UNIT I

INTRODUCTION
QUESTIONS BASED ON HOTS WITH MODEL ANSWERS

VERY SHORT ANSWER TYPE QUESTIONS: - (1 Mark Each)

Q.1. Why is there a need for economizing of resources?

Ans. Because resources are limited.
Q.2. Why does economic problem arise?
Ans. It arises mainly because of scarcity of resources.
Q.3. Why is PPC downward sloping from left to right?
Ans. Because in situation of full employment of resources, production of one good
can be increased only with less of other good.
Q.4. What does a rightward shift of PPC indicate?
Ans. The rightward shift of PPC indicates growth of resources or technological
progress.
Q.5. What does a point below PPC indicate?
Ans. It shows inefficient/under-utilization of resources.
Q.6. What does slope of PPC show?
Ans. Negative slope of PPC shows that in order to produce more units of one good,
some units of the other good must be sacrificed.
Q.7. When allocation of resources is considered as inefficient?
Ans. Allocation of resources is considered as inefficient when economy performs
below the PPC curve.

SHORT ANSWER TYPE QUESTIONS: (3/4 Marks Each)

Q.1. Does production take place only on the PP curve?

Ans. Yes and no, both. Yes, if the given resources are fully and efficiently utilized.
No, if the resources are underutilized or inefficiently utilized or both.
Refer to the above figure; on a point anywhere on the PPC the resources are fully
and efficiently employed. On point U, below the PPC or any other point but below
the PPC, the resources are either underutilized or inefficiently utilised or both. Any
point below the PP curve thus highlights the problem of unemployment and
inefficiency in the economy.

1
 Y
A
B PPC

Cloth

.U
D
X
O Wheat

Q.-3 Massive unemployment will shift the PPC to the left. Defend or refute.

Ans.- Production is drawn on the basis that the given resources are fully as well
as efficiently utilized. Massive unemployment is a situation when resources are
not fully utilized. Or it is a situation of under employment. It would only mean
that the economy is not operating on the PPC but some-what inside the PPC.
Therefore PPC will not shift to leftward.

UNIT- II
CONSUMER‟S CHOICE AND DEMAND ANALYSIS

VERY SHORT ANSWER TYPE QUESTIONS: - (1 Mark Each)

Q.-1 All points below the budget line shows the various possible bundles which
cost exactly equal to consumer‟s income. Is it right or wrong?

Ans.- Wrong.
Q.-2 If Ram is offered Ice Cream free of cost. How much Ice Cream will he
consume?

Ans.- Ram should consume Ice-Cream to that extent to which the marginal utility of
Ice-Cream becomes equal to zero
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Q.-3 What happens to the budget set if both the prices as well as the income
doubled?

Ans.- The budget set remains same.

Q.-4 A consumer consumes only two goods X and Y. At a consumption level of
these two goods, he finds that the ratio of marginal utility of price in case
of X is higher than in case of Y. Explain the reaction of the consumer.

Ans.- The consumer will increase the consumption of good-X and will decrease
the consumption of good-Y.
Q.-5 Does a fall in income have the same effect on the demand for the given
commodity?

Ans.- No, it will depend upon the nature of the good. If good is normal then its
demand will increase and if the good is inferior then its demand will decrease
Q.-6 There is train and bus service between New Delhi and Jaipur. Suppose
that the train fare between the two cities comes down. How will this affect
demand curve for bus travel between the two cities?

Ans.- As train and bus service are substitute to each-other, the demand curve for
bus service between the two cities will shift leftward to the initial demand curve
of bus service

Q.-7 Determine how the following changes (or shifts) will affect market
demand curve for a product.
(a) A new steel plant comes up in Jharkhand people who were previously
unemployed in the area are now employed. How will this affect the demand
for colour T.V. and Black and White T.V. in the region?
(b) In order to encourage tourism in Goa. The Government of India suggests
Indian Airlines to reduce air fare to Goa from the four major cities of
Chennai, Kolkata, Mumbai and New Delhi. If the Indian Airlines reduces
the fare to Goa, How will this affect the market demand curve for air
travel to Goa?
(c) There are train and bus services between New Delhi and Jaipur. Suppose
that the train fare between the two cities comes down. How will this affect
demand curve for bus travel between the two cities?

Ans: (a) There will be rightward shift in market demand curve for colour and Black
and White T.V. This is because of increase of income of the people due to
employment in the new steel plant.
3
(b) The demand for travel to Goa will expand in response to reduction in the air fare.
However, this will be reflected by a movement along the demand curve. There
will be no shifts in the demand curve.
(c) As train fare comes down the demand for bus travel will reduce. Demand curve
for the bus travel will shift to the left showing less demand at the same price.

Q 8. If a good can be used for many purposes, the demand for it will be elastic.
Why?

Ans: If a good can be used for many purposes , the demand for it will be more
elastic because with a decrease in its price it is put to several uses and with a
rise in its price it is withdrawn from its many existing uses. So that, there is a
considerable change in demand in response to some change in price.
Q 9. “If a product price increases, a family‟s spending on the product has to
increase.” Defend or refute.

Ans: When product price increases, expenditure on the commodity will not increase
in the situation when Ed>1 (elasticity of demand is greater than unity). It will
increase only in situation when Ed<1. In a situation when Ed=1. Expenditure
will remain constant, even when prices rise.
Q 10. Suppose there are 30 consumers for a good, having identical demand
function: d(p) =10-3P for any price less than or equal to 10/3 and d(p)=0
for any price greater than 10/3. Write the market demand function.

Ans: Market demand function is simply a horizontal summation of individual

demand functions. Since demand function for all the 30 consumers is identical,
we can write market demand simply as „individual demand function
multiplying by a factor of 30‟. Thus:
Individual demand function :
D(p)= 10-3P
Market demand function:
Md(p)=10 x 30 – 3 (30)P
= 300-90 P.

Q.11 How would you comment on the elasticity of demand when 8% decrease
in price of a commodity causes 2% increase in expenditure of the
commodity?

Ans: Elasticity of demand must be greater than unity (implying a situation of elastic
demand) when expenditure on the commodity responds inversely to any change
in price of the commodity.
4
Q12. A dentist was charging Rs.300 For a standard cleaning job and per
month it used to generate TR is equal to Rs. 30,000. She has since last month
increased the price of dental cleaning to Rs.350. As a result fewer customers are
now coming for dental cleaning, but the TR is now Rs. 33,250 .From this, what
can we conclude about the elasticity of demand for such a dental service?
Ans. PRICE TOTAL EXPENDITURE (Rs.)

300 30,000
350 33,250
When price increases, total expenditure also increases. So elasticity is less than 1.

Q. 13. The elasticity of demand for X is twice the elasticity of demand for Y.
Price of X falls by 5% and Price of Y rises by 5% . What will be the % change
in the quantity demanded of X and Y?
Ans. Suppose elasticity of demand for Y = 1 , and
elasticity of demand for X will be = 2
So, % decrease in qt. demanded of Y will be 5% , because price rises by
5%, and
% increase in qt. demanded of X will be 10% , because price falls by 5% .

Q.14 If prices of salt and cigarettes, both rises by 10% , will the qt. demanded
of both goods affected in an equal manner?
Ans. No, because the nature of the two goods is different. Salt , a necessary good,
will have constant consumption and marginal consumers will reduce the
consumption of cigarettes , which is non-essential.

