Economics Concept Series – Test 02 (Solutions)
1. Answer: (c)
Opportunity cost is the loss or gain of making a
decision. It is the value of what one lose when
choosing between two or more options or alternatives.
Option (c) is correct: Due to limited number of
resources available to any individual/society/country
etc. Choices have to be made in respect of the
benefits/uses that have to be availed out of the
available resources. While choosing one use for the
available resources we forego the other alternative
uses which could have also been chosen instead of the
currently chosen use. The value that could have been
obtained out of other alternative uses and is now
foregone is referred to as the opportunity cost of using
one particular alternative.
If a commodity is provided free to the public by the
Government, then the opportunity cost is transferred
from the consumers of the product to the tax-paying
public.
The government while providing free commodity to
certain consumers uses the tax revenue that it has
obtained. The Taxpayers could have also availed other
benefits out of their paid taxes, hence the opportunity
cost of providing a free commodity is in the sense of
other prospective benefits that could have been
availed, foregone by the tax-paying public.
2. Answer: (a)
Deficit financing means generating funds to finance the
deficit which results from excess of expenditure over
revenue. The gap being covered by borrowing from the
public by the sale of bonds or by printing new money.
Option (a) is correct: Deficit financing can be justified
to the extent that it helps to stimulate rapid economic
development. However, deficit spending without any
limit is dangerous to the economy as a whole.
3. Answer: (a)
Budget deficit is a situation in which, the expenditures
of the government exceed the receipts. It is a situation
when government spends more than it earns.
A Budget deficit leads to debts, if the deficit is not
managed properly, which further leads to more deficits
and higher interest rates. It could also lead to high
levels of inflation, which further leads to recession and
inflationary monetary policies.
Option 1 is correct: By reducing the revenue
expenditure that is the expensed occurred in day-to-
day function of the government like salaries of
employees etc, revenue expenditure can be reduced.
Option 3 is correct: Rationalizing subsidies that is
reassessing and controlling the outflow of government
expenditure on account of various subsidies like
Fertilizer, LPG etc. The government can reduce its
expenditure and help in bridging the deficit.
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Conversely, launching new welfare schemes and
Industrial Expansion will need additional expenditure
and contribute in increasing the deficit.
Additional Information:
Other deficit types:
 Fiscal Deficit: It is the excess of Government
Expenditure over the Non-Debt Creating
receipts of the Government.
 Revenue Deficit: It is the excess of Government
Revenue Expenditure over its’ Revenue
Receipts.
 Primary Deficit: It is the difference between
the Fiscal Deficit and Interest payments on
account of previous borrowings.
4. Answer: (d)
Statement 1 is not correct: Tax revenue as percentage
of GDP has not steadily increased in the last decade.
There has been rise and fall in it without following a
fixed pattern.
Statement 2 is not correct: Fiscal deficit as a
percentage of GDP has not steadily increased in the
last decade. There has been a rise and fall in it with no
steady pattern of rise or fall.
Additional Information:
Tax Revenue: Tax Revenue forms part of the Receipt
Budget, which in turn is a part of the Annual Financial
Statement of the Union Budget. It gives a detailed
report on revenue collected from different items like
corporation tax, income tax, wealth tax, customs,
union excise, service, taxes on Union Territories like
land revenue, stamp, etc.
Fiscal Deficit: It is the difference between total revenue
and total expenditure of the government. It is an
indication of the total borrowings needed by the
government.
5. Answer: (c)
Statement 1 is correct: Fiscal Policy has been defined
as ‘the policy of the Government with regard to the
level of Government purchases, the level of transfers,
and the tax structure’—probably the best and the most
acclaimed definition among experts. Fiscal Policy is
also defined as the policy which handles public
expenditure and tax to direct and stimulate the level of
economic activity (numerically denoted by the Gross
Domestic Product).
Statement 2 is correct: Both the Taxes and the
Government Expenditures influence the overall
economy.
 Taxes have a direct bearing on
people’s income affecting their levels
of disposable incomes, purchase of
goods and services, consumption and
ultimately their standard of living.
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  Taxes directly affect the savings of
individuals, families and firms that
affect investment in the economy—as
investment affects the output (GDP)
thereby influencing the per capita
income.
 Taxes affect the prices of goods and
services as factor cost (production
cost) is affected thereby affecting
incentives and behaviour of economic
activities, etc.
6. Answer: (b)
Statements 1 and 2 are not correct: Every expenditure
incurred on the public exchequer is classified into two
categories—the Plan and the Non-Plan. All those
expenditures which are done in India in the name of
planning are the plan expenditure and rest of all are
non-plan expenditures. Basically, all asset creating, and
productive expenditures are Planned and all
consumptive, non-productive, non-asset building
expenditures are Non-Plan Expenditures and are also
called Developmental and Non-developmental
expenditures, respectively.
