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Question Paper

Economics-II (122) – January 2004


Section A : Basic Concepts (40 Marks)
• • This section consists of questions with serial number 1 - 40.
• • Answer all questions.
• • Each question carries one mark.
< Answer
1. Which of the following is a stock variable? >
a. Gross Domestic Product b. Inventory of a firm c. Inflation
d. National Income e. Both (a) and (d) above.
< Answer
2. Which of the following is a “leakage” from the circular flow of income? >
a. Mr. Ramesh bought an Indian made color television for Rs.15,000
b. Mr. Babu bought a second hand refrigerator from his friend Rajesh
c. Mr. Harsha imported a brand new Ferrari car from Germany for Rs.10 lakh
d. Mr. Sujit paid Rs.10,000 to his personal secretary towards salary
e. Both (a) and (c) above.
< Answer
3. Which of the following happens when the central bank increases open market purchases? >

a. Aggregate supply decreases b. Rate of inflation increases


c. Interest rates will increase d. Aggregate demand decreases
e. Total output falls.
< Answer
4. Aggregate demand in an economy increases with the >

a. Decrease in income of foreigners b. Increase in the private transfers from abroad


c. Decrease in government spending d. Increase in interest rates
e. Increase in tax rates.
< Answer
5. Which of the following is likely to happen, when realized output exceeds spending? >

a. Lower demand increases the unemployment


b. Higher inflation further reduces the aggregate demand
c. Economy attains full employment level
d. Inventory level in the economy increases
e. Both (a) and (d) above.
< Answer
6. Which of the following statements is not true in the long run? >

a. Output converges towards natural rate of output


b. Output becomes insensitive to changes in aggregate demand
c. Input costs play a greater role in the determination of equilibrium output
d. Aggregate supply curve is vertical
e. Unanticipated price changes would have adverse impact on output.
< Answer
7. Which of the following is considered as an investment? >

a. Arun deposits Rs.10,000 with a nationalized bank in a term deposit for a period of 5 years
b. Barucha invests Rs.5,000 in equity shares of a company
c. Charlie and Co. accumulates unsold inventory worth Rs.1,000
d. Delta Corp. buys ten used vehicles to strengthen its transportation fleet
e. None of the above.
< Answer
8. Which of the following is not a postulate of Say’s law? >

a. Disequilibrium in the economy can exist for a while


b. There might be temporary mismatch between aggregate demand and supply
c. In the short run there can be excess production and unemployment
d. Prices and wages are sticky downwards
e. Interest rate fluctuations bring about saving and investment equilibrium.
< Answer
9. Monetarists prefer monetary policy over the fiscal policy because they feel that >

a. Statistically money demand function can be better determined than consumption or investment demand
b. Money is a substitute for financial assets
c. Demand for money is determined by rate of interest
d. Fiscal policy is ineffective because of ‘crowding out’ effect
e. Both (a) and (d) above.
< Answer
10. According to the school of rational expectations there is no trade off between inflation and unemployment >
because
a. People make biased forecasts about the future of the economy based on all the available information
b. People anticipate changes in money supply and accordingly adjust prices and wages
c. Wages are rigid downwards
d. Prices are rigid downwards
e. Both (c) and (d) above.
< Answer
11. Phases of business cycles in an economy are designated primarily based on the >

a. Unemployment rate b. Price levels c. Real GDP


d. Inventory levels e. Gross investment.
< Answer
12. Monetized deficit refers to >

a. Fiscal deficit minus interest payments


b. Borrowings and other liabilities of the Central Government
c. Increase in the net RBI credit to the Central Government
d. Fiscal deficit minus Primary deficit
e. RBI’s credit to the commercial banks.
< Answer
13. The time between the interest rate changes and the corresponding changes in the spending decisions of the >
public forms a part of
a. Recognition lag b. Administrative lag c. Outside lag
d. Inside lag e. Intermediate lag.
< Answer
14. In the classical model, the long run effect of an increase in government spending is >

a. An increase in the price level b. An upward shift of the aggregate demand curve
c. An increase in the level of output d. Both (a) and (b) above
e. (a), (b) and (c) above.
< Answer
15. The net factor income earned within the domestic territory of a country must be equal to >

a. Net Domestic Product at factor cost b. Net Domestic Product at market price
c. Net National product at factor cost d. Net National Product at market price
e. Personal income.
< Answer
16. In the Union Budget, profits from public sector undertakings are taken under >

a. Revenue receipts b. Capital receipts


c. Monetized receipts d. Planned expenditure
e. Fiscal deficit.
< Answer
17. Stagflation is a period of >

I. High inflation. II. High growth of real GDP.


III. High unemployment. IV. High aggregate demand.

a. Both (I) and (III) above b. Both (III) and (IV) above
c. (I), (II) and (III) above d. (II), (III) and (IV) above
e. All (I), (II), (III) and (IV) above.
< Answer
18. Full employment exists when there is >

a. Zero unemployment b. Natural rate of unemployment


c. Least demand for labor d. Least supply of labor
e. Both (c) and (d) above.
< Answer
19. When a person is employed in a sector where his/her employment does not make any difference to the output, >
it signifies the presence of
a. Frictional unemployment b. Cyclical unemployment
c. Disguised unemployment d. Structural unemployment
e. Sectoral unemployment.
< Answer
20. The curve that depicts the relationship between the rate of change in prices and the rate of unemployment is >

a. Laffer curve b. Phillips curve c. Aggregate supply curve


d. LM curve e. IS curve.
< Answer
21. Other things being equal, an increase in the supply of money >

a. Lowers both nominal interest rate and aggregate demand


b. Raises both nominal interest rate and aggregate demand
c. Raises nominal interest rate and lowers aggregate demand
d. Lowers nominal interest rate and raises aggregate demand
e. Does not change either nominal interest rate or aggregate demand.
< Answer
22. Both dividends and corporate taxes are part of >

I. I. Corporate profits. II. National income.


III. III. Personal income. IV. Personal disposable income.
a. Both (I) and (II) above b. Both (II) and (III) above
c. Both (I) and (III) above d. (I), (II) and (III) above
e. (I), (II) and (IV) above.
< Answer
23. Consumption demand does not depend upon the level of >

a. Income b. Propensity to consume


c. Propensity to save d. Wealth
e. Marginal efficiency of investment.
< Answer
24. The slope of the consumption curve connotes >

a. Average propensity to save b. Average propensity to consume


c. Marginal propensity to consume d. Marginal propensity to save
e. Level of consumption in the economy.
< Answer
25. Bank rate means >

a. The rate of interest on inter-bank loans


b. The rate of interest charged by banks on borrowers
c. The rate of interest paid by banks to depositors
d. The rate of interest charged by banks for loans given to the central bank of the country
e. The rate of interest charged by the central bank of a country on its loans to other commercial banks.
< Answer
26. Which of the following indices necessarily gives higher weights to services like doctor fees, railway and bus >
fares?
a. Consumer Price Index (CPI) b. Wholesale Price Index (WPI)
c. Index of Industrial Production d. GNP deflator
e. GDP deflator.
< Answer
27. Which is the best indicator of economic development of a developing country like India? >

a. National income deflator b. GNP at current prices


c. Real national income d. Per capita real national income
e. GDP deflator.
< Answer
28. Given that the marginal propensity to consume is larger, which of the following statements are true. >

I. Marginal propensity to save will be larger. II. Multiplier value will be larger.
III. Average propensity to consume will be larger. IV. Autonomous consumption will be higher.

a. Both (I) and (II) above b. Both (II) and (III) above
c. (II), (III) and (IV) above d. (I), (II) and (III) above
e. Both (III) and (IV) above.
< Answer
29. Which of the following would not be included in GDP? >

a. Bobby purchases a new suit to wear at work


b. Amok purchases a new Ford car
c. Community Bank purchases new computers for its loan office
d. Margaret grows tomatoes in her home garden
e. Ford India produces but could not sell 100 cars.
< Answer
30. The demand for money is a demand for real money balances for a given interest rate. If there is an increase in >
the level of income because of increase in real money supply, which of the following statements holds true?
a. IS curve shifts to the left b. LM curve shifts to the left
c. IS curve shifts to the right d. LM curve shifts to the right
e. Both IS and LM curves shifts to the right.
< Answer
31. What would be the sequence of events when RBI increases money supply by reducing CRR? >