Q 15. Given eD = - 0.02, and percentage increase in price = 20%, find change in
expenditure on the commodity.
5
 Implying that expenditure on the commodity increses by 15.2% owing to increase
the commodity by 20% . Which is why ed is less than 1.
.
MUX MUY
Q. 16 If , then the consumer should buy more of commodity Y and
PX PY
less of commodity X to reach the equilibrium position. Is it right or
wrong?
6
 Ans.- Wrong. Because in that situation consumer should increase consumption of
good-X so that the ration of MUX to its price may become equal to the ratio of
MUY to its price.
Q. 17 Law of diminishing marginal utility will operate even if consumption
takes place in intervals. Defend or refute.

Ans.- No, the of diminishing marginal utility will operate even if consumption takes
place in intervals. Because it is based on the assumption that consumption is
taking place in continuation
Q. 18 What changes will take place in TU, when: (i) MU curv remain above the
X-axis, (ii) MU curve touches the X-axis, (iii) MU curve lies below the X-
axis.

Ans.- (i) TU increases at decreasing rate. (ii) TU becomes maximum. And (iii) TU
starts to decline
Q. 19 A good may be an inferior good for one consumer and normal for another
consumer. Defend or refute.

Ans.- Yes it is right. A good may be inferior for a higher income person and the
same good may be a superior good for a low income person

UNIT – III

PRODUCER BEHAVIOUR AND SUPPLY

VERY SHORT ANSWER TYPE QUESTIONS: - (1 Mark Each)

Q.1. What happens to MPP when TPP increases at decreasing rate?
Ans. MPP falls but remains positive.
Q.2. As the variable input is increased by one unit, total output falls. What
would you say about of marginal productivity labour?
Ans. Marginal productivity of labour is negative.
Q.3. Why is MC curve in short run U-shaped?
Ans. MC Curve in short run is U-shaped due to operation of the law of returns to a
factor.
Q.4. Why does fixed cost not influence marginal cost?
Ans. Because marginal cost do not include fixed cost.
Q.5. When a seller sells his entire output at a fixed price, what will be the
shape of AR & MR curves?
Ans. Both AR & MR are equal and coincide with each other on a horizontal line.
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Q.6. Show that average revenue equals price.
TR PXQ
AR = = = P = Pr ice
Ans. Q Q

Q.7. What effect does a cost saving technical progress have on the supply
curve?
Ans. Supply curve will shift to the right.
Q.8. What effect does an increase in excise tax have on the supply curve?
Ans. Supply curve will shift to the left.
Q.9. What happens to TPP when marginal productivity of variable input is
negative?
Ans. TPP falls.
Q.10. When is TPP maximum in relation to MPP?
Ans. When MPP is zero.
Q.11. What happens to MPP when TPP is declining?
Ans. MPP declines and remains negative.
Q.12. How does fall in MPP affect TPP?
Ans. TPP increases at decreasing rate.

Q.13. What effect does an increase in input price have on the supply curve?
Ans. The supply curve will shift towards left-hand side.
Q.14. Why does average cost fall as output rises?
Ans. AC falls due to operation of the law of increasing returns to a factor as output
rises.
Q15. Does fixed cost affect marginal cost? Give the answer with reason.
Ans. No, because fixed cost is not subject to change and it is not considered while
calculating MC.
Q.16. What would be the effect of increase in the output on the TFC?
Ans. There would not be any effect of increase in the output on the TFC, It will be
constant at different levels of production.
Q.17. If marginal revenue falls, will total revenue fall?
Ans. It may fall when MR falls and becomes negative. If MR falls but remains
positive then TR may increase with diminishing rate.
Q.18. What is the price elasticity of supply of a commodity whose straight line
supply curve passes through the origin forming an angle of 25º?
Ans. Price elasticity of supply will be equal to one when a straight line supply
curve passes through the origin; angle does not matter anything.
Q. 19. Can MC be equal to TVC?

Ans.- Yes MC may be equal to TVC at output level one.

8
Q. 20 Why does the minimum point of AC curve fall towards right of AVC
curve?

Ans.- Because AC is sum total of AVC and AFC.

Q.21. The two inversely S-shaped short run cost curves are parallel to each
other and maintain a constant distance of Rs. 50. What is indicated by Rs.
50? Also identify the two inversely S-shaped short run cost curves.

Ans.- Rs. 50 is TFC. And two inversely S-shaped cost curves are TVC and TC
respectively.
Q. 22. The equality of MC and MR is a condition necessary for equilibrium, but
it is not by itself sufficient to ensure the attainment of producer‟s
equilibrium. Comment.

Ans.- Yes. For consumers equilibrium it is also essential that after the equilibrium
level of production MC should be greater than MR. Other-wise there will be
an incentive to increase the output in order to maximize the profit.
Q. 23. Ram produces both Jeans and Shirts. How will an increase in the price of
Jeans affect the supply curve of Shirts?

Ans.- An increase in the price of Jeans will decrease the supply of Shirts, because
now it will be profitable to the producer to produce and sell more of Jeans
instead of Shirts, as it has become expensive.

Q. 24. Will a firm stop production at break-even point in short run? Why?

Ans.- No, firm will not stop the production at break-even point because that firm has
given best employment to its factors of production.

SHORT ANSWER TYPE QUESTIONS: (3/4 Marks Each)

Q.1. Why is more of a commodity supplied only at a higher price?

Ans.- Because increase in production leads to decrease in returns to a factor. That in

turn leads to increase in cost. That is why more of a commodity supplied only
at a higher price

Q. 2. Suppose the functions of demand and supply curves of a commodity are

given by: qD = 100-p

qS = 60 + p for p≥ 15
= 0 for 0≤p<15
9
 (i) What does p =15 indicate?

(ii) Find the equilibrium price and equilibrium quantity.

(iii) Whether the given commodity comes under the category of viable
industry.

(iv) Calculate market demand and supply at price of Rs. 25 and Rs. 10.
Show that at price of Rs. 25, there is excess supply and at price of Rs.
10, there is excess demand.

Ans.-
(i) P=15 indicates that the minimum average cost of the firm is Rs. 15 and
firm will not supply the commodity for any price less than Rs. 15

(ii) Equilibrium Price = Rs. 20 and equilibrium quantity = 80 units

(iii) Yes, the given commodity comes under the category of viable industry as
there is some price, at which supply and demand happens to coincide.

(iv) At price Rs. 25 market demand = 75 units and market supply = 85 units.
Therefore there will be excess supply of 10 units

And at price of Rs. 10 market demand = 90 units and market supply = 70

units. Therefore there will be excess demand of 20 units.

Q. 3. There are three different supply curves passing through the origin. A
curve makes an angel of 60o. Curve B makes an angel of 45o and curve C
makes an angel of 30o. What will be the price elasticity of curve A, B and
C?

Ans.- Price elasticity of supply of good will be equal to one if supply curve is
passing through the origin point, irrespective of the angel made by it with the
origin.

Q. 4. Why should MC curve cut MR curve from below to achieve producer‟s

equilibrium?

Ans.- Because after equilibrium level of output, marginal cost should become
greater than the marginal revenue. Other-wise there will be an incentive to
increase the output in order to maximize the profit.

10
Q. 5. The gap between AC and AVC keeps on decreasing with rise in output,
but they never meet each other. Comment.

Ans.- Yes it is right statement. Because the gap between AC and AVC is equal to
AFC which goes on diminish as output increases. Since TFC is fixed at all
levels of output, AFC goes on diminish as output increases
Q. 6. If TVC=0, TC is also zero. Is it true or falls? Give reason for your answer.

