Q 1. Equilibrium price is determined where quantity demanded is equal to quantity supplied.
Q 2. Upward movement along the demand curve indicate fall in quantity demanded due to rise in price.
Q 3. When increase or decrease in price does not affect quantity demanded of the good .
Q 4. Production possibility frontier depicts the various combinations of two goods that can be produced in the economy with the help of given resources and fixed technology.
Q 5. Less elastic
Q6. How to produce is one of the central problems of economy related with choice of technique of production. There is two types of technique.Labour intensive and capital intensive. The country which is having abundance of labour will use labour intensive technique. And the country where capital is cheap will adopt capital intensive technique.
Q7. The difference between Average total cost and average variable cost decreases with rise in output as average Fixed cost falls. The difference between ATC and AVC is average fixed cost.
AFC=ATC-AVC
As fixed cost is constant and output increase AFC falls.
Q8. Decrease in Quantity demanded
1.It is the result of increase in price
2.There is upward movement along the demand curve.
3. This is also known as Contraction of demand.
Decrease in demand
1.It is the result of unfavourable change in taste, fall in price of substitute good etc.
2.There is Leftward shift of demand curve.
3.This is only known as decrease in demand.
Q9. In perfect competition there are large number of buyers and seller. Firm is a price taker and industry fixes the price. Industry is very large in comparison to firm. The individual firm can not affect market supply through its decision regarding production. The individual buyers can not affect market demand for the good. So price remains constant in perfect competition.
Q10. A consumer is said to be in equilibrium when he maximizes his satisfaction. He consumes at a particular amount of good where he is getting maximum satisfaction.
According to MU approach the consumer is in equilibrium when marginal utility in terms of money of a good becomes equal to price of that good.
MU in terms of money=Price
Units MU in terms of money Price
1 4 3
2 3 3
3 2 3
The consumer is in equilibrium when he is consuming 2 units since at second unit MU in terms of money becomes equal to the price.
If MU in terms of money > price it means consumer is getting more satisfaction than what he is spending so he will increase his consumption.
If MU in terms of money < Price it means he is getting less satisfaction than what he is paying so he will not consume at this level.
So the consumer is in equilibrium when marginal utility in terms of money of a good becomes equal to price of that good.
Q 11. Law of supply states other things remaining unchanged if the price of a good increase its quantity supplied also increases and if the price of that good decreases its quantity supply also falls.
Other things may be technological progress, price of inputs used in production, rate of Excise tax, no of firms etc.
Price QTY
1 10
2 20
3 30
4 40
or
If the rate of excise tax falls cost of production also falls. Supply of the good increases. Supply curve will shift to Right.
As cost of Production falls MC decreases, Producer is able to produce more.
Q 12. P = 5 Q =120
P = 2
Es =2
Es = q/ p*P/Q
2 =dq/2 * 5/120
q =96
Q=120+96 =216 units
Q 13. Increase in income of buyer of a good affect the demand for a good.
Goods are of two types -:
Normal Goods and Inferior Goods
If the income of the buyer increases the demand for normal good will also increases and the demand curve will shift to right.
In case of inferior good with the increase in income of buyer the demand for inferior good will falls. And the demand curve will shift to left.
Q 14. If the price of substitute good increases the demand for given good also increases and the demand curve will shift to right.
The Equilibrium price will increase and the equilibrium quantity will also increase.
Diagram and explanation-
How does this change come about -: When the demand of given good increases it lead to competition among buyers as a result price of the good increases. The Supply of the good will increase at increased price. Hence Equilibrium price and Equilibrium Quantity both will increase.
Or
If the price of inputs used in the production of given good falls the supply for given good increases and the supply curve will shift to right.
The Equilibrium price will decrease and the equilibrium quantity will increase.
How does this change come about -: When the supply of given good increases it lead to competition among sellers as a result price of the good decreases. The demand of the good will increase at reduced price. Hence Equilibrium price falls and Equilibrium Quantity will rise.
15. A consumer is said to be in equilibrium when the budget line becomes tangent to indifference curve. At the point of tangency the slope of indifference curve and slope of budget line becomes equal.
If there are two good X and Y are there.
MRSxy =Px/Py
So the consumer is in equilibrium when the Marginal rate of substitution between two good becomes equal to price ratio of those two goods.
