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QUESTION BANK FOR STUDENTS OF ECONOMICS
SESSION 2016-17
Unit-I :Introduction to Micro Economics
Q1. PPC is a straight line in case of :
a) rising marginal opportunity cost
b) falling marginal opportunity cost
c) constant marginal opportunity cost
d) none of these
Ans. 1 c) constant marginal opportunity cost
Q2. Concavity of PPC implies :
a) increasing slope
b) decreasing slope
c) constant slope
d) none of these
Ans.2 a ) increasing slope
Q3. When an economy is operating on the PPC, it indicates :
(a) potential output > actual output
(b) potential output = actual output
(c) potential output < actual output
(d) none of these
Ans. 3 b) potential output =actual output
Q4. Increase (growth) of resources implies that production possibility curve :
(a) shifts to the right
(b) shifts to the left
(c) rotates to the right
(d) none of these
Ans 4 a) shift to the right
Q5. Define economics. (1)
Ans 5 Economics is the study of the problem arising out of scarcity of resources at micro and macro levels in relation
to alternative uses of resources.
Q6. What is meant by an economic problem ? (1)
Ans. 6 Economics problem is regarded as a problem of choice due to unlimited wants and resources are limited with
alternative uses .
Q7. Give meaning of an economy . (1)
Ans. 7 An economy is a system in which and by which people get a living to satisfy their wants through the process of
production, consumption, exchange and investment .
Q8. Define micro economics. (1)
Ans. 8 Micro economics is that branch of economics which deals with economic issues at the level of an individual
like individual household and firms etc.
Q9. Define macro economics. (1)
Ans 9.Macro economics is that branch of economics which deals with behavior of the economy as whole i.e.
aggregate like inflation, unemployment etc.
Q10. What are economic agents ? (1)
Ans. 10 Economic agents are the producers household and the government who take economic decisions in the
economy.
Q11. State the two characteristics of resources. (1)
Ans. 11 Two characteristic of resources are -1. Resources are scarce in relation to our needs 2 Resources have
alternative uses.
Q12. Define opportunity cost . (1)
Ans.12 Opportunity cost refers to the value of a factor in its next best alternative use.
Q13. Why does an economic problem arise ?Explain .
(3)
Ans 13. An economic problem or problem of choice arise due to unlimited wants and resources are limited with
alternative uses . e.g.land, may be used in various purposes.
Q14. State two principal differences between micro economics and macro economics. (3)
Ans. 14
Micro economics
Macro economics
Micro economics deals with an individual units
Macro economics deals with aggregates
Allocation of resources to different uses is the
central issue in micro economics
Raising the level of output and growth is the
central issue in macro economics
Ex. Individual demand
Ex. Aggregate demand
Q15. Explain the problem of ‘What to produce’ . (3)
Ans 15. What to produce is the central problem of an economy which is related to choice of a commodity to
produce whether necessary or luxury. Or capital and consumer good with available resources. (Elaborate the
answer)
Q16. Explain the central problem of “How to produce” . (3)
Ans 16 How to produce is the problem of the choice of technique whether to use labour intensive or capital
intensive. (explanation with example)
Q17. With the help of suitable example, explain the problem of “for whom to produce” ?
(3)
Ans.17 For whom to produce is central problem of an economy which deals with factoral distribution of income and
personal distribution of goods and services to whole sections of society. The government desire to have more and
more resources allocated to the production of goods for poorer section of the society so that social welfare is
maximized and equity is promoted.
Q18. Why is a production possibility curve downward sloping ? Explain. (3)
Ans 18 The PPC curve is downward sloping from left to right because more of good X can be produce only with the
less of good Y in a situation when the given resources are assumed to be fully and efficiently utilized, using the given
technology.
Q19. Explain, giving reason , why production possibility curve is concave ? (3)
Ans. 19 PPC is concave to its origin because of increasing MOC = Loss of output of goods Y/ gain of goods X of shifting
resources from commodity Y to commodity X tends to rise.(explanation)
Q20. When can PPC be a straight line ? (3)
Ans.20 PPC is a straight line when MOC or MRTxy is constant (Explanation with schedule and diagram)
Q21. “Massive unemployment shifts the PPC to the left .” Defend or refute. (3)
Ans. 21 Defend : unemployment is related with less resources used in the economy. Which shifts the ppc to the left .
(explanation)
Q22. “Make in India” campaign would shift the PPC to the right .How ? (3)
Ans.22 Make in india shift the ppc to the right due to investment, employment will be increased in the economy
which result the high production.(explanation)
Q23. What is meant by production possibility curve ? Illustrate with the help of a table and diagram . (4)
Ans 23. Production possibility curve showing different possibilities of production of two goods in a given resources
and technology.
Goods X
Goods Y
MRTxy
0
10
-
1
9
1/1
2
7
2/1
3
4
3/1
4
0
4/1
Good x
Goods Y
Q24. Explain the concept of marginal opportunity cost with the help of an example. (4)
Ans 24 The marginal opportunity cost is the rate at which the quantity of output of a goods is sacrificed to produce
one more unit of the other goods.
Shirts (in millions)
Cars (in thousands)
MRTxy Or MOC
0
200
-
1
190
10:1=10
2
170
20:1=20
3
140
30:1=30
4
100
40:1=40
5
50
50:1=50
MOC when four million shirts are produced
140-100/4-3=40/1
So MOC = 40
Q25. Draw a production possibility curve and indicate the following situations on the diagram (6)
(a) Fuller and efficient utilization of resources
(b) Under utilization of resources and
(c) Growth of resources
Ans 25
y
Growth of resources
Goods Y
Under utilizationOf resources
Fuller utilization of resources
O
Goods X
x
CONSUMER’S EQUILIBRIUM
AND DEMAND
Q26. Marginal utility of a particular commodity at the point of saturation is :
(a) zero
(b) unity
(c) greater than unity
(d) less than unity
Ans. 26 - (A) Zero
Q27. A shift in budget line , when prices are constant , is due to :
(a) change in demand
(b) change in income
(c) change in preferences
(d) change in utility
Ans. 27 -(b) change in income
Q28. MRS is determined by :
(a) satisfaction level of the consumer
(b) income of the consumer
(c) tastes of the consumer
(d) preferences of the consumer
Ans . 28 -(a) satisfaction level of the consumer
Q29. If two goods are complementary then rise in the price of one results in :
(a) rise in demand for the other
(b) fall in demand for the other
(c) rise in demand for both
(d) none of these
Ans. 29 -(b) fall in demand for other
Q30. On all points of a rectangular hyperbola demand curve, elasticity of demand is :
(a) equal to unity
(b) zero
(c) greater than unity
(d) less than unity
Ans . 30 -(a) equal to unity
Q31. In case of Giffen ‘s paradox, the slope of demand curve is :
(a) negative
(b) positive
(c) parallel to X-axis
(d) parallel to Y-axis
Ans. 31 -(b) positive
Q32. Define utility. (1)
Ans .32 -The want satisfying power of a commodity is called utility.
Q33. What is meant by Consumer’s equilibrium ?
(1)
Ans. 33 -It is a situation in which a consumer gets maximum level of satisfaction.
Q34. What is law of diminishing marginal utility ?
(1)
Ans. 34 -MU declines with the consumption of every additional unit of commodity.
Q35. What is ordinal utility ? (1)
Ans. 35 -In this approach we can measure our level of satisfaction in terms of ranks.
Q36. Define indifference map. (1)
Ans. 36 -A set of indifference curve is known as indifference curve.
Q37. What does an indifference curve show ? (1)
Ans 37 – An indifference curve shows combination of two goods which give same level of
satisfaction to the consumer.
Q38. What is meant by monotonic preferences ? (1)
Ans 38- monotonic preference means that a rational consumer always prefer more of a
commodity as it offer him higher level of satisfaction .
Q39. Name two determinants of consumer’s demand for a commodity. (1)
Ans 39- (i) income of consumer
(ii) price of related goods
Q40. When is the demand for a good said to be inelastic ? (1)
Ans 40 – when %change in quantity demanded is less than % change in price.
Q41. When is demand called perfectly inelastic ? (1)
Ans 41- when there is no change in quantity demanded in response to change In price
Q42. What is meant by price elasticity of demand ? (1)
Ans 42 – it is the ratio between % change in quantity demanded and % change in price.
Q43. Explain the relationship between TU and MU with the help of a diagram . (3)
Ans 43 – (i) when MU is positive TU increases
(ii) when MU is zero TU is maximum
(iii) when MU is negative TU falls
Q44. Explain the three properties of indifference curves. (3)
Ans 44 – (i) IC never intersects with each other
(ii) IC never touches X or Y axis
(iii) higher IC shows higher level of satisfaction
Q45. What is budget set ? Explain what can lead to change in budget set ? (3)
Ans 45- it an attainable combinations of a set of two goods, given the prices of goods and
income of the consumer.
Change in income of consumer and change in price leads to change in budget
set.
Q46. Define a budget line. What can it shift to the right ? (3)
Ans 46- Budget line is the combination of two goods which the consumer can purchase two
goods by spending his entire income, given the price of two goods.
Budget line shifts to the rightWhen income of the consumer increases
When prices of both the goods decreases in same ratio
Q47. What is market demand for a good ? Name the factors determining market demand . (3)
Ans 47- Market demand is demand of a commodity by all the consumers at different price
levels.
Factors determining market demand are-number of consumers, income level, price of
related good, price of the commodity.
Q48. Explain the difference between an inferior good and a normal good. (3)
Ans 48- Normal goods are directly related to income whereas inferior goods are inversely
related to income.
Q49. A consumer spends Rs. 60 on a good priced at Rs. 5 per unit. When price falls by 20 percent , the
consumer continues to spend Rs. 60 on the good. Calculate price elasticity of demand by percentage method.
(3)
Ans 49- P
T.E
Q
5
60
12
4
60
15 (because price falls by 20%)
Ed=
% change in quantity demanded/ %change in price
25/20=1.25
Q50. When the price of a good rises from Rs. 10 to Rs. 12 per unit, its demand falls from 25 units to 20
units. What can you say about price elasticity of demand of the good through the “expenditure approach” .
(3)
Ans-50
P
QD
T.E
10
20
200
12
25
300
Ed<1 because there is direct relation between price and total expenditure.
Q51. Explain the concept of marginal rate of substitution with the help of a numerical example. (4)
Ans-51. MRS is the rate at which a consumer is willing to substitute good 1 for good 2. It is
estimated as change in good -2/change in good- 1 at any point on IC.
COMBINATIONS
X
Y
MRS
A
1
10
-
B
2
7
3Y:1X
C
3
5
2Y:1X
D
4
4
1Y:1X
Q52. Explain the distinction between “change in demand” and “change in quantity demanded”. (4)
Ans-52
Change in quantity demand
Change in demand
Movement along the curve
Shift in curve
Due to change in price and other
factors remains constant
Due to change in other factors like
income, taste and preference, price of
related good and price of the
commodity remains constant.