Statement 3 is correct: A high-power panel headed by
Dr. C. Rangarajan (former Chairman of Prime Minister’s
Economic Advisory Council), in September 2011
suggested for redefining Plan and Non-Plan
expenditures as Capital and Revenue expenditures, as
the former set of terms ‘blur the classification’ —this
will facilitate linking expenditure to ‘outcomes’, and
better public expenditure, the panels suggested.
Looking at this anomaly, the Government switched
over from the ‘Plan’ and ‘Non-Plan’ classification of
expenditure to ‘Revenue’ and ‘Capital’ since the fiscal
2017-18 (as announced in the Union Budget 2017-18).
7. Answer: (b)
Statement 1 is not correct: Fiscal Deficit is defined as
excess of Total budget expenditure over Total budget
receipts excluding borrowings during a fiscal year. In
simple words, it is the amount of borrowing the
Government has to resort to meet its expenses. A large
deficit means a large amount of borrowing. Fiscal
deficit is a measure of how much the Government
needs to borrow from the market to meet its
expenditure when its resources are inadequate.
Statement 2 is correct: If one adds borrowing in Total
receipts, the Fiscal Deficit is zero. Fiscal Deficit shows
the borrowing requirements of the Government during
the budget year. Greater Fiscal Deficit implies greater
borrowing by the Government. The situation of fiscal
deficit indicates that the Government is spending
beyond its meAnswer. To be simpler, we may say that
the Government is spending more than its income
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(though in practice all receipts of the Government are
not income. Basically, receipts are all forms of money
accruing to the Government, be it income or
borrowings).
8. Answer: (a)
Statement 1 is correct: The part of the Fiscal Deficit
which was provided by the Reserve Bank of India to
the Government in a particular year is Monetised
Deficit. This is a new term adopted since 1997–98 in
India. It is an innovation in fiscal management which
brings in more transparency in the Government’s
expenditure behaviour and also in its capabilities
concerning its dependence on market borrowings by
the Reserve Bank of India. Basically, every year both
Central and State Governments in India had been
depending heavily on market borrowings (internal) for
its long-term capital requirements. Market borrowings
of the Government are done and managed by the
Reserve Bank of India. Besides, the Reserve Bank of
India is also the primary customer for Government
securities— yet another means of the Government to
raise long-term capital.
Statement 2 is not correct: Monetised Deficit is also
known as Debt monetisation, leads to an increase in
total money supply in the economy, and hence
Inflation, as the Reserve Bank of India creates fresh
money to purchase the bonds. The same bonds are
later used to bring down inflation as they are sold in
the open market. This helps the Reserve Bank of India
suck excess money out of the market and rein in rising
prices.
9. Answer: (c)
Statement 1 is correct: The Fiscal Deficit excluding the
interest liabilities for a year is the Primary Deficit, a
term India started using since the fiscal 1997-98. It
shows the Fiscal Deficit for the year in which the
economy had not to fulfil any interest payments on the
different loans and liabilities which it is obliged to—
shown both in quantitative and percentage of GDP
forms. This is considered a very handy tool in the
process of bringing in more transparency in the
Government’s expenditure pattern.
Statement 2 is correct: Fiscal Deficit reflects the
borrowing requirements of the Government for
financing the expenditure inclusive of interest
payments. As against it, Primary Deficit shows the
borrowing requirements of the Government including
interest payment for meeting expenditure. Thus, if
Primary Deficit is zero, then Fiscal Deficit is equal to
interest payment. Then it is not adding to the existing
loan.
10. Answer. A
Statement 1 is correct: Budgetary deficit is the
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difference between all receipts and expenses in both
revenue and capital account of the government.
Budgetary deficit is the sum of revenue account deficit
and capital account deficit.
Statement 2 is not correct: Revenue deficit arises when
the government’s revenue expenditure exceeds the
total revenue receipts. Revenue deficit includes those
transactions that have a direct impact on a
government’s current income and expenditure. This
represents that the government’s own earnings are
not sufficient to meet the day-to-day operations of its
departments. Revenue deficit turns into borrowings
when the government spends more than what it earns
and has to resort to the external borrowings.
Statement 3 is not correct: Fiscal Deficit is the
difference between the total income of the
government (total taxes and non-debt capital receipts)
and its total expenditure. A fiscal deficit situation
occurs when the government’s expenditure exceeds its
income. This difference is calculated both in absolute
terms and also as a percentage of the Gross Domestic
Product (GDP) of the country. A recurring high fiscal
deficit means that the government has been spending
beyond its meAnswer.
11. Answer. A
Statement 1 is correct: An expenditure which either
creates an asset (e.g., school building) or reduces
liability (e.g., repayment of a loan) is called capital
expenditure. Capital expenditure which leads to the
creation of assets is (a) expenditure on purchase of
land, buildings, machinery, (b) investment in shares,
loans by Central government to the state government,
foreign governments and government companies, cash
in hand, and (c) acquisition of valuables.
Statement 2 is not correct: An expenditure which
neither creates assets nor reduces liability is called
Revenue Expenditure, e.g., salaries of employees,
interest payment on past debt, subsidies, pension, etc.
