Download September Test – 2015 Economics M.M – 100 Time – 3 hr General

September Test – 2015
Economics
M.M – 100
Time – 3 hr
General Instructions:
(i) All questions in both the sections are compulsory.
(ii) Marks for questions are indicated against each.
(iii) Questions No. 1 - 5 and 17 - 21 are very short-answer questions
carrying 1 mark each. They are required to be answered in one
sentence each.
(iv) Questions No. 6 - 10 and 22 - 26 are short-answer questions carrying 3
marks each. Answers to them should normally not exceed 60 words
each.
(v) Questions No. 11 - 13 and 27 - 29 are also short-answer questions
carrying 4 marks each. Answers to them should normally not exceed
70 words each.
(vi) Questions No. 14-16 and 30-32 are long-answer questions carrying 6
marks each. Answers to them should normally not exceed 100 words
each.
(vii) Answer should be brief and to the point and the above word limits
should be adhered to as far as possible.
SECTION – A (60)
1. In which situation, can PPC be a straight line :
[1]
(a) When MRT is decreasing.
(b) When MRT is increasing.
(c) When MRT is constant.
(d) None of these.
Ans. (c)
2. The government has started promoting foreign direct investment.
Which of the following is true with reference to PPC.
[1]
(a) No impact on PPC as foreign capital is not part of National Income.
(b) PPC will move towards right as FDI leads to increase in resources.
(c) PPC will move towards left as FDI leads to fall in country’s resources.
(d) None of the above leads to fall in country’s resources.
3. When a fall in the price of a commodity leads to decrease in quantity
supplied of a commodity, it is called...................
[1]
(a) Extension of supply
(b) Contraction of supply
(c) Expansion of supply
(d) Decrease of supply
Ans. (b)
4. “A change in output or price by one firm evokes reaction from other
firms.” Identify the market structure.
[1]
(a) Monopoly
(b) Monopolistic Competition
(c) Perfect Competition
(d) Both (a) and (b)
Ans. (b)
5. When price of a good is Rs 12 per unit, the consumer buys 20 units of
that good. When price rises to Rs 14 per unit, the consumer buys 20
units. What will be the price elasticity of demand?
[1]
(a)
Ed < 1
(b) Ed = 1
(c)
Ed > 1
(d) Ed = 0
Solution
Ans. (a)
6. A consumer consumes only two goods X and Y. Money income is Rs 24,
Prices are Rs 4 and Rs 2 respectively. With reference to above
mentioned data answer the following questions :
[3]
(i)
Can the consumer afford a bundle of 4X and 5Y.
(ii)
What will be MRSXY, where consumer is in equilibrium ? Explain.
Ans.
(i) Total Expenditure of the consumer
4 × 4 + 5 × 2 = Rs 26, it is greater than his money income (Rs 24). So, he
cannot afford to buy it.
(ii)
When consumer is in equilibrium
MRS =
Substituting PX = 4, PY = 2
MRSXY =
=2
MRSXY = 2
7. A good may be inferior for one consumer and normal for another. Do
you agree with the statement. Justify.
[3]
Ans. It is true to say that a good may be inferior for one consumer and normal
for other. Whether a good is considered as inferior or normal depends upon
income and demand relationship. Any good is identified as inferior good when
income effect is negative i.e., with increase in income the demad for good falls.
(i) If a poor man can afford now the purchase of low quality of wheat instead of
the coarse grains which he was using previously, use of low quality food
grains/wheat will be a normal good for the poor man but inferior good for a rich
man.
(ii)
Even a car can also be an inferior good for example when a citizen of
country with increase in his income shift from normal cars to luxury car.
8. Discuss the relationship between AR and MR.
[3]
Ans. The relationship between AR and MR depends on whether the price remains
same or falls with rise in output.
(i) AR increases as long as MR is higher than AR (or when MR > AR, AR increases).
(ii) AR is maximum and constant when MR is equal to AR (or when MR = AR, AR is
maximum).
(iiii) AR falls when MR is less tha AR (or when MR < AR, AR falls)
AR and MR (in ` )
Y
MR
O
Units Sold
AR
X
9. Why is Production Possibility Curve (or transformation curve) concave
to its origin ?
[4]
Ans. PPC is concave to the origin because marginal opportunity cost of shifting
resources from commodity Y to commodity X tends to rise. Marginal opportunity
cost tends to rise because of the law of diminishing returns. When more and more
resources are applied to X, additional gain of output (per unit of input) tends to
decrease and as more and more resources are withdrawn from Y, additional loss of
output tends to rise.