Extension and contraction
Increase and decrease
P
Q
P
Q
10
5
10
5
5
10
10
Diagram
10
Diagram
Q53. Explain the change in demand for a good on account of change in prices of related goods. (4)
Ans -53 we can expain it in two cases:
a) In case of substitute goods: there is direct relationship between price of substitute
goods and demand of other good.
b) In case of complementary goods: there is inverse relationship between price of
complementary goods and demand of other good.
Q54. What happens to the demand for a good when consumer’s income changes ? Explain. (4)
Ans -54 we can expain it in two cases:
a) In case of superior goods: there is direct relationship between income of consumer
and demand of good.
b) In case of inferior goods: there is inverse relationship between income of consumer
and demand of good.
Q55. How is price elasticity of demand measured with the help of the point method ? (4)
Ans-55. Ed= Lower segment of demand curve / Upper segment of demand curve
(related diagram and explanation)
Q56. Explain the relation between price elasticity of demand and total expenditure. (4)
Ans-56. We can explain it in three cases:
a) If there is direct relationship between price and total expenditure then Ed would
be less than one
b) If there is inverse relationship between price and total expenditure then Ed
would be more than one
c) If there is no change in total expenditure in response to change in price the Ed=1
Q57. How is price elasticity of demand affected by –
a. Number of substitutes available for the good.
(4)
b. Nature of the good
Ans-57. A)If number of substitutes are available for the good- then demand will be elastic
and vice versa.
B) In case of luxury goods demand will be elastic and in case of essential commodities
demand will be inelastic.
Q58. Explain the consumer’s equilibrium in case of a single commodity with the help of a utility schedule.
(6)
Ans- 58. Consumer is said to be in equilibrium when he or she will get maximum level of
satisfaction out of his limited income and he has no tendency to change in his existing
expenditure.
Conditions:
MUx/Px=Mum
Explaination with the help of schedule and diagram
Units
MUx
Px
MUm
1
3
1
1
2
2
1
1
3
1
1
1
4
0
1
1
According to schedule the consumer will e in equilibrium at third unit because at this point
MUx/Px=Mum(related diagram and explanation is also required.)
Q59. A consumer consumes only two goods. Explain consumer’s equilibrium with the help of utility
analysis. (6)
Ans-59. In order to get maximum level of satisfaction the consumer will spend his limited
income on two commodities in such a way so that MU derived from each commodity is
equal and is also equal to MUm.
Condition: MUx/Px= MUy/Py=Mum
Explaination with the help of schedule and diagram
Units
MUx
MUy
Px
Py
Mum
1
3
4
1
1
1
2
2
3
1
1
1
3
1
2
1
1
1
4
0
1
1
1
1
Consumer will be in equilibrium when he will consume three units of X and 4 units of Y
(related diagram and explanation is also required)
Q60. State the conditions of consumer’s equilibrium in the indifference curve analysis and
explain the rationale behind these conditions. (6)
Ans-60. In terms of IC analysis a consumer attains equilibrium when
Definition: In the indifference curve approach, consumer’s equilibrium is achieved at the
point at which the budget line is tangent to a particular indifference curve. This is the point
of maximum satisfaction.
a)MRS=Px/Py
b)IC is convex to the point of origin.
Diagram:
A
p
Good ‘y’
q
IC3
R
O
Good x
IC1 1IC2
B
X
Explanation of the diagram:
i) ‘AB’ is the budget line.
ii) It is sure that consumer’s equilibrium will lie on some point on ‘AB’
iii) Indifference map (set of IC1, IC2, IC3) shows consumers scale of preferences between different
combinations of good ‘x’ and good ‘y’
iv) Consumers’ equilibrium will achieve where budget line (AB) is tangent to the IC2.
Essential conditions for consumers equilibrium:
i) Budget line must be tangent to indifference curve i.e., MRS xy = Px / Py
ii) Indifference curve must be convex to the origin or MRS xy should decrease.
Consumers cannot achieve the following:
i) P and R points on budget line give satisfaction but they lie on lower indifference curve IC1.
Choosing point ‘q’ puts him on a higher IC which gives more satisfaction.
ii) He cannot move on IC3, as it is beyond his money income.
PRODUCER’S BEHAVIOUR AND SUPPLY
ONE MARK QUESTIONS:
Q1. Price elasticity of supply of a good if the supply curve passing through the origin is:(1) Equal to one
(2) less than one
(3) More than one
(4) zero
Ans1. Equal to One
Q2. In the second phase of production:(1) TP increases at a decreasing rate
(2) MP Falls
(3) AP Falls
(4) All of these
Ans2. All of these
Q3. The total cost at 5 units of output is Rs. 30. The fixed cost is Rs. 5. The average variable cost at 5 units
of output is1) Rs. 25
(2) Rs. 6
(3) Rs. 5
(4) Rs. 1
Ans3. Rs. 5
Q4. Government decided to increase excise duty on the production of a given good. What will be its impact
on the supply of a given good:(1) Supply curve of rice will shift towards left
(2) Supply curve of rice will shift towards right
(3) Supply curve of rice will remain the same
(4) There will be downward movement along the supply curve of rice
Ans4. Supply curve of rice will shift towards left
Q5. Price line is the same as:(1) Budget line
(2) firm’s demand curve
(3) Firm’s AR curve
(4) both (b) and (c)
Ans5. Both (b) and (c)
Q6. Point of Inflexion refers to that point from where:(1) Slope of TP changes
(2) TP stops increasing at an increasing rate
(3) TP is increasing at a constant rate
(4) TP is decreasing at a constant rate
Ans6. Slope of TP changes
Q7. When MP cuts AP at its highest point(1) MP>AP
(2) MP<AP
(3) MP=AP
(4) All of these
Ans7. MP=AP
Q8. In case of Break Even Point, a firm covers(1). Variable cost only
(2) average variable cost only
(3) Both fixed cost and variable cost
(4) none of these
Ans8. Both fixed cost and variable cost
Q9. Under Monopoly, MR can be negative only when(1) AR is increasing
(2) AR is decreasing
(3) AR is constant
(4) AR is zero
Ans9. AR is decreasing
Q10. Imposition of a unit tax shifts the supply curve:(1) To the right
(2) To the left
(3) To the right as well as to the left
(4) none of these
Ans10. To the left
QUESTIONS OF 3 MARKS:
Q11.Draw Average total cost, average variable cost and marginal cost curves in a single diagram. Also
explain the relationship between ATC and AVC?
Ans11. Both ATC and AVC initially decreases due to increasing returns to scale and productivity is high
but gradually the productivity declines and decreasing returns to scale start operating so both ATC and AVC
increases.(Refer to the text book for Diagram)
Q12.A producer borrows money and opens a shop. The shop premises is owned by him. Identify the implicit
and explicit cost by this information?
Ans12. The shop premises is owned by producer – Implicit cost. Implicit cost is the expenditure on the use
of self – owned inputs.
Borrowing money for opening a shop - Explicit cost. Expenditure incurred by the producer on the purchase
of inputs from the market is called explicit cost.
Q13. What is the relationship between marginal revenue and average revenue under perfect competition and
monopoly?
Ans13. Under perfect competition – Price is constant implying AR is constant, then MR should also be
constant. (AR being equal to MR)
Under Monopoly – When AR is decreasing, MR should also be decreasing faster than AR. Downward
sloping MR curve is below the downward sloping AR curve. Accordingly MR< AR.
Q14. Explain the significance of ‘Minus sign’ attached to the measure of price elasticity of Demand of a
normal good in comparison to the ‘Plus sign ‘attached to the measure of price elasticity of supply?
Ans14. Owing to inverse relationship between price and quantity demanded, elasticity of demand ought to
be negative. We prefix (-) sign to the formula of elasticity of demand.
Owing to positive relationship between price and quantity supplied, elasticity of supply ought to be positive.
We prefix (+) sign to the formula of elasticity of supply.
Q15. Define Average revenue? Show that average revenue and price are same?
Ans15. Average Revenue – It refers to revenue per unit of output.
AR = TR / Q
We also know that TR = P * Q, P = Price Q = Quantity or Output sold.
Relating the two equations, we can write –
AR = P *Q / Q = P
Thus it is proved that AR = Price.
Q16.Do you agree that TP must decrease in a situation of diminishing returns.
Ans16. No. TP should not be decreasing in a situation of diminishing returns. In a situation of diminishing
returns, MP decreases. It means less and less units of output are added to TP. Nevertheless, TP must be
rising. TP decreases only in a situation of negative returns.
Q17.Complete the following table:
PRICE
OUTPUT UNITS
TOTAL REVENUE
MARGINAL
REVENUE
--------
1
_____
5
4
-----
8
____
---------
3
______
1
2
-----
8
_____
Ans17.
PRICE
OUTPUT UNITS
TOTAL REVENUE
MARGINAL
REVENUE
5
1
5
5
4
2
8
3
3
3
9
1
2
4
8
-1
QUESTIONS OF 4 MARKS:
Q18. ‘Supply curve is the rising portion of marginal cost curve over and above the minimum of average
variable cost curve’. Do you agree? Support your answer with valid reason.
Ans18. In the short run, a firm may suffer losses. But in any case, it must cover its variable cost. So that,
during the short period, a firm will undertake production only if TR = TVC or AR = AVC. This reveals an
important fact that short period supply curve of the firm starts from its shut down point, the point where P =
AVC. Starting from this point, the firm‘s short run supply curve would be the same as its MC curve.
Q19.Why is the short run marginal cost curve U shaped?
Ans19. MC is U – shaped in accordance with the law of variable proportions. Initially, MC is falling. It is
because MP tends to rise when there are increasing returns to a factor. Subsequently, MC tends to rise. It is
because MP tends to fall when there are diminishing returns to a factor. MC is the reciprocal of MP.
Q20. What causes a downward movement along a supply curve of a commodity?
Ans20. Downward movement along a supply curve of a commodity is also known as contraction of supply.
It occurs when quantity supplied of a commodity decreases due to decrease in own price of the commodity.
Price of commodity – X
Quantity Supplied of X (units)
5
100
3
50
(Diagram from the text book.)
Q21. State the difference between Returns to a factor and Returns to a scale?
RETURNS TO A FACTOR
RETURNS TO A SCALE
1. It relates to short run production function.
1. It relates to long run production function..
2. In this only one factor is variable; labour.
2. In this all the factors are variable.
3. There are three stages-
3. There are three returns to scale –
(a) Increasing returns to a factor
(a) Increasing returns to scale
(b) Diminishing returns to a factor
(b) Constant returns to scale
(c) Negative returns to a factor
(c) Diminishing returns to scale
Q22.Explain why will a producer not be in equilibrium if the conditions of equilibrium are not met?
Ans22. Rationale of the conditions of Producer’s Equilibrium –
Condition 1 – MR = MC In case MR and MC are not equal, it would mean there is a scope for the firm to
increase the difference between TR and TC. Implying that there is a scope to increase profits.
