictional firm has total cost TC = 1,600 + 4Q², where Q is output in units.

(a) Find the output at which the firm is productively efficient, and the average cost there. [3] (b) The firm produces 16 units. Calculate how much more it costs per unit, and in total, than at the efficient output. [3]

5. Explain two reasons for market failure other than externalities. [6]

6. A fictional dye factory has MPB = 120 − 4Q and MPC = 30 + 2Q, where Q is in thousand litres and values are CU per litre. The marginal external cost is a constant 18 CU per litre.

(a) Calculate the free-market output and price. [2] (b) Calculate the socially optimal output. [3] (c) Calculate the deadweight welfare loss. [3] (d) Explain why the free market produces too much. [2]

7. A fictional orchard grower has MPB = 64 − 2Q and MPC = 8 + 2Q, with Q in thousand crates. Nearby beekeepers gain a marginal external benefit of 12 CU per crate.

(a) Calculate the market output and price. [2] (b) Calculate the socially optimal output. [2] (c) Calculate the welfare loss. [3]

8. A fictional insurer covers 2,000 households against a loss of 8,000 CU. It expects a 3% chance of a claim and sets the premium at the expected loss. After cover, the chance rises to 5%.

(a) Calculate the expected claim per household before and after cover. [2] (b) Calculate the insurer’s total loss. [2] (c) Explain why this is moral hazard and not simply asymmetric information. [2]

9. A fictional firm sells 500 units a year and invests in new methods. Its unit cost over five years is 90, 84, 78, 72 and 66 CU. A rival that does not invest has a flat unit cost of 80 CU.

(a) Calculate each firm’s total cost over the five years. [2] (b) Explain what dynamic efficiency means and why the investing firm may be called dynamically efficient. [3]

10. A fictional council considers a flood barrier. Fees paid by users are 6 CU million. Damage avoided is 40 and recreation gains are 8, both external. Construction costs 36 and maintenance 9. Lost habitat is a cost of 7.

(a) Calculate the social benefit, the social cost and the net social benefit. [3] (b) Recalculate the net social benefit if damage avoided is 10% lower. [2] (c) Assess whether the council should proceed. [3]

11. Evaluate whether a negative externality always justifies government intervention. [10]

Answers

1. Productive efficiency is producing at the lowest possible cost per unit [1], where MC = AC at minimum AC [1]. Allocative efficiency is producing the goods consumers value most [1], where P = MC (or MSB = MSC) [1]. [4] Examiner insight: Pair each definition with its own condition. Answers that mix up the two conditions are a common weakness.

2. (a) 640 + 210 = 850 CU [1]. [1] (b) 15 + 6 = 21 CU [1]. [1] (c) 520 + 140 = 660 CU [1]. [1] (d) It shows the output at which the last unit costs society exactly what it is worth, so allocative efficiency is achieved [1]. [1] Examiner insight: Show the addition. Make clear you are adding external to private values, not social to private.

3. (a) A is better off (4 to 6) [1] and B is unchanged at 7, so nobody loses [1]. [2] (b) B gains (7 to 9) [1] but A loses (6 to 3), so someone is worse off [1]. [2] (c) Many allocations are Pareto optimal, including very unequal ones [1], so it says nothing about fairness or which optimum to choose [1]. [2] Examiner insight: Quote the numbers from the table for each person. Saying only that “someone loses” gains less than naming who.

4. (a) AC = 1,600/Q + 4Q and MC = 8Q [1]. Setting 1,600/Q + 4Q = 8Q gives Q² = 400, so Q = 20 [1]. AC = 80 + 80 = 160 CU [1]. [3] (b) At Q = 16, AC = 100 + 64 = 164 [1]. Extra per unit = 4 CU [1]. Total extra = 16 × 4 = 64 CU [1]. [3] Examiner insight: Derive MC from TC before using it. The condition is MC = AC, not a guess at the minimum.

5. Any two developed reasons. Public goods are non-excludable and non-rival [1], so firms cannot charge and supply none [1], and provision needs to come from tax [1]. Market power lets firms restrict output [1], so price is above marginal cost [1] and output is below the allocatively efficient level [1]. Other valid reasons: imperfect information, immobile factors, unequal incomes. [6] Examiner insight: Name the reason, then say how it leads to the wrong allocation. Lists without the consequence tend to read as shorter.

