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This document contains worksheets from an introductory macroeconomics workbook for class 12. The worksheets cover topics like national income and related aggregates, money and banking, determination of income and employment, government budget and the economy, and exchange rates and balance of payments. The first worksheet provides definitions for 39 macroeconomic concepts and asks students to define them. The second worksheet contains true/false questions about national income and domestic income.

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Introductory

Macroeconomics

Workbook
Class
XII

4323/3, Ansari Road, Darya Ganj, New Delhi-110002

Ph: 91-11-23250105, 23250106 Fax: 91-11-23250141
[email protected] www.vkpublications.com

Contents
Worksheet 1

National Income and Related Aggregates

Worksheet 2

Money and Banking

Worksheet 3

Determination of Income and Employment

Worksheet 4

Government Budget and The Economy

Worksheet 5

Exchange Rate and Balance of Payments

Solutions
CBSE Question Papers2011 (Solved)

S
RK HE

National Income and Related Aggregates

QUESTION SETI
Define the following concepts:
1. Aggregates of economic system.
_________________________________________________________________________________________
_________________________________________________________________________________________
2. Producing sector.
_________________________________________________________________________________________
_________________________________________________________________________________________
3. Household sector.
_________________________________________________________________________________________
_________________________________________________________________________________________
4. Government sector.
_________________________________________________________________________________________
_________________________________________________________________________________________
5. The external sector.
_________________________________________________________________________________________
_________________________________________________________________________________________
6. Stock and flow variables.
_________________________________________________________________________________________
_________________________________________________________________________________________
7. National income.
_________________________________________________________________________________________
_________________________________________________________________________________________
8. Circular flow of income.
_________________________________________________________________________________________
_________________________________________________________________________________________
9. Money flows and real flows.
_________________________________________________________________________________________
_________________________________________________________________________________________

Introductory Macroeconomics

EconomicsXII

10. Domestic territory of a country.

_________________________________________________________________________________________
_________________________________________________________________________________________
11. Normal residents of a country.
_________________________________________________________________________________________
_________________________________________________________________________________________
12. Final goods and intermediate goods.
_________________________________________________________________________________________
_________________________________________________________________________________________
13. Consumption goods and capital goods.
_________________________________________________________________________________________
_________________________________________________________________________________________
14. Gross investment and net investment.
_________________________________________________________________________________________
_________________________________________________________________________________________
15. Depreciation/Consumption of fixed capital.
_________________________________________________________________________________________
_________________________________________________________________________________________
16. Induced investment and autonomous investment.
_________________________________________________________________________________________
_________________________________________________________________________________________
17. Fixed investment and inventory investment.
_________________________________________________________________________________________
_________________________________________________________________________________________
18. Market price and factor cost.
_________________________________________________________________________________________
_________________________________________________________________________________________
19. Domestic income and national income.
_________________________________________________________________________________________
_________________________________________________________________________________________
20. Net of exports and net factor income from abroad.
_________________________________________________________________________________________
_________________________________________________________________________________________
Introductory Macroeconomics

EconomicsXII

21. Value addition.

_________________________________________________________________________________________
_________________________________________________________________________________________
22. Compensation of employees.
_________________________________________________________________________________________
_________________________________________________________________________________________
23. Factor incomes and transfer payments.
_________________________________________________________________________________________
_________________________________________________________________________________________
24. Mixed income of self-employed.
_________________________________________________________________________________________
_________________________________________________________________________________________
25. Leakages and injections.
_________________________________________________________________________________________
_________________________________________________________________________________________
26. Income from domestic product accruing to private sector.
_________________________________________________________________________________________
_________________________________________________________________________________________
27. Private income and personal income.
_________________________________________________________________________________________
_________________________________________________________________________________________
28. Personal disposable income.
_________________________________________________________________________________________
_________________________________________________________________________________________
29. Gross national disposable income and net national disposable income.
_________________________________________________________________________________________
_________________________________________________________________________________________
30. Private factor income.
_________________________________________________________________________________________
_________________________________________________________________________________________
31. Expected obsolescence and unexpected obsolescence.
_________________________________________________________________________________________
_________________________________________________________________________________________
Introductory Macroeconomics

EconomicsXII

32. Change in stock.

QUESTION SETII
Defend or refute the following statements. Write yes or no with reason:
1. National income is a stock concept.
_________________________________________________________________________________________
_________________________________________________________________________________________
2. National income is always greater than domestic income.
_________________________________________________________________________________________
_________________________________________________________________________________________
Introductory Macroeconomics

