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Economics of inequality and poverty Paper 2

IBDP Economics  HL – Macroeconomics – Economics of inequality and poverty -Paper 2 Exam Style Practice Questions

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Economics of inequality and poverty Paper 2? 

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Exam Style Question for IBDP Economics HL- Economics of inequality and poverty -Paper 2

Economic development in two West African countries

      Ghana

  1. Ghana is the world’s second largest cocoa producer and Africa’s second largest gold producer. It is one of Africa’s fastest growing economies and has made major progress in achieving persistent economic growth.

  2. Over the last decade, Ghana has enjoyed increasingly stable and improving democratic governance. Four successful elections during the decade have strengthened the effectiveness of key national institutions, improved investor confidence and created an environment that promotes investment and growth.

  3. Ghana enjoys a high degree of media freedom; the private press and broadcasters operate without significant restrictions. The media are free to criticize the authorities without fear of punishment, says the non governmental organization (NGO) Reporters Without Borders. The private press is allowed to express criticism of government policy, which increases the accountability and transparency of the government.

  4. Although Ghana’s growth has been fairly strong, the source of growth has always been dominated by commodities and the capital-intensive services sector. Neither of these has a direct effect on poverty reduction. Growth in rural areas is often limited by basic infrastructure, such as roads. This limits the ability of people in rural areas to access markets in urban areas. 

    Nigeria

  5. Nigeria is Africa’s leading oil producer. In 2016, it experienced its first full year of recession in 25 years. Global oil prices reached a 13-year low and oil production was drastically cut. Oil has continued to dominate Nigeria’s growth pattern, but the volatility of oil-dependent growth prevents progress in social and economic development.

  6. On the political front, the transition from military dictatorship to democratic rule has been acclaimed as one of Nigeria’s major successes in the last decade. The 2011 general election, supported by the United Nations, was widely acknowledged by international observers and domestic monitors as one of the freest and fairest elections conducted in the country in recent years.

    Ghana and Nigeria

  7. Both Ghana and Nigeria have cut fuel subsidies in order to reduce their budget deficits. This has had severe consequences for low-income households. 

Question

Define the term Gini coefficient indicated in bold in Table 1.

▶️Answer/Explanation
An explanation that it is a measure of income inequality AND one of the following points:
 
  •  it is a number between 0 and 1
  •  the higher the number, the more unequal the income distribution
  •   the lower the number, the less unequal the income distribution
  • a ratio of the area between a Lorenz curve and the line of equality to the total area below the line of equality
  • a/a+b on a Lorenz curve diagram.

São Tomé and Príncipe Economic Development Challenges

  1. São Tomé and Príncipe (STP) is an island nation and is one of the smallest economies in Africa. STP faces many economic development challenges including: a limited range of export products (mostly commodities) and markets, limited human capital, insufficient infrastructure, vulnerability to supply-side shocks due to climate change, limited access to credit, political instability and poor governance. All these challenges have led to a high dependence on foreign aid.
  2. International organizations estimate that approximately 50 % of STP’s population is living in relative poverty. Its economic growth rate has been consistent at 4–5 % between 2013 and 2018, but the International Monetary Fund (IMF) suggests that STP will need an economic growth rate of 6 % to have an impact on the poverty rate.
  3. To increase economic growth and reduce its dependence on foreign aid and cocoa exports (80 % of its total exports), STP is planning to extract offshore oil and develop the comparative advantage it has in tourism. Over 50 % of its exports go to the European Union. It is hoped that diversifying STP’s exports will increase the number of its potential trading partners. To achieve this aim, STP is seeking membership with the World Trade Organization (WTO) and the Central African Economic and Monetary Community. Developing export markets could help STP benefit from economies of scale and overcome the restrictions of its geographical remoteness and high transport costs. However, STP will need help from multinational oil companies to exploit its oil reserves, and the government needs to improve transparency to ensure that oil revenues are used to support economic development.
  4. In STP, foreign aid accounts for 57 % of gross domestic product (GDP) and 93 % of public investments, including a significant portion of health and education spending. In addition, concessional loans have been provided by the IMF. However, STP had to agree to decrease the budget deficit as a condition of the loan from the IMF.
  5. There are some government officials who believe that aid will not solve the economic development challenges in STP. It did not meet the nutrition targets set by the Millennium Development Goals and continues to struggle with providing adequate clean water and nutritional intake for its population. Clean water is becoming scarce in STP due to business pollution and poor household sanitation, which is also spreading diseases. Other environmental concerns are climate change, deforestation and erosion of coastal areas due to the sand extracted for the construction of roads and buildings.