These are financed out of revenue receipts.
12. Answer. C
Statement 4 is not correct: Any expenditure that is
incurred on programmes which are detailed under the
current (Five Year) Plan of the center or center’s
advances to state for their plans is called plan
expenditure. MGNREGA allocations are thus planned
expenditures.
Statement 1, 2, and 3 are correct: Non-Plan
Expenditure is what the government spends on the so-
called non-productive areas, such as salaries, subsidies,
loans, and interest, while plan expenditure pertains to
the money to be set aside for productive purposes, like
various projects of ministries.
13. Answer: (c)
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Statement 1 is correct: Deficit Financing means
generating funds to finance the Deficit which results
from excess of Expenditure over Revenue. The gap
being covered by borrowing from the Public by the sale
of bonds or by printing new money.
Statement 2 is correct: Often both the tax and non-tax
revenues fail to mobilize enough resources just
through taxes. The Deficit is often funded through
borrowings or printing new currency notes. Printing
new currency notes increases the flow of money in the
economy. This leads to increase in inflationary
pressures which leads to rise of prices of goods and
services in the country. Deficit Financing is inherently
inflationary. Since Deficit Financing raises aggregate
expenditure and, hence, increases aggregate demand,
the danger of inflation looms large.
14. Answer: C
Statement 1 is correct: Budget deficit means the excess
of total expenditure over total revenues. Budget deficit
includes both capital and the revenue items mentioned
in the receipts and expenditure. The term ‘deficit
financing’ is used for filling this deficit only. The
Budgetary deficit is financed either by borrowings,
taxation, or printing money. But Governments have
largely relied on borrowings for financing the budget
deficit, hence, giving rise of Government Debt.
Statement 2 is correct: The difference between
governments’ total expenditure and total receipts,
excluding the borrowings is known as the fiscal deficit.
Gross fiscal deficit = Total expenditure – (revenue
receipts + Non-debt creating capital receipts)
Non-debt creating capital receipts are those which do
not give rise to debt, as the name itself suggests. For
instance, loan recovery and PSU proceeds from
disinvestment in the Public Sector Undertakings.
15. Answer: (d)
Explanation:
The Union Budget is divided into two parts namely the
Revenue Budget and the Capital Budget. Wherein the
Revenue Budget consists of incomes and expenditures
related to the day to day functioning of the
government, Capital Budget consists of incomes and
expenditures which are made on account of changes in
the Assets or Liabilities of the government.
Statement 1 is correct: Expenditure made on
acquisition of assets like roads, buildings, machinery
etc. form a part of the Capital Expenditure of the
Government of India.
Statement 2 is correct: Loans received from foreign
governments are a part of Capital Receipts of the
Government of India as they come with a future
repayment liability.
Statement 3 is correct: Loans and Advances granted by
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the Government of India to the States/ UT’s form a
part of its capital expenditure as it adds up to the
Assets of the Government of India, which are expected
to provide future benefits when these loans are repaid
to it.
16. Answer: (b)
Statement 1 is not correct: The Constitution of India
has a provision (Article 112) for such a document called
‘Annual Financial Statement’ to be presented in the
Parliament before the commencement of every new
fiscal year — popular as the ‘Union Budget’. However,
the term 'Union Budget' is not mentioned anywhere in
the Indian Constitution. Same provision is there for
the States, too.
Statement 2 is correct: An ‘Annual Financial Statement’
of income and expenditure is generally used for a
Government, but it could be of a firm, company,
corporation etc. The term ‘Budget’ has its origin in the
British Parliamentary exercise of preparing such a
statement way back in the mid-18th century from the
French word ‘Bugeut’ meaning a leather bag out of
which the Financial Statement was brought out and
presented in the Parliament. Today, this word is used
to mean the Annual Statement in all economies around
the world.
17. Answer: (c)
Every year, the Budget is presented before Parliament
by the Union Finance Minister. During the speech, the
funds allocated for various jobs and activities and
Ministries are laid out.
Statement 1 is correct: Budget Estimates is the amount
of money allocated in the Budget to any Ministry or
Scheme for the coming financial year. For example, if
the Government sets Rs 1,000 crore aside for Defence,
then Rs 1,000 crore will be the Budget Estimate for
Defence for the given financial year.
Statement 2 is correct: Revised Estimates are mid-year
reviews of possible expenditure, taking into account
the rest of expenditure, new services and new
instrument of services etc. Revised Estimates are not
voted by the Parliament, and hence by itself do not
provide any authority for expenditure. Any additional
projections made in the Revised Estimates need to be
authorized for expenditure through the Parliament's
approval or by Re-appropriation order.