10. A consumer buys 20 units of a good at a price of Rs 5 per unit. He incurs
an expenditure of Rs 120 when he buys 24 units. Calculate price elasticity
of demand using the percentage method. Comment upon the likely shape of
demand curve based on this information.
[4]
Sol. Given, P = 5 units; P1 =
= Rs 5; DP
= P1 – P = Rs 5 – Rs 5 = 0
Q = 20 units; Q1 = 24 units; DQ = Q1 – Q
= (24 – 20) units = 4 unit.
Price elasticity of demand (Ed)
Ans. Price elasticity of demand =
(infinity).
Demand curve in this case will be a horizontal straight line parallel to Xaxis, provided there is an infinite demand corresponding to a given price of the
commodity.
11. Under perfect competition, the seller is a price taker under
monopoly he is price maker. Explain.
[4]
Ans. (i) Under perfect competition the price is determined by the industry
because there are large number of sellers of homogeneous product. No single
seller by changing the supply, can influence the price. So the firm is only a price
taker.
(ii) A monopolist is a single seller and determines the price himself. He is
a price maker. There is no challenge to his price decisions as there are no
competitive firms in the market and there are no close substitutes of his product.
Barriers to the entry of new firms further strengthens his position as a price
maker.
12. What is Marginal Cost? Calculate Marginal Cost of each level of
output:
[4]
Output (units)
1
2
3
4
5
6
Average variable cost (Rs)
24
22
20
18
18
20
Ans.
O
1
2
3
4
5
6
AVC
24
22
20
18
18
20
VC
24
44
60
72
90
120
MC
24
20
16
12
18
30
13. A consumer consumes only two goods. Explain the conditions of
consumer’s equilibrium with the help of Indifference Curve analysis. [6]
Ans. A consumer shall be in equilibrium where he can maximise his
satisfaction, subject to his budget constraints. It refers to a situation in which a
consumer with his given income and given prices, purchases such a combination
of goods which gives him maximum satisfaction and he does not want to bring
any change in it.
Conditions of Consumer’s Equilibrium.
According to indifference curve approach, a consumer will be in eqm. when the
following two conditions are satisfied :
(i)
Budget line or Price line should be tangent to indifference curve
i.e.,
MRSXY =
or Slope of IC = Slope of PL
(ii)
Indifference curve should be convex to the point of origin at
equilibrium point or we can say MRS is declining.
The point where these two conditions are fulfilled simultaneously represents
eqm. for the consumer because that relates to the highest indifference curve that
consumer can reach within his available budget. It can be shown with the help of
following diagram :
Y-axis
Y-Commodity
A
Q1
Q3
Consumer’s
Eqm.Point
Q
H
IC 3
IC 2
Q2
O
M
B
X-Commodity
IC 1
X-axis
It is clear from the figure that ‘Q’ is the only eqm. point where both the
conditions of eqm. are fulfilled. Where the consumer buys ‘OM’ of X Commodity
and ‘OH’ of Y Commodity. Any other point like Q1 and Q2 cannot be considered
as optimum point because they lie on lower indifference curve IC1. Any point
lying on IC3 like ‘Q3’ is beyond the reach of the consumer and no eqm. condition
is satisfied.
Thus on Price line AB, ‘Q’ is on the highest IC, that gives maximum satisfaction
to the consumer. At point ‘Q’ both the conditions of eqm. are satisfied.
14. Explain the Law of Variable Proportion with the help of total
product and marginal product curves.
[6]
Ans. Law of Variable Proportions (LVP) states that as we increase quantity of
only one input keeping other inputs fixed, total product (TP) initially increases at
an increasing rate, then at a decreasing rate and finally at a negative rate.
In the given diagram, the quantity of the variable factor has been measured on
X-axis and Y-axis measures the total product on Y-axis. The diagram indicates,
how the total product, and marginal product changes as a result of increases in
the quantity of one factor to a fixed quantity of other factors.
The law can be better explained through three stages(a) First stage:
Increasing Return to a Factor: In the first stage, every additional variable
factor adds more and more to the total output. It means TP increases at an
increasing rate and MP of each variable factor rises. Better utilization of fixed
factor and increases in the efficiency of variable factor due to specialization are
the major factors responsible for increasing returns. The increasing returns to a
factor stage have been shown in the given diagram between O to P. It implies,
TP increases at increasing rate (till point ‘P’) and MP rises till it reaches its
maximum point ‘K’, which marks the end of first phase.