Ans.- It is falls. Because in short TC = TFC + TVC. Therefore in short run TC will
be some-thing positive even if TVC=0. But in long run TC = TVC. Therefore
in long run TC will be zero if TVC=0.

Q. 7. Why increasing MP not sustainable?

Ans. Decrasing MP set in due to following reasons:-
1. Fixity of the factor: As more and more units of the variable factor continue
to be combined with the fixed factor, the later gets over-utilized.
2. Imperfect Substitution among Factor: Beyond a certain limit, factors of
production cannot be substitute for one another e.g. more and more of
labour cannot be continuously used in place of additional capital.

Q. 8. Why MC cuts AC at its minimum?

Ans. because (i) When MC < AC, AC falls.
(ii) When MC = AC, AC is minimum.
(iii) When MC > AC, AC rises.
(iv) MC falls & rises faster than AC.
(v) Both are obtained from TC.
TC TC
AC = , MC =
Q Q

11
Q. 9. How do changes in MR affect TR?
Ans. i) If MR increases, TR increases at increasing rate.
ii) If MR is constant, TR increases at constant rate.
ii) IF MR falls, TR increases at diminishing rate.

Q.10. What is MR? How is it related to AR?

Ans. MR refers to the change in TR due to sale of an additional unit.
Relation –
(i) If AR (Price) is constant, MR = AR
(ii) If AR (Price) falls, MR < AR.
(iii) If AR (Price) rises, MR > AR.

Q. 11. What will be the price elasticity of supply if the supply curve is a
positively sloped straight line?
Ans. Es = 1 if the curve starts from the origin point.
Es> 1 if the curve starts from the y-axis and
E<1 if the curve starts from the x-axis.

Q. 12. State the relation between marginal revenue and average revenue when a
firm:
(i) is able to sell more quantity of output at the same price.
(ii) is able to sell more quantity of output only by lowering the price.
Ans. Marginal revenue is the addition to total revenue from producing one more
unit of output.
12
 (i) MR = AR at all levels of the output. (In case of perfect completion market)
(ii) MR will be less than AR at all levels of the output. (In case of monopoly
and monopolistic market)

LONG ANSWER TYPE QUESTIONS: (6 Marks Each)

Q. 1. In the following table, identify the different phases of the law of variable
proportions and explain them with the help of the table and a diagram.

Variable input
1 2 3 4 5 6 7 8
(units)
Total product
2 5 9 12 14 15 15 14
(units)

Ans. Law of Variable Proportion states that if we go on using more and more units
of a variable factor along with a fixed factor, the total output initially increases
at an increasing rate, after that it increases at diminishing rate and finally it
declines.

It can be explained through the following three stages:

Units of TPP MPP Stages of

labour Production
1 2 2
2 5 3 Stage I
3 9 4
4 12 3
5 14 2 Stage II
6 15 1
7 15 0
Stage III
8 14 –1

13
 Stage II
Y Stage III
Stage I

TPP
&
MPP

TPP

X
Labour
MPP

Y
‟

Stage 1:
• TPP increases at an increasing rate.
• MP increases and reaches at its maximum at the end of the stage.
• This is also called stage of increasing returns.
Stage 2:
• TPP increase but at diminishing rate.
• MPP starts decline but remains positive.
• This stage comes to an end when TPP is maximum and MPP is zero.
Stage 3:
• TP starts decline.
• MP becomes negative.
• This is also called stage of decreasing/negative returns.

14
NUMERICAL PROBLEMS WITH SOLUTIONS:
PRODUCTION:
Q. 1. Find out APP and MPP.
Labour 1 2 3 4 5 6 7
TPP 40 80 110 130 140 140 130

Ans. APP 40 40 36.67 32.5 28 23.33 18.57

MPP 40 40 30 20 10 0 -10

Q. 2. Find out the TPP and APP.

Labour 1 2 3 4 5 6 7
MPP 24 20 16 12 8 0 -8

Ans. TPP 24 44 60 72 80 80 72
APP 24 22 20 18 16 13.33 10.28

Q. 3. Calculate the APP and MPP.

Labour 0 1 2 3 4 5 6 7
TPP 0 5 12 20 30 35 40 42

Ans. APP 0 5 6 6.66 7.5 7 6.66 6

MPP - 5 7 8 10 5 5 2

Q. 4. The following table gives APP of a factor. It is also known

that (TPP) total product at O level of employment is O.
Determine its total product and marginal product.
Labour 1 2 3 4 5 6
APP 50 48 45 42 39 35

Ans. TPP 0 50 96 135 168 195 210

MPP - 50 46 39 33 27 15

15
COST:
Q. 1. Calculate the TVC, AFC,AVC, and MC.
Output 0 1 2 3 4 5 6
TC 60 80 100 111 116 130 150

Ans. TFC 60 60 60 60 60 60 60
TVC 0 20 40 51 56 70 90
AFC - 60 30 20 15 12 10
AVC - 20 20 17 14 14 15
MC - 20 20 11 5 14 20

Q. 2. Calculate TC and AVC.

Output 1 2 3 4 5 6
AFC 60 30 20 15 12 10
MC 32 30 28 30 35 43

Ans. TC 92 122 150 180 215 258

TFC 60 60 60 60 60 60
TVC 32 62 90 120 155 198
AVC 32 31 30 30 31 33

Q. 3 . Calculate MC and AC if fixed cost is 40.

Output 1 2 3 4 5 6
TVC 60 80 90 110 150 216

Ans. MC 60 20 10 20 40 66
TC 100 120 130 150 190 256
AC 100 60 43.33 37.5 38 42.67

Q.4
OUTPUT 1 2 3 4
AC 54 ------ ----- 33
AVC 30 24 ----- -----
MC 30 ----- 24 -----
ANS.
OUTPUT 1 2 3 4
AC 54 36 32 33
AVC 30 24 24 27

16
MC 30 18 24 36

REVENUE:

Q. 1. Find AR and MR.

Output 1 2 3 4 5 6 7
TR 10 24 33 40 40 36 28

Ans. AR 10 12 11 10 8 6 4
MR 10 14 9 7 0 -4 -8

Q. 2. Find out TR and MR.

Output 10 9 8
AR 6 7 8

Ans. TR 60 63 64
MR - 3 1

Q. 3. Complete the following table:

Output 1 2 3 4
Price - 9 - -
MR 10 - - 4
TR - - 24 -

Ans. Output 1 2 3 4
Price 10 9 8 7
MR 10 8 6 4
TR 10 18 24 28

Q. 4. Calculate TR and AR
Output 1 2 3 4
MR 10 8 0 -2

Ans. TR 10 18 18 16
AR 10 9 6 4

17
ELASTICITY OF SUPPLY:

Q.1. If price elasticity of supply of a commodity is 5. A producer

supplies 500 units of this product at a price of Rs. 5 per unit.
How much quantity of this product will be supplied, at the price
of Rs. 6 per unit?

Ans. es = 5
P Q
5 500 ∆q = x – 500
6 x ∆p = 1
p = 5
q = 500
q p
e= x
p q

x - 500
5=
100
5 × 100 = x – 500
500 = x – 500
500 + 500 = x
x = 1000 (units)

Q.2. Due to a 10 per cent rise in the price of a commodity, its quantity
supplied rises from 400 units to 450 units. Calculate its price
elasticity of supply. Is the supply elastic?

Ans. P = 10% Change in quantity

% Change in quantity supplied = x 100
Original quantity
50
x 100
= 400
= 12.5%

12.5
es =
10
125
es =
100

18
 es = 1.25 (Yes, its supply is elastic.)
Q.3. The quantity supplied of a commodity at a price of Rs. 8 per unit
is 400 units. Its price elasticity of supply is 2. Calculate the new
price at which its quantity supplied will be 600 units?