18. Answer: (b)
All expenditures incurred by the Government are
either of Revenue kind or Current kind or Compulsive
kind. The basic identity of such expenditures is that
they are of consumptive kind and do not involve
creation of productive assets. They are either used in
running a productive process or running a
Government. A broad category of things that fall under
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such expenditures in India are:
 Interest payment (not loan repayment) by the
Government on the internal and external
loAnswer. (Option 1 is not correct)
 Salaries, Pension and Provident Fund paid by
the Government to the Government
employees. (Option 2 is correct)
 Subsidies forwarded to all sectors by the
Government. (Option 3 is correct)
 Defence expenditures by the Government.
 Postal Deficits of the Government.
 Law and order expenditures (i.e., police &
paramilitary).
 Expenditures on Social services (includes all
social sector expenditures such as education,
health care, social security, poverty alleviation,
etc.) and general services (tax collection, etc.).
(Option 4 is correct)
 Grants given by the Government to Indian
states and foreign countries.
19. Answer: (d)
All the areas which get Capital from the Government
are part of the Capital Expenditure. It includes
following heads in India:
 Loan Disbursals by the Government: The loans
forwarded by the Government might be
internal (i.e., to the states, UTs, PSUs, FIs, etc.)
or external (i.e., to foreign countries, foreign
banks, purchase of foreign bonds, loans to IMF
and WB, etc.). (Option 1 is correct)
 Loan Repayments by the Government: Loan
payments might be internal as well as external.
This consists of only the capital part of the loan
repayment as the element of interest on loans
is shown as a part of the Revenue expenditure.
(Option 2 is correct)
 Plan Expenditure of the Government: This
consists of all the expenditures incurred by the
Government to finance the planned
development of India as well as the Central
Government financial support to the states for
their plan requirements. (Option 3 is correct)
 Capital Expenditures on Defence by the
Government: This consists of all kinds of
Capital expenses to maintain the Defence
forces, the equipment purchased for them as
well as the modernisation expenditures. It
should be kept in mind that defence is a Non-
plan expenditure which has capital as well as
Revenue expenditures in its maintenance. The
Revenue part of expenditure in the Defence is
counted in the Revenue expenditures by the
Government. (Option 4 is correct)
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  Other Liabilities of the Government: Basically,
this includes all the Repayment liabilities of the
Government on the items of the other
Receipts. The level of liabilities depends on the
fact as to how much such receipts were made
by the Governments in the past.
20. Answer: (c)
Statement 1 is correct: A Budget is said to be a
Balanced Budget when total Public sector spending
equals total Government income (Revenue receipts)
during the same period from taxes and charges for
Public services. In other terms, a Budget with zero
Revenue Deficit is a Balanced Budget. Such Budget
making is popularly known as Balanced Budgeting.
Statement 2 is correct: A General Budget by the
Government which allocates funds and responsibilities
on the basis of gender is Gender Budgeting. It is done
in an economy where socio-economic disparities are
chronic and clearly visible on a sex basis (as in India).
21. Answer: (c)
Statement 1 is correct: The Slowdown refers to the
general decrease in GDP growth rates for two
consecutive quarters. A situation in which GDP growth
slows but does not decline. For example, if GDP goes
from 5% growth to 3% growth, an economy is
experiencing a slowdown. Most analysts do not
consider a slowdown to be a recession, but
unemployment may rise and productivity may decline.
Statement 2 is correct: Recession is when the GDP
growth rate is negative for two consecutive quarters or
more as reflected by GDP in conjunction with monthly
indicators such as a rise in unemployment. Recession is
characterized by a massive contraction in economic
activities. A significant fall in spending generally leads
to a recession.
Additional Information:
In the financial year 1996–97, the Indian economy was
taken up by the cycle of recession. It was basically due
to a general downturn in domestic as well as foreign
demands, initiated by the South East Asian Currency
Crisis of the mid-1990s.
22. Answer. A
Statement 1 is correct: A mixed economy is one in
which both private and public enterprises occur. And it
is often a mix of a free-market economy and a centrally
planned economy.
Statement 2 is not correct: Industries of strategic
importance such as defence, atomic energy, capital
goods, and heavy industries, public utilities such as
railways, roads, power, etc., are placed under the
control of the public sector. The private sector is
mainly involved in the production of consumer goods,
agriculture (including plantations), external trade, etc.,
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subject to the overall regulation by the government.
23. Answer: (c)
The market of an economy where funds are transacted
between the fund-surplus and fund-scarce individuals
and groups is known as the Financial market. Financial
markets in every economy are having two separate
segments today, one catering to the requirements of
short-term funds and the other to the requirements of
long-term funds.
Statements 1 is correct: The short-term financial
market is known as the Money market. The money
market fulfils the requirements of funds for the period
up to 364 days (i.e., short term).
Statements 2 is correct: The long-term financial market
is known as the Capital market and the capital market
fulfils the requirement for the period above 364 days
(i.e., long term).
24. Answer: (a)
Statement 1 is correct: Call Money Market (CMM), is
an inter-bank money market where funds are
borrowed and lent, generally, for one day—that is why
this is also known as over-night borrowing market (also
called Money at call). It allows large financial
institutions, such as banks, mutual funds,
and corporations, to borrow and lend money
at interbank rates, the rate of interest that banks
charge when they borrow funds from each other.
