ANSWER FOR 2ND TEST QUESTION PAPER

ECONOMICS
PART- A
I. MCQS
1. B. MACRO ECONOMICS
2. B. REPO RATE
3. B. 0 &1

II. FILL UPS

4. STOCK
5. NARROW MOINEY
6. NOT CONSUMED

III. MATCH

7.
INVENTORY ---- STOCK OF VARIABLE
SLR -------STATUTORY LIQUIDITY RATIO
RAW MATERIAL-----------INTERMEDIATE GOOIDS

IV.ONE WORD

8. GROSS NATIONAL PRODUCT AT MARKET PRICE

9. THE RATE AT WHICH RBI LENDS TO COMMERCIAL BANK

PART—B
10. LAND -RENT
LABOUR-WAGES
CAPITAL-RATE OF INTEREST
ORGANISER—PROFIT

11. CONSUMER GOODS: WHICH GIVES DIRECT SATISFACTION

EX: FOOD, CLOTH ETC..,
AVAILABLE FOR FINAL CONSUMPTION
IT DOESNOT UNDERGO FURTHER TRANSFORMATION.

CAPITAL GOODS: WHICH GIVES INDIRECT SATISFACTION

EX: RAWMATERIALS, TOOLS IMPLEMENTS ETC..,
NOT AVAILABLE FOR FINAL CONSUMPTION.
IT UNDERGOES FURTHER TRANSFORMATION,

12. QUANTITATIVE CREDIT CONTROL MEASURES.

BANK RATE
CASH RESERVE RATIO
STATUTORY LIQUIDITY RATIO
QUALITATIVE CREDIT CONTROL MEASURES
MARGIN REQUIREMENT
 DIRECTIVES
DIRECTIONS
MORALSUASION

13. TRANSACTIONARY MOTIVE

PRECUTIONARY MOTIVE

14. RATIO OF CHANGE IN INCOME TO THAT OF INVESTMENT IS CALLED INVESTMENT MULTIPLIER

THE INVESTMENT MULTIPLIER= ∆Y/ ∆I
PART-C

15. Ans: The circular flow of income refers to the continuous flow of income between different
sectors of the economy for sustenance of economic system. The circular flow of income of an
economy can be explained with the help of following assumptions:
a) Existence of two sectors viz., household sector and producers.
b) Households are the owners of the factors of production.
c) Households receive income by selling the factor services.
d) There are no savings.
e) The firms produce goods to the households.
f) The economy is a closed economic system i.e simple economy (no Government or
external trade or savings)
The circular flow of income in a simple economy can be illustrated with the help of
following chart.

In the above chart, the uppermost arrow, going from the households to the firms, represents the
spending by the households to buy goods and services produced by the firms. The second arrow

going from the firms to the households is the counterpart of the arrow above. It stands for the
goods and services which are flowing from the firms to the households. Thus the two arrows on
the top represent the goods and services market – the arrow above represents the flow of
payments for the goods and services, the arrow below represents the flow of goods and services.
The two arrows at the bottom of the diagram similarly represent the factors of the
production market. The lower most arrow going from the households to the firms symbolizes the
services that the households re rendering to the firms. Using these services the firms are
producing the output. The arrow above this, going from the firms to the households, represents
the payments made by the firms to the households for the services provided by the households.
 Thus, When the income is spent on the goods and services produced by the firms, it takes
the form of aggregate expenditure received by the firms. Since the value of expenditure must be
equal to the value of goods and services, we can measure the aggregate income by calculating
the aggregate value of goods and services produced by the firms. This is clearly shown above in
the form of circular flow of income.

16. Externali es: An externality is a cost or benefit conferred upon second or third par es as a
result of acts of individual produc on and consump on. But the cost or benefit of an
externality cannot be measured in money terms because it is not included in market
ac vi es.
In other words, Externalities refer to the benefits or harms a firm or an individual causes to
another for which they are not paid or penalized. They do not have any market in which they can
be bought and sold.
There are two types of externalities viz.,
a. Posi ve Externali es and
b. Nega ve Externalities.
For example, let us imagine that there is chemical fertilizer industry. It produces the chemical
fertilizers required for agriculture. The output of the industry is taken for counting GDP of an
economy. This is positive externality.
While carrying out the production the chemical fertilizer industry may also be polluting
the nearby river. This may cause harm to the people who use the water of the river. Hence their
health will be affected. Pollution also may kill fish and other organisms of the river. As a result,
the fishermen of the river may lose their livelihood. Such harmful effects that the industry is
inflicting on others, for which it will not bear any cost are called negative externalities.