TP/MP (in units)
Y
(TP is Maximum)
M
TP
60
50
40
P
30
K
20
N (MP is Zero)
10
O
1
2
3
4
5
6
– ve
Units of Variable Factor MP
X
(b) Second stage:
Diminishing returns to a Factor: In the second stage, every additional
variable factor adds lesser and lesser amount of output. It means TP increases at
a diminishing rate and MP falls with increase in variable factor. The breaking of
optimum combination of fixed and variable factor is the major factor responsible
for diminishing return.The second stage ends at point ‘S’ when MP is zero and
TP is maximum (point ‘M’).
2nd stage is very crucial as a rational producer will always aim to produce in this
phase because TP is maximum and MP of each variable factor is positive.
(c ) Third stage:
Negative Returns to a Factor: In the third stage the employment of
additional variable factor causes TP to decline. MP now becomes negative.
Therefore, this stage is known as negative returns to a factor. Poor coordination
between variable and fixed factor is the basic cause for this stage. In fig. the
third stage starts after point ‘N’ on MP curve and point ‘M’ on TP curve. MP of
each variable factor is negative in the 3rd stage. So, no firm would deliberately
choose to operate in this stage.
15. From the following information about a firm, find the firms
equilibrium output in terms of marginal cost and marginal revenue.
Give reasons. Also find profit at this output.
[6]
Ans.
Output (units)
Total Revenue (Rs )
Total Cost
1
7
8
2
14
15
3
21
21
4
28
28
5
35
36
Output
(Units)
Total
Revenue
Total Cost
(Rs)
Marginal
Revenue (Rs)
Marginal
Cost (Rs)
Profits
(TR-TC)
1
7
8
-
-
–1
2
14
15
7
7
–1
3
21
21
7
6
0
4
28
28
\7
7
0
5
35
36
7
8
–1
According to the MR-MC approach, the firm (or producer) attains its equilibrium,
where the following two necessary and sufficient conditions are fulfilled.
 MR = MC
 MC must be rising after the equilibrium level of output
Thus, by looking at the table given above, we can say that the firm is in
equilibrium at output equal to 4 units. When output is 4 units, MR= MC (thus,
the first condition is satisfied) and MC increases after the 4th unit of output
(therefore, the second condition is satisfied).
If the firm produces slightly lesser level of output than 4 units, then the
firm is facing price that exceeds the MC. This implies that higher profits can be
achieved by increasing the level of output to 4 units. On the other hand, if the
firm produces slightly higher level of output than 4 units, then the
firm’s MC exceeds its MR, thereby making profits negative. This implies that
higher profits can be achieved by reducing the output level to 4 units. Thus,
point E is the producer’s equilibrium and 4 units of output is the profit
maximising output level, where Price = MC and also MC is rising.
Profit at equilibrium level of output = 0
16. At a price of a commodity, there is excess demand. Is this price an
equilibrium price ? If not, how will the equilibrium price be reached ?
(Use diagram)
[6]
Ans. Excess demand refers to a situation, when quantity demanded is more
than quantity supplied at the prevailing market price. Under this situation,
market price is less than the equilibrium price.
In Fig A, market equilibrium is determined at point E at which OQ is the
equilibrium quantity and OP is the equilibrium price. However, if market price
is OP1, then market demand of OQ is more than supply of OQ2. This situation is
termed as excess demand.

The excess demand of Q1Q2 will lead to competition amongst the buyers as
each buyer wants to have the commodity.
D
S
P
E
S
P1
S
O
D
Q2



Q
Q1
X
Buyers would be ready to pay higher price to meet their demand, which
will lead to rise in price.
With increase in price, market demand will contract due to law of demand
and market supply will expand due to law of supply.
The price will continue to rise till excess demand is wiped out. Eventually,
price will increase to a level where market demand becomes equal to
market supply at OQ and equilibrium price of OP is attained.
17. Market for an essential item of consumption is in equilibrium, but
the equilibrium price is too high for the common man. What can the
government do to bring down its market price but only through the
normal market forces ? Explain the chain of effects of the government’s
action.
[6]
Ans. (i) As the good is essential good so demand for it will be inelastic.
(ii) Equilibrium price of a product is established when market demand for the
commodity is exactly equal to its supply corresponding to a particular price.
(iii) Under the above mentioned situation equilibrium price is too high either
because of high demand or low supply.
(iv) As it is an essential item demand cannot be reduced. So the basic aim of the
government should be to increase the supply.
(v) Supply can be increased either by lowering the taxes or providing subsidy.
(vi) When taxes fall cost of production falls and profit margin rises. Producers
increases supply.