Statement 2 is not correct: The funds in the call
money market are borrowed/raised for a maximum
period up to 14 days (called Short notice). Borrowing in
this market may take place against securities or
without securities. Rate of interest in this market
‘glides’ with the ‘repo rate’ of the time the principle
remains very simple—longer the period, higher the
interest rate.
25. Answer: (d)
External debt refers to the money borrowed from a
source outside the country which has to be paid back
in the currency in which it is borrowed. It can be
obtained from foreign commercial banks, international
financial institutions like IMF, World Bank, ADB etc and
from the government of foreign nations.
As per the Reserve Bank of India, the following are the
observations about India’s external debt at the end of
June 2020.
 Commercial borrowings remained the largest
component of external debt, with a share of
38.1 per cent, followed by non-resident
deposits (23.9 per cent) and short-term trade
credit (18.2 per cent). (Statement 1 is not
correct)
 US dollar denominated debt remained the
largest component of India’s external debt,
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 with a share of 53.9 per cent at end-June
2020, followed by the Indian rupee (31.6 per
cent), yen (5.7 per cent), SDR (4.5 per cent)
and the euro (3.5 per cent). (Statement 2 is
not correct)
Additional Information:
Normally these types of debts are in the form of tied
loans, meaning that these have to be used for a
predefined purpose as determined by a consensus of
the borrower and the lender. Government is also
eligible to raise loans from abroad. The interest rate on
foreign loans is linked to LIBOR (London Interbank
Offer Rate) and the actual rate will be LIBOR plus
applicable spread, depending upon the credit rating of
the borrower.
26. Answer: (b)
Option (b) is correct: The Department for Promotion of
Industry and Internal Trade (DPIIT) is the nodal
department for formulation of the policy of the
Government on Foreign Direct Investment (FDI). It
comes under the aegis of Ministry of Commerce and
Industry, Government of India.
It is also responsible for maintenance and
management of data on inward FDI into India, based
upon the remittances reported by the Reserve Bank of
India (RBI). The Department plays an active role in the
liberalization and rationalization of the FDI policy.
27. Answer: (b)
Statement 1 is not correct: Treasury Bills (TBs) is an
instrument of the money market. It was present since
Independence got organized only in 1986. They are
used by the Central Government to fulfil its short-term
liquidity requirement up to the period of 364 days.
There developed five types of the TBs in due course of
time: 14-day (Intermediate TBs), 14-day (Auctionable
TBs), 91-day TBs, 182-day TBs and 364-day TBs. Out of
the above five variants of the TBs, at present only the
91-day TBs, 182-day TBs and the 364-day TBs are
issued by the Government. The other two variants
were discontinued in 2001.
Statement 2 is correct: The Treasury Bills (TBs) other
than providing short-term cushion to the Government,
also function as short-term investment avenues for the
Banks and Financial institutions, besides functioning as
requirements of the Cash Reserve Ratio (CRR) and
Statutory Liquidity Ratio (SLR) of the banking
institutions.
28. Answer: (a)
Option (a) is correct: The balance of payments is a
record of all transactions conducted between a
country and rest of the world. It keeps a systematic
record of all imports and exports of
goods/services/capital and other factor and transfer
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payments generally during the span of a year.
The Balance of Payments in India consists of three sub-
components:
 Current Account: It covers all transactions
(other than those in financial items) that
involve economic values and occur between
resident and non-resident entities. It classifies
transactions in goods and services, income,
and current transfers.
 Capital Account: The major components of the
capital account are (a) capital transfers and (b)
acquisition/disposal of non-produced,
nonfinancial assets.
 Financial Account: The financial account
records an economy’s transaction in external
financial assets and liabilities.
29. Answer: (b)
Capital Account is a sub-component under the Balance
of Payments. It keeps a record of transactions of
international nature which are concerned with altering
either an Asset or Liability for the domestic country.
Option (b) is correct: Foreign Loans, Foreign Direct
Investment and Portfolio Investment form a
component of the Capital Account as they are adding
up to the existing liabilities of the country as they
warrant a future repayment liability.
30. Answer: (c)
Option (c) is correct: Convertibility of rupee means that
rupee can be converted into other currencies in a free
fashion for various purposes and vice versa.
Convertibility of rupee can be understood from two
broad aspects, that is Current Account Convertibility
and Capital Account Convertibility.
 Current Account Convertibility implies that
rupee can be converted freely into other
currencies for trade purposes, basically for
import and export purposes. India allows for
free Current Account Convertibility.
 Capital Account Convertibility implies that
rupee can be converted freely into other
currencies for Capital Transaction purposes.
India does not freely allow Capital Account
Convertibility.
31. Answer: (d)
Option (d) is correct: Import Cover is a term used to
describe the number of months over which a country
can pay for its’ imports from the International Reserves
of the country.