EconomicsXII

3. Increase in national income always implies increase in domestic income.

_________________________________________________________________________________________
_________________________________________________________________________________________
4. National income at market price is always greater than national income at factor cost.
_________________________________________________________________________________________
_________________________________________________________________________________________
5. Remittances from abroad by the NRIs are a part of our national income.
_________________________________________________________________________________________
_________________________________________________________________________________________
6. XM is equal to net factor income from abroad.
_________________________________________________________________________________________
_________________________________________________________________________________________
7. Gross investment can occur even when net investment is zero.
_________________________________________________________________________________________
_________________________________________________________________________________________
8. Domestic income as well as national income include only factor incomes.
_________________________________________________________________________________________
_________________________________________________________________________________________
9. Private income includes both factor as well as non-factor incomes.
_________________________________________________________________________________________
_________________________________________________________________________________________
10. Private factor income includes net factor income from abroad
_________________________________________________________________________________________
_________________________________________________________________________________________
11. Market price includes the impact of indirect taxes, but not of subsidies.
_________________________________________________________________________________________
_________________________________________________________________________________________
12. Obsolescence is a part of depreciation.
_________________________________________________________________________________________
_________________________________________________________________________________________
13. Population of a country is a flow concept.
_________________________________________________________________________________________
_________________________________________________________________________________________
Introductory Macroeconomics

EconomicsXII

14. Net investment always implies an increase in the stock of capital.

QUESTION SETIII
Write your comment on each of the following statements in a sentence or two:
1. Increase in national income implies increase in the flow of goods and services in the economy.
_________________________________________________________________________________________
_________________________________________________________________________________________
2. Compensation of employees includes compensation received after retirement.
_________________________________________________________________________________________
_________________________________________________________________________________________
3. Net factor income from abroad is zero in case exports = imports.
_________________________________________________________________________________________
_________________________________________________________________________________________
Introductory Macroeconomics

EconomicsXII

4. Final goods must finally be consumed by the households.

_________________________________________________________________________________________
_________________________________________________________________________________________
5. Capital formation includes capital goods only.
_________________________________________________________________________________________
_________________________________________________________________________________________
6. A kind of goods used as intermediary goods can never be final goods.
_________________________________________________________________________________________
_________________________________________________________________________________________
7. Autonomous investment never changes.
_________________________________________________________________________________________
_________________________________________________________________________________________
8. Inventory investment refers to change in stock and is therefore a stock variable.
_________________________________________________________________________________________
_________________________________________________________________________________________
9. The market value of both final and intermediate goods is included in the estimation of national income.
_________________________________________________________________________________________
_________________________________________________________________________________________
10. Imputed rent on owner occupied houses does not involve any payment to others. Accordingly, it should
not be included in the estimation of national income.
_________________________________________________________________________________________
_________________________________________________________________________________________
11. Brokerage paid to Real Estate Agents only on the sale and purchase of new houses should be included in
the estimation of national income.
_________________________________________________________________________________________
_________________________________________________________________________________________
12. Investment on the purchase of shares is a part of net capital formation.
_________________________________________________________________________________________
_________________________________________________________________________________________
13. Income in the form of capital gains is a part of capital formation.
_________________________________________________________________________________________
_________________________________________________________________________________________

Introductory Macroeconomics

EconomicsXII

14. Expenditure on the purchase of second-hand plant and machinery from rest of the world is a part of
domestic capital formation.
_________________________________________________________________________________________
_________________________________________________________________________________________
15. Gross investment includes the value of expected obsolescence.
_________________________________________________________________________________________
_________________________________________________________________________________________
16. Double counting is avoided if GDP is estimated by summing up value of output of all producing units in
the country.
_________________________________________________________________________________________
_________________________________________________________________________________________
17. Only final goods and services are to be considered in the estimation of GDP, to avoid double counting.
_________________________________________________________________________________________
_________________________________________________________________________________________
18. Expenditure by the households on the construction of residential buildings should not be treated as
investment expenditure.
_________________________________________________________________________________________
_________________________________________________________________________________________
19. Change in stock is not a component of aggregate expenditure in the economy.
_________________________________________________________________________________________
_________________________________________________________________________________________
20. Net exports are not a component of aggregate expenditure in the economy.
_________________________________________________________________________________________
_________________________________________________________________________________________