I. Interest rates fall. II. Increase in investment expenditure.


III. Portfolio disequilibrium. IV. Increase in price of financial assets.

a. (I), (II), (III), (IV) b. (III), (IV), (I), (II)


c. (II), (III), (IV), (I) d. (IV), (III), (II), (I) e. (III), (IV), (II), (I).
< Answer
32. Aggregate supply curve becomes vertical even in short run, if >

a. The economy is facing deficit demand


b. There are idle resources
c. All available resources are fully employed
d. The economy is yet to reach full employment
e. All firms are earnings normal profits.
< Answer
33. All entries in the balance of payments statement should collectively sum to >

a. GDP of the country b. GNP of the country


c. Foreign exchange reserves of the country d. Zero
e. Exports of the country.
< Answer
34. Cost push inflation occurs when >

a. Wages are decreased b. Productivity of labor increases


c. Cost of raw material increases d. Aggregate supply curve shifts to the right
e. New raw material reserves are found.
< Answer
35. If an economy is already under inflation, and there is increasing inflow of foreign exchange, the central bank >
can sterilize the impact by
a. Decreasing discount rate b. Buying government securities from banks
c. Increasing cash reserve ratio d. Increasing tax rates
e. Increasing government spending.
< Answer
36. Which of the following transactions is included in the current account balance of the Balance of payments >
statement?
a. Foreign direct investments b. Portfolio investments
c. External commercial borrowings d. Dividends earned on portfolio investments
e. External assistance.
< Answer
37. Under which of the following tax system, more tax is imposed on the lower income groups? >

a. Progressive b. Regressive c. Proportional


d. Customs e. Value Added Tax.
< Answer
38. The variables that changes the government spending and revenue as the economy fluctuates, without any >
deliberate effort of the government are called
a. Automatic Stabilizers b. Lagging indicators
c. National income aggregates d. Real factors e. Growth variables.
< Answer
39. Which of the following can lead to decrease in Incremental Capital Output Ratio (ICOR)? >

a. Low managerial efficiency b. Complicated production procedures


c. Existing capital is less productive d. Inadequate delegation of powers
e. Improvement in productivity of labor.
< Answer
40. Recessionary GDP gap signifies >

a. Higher potential real GDP compared to realized real GDP


b. Hyper inflationary situation
c. Deflationary situation with high unemployment
d. Existence of natural rate of unemployment
e. Both (b) and (d) above.

END OF SECTION A

Section B : Problems (60 Marks)


• • This section consists of questions with serial number 41 - 76.
• • Answer all questions.
• • Marks are indicated against each question.
< Answer
41. The following information pertains to national income aggregates of a hypothetical economy: >
Particulars Rs. in crore
Compensation to employees paid by the Government 50
Profit distributed as dividends by the firms 70
Old age pension, scholarships etc. distributed by Government 21
Purchases made by the government sector 246
Indirect taxes paid by the firms 75
Value of exports 22
Factor income paid as dividends abroad 25
Corporate tax 62
Personal Savings 22
Undistributed profits of the firms 42
Income tax 94
Factor incomes received by the household sector 632 The
Personal Disposable Income in the economy is
a. Rs.509 crore b. Rs.539 crore c. Rs.529 crore d. Rs.559 crore e. Rs.549 crore.
(2 marks)
< Answer
42. The following data pertains to national income aggregates of a hypothetical economy: >
Consumption function (C) = 200 + 0.80Yd, where Yd is disposable income
Investment (I) = 500 MUC
Government spending (G) = 200 MUC
Taxes (T) = 100 MUC

The equilibrium level of savings is

a. 600 MUC b. 700 MUC c. 500 MUC d. 800 MUC e. 900 MUC.
(2 marks)
< Answer
43. In a two-sector economy, the savings function is estimated to be S = –20 + 0.30Y d. If the equilibrium output is >
600, the level of investment in the economy is
a. 140 MUC b. 150 MUC c. 160 MUC d. 130 MUC e. 170 MUC.
(2 marks)
< Answer
44. The following data pertains to a hypothetical economy. >

Consumption function (C) = 70 + 0.75Yd


Investment (I) = 80 MUC
Government spending (G) = 70 MUC
Tax function (T) = 0.2Y

At equilibrium, the budget surplus (deficit) in the economy is


a. (30) MUC b. 30 MUC c. 40 MUC d. 50 MUC e. (40) MUC.
(2 marks)
< Answer
45. In an economy the savings function and investment functions are given by S = – 50 + 0.3Y and I = 150 – 5i >
respectively. If the equilibrium income level,Y = 500, the rate of interest is
a. 20.0% b. 15.0% c. 10.0% d. 5.0% e. 12.5%.
(1 mark)
< Answer
46. The following equations are given with respect to a hypothetical economy. >
Consumption function C 15 + 0.8 Yd
Investment function I 450 – 12i
Exogenous Government expenditure G 300 MUC
Transaction demand for money Mt 0.20Y
Speculative demand for money Ma 145 – 60i
Supply of Money Ms 300 MUC
Exports E 225 MUC
Tax function T 0.25Y
Import function M 5 + 0.2Y

The equilibrium
interest rate in the economy is
a. 2.7 % b. 7.2 % c. 5.1 % d. 5.8 % e. 4.5 %.
(3 marks)
< Answer
47. The following are the excerpts from the balance sheet of a Central Bank. >

Particulars MUC
Notes in circulation 100
Other deposits 50
Other non-monetary liabilities 100
Statutory and contingency reserves 420
Credit to Central Government 1,120
Shares & loans to financial institutions 550
Central bank claims on Commercial banks 350
Net foreign exchange assets 150
Other assets 50
If the government money is 25 MUC,
the high powered money in the economy is
a. 1,650 MUC b. 1,750 MUC c. 1,725 MUC d. 1,825 MUC e. 1,650 MUC.
(2 marks)
< Answer
48. For a hypothetical economy the following is the estimated steady state consumption function. >

Ct = 10 + 0.5Yd t + 0.4C t–1

Where Ct and Ct-1 denote consumption in periods t and t-1. If the Ydt increased from 400MUC to 500 MUC,
what is the amount of change in steady state consumption?

a. 53.33 MUC b. 65.33 MUC c. 83.33 MUC d. 75.33 MUC e. 61.33 MUC.
(2 marks)
< Answer
49. Given the following data, compute the current account balance for the country. >
Particulars MUC
Earnings on loans and investments from abroad 500
Earnings on loans and investments to abroad 2,500
Import of services 4,000
Private remittances to abroad (transfers) 500
Private remittances from abroad (transfers) 500
Exports of services 2,000
Merchandize exports 15,000
Merchandize imports 12,000
a. 1,000 MUC (Surplus) b. 1,000 MUC (Deficit)
c. 500 MUC (Deficit) d. 500 MUC (Surplus) e. Zero.
(2 marks)
< Answer
50. In an economy the demand for money is estimated to be L = 0.25Y – 10i. If the interest rate is 6% and money >
supply is 200 MUC, the equilibrium level of output is
a. 1,060 MUC b. 1,040 MUC c. 1,080 MUC d. 1,100 MUC e. 1,120 MUC.
(1 mark)
< Answer
51. The following data pertains to a hypothetical economy. >

Particulars MUC
Private final consumption expenditure 750
Fixed capital formation 225
Increase in inventories 50
Government final consumption expenditure 160
Exports 40
Imports 30
Money supply 239
The velocity of money in the economy is

a. 4 b. 3 c. 5 d. 6 e. 7.
(2 marks)
< Answer
52. The personal income of an individual is Rs.5,000., if the income taxes paid is Rs.200, consumption is >
Rs.4,300, interest payment on loans is Rs.100 and savings is Rs.400, the disposable income of the individual
is
a. Rs.5,000 b. Rs.4,800 c.Rs. 4,300 d. Rs.4,900 e. Rs.4,600.
(1 mark)
< Answer
53. The savings function for an economy is given by S = –50 + 0.25Y and the import function, M= 0.15Y. If the >
government intends to increase the GNP by 500 MUC, what should be the increase in government
expenditure?
a. 100 MUC b. 50 MUC c. 200 MUC d. 250 MUC e. 300 MUC.
(2 marks)
< Answer
54. On the basis of following data calculate finance ratio for the year 2003. >
Particulars MUC
GDP at market price 76,500
Depreciation 2,500
Indirect taxes 1,225
Subsidies 725
Net factor income from abroad 200
Net capital formation 15,500
Finance interrelation ratio 1.5
a. 28.6% b. 31.6% c. 34.6% d. 26.6% e. 36.6%.
(2 marks)
< Answer
55. For an economy, the growth rate of population is likely to be 2% per annum. Given that capital output ratio is >
5 and possible level of investment is 25 percent of GDP, what is the possible per capita real GDP growth rate?
a. 2.0% b. 3.0% c. 4.0% d. 3.5% e. 4.5%.
(2 marks)
< Answer
56. The following table gives information about price and units of aggregate output for the years 2002 and 2003. >

2002 2003
Goods Quantity Price Quantity Price
(Rs.) (Rs.)
P 30 2.00 35 2.50
Q 55 6.00 65 8.00
R 45 5.00 60 6.00
S 35 4.00 40 5.00
T 40 3.00 50 4.50
What is the value of GDP deflator for the year 2003?

a. 122 b. 104 c. 151 d. 142 e. 130.