Condition 2 – At the point of Equilibrium , MC should be rising.
If MC is not rising, but falling at the point of equilibrium , the firm should be enjoying increasing returns to
a factor. Stopping output when returns are rising would amount to foregoing the profits which the firm can
earn by increasing the output. It is a standard knowledge that the firm maximizes its profit not in a situation
increasing returns, but in a situation of diminishing returns.
Q23.From the following information about a firm, find the firm’s equilibrium output in terms of Marginal
cost and Marginal revenue. Give reason. Also find profit at this output.
OUTPUT UNITS
TOTAL REVENUE
TOTAL COST
1
7
8
2
14
15
3
21
21
4
28
28
5
35
36
Ans23.
Output units
Total revenue
Total cost
Marginal revenue
Marginal cost
1
7
8
7
8
2
14
15
7
7
3
21
21
7
6
4
28
28
7
7
5
35
36
7
8
The equilibrium will be set at 4th unit of output where MC=MR and after that MC is rising. So both the
conditions of producer’s equilibrium are met.
Q24. When the price of a good rises from Rs.20 per unit to Rs. 30 per unit, the revenue of the firm
producing this good rises from Rs. 100 to Rs. 300. Calculate the price elasticity of supply.
Ans. ∆P = P1 – P =10
When price = 20, total revenue = (P * Q) = 100
Quantity supplied = 100/ 20 = 5 units
When price = 30, total revenue = 300
Quantity supplied = 300/30 = 10 units
∆Q = 10-5 = 5 units
Es= ∆Q/∆P * P/Q
= 2 Ans.
QUESTIONS OF 6 MARKS
Q25.What is Producer’s equilibrium? Explain the conditions of producer’s equilibrium through the
‘marginal cost and marginal revenue’ approach. Use Diagram.
Ans25. Producer Equilibrium- It refers to a situation of profit maximization. Any other level of output will
yield lower profit.
A producer strikes his equilibrium when two conditions are satisfiedCondition 1 – MR = MC In case MR and MC are not equal, it would mean there is a scope for the firm to
increase the difference between TR and TC. Implying that there is a scope to increase profits.
Condition 2 – At the point of equilibrium , MC should be rising.
If MC is not rising, but falling at the point of equilibrium, the firm should be enjoying increasing returns to a
factor. Stopping output when returns are rising would amount to foregoing the profits which the firm can
earn by increasing the output. It is a standard knowledge that the firm maximizes its profit not in a situation
increasing returns, but in a situation of diminishing returns.
(Dig. from textbook)
Q26. Explain the distinction between “Change in Quantity supplied” and “change in supply”. Use diagram.
Ans26.
Change in Quantity Supplied
1. It is also known as movement along the
supply curve.
Change in Supply
1. It is also known as shift in supply curve
2. It occurs due to change in Price
2. It occurs due to change in other factors such
as technological change, change in factor
prices, No. of firms, goal of firms etc
3. In this other factors remain constant.
3. In this price remains constant
4. In this extension and contraction of supply
occurs.
4. In this increase and decrease in supply
occurs.
(Refer to textbook for diagrams)
Q27. State whether the following statements are true or false. Give reason for your answer:(a). When total revenue is constant, average revenue will also be constant
(b). Average variable cost can fall even when marginal cost is rising.
(c). when marginal product falls, average product will also fall.
Ans27 (a) false because when TR is constant, AR will fall as output increases
(b) True, provided MC‹AVC.
(c) False because AP falls only when MP‹ AP. AP falls not because MP falls but because
MP‹ AP.
Q28. From the following data on the cost of production of a firm calculate TFC, AFC, TVC, AVC and MC
OUTPUT(kg) 0
1
2
3
4
5
6
TC (Rs)
80
110
111
116
130
150
60
OUTPUT TC
TFC
AFC
TVC
AVC
MC
0
60
60
-
-
-
-
1
80
60
60
20
20
20
2
110
60
30
50
25
30
3
111
60
20
51
17
1
4
116
60
15
56
14
5
5
130
60
12
70
14
14
6
150
60
10
90
15
20
Q29. Explain with the help of a diagram the effect of the following on the supply of a Good:
(1) Imposition of a unit tax
(2) Increase in the number of firms
29. (a). Imposition of a unit tax- Unit tax is a tax on production of goods. It raises the cost of production.
Accordingly, a producer is willing to sell less at the existing price. This is a situation of decrease in supply
or backward shift in supply.(dig. needed)
(b). Increase in the number of firms- It will lead to the increase in supply as the increase in the number of
firms will lead to the increase in production or output.(dig. needed)
Q 30.What does the Law of Variable Proportions show? State the behavior of marginal product according to
this law?
Ans30. The law of variable proportions states that as we increase quantity of only one input keeping other
total product initially increases at an increasing rate, then at a decreasing rate and finally decreases.
Inputs fixed,
Assumptions of the Law:
(i) The state of technology is assumed be given and unchanged.
(ii)The law specially operates in the short run because some factors are fixed and the proportion between
factors is disturbed.
(iii)Variable factor units are homogeneous or identical in amount and quality.
(IV) The law is based on the possibility of varying the proportions in which the various factors can be
combined to produce a product.
Explanation of the law:
The law can be explained with help of a table. The behaviour of output as a result of change in the
proportion of variable factors to the fixed factor can be studied through three stages. The table given below
explains the short run production function of a firm:
Fixed factor
( Land in acres)
Variable factor
(Labour)
TP
MP
(Units)
(Units)
Phases
1
1
10
10
MP rises
1
2
30
20
Increasing
returns
1
3
45
15
MP falls
1
4
52
7
Diminishing
returns
1
5
52
0
1. Miss
Kiran
Bhatt
MP becomes
negative.
2. Miss
EktaSax
ena
1
6
48
-4
Negative returns
Gupta
(Refer
to
textboo
k for
dig)
GROU
P
MEMB
ERS:
3. Miss
Shalvi
4
Forms of Market and Price Determination Under Perfect
Competition
Q.1 Under perfect competition, demand curve of a firm is …….
a) Positively sloped b) Negatively sloped c) Horizontal d) Vertical
Ans. (C) Horizontal
Q.2 The average revenue curve under the perfect competition market is parallel to X-axis. It
is so because ………..
a) There are many buyers and sellers in the market
b) A Perfectly competitive can sell any quantity at given price
c) There is a homogeneous product in the market
d) There is free entry in the market
Ans. b) A Perfectly competitive can sell any quantity at given price
Q. 3 At the market equilibrium, there is …………
a) No excess demand b) no excess supply c) Supply equals to demand d) all of these.
Ans. c) Supply equals to demand
Q.4 Anincreased in income of buyers results in a higher equilibrium price and quantity when
the good is ………
a) Normal good. B) Inferior good c) a necessity good d) all of these.
Ans. a) Normal good.
Q.5 If both supply and demand increases by the same proportion ………..
a) Price remains constant b) quantity remains constant
c) price increases
d) quantity increases.
Ans. a) Price remains constant
Q.6 If the influence of a individual seller on the market price is zero, the state of market
is…..
a) perfect competition b) Monopoly c) Monopolistic d) Oligopoly
Ans. a) perfect competition
Q.7 Which of the following will cause a fall in equilibrium the price of good X, A normal
good ?
a) rise in income of its buyers b) Rise in price of the other goods
c) Subsidy on production
d) Rise in price of its substitutes good Y.
Ans.c) Subsidy on production
Q.8 Which are the following is the effect of price ceiling?
a) Hoarding b) Black marketing c) Rationing d) all of these
Ans. d) all of these
Q.9 If the demand curve of s good shifts rightward and supply curve shifts leftward, what
will be the effect on the equilibrium quantity?
a) Equilibrium Quantity increases
b) Equilibrium Quantity decreases
c) Equilibrium Quantity remains unchanged d) Equilibrium Quantity increases, decreases,
remains unchanged.
Ans. d) Equilibrium Quantity increases, decreases, remains unchanged.
Q.10 If in an oligopoly market, firms compete with each other in determining price and
output, it is calleda) perfect oligopoly b) imperfect oligopoly c) Collusive oligopoly d) Non-Collusive
oligopoly
Ans. d) Non-Collusive oligopoly
( Short answer type questions, 3 Marks)
Q.11 Why is the demand curve of a firm under monopolistic competition more elastic than
monopoly?
Ans. The demand curve of a monopolistic competitive likely to be more elastic because the
products produced by the monopolistic firms are closed substitutes to each other.
Consequently, elasticity of demand is high. In the monopoly there is no close substitutes of
products are available in the market.
Q.12 Firms demand curve is indeterminate under oligopoly. Explain
Ans. It is difficult to determine the firm’s demand curve in oligopoly because one can’t
predict the change in demand. When a firm lowers its price, demand for its product may not
increase as the rival firms may also decrease price of its product. Hence, demand curve under
oligopoly market can’t be determined.
Q.13 explain any two sources of restricted entry under monopoly.
Ans. i) Government licensing – The government may give license to aparticular firm for the
production of particular commodity
ii) Patent rights- New products may secure patent rights, which give rise to monopoly.
Q,14 Explain the concepts of buffer stock as a tool of price floor.
Ans. Buffer stock is stock maintained by government purchased at minimum support price. It
is excess supply in the market due to price floor which is remained unsold in the market .to
protect and promote the interest of producers government purchase it.
Q.15 Explain any three features of monopolistic competition.
Ans. 1. Large number of buyers and sellers
2. Product differentiation
3. Free entry and exit of firms
(Explain)
Q.16 Explain the implication of freedom of entry and exit to the firms under perfect
competition.
Ans. Its implication is that under perfect competition firms earn only normal profit in the
long run. This is because if the firm earns abnormal profit, then some new firms will enter in
the market which cause increase in supply and decrease in price finally which will result in
elimination of abnormal profit from the market. In case of abnormal losses few firms will
leave the market and total supply of the market decreases and finally abnormal losses will be
wiped out from the market.
Q.17 why is a firm under perfect competition is a price taker?
Ans. A firm under perfect competition is a price taker because of the following reasons-
i)
ii)
iii)
Large number of buyers and sellers
Homogeneous product
Perfect knowledge.(explain)
(Short Answer Questions, 4 Marks)
Q.18 Explain ‘Black marketing’ is a direct consequence of price ceiling.
Ans. black marketing is a situation in which the controlled commodity is sold at a price
higher than the price fixed by the government illegally. When maximum price of a
commodity is fixed by the government and people are ready to buy this commodity at higher
price which lead to black marketing.
Q.19 Monopoly firm can make abnormal profit in the long run, but not a firm under
monopolistic competition. Why?
Ans. A monopolist has full control over price and supply of its product. He can make more
profit by change in its supply and market price. In the monopolistic competition firms have
only partial control over the price and supply which allows only normal profit in the long
run.
Q.20 Write your opinion on the cartel in an oligopoly market structure.