Ans. es = 2
p q ∆q = 200
8 400 ∆p = x-8
x 600 p = 8
q = 400

q p
e= x
p q
200 8
e2 = x
x - 8 400
4
2 =
x -8

2 (X - 8) = 4
2 x - 16 = 4
2 x = 4+16
2 x = 20
x = 10
Hence the new price is Rs. 10.
Q.4. When the price of a commodity rises from Rs.10 to Rs.12 per
unit, its quantity supplied rises by 100 units. If es = 2, Calculate
its quantity supplied at increased price.

Ans. es = 2
∆q = 100
∆p = 2
p = 10
q p
e = x
p q

100 10
____ ____
2 = x
2 q

4q = 1000
q = 250 (original quantity)
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Quantity supplied at increased price = 250 + 100 = 350 units
Q.5. If es = 3, A seller supplies 20 units of the commodity at a price of
Rs.8 per unit. How much quantity of the commodity will the
seller supply when price rises by Rs.2 per unit?
Ans. es = 3
q = 20
p = 8
∆p = 2
q p
e = x
p q

∆q 8
____ ____
3 = x
2 20

8 ∆q = 120
∆q = 15
(change in quantity)

Quantity supplied at increased price = 20 + 15 = 35 units

UNIT-IV

FORMS OF MARKET AND PRICE DETERMINATION

VERY SHORT ANSWER TYPE QUESTIONS: - (1 Mark Each)

Q. 1. What is the value of MR when demand curve is elastic?

Ans. MR is positive.
Q. 2. In which market DD curve is indeterminate?
Ans.- Oligopoly Market.
Q 2. Who determines price under perfect competition?
Ans: Price under perfect competition is determined by the forces of market demand
and market supply in industry.
Q 3. How much loss can a firm bear?
Ans: A firm can bear losses upto its total fixed costs in short run.
Q 4. Explain the motivation behind granting patent rights.
Ans: Motivation behind granting patent rights are:
(A) To encourage research and development; and
(B) To encourage new discoveries and innovations.
20
 SHORT ANSWER TYPE QUESTIONS: - (3 /4 Marks Each)

Q 1. Explain how the efficiency may increase if two firms merge?

Ans: When the two firms merge, their combined efficiency is expected to improve
owing to:
(A) Increase in the scale of output and the consequent economies of scale.
(B) Better division of labour and specialization; and
(C) Use of better technology, saving the cost of production.

Q 2. Why is the demand curve facing a monopolistically competitive firm likely

to be very elastic?
Ans: It is because the products produced by the monopolistically competitive firms
are close substitutes to each other. If products are close substitutes to each
other the elasticity of demand is high, which is what makes the firm‟s demand
curve(under monopolistic competition) very elastic.

Q 3. Why is the demand curve facing a firm perfectly elastic under perfect
competition but less than perfectly elastic under monopolistic
competition?
Ans. The demand curve under perfect competition is perfectly elastic. Perfectly
elastic demand curve means any quantity can be sold only at a given price.
Under perfect competition, the price of the product is determined by the
industry by the forces of demand and supply and the firm has no option but to
accept it. Uniform price prevails because all firms are selling a homogeneous
product. A firm cannot influence or alter the price. Implying that a firm can
sell any quantity at the given price. Therefore, the demand curve will be a
straight line parallel to the X-axis as shown in Fig. ; which is perfectly elastic,
showing Ed=infinity
The demand curve under monopolistic competition is less than perfectly
elastic. It means more can be sold only at lower price. Under monopolistic
competition, the seller sells a differentiated product, so he exercises partial
control over price. But he can sell more only by lowering the price; certainly
not at the existing price.
This is what makes the demand curve less than perfectly elastic.

Q 4. Which features of monopolistic competition are monopolist in nature?

Ans. (i) Product differentiation
(ii) Control over price
(iii) Downward sloping demand curve

21
Q 5. How does an increase in the price of a substitute good in consumption
affect the equilibrium price?
Ans: With increase in the price of the substitute good, the equilibrium price of the
concerned good will increase owing to shift in demand curve to the right.

Q 6. „Changes in both demand any supply of a commodity may or may not

affect its equilibrium price.‟ Explain.
Ans: If the demand and supply of a commodity change equally, and in the same
direction there will be no effect on its price. On the other hand, an unequal
change in demand and supply will affect equilibrium price. When demand
increases more than supply, equilibrium price will rise. On the other hand,
when supply increases more than demand, equilibrium price will fall.

Q 7. When will the equilibrium price of a commodity not change even if its
demand and supply both increase? Explain with the help of a diagram.
Ans. If both increases equally.

Q 8. A severe drought results in a drastic fall in the output of wheat. Analyze

how will it affect the market price of wheat?
Ans: As a result of severe drought, the output of wheat is reduced. It means the
supply of wheat in the market will reduce, causing a shift of supply curve to
the left. Accordingly, market price of wheat will increase.

22
Q 9. Suppose the demand for jeans increases. At the same time, because of an
increase in price of cotton, the supply of jeans decreases. How will it
affect the price and quantity sold of jeans?
Ans: Increase in market demand for jeans along with a decrease in the supply of
jeans should raise the price of jeans and the quantity sold will decline.

Q 10. China is a big manufacturer of technology of telephone instruments. It

has recently become a member of W.T.O., which means it can sell its
products in other member countries like India. Suppose that it does
export a large number of telephone instruments to India:
(A) How will it affect the price and quantity sold of telephone instruments
in India?
(B) Suppose that the demand for telephone instruments is relatively
elastic. How will it affect India‟s total expenditure on telephone
instruments?
Ans: (A) As a result of large export of telephone instruments by Chine to India, the
market supply of telephone instruments increases. It reduces the price of
telephone instruments while the quantity sold will increase.
(B) If the demand for telephone instruments is relatively elastic, reduction in
price should increase total expenditure on telephone instruments in India.

Q 11. Mrs. Ramgopal says that economists say inconsistent things: as price
falls, demand rises, but as demand rises, price rises. Defend or refute.
Ans: The statement of Mrs. Ramgopal that “as price falls, demand rises, but as
demand rises, price rises”, can be defended. The first part of the statement i.e.
as price falls demand rises is the general behavior of the consumer in the
market. This is simply a forward movement along a demand curve. Demand
changes due to change in the price of the commodity. But, there may also be
situation when increase in demand leads to increase in price. When the supply
of the commodity remains unchanged. And demand increases (due to factors
other than price such as increase in income of the consumer or change in taste
preference of the consumer.) The demand curve shifts upward and it raises the
market price. Fig. illustrates the two situations:

23
Q 12. Answer all the questions in terms of shifts in or movements along the
demand and supply curves.
(A) In 2001, the Supreme Court of India banned smoking in public
places. How is this likely to affect the average price of cigarettes and the
quantity sold?
(B) New discoveries of oil reduce the price of petrol and diesel. Consider
their effects on the market for new cars.
(C) New environmental regulations require the drug industry to use a
more environment friendly technology whose running cost are higher but
which discharges less chemicals than before. How would it affect the price
of drug?
Ans: (A) A ban on cigarette smoking in public places should cause a backward shift
in demand curve. Consequently average price of cigarettes should fall. Fall in
average price of cigarette should cause a fall in quantity sold.
(B) New discoveries of oil reducing the price of petrol/diesel should imply
increase in demand for cars (in terms of shift in demand curve to the right), as
cars and petrol/diesel are complementary goods.
(C) Due to the use of costlier (environment friendly) technology, supply curve
of drug will shift to the left, causing a rise in the price of drug.