QUESTION SETIV
Complete the following sentences:
1. Domestic income = National income _______________________________________________________
2. Private factor income = Income from domestic product accruing to the private sector
+ _________________________________________________________________
3. Value of output Change in stock = _________________________________________________________
4. Sales +Change in stock Intermediate consumption = _________________________________________
5. Personal income = Private income _________________________________________________________
6. National income at market price = National income __________________________________________
7. Personal disposable income = Private income ________________________________________________
Introductory Macroeconomics

EconomicsXII

8. National income = Domestic income + Factor income from rest of the world ______________________
9. Operating surplus + Compensation of employees + Mixed income of self-employed = ______________
10. Gross value added = Net value added + ______________________________________________________
11. Three essential precautions while measuring national income according to expenditure method are
(i) _________________________, (ii) _________________________, and (iii) _________________________ .
12. Three components of gross domestic fixed investment are (i) _______________________________,
(ii) _________________________, and (iii) ___________________________ .
13. While using value added method of measuring domestic income, two essential precautions are
(i) ________________________________________, and (ii) _______________________________________.
14. While using income method of measuring domestic income, two essential precautions are
(i) ________________________________________, and (ii) _______________________________________.
15. Net national disposable income = National income ___________________________________________
16. Personal disposable income = Personal income ______________________________________________
17. Three important components of depreciation are (i) ____________________, (ii) ____________________,
and (iii) _____________________ .
18. Expected obsolescence occurs on account of (i) ____________________, and (ii) _____________________ .
19. Two components of personal disposable income are (i) _________________, and (ii) _________________ .
20. Sales + Change in Stock Purchase of intermediate products Net indirect taxes = _________________
21. NNPMP = Private consumption expenditure + Government consumption expenditure
+ ______________________________________________________________________

HOTS (Higher Order Thinking Skills)

Write true or false with a reason:
1. If depreciation reserve fund is not maintained, production capacity in the economy would
tend to reduce.
_________________________________________________________________________________
_________________________________________________________________________________
2. Both factor income as well as transfer income are included in the estimation of personal
income.
_________________________________________________________________________________
_________________________________________________________________________________
3. GDP is the most appropriate index of social welfare.
_________________________________________________________________________________
_________________________________________________________________________________
Introductory Macroeconomics

EconomicsXII

4. While using expenditure method to estimate GDP, we focus only expenditure by the
resident household.
_________________________________________________________________________________
_________________________________________________________________________________
5. Purchase of machinery from abroad is to be considered as a part of intermediate consumption.
_________________________________________________________________________________
_________________________________________________________________________________
6. Interest on national debt is treated like a transfer payment.
_________________________________________________________________________________
_________________________________________________________________________________
7. Net indirect taxes are never equal to subsidies.
_________________________________________________________________________________
_________________________________________________________________________________
8. National income exceeds domestic income only when exports are greater than imports.
_________________________________________________________________________________
_________________________________________________________________________________
9. In the determination of social welfare, what matters is the quantum of output rather than
the composition of output.
_________________________________________________________________________________
_________________________________________________________________________________
10. Only those goods are included in the estimation of domestic product which are sold or
purchased in domestic market of a country.
_________________________________________________________________________________
_________________________________________________________________________________
11. Goods produced but retained for self-consumption (and not sold in the market) are not
included in the estimation of national income.
_________________________________________________________________________________
_________________________________________________________________________________

Introductory Macroeconomics

EconomicsXII

S
RK HE

Money and Banking

QUESTION SETI
Define the following concepts:
1. Money and value of money.
_________________________________________________________________________________________
_________________________________________________________________________________________
2. Barter system of exchange and monetary system of exchange.
_________________________________________________________________________________________
_________________________________________________________________________________________
3. Supply of money.
_________________________________________________________________________________________
_________________________________________________________________________________________
4. Full bodied money and credit money.
_________________________________________________________________________________________
_________________________________________________________________________________________
5. Double coincidence of wants.
_________________________________________________________________________________________
_________________________________________________________________________________________
6. High powered money.
_________________________________________________________________________________________
_________________________________________________________________________________________
7. Discounting bills of exchange.
_________________________________________________________________________________________
_________________________________________________________________________________________
8. Demand deposits and time deposits.
_________________________________________________________________________________________
_________________________________________________________________________________________
9. Bank rate and market rate of interest.
_________________________________________________________________________________________
_________________________________________________________________________________________
Introductory Macroeconomics