When supply increases, the supply curve shifts to the right from SS to S1S1. DD
is a vertical straight line parallel to the Y-axis. Due to increase in supply the new
equilibrium is established at point E1. Equilibrium price falls from OP to OP1 but
equilibrium quantity remains the same at OQ as demand is perfectly inelastic.
Y
Equilibrium Price
DD
S
S1
Price
E0
P
P1
E1
S
S1
O
Q
Quantity
X
Section – B (40)
18. It is the branch of economics which studies economic activities
(including economic issues or economic problems) at the level of the
economy as a whole i.e., problem of inflation or of unemployment.
[1]
(a) Micro economics
(b) Macro economics
(c) Modern economics
(d) None of these
Ans. (b)
19. It is a quantity measured over a period of time.
[1]
(a)Stock
(b) Depreciation
(c)Flow
(d) Wealth
Ans. (c)
20. It is a system in which goods are exchanged for goods.
[1]
(a) Barter system
(b) Trade
(c)Money supply
(d) Balance of Trade
Ans. (a)
21. Which of the following is the primary function of money?
[1]
(a)Store of value
(b)Medium of exchange
(c)Standard of deferred payment
(d) All the mention above
Ans. (b)
22. This tax is imposed on the property and income of a person and is
paid directly by the consumer to government.
[1]
(a) Direct tax
(b) Indirect tax
(c) Revenue tax
(d) Capital tax
Ans.
23. Calculate (a) Gross Domestic Product at Factor Cost, and (b) Factor
Income to Abroad, from the following data:
[4]
Items
Rs in crores
(i) Gross National Product at factor cost
3750
(ii) Compensation of employees
2000
(iii) Net exports
(–)50
(iv) Profit
700
(v) Net domestic capital formation
1000
(vi) Opening stock
150
(vii) Closing stock
200
(viii) Gross fixed capital formation
1050
(ix) Interest
600
(x) Rent
400
(xi) Factor income from abroad
20
Ans. Income Method
NDPFC = Compensation of employees
+ Operating surplus (Rent + Interest + Profit) + Mixed income + NFIA
= 2000 +(400 + 600 +700) + 0
= Rs 3700 crores
GDPFC = NDPFC + Depreciation or Consumption of fixed capital ...(i)
Consumption of fixed capital = Gross fixed capital formation + Change in stock
– Net domestic capital formation
= 1050 + (200 – 150 ) – 1000
= 100
Put in (i)
GDPFC = 3700 + 100
= Rs 3800 crore
(b) NFIA = GNPFC – GDPFC
= 3750 – 3800
= (–) Rs 50 crore
But Net factor income from abroad = Factor income from abroad – Factor
income to abroad Or, Factor Income to Abroad
= Factor income from abroad – Net Factor income From abroad
= Rs 20 crore – (–) Rs 50 crore
= Rs70 crore
24. Calculate Personal Income from the following data :
[4]
Items
(Rs in crore)
(i) Undistributed profits of corporations
20
(ii) Net domestic product accruing to the
500
private sector
(iii) Corporation tax
55
(iv) Net factor income from abroad
(–) 10
(v) Net current transfers from government
15
(vi) National debt interest
40
(vii) Net current transfers from the rest of
15
the world
Sol. Personal Income
= Net domestic product accruing to private sector + Net factor income
from abroad + Net current transfers from abroad + Net current
transfers from the rest of the world + National debt interest –
Corporation tax – Undistributed profits of corporations
= Rs 500 crore + (–)Rs 10 crore + Rs 15 crore + Rs 15 crore + Rs 40 crore
– Rs 55 crore – Rs 20 crore
= Rs 485 crore
Private income = Rs 485 crore.
25. Explain the medium of exchange function of money.
[4]
Ans.
Medium of exchange : Most important function of money is as a medium
of exchange to facilitate transactions. Without money, all transactions
would have to be conducted by barter, which involves direct exchange of one
good or service for another. Money effectively eliminates the double
coincidence of wants problem by serving as a medium of exchange that is
accepted in all transactions, by all parties, regardless of whether they
desired each other’s goods and services. Use of money has separated the
process of sale and purchase.
26. Explain the difficulty of double coincidence of wants under barter
system.
Ans. (i) Double coincidence of wants is the major limitation of the barter
system.
(ii) It is a situation under which both the parties i.e the buyer and the seller
are ready to exchange goods with each other.