Q 13. In a state of equilibrium, price greater than MC is ruled out for a

perfectly competitive firm. Show diagrammatically.
Ans: Fig illustrates how prices greater than MC is ruled out for a perfectly
competitive firm in a state of equilibrium. Equality between price (AR) and
MC is struck at point Q where all the conditions of equilibrium are satisfied.
OL is the equilibrium level of output. Suppose the firm decides to produce

24
 OL1 output where AR(=L1Q1)>MC(=L1T1). As a consequence of shifting
from Q to Q1; loss of TR=Q1L1LQ, while the TC is saved to the tune of Q1TQ.
Evidently, reduction in TC (=Q1TQ) is only a part of reduction in
TR(=Q1L1LQ). Implying that the differential between TR and TC(= profit)
would reduce in case the firm shifts from Q to Q1 Profit is maximized only at
point Q where price = MC.

Q 14. In a state of equilibrium, price lesser than MC is ruled out for a perfectly
competitive firm. Show diagrammatically.(Question for practice)

Q 15. What is firm‟s supply curve in the short run, operating under perfect
competition?
Ans: It is MC curve of the firm starting from a point where MC=AVC (minimum).
In Figure, short period supply curve of the firm is MC curve starting from point Q
where AR= AVC (minimum).
Q.16 In which market situation, the influence of an individual seller is zero?

25
Ans. In the Perfectly Competitive market situation.
Q.17 How is a single buyer a price taker in perfect competition?
Ans. A single buyer‟s share in total market demand is so significant that the buyer
cannot influence the market price on his own by changing his demand.
Q.18 Normal profit means zero economic profit. Why?
Ans. Suppose the existing firms are earning above normal profits. Attracted by the
positive profits, the new firms enter the industry .The market supply increases
and the price comes down. New firms continue to enter and the price
continues to fall till economic profits are reduced to zero.
In case of losses, firms start leaving the industry, supply falls and prices
starts going up and all this continues till losses are wiped out. Remaining
firms in the industry then once again earn just normal profits / zero profit.
Q. 19. Why does there are few firms in oligopoly market?

Ans.- There are only few firms in oligopoly market because there are some
restrictions on the entry of firms in the market. Which are inter-dependence of
firms, big requirements of funds, great competition among the firms. The only
firms which can break these restrictions are able to enter the market.
Q. 20. Does a monopolist has full control over the price?
Ans. No, because price is determined by the forces of demand and supply . a
monopolist controls only the supply side and demand side remain
uncontrolled.

26
 UNIT VI

NATIONAL INCOME AND RELATED AGGREGATES

VERY SHORT ANSWER TYPE QUESTIONS: - (1 Mark Each)

Q.1. When is the national income less than domestic income?

Ans. When NFIA is negative.
Q.2. When is the national income larger than domestic factor income?
Ans. When NFIA is positive.
Q.3. What is the effect of an indirect tax and a subsidy, on the price of the
commodity?
Ans. The effect of an indirect tax on a commodity is to increase the price and the
effect of subsidy is to reduce the price in the market.
Q.4. Are the wages and salaries received by Indians working in American
Embassy in India a part of Domestic Product of India?
Ans. No, because American embassy is not a part of domestic territory of India.
Q.5. Why is the study of the problem of unemployment in India considered a
macro economic study?
Ans. The problem of unemployment in India is an economic issue at level of
economy as a whole, hence considered as macroeconomic study.
Q.6. When is gross domestic product of an economy equal to gross national
product?
Ans. When NFIA is zero.
Q.7 Name a product whose value is included in GDP but its consumption
reduce welfare?
Ans. Liquor.
Q.8 Why is interest paid by consumers not a factor payment?
Ans. Because consumer borrow money for consumption purpose.
Q.9 If compensation of employees in a firm constitutes 55 % of net value added
at factor cost of the firm , find the proportion of operating surplus.
Ans. 100 % - 55 % = 45 % ( assuming mixed income is Zero)

SHORT ANSWER TYPE QUESTIONS: (3/4 Marks Each)

Q.1. Will the following be included in gross domestic product / Domestic

Income of India? Give reasons for each answer.
(i) Consultation fee received by a doctor.
27
(ii) Purchase of new shares of a domestic firm.

(iii) Services charges paid to a dealer (broker) in exchange of second hand

goods.
Ans. (i) Yes, It is a factor income. It is his salary.
(ii) No, It is not included in GDP, because it is a merely financial transaction which
does not help directly in production.
(iii) It is included because it is his factor income (salary).

Q.2. State whether the following is a stock or flow:

(a) Wealth, (b) Cement production, (c) Saving of a household, and (d) Income of
household.(e)profit
Ans. Stock – (a) & (b), since these are variables measurable at a point of time.
Flow – (c) , (d)& (e), since these are variables measurable over period of time.
Q.3. State whether the following is a stock or flow:
(a) National capital, (b) Exports, (c) Capital formation, and (d) Expenditure on
food by households.
Ans. Stock – (a), since national capital is a variable measurable at a point of time.
Flow – (b), (c) & (d), since these are variables measurable over period of time.
Q.4. Are the following included in the estimation of National Income a
country? Give reasons.
(i) Bonus received by employees.
(ii) Government expenditure on defence.
(iii) Money sent by a worker working abroad to his family.
(iv) Profit earned by a branch of Indian Bank in London.
(V) Expenditure by government in providing free education.

Ans. (i) It should be included in NI because it is a part of the compensation of

employees (salary in cash).
(ii) It should be included in NI because defence service is considered final
service so far as it provides peaceful and secure environment to the citizens.
(iii) It is included in NI because it is a part of NFIA.
(iv) It is included in NI of India because it is a part of NFIA.
(v) yes , it is a part of government final consumption expenditure.
Q.5. Are the following included in the estimation of National Income a
country? Give reasons.
(i) Rent free house to an employee by an employer.
(ii) Purchases by foreign tourists.
(iii) Purchase of a truck to carry goods by a production unit.
(iv) Payment of wealth tax by a household.

28
Ans. (i) It should be included in NI because it is a part of the compensation of
employees (salary in kind).
(ii) It is included in NI because it is a part of the final consumption expenditure
on domestic product.
(iii) It should be included in NI because it is an addition to the capital stock of
the production unit.
(iv) It should not be included in NI because it is a compulsory transfer
payment and paid from past savings of the tax payers.
Q.6. Is net export a part of NFIA? Explain.
Ans. No, it is not.Net export, the difference between export and import (X- M), is
a part of expenditure on domestic product. While NFIA is the difference
between income earned from abroad by the normal residents of a country and
income earned by non-residents in the domestic territory of that country. It is
not included in the domestic product rather it is a component of NI. Therefore
both are different concepts.
Q.7 Should we treat subsidy as transfer payment?
Ans. No, value addition has already accrued. In fact, subsidies tend to lower the
market value of the good produced .Accordingly, these are added to the
market price to make it equal to the factor cost . Subsidies are a part of NNP
FC which is why these are deducted from factor cost to equate it with market
price.