If MRSxy > Px/Py -: It means the consumer is willing to give up more amount of good y to have one more unit of good x then actually what he has to give up. He is in gains. He will increase the consumption of good x.
If MRSxy < Px/Py -: It means the consumer is willing to give up less amount of good y to have one more unit of good x then actually what he has to give up. He is in loss. He will reduce the consumption of good x.
Q16. Producer’s equilibrium -: A Producer is said to be in equilibrium when he is maximizing his profits. He produces a level of output where his profits are maximum.
According to TC and TR approach the producer is in equilibrium when the difference between TR and TC is maximum.
Units Price MC TR TC Profits
1 30 36 30 36 -6
2 30 30 60 66 -6
3 30 22 90 88 2
4 30 12 120 100 20
5 30 30 150 130 20
6 30 38 180 168 12
At 4th and 5th unit he is maximizing his profits. The producer is in equilibrium at 5th unit because after this his profit starts falling down.
Q17. It is the situation when able bodied people who are willing to work but do not find gainful employment at prevailing wage rate.
Q18. Import of goods
Unilateral transfer received. Any two related
Q19. Legal reserve ratio is the sum of Cash reserve ratio and statutory liquidity ratio. It is that part of deposits of commercial bank which they have kept legally in the form of cash reserve with RBI and self.
Q20. Investment multiplier is a number which when multiplied by change in investment determines change in investment.
Or It is the ratio of change in income to change in investment.
Q 21. Margin requirement of a loan is the difference between the actual value of asset and the loan advances against that asset.
Q 22. Circular flow of income shows the interdependence between various sectors in the economy on each other. In two sector economy it shows the interdependence of households and firms on each others.
Households supplies factors of production to firms and firms supply good and services to households by using factor services. This is real flow.
Firms pay factor payments to households for factor services and households pays to firms for goods and services. This is monetary flow.
Diagram-
Q 23. Current account of Balance of payments record all the transaction related to goods and services and unilateral transfer in the current year.
Capital account of balance of payments record all the transactions which affect asset and liabilities of individual and government both in short run and long run.
Import of machinery is recorded in current account as machinery is a good.
Q 24. GVAmp = Value of output – intermediate consumption
GVAmp = (Sales + Change in stock)-Intermediate consumption
600 = (sales +20 ) – 100
Sales = 680 lakhs
Q 25. Demand curve of foreign exchange is downward slopping it means when foreign exchange rate increases the demand for foreign exchange falls and when foreign exchange rate falls the demand for foreign exchange rises.
When foreign exchange rate increases it means more Rupees are needed to buy one dollar.
Demand for foreign exchange basically reflects the demand for foreign goods. If foreign exchange rate increases the foreign goods become costlier as a result the demand for import decreases and hence demands for foreign exchange.
If foreign exchange rate decreases the foreign goods become cheaper as a result the demand for import increases and hence demands for foreign exchange increases.
Or
The supply of foreign exchange increases with increase in foreign exchange rate.
When foreign exchange rate increases it mean more rupees are exchanged with one dollar or one dollar can buy more Rupees than earlier.
Export, Investment by foreigners etc are the measure sources of supply of foreign exchange
Our goods become cheaper for foreigners when foreign exchange rate increases. The demand for cheaper goods rises as a result exports increases and supply of foreign exchange increases.
Q26. 1. Yes, Since the branches are located within the domestic territory of India it will be included in domestic income of India.
2. Yes, Since the embassy of India situated in Japan is the part of domestic territory of India the salary generated in Indian embassy is included in domestic income of India.
3. No, Interest received on public debt is a transfer income. Transfer income is not included in domestic income.
No marks without reasoning.
Q27. C = 150 +0.75 Y
I = 7500
At equilibrium level of income S=I
So savings = 7500
Y =C+S
Y =150+0.75Y +7500
Y-0.75Y =7650
0.25Y=7650
Y=7650/0.25
Y=30600/-
Equilibrium level of income is 30600/-
C=Y-S
C=30600-7500=23100/-
Q28. Fiscal deficit is the difference between total expenditure and total receipts excluding borrowings.
FD = TE –TR (excluding borrowings)
It determines the actual level of borrowings in the economy.
Fiscal deficit can be financed by two ways
Deficit financing -It means printing of new currency. It may be inflationary as Indian currency is non convertible.