Ans. Cartel is an agreement among the oligopoly firms to take collective decisions on price
and output. It is formed to avoid price competition in the market.
Q.21 Explain the economic value of support price policy in India.
Ans. Support price is that price which is determined by the government to protect and
promote the interest of producers. It is determined above the market price so that producers
can get good prices of their products. Which lead to economic welfare of the producers.
Q.22What is minimum price ceiling? Explain its implications.
Ans. Minimum price ceiling is also known as price floor, Which is the minimum price fixed
by the government for a commodity in the market to protect the interest of the producers. Its
implications are that producers get good price of their product and motivate to produce more
as assured by the government to purchase surplus product in the market at minimum support
price.
Q.23 Why a monopolistic firm has partial control on the price of its goods? Why it doesn’t
have full control?
Ans. Under monopolistic competition firms produce differentiated product which are close
substitute of each other. Which allow only partial control on price. If a firm reduces its price
the competitive firm will also reduce its price. Hence monopolistic firms has no full control
on its price.
QUESTIONS OF 6 MARKS
Q24. Giving reasons state whether the following statements are true or false:
(a) A monopolist can sell any quantity he likes at a price
(b) When equilibrium price of a good is less than its market price, there will be competition
among the sellers
Ans. a) False, A monopolist cannot sell any quantity he likes at a price because to increase
the sale of his product he has to reduce the price. Because he has to face the demand curve of
a consumer.
b) True, because this is the situation of excess supply in the market. Which causes
competition
among the sellers to sell their product in the market.
Q25. Explain the implications of the following:
(a) Large numbers of buyers and sellers under perfect competition
(b) Interdependence of firms under oligopoly
Ans. a) There are large number of buyers and sellers in the perfect competition. Its
implication is that an individual buyer and seller are not able to influence the market price
because demand of an individual buyer is nominal part of market demand and supply of an
individual buyer is nominal part of market supply which causes uniformity of the price in the
market.
b) There are few large firms in the oligopoly market. Price and output policy of a firm has a
significant impact on the price and output policy of rival firm. When one firm lowers its
price, the rival firm may also lowers the price. When one firm raises the price, the rival firm
may not do it. Accordingly, while taking an action on price or output, a firm must take into
account the possible reaction of the rival firm in the market.
Q26. Market for a good is in equilibrium. There is an ‘increase in demand’ for this good.
Explain the chain of effects of this change. Use diagram
Ans. Increase in demand for a commodity results in rightward shift in demand curve. Which
creates situation of excess demand and now there is competition among the buyers in the
market. It result in increase in price which further result in contraction in demand and
extension in supply. This process continue till new equilibrium is established.
(Diagram)
Q27. Equilibrium price of essential medicines is too high .Explain what possible steps can be
taken to bring down the equilibrium price but only through market forces? Explain the chain
of effect that will occur.
Ans. To bring down the equilibrium price of essential medicines need to increase the market
supply by reducing taxes and providing subsidy to producers. Both the steps will increase
market supply and decrease in the price. Which will increase the competition among sellers.
It will decrease the market price and causes extension in demand and contraction in supply
till equilibrium is established at lower price
( Diagram)
Q28. Distinguish between cooperative and non cooperative oligopoly. Also explain the
implication of non price competition in an oligopoly market?
Ans. Cooperative oligopoly-: It is a form of oligopoly market in which firms form a cartel
and take collective decision about price and output in the market. There is no price war
among firms.
Non cooperative oligopoly-: It is a form of oligopoly in which firms compete each other
through price war. Each firm wants to capture a big market share by pursuing its rival firm’s
policy. There is cut- throat competition among the firms.
Non Price Competition in the Oligopoly-:
In the oligopoly market firms use different market strategies to increase its sale such
as discount, advertisement, offers etc. all these strategies are non- price competitive.
Q29. Explain the term market equilibrium. Explain the series of changes that will take place
if market price is higher than the equilibrium price.
Ans. Market equilibrium is a situation when market demand for a commodity is equal to its
market supply.
When market price is higher than the equilibrium price, there will be the situation of excess
supply in the market. Which cause competition among the sellers to sell their product by
lowering their price. It will result in decrease in price till the time equilibrium is established.
(Diagram)
Q30.Suppose the demand and supply curves of a commodity-X are given by the following
two equations simultaneously:
Qd =200- p
Qs =50+ 2p
(i) Find the equilibrium price and equilibrium quantity.
(ii) Suppose that the price of a factor of production producing the commodity has changed,
resulting in the new supply curve given by the equation:
Qs= 80+2p
Analyze the new equilibrium price and new equilibrium quantity as against the original
equilibrium price and equilibrium quantity.
Ans. (i) At the equilibrium Qd = Qs
200-p = 50+2p
3p = 150
P= 50
Qd= 200-p
( p=50)
Qd= 200-50 = 150
Equilibrium quantity = 150
(ii) Now Qs= 80+2p
So New equilibrium is at Qd= Qs
200-p = 80+2p
3p = 120
P= 40
Qd= 200-p
(p=40)
Qd= 200-40=160
New equilibrium price is 40. Quantity is 160.
NATIONAL INCOME AND RELATED AGGREGATES
ANS.1: Factor payment is the reward made on rendering the factor services & Transfer
payment is the payment made on without rendering the factor services.
ANS.2. old age pension = not included in National Income
Retirement pension = included in National Income.
ANS.3. Mixed income is the income generated by self employed services.
ANS.4. It is the method refers to sum total of expenditure made on all final goods and
services in an economy during an accounting year.
ANS.5 a) GDP=NDP+DEPRICIATION
b)GDPmp=GDPfc+NIT
c)GDP=GNP-NFIFA
d)NDI=NNPmp+NCTROW
e)NDPfc accruing to pvt. Sec.=NDPfc-NDPfc accruing to govt. sec.
f) Private Income= NDPfc accruing to pvt.Sec+NFIA+National debt interest +Current transfer
from govt+NCTROW
g) Personal Income=Private income-corporate tax-undistributed profit
h) Personal Disposable Income=personal income -personal direct taxes-misc.receipts of
govt.
i) Nominal GDP=Real GDP * GDP DEFLATOR/100
J) GDP DEFLATOR=NOMINAL GDP*100/REAL GDP
ANS 6.-GNPmp=NNPfc+DEP+NIT(IT-SUBSIDY)
GNPmp=100+10+15-5=Rs.120
ANS 7. COE=GDPfc-OS-MI-CFC
COE=24760-13450-4260-530=6520
ANS 8. NDPmp=GNPfc-DEP-NFIA+NIT
NDPmp=5000-600-(-200)+(250-300)=Rs4550
ANS 9. i. Green GNP measures national income or Output adjusted for the depletion of
natural resources and degradation of the environment.
ii. It will help to attain a sustainable use of natural environment and equitable distribution
of benefits of development. A large number signifies greater Sustainability
Ans:10- NFIA = FIFA – FITA
Where, FIFA = Factor income from abroad.
FITA = Factor income to abroad.
Components of Net factor income from abroad :I)
II)
NET COMPENSATION OF EMPLOYEES FROM ABROAD
NET INCOME FROM PROPERTY & ENTREPRENEURSHIP (OTHER THANretained
earnings of resident companies of abroad)
III)
NET RETAINED EARNING OF COMPANIES FROM ABROAD
Ans:11Counting the value of commodities at every stage of production more than one time
is called double counting.
EXAMPLE: When flour is sold to bakery , while calculating the income the value of both
flour & bread added in income that creates the problem of double counting.
Ans.12 Compensation of employees: i- WAGES AND SALARIES IN CASH
II- WAGES AND SALARIES IN KIND III- SOCIAL SECURITIES CONTRIBUTION BY EMPLOYERS
IV- PENSION ON RETIREMENT
Ans.13. OPERATING SURPLUS = RENT + INTEREST + ROYALTY + PROFIT
(DIVIDEND+CORPORATION TAX+UNDISTRIBUTED PROFIT)
Ans 14. VALUE ADDED BY FIRM A= a-b
VALUE ADDED BY FIRM A=4000-1000=Rs.3000crores
VALUE ADDED BY FIRM B=d-e
VALUE ADDED BY FIRM B=2940-1300=Rs1640crores
Ans.15. Resident (normal resident):Normal resident is a person or an institution who ordinarily resides in that country and
whose centre of economic interest lies in that country.
(The Centre of economic interest implies :-( 1) the resident lives or is located within the
economic territory. (2) The resident carries out the basic economic activities of earnings,
spending and accumulation from that location 3. His centre of interest lies in that country.
Ans.16.Concept of domestic (economic) territory
Domestic territory is a geographical territory administered by a government within which
persons, goods and capital circulate freely. (Areas of operation generating domestic
income, freedom of circulation of persons, goods and capital)
Scope identified as
*Political frontiers including territorial waters and air space.
*Embassies, consulates, military bases etc. located abroad but including those locates
within the political frontiers.
*Ships, aircrafts etc., operated by the residents between two or more countries.
*Fishing vessels, oil and natural gas rigs etc. operated by the residents in the international
waters or other areas over which the country enjoys the exclusive rights or jurisdiction.
Ans. 17. GDP as an index of welfare of a country
1) The national income figures give no indications of the population, skill and resources of
the country. A country may be having high national income but it may be consumed by the
increasing population, so that the level of people‘s wellbeing or welfare standard of living
remains low.
2) High N. I may be due to greater area of the country or due to the concentration of some
resources in out particular country.
3) National income does not consider the level of prices of the country. People may be
having income but may not be able to enjoy high standard of living due to high prices.
4) High N. I may be due to the large contribution made by a few industrialists 5) Level of
unemployment is not taken into account.
6) National income does not care to reduce ecological degradation. Due to excess of
economic activity which leads to ecological degradation reduces the welfare of the people.
Hence GNP and economic welfare are not positively related. Income in GNP does not bring
about increase in economic welfare.
Ans.18.Circular flow in a two sector economy.
There are only two sectors namely Firms and households. Households provide factor
services to the firms and firms hire factor services from the households. Household spend
their entire income on consumption of goods and services and firms sell their entire goods
to the households.
There are two types of market in this economy: Factor market - for Factors of
Production and Product market for goods and Services.
FACTOR SERVICES
FACTOR PAYMENTS
HOUSEHOLD
SECTOR
BUSINESS
SECTOR
EXPENDITURE ON GOODS &SERVICES
GOODS & SERVICES
ANS.19. a) Identification and classification of producing units into different sectors like
primary, secondary and tertiary sectors.
b) Estimate value of output by sales + change in stock
c) Estimate gross value added by value of output – intermediate consumption
Estimate the net value added at the factor cost of each sector
d)
e) Add net value added at factor cost of all the three sectors to arrive at net value added
at factor cost.(NDP at fc)
f) Add net factor income received from abroad to NDP Fc to obtain NNP FC which is
national income
ANS.20.Counting the value of commodities at every stage of production more than one
time is called double counting.