(iii) This problem of the lack of “coincidence of wants” holds even for the simple,
direct exchange of consumers’ goods. Suppose A, with a supply of eggs for
sale, wants a pair of shoes in exchange. B has shoes but does not want eggs;
there is no way for the two to get together. For anyone to sell the simplest
commodity, he must find not only one who wants to purchase it, but one
who has a commodity for sale that he wants to acquire. The market for
anyone’s commodities is therefore extremely limited.
(iv) Furthermore, someone with a indivisble commodity, such as a horse , is in
worse position. Suppose that D, with a horse , would like to exchange it for
eggs, butter, shoes, and various other commodities. Obviously, he cannot
divide his horse into several pieces and then exchange the various pieces for
eggs, butter, etc. The value of each piece to the others would be practically
nil. Under a system of direct ex-change, a horse would have almost no
marketability in exchange.
27. Calculate National Income and Gross National Disposable Income
from the following:
[6]
(Rs Arab)
(i) National debt interest
60
(ii)
(iii)
(iv)
(v)
(vi)
(vii)
Wages and salaries
Net current transfers to abroad
Rent
Transfer payments by government
Interest
Net domestic product at factor cost
accruing to government
(viii) Social security contributions by employers
(ix) Net factor income paid to abroad
(x) Profits
600
20
200
70
300
400
100
50
300
Ans. NDPFC = Compensation of Employers + Operating Surplus + Mixed
Income
[600 + 100] + [200 + 0 + 300 + 300] + 0
= Rs 1500 Arab
NNPFC = NDPFC + Net factor income paid to abroad
= 1500 +(– 50)
= Rs 1450 Arab.
28. Explain ‘bankers bank’ function of Central Bank.
[6]
Ans. Central Bank regulate and supervise the commercial banks. Being the apex
bank, the Central Bank (RBI) acts as the banker to other banks.
As the banker to banks, the Central Bank functions in three capacities:
(i) Custodian of Cash Reserves: All the commercial banks are required to
keep a certain proportion of their deposits known as Cash Reserve Ratio or CRR
with the Central Bank. In this way, Central Bank acts as a custodian of cash
reserves of commercial banks.
(ii) Lender of the Last Resort:
 The Central Bank acts as the lender of the last resort.
 When commercial banks fail to meet their financial requirements from
other sources, they can approach the Central Bank which provide them
loan and advances as lender of the last resort.
 The Central Bank provide this facility to protect the interest of the
depositors and to prevent possible failure of the bank.
 The commercial banks can borrow on the basis of approved securities.
(iii) Clearing House : As Central Bank holds the cash reserves of all the
commercial banks, it becomes easier and more convenient for it to act as their
clearing house. All commercial banks have their accounts with the Central Bank.
Therefore, the Central Bank can easily settle claims of various commercial banks
against each other, by making debit and credit entries in their accounts.
29. What is Repo and Reverse repo rate? What are their implications? [6]
Ans. Repo rate, also called repurchase rate, is the rate of interest that banks pay
when they borrow money from the Central banks /Reserve Bank of India to meet
their short-term fund requirements. This is called repurchase rate because when
Commercial banks borrow money from the Central bank/RBI, they keep
government securities with the Central Bank/RBI as collateral.
Reverse repo rate is the rate of interest that banks get when they keep
their surplus money with the Central bank/RBI. Repo rate is always higher than
the reverse repo rate.
By controlling these rates, the RBI controls the rate of interest in the economy
They both are important monetary measures of RBI to control inflation or
deflation.
In case of an inflation, RBI will try to reduce the amount of money in
circulation by increasing the Repo Rate. When repo rates are increased, banks
will borrow less from RBI and hence the amount of money they will be lending to
the public also decrease. In case of a deflation, RBI want to inject more money
into circulation and hence it will reduce the repo rate.
Increase in repo rate can have serious impact on the growth since industries will
find it difficult to raise money from the banks. Therefore bank rates are only
increased when rate of inflation become too high and that too only for a short
period.
30. How should the following be treated in estimating national income
of a country? You must give reason for your answer.
[6]
(i) Prize won in a lottery
(ii) Old age pension
(iii) Payment of corporate tax
(iv) Expenditure on providing police services by the government
(v) Purchase of a car by a household.
(vi) Wealth tax Expenditure.
Ans. (i) No – There is no value addition.
(ii) No – Because there is no value addition. (Transfer Payment)
(iii) No – Corporate tax, dividends and undistributed profits are all the
components of corporate profits. Once profit is included in the estimation of
national income, any of these components should not be separately added.
(iv) Yes – These are the part of the government final consumption expenditure.
(v) Yes – Private final consumption
(vi) No – As it is a compulsory transfer payment.