The excess of inflow of Foreign Exchange over the
outflow of foreign exchange in a country gets credited
to its’ International reserves account. This reserve can
be used as a buffer to cushion against the uncertainties
of future inflows.
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32. Answer: (b)
Statement 1 is correct: Non-Performing Assets (NPAs)
are the bad loans of the banks. The criteria to identify
such assets have been changing over the time. In order
to follow international best practices and to ensure
greater transparency, the RBI shifted to the current
policy in 2004. Under it, a loan is considered NPA if it
has not been serviced for one term (i.e., 90 days). This
is known as the ‘90 day’ overdue norm.
NPAs are classified into three types:
 Sub-standard asset: If remaining NPAs for less
than or equal to 12 months. (Statement 2 is
correct)
 Doubtful asset: If remaining NPAs for more
than 12 months. (Statement 3 is not correct)
 Loss assets: Where the loss has been identified
by the Bank or internal/external Auditors or
the RBI inspection, but the amount has not
been written of.
33. Answer: (a)
Statement 1 is correct: The outcome of the total
transactions of an economy with the outside world in
one year is known as the Balance of Payment (BoP) of
an economy. Basically, it is the net outcome of the
Current and Capital Accounts of an economy. It might
be favourable or unfavourable for the economy.
However, negativity of the BoP does not mean it is
unfavourable. A negative BoP is unfavourable for an
economy if only the economy lacks the means to fill
the gap of negativity.
Statement 2 is not correct: If the Balance of Payment is
positive at the end of the year, the money is
automatically transferred to the Foreign exchange
reserves of the economy. It means foreign exchange
reserves of the economy increases. If Balance of
Payment is negative, the same foreign exchange is
drawn from the country’s forex reserves. It results in a
decrease of foreign exchange reserves of the
economy.
Additional Information:
If the Forex reserves are not capable of fulfilling the
negativity created by the BoP, it is known as a BoP
crisis. An Economy tries different means to solve the
crisis in which going for forex help from the
International Monetary Fund (IMF) is the last resort.
34. Answer. A
Statement 1 is correct: In a system of flexible exchange
rates (also known as floating exchange rates), the
exchange rate is determined by the forces of market
demand and supply. In a completely flexible system,
the central banks follow a simple set of rules – they do
nothing to directly affect the level of the exchange
rate, in other words, they do not intervene in the
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foreign exchange market (and therefore, there are no
official reserve transactions).
Statement 2 is not correct: If the demand for foreign
exchange goes up due to Indians travelling abroad
more often, or increasingly showing a preference for
imported goods, the resulting intersection would be at
a higher exchange rate.
35. Answer. d
Statement a is correct: Foreign trade creates an
opportunity for the producers to reach beyond the
domestic markets, i.e., markets of their own countries.
Producers can sell their produce not only in markets
located within the country but can also compete in
markets located in other countries of the world.
Statement b is correct: Similarly, for the buyers, import
of goods produced in another country is one way of
expanding the choice of goods beyond what is
domestically produced.
Statement c is correct: With the opening of trade,
goods travel from one market to another. Choice of
goods in the markets rises. Prices of similar goods in
the two markets tend to become equal. And,
producers in the two countries now closely compete
against each other even though they are separated by
thousands of miles! Foreign trade thus results in
connecting the markets or integration of markets in
different countries.
36. Answer: C
Statement 1 is correct: The Balance of Payments
(BOP), also known as balance of international
payments, summarizes all transactions that a country's
individuals, companies, and government bodies
complete with individuals, companies, and
government bodies outside the country. The sum of all
transactions recorded in the balance of payments
should be zero. However, exchange rate fluctuations
and differences in accounting practices may hinder this
in practice.
Statement 2 is correct: The balance of payments
includes both the current account and capital account.
The current account includes a nation's net trade
in goods and services, its net earnings on cross-border
investments, and its net transfer payments. The capital
account consists of a nation's imports and exports of
capital and foreign aid.
37. Answer: (c)
Statement 1 is correct: In the Foreign Exchange
Market, when the Exchange Rate of a domestic
currency is cut down by its government against any
foreign currency, it is called Devaluation. It means
official Depreciation is Devaluation. Devaluation is the
deliberate downward adjustment of the value of a
country's money relative to another currency, group of
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currencies, or currency standard. Countries that have
a fixed exchange rate or semi-fixed exchange rate use
this monetary policy tool.
Statement 2 is correct: Revaluation is a term used in
Foreign Exchange Market which means a Government
increasing the exchange rate of its currency against any
foreign currency. It is an official Appreciation. A
Revaluation is a calculated upward adjustment to a
country's official exchange rate relative to a chosen
baseline, such as wage rates, the price of gold, or a
foreign currency.
38. Answer: (d)
Option (d) is correct: India’s foreign currency holdings
fell by $4.3 billion to $580.3 billion as of March 5, 2021
(as per the data provided by the Reserve Bank of India)
and India’s forex reserve surpasses that of Russia’s
$580.1 billion to become the world’s fourth largest.