LONG ANSWER TYPE QUESTIONS: (6 Marks Each)

Q. 1. Will the following be included in gross domestic product / Domestic

Factor Income of India? Give reasons for each answer.
(i) interest free loan to bank employees from bank
(ii) Factor income from abroad.
(iii) Compensation of employees given to residents of china working in
Indian embassy in China.
(iv) Profit earned by a company in India, which is owned by a non-
resident.
Ans. (i) no, it is to be repayed.
(ii) No, because factor income is earned not within the domestic territory of a
country but from abroad.
(iii) Yes, because Indian embassy in China is a part of domestic territory of
India.
(iv) Yes, because the company within India‟s domestic territory earns profit.

29
Q.2. Why are exports included in the estimation of domestic product by the
expenditure method? Can gross domestic product be greater than gross
national product? Explain.(4+2)
Ans. Expenditure method estimates expenditure on domestic product, i.e.
expenditure on final goods and services produced within the economic
territory of the country. It includes expenditure by residents and non- residents
both. Exports, though purchased by non- residents, are produced within the
economic territory, and therefore, a part of domestic product.
Domestic product can be greater than national product if factor income
paid to the rest of the world is greater than the factor income received from
the rest of the world is i.e. when net-factor income received from abroad is
negative.
Q.3. Are the following included in the estimation of National Income of India?
Give reasons for each answer.
(i) profits earned by Dabur India in U.K.
(ii) Money received from sale of shares.
(iii) Salary paid to Americans working in Indian embassy in America.
(iv) payment of electricity bill by a factory
(v) direct purchases of government in a foreign country.
(vi) Remittances from aboard.
Ans. (i) Yes , it is a part of factor income earned from abroad.
(ii) No, it is only a transfer of paper claims.
(iii) No, this factor income belongs to non-residents.
(iv) No. it is intermediate consumption.
(v) Yes , it is government final consumption expenditure.
(vi) No, it is only a transfer payment. No commodity is sent or services
rendered return for this.
Q.4. Will the following be included National Income? Give reasons for each
answer.
(i) Services of owner occupied houses.
(ii) Purchase of new shares of a domestic firm.
(iii) Purchase of second-hand machine from a domestic firm.
(iv) Consultancy fee paid to a foreign expert.
(v) Commission paid to agent for the sale and purchase of shares.
(vi) Dividend received on shares.
Ans. (i) Yes, Imputed rent of owner occupied houses will be included in NI.
(ii) No, because it is a financial transaction which does not help directly in
production.
(iii) No, because it is not related with current flow of goods and services.
(iv) No, as it is a factor income paid abroad (it is earned by non-residents).
(v) Yes, It is included in NI since it is paid for rendering productive services.
30
 (vi) Yes, dividends are a part of corporate profit and therefore, include in NI.

Q.5. Will the following be included National Income? Give reasons for each
answer.
(i) Free Medical facility to employees by the employer.
(ii) Money received from sale of old house.
(iii) Government expenditure on street lighting.
(iv) Interest received by a household from a commercial bank.
(v) Receipts from sale of land.
(vi) Interest on public debt.
Ans. (i) Yes, as it is a supplementary income paid in kind and hence a part of
compensation of employees.
(ii) No, as it has already been taken into account when the house was
constructed.
(iii) Yes, It is a part of Government final consumption expenditure and it adds
to flow of services.
(iv) Yes, as it is payment for use of capital.
(v) No, as it does not add to flow of goods & services.
(vi) It should not be included in NI because public debt is a loan taken on to
meet consumption expenditure by the government.

Q.6. Are the following included in the estimation of National Income a

country? Give reasons.
(i) Services rendered by family members to each other.
(ii) Wheat grown by a farmer but used entirely for family‟s consumption.
(iii) Expenditure government on providing free education.
(iv) Payment of fees to a lawyer engaged by a firm.
(v) Man of the match award to a player of the Indian cricket team.
(vi) Payment of the match fee to players of Indian cricket team.
Ans. (i) Services rendered by family members to each other should not be included
in NI because these are not rendered for the purpose of earning income.
(ii) Imputed value of self-consumed wheat grown by a farmer must be
included in NI, because it adds in the flow of goods.
(iii) It should be included in NI because the government expenditure on the
free services is considered as a part of government final consumption
expenditure.
(iv) Yes, as it is factor income against the service of lawyer.
(v) It should not be included in NI because it is a windfall gain and it does not
add in the flow of goods and services.
(vi) It should be included in NI of India because they render productive
services as professionals.
31
Q.7. Are the following included in the estimation of National Income a
country? Give reasons.
(i) Unemployment allowance under NREGA.
(ii) Indirect tax (Sale tax/excise duty).
(iii) Salary received by the workers under NREGA.
(iv) Income tax.
(v) Corporation tax.
(vi) Travelling expenses paid to salesman by the employer.
Ans. (i) It is transfer payment received by those persons who are not employed;
therefore it should not be included in NI.
(ii) It is not included in NI because it does not add in the flow of goods and
services.
(iii) It is included in NI because it is a factor income.
(iv) It is a part of compensation of an employee (income). While calculating
NI by income method, compensation of employees is to be included while
doing so, income tax to be paid by them should not be included separately.
(v) It is a part of profit of corporate sector. While calculating NI by income
method, profit is to be included while doing so, Corporation tax should not be
included separately.
(vi) Travel expenses incurred by employees for business purpose which are
reimbursed by the employers are excluded because these are a part of
intermediate consumption of the employers

NUMERICAL PROBLEMS WITH SOLUTIONS:

Q.1. Calculate private income, personal income, personal disposable income and
National disposable income from the following data:
(Rs. in Crores)
(i) National income 3000
(ii) Savings of private corporate sector 30
(iii) Corporate tax 80
(iv) Current transfer from government 60
(v) Income from property and entrepreneurship to government 150
(vi) Current transfers from rest of the world 50
(vii) Savings of non-departmental government sector 40
(Viii) Net indirect taxes 250
(ix) Direct taxes paid by household 100
(x) Net factor income from abroad (-) 10

32
Solution: -
Private income = (i) - (iv + vii) + (iv + vi)
= 3000 - (150 + 40) + (60 + 50)
= 2920 Crores.
Personal income = 2920 - (ii) - (iii)
= 2920-30-80
= Rs 2810 Crores.
Personal Disposable Income = 2810- (ix)
= 2810-100
= Rs 2710 Crores.
National Disposable Income = (i) + (vi) + (viii)
= 3000 + 50 + 250
=Rs 3300 Crores.

Q2. Calculate NI by income and expenditure method:

(Rs. in Crores)
(i) Subsidies 5
(ii) Private final consumption expenditure 100
(iii) NFIA (-) 10
(iv) Indirect Tax 25
(v) Rent 5
(vi) Government final consumption expenditure 20
(vii) Net domestic fixed capital formation 30
(viii) Operating surplus 20
(ix) Wages 50
(x) Net export (-) 5
(xi) Addition to stock (-) 5
(xii) Social security contribution by employers 10
(xiii) Mixed income 40

Solution: -
Income method
NI= (ix) + (xii) + (viii) + (xiii) – (iii)
= 50 +10 + 20 + 40 -10
=Rs 110 Crores.
Expenditure method
NI = (ii) + (vi) + (vii) + (xi) + (x) - (iv) + (i) + (iii)
=100 + 20 + 30 + (-) 5 + (-) 5 – 25 + 5 +10
33
 =Rs 110 Crores.