6. (a) 120 − 4Q = 30 + 2Q, so 90 = 6Q [1]. Q = 15 thousand litres, P = 60 CU [1]. [2] (b) MSC = 30 + 2Q + 18 = 48 + 2Q [1]. 120 − 4Q = 48 + 2Q, so 72 = 6Q [1]. Q = 12 thousand litres [1]. [3] (c) At Q = 15, MSC = 78 and MPB = 60, a gap of 18 [1]. The quantity difference is 3 [1]. Loss = ½ × 18 × 3 = 27 thousand CU [1]. [3] (d) Producers ignore the external cost of 18 CU [1], so they supply units where MSC exceeds MSB [1]. [2] Examiner insight: Add the external cost to the supply side only. Keep the units consistent with the thousands in the question.

7. (a) 64 − 2Q = 8 + 2Q, so 56 = 4Q [1]. Q = 14, P = 36 [1]. [2] (b) MSC = 8 + 2Q − 12 = 2Q − 4 [1]. 64 − 2Q = 2Q − 4 gives Q = 17 [1]. [2] (c) At Q = 14, MPB = 36 and MSC = 24, a gap of 12 [1]. The quantity difference is 3 [1]. Loss = ½ × 12 × 3 = 18 thousand CU [1]. [3] Examiner insight: An external benefit of production lowers MSC. A common slip is to add it, which moves the optimum the wrong way.

8. (a) Before: 0.03 × 8,000 = 240 CU [1]. After: 0.05 × 8,000 = 400 CU [1]. [2] (b) Premiums 240 × 2,000 = 480,000 [1]. Claims 400 × 2,000 = 800,000, so the loss is 320,000 CU [1]. [2] (c) The risk rose after cover was bought because households took less care [1], whereas asymmetric information concerns who knows more before the deal [1]. [2] Examiner insight: Point to the change in behaviour after the contract. That timing is what separates the two ideas.

9. (a) Investing firm: (90 + 84 + 78 + 72 + 66) × 500 = 390 × 500 = 195,000 CU [1]. Rival: 80 × 5 × 500 = 200,000 CU [1]. [2] (b) Dynamic efficiency is efficiency improving over time [1]. The investing firm starts with higher costs but its unit cost falls each year, to below the rival’s from year 3 [1], saving 5,000 CU over five years [1]. [3] Examiner insight: Refer to the time dimension. Comparing a single year misses the point of dynamic efficiency.

10. (a) SB = 6 + 40 + 8 = 54 [1]. SC = 36 + 9 + 7 = 52 [1]. Net = +2 CU million [1]. [3] (b) Damage avoided = 36, so SB = 6 + 36 + 8 = 50 [1]. Net = 50 − 52 = −2 CU million [1]. [2] (c) On the central figures it is marginally positive [1], but a 10% fall in one value reverses it [1], and habitat loss and damage avoided are hard to value, so proceed with caution or gather better estimates [1]. [3] Examiner insight: Reach a judgement and support it with the sensitivity result. A bare “yes” or “no” is weaker.

11. Credit for analysis [1 each]: a negative externality means MSC exceeds MPC [1]; the market over-produces [1]; there is a welfare loss [1]; intervention such as a tax or regulation could correct it [1]. Credit for evaluation [1 each]: the externality may be small, so the cost of acting outweighs the gain [1]; the externality is hard to measure, so a tax could be set wrongly [1]; government failure, such as poor information or lobbying, may make things worse [1]; alternatives such as bargaining or property rights may work when parties are few [1]. A supported conclusion [2]: for example, intervention is justified when the loss is large and can be measured, but not automatically. [10] Examiner insight: Use a diagram if you can, and finish with a judgement tied to the size of the externality. Descriptions without a reasoned conclusion tend to stay at analysis.

Where marks are usually lost

• Adding the external cost or benefit to the wrong curve.
• Using the wrong direction: negative externalities give over-production, positive ones under-production.
• Shading too much area as welfare loss, rather than the triangle between MSB and MSC.
• Confusing productive and allocative efficiency, or their conditions.
• Calling a move a Pareto improvement when someone loses.
• Forgetting units, or the thousands in a quantity.
• Evaluating in a single sentence, without a reason or a conclusion.
• Mixing up asymmetric information with moral hazard.

Next steps

• Review the revision notes and the study guide.
• Visit the course hub and tick off the printable checklist.
• Take one of the free 10-minute diagnostics.
• Book a free trial class.

Official syllabus

Cambridge International, Cambridge International AS & A Level Economics (9708) syllabus for examination in 2026, 2027 and 2028, Subject content, topic 7, sections 7.3 and 7.4.