EconomicsXII

10. Open market operations.

_________________________________________________________________________________________
_________________________________________________________________________________________
11. Lender of the last resort.
_________________________________________________________________________________________
_________________________________________________________________________________________
12. Repo rate and reverse repo rate.
_________________________________________________________________________________________
_________________________________________________________________________________________
13. Credit creation.
_________________________________________________________________________________________
_________________________________________________________________________________________
14. Cheap money policy and dear money policy.
_________________________________________________________________________________________
_________________________________________________________________________________________
15. CRR and SLR.
_________________________________________________________________________________________
_________________________________________________________________________________________
16. Margin requirement.
_________________________________________________________________________________________
_________________________________________________________________________________________
17. Moral suasion.
_________________________________________________________________________________________
_________________________________________________________________________________________
18. Quantitative credit control and qualitative credit control.
_________________________________________________________________________________________
_________________________________________________________________________________________
19. Face value of money and intrinsic value of money.
_________________________________________________________________________________________
_________________________________________________________________________________________
20. Standard of deferred payments.
_________________________________________________________________________________________
_________________________________________________________________________________________

Introductory Macroeconomics

EconomicsXII

QUESTION SETII
Defend or refute the following statements. Write yes or no with reason:
1. Face value of money is always greater than its intrinsic value.
_________________________________________________________________________________________
_________________________________________________________________________________________
2. Double coincidence of wants is a typical feature of monetary system of exchange.
_________________________________________________________________________________________
_________________________________________________________________________________________
3. Credit money is the money received as a credit from the banks.
_________________________________________________________________________________________
_________________________________________________________________________________________
4. Money has separated the acts of sale and purchase.
_________________________________________________________________________________________
_________________________________________________________________________________________
5. There is no medium of exchange in the barter system.
_________________________________________________________________________________________
_________________________________________________________________________________________
6. Money is a measure of value as well as a store of value.
_________________________________________________________________________________________
_________________________________________________________________________________________
7. Money facilitates transfer of value.
_________________________________________________________________________________________
_________________________________________________________________________________________
8. High powered money refers to cash reserves of the commercial banks with the central bank.
_________________________________________________________________________________________
_________________________________________________________________________________________
9. All financial institutions are not banking institutions.
_________________________________________________________________________________________
_________________________________________________________________________________________
10. Commercial banks offer loans only for purpose of investment.
_________________________________________________________________________________________
_________________________________________________________________________________________
Introductory Macroeconomics

EconomicsXII

11. Commercial banks do not have the note-issuing authority, but they do contribute to money supply in the
economy.
_________________________________________________________________________________________
_________________________________________________________________________________________
12. The central bank is the bankers bank.
_________________________________________________________________________________________
_________________________________________________________________________________________
13. The central bank is a lender of last resort.
_________________________________________________________________________________________
_________________________________________________________________________________________
14. CRR and SLR are fixed by the commercial banks themselves.
_________________________________________________________________________________________
_________________________________________________________________________________________
15. Open market operations are meant to impact money supply in the economy.
_________________________________________________________________________________________
_________________________________________________________________________________________
16. Demand deposits are equal to cash deposits with the commercial banks.
_________________________________________________________________________________________
_________________________________________________________________________________________
17. When CRR is raised, flow of credit is enhanced in the economy.
_________________________________________________________________________________________
_________________________________________________________________________________________
18. CRR and SLR work opposite to each other.
_________________________________________________________________________________________
_________________________________________________________________________________________
19. Money may be used as a commodity.
_________________________________________________________________________________________
_________________________________________________________________________________________
20. Money acts as a store of value only when it is in the form of gold and silver coins.
_________________________________________________________________________________________
_________________________________________________________________________________________

Introductory Macroeconomics

EconomicsXII

QUESTION SETIII
Write your comment on each of the following statements in a sentence or two:
1. Demand deposits with commercial banks are a part of money supply.
_________________________________________________________________________________________
_________________________________________________________________________________________
2. Money supply in the economy is equal to notes and coins issued by the central bank.
_________________________________________________________________________________________
_________________________________________________________________________________________
3. Commercial banks play no role in the stock of money supply in the economy.
_________________________________________________________________________________________
_________________________________________________________________________________________
4. Monetary system of exchange facilitates much greater exchange than the barter system.
_________________________________________________________________________________________
_________________________________________________________________________________________
5. Loans offered by the commercial banks are only a part of the cash reserves of the commercial banks.
_________________________________________________________________________________________
_________________________________________________________________________________________
6. If the commercial banks buy government securities, their capacity to create credit is reduced.
_________________________________________________________________________________________
_________________________________________________________________________________________
7. When margins are raised, demand for loans is negatively impacted.
_________________________________________________________________________________________
_________________________________________________________________________________________
8. Market rate of interest tends to be positively related to the bank rate.
_________________________________________________________________________________________
_________________________________________________________________________________________
9. Money becomes a commodity when intrinsic value of money exceeds its face value.
_________________________________________________________________________________________
_________________________________________________________________________________________
10. Higher bank rate implies higher credit creation capacity of the banks.
_________________________________________________________________________________________
_________________________________________________________________________________________
Introductory Macroeconomics