(3 marks)
The capital inflows and outflows in an economy during the year 2002-03 are 6,300 MUC and 4,500 MUC < Answer
57. >
respectively. Suppose there is no change in the official foreign reserve assets held by the central bank, what
could be the current account balance for the economy?
a. 1,500 MUC (Deficit) b. 1,800 MUC (Surplus)
c. 1,800 MUC (Deficit) d. 1,500 MUC (Surplus) e. Zero.
(1 mark)
The full employment output for an economy is estimated to be 700. The current level of output is 600. MPS < Answer
58. >
for the economy is estimated to be 0.2.What should be the change in government spending if the government
is committed to bring full-employment level of output?
a. 50 MUC b. 75 MUC c. 20 MUC d.125 MUC e.150 MUC.
(1 mark)
The central bank’s monetary liabilities as on 31 December 2003 stood at 10,500 MUC and Government < Answer
59. >
money at 1,500 MUC. The currency deposit ratio is estimated to be 0.25. If the Central bank intends to
maintain the money supply at 48,000 MUC, what should be the reserve ratio specified by the Central bank?
a. 6.25% b. 8.10% c. 9.10% d. 5.00% e. 4.25%.
(2 marks)
< Answer
60. >
If the demand for money is L = kY– hi and the money supply is M , the money market equilibrium is

M + hi hi M M − hi hi − M
M+ + hi
a. Y = k b. Y = k c. Y = k d. Y = k e. Y = k .

(1 mark)
< Answer
61. Given the following information, what would be the national income of the economy? >

Particulars MUC
Compensation to employees 2,325
Interest payments made by the firms 323
Rental income received 43
Corporate profits (before tax) 170
Proprietors’ income 135
Dividends paid by the firms 72
Personal taxes paid by the individuals 260
a. 2,786 MUC b. 2,996 MUC c. 2,886 MUC d. 3,115 MUC e. 2,662 MUC.
(2 marks)
< Answer
62. In a two-sector economy the marginal propensity to save is constant at 0.25 and the break-even income is >
12,000 MUC. If the current level of income is 16,000 MUC, the amount of savings in the economy is
a. 6,000 MUC b. 1,000 MUC c. 5,000 MUC d. 7,000 MUC e. 2,000 MUC.
(2 marks)
< Answer
63. The following information is given from the national accounts of a country for the year 2002-03. >

Particulars MUC
Factor income earned within domestic territory 65,000
Gross domestic fixed capital formation 6,000
Net domestic fixed capital formation 4,000
GNP at market prices 85,000
Indirect taxes 3,000
Subsidies 1,000 The net factor income from abroad
for the year 2002-03 is
a. 15,000 MUC b. 13,000 MUC c. 16,000 MUC d. 17,000 MUC e. 11,000 MUC.
(2 marks)
< Answer
64. In a hypothetical economy, the nominal income increased by 6%. If the prices increased by 4%, the real >
income increases by
a. 10.00% b. 2.00% c. 1.50% d. 0.67% e. 2.50%.
(1 mark)
< Answer
65. For an economy, goods market equilibrium is >

0.5 Y = 3,125 – 25i.


If expansionary monetary polices decrease the rate of interest in the economy by one percentage point, the
equilibrium income will
a. Decrease by 25 MUC b. Increase by 25 MUC
c. Decrease by 50 MUC d. Increase by 50 MUC
e. Insufficient data.
(1 mark)
< Answer
66. Domestic savings for a year is 1,500 MUC. If the government budget deficit is 500 MUC, private savings for >
the year is
a. 500 MUC b. 1,000 MUC c. 1,500 MUC d. 2,000 MUC e. 2,500 MUC.
(1 mark)
< Answer
67. Acceleration coefficient in an economy is 2. Investment in a period is equal to 75% of the difference between >
the desired capital stock and the existing capital stock. If income in period ‘t’ is expected to increase by 200
MUC, investment during the period ‘t’ will be
a. 200 MUC b. 300 MUC c. 400 MUC d. 500 MUC e. 600 MUC.
(2 marks)
< Answer
68. In an economy, the investment function is given by I = 2,500 – 100i. If an increase in government spending by >
625MUC increases the interest rate in the economy by 5%, what could be the amount of crowding out in the
economy?
a. 250 MUC b. 375 MUC c. 190 MUC d. 500 MUC e. 225 MUC.
(1 mark)
< Answer
69. The LM function is Y = 500 + 20i. Which of the following combinations of interest and income does not >
represent equilibrium in the money market?
a. i = 3% and Y = 460 b. i = 5% and Y = 600
c. i = 7% and Y = 640 d. i = 10% and Y = 700
e. i = 4% and Y = 580.
(1 mark)
< Answer
70. In a hypothetical economy, if the marginal propensity to consume is 0.75; marginal propensity to import is >
0.10; and the tax rate is 20%, then the value of multiplier will be
a. 2 b. 3 c. 4 d. 5 e. 6.
(1 mark)
< Answer
71. Transaction demand for money (Mt) : 0.50Y >
Speculative demand for money (Ms) : 350 – 100i
Investment function (I) : 200 – 10i
Supply of money (Ms) : 500 MUC
Current equilibrium rate of interest : 8%
Tax rate : 20%
If the expansionary fiscal policies increase the equilibrium rate of interest to 12% and IS function to Y = 2,900
– 100i, what should be the money supply in the economy to avoid the crowding out?
a. 500 MUC b. 550 MUC c. 600 MUC d. 675 MUC e. 750 MUC.
(2 marks)
The following information is extracted from the Union Budget for the year 2003-04: < Answer
72. >
2003-2004
Particulars Budget Estimates
(in Rs. crore)
Tax revenue (net to center) 1,84,169
Non-tax revenue 69,766
Recoveries of loans 18,023
Other receipts 13,200
Borrowings and other liabilities 1,53,637
Non-plan expenditure
On revenue account (excluding interest
payment) 1,66,161
On capital account 28,437
Plan Expenditure
On revenue account 76,843
On capital account 44,131
Primary deficit 30,414 The Revenue
Deficit for the year 2003-04 is
a. Rs.2,53,935 cr. b. Rs.1,12,292 cr. c. Rs.1,53,637 cr. d. Rs.4,38,795 cr.
e. Rs.1,02,932 cr.
(3 marks)
The IS function and LM function in an economy are estimated to be Y = 5,700 + 0.5Y - 100i and Y = 5,200 + < Answer
73. >
800i respectively. The investment function in the economy is 1600 – 100i. If the government spending
increases by 100 MUC, which of the following is true about the interest rate in the economy?
a. Increases from 6.2 % to 6.5% b. Increases from 6.1% to 6.5%
c. Increases from 6.2% to 6.4% d. Increases from 6.0 % to 6.4%
e. None of the above.
(2 marks)
In an economy demand for money is < Answer
74. >
Md = 500 + 0.2Y – 20i
If money supply in the economy is 2,340 MUC and equilibrium rate of interest is 8 percent, national income is
a. 340 MUC b. 500 MUC c. 1,000 MUC d. 2,000 MUC e. 10,000 MUC.
(1 mark)
Suppose that people hold 50% of their money in currency. If the reserve ratio is 10% and total demand for < Answer
75. >
money is Rs.5,000, then the amount required by banks to meet the reserve requirement is equal to
a. Rs.250 b. Rs.2,250 c. Rs.2,500 d. Rs.5,000
e. None of the above.
(1 mark)
< Answer
76. As on December 20, 2003 monetary liabilities of the central bank are 1,200 MUC and government money is >
50 MUC. The currency deposit ratio is 0.2, while reserve ratio specified by the central bank is 5%. During the
coming year, an additional flow of 50 MUC of foreign exchange assets is expected. If the central bank wants
to maintain the money supply at the original level by resorting to open market operations, what would be the
worth of government securities to be sold in the market?
a. Rs. 50 MUC b. Rs.250 MUC c. Rs.175 MUC d. Rs.225 MUC e. Rs.210 MUC.
(1 mark)