Question

Define the term relative poverty indicated in bold in the text (paragraph [2]).

▶️Answer/Explanation
An explanation that is a (comparative) measure of those who live below  certain income level/standard of a country. Normally measured as a percentage (often 50%/60%) of country’s median/average income.

Economic development in Honduras and Guatemala

Honduras

  1. Honduras is a developing country in Central America. While historically dependent on the export of primary products, Honduras has more recently diversified its exports to include clothing and automobile components. Honduras’ economy depends heavily on exports to the United States (US) and, to a lesser extent, on remittances (money sent by a foreign worker to their home country).
  2. In rural areas, approximately one out of five Hondurans lives in absolute poverty. The country is also vulnerable to external shocks and has experienced worsening terms of trade. Revenue earned by the agricultural sector has decreased by one-third over the past two decades. This is partially due to the declining prices of the country’s export crops, especially bananas and coffee beans.
  3. The Dominican Republic-Central America Free Trade Agreement (CAFTA-DR) has helped attract foreign direct investment (FDI). However, a threat to future FDI inflows is Honduras’ high level of crime and violence. It has one of the highest murder rates in the world.

    Guatemala

  4. Guatemala shares a border with Honduras. Guatemala has the largest population and the biggest economy in Central America. Guatemala is the top remittance recipient in Central America as a result of large numbers of Guatemalans living and working in the US. These inflows on the current account are equivalent to two-thirds of the country’s export revenue and about 10 % of its gross domestic product (GDP).
  5. The agricultural sector employs 31 % of Guatemala’s labour force. Key agricultural exports include sugar, coffee, bananas and vegetables. The CAFTA-DR has reduced the barriers to FDI, resulting in increased investment and diversification of exports, particularly in iron, steel and non-traditional agricultural exports (such as high-priced fruits and vegetables). While the free trade agreement has improved the conditions for investment, FDI continues to be limited by concerns over security, the lack of skilled workers and poor infrastructure.
  6. With some of the worst poverty, malnutrition and infant mortality rates in the region, Guatemala’s economic development is slowing. Those worst affected live in rural areas. Faster economic growth is crucial to achieving the country’s medium- and long-term poverty reduction objectives.

Question

Define the term absolute poverty indicated in bold in the text (paragraph [2]).

▶️Answer/Explanation
An explanation that it is when people live below a certain level of income that is necessary to meet basic needs.

Changing times for Vanuatu

  1. Vanuatu is an island nation in the west of the Pacific Ocean. The islands are isolated with 80 % of the population living in rural villages as subsistence farmers. In recent years, Vanuatu has experienced strong economic growth driven by tourism, construction and foreign aid. However, Vanuatu has a United Nations (UN) status as the world’s most vulnerable country to natural disasters, and this vulnerability is intensified through climate change. Furthermore, economic development in Vanuatu is constrained by lack of education, limited public sector capacity, poor infrastructure and low labour market participation rates of women and youth.

  2. Vanuatu currently faces growing income disparities between rural and urban areas. The poverty rate is currently at 3.8 % in the rural areas and 10.4 % in Port Vila, the capital city. Urbanization has led to large numbers of unskilled low-income workers concentrated in informal sectors in Port Vila. As a result, there is a shortage of housing, water and electricity services.

  3. The UN categorizes Vanuatu as a Least Developed Country, but it will be moving to the higher category of Developing Country by the end of 2020. This will mean that some special assistance such as access to development finance, trade and market access, and technology transfer will be slowly withdrawn. However, there will be benefits for Vanuatu as it will gain greater access to commercial lenders, foreign direct investment (FDI) and climate finance funds.