Q.3. Calculate the value added by Firm A and Firm B from the following data: -
(Rs. in Lakhs)
(i) Purchase by Firm A from the rest of the world 40
(ii) Sales by Firm B 100
(iii) Purchases by Firm A from Firm B 60
(iv) Sales by Firm A 120
(v) Exports by Firm A 40
(vi) Opening stock of Firm A 45
(vii) Closing stock of Firm A 30
(viii) Opening stock of Firm B 40
(ix) Closing stock of Firm B 30
(x) Purchases by Firm B from Firm A 60

Solution: -
Value Added by Firm A = (iv) + [(vii) – (vi)] – (i) – (iii)
= 120 + [30 – 45] – 40 – 60
= Rs 5 Lakhs.

Value Added by Firm B = (ii) + [(ix) – (viii)] - (x)

= 100 + [30 – 40] - 60
= Rs 30 Lakhs.

Q.4. Estimate (i) Personal Income, (ii) Private Income and (iii) Personal
Disposable Income with the help of the following data.
(Rs. in Crores)
(i) National income 1300
(ii) Corporate tax 15
(iii) Direct personal taxes 40
(iv) Savings of private corporate sector 25
(v) Income from property and entrepreneurship accruing to Government
Administrative Departments 35
(vi) Current transfer from government administrative departments 30
(vii) National Debt Interest 10
(viii) Savings of non departmental government enterprises 5
(ix) Current transfers from rest of the world 15

Solution: -
Private Income = (i) - (v) – (viii) + (vii) + (vi) + (ix)
= 1300 – 35 – 5 +10 + 30 + 15
= Rs. 1315 crores.
34
Personal Income = Private Income – (ii) – (iv)
= 1315 -15 -25
= Rs 1275 crores.
Personal Disposable Income = Personal Income – (iii)
= 1275 – 40
= Rs 1235 Crores.

Q.5. Estimate (i) Personal Disposable Income, (ii) Private Income and (iii)
National Income from the following data:
(Rs. in Crores)
(i) Personal income 1225
(ii) Saving of private corporate sector 12
(iii) Corporate tax 23
(iv) Current transfer from government administrative departments 30
(v) Current transfer from rest of the world 25
(vi) Income from property and entrepreneurship accruing to Government
Administrative Departments 25
(vii) Savings of non departmental government enterprises 20
(viii) Net indirect tax 195
(ix) Direct tax paid by the households 25

Solution: -
Personal Disposable Income = Personal income - Direct tax
= 1225 - 25
= 1200 Crores
Private Income = Personal income + Saving of private corporate sector + Corporate
tax
= 1225 +12 + 23
= 1260 Crores
National Income = Private Income – (iv) – (v) + (vi) + (vii)
= 1260 – 30 - 25 + 25 + 20
= 1260 Crores

35
Q.6. Estimate the following with the help of given data:
(i) GDPMP ,
(ii) Net Value Added at factor cost; and (iii) prove that it is equal to the income
generated.
(Rs. in Crores)
(i) Increase in the stock of unsold goods 1000
(ii) Sales 10,000
(iii) Net indirect tax 800
(iv) Purchase of raw materials from other firms 1650
(v) Purchase of fuel and power 850
(vi) Consumption of fixed capital 500
(vii) Rent 700
(viii) Wages and salaries 3500
(ix) Interest payment 1000
(x) Dividend 1500
(xi) Corporate gain tax 300
(xii) Undistributed profit 200

Solution: -
GDPMP = Sales + Increase in the stock - Purchase of raw materials - Purchase of fuel
and power.
= 10,000 + 1000 -1650 -850
= 11,000 -2500
= 8500 Crores.
Net Value Added at factor cost = Sales + Increase in the stock - Purchase of raw
materials –
Purchase of fuel and power - Consumption of fixed capital - Net
indirect tax.
= 10,000 + 1000 - 1650 - 850 - 500 – 800
= 11,000 – 3800
= 7200 Crores.
Income generated = Rent + Wages and salaries + Interest + Dividend + Corporate
gain tax + Undistributed profit.
= 700 + 3500 + 1000 + 1500 + 300 + 200
= 7200 Crores.
Hence it is proved that Net Value Added at factor cost = Income Generated

36
 UNIT VII
DETERMINATION OF INCOME AND EMPLOYMENT
VERY SHORT ANSWER TYPE QUESTIONS: - (1 Mark Each)

Q. 1 Can consumption exceed income? If yes, what is the saving then?

Ans. Yes, when income is zero or less than subsistence level of
consumption . Saving is –ve.
Q.2 How much new income will be generated in an economy with an
increase in investment by Rs. 200 and when two-third of rise in
income spent on consumption.
Ans. 600 Rs .
Q.3 Why can the value of MPC be not greater than 1?
Ans. It is because change in consumption can never be greater than change in
income.
Q.4 Does an excess of AD over AS always imply a situation of inflationary gap?
Ans. No. Inflationary gap occurs only when AD>AS corresponding to full
employment level of employment.
Q.5 What happens in an economy, when credit availability is restricted and
credit is made costlier?
Ans. Aggregate demands falls

SHORT ANSWER TYPE QUESTIONS: - (3 /4 Marks Each)

Q.1 What happens if AD>AS prior to full employment level of employment?

Ans. It is a state of disequilibrium in economics. When AD>AS , producers have to
cater to demand out of their existing stock of goods , implying that the desired level

37
of stocks will decrease. It implies greater production & therefore there is increase in
AS .This process continues till equilibrium is struck between AD and AS.
Q.2 In poor countries like India , people spend a high percentage of their
income so that APC and MPC are high . Yet , value of multiplier is low . Why?
Ans. Working of the multiplier process is based on one fundamental assumption:
that there exists, excess capacity in the economy , so that whenever consumption
expenditure rises (implying increase in demand ) there is a corresponding increase in
production (implying increase in income ) . But poor countries like India, lack in
production capacity. Accordingly, whenever demand increases (in terms of increase
in consumption expenditure), there is increasing pressure of demand on the existing
output (implying inflation or rise in prices) rather than the increase in output or
income.
Q.3 Show a point on the consumption curve at which APC= 1.
Ans. APC = C/Y =1 is possible if C=Y, i.e. Consumption is equal to Income.

Q.4 In what respect foreign trade will be useful in removing the adverse
economic effects of deficient demand?
Ans. Export increases the demand for goods and services produced in the domestic
territory and is helpful to reduce deficient demand.

38
.
Q.5 Calculate consumption expenditure at the income level of Rs.1000 crores,
if autonomous consumption is Rs. 80 crores. And 20% of additional income is
saved.
Ans. MPS = 0.2
SO , MPC =0.8
C=c + bY (c = autonomous consumption)
C= 80+ 0.8 * 1000=Rs. 880 crores.

Q.6 Find national income from the following:

Autonomous consumption : Rs. 100
MPC : 0.8
Investment : Rs. 50
Ans. Y = c + b Y+ I
= 100+0.8 Y +50
Y= Rs. 750

39
 UNIT – VIII
MONEY AND BANKING

SHORT ANSWER TYPE QUESTIONS: - (3 /4 Marks Each)

Q.1 Money acts as a yardstick of standard measure of value to which all other
things can be compared. Discuss it.
Ans. Money serves as a measure of value in terms of unit of account. Measurement
of value was the main difficulty of the barter system. Introduction of money has
removed this difficulty. It acts as a yardstick of standard measure of value to which
all other things can be compared.” Money measures the value of everything or the
prices of all goods and services can be expressed in terms of money. This function of
money also enables the trading firms to ascertain their costs, revenues, profits and
losses.

Q 2. The central bank acts as lender of last resort. How?

Ans. The central bank also acts as lender of last resort for the other banks of the
country. It means that if a commercial bank fails to get financial accommodation
from anywhere, it approaches the central bank as a last resort. Central bank advances
loan to such a bank against approved securities. As a lender of the last resort, central
bank exercises control over the entire banking system of the country.