17. Ans: In India, RBI is the central banking authority which controls the entire monetary
system. It was established in 1935. The main functions of RBI are as follows:
a) Prin ng and issuing currency notes- It has complete authority of prin ng and issuing
currency notes in the country. RBI issue all denomina ons of currency notes (Rs.2, Rs.10,
Rs.20, Rs.50, Rs.100, Rs.500.) except one rupee note, which is issued by finance ministry,
Government of India. The minimum reserve system of note issue is being followed by RBI
since 1956.
b) RBI acts as Banker to Government: RBI as a Banker to the Government maintenance all
transac ons of Government like receipts and payments.
c) It is Banker’s Bank: RBI is called Banker’s Bank as it provides loans and advances to other
commercial banks apart from maintaining their cash reserves.
d) Lender of last resort: RBI provides financial assistance to commercial banks like giving credit,
discoun ng bills, giving advances, etc during their financial crisis and helps the banks as a
lender of last resort.
e) Controls credit crea on ac vi es of commercial banks-The credit provided by all commercial
banks is controlled by RBI. RBI implements both Quan ta ve and qualita ve techniques to
control the credit generated by commercial banks. The quan ta ve tools to control credit are
Bank rate policy, Open market opera ons, Repo and Reverse Repo rates, Cash reserve ra o
and Statutory liquidity ra o.

18. Ans: The total stock of money in circulation among the public at a particular point of time is
called money supply. The legal definitions of money are defined as follows:
 M1 = CU + DD (CU currency notes held by the public; DD is net demand
deposits of the public held by the banks.
 M2 = M1 + Savings deposits with Post office
 M3 = M1 + Net me deposits of commercial Banks
 M4 = M3 + Total deposits with post office

M1 and M3 are narrow money. M3 and M4 are broad money. M1 is most liquid
and easiest for transactions whereas M4 is least liquid of all. M3 is the most commonly used
measure of money supply and it is also known as aggregate monetary resources.

19. Ans: A consumption function describes the relation between consumption and income. The
simplest consumption function assumes that consumption changes at a constant rate as
income changes. The consumption function can be expressed in equation as follows:
C = Ĉ + cY… ..... (1)
where Ĉ is autonomous consumption and c is the marginal propensity to consume.
The equation (1) is called the consumption function. Here C is the consumption expenditure by
households. This consists of two components autonomous consumption and induced
consumption ( cY ). Autonomous consumption is denoted by Ĉ and shows the consumption
which is independent of income. If consumption takes place even when income is zero, it is
because of autonomous consumption. The induced component of consumption, cY shows the
dependence of consumption on income
The consumption function can be graphically expressed as follows:

In the above diagram Ĉ is the intercept of the consumption. ‘c’ is slope of consumption function
equals α. Therefore, the consumption function is a upward sloping line which represents that the
as the income increases, consumption also increases, but not at the same proportion.

PART- D

20: The macroeconomic identities are as follows:

a) Gross Domes c Product (GDP): Gross Domes c Product measures the aggregate
produc on of final goods and services taking place within the domes c economy during
a
 year. But the whole of it may not accrue to the citizens of the country. It includes GDP at
Market prices and GDP at Factor cost.
GDP at market price is the market value of all final goods and services produced within a
domestic territory of a country measured in a year. Here everything is valued at market
prices. It is obtained as follows:
GDPMP = C + I + G + X – M
GDP at factor cost is gross domestic product at market prices minus net indirect taxes. It
measures money value of output produced by the firms within the domestic boundaries of a
country in a year.
GDPFC = GDPMP – NIT.
b) Gross Na onal Product: It refers to all the economic output produced by a na on’s normal
residents, whether they are located within the na onal boundary or abroad. It is defined as
GDP plus factor income earned by the domes c factors of produc on employed in the rest
of the world minus factor income earned by the factors of produc on of the rest of the
world employed in the domes c economy. Therefore,
GNP = GDP + Net factor income from abroad
c) Net Na onal Product (NNP): A part of the capital gets consumed during the year due to
wear and tear. This wear and tear is called deprecia on. If we deduct deprecia on from
GNP the measure of aggregate income that we obtain is called Net Na onal Product. We
get the value of NNP evaluated at market prices. So,
NNP = GNP – Depreciation
d) Net Na onal Product (NNP) at factor cost: The NNP at factor is the sum of income earned by
all factors in the produc on in the form of wages, profits, rent and interest etc., belong to a
country during a year. It is also known as Na onal income. We need to add subsidies to NNP
and deduct indirect taxes from NNP to obtain NNP at factor cost.
NNPFC = NNP at market prices – indirect taxes + subsidies.
e) Personal Income (PI): It refers to the part of Na onal income (NI) which is received by
households. It is obtained as follows:
PI = NI – Undistributed Profits – Net interest payments made by the households – Corporate
tax + Transfer payments to the households from the Government and firms.
f) Personal Disposable Income (PDI): If we deduct the personal tax payments (income tax)
and non-tax payments (fines, fees) from Personal Income, we get PDI. Therefore,
PDI = PI – Personal tax payments – non-tax payments.