Borrowing-Borrowings may lead to increase in liabilities.
Or
Primary deficit is the difference between fiscal deficit and interest payments.
It determines whether the fiscal deficit in Government budget has arisen due to interest payment on previous borrowings or some other activity of government.
PD= FD –Interest payments
A large primary deficit indicates that the fiscal deficit is more then inters payments. It means Fiscal deficit in government budget has not arisen due to interest payments on previous borrowings. It may be due to spendthrift of government. Government is irresponsible.
Q29. There may be the situation of excess demand and deficient demand in the economy. Excess demand results in rise in price. Deficient Demand leads to fall in output, income, Employment and price level.
Government tries to bring economic stability in the economy through change in policy of taxation, borrowing and public expenditure. In case of excess demand tax and borrowing are increased and expenditure is reduced.
In case of deficient demand tax and borrowing is reduced whereas public expenditure is increased.
Q30. Credit creation is a process through which commercial banks create new deposits from initial deposits. This process depends on two things one is amount of initial deposits and other is legal reserve ratio.
Legal reserve ratio is the sum of cash reserve ratio and statutory liquidity ratio. Cash reserve ratio is that part of deposits held by commercial banks which commercial bank has to maintain with reserve bank of India.
SLR is that part of deposits held by commercial banks which they have to maintain with themselves in the form of cash reserve.
The amount of loan given by commercial banks is the difference between total deposits and legal reserve.
Money multiplier determines the times initial deposits get converted to new deposits.
M.M.=1/LRR
If LRR is 20% the money multiplier will be 5.It means new deposits will be 5 times of initial deposits.
It is assumed that all the transactions in the economy is rooted through banks by using cheques.
Suppose initial deposits are 1000 cr .The bank can lend up to 800cr and remaining 200cr are kept as legal reserve. Those who receives loan will draw cheques to pay for transactions. Those who will receive the cheques deposits in their account.So the banks deposits increase by 800 cr rs.
This process continues till legal reserve will become equal to initial deposits.
At this time the new deposits will be Rs 5000.
Or
1. Bank rate-: It is the rate at which central bank advances loans to commercial banks.
It basically affects the demand for loans. If bank rate will be more the demand for loans will be less and if bank rate is less the demand for loan will be more. When bank rate is less more loans will be demanded and hence credit creation will be more. In case of high bank rate the demand for loan will be less so less credit creation will take place.
2. Legal Reserve Ratio-: It is the sum of CRR and SLR. It affects the supply of credit. If legal reserve ratio is more less amount of loan can be and credit creation will be less. If LRR is less more amount can be given on loan hence credit creation will be more.
Suppose LRR is 40% money multiplier will be 2.5 and new deposits will be 2.5 times of initial deposits. If LRR is 20% money multiplier will be 5 and new deposits will be 5 times of initial deposits.
3. Open market operation -: Open market operation refers to buying and selling of government securities by central banks to commercial banks in open market. During inflation central bank sells securities to commercial banks as a result commercial banks shifts funds toward central bank. Credit creation will be less as less is given on loan. During deficient demand central bank buys securities from commercial banks as a result funds shift from central bank to commercial banks. More is available to give on loans. Credit creation will be more.
Q31 Deficient demand-: Deficient demand is that level of aggregate demand which fall short of effective demand require to maintain full employment level of output.It is the difference between full employment level of output and actual demand in the economy.
Deficient Demand = Effective demand – Actual demand
Income,output,emp
AS is represented by 45 degree line since both the axis is equidistant from this line.
Ade is effective demand.AD0 is actual demand.
NF is deficient demand. Economy can produce OF level of output when all the resources are fully employed. But economy is producing On Level of output since aggregate demand is less.
Employment, output and price level will fall in the economy.
Q32 Income method
NDPFC=Compensation of employee+ operating surplus+ Mixed Income
=800+ (250+ 400+ 150)
=1600 Cr
NNPfc= NDPfc+ NFIFA
National Income= 1600+ (-10)=1590Cr
Expenditure Method
GDPmp= Private Final Consumption Expenditure+Government final consumption final expenditure+Gross domestic capital formation+ Net exports
=1000+ 500+ (200+ 60)+ (-20)
=1740
NNPfc= GDPmp-Depritiation+ NFIFA-NIT
=1740-60+(-10)-80
National Income= 1590Cr