END OF SECTION B
Suggested Answers
Economics – II (122) : January 2004
1. Answer : (b) <
TO
Reason :Stock is a variable which is measured at a point of time. P
>
a. GDP is the money value of goods and services produced within the
domestic territory of a country (which includes depreciation) in a year
and hence not a stock because it is measured over a period of time,
usually a year.
b. Inventories refer to the unsold stock or the raw materials maintained
by a firm to be use in the production process. Hence it is measured at
a point of time, i.e., number of unsold goods as on 31 March, 2003
are 100. Hence, it is a stock variable
c. Inflation refers to persistent increase in prices over a period of time. It
is measured over a period of time hence it is a flow and not a stock
variable.
d. National Income is the sum of factor income and labour income
earned by the residents of a country earned usually over a period of
one year. Hence it is also a flow concept.
e. Since (a) and (d) are not correct options, (e) cannot be the right
answer.
2. Answer : (c) <
TO
Reason :Circular flow of income refers to money flow from households in return P
>
for goods and services produced by firms and money passes from firms to
households in return for factor services provided by households. If any
part of the income is not spent with in the flow and hence it represents
leakages from the flow.
a. Since Mr. Ramesh is spending his money on consumption of goods,
which would lead to flow of income from households to the firms and
hence no leakage from the system.
b. In the process of buying second hand refrigerator income is
transferred from Mr. Babu to Mr. Rajesh which represents
consumption expenditure and hence income remains in the system.
c. As Mr. Harsha imported a new Ferrari car, part of the income has
gone out the flow in order to pay for commodity which is not
produced within the country. Money spent on Ferrari becomes part of
circular flow of exporting country and a leakage for the importing
country. Hence the answer is option c.
d. Salary paid represents flow of income from Mr. Sujit to his personal
secretary.
e. Since (a) is not true, therefore e cannot be the answer.
3. Answer : (b) <
Reason :Open market operations refer to purchase and sale of securities by the TO
P
central bank. When the central bank purchases securities it increases the >
reserve base of the commercial banks and hence leads to multiple
expansions of credit and deposits.
a. The increase in the monetary base leads to more credit creation and
hence leads to increase in output that is aggregate supply.
b. As the money supply increases due to open market purchases, in short
run production cannot adjust to the increased demand which is a
result of higher money supply. The prices tend to increase which
results in inflation. Hence b is the correct option.
c. The increase in money supply leads to a downward pressure on
interest rate and the interest rates will in fact decrease.
d. Aggregate demand will increase as the increased money supply will
lead to decrease in interest rates which will increase the investment
demand and consumption demand.
e. Output increases as explained in option (a).
4. Answer : (b) <
TO
Reason :AD curve gives the relation between quantity of goods and services P
>
demanded and price level. Apart from price, AD is also affected by
i. A change in income
ii. Rate of interest
iii. Government policy
iv. A change in exchange rate and
v. Transfer payments
a. A decrease in income of foreigners will have its impact only on the
aggregate demand of the country to which they belong to and not on
the domestic economy. Hence, there is no impact on the aggregate
demand.
b. Transfer payments refer to incomes such as pensions, gifts etc. which
are unilateral payments. They add to the income of the receiver.
Hence private transfers from abroad will add to the income and leads
to increase in aggregate demand.
c. A decline in government expenditure leads to decrease in aggregate
demand as less money is available for various government activities
and hence demands fewer goods.
d. Increase in interest rates makes loans demanded for investment and
consumption purposes costlier. The people would prefer to wait until
the interest rates come down and hence the aggregate demand will
less.
e. An increase in tax rates will lead to decrease in disposable income in
case of direct taxes and investment demand in case of Corporate
taxes. The net impact is that aggregate demand will decrease.
5. Answer : (e) <
TO
Reason :Realized output refers to aggregate supply and spending refers to P
>
aggregate demand. If aggregate supply is greater than aggregate demand,
it results in fall in price, output and employment.
a. Since aggregate demand is falling short of aggregate supply, demand
is lower and hence there is not new investments which would mean
there will be increase in unemployment.
b. Since there is lower demand, Prices will decline
c. Since there is excess supply, there is no possibility of providing new
employment. At full employment aggregate supply is equal to
aggregate demand.
d. There is excess supply in the economy i.e, there is unsold stock which
leads to increase in inventories. Hence true.
e. Since (a) and (d) are true. Hence option (e) is correct.
6. Answer : (e) <
TO
Reason :In long run the economy will tend towards output which is referred to as P
>
natural rate of output.
a. True, because long equilibrium is characterized by tendency towards
natural rate of output
b. In long run output of an economy does not depend on the price level,
but on labour, import cost, capital stock, technological progress etc.
hence true.
c. True, input costs play a greater role in the determination of
equilibrium output.
d. At natural rate the aggregate supply is vertical as it is insensitive to
price hence true.
e. Since price doesn’t have any impact of output in long run,
unanticipated price also has no role. Hence this option is not true.
7. Answer : (c) <
TO
Reason :Investment includes expenditure on the plant and machinery produced P
>
during the year, expenditure incurred on construction activities (both
residential and non-residential) during the year and change in inventories.
(a) and (b) are not the answer as both are financial transactions, which do
not form part of investment.
(c) is the answer as change inventories is considered to be an investment.
(d) is not the answer as purchase of used vehicles amounts only to transfer
of ownership and not an investment.
8. Answer : (d) <
TO
Reason :According to Says Law of markets ‘supply creates its own demand’. Over P
>
production and unemployment are not possible in long run as price and
wages adjust to remove both of them. Only in short run disequilibrium can
exist.
a. True, as in short run over production & unemployment are possible
b. Disequilibrium occurs because of mismatch between demand and
supply, hence true
c. True, in the short run there can be excess production and
unemployment
d. False, in long run price, wages adjust freely and bring about
equilibrium.
e. True flexible hence price and wages are not rigid.
9. Answer : (e) <
TO
Reason :Monetarist opines that demand function for money is better determined P
>
than consumption or investment function and hence they prefer monetary
policy over fiscal policy. Fiscal policy is ineffective because increase in
public expenditure leads to decrease private expenditure. (Crowding out)
a. Above reasons shows that option a is true
b. Not true, as this is also a Keynesian proposition
c. Not true, as it is Keynesian economics which says so and hence
demand for money is determined by interest rate.
d. ‘Crowding out’ is one of the importance reasons for ineffectiveness of
fiscal policy and hence true.
e. Since, (a) and (d) are true, this is the correct option.
10 Answer : (b) <
TO
. Reason :a. School of rational expectation is based on the premise that people do P
>
not make systematic forecasting errors. On an average their views
about the future are correct and not biased as they behave rationality.
Hence the option is wrong.
b. Whenever central bank increases the money supply, according to
rational expectations theory, people realize that it is the cause of
inflation. According workers and business firms adjust wages and
prices in response to the changes in Money supply. Hence any change
in Money supply only affects wages and prices. Hence this option is
true as only wages and prices are affected and not employment.
c. Since the people are assumed to behave rationally, any attempt by the
monetary authorities to increase employment will be anticipated by
the firms. They accordingly changes prices and wages. Hence wages
are flexible and not rigid. Hence the option is not true.
d. d. Business men anticipate the changes in Money supply (which is
the primary cause for inflation) and I as they are rational, change
prices accordingly. The price are flexible and not rigid. Hence the
option is not true.
e. e. Since (c) and (d) are not correct options, (e) cannot be the answer.
11. Answer : (c) <
TO
Reason :The periodic upswings and down swings in the level of economic activity P
>
which forms a regular pattern with an expansion of activity followed by a
contraction ,succeded by further expansion are referred to as business
cycles. Each of the phases is characterized by certain features.
a. a. Mere existence of unemployment cannot be taken as an indicator
of recession or depression, as in a country like India, even though the
economy is growing these is unemployment. Hence not true.
b. b. Price levels are only an indicator of purchasing power, which in
turn is dependent on income levels of the people also. Hence cannot be
taken as primarily indicator of the different phases of business cycles.
c. c. By definition, a business cycle is a swing in total national output,
income and employment market by contraction or expansion in many
sectors of the economy changes in real GNP brings changes in prices,
employment. Hence only the basis of changes in real GDP different
phases are classified. Hence real GDP is the correct option.
d. d. Changes in inventory level do give an indication about the
different phases, but the changes inventory level are as a result of
changes in real GDP.
e. e. Gross investment is dependent on future growth rate, which again
based on estimation of real GDP in future. Hence gross investment
cannot be primarily indicator.

