Economics and Market Analysis
What the exam tests
Applied microeconomics for decision-makers: diagnosing market failure, choosing the right instrument, and quantifying costs and benefits with defensible, sourced assumptions.
Core rules
- Markets fail through externalities, public goods, information asymmetry, market power and natural monopoly. Government can fail too - through information gaps, capture and unintended incentives.
- Match the instrument to the failure: price (tax, charge, subsidy), quantity (quota, standard), information (labelling, disclosure), property rights, or competition remedies.
- Cost-benefit analysis compares incremental costs and benefits against the counterfactual, using opportunity cost and shadow prices, discounting future flows to a net present value, and testing with sensitivity and distributional analysis.
- Elasticity drives behavioural response and revenue; estimates are context-specific and must be sourced, not assumed.
- Transfers such as taxes and benefits are distributional, not net resource costs - but administrative costs and deadweight loss are real.
- Competition assessment should precede sector regulation; regulating a natural monopoly mimics competitive outcomes through price caps, access and service standards.
Worked example
Proposal: a 3 congestion charge in a city centre. Reasoning: estimate demand elasticity for peak car trips (say -0.3 short-run) to project traffic and revenue; monetise time savings, accident reductions and emissions; subtract operating and enforcement costs; treat the charge as a transfer but include deadweight loss; discount at the national rate over ten years; run low and high elasticity and value-of-time cases; report incidence for low-income drivers and traders. Recommend only if net present value is positive across most scenarios, and hypothecate revenue to address equity.
Traps
Counting transfers as benefits; double-counting time savings already reflected in wages; importing elasticities from another country; ignoring second-round effects; single-point estimates without sensitivity ranges.