  4. To help with the transition to the new UN category, Australia and New Zealand are continuing aid projects to improve public sector capacity, increase economic participation of women and youth and improve access to electricity in Vanuatu. Moreover, Japan and China have significantly increased aid through grants and concessional loans. China is now the leading donor to Vanuatu.

  5. The Vanuatu government has targeted the development of human capital through education, healthcare and infrastructure. Most of the aid from China has been used to develop new airports and shipping ports. This infrastructure will further help producers to access export markets and gain economies of scale. However, government institutions need to be improved so that the benefits of export revenues are redistributed to those in need. Historically, the lack of good governance has led to misuse of funds.

  6. Economists believe the foreign aid spending could help attract FDI, which is important to help Vanuatu develop export markets in organic beef, sandalwood oil, tamanu oil and canarium nuts to provide areas for growth. Historically, growth was driven through import substitution by subsidizing manufacturing industries.

  7. Vanuatu is currently reforming the tax system to lower the reliance on indirect taxes and implementing a progressive tax system to increase government revenue. The increased tax revenue will also decrease Vanuatu’s dependence on foreign aid.

Question

Define the term human capital indicated in bold in the text (paragraph [5]).

▶️Answer/Explanation
An understanding that it is any of one of the following:
the
 
  • the skills, abilities
  • knowledge
  •  qualifications
  • experience
  • health

that

  •  influences productive capacity
  •  influences the level of factors of production/labour
  • contributes to personal/social/economic well-being
  • Is embodied in the labour (force of a country).

Changing times for Vanuatu

  1. Vanuatu is an island nation in the west of the Pacific Ocean. The islands are isolated with 80 % of the population living in rural villages as subsistence farmers. In recent years, Vanuatu has experienced strong economic growth driven by tourism, construction and foreign aid. However, Vanuatu has a United Nations (UN) status as the world’s most vulnerable country to natural disasters, and this vulnerability is intensified through climate change. Furthermore, economic development in Vanuatu is constrained by lack of education, limited public sector capacity, poor infrastructure and low labour market participation rates of women and youth.
  2. Vanuatu currently faces growing income disparities between rural and urban areas. The poverty rate is currently at 3.8 % in the rural areas and 10.4 % in Port Vila, the capital city. Urbanization has led to large numbers of unskilled low-income workers concentrated in informal sectors in Port Vila. As a result, there is a shortage of housing, water and electricity services.
  3. The UN categorizes Vanuatu as a Least Developed Country, but it will be moving to the higher category of Developing Country by the end of 2020. This will mean that some special assistance such as access to development finance, trade and market access, and technology transfer will be slowly withdrawn. However, there will be benefits for Vanuatu as it will gain greater access to commercial lenders, foreign direct investment (FDI) and climate finance funds.
  4. To help with the transition to the new UN category, Australia and New Zealand are continuing aid projects to improve public sector capacity, increase economic participation of women and youth and improve access to electricity in Vanuatu. Moreover, Japan and China have significantly increased aid through grants and concessional loans. China is now the leading donor to Vanuatu.
  5. The Vanuatu government has targeted the development of human capital through education, healthcare and infrastructure. Most of the aid from China has been used to develop new airports and shipping ports. This infrastructure will further help producers to access export markets and gain economies of scale. However, government institutions need to be improved so that the benefits of export revenues are redistributed to those in need. Historically, the lack of good governance has led to misuse of funds.
  6. Economists believe the foreign aid spending could help attract FDI, which is important to help Vanuatu develop export markets in organic beef, sandalwood oil, tamanu oil and canarium nuts to provide areas for growth. Historically, growth was driven through import substitution by subsidizing manufacturing industries.
  7. Vanuatu is currently reforming the tax system to lower the reliance on indirect taxes and implementing a progressive tax system to increase government revenue. The increased tax revenue will also decrease Vanuatu’s dependence on foreign aid.

Question

Using a Lorenz curve, explain how a progressive tax system could change Vanuatu’s income distribution (paragraph [7]).