12 Answer : (c) <


TO
. Reason : Monetized deficit refers to increase in net RBI credit to the Central Government, P
comprising the net increase in the holdings of T-bills of the RBI and its contribution to >
the market borrowings of the Government. Fiscal deficit = Borrowings and liabilities of
the Central Government and primary deficit = Fiscal deficit – interest payments.
(a) (a) Is not the answer because monetized deficit doesn’t refer fiscal
deficit minus interest payments
(b) (b) Is not the answer because monetized deficit doesn’t refer
borrowings and other liabilities of the Central Government
(c) (c) Is the answer because monetized deficit refers Increase in the
net RBI credit to the Central Government
(d) (d) Is not the answer because monetized deficit doesn’t refer fiscal
deficit minus Primary deficit
(e) (e) Is not the answer because monetized deficit doesn’t refer RBI’s
credit to the commercial banks.
13 Answer : (c) <
TO
. Reason :The lags that are given below basically refers to lags in the monetary P
>
policy
a. a. Recognition lag refers to the time gap between the requirement of
an action and its actual initiation. Hence not the correct option.
b. b. Administrative lag refers to the time gap between recognition lag
and the implementation of monetary policy. Hence not the correct
option.
c. c. As the monetary makes some changes, it takes some time for the
firms and to respond with changes in output and employment. Such
time gap is refered to as outside lag. Hence (c) is the correct option.
d. d. Inside lag refers to the time gap between necessity of an action to
be taken by central bank and the action actually undertake. Hence not
correct option.
e. e. The difference between inside and outside lag is referred to a s
intermediate lag. Whereas the response of the public due to changes in
interest rate is part of outside lag. Hence this option is not correct.
14 Answer : (b) <
TO
. Reason : The long run effect of an increase in government spending in the Classical model is to P
increase the price level as the long-run aggregate supply curve is considered to be >
vertical. Therefore any increase in demand is simply inflationary.
(a) Is not the answer because in the classical model, the long run effect of an increase in
government spending is not an increase in the price level
(b) Is the answer because in the classical model, the long run effect of an increase in
government spending is an upward shift of the aggregate demand curve
(c) Is not the answer because in the classical model, the long run effect of an increase in
government spending is not an increase in the level of output
(d) Is not the answer because both (a) and (b) above cannot be the answer.
(e) Is not the answer because (a), (b) and (c) above cannot be the answer.
15 Answer : (a) <
TO
. Reason :Since the value added within the domestic territory will belong to the P
>
domestic factor inputs, NDP at factor cost must be equal to domestic
factor income.
Hence answer is (a).
(b) Is not the answer because the net factor income earned within the
domestic territory of a country is not equal to Net Domestic
Product at market price.
(c) Is not the answer because the net factor income earned within the
domestic territory of a country is not equal to Net National product at
factor cost
(d) Is not the answer because the net factor income earned within the
domestic territory of a country is not equal to Net National Product at
market price
(b) Is not the answer because the net factor income earned within the
domestic territory of a country is not equal to Personal income.
16 Answer : (a)
. Reason :Government gets its revenue from two sources, i.e. tax revenue and non-
tax revenue. Non-tax revenue. Non-tax revenue includes profits from
public sector units, interest earned on loans etc.
a. a. Current year receipts of the government are classified under
revenue receipts. Profits from public sector units re the returns on
investments by the government. Hence it represents current income
and hence part of revenue receipts of the government.
b. b. Capital receipts refer to recovery of loans, borrowing and other
liabilities. It does not include current earnings of the government from
public sector units. Hence profits are not included.
c. c. Monetized receipts.
d. d. Planned expenditure refers to the outflow from the government, as
the government is spending money. Whereas in case of profits from
public sector units they are inflows, hence cannot be part of planned
expenditure.
e. Fiscal deficit measures the overall borrowings required to finance
government expenditure. Hence profits are taken as part of fiscal
deficit.
17 Answer : (c) <
TO
. Reason :Stagflation refers to a situation where there is high unemployment and P
>
high inflation occurs simultaneously.
Statement I is true as stagflation refers to coexistence of stagnant output
and high inflation.
Statement II is false because during stagflation, there is no increase in
output and hence the output is stagnant. Therefore real GDP is
not growing.
Statement III is true because during stagflation, the output is stagnant, new
employment opportunities are not created and hence
unemployment level is high.
Statement IV is false as the price are high and there is unemployment, the
aggregate demand tends to be low.
a. a. Since statement II is false, this is not correct option
b. b. Since statement II, IV are false, this is not the correct option.
c. c. As statement I and III are true and hence this option is correct.
d. d. As II and IV are false, hence (e) is not the correct option.
18 Answer : (b) <
TO
. Reason : P
>
a. a. Zero unemployment refers to situation where there is no
unemployment
b. b. Natural rate of unemployment is the long run average of
unemployment caused due to frictional and structural changes in
labour market. Full employment means that there is certain amount of
unemployment which is refered to as natural rate of unemployment.
Hence the correct option.
c. c. During full employment, there still exists certain amount of
unemployment and hence cannot say that demand for labor is at the
lowest . Hence not correct option.
d. d. Supply of labor depends on population and has no relation with
full employment. Hence the option is not correct.
e. e. Since (c) and (d) are not correct options, this is not true option.
19 Answer : (c) <
TO
. Reason : P
>
a. a. Frictional unemployment occurs when constant changes in the
labour market lead to unemployment. It occurs on account of
imperfect information. Hence not correct option.
b. b. Unemployment that arises due to general down turn in business
activity is refered to as cyclical unemployment. Hence not related to
the output, not the correct option.
c. c. Disguised unemployment occurs due to excess labour force
depending on agriculture sector. Some labourers are employed, but
their contribution to production is zero. Hence the correct option.
d. d. Structural unemployment occurs due to structural changes in the
economy, and such people are not employed and hence there is no
question of contribution to production. Not correct option.
e. Sectoral unemployment refers to unemployment that exists in any
particular sector, for example agricultural sector. Hence not correct
option.
20 Answer : (b) <
TO
. Reason :a. The Laffer curve gives the relationship between tax revenues and tax P
>
rates. Hence not correct option.
b. b. On the basis of definition given in the reason, this is the correct
option.
c. c. Aggregate supply curve gives the relationship between net
national product that would be supplied at general price level given
constant expectations.
d.
e. The IS curve shows that combination of interest rates and levels of
output such that planned spending equals income. Hence not true
option.
21 Answer : (d) <
TO
. Reason :Given the demand for money, an increase in money supply lowers the P
>
nominal rate of interest. Decrease in rate of interest increase interest
sensitive expenditure like consumption and investment, thereby increasing
AD.
a. Is not the answer because other things being equal, an increase in the supply of
money does not lowers both nominal interest rate and aggregate demand
b. Is not the answer because other things being equal, an increase in the supply of
money does not raises both nominal interest rate and aggregate demand
c. Is not the answer because other things being equal, an increase in the supply of
money does not raise nominal interest rate and lowers aggregate demand
d. Is the answer because other things being equal, an increase in the supply of money
lowers nominal interest rate and raises aggregate demand
e. Is not the answer because other things being equal, an increase in the
supply of money do change nominal interest rate or aggregate
demand.
<
22 Answer : (a) TO
. Reason : P
>
By definition dividends and corporate taxes are part of corporate profits.
National income refers to the factor income earned by the residents of a
country and it includes profits earned by entrepreneurs. Profit includes
dividends and corporate tax. Hence dividends and corporate tax are part of
national income.
Hence dividends and corporate taxes are part of corporate profits and
national income.
a. a. On the basis of the above reason, dividends and corporate taxes
are part of corporate profits (I) and National Income (II). Hence this is
true option.
b. b. Dividends and corporate taxes are not part of personal income,
hence not the correct option.
c. c. On the basis of above reason, the option is not correct
d.e. As given in the reason, dividends and corporate taxes are not part of
personal income and personal disposable income. Hence not correct
option.
<
23 Answer : (e) TO
. Reason :a. Consumption depends on the income and as income increase P
>
consumption also increase.
b. b. Propensity to consume refers to the changes in consumption as a
result of change in income. Hence propensity to consume effects
consumption.
c. c. Propensity to save refers to changes in savings as a results of
changes in income. The level of savings affects the level of
consumption. Hence changes in savings does affect consumption
d. Consumption demand does not depend upon the level of wealth
e. Consumption demand does not depend upon the level of marginal
efficiency of investment.
24 Answer : (c) <
TO
. Reason :Consumption curve depicts the relationship between consumption and P
>
income.
a. a. APS is given by the ratio between saving and Income. Whereas
the slope of the curve is given by the ratio between change in
consumption and income. Hence not correct
b. b. APC refers to the ratio between consumption and Income, hence
not the slope of the consumption curve which as said above is given
by changes in consumption as a result of change in Income.
c. c. By definition, MPC refers to increase in consumption per unit
increase in income. Which is nothing but the slope of the consumption
curve. Hence the option is true.
d. d. MPS refers to change in savings as results of change in income
and slope of consumption curve gives the changes in consumption as
a result of change in income. Hence not true.
e. e. Level of consumption cannot be used to calculate slope of the
consumption curve as slope refers to ratio between changes in
consumption and changes in income.
25 Answer : (e) <
TO
. Reason :Bank rate is the minimum rate at which the central bank is prepared to P
>
discount or rediscount the bills of exchange brought to it by the members
of the money market. It is also the interest rate at which the central bank
provides loans to the commercial bank when they borrow money from
central bank.
Hence by definition option (e) is correct.
(a) (a) Is not the answer because bank rate doesn’t mean the rate of
interest on inter-bank loans
(b) (b) Is not the answer because bank rate doesn’t mean the rate of
interest charged by banks on borrowers
(c) (c) Is not the answer because bank rate doesn’t mean the rate of
interest paid by banks to depositors
(d) (d) Is not the answer because bank rate does not mean the rate of
interest charged by banks for loans given to the central bank of the
country
(e) (e) Is the answer because bank rate means the rate of interest charged
by the central bank of a country on its loans to other commercial
banks.