China has the largest reserves, followed by Japan and
Switzerland on the International Monetary Fund table.
The Foreign Exchange Reserves of India consist of
below four categories:
 Foreign Currency Assets
 Gold
 Special Drawing Rights (SDRs)
 Reserve Tranche Position
In a sense, the Forex reserves is the upper limit up to
which an Economy can manage foreign currency in
normal times if need be.
39. Answer: (b)
Statement 1 is not correct: Indian currency, the
‘Rupee’, was historically linked with the British Pound
Sterling till 1948 which was fixed as far back as 1928.
Once the International Monetary Fund (IMF) came up,
India shifted to the fixed currency system committed
to maintain Rupee’s external value (i.e., exchange rate)
in terms of gold or the US Dollar ($). In 1948, Rs. 3.30
was fixed equivalent to US $ 1. In September 1975,
India delinked Rupee from the British Pound and the
Reserve Bank of India (RBI) started determining
Rupee’s exchange rate with respect to the exchange
rate movements of the basket of world currencies (£,
$, ¥, DM, Fr.). This was an arrangement between the
Fixed and the Floating currency regimes.
Statement 2 is correct: In 1992-93 financial year, India
moved to the Floating Currency regime with its own
method which is known as the ‘Dual Exchange Rate’.
There are two exchange rates for Rupee, one is the
‘Official rate’ and the other is the ‘Market rate’. Here
the point should be noted that it is the everyday’ s
changing market-based exchange rate of Rupee which
affects the official exchange rate and not the other
way round. But the Reserve Bank of India (RBI) may
intervene in the forex market via the demand and
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supply of Rupee or the Foreign currencies.
40. Answer: (d)
Option (d) is correct: A geographical indication (GI) is a
sign used on products that have a specific geographical
origin and possess qualities or a reputation that are
due to that origin. India enacted the Geographical
Indications of Goods (Registration and Protection) Act,
1999 in order to comply with the obligations to World
Trade Organization.
Additional Information:
Trade-Related Aspects of Intellectual Property Rights
(TRIPS) Agreement was signed in 1994, forming a part
of the larger Marrakesh Agreement forming the WTO.
Geographical Indications have been understood to be
Intellectual Property Rights under the TRIPS
Agreement.
41. Answer: (d)
Option (d) is correct: Reserve tranche is the
component of a member country’s quota with the
International Monetary Fund (IMF) that is in the form
of gold or foreign currency. It is a credit system
granted by the IMF to its members.
For any member country, out of the total quota, 25%
should be paid in the form of foreign currency or gold.
Hence this is called as reserve tranche or gold tranche.
The remaining 75% can be in domestic currencies and
it is called credit tranche.
This quota can be accessed by a country without
agreeing to IMF conditionalities.
42. Answer: (a)
Option (a) is correct: After the Second World War, as
the powerful Nations of the world were hopeful of a
new and more stable world order with the emergence
of the United Nations Organizations (UNO), on the
contrary, they were also anxious for a more
homogenous world financial order. The
representatives of the USA, the UK and 42 other (total
44 countries) Nations met at Bretton Woods, New
Hampshire, USA in July 1944 to decide a new
International Monetary System. The International
Monetary Fund (IMF) and the World Bank (with its first
group-institution ‘International Bank for
Reconstruction and Development’ - IBRD) were set up
together - popularly called as the Bretton Woods
Twins’ - both having their headquarters in Washington
DC, USA.
43. Answer: (b)
Option (b) is correct: The International Monetary Fund
(IMF) came up in 1944 whose Articles came into force
on the 27 December 1945 with the main functions as
exchange rate regulation, purchasing short-term
foreign currency liabilities of the member nations from
around the world, allotting special drawing rights
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(SDRs) to the member nations and the most important
one as the bailor to the member economies in the
situation of any Balance of Payments crisis. The main
functions of the IMF are:
 To facilitate international monetary
cooperation.
 To promote exchange rate stability and orderly
exchange arrangements.
 To assist in the establishment of a multilateral
system of payments and the elimination of
foreign exchange restrictions.
 To assist member countries by temporarily
providing financial resources to correct mal
adjustment in their Balance of Payments (BoP).
The World Bank (not the IMF) is an international
financial institution that provides loans and grants to
the Governments of low- and middle-income countries
for the purpose of pursuing capital projects.
44. Answer: (c)
Statement 1 is correct: The World Trade Organization
(WTO) came into being as a result of the evolution of
the multilateral trading system starting with the
establishment of the General Agreement on Tariffs and
Trade (GATT) in 1947. The protracted Uruguay Round
negotiations spanning the period 1986–1994, which
resulted in the establishment of the WTO, substantially
extended the reach of multilateral rules and disciplines
related to trade in goods and introduced multilateral
rules applicable to trade in agriculture (Agreement on
Agriculture), trade in services (General Agreement on
Trade in Services—GATS) as well as Trade Related
Intellectual Property Rights (TRIPS).