▶️Answer/Explanation
For drawing a correctly labelled Lorenz curve diagram showing the Lorenz curve to be shifting closer to the diagonal
AND
for explaining that Vanuatu’s income distribution would become more equal/less income inequality
because low income earners will be paying less tax/high income earners paying more.

Text A — Overview of Tanzania

  1. Tanzania is one of Africa’s fastest growing economies with an average of 7% annual economic growth since 2000. It is a politically stable country, rich in wildlife and natural resources. However, the growth has been concentrated in urban manufacturing, using capital intensive production. The benefits from this growth have not reached all people and significant inequalities exist between urban and rural areas. Although the relative poverty rate has fallen over the last 15 years, the number of people living in absolute poverty has increased.

  2. Most people are employed in the slow-growing agricultural sector that relies on unskilled labour. Although incomes increased from 2008 to 2018, the demand for agricultural goods only increased by 21% during this time period. Over 70% of Tanzania’s population lives in rural areas, relying on subsistence farming with limited tradable crops. Only 30% of land is being used for agricultural production. With investment, the remaining unused land could be developed and generate income for farmers.

  3. The rural sector struggles to meet Tanzania’s food requirements due to low levels of skilled labour and productivity. Additionally, high youth unemployment leads to large numbers of unskilled rural youth migrating to the cities, often finding employment in the informal sector where wages and working conditions are poor. Insufficient investment and lack of government support for diversifying the agriculture sector have been blamed for the persistent inequalities and poverty.

  4. Tanzania’s cities have experienced a growing middle class with strong purchasing power and political influence who have placed demands on the government for cheaper electricity, better infrastructure, and more imported goods. In response, the government provided subsidies for electricity in city centres and tax benefits to foreign companies operating in Tanzania. There is concern that these measures may worsen inequality and lead to social unrest.

  5. The growth of Tanzania’s manufacturing and service sector was funded through aid and large government borrowing, resulting in high national debt. Most of the government borrowing was from foreign sources and in US dollars (US$), which is a concern due to a recent depreciation of the Tanzanian shilling (Tanzania’s currency) against the US$. Some of the debt was borrowed domestically and placed upward pressure on interest rates. Higher interest rates have resulted in crowding out but helped keep inflation under control.


Text B — Strategies and opportunities for Tanzania

  1. Previous governments have used interventionist supply-side policies to improve access to water, education, and health services. However, the health service improvements are not keeping up with population growth and many young people are still not completing secondary school. Infrastructure has improved, but it is still insufficient as producers in the rural sector find it difficult to reach markets and access supplies.

  2. Aid organizations are currently supporting new sustainable businesses in rural areas through training programmes, especially for women and young people, who make up most of the unemployed in rural areas. Economists have advised the government to improve access to credit through microfinance organizations and to simplify regulations to make it easier to start new businesses.

  3. The government is establishing property rights in rural areas to provide security for farmers. Historically, farmers could easily lose their land, which reduced their incentive to invest in productive farming methods. The government wants to develop Tanzania’s land resources and lower its reliance on imported food. To reduce food imports, a subsidy will be granted to dairy farmers to allow them to compete against imported dairy products.

  4. Tanzania is a member of the East African Community (EAC) customs union and common market. However, Tanzania needs to improve human capital and encourage diversification so that the benefits of regional integration can reach the poor. These policies can also help attract foreign direct investment (FDI). Opportunities for growth through trade will expand as the EAC works towards becoming a monetary union in 2024.


Text C — Oil pipeline to be constructed

Tanzania and Uganda plan to construct a major oil pipeline from Uganda through Tanzania, ending at a port in Tanzania. This will attract FDI which could help fund infrastructure and generate jobs. However, environmentalists are concerned about potential ecological damage due to the waste created during the construction of the pipeline. Economists have suggested the waste could be avoided through a circular economy approach in the planning and construction stage.

Question

Sketch a Lorenz curve diagram to show the change in Tanzania’s Gini coefficient from 2008 to 2018 (Table 2).

▶️Answer/Explanation
For sketching a correctly labelled Lorenz curve showing an outward shift away from the line of perfect/absolute equality
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