26 Answer : (a) <


TO
. Reason :All the options that are given measure price indices. Each of which is P
>
constructed with a particular objective.
a. CPI represents the changes in the price of a basket of goods with
respect to the prices existing in the base year. The basket of goods that
are considered are those that are used commonly by consumers and
they are grouped together as food items, housing, fuel and light etc.
Doctor fees, railway and bus fares are the items of expenditure of the
consumer, hence in the calculation of consumer price index they are
given greater weightage. Hence the option is correct.
b. Whole sale price index can be interpreted as an index of prices paid
by producers for their inputs. It gives more importance to items used
in production process. Hence the option is not correct.
c. Index of industrial production is a quantity index which covers
mining, manufacturing and electricity generation. Hence the items
referred to in the question are not included. Hence the option is not
correct.
d. GNP deflator is a measure of real GNP i.e. GNP in rupees of constant
purchasing power. While calculating it no weights are assigned, hence
the option is not correct.
e. Same reason as given in option (d).
27 Answer : (d) <
TO
. Reason :Economic developed is defined as a process of economic transition P
>
involving the Structural transformation of an economy through
industrialization. Economic development leads to improvement in
Standard of living of the people.
a. National Income deflator is the ratio of Current price of National
Income to Constant price of National Income. It is only a price index,
Cannot be used to measure economic development.
b. GNP at Current prices measures the money value of final value of
goods and services produced by the residents of a country. The value
of goods are measured by taking the price goods existing in the
current year. A increase in GDP at current prices need not necessarily
lead to economic development.
c. Real National Income measures the final value of Goods and Services
produced by the residents of a country. The value of goods are
measured by taking the prices existing in the base year. An increase in
real national income need not lead to economic development if the
population is increasing at a faster rate than that of real national
income. Hence, cannot be used as an indicator of economic
development.
d. Per Capital real national income is the best indicator, because an
increase in per capita real national income would mean that more
goods are available per head, which would mean the Standard of
living has increased.
e. GDP deflator is an indicator of price index, on the basis of reason (a),
it is not an indicator of economic development.
28 Answer : (c) <
TO
. Reason :Marginal propensity to consume refers to the change in consumption as a P
>
result of increase in income. Part of the changed income is saved. Hence
MPC is equal to 1-MPS. Multiplier is the reciprocal of 1-MPC or MPS.
Hence larger MPC means smaller MPS and hence larger will be the value
of the multiplier.
Statement (I) is false because as MPC is larger, MPS will be smaller as it
is nothing but 1-MPC.
Statement (II) is true because multiplier is reciprocal of MPS and MPS is
smaller as said above.
Statement (III) is true. Average propensity to consume will depend on
level of consumption and income. Since the MPC is larger, consumption
will also be larger and hence average propensity to consume will also be
larger.
Statement (IV) is false, as autonomous consumption is independent of
MPC and hence it is not possible to say anything about autonomous
consumption on the basis of MPC.
Since both (II) and (III) are true, the option (c) is the answer.
29 Answer : (d) <
TO
. Reason :GDP refers to money value of final goods and services produced within P
>
the domestic territory of a country including depreciation. There are
certain goods which are produced but will not be included in GDP. For
example services of house wives
a. a. Bobby purchase of a new suit is nothing but the consumption
expenditure of bobby, which is part of GDP
b. b. Purchase of new Ford car also refers to consumption expenditure
and hence part of GDP
c. c. New computer purchased by community Bank for its loan office
refers to purchase of capital goods. Hence it is part of capital
expenditure and hence part of GDP
d. d. Tomatoes grown in home garden by Market are not taken as part
of GDP Even though goods are produced, they are not taken as part of
GDP as it refers to production for self consumption. If she sells them
in the market then it becomes part of GDP.
e. e. Fort India could not sell 100 cars, hence they are part of
inventories and hence part of capital expenditure. Hence included in
GDP as part of capital goods expenditure.
30 Answer : (d) <
TO
. Reason :The relationship between demand for money and interest rate is given by P
>
the LM curve. The relationship between interest rate and demand for
money is negative. The LM curve gives the demand schedule for a
particular income level.
a. If there is an increase in the level of income because of increase in
real money supply, there is no shift in the IS curve.
b. As at the same interest rate, the demand for money increases with the
increase in income level. The LM curve will shift to the right and
hence the option is not correct.
c. There will be increase in the real balances as income increases, but no
shift in the IS curve.
d. As per the reason given in the option (b), the LM curve shifts to the
right and hence option d is the correct answer.
e. The entire increased income need not be used for consumption as part
of it goes into savings and hence the increased income need not be
equal to changed income. Hence this option is not correct.
31 Answer : (b) <
TO
. Reason :There are two stages in the transmission mechanism. In the first stage P
>
when there is an increase in real money supply, portfolio disequilibrium
occurs i.e people are holding more money than they want. They try to get
rid of excess money they are holding by buying financial assets. This
results in increase in prices of financial assets and hence the interest rates
fall.
In the second stage the changes in the interest rate affects aggregate
demand. The fall in the interest rate leads to increase in investment
demand as the cost of borrowing has decreased. Hence the sequence of
events is portfolio disequilibrium, increases in prices of assets, fall in
interest rate and then increase in investment.
The correct sequence is given by option (b).
32 Answer : (c) <
TO
. Reason :Aggregate supply curve gives the relationship between net national P
>
product that would be supplied at each general price level.
a. a. Deficit demand refers to s situation where aggregate demand is
falling short of aggregate supply, hence price decrease. This results us
decrease in supply. Hence the supply curve will be positive sloped.
b. b. In case there are idle resources, as the prices increase firms can
increase supply by utilization of idle resources. Hence the relationship
between supply and prices is positive
c. c. In a situation where all the resources are fully employed, the firms
will not be in a position to increase the supply even if prices are
increased. Hence the supply curve will be vertical. Hence the correct
option.
d. d. Aggregate supply curve is vertical in short run as the resources are
fully employed. Labour is a variable factor in short run, hence the
available labour force is fully employed.
e. e. Vertical supply curve only means that all the available resources
are fully employed, it is not necessary that all firms must earn normal
profits.

33 Answer : (d) <


TO
. Reason : Preparation of BoP statement is based on double-entry system of book keeping. Hence, P
all debt items should equal credit items, and the balance is zero. >