Q 3. Central bank performs the function of a clearing house. How?

Ans. Every bank keeps cash reserves with the central bank. The claims of banks
against one another can be easily and conveniently settled by simple transfers from
and to their account. Supposing, Bank A receives a cheque of Rs 10,000 drawn on
Bank B and Bank B receives a cheque of Rs. 15000 drawn on Bank A. The most
convenient method of settling or clearing their mutual claims is that Bank A should
issue a cheque amounting to Rs 5000 in favour of Bank B, drawn on central Bank.
As a result of this transference, a sum of Rs 5000 will be debited to the account of
Bank A and credited to the account of B. There is not need of cash transactions
between the banks concerned. It facilitates cash transaction across the entire banking
system, it also reduces requirement of cash reserves of the commercial banks.

40
 UNIT – IX
GOVT BUDGET AND THE ECONOMY

VERY SHORT ANSWER TYPE QUESTIONS: - (1 Mark Each)

Q.1 What does low primary deficit indicate?

Ans. It implies that the government is borrowing largely to make interest payment
on previous loans.

Q.2. Why is sales tax treated as revenue receipt?

Ans. Because sales tax neither create a liability for the govt nor reduces assets of the
govt.
Q.3 Find out the value of total receipts of govt. Budget if budget deficit is Rs
2,000 crores and the total expenditure is Rs 3,000 crores.
Ans:- Budget deficit =Total Expenditure- Total receipts
Total receipts= Total Expenditure- Budget deficit
= 3,000-2,000
= 1,000
Ans. Rs. 1,000 crores
Q.4. What will be the value of fiscal deficit if primary deficit is 53,000 crores
and interest on borrowings is Rs 5,000 crores?
Ans: - Fiscal deficit=Primary deficit + Interest Payment
= 53,000+5,000
= 58,000
Ans. Rs. 58,000 crores

41
SHORT ANSWER TYPE QUESTIONS: - (3 /4 Marks Each)

Q.1 How government reallocates the resources and redistributes the income
through Budget?
Ans. 1. Reallocation of resources:-
In case, the market economy fails or does not achieve the desired social
objectives, the government has to interfere through budget and reallocate resources
accordingly. Through its budgetary policy, the government of a country directs the
allocation of resources in a manner such that there is a balance between the goals of
profit maximization and social welfare. Production of goods which are injurious to
health is discouraged through heavy taxation. On the other hand, production of
„socially useful goods‟ is encouraged through subsidies.
2. Redistribution of Income: -
Every economy strives to attain a society, where inequality of income and
wealth should be minimum. In order to achieve this objective through govt. budget
the government spends sufficient money on social security schemes, economic
subsidies and public works etc.

Q.2 What are the basis of classifying receipts into revenue receipts and capital
receipts?
Ans. Revenue receipts are those which neither create a liability for the govt nor
reduce the assets of govt such as income tax, sales tax, fees, profits etc. Capital
receipts are those which either create a liability for the govt or reduce assets such as
borrowings, disinvestment, recovery of loans etc.

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Q.3 Identify the following as revenue receipts and capital receipts.
Give reason .
(i) Financial help from microsoft for the victims of flood affected
areas.
(ii) Sale of 40 % shares of publicc sector undertaking to a private
enterprise
(iii) Profits of LIC
Ans. (i) & (iii) are revenue receipts because they neither create liability
nor reduce assets of the government..
(ii) is capital receipts as it reduce assets of the government.
Q.4 Identify the following as revenue expenditure and capital
expenditure. Give reason .
(i) grants given by central government to state government
(ii) 10% share purchase by the government in a private company.
(iii) Pension paid to retired government employees.
Ans. (i) & (iii) are revenue expenditure as it neither create assets
nor reduce liability of the government.
(ii) is capital expenditure as it increase assets of the government.

Q.5 How can surplus budget be used during inflation?

Ans. In case of surplus budget, government is taking more money from
the economy than injecting into it. It results in a fall in aggregate demand
which is considered good to check inflation.

Q.6 Give the relationship between revenue deficit and fiscal deficit.
Ans. Revenue deficit = revenue expenditure – revenue receipts
Fiscal deficit = revenue deficit + ( capital expenditure – non-debt
creating capital receipts)
So , revenue deficit is a part of fiscal deficit

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 UNIT – X
BALANCE OF PAYMENT

VERY SHORT ANSWER TYPE QUESTIONS: - (1 Marks Each)

Q.1 What is foreign exchange?
Ans. It is the amount of currency reserves of all countries other than the
domestic currency .
Q.2 What does a change from Rs. 52 = $ 1 to Rs. 56 = $ 1 indicate?
Ans. Indian rupee depreciate in terms of $.
Q.3 Why are autonomous items called „above the line ` items?
Ans. Because autonomous items are recorded in BOP as first items before
calculating surplus or deficit.
Q.4 Is import of machinery recorded in current account or capital
account?
Ans. Since import of machinery is import item , it is recorded in current
account.

SHORT ANSWER TYPE QUESTIONS: - (3 /4 Marks Each)

Q.1 Why foreign currency/exchange is needed?

Ans. i) To purchase of goods and services from other countries.
ii) To send a gift abroad.
iii) To purchase financial assets in a particular country and
iv) To speculate on the value of foreign currencies.
Q.2. What are the factors responsible for inflow of foreign currency?
Ans. i) foreigners purchasing home country goods and services through exports.
ii) Foreigners investment in home country through joint ventures and through
financial market operation.
iii) Foreign currencies flow into the economy due to currency dealers and
speculators
Q.3 When exchange rate of foreign currency falls it‟s supply also falls. Explain
how?

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Ans. When exchange rate falls, experts become less profitable hence supply of
foreign currency through exports falls.
Q.4 When exchange rate of foreign currency falls, its demand rises. Explain
how?
Ans. When exchange rate falls, imports become cheaper, demand for imports rises
and so rises the demand of foreign exchange to purchase more imports.
Q.5 What will be the value of imports, if the net imports are Rs 160 crores and
the value of exports are Rs 400 crores.
Ans. Balance of Trade = Exports- Imports
Imports= Exports – Balance of trade= 400-(-160)=560
Or Imports= Exports + net imports
= 400+160=560 Ans Rs 560 crores
Q.6. If Balance of payment of a country is Rs (-) 100 crores and total payment
are Rs 500 crores. Find out its total receipts.
Ans. Balance of Payment = Total receipts- Total payments
Total receipts= Total Payment +BOP
=500 + (-100)
=500-100=400 Ans Rs 400 crores
Q.7. Find the primary deficit if fiscal deficit is Rs 15,000 crores and interest
payment is Rs 4,000 crores
Ans:- Primary deficit= Fiscal deficit- Interest Payment
=15,000-4,000
= 11,000 Ans. Rs. 11,000 crores

Q.8 Balance of payments always balances. Discuss it.

Ans. Balance of payments is always balanced. A negative balance on the current
account is equated with positive balance in the capital account. The monetary
authorities may finance a deficit by depleting their reserves of foreign currencies or
by borrowing from the IMF etc. Hence BOP is always in balance.
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Q .9 Should a current account deficit be always a cause for alarm? Explain.
Ans. If the increase in current account deficit indicates rise in investment , then it
will increase future output , so it is not a cause of alarm but it is a cause of worry if
the increase in current account deficit reflects smaller savings or large budget deficit
because it indicates higher government or private consumption.

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