It can be avoided by
a) taking value added method in the calculation of the national income.
b) By taking the value of final commodity only while calculating N.I
ANS.21. A) CONSUMPTION EXPENDITURE=
1. PRIVATE FINAL CONSUMPTION EXPENDITURE It refers to the expenditure on final goods and services by the individual’s households, and
non-profitable private institutions serving society for Example help age.
2. GOVERNMENT FINAL CONSUMPTION EXPEDITURE:- It refers to expenditure on final
goods and services by the Government. for example expenditure on the purchase of goods
for consumption by the defense personnel.
B) INVESTMENT EXPENDITURE = It refers to expenditure on the purchase of final goods by
the producers. These goods are to be further used as they are under the process of
production. For example Expenditure by the farmers on the purchase of tractors.
1. Fixed investment: fixed investment refers to expenditure by the producers
purchase of fixed assets like plant and machinery.
on the
2. Inventory investment: it is measured as the difference between closing stock of the year
and the opening stock of the year .
ANS.22.Precautions while using expenditure methodNot included- expenditure on purchase of second hand goods, purchase of shares, transfer
payment, purchase of intermediate goods
Included- expenditure on Final goods, Imputed rent, payment of commission on sale and
purchase of second hand goods and shares, production for self consumption
a) Avoid double counting of expenditure by not including expenditure on intermediate
product
b) Transfer expenditure not to be included
c) Expenditure on purchase of second hand goods not to be included.
ANS.23. Circular flow in a FOUR sector economy
GOVERNMENT SECTOR
TAXES
TRANSFER
PAYMENT
INDIRECT
TAXES
FA
HOUSEHOLD
SECTOR
EX
CT
PE
OR
ND
&ITU
RE
TR
ON
AN
GO
SFE
OD
RS
&S
PA
ER
YM
VIC
EN
ES
TS
SUBSIDY
BUSINESS SECTOR
EXPENDITURE ON GOODS &SERVICES
FACTOR PAYMENTS
EXTERNAL SECTOR
ANS.24. NATIONAL INCOME (NNPfc)=a+e+f+g
I
M
P
O
R
T
P
A
Y
M
E
N
T
EX
PO
RT
PA
Y
M
EN
T
NNPfc=13300+5000+16100+300
=Rs.34700 crores
ANS.25. GNPfc=h+c+a+f+(b-e)+g+j-d
GNPfc=1500+200+350+50+ (100-60) + (-10) + (-30)-40
=Rs.2060crores
ANS.26. a) Avoid double counting of production, take only value added by each production
unit.
b) The output produced for self-consumption to be included
c) The sale & purchase of second hand goods should not be included.
intermediate consumption should not be included
d) Value of
e) The value of services rendered in sales must be included.
EXAMPLES:Not included- value of second hand goods, sale of shares, transfer payment,
value of intermediate goods
Included- Final goods, Imputed rent, commission earned on sale and purchase of second
hand goods and shares, production for self-consumption
ANS.27.1. Transfer payment should not be included as they are not against any productive
activity.
2. Income through illegal activities like smuggling, black marketing gambling etc is not
included.
3. Income from the sale of second hand goods or capital gains- Not Included in national
income
4. Free services provided by owners of the production units to be Included in national
income.
5. Wind fall gains such as income from lotteries not to be included.
Ans.28. GDPmp=C+I+G+(X-M)
GDPmp=300+100+(50+25)+(-10)
=Rs465crores
NDPfc=GDPmp-Dep-NIT
NDPfc=465-20-80
=Rs365crores
ANS.29.
a) Included in N.I.as it is private final consumption expenditure.
b) Included in N.I. as it is a part of factor income.
c) Not included in N.I. as it is transfer income.
d) Not included in N.I. as it is transfer income.
e) Not included in N.I. as it is transfer income.
f) Included in N.I. as it is a part of factor income.
g) Included in N.I. as it is a part of factor income.
h) Included in N.I. as it is a part of factor income.
i) Not included in N.I. as it is intermediate expenditure.
j) Included in N.I. as it is investment expenditure.
k) Included in N.I. as profit earned by Indian bank.
l) Not included in N.I. as loan is given for consumption purpose.
ANS.30. VALUE ADDED BY FIRM A
(i)
Value of OUTPUT =Sales + change in stock
=500+20
=520
GVAmp
=value of output-intermediate consumption
=520-320
=Rs200 crore
Value added by firm B
Value of output =Sales +change in stock
=320+ (40-30)
=330
GVAmp = value of output-intermediate consumption
=330-200
=130 crore.
GDPmp OR GVAmp= VALUE ADDED BY FIRM A + Value added by firm B
= 200+130
=330 crore
MONEY AND BANKING
1. If an economy is to control recession like most of the Euro-Zone nations, which of the
following can be appropriate:
(1)
a) Reducing Repo Rate
c) Both (i) and (ii)
b) Reducing CRR
d) None of (i) and (ii)
Ans. 1 both one and two
2. Which of the following agency is responsible for issuing 1 currency note in India? (1)
a) Reserve Bank of India.
c) Ministry of finance
b) Ministry of Commerce
d) NitiAayog
Ans.2 Ministry of finance
3. Who regulates money supply? (Choose the correct alternative) (1)
a) Government of India
c) Reserve Bank of India
b) Commercial Banks
d) Planning Commission
Ans. 3 RBI
4. Which of the following is not a function of money? (Choose the correct alternative) (1)
a) Medium of exchange
c) Price stability
b) Store of value
d) Unit of account
Ans. 4 Price stability
5. High power money consists of: (1)
a.
b.
c.
d.
Currency and coins held by public
Currency, Cash reserves with banks and demand deposits
Currency held by public and cash reserve with banks
Currency and demand deposits
Ans.5 Currency and Demand Deposits
6. State the components of money supply.
(1)
Ans.6 components of money supply CU+DD+OD
7. What are demand deposits?
(1)
Ans.7 Demand Deposits are those deposits which can be withdrawn from the bank on demand or by writing a
cheque any time.
8. State any two functions of money.
(1)
Ans. 8 a)Medium of exchange b) Measure of value
9. Why are UTI and LIC not termed as bank?
(1)
Ans.9 LIC and UTI are financial institution but not a banking institute because they donot accept deposits from the
people and offers loans to the people.
10. What is meant by cash reserve ratio?
(1)
Ans 10 CRR refers to the legally required cash reserve of the commercial banks with the central bank as a percentage
of their total deposits.
11. What is barter system? What are its drawbacks?
(3)
Ans 11 Barter system is system where goods are exchanged for goods.
it has the following drawbacks 1. Both sell and purchase should occur simultaneously implying double coincidence
of wants. 2. Problem of measurement of value 3. Lack of store of value 4. Lack of medium of exchange
12. Explain the problem of double coincidence of wants faced under barter system. How has money solved
this problem? (3)
Ans 12 Double coincidence of wants means that goods in possession of two different individuals are needed by each
other. Which need coincidence of same goods that can be exchanged in same time.
Money as a medium of exchange has removed the major difficulty of double coincidence of wants.
It acts as an intermediary for the goods and services in exchange transactions.
13. Give meaning of money. Explain two main functions of money. (3)
Ans.13 Money is what money does. Means it functions as a medium of exchange, store the value and measure the
value.
Two functions of money.—1)Medium of exchange –money functions as medium of exchange of two goods. It
facilitate consumer to buy goods from the seller.
2) Measure the value --- money helps to measure the value of a commodity whether high quality or low quality
it has.
14. What is meant by money supply? State M1 measure of money supply. (3)
Ans.14 Money supply refers to the total quantity of stock of money available in the economy at a point of time. M1=
currency (including notes and coins) +Demand deposits +other deposits
15. Introduction of money has separated the acts of sale and purchase. How? (3)
Ans.15 Money has facilitated the sale and purchase of goods and services. With the use of money as medium of
exchange goods and services can be purchased for money any time. Similarly goods and services can be sold for
money any time.
16. Briefly explain primary functions of a commercial bank. (3)
Ans. 16 Primary functions of commercial bank-1) Acceptance of deposits 2) Advancing loans(with Explanation)
17. Describe any two main functions of a central bank.
(3)
Ans.17 Functions of central bank- (1) Issue of currency (2) banker to bank (explanation of each point)
18. What is meant by Repo Rate? How does the Central Bank use this measure to Control inflationary
conditions in an economy?
(3)
Ans. 18 Repo rate – It is the rate of interest at which the central bank of the country gives short period loans to the
commercial banks against collateral.
In the inflationary conditions in the economy RBI will increase the repo rate which influence the bank rate which will
be high resulted lower the loan and reduce the money supply in economy.
19. How is central bank different from a commercial bank?
(3)
Ans.19
Central bank
Commercial bank
1. Apex bank of the country
It functions as guided by central bank
2. It control the monetary policy of
economy
3. Sole authority of note issuing
It executes the monetary policy
It contributes to flow of money by way of credit
creation.
20. What is the significance of centralized cash reserves with central bank?
(3)
Ans. 20 Centralized cash reserve with central bank control the money supply in the economy. Through CRR an SLR it
controls the money supply. At the time of inflation RBI increase the rate which increase stock and reduce the money
supply and vice versa
21. Imagine yourself the RBI Governor. How would you use the instrument of CRR to increase the
investment in the economy?
(4)
Ans.21 CRR refers to the ration of demand deposits of the commercial bank which they are legally bound to keep as
reserves with RBI. To increase the investment in the economy this would be appropriate to reduce the CRR.
Reductions of CRR increase credits creation capacity of the commercial banks. Accordingly the flow of credit increase
in market.Also rate of interest tends to decrease when the availability of credit increases. Consequently demand for
credit increase for the purposes of investment
22. Why is RBI, sometimes reluctant to lower the repo rate even when investment is low because of high
market rate of interest?
(4)
Ans.22 It is true that a cut in repo rate is expected to lead to a cut in market rate of interest. Accordingly cost of
investment would fall and investment would increase. But sometimes RBI does not appreciate lowering repo rate.
This is because in cut repo rate allows commercial banks to build up their cash reserve and increase their capacity to
create credit. If the supply of credit /money increases , the rate of inflation starts multiplying. Thus RBI reluctant to
lower repo rate in a situation when the existing rate of inflation is high is expected to rise further.
23. Explain ‘Government’s Bank’ function of the central bank. OR Explain ‘Bankers’ Bank’ function of the
central bank. (4)
Ans.23 Governments bank—Central bank is an apex body of monetary institutions. So it acts as a banker. Agent and
financial advisor to the government. as a banker to the governmet it keeps the accounts of all government bank and
manages government’s treasury. The loan are given to the government without any interest for short term. It also
transfers the government funds. Its also buy and sells securities, treasury bills on behalf of the government . It also
adivises the government time to time on economic, finanacial and monetary matters.