(a) (a) Is not the answer because all entries in the balance of payments
statement is not collectively sum to GDP of the country.
(b) (b) Is not the answer because all entries in the balance of payments
statement is not collectively sum to GNP of the country
(c) (c) Is not the answer because all entries in the balance of payments
statement is not collectively sum to Foreign exchange reserves of the
country
(d) (d) Is the answer because all entries in the balance of payments
statement is collectively sum to zero.
(e) Is not the answer because all entries in the balance of payments
statement is not collectively sum to Exports of the country.
34 Answer : (c) <
TO
. Reason :Cost-push inflation refers to increase in price as a result of the causes P
>
originating from the supply side. The left ward shift of the supply curve
occurs as a result of increase in the wage level unmatched by the increase
in the labour productivity, increase in the profit margins by those who can
exercise the market power and supply shocks.
a. Decrease in wages leads to decrease in cost of production and hence
prices will reduce if the producer passes on to the consumer
b. When the productivity of labour increase it leads to lowering the cost
of production per unit and hence the prices will decrease
c. As the cost of raw material increases it leads to increase in cost of
production which results in increases in prices. Hence this option is
correct
d. Right ward shift in the supply curve occurs when there is a decrease
in prices and hence not the correct option
e. Finding of new raw material would lead to lower cost of raw material
as the supply of raw material has increased and hence lowers the
prices.
<
35 Answer : (c) TO
. Reason :Since the economy is already under inflation, any increase in money P
>
supply has to be curtailed by the monetary authorities so as to control any
further increase in prices. The increase in foreign exchange reserves leads
to increase in monetary base and hence the money supply in the economy
increases.
a. A decrease in discount rate would result in increased borrowings by
the commercial banks from the central bank. This will increase the
money supply, hence not the correct option.
b. When the government buys securities from the people, the money
with the people will increase, the money supply will increase and
prices also will rise. Hence not the correct option.
c. The central bank by increasing the cash reserve ratio reduces the
credit creation capacity of the banking system. This results in
decrease in money supply which will compensate the increase in the
money supply due to foreign exchange inflow. Hence this option is
correct.
d. Not a correct answer it is a fiscal instrument.
e. Increasing government spending is also a fiscal policy instruments.
36 Answer : (d) <
TO
. Reason : All the transactions which effect the asset or liability position of a P
>
country are put under Capital account of the Balance of Payments
statement. Other transactions are put under the Current account.
(a) (a) Is not the answer. Foreign Direct Investment increase the
liability of a country, hence falls under Capital account.
(b) (b) Is not the answer. Portfolio Investments increase the
liability of a country, hence falls under Capital account.
(c) (c) Is not the answer. External Commercial Borrowings
increase the liability of a country, hence falls under Capital
account.
(d) (d) Is the answer. Dividends on portfolio investments are an
income earned by a factor of production (capital). This is
included in Income under Invisibles in Current Account.
(e) Is not the answer. External Assistance increases the liability of a
country, hence falls under Capital account.
37 Answer : (b) <
TO
. Reason :a. Progressive tax system refers to imposing more tax on people with P
>
greater income. As income increases, tax rate also increases. Hence
more tax is imposed on higher income people. This option is not true
b.
d. d. When tax imposed is of a particular percent of income
irrespective of his income slab, is known as proportional tax. Hence a
poor person pays less tax as his income is less. Hence not correct
option.
d, e customs and value added tax are indirect taxes, where as what is
refered to under the is with respect to the direct tax i.e. , income tax.
Hence cannot be correct answer.
38 Answer : (a) <
TO
. Reason :Automatic stabilizers are features of the government budget that P
>
automatically adjust net taxes to stabilize aggregate demand as the
economy expands or contracts.
a. By definition this option is true.
b. Lagging indicators refer to the time gap between the monetary policy
changes and their impact on the economy. They are not related to the
fiscal policy of the government.
c. National Income aggregates are only indicators of the performance of
the economy.
d & e. Real factors and growth variables are not related to fiscal policy.
39 Answer : (e) <
TO
. Reason :a. Low managerial efficiency leads decrease in productivity, this .would P
>
mean that more input (capital) is required to produce an unit of
output. Hence ICOR increases.
b. b. As the production process becomes complicated, i.e. complex
leads to time consuming procedures which leads time over runs. This
reduces productivity and hence ICOR increases.
c. c. Since the existing capital is less productive, it means the returns
on the capital are also low and hence ICOR will be high
d. d. Inadequate delegation of powers lead to delay in decision making
which result in cost and time over runs. This increased costs leads to
more capital inputs required to produce an unit of output i.e., higher
ICOR
e. e. As the productivity of labour increase, less units of input will be
required to produce one unit of output. Hence ICOR will decrease
Hence this option is correct.
40 Answer : (a) <
TO
. Reason :a. .by reason given above this option is true P
>
b. b. Hyper inflationary situation refers to price rise is very large and
accelerating. This occurs when aggregate demand is more than
aggregate supply. In case of recessionary GDP gap, prices are falling.
Hence not correct option.
c. c. When these is necessionary GDP gap, it leads to realized GDP
falling short of potential GDP. Hence during prices will be falling and
unemployment rate would increase. But there will be high
unemployment, which occurs only during depression.
d. d. National rate of unemployment occurs when potential GDP is
equal to realized GDP. Which is not the case when there is
necessionary GDP gap. Hence not the correct option .
e. Since (b) and (d) are not correct, this is not correct option.
41 Answer : (d) <
TO
. P
Reason :Personal Disposable Income = Personal income – personal taxes >

= Factor incomes received by the household sector + Transfer payments


– personal Taxes
= 632 + 21 – 94 = Rs.559 crore.
Note: Compensation to employees paid by the Government and profit
distributed as dividends by the firms are included in the factor income
received by the household sector.
42 Answer : (a) <
TO
. Reason :C = 200 + 0.80Yd = 200 + 0.80 (Y– 100) = 200 + 0.80Y – 80 = 0.80Y P
>
+ 120.
Y = C+I+G
Or, Y = 0.80Y + 120 + 500 + 200
Or, 0.20Y = 820
Y = 4,100.
S = – 200 + 0.20Yd = – 200 + 0.20 (Y – 100) = – 200 + 0.20 (4100–
100)
= – 200 + 800
= 600 MUC.

43 Answer : (c) <


TO
. Reason :Savings function S = –20 + 0.30Yd P
>
∴C = 20 + 0.70Yd
At Y=600, S = –20 + 0.30(600) = – 20 + 180 = 160 MUC.
44 Answer : (c) <
TO
. Reason : Y = C + I+ G P
>
Y = 70 + 0.75Yd + 80 + 70
Y = 70 + 0.75 (Y – 0.2 Y)+ 80 + 70
Y = 70 + 0.75 Y – 0.15 Y+ 80 + 70
Y = 220 – 0.6Y
Y = 550
∴ Budget deficit = T – G = 0.2 (550) – 70 = 110 – 70 = 40 MUC.
45 Answer : (c) <
TO
. Reason :At equilibrium, S = I P
>
– 50 + 0.3Y = 150 – 5i
Or, – 50 + 0.3(500) = 150 – 5i
Or, – 50 + 150 = 150 – 5i
Or, 5i = 50
Or, i = 10%.
46 Answer : (a) <
TO
. Reason :Equilibrium rate of interest is determined where IS = LM P
>
Y = C + I +G +E – M
Y = 15 + 0.8 Yd + 450 – 12i + 300 +225 – 5 – 0.20Y
Y = 15 + 0.8 (Y – 0.25Y) + 450 – 12i + 300 + 225 – 5 – 0.20Y
Y = 985 + 0.40Y – 12i
Y = 1641.67 – 20i (IS curve)
Total demand for money = Mt + Ma = 0.20Y + 145 – 60i
Supply of Money = 300 MUC
∴ 0.20Y + 145 – 60i = 300
0.2Y = 155 + 60i
Y = 775 + 300i (LM curve)
Equilibrium rate of interest is determined where IS = LM
∴1,641.67 – 20i = 775 + 300i
320i = 866.67
i = 2.7% .
47 Answer : (c) <
TO
. Reason :High powered money = Monetary liabilities of central bank + Government P
>
money
Monetary liabilities of central bank = Financial Assets + Other assets
– Non-monetary liabilities
Financial Assets = Credit to government + credit to government +
credit to commercial sectors + foreign exchange
assets
= 1,120 + 350 + 550 + 150 + 50 = 2,220
Non-monetary liabilities = 100 + 420 = 520
Monetary liabilities of central bank = 2,170 – 470 = 1,700
High powered money = 1,700 + 25 = 1,725 MUC.
48 Answer : (c) <
TO
. Reason : Ct = 10 + 0.5Yd t + 0.4C t–1 P
In steady state Ct = C t–1 >
∴Ct = 10 + 0.5Yd t + 0.4C t
Ct – 0.4C t = 10 + 0.5Yd t
0.6 Ct = 10 + 0.5Yd t
Ct = 1/6 [10 + 0.5Yd t]
When Yd increases from 400 to 500,
Ct = 1/6 [10 + 0.5 (400)] – 1/6 [10 + 0.5Yd t ] = 1/6 (210) – 1/6 (500)
= 350 – 433.33 = – 83.33
∴ Change in steady state consumption = 83.33 MUC.
49 Answer : (b) <
TO
. Reason :Current account balance = Credit (Current account )– debit (Current P
>
account)
= [Earnings on loans and investments from abroad + Private remittances
from abroad (transfers) + Exports of services + Merchandize exports] –
[Earnings on loans and investments to abroad + Private remittances to
abroad (transfers) + Import of services + Merchandize imports] = [500 +
500 + 2,000 + 15,00] – [2,500 + 500 + 4,000 + 12,000]
= 18,000 – 19,000 = –1,000 i.e. 1,000 MUC (Deficit)
50 Answer : (b) <
TO
. Reason :Demand for money is estimated to be L = 0.25Y – 10i. P
>
At i= 6 %, L = 0.25Y – 60.
At equilibrium demand for money = Supply of money
∴ 0.25Y – 60 = 200
0.25Y= 260
Y = 1,040 MUC.
51 Answer : (c) <
TO
. Reason :Velocity of money = Y/MS P
>
Y = C+ I + G +E –M
= 750 + 275 + 160 + 40 – 30=1,195
∴ Velocity of money = 1,195 / 239 = 5.
52 Answer : (b) <
TO
. Reason : Disposable income = Personal income – personal Taxes = 5,000 – 200 = 4,800 MUC. P
>