21. Ans: The equilibrium level of income depends on aggregate demand. If aggregate
demand changes, the equilibrium level of income also changes. This happens in any one
or combination of the following situations.
a) Change in consump on: The change in consump on can happen due to Change in
autonomous consump on (Ĉ) and marginal propensity to consume (c).
b) Change in investment: It is assumed that investment is autonomous. That means it does
not depend on income. There are other variables which can affect investment, they are
 Availability of credit; easy availability of credit encourages investment.
 Interest rate: Rate of interest is the cost of inves ble funds and at higher interest
 rates, firms tend to lower investment.
The effect of an autonomous change in Aggregate demand on Income and output can be
explained with the help of following diagram.
 In the above diagram, Income is measured in X axis and Aggregate
demand is measured in Y axis. When autonomous investment increases, the AD 1 line shifts in
parallel upwards and assumed the position AD2. The value of aggregate demand at output Y1 is
Y1F, which is greater than the value of output Y1E1 by an amount of E1F. E1F measures the
amount of excess demand that emerges in the economy as a result of the increase in autonomous
expenditure. Thus, E1 is no longer represents the equilibrium. In order to find out new
equilibrium in the final goods market we have to see the point where the new aggregate demand
line AD2 intersects the 450 lines. It occurs at point E2 which is, therefore, the new equilibrium
point. The new equilibrium values of output aggregate demand are Y 2 and AD2 respectively.

At E2 , output and aggregate demand have increased by an amount

E1G=E2J, which is greater than the initial increment in autonomous expenditure. So ∆I =
E1G=E2J. That means, an initial increment in the autonomous expenditure seems to have a
multiplier on the equilibrium values of aggregate demand and output.

PART—E

22. Ans: Demonetization was a new step taken by the Government of India on 8 th
November, 2016. It was introduced to tackle the problem of corruption, black money,
terrorism and circulation of fake currency in the economy. Old currency notes of Rs.500
and Rs.1000 were no longer legal tender. New currency notes in denomination of Rs.500
and Rs.2000 were introduced. The public were advised to deposit old currency notes in
their bank account till 31st of March 2016 without any declaration and upto 31st March
2017 with the RBI with declaration.
In order to avoid a complete breakdown and scarcity of cash, Government allowed
exchange of Rs.4000 old currency notes with new currency restricting to a person per
day. Further till 12th December 2016, old currency notes were acceptable as legal tender
at petrol pumps, Government hospitals and for payment of Government dues like taxes,
power bills etc.
This initiative had both appreciation and criticism. There were long queues outside banks
and ATM centers. There was acute shortage of currency notes and had adverse effect on
economic activities. But now, normalcy has returned.
The demonetization also has positive effects. It improved tax compliance as a large
number of people were bought in the tax ambit. The savings of individual were
channelized into
 the formal financial system. As a result, banks have more resources at their
disposal which can be used to provide more loans at low rate of interest.
Demonetization helps in curbing black money, reducing tax evasion and
corruption will decrease. It also helps in tax administration in another way, by
shifting transaction out of the cash economy into the formal payment system.
Nowadays, households and firms have started to shift from cash payment to
electronic payments.

23. Ans: Surplus Budget

Budget for the month of June
Income Expenditure
 Father’s salary Rs.30,000  Food Rs.10,000
 Rent from house Rs.20,000  Water Rs. 1,000
 Income from Business Rs.10,000  Transportation Rs. 6,000
 School fees Rs. 10,000
 Milk Rs. 1,000
 Medicines Rs. 2,000
Total: Rs.60,000 Total: Rs.30,000
This family has surplus budget as its income is more than expenditure.