24. Explain the significance of medium of exchange function of money.
(4)
Ans 24 Medium of exchange is an important function of money which means that money acts as an intermediary for
the goods and services in exchange transaction. (Explanation)
25. Explain the evolution of money.
(4)
Ans 25. To overcome the difficulty of barter system man invented money- a thing that was commonly accepted as a
medium of exchange. Initially metal coins of gold and silver were introduced. But now is the age of plastic money in
the form of debit and credit cards. Money finds its origin in the need to facilitate exchange hence it came to defined
as a thing i.e. Commonly accepted as a medium of exchange
26. How does the central bank of a country control the supply of money in an economy? (6)
Ans.26 Central bank acts as a controller of money supply and credit using the following instruments of monetary
policy. -1) Bank rate/ repo rate 2) open market operation 3) Cash reserve ratio (4) Statutory liquidity ratio
(Explanation in brief)
27. State the basic difference between quantitative and qualitative instruments of credit control. Give
suitable examples.
(6)
Ans. 27 Central bank has two components to control the credit 1) Quantitative measures –1) Bank rate/ repo rate 2)
open market operation 3) Cash reserve ratio (4) Statutory liquidity ratio
Qualitative measures – Which is also called selective credit control-1) Marginal requirement of loan 2) Rationing of
credit 3) Moral suasion ( Brief explanation of each points)
28. What is meant by Margin Requirement? How does the Central Bank use this measure to control
deflationary conditions in an economy?
(6)
Ans. 28 Margin requirement- A margin referes to the difference between market value of security offered for loan
and amount of loan offered by the commercial bank. During deflationary condition supply of money is increased by
lowering the requirement of margin. This measure is often used to discourage the flow of credit into speculative
business activities.
29. Explain the Credit creation process by commercial banks with the help of numerical example.
(6)
Ans 29. Credit creation is an important function of the commercial bank. By creating credit commercial banks
contribute to money supply in the economy they create credit in the form of demand deposits. Demand deposits of
the commercial bank are many time more than their cash reserves if cash reserve are RS. 1000 and if demand
deposits are 10000 then the commercial banks are creating credit 10 times of their cash reserves. Accordingly on the
basis of the cash reserve of Rs. 1000 the commercial bank are contributing 10000 to the supply of money.
30. Why do we say that commercial banks create money while we also say that the central bank has the sole
right to issue currency? Explain. What is the likely impact of money creation by the commercial banks
on national income?
(6)
Ans. 30. Money supply has two components – Currency and Demand deposits. Currency issued by central bank
where as demand deposits are created by the commercial banks they create money in the form of demand deposits
related to the loan offered by them. Demand deposits of the commercial banks are many times more than their cash
reserves. This is based on the historical experience of the banks that cash withdrawal of fund is only a small
percentage of total demand deposits.
The money created by the commercial bank in the form of demand deposits is mainly used for investment or
production process. Any rise in investment leads to many times more increase in the national income of an economy
via the multiplier effect.
Unit-VII
DETERMINATION INCOME AND EMPLOYMENT
1. If MPC = 0, the value of multiplier is : (Choose the correct alternative) (1)
(a) 0
(b) 1
(c) Between 0 and 1
(d) Infinity
Ans.(B) 1
2. Out of the following, which can have a value more than one?
(1)
(a) MPC
(c) APC
(b) APS
(d) MPS
Ans.(C)APC
3. If MPC=MPS, then value of multiplier is: (1)
(a) Infinity
(c) One
(b) Equal to MPC
(d) Two
Ans.(D) Two
4. If saving function of an economy is given as: S= -40+0.4Y, then MPC is: (1)
(a)1
(c) 0.4
(b) 0.6
(d) None of these
Ans.(B) 0.6
5. At equilibrium level: (1)
(a) Consumption=Investment
(c) Consumption=Saving
(b) Saving=Investment
(d) Aggregate Demand=Saving
Ans.(B)Saving= Investment
6. Name any two components of ‘aggregate demand’. (1)
Ans. AD=C+I ( Consumption Expenditure and Investment Expenditure
7. Define the term multiplier. How do we measure it? (1)
Ans. It is the ratio of change in income and change in investment.
Ans..K=
Δ𝑦
Δ𝐼
8. Give the meaning of involuntary unemployment. (1)
Ans.
It refers to a situation in which all those people , who are willing and able to work at the existing
wage rate, do not get work.
9. What do you understand by ex-post saving and ex-post investment? (1)
Ans.
Ex-post saving refers to the actual savings in an economy during a year. Ex-post investment refers to
the actual or realised investment in an economy during in an economy.
10. What can be minimum and maximum value of multiplier?
Ans. one to infinite .
(1)
11. S = – 100 + 0.2 Y is the saving function in an economy. Investment expenditure is 5,000. Calculate
the equilibrium level of income. (3)
Ans. At the equilibrium level Saving = Investment
S= I
– 100 + 0.2 Y = 5000
0.2Y=5100
Y= 25500
12. Explain the changes that take place when aggregate demand and aggregate supply are not equal.
(3)
Ans.When Aggregate Demand is not equal to Aggregate Supply then there is possibilities of two
situation
a) Excess Demand :It refers to the situation when aggregate demand is greater than
aggregate supply.
b) Deficient Demand: It refers to the situation when aggregate demand is less than
aggregate supply
13. In an economy investment increases from 300 to 500. As a result of this equilibrium (3)
level of income increases by 2000. Calculate the marginal propensity to consume.
Ans. Hints: Change in income is 2000, Change in investment is 200 then, MPC=0.9
14. If in an economy saving function is given by S = (-) 50 + 0.2 Y and Y = 2000 crores;
consumption expenditure for the economy would be 1,650 crores and the autonomous investment is
50 crores and the marginal propensity to consume is 0.8. True or False? Justify your answer with
proper calculations.
(3)
Ans. True
C= 50 + 0.8Y
C=50+0.8*2000
C=50+1600
C=1650
15. Give the meaning of :
(3)
(b) Full employment,
Ans: It refers to a situation in which all those people , who are willing and able to work at the
existing wage rate, get work.(when AD=AS)
(c) Autonomous investment
Ans:It is not affected by changes in the level of income. It is not guided by the profit motive. It is mainly
done by the government.
16. What is ‘inflationary gap’? Explain the role of Cash Reserve Ratio in removing this
gap.
(4)
Ans: Inflationary gap refers to the situation of excess demand when AD>AS. It is equal to the
difference between AD beyond full employment and AD at full employment equilibrium.
Role of CRR: It is the minimum percentage of deposits of commercial banks which is kept with
RBI in cash. To remove the inflationary gap the RBI have to increase the CRR to decrease the
purchasing power.
17. Explain the meaning of deflationary gap with the help of a diagram. Explain the role of ‘Margin
Requirements’ in removing this gap.
(4)
Ans:: Deflationary gap refers to the situation of short of aggregate demand when AD<AS. It is equal
to the difference between AD less than full Empoyment.
Margin requirement: In the situation of deflationary gap rate of margin requirement decreased to
increase the purchasing power.
18. “Economists are generally concerned about the rising Marginal Propensity to Save (MPS)in an
economy”. Explain why?
(4)
Ans:
as
A rising marginal propensity to save in an economy implies a reduction in the investment multiplier
Investment multiplier ( k ) =
𝟏
𝑴𝑷𝑺
A reduction in investment multiplier implies a fall in income level in an economy which can negatively
affect the gross domestic product of an economy. Therefore, the economists are generally concerned about
rising MPS in an economy.
19. What is the relationship between:
(4)
(a) Marginal propensity to save and marginal propensity to consume.
Ans: MPC =1-MPS
(b) Marginal propensity to save and investment multiplier
Ans:- K= 1/MPS
20. What is the relationship between
a) Average propensity to consume and average propensity to save.
Ans: APC = 1-APS
(4)
b) Marginal propensity to consume and investment multiplier
Ans: K = 1/1-MPC
21. Explain how the economy achieves equilibrium level of income using Savings-Investment (S-I)
approach. Also explain what will happen if equilibrium condition is not fulfilled.
(6)
Ans.According to S and I approach the equilibrium level of national income/output/employment
determined at a point where planned or ex-ante saving are equal to planned or ex-ante investment.
Since, AD= C+I and AS =C+S
Therefore, If AD= AS
C+I =C+S or, I=S
Assumptions: 1.Planned level of investment is fixed. I=100crore.
2. The consumption functions are given C=50+0.5Y
Y
C
S
I
AD=C+I
AS=C+S
Remark
0
50
-50
100
150
0
100
100
0
100
200
100
200
150
50
100
250
200
300
200
100
100
300
300
400
250
150
100
350
400
500
300
200
100
400
500
S=I(Equilibrium)
Explain the above table.
22. Derive a straight line saving curve using the following consumption function: C
=20+0.6Y.Presuming the income levels to be 100, 200 and 300 crores. Also calculate that level of
income where consumption is equal to income.
(6)
Ans.
C=20+0.6(100)
C=20+0.6x100
C=20+60
C=80
C=20+0.6(200)
C=20+120
C=140
C=20+0.6(300)
C=20+180
C=200
23. Explain the concept of inflationary gap with the help of diagram. Also explain four monetary
measures to check the inflationary gap.
(6)
Ans.Inflationary gap is a situation when AD>AS or aggregate demand is more the aggregate supply
or more than the aggregate demand itself at the level of full employment.
c)
d)
e)
f)
Bank Rate ; At the time of inflation bank rate should be increased
CRR:At the time of inflation CRR should be increased
SLR:At the time of inflation SLR should be increased
Open Market Operation:At the time of inflation govt. sells the securities.
24. How is the equilibrium level of income attained through AD and AS approach? If in an economy
planned spending is greater than planned output, Explain all the changes that will take place in the
economy.
(6)
Ans.
The equilibrium level of income is determined where planned level of aggregate demand is equal to
planned level of aggregate supply. If aggregate demand is greater than aggregate supply. It means
that buyers are planning to buy more goods and services than what producers are planning to
produce. In this situation, inventory level starts falling and comes below the desired level to
maintained full employment equilibrium. To bring back the inventories at the desired level,
producers expend production. This rises the employment level, output level and in turn income level.
The two level keep rising till AD= AS that is when economy reaches equilibrium level of income.
25. Explain the role of government budget in fighting inflationary and deflationary tendencies.
(6)
Ans. The role of government fiscal policy to remove inflationary and deflationary tendencies.
1-)Govt. Revenue Policy:
A-)Taxes : The govt. Increases the taxes to correct the inflationary Gap and decreases the taxes to
correct the deflationary Gap.
B-)The public debt and borrowing: the govt. decreases the borrowings to correct the inflationary gap
and increase the borrowing to control deflationary gap.
2-)Govt. Expenditure policy Policy:the govt. decreases the expenditure to correct the inflationary gap
and increase the expenditure to control deflationary gap.
21) With the help of numerical examples, show that in an economy, as income increases APC decreases,
if C=100+0.5Y.
(6)
Ans.