53 Answer : (c) <


TO
. Reason :S = –50 + 0.25Y P
>
M= 0.15Y
MPS = 0.25
MPI = 0.15
Multiplier = 1/(MPS + MPI) = 1/(0.25 + 0.15) = 1/0.4 = 2.5
Increase in government expenditure = 500/2.5 = 200 MUC.
54 Answer : (b) <
TO
. Reason :Finance ratio = Total issues/National income × 100 P
>
Total Issues = Financial Interrelation ratio × net capital formation
= 1.5 × 15,500 = 23,250
GNP at market prices = GDP at market price + Net factor income from
abroad
= 76,500 + 200 = 76,700
NNP at market prices = 76,700 – 2500 = 74,200
National income = NNP at factor cost = NNP at market prices – indirect
taxes + subsidies = 74,200 –1,225 + 725 = 73,700
Finance ratio = (23,250/73,700) × 100 = 31.5.

55 Answer : (b) <


TO
. Reason :Possible GDP growth = Possible level of investment/capital – output ratio P
>
= 25/5 = 5 %
Possible per capita GDP growth = 5 – 2 =3%
56 Answer : (e) <
TO
. Reason : GDP deflator = Nominal GNP/Real GNP P
>
Nominal GNP =
35 × 2 = 70
65 × 6 = 390
60 × 5 = 300
40 × 4 = 160
50 × 3 = 150.
Real GNP = 70 +390 + 300+160 + 150 = 1,070
35 × 2.5 = 87.5
65 × 8 = 520
60 × 6 = 360
40 × 5 = 200
50 × 4.50 = 225
Nominal GNP = 87.5 + 520 + 300 + 160 + 150 = 1,392.5
GDP deflator = 1,392.5/ 1,070 = 130.14 = 130.
57 Answer : (c) <
TO
. Reason : Capital inflows – capital outflows = 6,300 – 4,500 = 1,800 MUC P
>
(Deficit).
58 Answer : (c) <
TO
. Reason :The change in government spending if the government is committed to a P
>
balanced budget to bring output to the full-employment level is 700 – 600
= 100 MUC.
The multiplier is 1/ mps = 1/0.2 = 5
Change in government spending = 100 / 5 = 20 MUC.
59 Answer : (a) <
TO
. Reason :High powered money = monetary liabilities + government money = P
>
10,500 + 1,500
= 12,000

Ms = H × {
( 1 + Cu ) / ( C u + r ) }
48,000 = 12,000 {
( 1 + 0.25 ) / ( 0.25 + r ) }
= (1 + 0.25)/(0.25 + r) = 4
= 1 + 4r = 1 – 0.25
4r = 0.25
r = 0.0625 = 6.25%.
60 Answer : (a) <
TO
. Reason :Money market equilibrium is where demand for money = supply of P
>
money
kY– hi = M .
kY = M + hi
Y = ( M + hi) / k.
61 Answer : (b) <
TO
. Reason :National income = Compensation of employees + Proprietor’s income + P
>
Interest payments made by the firms + Corporate profits = 2,325 + 135 +
323 + 170 + 43 = 2,996.

62 Answer : (b) <


TO
. Reason :Multiplier = 1/MPS = 1/0.25 = 4. P
>
Current level of income – Break-even income = 16,000 – 12,000 = 4,000
Required saving in the economy = 4,000/4 = 1, 000 MUC.
63 Answer : (c) <
TO
. Reason :NNP at market price = GNP at market prices – Depreciation P
>
= 85,000 – (6,000 – 4,000) = 83,000
NNP at factor cost = NNP at market prices – Indirect taxes + subsidies
= 83,000 – 3,000 + 1,000
= 81,000
Net factor income from abroad = 81,000 – 65,000 = 16,000 MUC.
64 Answer : (b) <
TO
. Reason :Growth rate of Real income = Nominal income – price level = 6% – 4% = P
>
2%.
65 Answer : (d) <
TO
. Reason :0.5Y = 3,125 – 25i P
>
Y = 6,250 – 50i
If i decrease by one percentage point, equilibrium income would increase
by 50 MUC.
66 Answer : (d) <
TO
. P
Reason :Domestic savings = Private savings + Public savings >

Private savings = 1500 – (–500) = 2000 MUC.


∴ The answer is (d)
67 Answer : (b) <
TO
. Reason :Investment in period ‘t’ = 0.75 × Desired investment in period ‘t’ P
>
Desired investment in period ‘t’ = Acceleration coefficient × Change in
income
= 2 × 200 = 400
∴ Investment in period ‘t’ = 0.75 × 400 = 300 MUC.
∴ The answer is (b).
68 Answer : (d) <
TO
. Reason :Crowding-out refers to decrease in private investment because of increase P
>
in interest rate caused by the increase government spending. Crowding out
= 100 × 5 = 500.
69 Answer : (a) <
TO
. Reason :LM function Y = 500 + 20i P
>
If, i = 10%, Y = 500 + (20 × 10) = 700
i = 7%, Y = 500 + (20 × 7) = 640
i = 5%, Y = 500 + (20 × 5) = 600
i = 4%, Y = 500 + (20 × 4) = 580
i = 3%, Y = 500 + (20 × 3) = 560
(a) Does not fall on the LM curve hence does not represent an
equilibrium in the money market.
70 Answer : (a) <
TO
. Reason :Multiplier = 1/(1 – MPC + MPC × tax rate + MPI) = 1/(1 – 0.75 + 0.75 × P
>
0.2 + 0.10) = 2.
71 Answer : (c) <
TO
. Reason : There will not be any crowding out if i = 8% P
>
This can happen only when IS function shifts to the left
Substituting i = 8%, IS function becomes Y = 2,900 – 100 (8) = 2,100
Total demand for money function = (Mt /p) + (Ms /p) = 0.50Y + 350 –
100i
Substituting Y = 2,100 and I = 8% in the total demand for money function,
0.50(2,100) + 350 – 100(8) = 1,050 + 350 – 800 = 600 MUC.
72 Answer : (b) <
TO
. Reason : Revenue Deficit = Revenue expenditure – Revenue taxes P
>
Revenue expenditure = Non-plan expenditure + Plan Expenditure
Revenue receipts = Tax revenue + Non-tax revenue
Interest payment = Fiscal deficit – primary deficit
= 1,53,637 – 30,414 = 1,23,223
Non-plan expenditure = 1,66,161 + 1,23,223 = 2,89,384
Revenue expenditure = 2,89,384 + 76,843 = 3,66,227
Revenue receipts = 1,84,169 + 69,766 = 2,53,935.
∴Revenue Deficit = 3,66,227 – 2,53,935 = Rs.1,12,292
crore.
73 Answer : (c) <
TO
. Reason :At equilibrium, IS = LM P
>
Y = 5700 + 0.5Y – 100i
0.5Y = 5700 – 100i
Y = 11400 – 200i ……….IS function
Y = 5200 + 800i ……….LM function
Thus at simultaneous equilibrium,
11400 – 200i = 5200 + 800i
Or, 6200 = 1000i
Or, i = 6.2
When government spending increases by 100, the IS function becomes
0.5Y = (5700 + 100) – 100i
0.5Y = 5800 – 100i
Or, Y = 11600 – 200i
Thus, at equilibrium,
5200 + 800i = 11600 – 200i
Or, 1000i = 6400
Or, i = 6.4.
74 Answer : (e)
. Reason :Md = 500 + 0.2Y – 20i
At equilibrium Ms = Md.
∴ 2,340 = 500 + 0.2Y – (20 ´ 8)
0.2Y = 2,340 – 500 + 160
= 2,000
Y = 10,000 MUC. Therefore the answer is (e).
75 Answer : (a) <
TO
. Reason :Total money = Rs.5,000. P
>
50% of total money which is held in the form of currency is Rs.2,500.
Demand deposit component of money supply is Rs.2,500.
Given the reserve ratio of 10%, required reserves are 2,500 ´ 0.10 =
Rs.250.
76 Answer : (a) <
TO
. Reason : Since foreign exchange inflows of 50 MUC increases the monetary liabilities by 50 P
MUC, the central bank can sold 50 MUC worth of government securities to bring back >
the monetary liabilities to its original level to keep money supply at the same level.
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