Statement 2 is correct: Ministerial Conferences are the
highest decision-making body of the WTO which is to
meet at least every two years. These conferences bring
all members together which are countries or separate
customs territories. During these conferences
decisions on all matters can be taken.
45. Answer: (b)
Option (b) is correct: The Extended fund Facility (EFF) is
a service provided by the International Monetary Fund
(IMF) to its member countries which authorizes them
to raise any amount of foreign exchange from it to
fulfil their Balance of Payment (BoP) crisis, but on the
conditions of structural reforms in the economy put by
the body.
Basically, the EFF was established to provide assistance
to countries experiencing serious payment imbalances
because of structural impediments or slow growth and
an inherently weak Balance-of-Payment position. An
EFF provides support for comprehensive programs
including the policies needed to correct structural
imbalances over an extended period. It is the first
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agreement of its kind. India had signed this agreement
with the IMF in the financial year 1981–82.
46. Correct Answer. A
 Fiscal Policy: The expenditure and revenue
policy taken by the general government to
accomplish the desired goals is known as fiscal
policy. A general government has to take the
following steps:
 (a) Revenue Policy (Decrease in Taxes):
 (i) Revenue policy is expressed in terms of
taxes.
 (ii) During deflation the government will
impose lower amount of taxes so that
purchasing power of the people be increased.
 (iii) It is so because to control deficient
demand we have to increase the amount of
liquidity in the economy.
 (b) Expenditure Policy (Increase in
Expenditure):
 (i) Government has to invest huge amount on
public works like roads, buildings, irrigation
works, etc.
 (ii) During deflation government should
increase its expenditure on public works like
roads, buildings, irrigation works thereby
increasing the money income of the people
and their demand for goods and services.
47. Correct Answer. C
 The target of public debt normally is to cover
the gap that developed due to mismatch
between proposed expenditure and expected
revenue.
 In a developing economy, there is always a
lack. The government cannot take shelter on
heavy taxation. But to remove poverty from
the country, this is also most needed and
important to do arrangements of development
plAnswer.
 In this condition, the only way is to take public
debt. So, the government takes debts from
within the country or from foreign
governments or from people to do finance
arrangements.
 Decrease in Public Borrowing / Public Debt:
 (i) At the time of deficient demand public
borrowing should be reduced.
 (ii) People will have more money and more
purchasing power.
 (iii) In brief, during period of deficient demand
government should adopt the pricing of deficit
budget.
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  (iv) Old taken debts from public should be from the people who receive it due to the
finished and paid back to increase money in following reasons.
the market.  (a) Exports of Goods and Services: Supply of
48. Correct Answer. A foreign exchange comes through exports of
 Capital Budget: Capital budget contains capital goods and services; (b) Tourism: The amount,
receipts and capital expenditure of the which foreigners spend in the home country,
government. increases the supply of foreign exchange; (c)
 (i) Capital Receipts: Government receipts that Remittances (unilateral transfers) from
either creates liabilities (of payment of loan) or Abroad: Supply of foreign exchange increases
reduce assets (on disinvestment) are called in the form of gifts and other remittances from
capital receipts. Capital receipts include items, abroad; (d) Loan from Rest of the world: It
which are non-repetitive and non-routine in refers to borrowing from abroad. A loan from
nature. U.S. means flow of U.S. $ from U.S. to India,
 It includes borrowings from the Reserve Bank which will increase supply of Foreign exchange.
of India and commercial banks and other  (e) Foreign Investment: The amount, which
financial institutions. foreigners invest in our home country,
 It also consists of loans received from foreign increases the supply of foreign exchange.
governments and international organization  (f) Speculation: Supply of foreign exchange
and repayment of loans granted by the Union comes from those who want to speculate on
government. the value of foreign exchange.
 (ii) Capital Expenditure: This expenditure of the
government either creates physical or financial
assets or reduction of its liability. Acquisition of
assets like land, machinery, equipment, its
loans and advances to state governments etc.
are its examples.
49. Correct Answer: C
 Government receipts, which Neither create
any liabilities for the government; and Nor
cause any reduction in assets of the
government, are called revenue receipts.
 In revenue receipts both the conditions should
be satisfied.
 Revenue receipts include items which are
Repetitive and routine in nature.
 Revenue receipts are further classified into:
 Tax Revenue: Tax revenue refers to receipts
from all kinds of taxes such as income tax,
corporate tax, excise duty etc.
 A tax is a legally compulsory payment imposed
by the government on income and profit of
persons and companies without reference to
any benefit. Taxes are of two types: Direct
taxes and Indirect taxes.
 Non-Tax Revenue: Non-tax revenue refers to
government revenue from all sources other
than taxes. These are incomes, which the
government gets by way of sale of goods and
services rendered by different government
departments.
50. Correct Answer. C
 Sources of supply of foreign exchange: The
supply (inflow) of foreign exchange comes

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