Income
Consumption(C) Saving
APC
0
100
-100
-
100
150
-50
1.5
200
200
0
1
300
250
50
0.83
400
300
100
0.75
Yes, in above table when income is increased the APC decreases.
26. Draw a straight line consumption curve. From it derive a saving curve. Explain the process of
derivation and also show the points
(6)
(d) The points at which APC is equal to ONE
(e) Any point at which APS is NEGATIVE
27. An increase of Rs. 250 crore in investment in an economy, resulted in total increase in income of Rs.
1000 crore. Calculate the following:
(6)
(a) Multiplier
(b) MPC,
(c) MPS
Ans:
a-)
K=
Δ𝑦
=
Δ𝐼
1000
250
=4
b-)
K = 1/1-mpc
4 = 1/1-mpc
4 – 4 mpc = 1
Mpc = ¾
Mpc= 0.75
c-)
K = 1/mps
4 = 1/mps
Mps = ¼
Mps = 0.25
28. In an economy S= -50+0.5Y and investment expenditure is Rs.7000 calculate the following
(6)
(f) Equilibrium level of National Income
(g) Consumption expenditure at equilibrium level
(h) Value of multiplier
Ans: a-)
S = I (equilibrium level of national income)
-50+0.5Y = 7000
0.5Y = 7050
Y = 7050/0.5
Y = 14100
b-)S= -50+0.5Y
C = 50+0.5Y
C = 50+0.5(14100)
C = 7100
c-) K = 1/mps
K = 1/0.5
K=2
29. Complete the following table:
(6)
INCOME
MPC
MPS
SAVING
APC
MULTIPLIER
0
-
-
-30
-
-
100
0.75
-----
-----
-----
-----
200
-----
0.25
-----
-----
-----
300
0.75
-----
-----
-----
-----
Ans.
Y
∆Y
0 -
C
∆C MPC MPS SAVING APC
30
-
-
-30
-
MULTIPLIER
-
100 100 105
75
0.75
0.25
-5 1.05
4
200 100 180
75
0.75
0.25
20
0.9
4
300 100 255
75
0.75
0.25
45 0.85
4
GOVERNMENT BUDGET
1. Give the meaning of government budget.
(1)
A government budget is an annual statement of the estimated receipts and estimated expenditure of the
government during a fiscal year.
2. Give the meaning of tax revenue.
(1)
Tax Revenue: - A tax is a legal compulsory payment imposed by the government on the people. All taxes are
broadly classified into i) Direct Tax and ii) Indirect Tax.
3. Define a direct tax.Give two examples of direct tax.
(1)
Direct Tax- When the liability to pay a tax and the burden of that tax falls on the same person, the tax is called
direct tax. e.g. Income tax, corporation tax, Gift tax etc.
4. Define indirect tax.Give two examples of indirect taxes.
(1)
Indirect Tax-When the liability to pay a tax falls on one person and burden of that tax falls on some other
person, the tax is called an Indirect tax. e.g. Sales tax, Custom duties, Service tax etc.
5. Give two examples of non tax revenue receipts.
(1)
Non-Tax Revenue: - Non tax revenue consists of all revenue receipts other than taxes. For eg.:- i) Interest ii)
Profit and dividend
6. Give two examples of capital receipts of the government receipt.
(1)
1) Recovery of loans :-These are Capital receipts because they reduce financial assets of the government
2) Borrowings: - Funds raised by the government form the borrowing are treated as capital receipts such
receipts creates liability.
7. What is meant by planned expenditure?
(1)
Plan Expenditure: It refers to the expenditure that is incurred on the planned development programmes. It
includes both consumption as well as investment expenditure. For example, expenditure on agriculture and
allied activities, irrigation, energy, transport, communication, etc.
8. What is meant by fiscal deficit in a government budget?
(1)
Fiscal Deficit:-Fiscal deficit is defined as excess of total expenditure over total receipts excluding borrowings.
Fiscal Deficit = Total budget expenditure - Total budget receipts net of borrowings.
9. Define revenue deficit in a government budget.
(1)
Revenue Deficit:-Revenue deficit refers to the excess of revenue expenditure of the government over its
revenue receipts.
Revenue deficit = Total revenue expenditure – Total revenue receipts
10. Name the two ways in which budgetary deficit is financed.
(1)\
Deficit Financing: a) Government may borrow from RBI against its securities to meet the fiscal
deficit.
b) RBI issues new currency for this purpose. This process is known as deficit financing.
11. Define primary deficit.
(1)
Primary Deficit:-Primary deficit is defined as fiscal deficit minus interest payment. It is equal to fiscal deficit
reduced by interest payment.
Primary deficit = Fiscal deficit – interest payment.
12. What is a surplus budget?
(1)
When government receipts are more than government expenditure in the budget, the budget is called a surplus
budget.
13. A government budget shows a primary deficit of Rs.4400 crores.The revenue expenditure on
interest payment is Rs.400 crore .How much is the fiscal deficit? (1)
Primary deficit = Fiscal deficit – interest payment.
Primary deficit = Rs 4400 crores , Interest Payment = Rs 400 crores
Fiscal deficit = Primary deficit + interest payment. = Rs 4400 + 400 crores = Rs 4800 crores
14. Why is payment of interest is a revenue expenditure?
(1)
It does not result in creation of assets or reduction in liabilities.
15. How is disinvestment by the government a capital receipt?
(1)
Funds raised through disinvestment reduce government assets that’swhy it is included in capital receipts.
16. State any three objectives of a government budget..
(3)
The objective that is pursued by the government through the budget areI. Reallocation of resources -: It means managed and proper distribution of resources. As private sector
cannot provide all the goods and services the government has to provide these goods.
II. To reduce inequalities in income and wealth-: Through budget government tries to reduce the gap
between Rich and poor. This is achieved through taxing the rich and subsidizing the needs of poor people.
Taxing the income of rich people reduces their purchasing power and subsidies to poor people increases real
income of poor people.
III. To achieve economic stability -: There may be inflation or depression in the economy. Inflation is the
situation of rise in price level whereas depression is lack of demand. Both the situations are undesirable.
During depression government reduces rate of tax and borrowing and increases public expenditure. During
inflation government increases the rate of tax and borrowing and decreases public expenditure.
17. Distinguish between revenue receipts and capital receipts in a government budget? Give two
examples of each.
(3)
Revenue Receipts:-A government revenue receipts are those receipts i) which neither create liability ii) nor
reduce assets of the government eg. Dividend, interest.
Capital Receipts: - Capital Receipts refer to those receipts of the government which i) tend to create a
liability or ii) Causes reduction in its assets of the government. eg. Borrowings , disinvestment
18. Distinguish between direct and indirect taxes .Give two examples of each.
(3)
Direct Tax
Indirect Tax
1. Liability to pay and burden of
direct tax falls on same person.
1. Liability to pay and burden of direct tax falls
on some other person.
2. Levied on income and property
of person.
2. Levied on goods and services on their sale,
production, import and export.
3. eg. Income tax , Gift tax etc.
3. eg. Sales tax, Custom duties, Service tax etc.
19. Distinguish between revenue expenditure and capital expenditure in a government budget.
Give two examples of each.
(3)
Revenue expenditure and Capital expenditure
Revenue expenditure
Capital expenditure
1. It does not result in creation of assets nor
reduction in liabilities.
1. It result in creation of assets or reduction in
liabilities.
2. It is for short period and
recurring in nature
2. It for long period and nonrecurring in nature
3.eg. Expenditure on salaries of
employees
3. eg. Expenditure on acquisition
of assets like land, building etc.
20. Explain the term development and non-development expenditure of government. Give two
examples of each.
(3)
Developmental Expenditure: It refers to the expenditure which is directly related to investment
expenditure on economic and social development of the country. It enhances production capacity of
the country. For example, expenditure on education, health, social welfare etc. It adds to the flow of
goods and services in the economy.
Non Developmental Expenditure: It refers to the expenditure which is incurred on the consumption
expenditure like essential general services of the government. For example, expenditure on defense,
administrative services, police, justice etc. It does not directly contribute to economic development,
but it indirectly helps in the development of the economy.
21. What is the basis of classifying government expenditure into: Plan expenditure and non-plan
expenditure?
(3)
The expenditures which are included in the planning of the government budget are put under the plan
expenditure whereas all other type of expenditure are noted under the head of the non- plan expenditure.
22. How is surplus budget used to reduce surplus demand?
(3)
If government follow surplus budget policy , it means government is making efforts to either reduce its
expenditure or increase its receipts. In such case , reduction in expenditure will curb employment and income
and increase in receipts via taxes will reduce consumption expenditure and it help in reducing surplus demand
.
23. What is meant by revenue deficit? What are the implications of this deficit?
Revenue Deficit:- Revenue deficit refers to the excess of revenue expenditure of the government over its
revenue receipts.
Revenue deficit = Total revenue expenditure – Total revenue receipts.
Implication
It indicates the inability of the government to meet its regular and recurring expenditure the proposed
budget. {It implies that government is dissaving, i.e. government is using up savings of other sectors
of the economy to finance its consumption expenditure.  It also implies that the government has to
make up this deficit from capital receipts, i.e. through borrowings or disinvestment.  Use of capital
receipts for meeting the extra consumption expenditure leads to an inflationary situation in the
economy. Higher borrowings increase the future burden in terms of loan amount and interest
payments.  A high revenue deficit gives a warning signal to the government to either curtail its
expenditure or increase its revenue.
24. What is meant by fiscal deficit? What are the implications of this deficit?
(4)
Fiscal Deficit:- Fiscal deficit is defined as excess of total expenditure over total receipts excluding
borrowings.
Fiscal Deficit = Total budget expenditure - Total budget receipts net of borrowings.
The implications of fiscal deficit are as follows:
a) Debt Trap: Fiscal deficit indicates the total borrowings requirements of the government.
Borrowings not only involve repayment of principal amount, but also require payment of interest. 
Inflation: Government mainly borrows from Reserve Bank of India (RBI) to meet its fiscal deficit.
RBI prints new currency to meet the deficit requirements.
b)Foreign Dependence: Government also borrows from rest of the world, which raises its
dependence on other countries.
c) Hampers the Future growth: Borrowings increase the financial burden for future generations. It
adversely affects the future growth and development prospects of the country.
25. Direct taxes are progressive in nature while indirect taxes are regressive. Justify the
statement.
(4)
Progressive taxes means taxes rate increases with the increase in income (tax the rich more) as it is based on
the concept of ability to pay – direct taxes are none shifted in nature hence applying such tax as progressive
means that the burden of such tax is bear by the person who can afford it.
On the other hand the indirect taxes are those which can be shifted from one person to other hence its burden
is not been borne by the one on whom it was levied. Hence such taxes are kept as regressive.
26. Calculate Revenue deficit, Fiscal deficit and Primary Deficit from the following data: (4)
Items
(Rs. In crore)
(i).Revenue expenditure
22,250
(ii).Capital expenditure
28,000
(iii).Revenue receipts
17,750
(iv).Capital receipts (net of borrowing)
20,000
(v).Interest payments
5,000
(vi).Borrowings
12,500
Revenue deficit = Total revenue expenditure – Total revenue receipts
Revenue deficit = 22,250 -17,750 = Rs 4,500 crores
->Fiscal Deficit = Total budget expenditure - Total budget receipts net of borrowings.
Fiscal Deficit = Revenue Expenditure + capital expenditure – revenue receipts – capital receipts (net of
borrowings).= 22250 +28000 -17750-20000 = 12500
 Primary deficit = Fiscal deficit – interest payment. = 12500-5000 = 7500
27. Finance minister has announced that steps would be taken to rationalise the subsidies which
presently dominate the economy of the nation.
What is the
economic value of this statement?
(4)
Finance minister has announced that steps would be taken to rationalize the subsidies, it means government is
trying to reduce its revenue expenditure by making effort to reduce revenue deficit initially and also making
effort to improve the fiscal deficit.
Such policy will help in reducing the burden of the government and also that money can be used in planned
expenditure for capital investment and enhancing the productive capacity of the economy.
28. Briefly describe how the government budget contributes to the process of growth and
stability.
Government budget is used to prevent business fluctuations of inflation or deflation to achieve the
objective of economic stability. The government aims to control the different phases of business
fluctuations through its budgetary policy. Policies of surplus budget during inflation and deficit
budget during deflation helps to maintain stability of prices in the economy.
The growth rate of a country depends on rate of saving and investment. For this purpose, budgetary policy
aims to mobilize sufficient resources for investment in the public sector. Therefore, the government makes
various provisions in the budget to raise overall rate of savings and investments in the economy
29. Giving reasons categorise the following into revenue receipt and capital receipt: (6)
(i).Recovery of loans
(ii).Corporation tax.
(iii).Dividends on investments made by government
Category of following items with the reason
A) Recovery of loan - These are Capital receipts because they reduce financial assets of the government
B) Corporation Tax – It is the revenue receipts as neither assets reduces nor liability created.
C) Dividend on investment made by the government - It is the revenue receipts as neither asset reduces
nor liability created.
30. Giving reasons categorise the followings into revenue expenditure and capital
expenditure: (6)
(i).Subsidies
(ii).Grants given to state governments
(iii).Repayments of loans
Ans. 30 Category of following items with the reason
A) Subsidies- Revenue expenditure because it neither create assets nor reduce liabilities.
B) Grants Given to state government-Revenue expenditure because it neither create assets nor reduce
liabilities.
Repayment of loan –It is a capital expenditure as it leads to reduction in liabilities.
BALANCE OF PAYMENTS
1. Define foreign exchange.
Ans. Foreign exchange is the stock of the currency of the other country that a country has.
2. What is meant by foreign exchange rate?
Ans. The rate at which the currency of one country is exchanged for the currency of the other country is
called Foreign exchange rate.
3. What is fixed exchange rate? (1)
Ans. The rate fixed by the government for the exchange of the currency of the country is called fixed
exchange rate.
4.What is meant by flexible exchange rate?
(1)
Ans. The rate of exchange of currency that is determined by the market forces of demand and supply of the
currency is called flexible exchange rate.
5. Name two sources of demand for foreign exchange.
(1)
Ans. The sources of the demand for the foreign currency are
(1) Imports of goods and service
(2) Tourism
(3) Gifts and donations to the other country
6. Name two sources of supply of foreign exchange.
(1)
Ans. The sources of the supply for the foreign currency are
(1) exports of goods and service
(2) tourism
7. What is meant by currency appreciation?
Ans. The increase in the value of the domestic currency in comparison to other currency is called
appreciation of currency.
8. What is meant by currency depreciation?
(1)
Ans. The decrease in the value of the domestic currency in respect of the other currency in the international
market is called depreciation of currency.
9. What do you mean by Balance Of Trade (BOT)?
(1)
Ans. The difference between the value of exports and value of imports of a country during the financial year
is called the Balance of Trade.
10.When is there a deficit in Balance Of Trade?
(1)
Ans. When the values of exports of a country are greater than the value of the imports of the country it is
called the deficit in the balance of the trade.
11. What is meant by Balance of Payment (BOP)?
(1)
Ans. The systematic record of all economic transactions of a country with the rest of the world is called
Balance of payments.
12.What is meant by disequilibrium in BOP?
(1)
Ans. Very often, debit exceeds credit or the credit exceeds debit causing an imbalance in the balance of
payment account. Such an imbalance is called the disequilibrium. Disequilibrium may take place either in
the form of deficit or in the form of surplus.
13.Should a current account deficit be a cause for alarm? Explain.
(1)
Ans. Yes it is a cause of alarm as the outflow of the foreign exchange is higher than the inflow of the foreign
exchange which will lead to long term problems for a country.
14.What does a deficit in balance of trade account indicate?
(1)
Ans. Deficit in the balance of trade indicates that the imports of visible goods and service of a country is
greater than the exports of visible goods and services..
15.Name two items relating to Current account BOP?
(1)
Ans. The items included in the Current account of BOP are Merchandise, Travel, insurance, government
transactions , gifts and donations etc.
16.Explain the effect of appreciation of domestic currency on exports.
(3)
Ans. Appreciation of domestic currency will lead to increase in imports of goods and services as the value of
domestic currency increases in respect to the foreign currency its purchasing power increases. Thus the same
amount of domestic currency will be able to purchase more amount of foreign goods.
17.What is depreciation of ruppe?What is its likely impact on Indian imports and how? (3)
Ans. The depreciation of domestic currency means decrease in the value of the domestic currency in respect
of the foreign currency. Depreciation of currency willlead to decrease in the imports because the foreign
goods will become expensive to purchase. Now the country has to spend more amounts to purchase the same
amount of goods and services.
18. Differentiate between devaluation and depreciation.
(3
Ans. Devaluation is the decrease in the value of the currency, it is done intentionally to get advantage in the
international trade, it is deliberately done by the government of the country.
Depreciation is the decrease in the value of the domestic currency due to change in the forces of
demand and supply of the currency in the international market. It is only because of market forces not by the
government.
19. Explain how foreign exchange rate is determined in a foreign exchange market? Use diagram.(3)
Ans. The value of the exchange rate of a currency is determined by the market forces of demand and supply
of the currency in the international market. (Relevant diagram showing intersection of demand and supply of
the currency with proper label).
20.Distinguish between Balance of Trade and Balance of payment.
(3)
Balance of Trade
Balance of Payments
1. It is the record of only the visible
1. It contains the systematic records
trade and service so the country
of all the transactions of the
with the rest of the world
residents of the country with the
rest of the world.
2. It is an incomplete record
2. It is complete record.
3. It includes only
the current
3. It includes both current account,
account
capital account and unilateral
transfers
21. Distinguish between current account and capital account of BOP. State two components of each. (4)
Ans. Current account of BOP- It is that account which records imports and exports of goods and services
and unilateral transfers.
Capital Account of BOP- It is that account which records all such transactions between the residents of the
country and ROW which causes the change if the assets or liabilities of a country
22. Make a distinction between accommodating and autonomous items in BOP.
(4)
Ans. Accommodating items of the Balance of Payment: - These are those items of BOP accounts which are
done with the motive of profit maximization. These are conditioned by the positive and negative status of
the country’s BOP identity. These transactions are known as the belos the line items of the balance of
payments.
Autonomous items of the Balance of payments:- These are those items of BOP which are related to
transactions undertaken with the profit motive maximization. These are not determined by the status of the
BOP of the country. It is also known as the below the line items of the BOP.
23.What is meant by visible and invisible items in balance of Payments account? Give two examples of
invisible items.
(4)
Ans. Visible items of BOP account: - It refers to all such items of exports and imports which are material in
nature and can be seen crossing the borders of the nation. E.g. Machines, Chair, Table
Invisible items of the BOP account:- It refers to exports and imports which are non-material and cannot be
seen crossing the borders of the nations. E.g. Banking, insurance , transportation etc.
24.How does decrease in FDI in India act as a supply shock of foreign exchange?
(4)
Ans. India is already a trade deficit country where the importbills are always greaterthan the export receipts
of the foreign exchange so FDI is a good source of foreign exchange for the country. Decrease in the FDI
will lead to decrease in the inflow of foreign exchange and outflow of it will be more which will be supply
shock. (Any such relevant point)
25. Distinguish between the nominal exchange rate and the real exchange rate.If you were to decide whether
to buy domestic goods or foreign goods, which rate would be more relevant? (4)
Ans. Nominal rate of exchange is the rate which does not account for changes in the price level while
measuring the average strength of one currency I relation to the other. This is based on current prices/on the
spot
Real exchange rate is that tyoe of exchange rate which accounts for the chnges in the price level across
different countries of the world. This is base on constant prices/ forward market
To buy foreign goods or domestic goods at a point of time nominal exchange rate is more relevant.
26. There is a decrease in the global crude oil prices. What effect it will have on the Current Account Deficit
(CAD)?
(4)
Ans. If there is decrease in the global prices of the crude oil, there will be decrease in the current account
deficit as the country has now to spend fewer amounts on the purchase of the crude oil and the amount thus
saved can be used to correct the deficit in the current account BOP.
27.Giving reasons explain the relation between foreign exchange rate and demand for foreign exchange.
Ans. The foreign exchange rate and the demand for the foreign exchange rate are inversely related to each
other just like the price and demand of other goods and services. With the rise in the foreign exchange rate
the demand for the foreign exchange rate will decrease and vice-versa. (explanation using relevant diagram)
28.Explain any three causes of disequilibrium in Balance Of Payment (BOP).
Ans. The three causes for the disequilibrium in Balance of payments are
(a) Population growth
(b) Natural factors
(6)
(c) Inflation
(d) Cyclical fluctuations
Any other relevant point with explanation
29.Indian investors lend abroad .Answer the following questions:
(6)
(a).In which sub account and on which side of the BOP accounts such lending is recorded? Give reasons.
(b).Explain the impact of this lending on market exchange rate
Ans. (a) All transactions related to lending to abroad by private or government sector etc. will be recorded as
negative or debit item in capital account of BOP
(b) As the lending is done by the Indian investor it will lead to appreciation of the Indian currency and our
foreign exchange reserve will also improve.
30. Indian investors borrow from abroad. Answer the following:
(6)
(a).In which sub-account and on which side of the BOP account will this borrowing be recorded? Give
reasons.
(b).Explain what is the impact of this borrowing on exchange rate.
Ans. 30. (a) All transactions related to borrowing from abroad by private or government sector etc.
Receipt of such loans and repayments of loans by foreigners arerecorded on the positive or credit account of
Capital Account of BOP.
(b) As the borrowing is done from the foreign it will increase the liability of the government and there
will be depreciation of the Indian currency and decrease in the foreign exchange reserve.