EconomicsXII

11. The commercial banks design all instruments of monetary policy and the central bank controls them.
_________________________________________________________________________________________
_________________________________________________________________________________________
12. The commercial banks are the controller of credit.
_________________________________________________________________________________________
_________________________________________________________________________________________
13. The central bank is the currency authority.
_________________________________________________________________________________________
_________________________________________________________________________________________
14. By accepting deposits, commercial banks facilitate capital formation.
_________________________________________________________________________________________
_________________________________________________________________________________________
15. There is no common unit of exchange in barter system.
_________________________________________________________________________________________
_________________________________________________________________________________________
16. The central bank is a banker to the government.
_________________________________________________________________________________________
_________________________________________________________________________________________
17. The central bank is the apex bank of the country.
_________________________________________________________________________________________
_________________________________________________________________________________________
18. Overdraft is a loan facility offered by the commercial banks.
_________________________________________________________________________________________
_________________________________________________________________________________________
19. Discounting bills of exchange amounts to offering loans by the commercial banks.
_________________________________________________________________________________________
_________________________________________________________________________________________
20. The central bank issues currency on the basis of CRR.
_________________________________________________________________________________________
_________________________________________________________________________________________

Introductory Macroeconomics

EconomicsXII

QUESTION SETIV
Complete the following sentences:
1. Two principal determinants of credit creation by the commercial banks are (i) ____________________,
and (ii) _____________________ .
2. By selling the securities in the open market, the central bank intends to __________________________ .
3. To combat inflation, requirement of margin is _________________________________________________ .
4. According to M1 measure of money stock, supply of money = ____________________________________
5. According to M2 measure of money stock, supply of money = ____________________________________
6. According to M3 measure of money stock, supply of money =____________________________________
7. According to M4 measure of money stock, supply of money = ____________________________________
8. Primary functions of commercial banks are (i) ____________________, and (ii) _____________________ .
9. Secondary functions of commercial banks are (i) ____________________, and (ii) ___________________ .
10. Two important types of deposit accounts are (i) ____________________, and (ii) _____________________ .
11. Four different ways of giving loans and advances by the commercial banks are (i) ___________________,
(ii) ____________________, (iii) ____________________, and (iv) _____________________ .
12. Demand loans refer to _____________________________________________________________________ .
13. Four important functions of the central bank are (i) ___________________, (ii) ____________________,
(iii) ____________________, and (iv) _____________________ .
14. As a lender of last resort, the central bank _____________________________________________________ .
15. Five instruments of monetary policy are (i) ______________________, (ii) _______________________,
(iii) ____________________, (iv) ____________________, and (v) _____________________ .
16. When bank rate is raised, supply of money in the economy is expected to __________________________ .
17. When the central bank sells government securities in the open market, the supply of money is expected
to ______________________________________________________________________________________ .
18. Increase in CRR and SLR are expected to cause _______________________________________________ .
19. With a view to combating speculative investment, margin requirement is __________________________ .
20. Credit creation refers to ___________________________________________________________________ .
21. Credit multiplier refers to __________________________________________________________________ .
Introductory Macroeconomics

EconomicsXII

HOTS (Higher Order Thinking Skills)

1. Write true or false with a reason:
(i) If CRR is lowered, investment demand must rise.
____________________________________________________________________________
____________________________________________________________________________
(ii) Bank rate is an instrument of selective credit control.
____________________________________________________________________________
____________________________________________________________________________
(iii) A check on high powered money implies a check on the flow of credit in the economy.
____________________________________________________________________________
____________________________________________________________________________
(iv) Term deposits are near money, and therefore should be treated as a component of
money supply.
____________________________________________________________________________
____________________________________________________________________________
(v) Commercial banks create credit only on advice of the government.
____________________________________________________________________________
____________________________________________________________________________
2. Write a note explaining the process of credit creation by the commercial banks.
_________________________________________________________________________________________
_________________________________________________________________________________________
_________________________________________________________________________________________
_________________________________________________________________________________________
_________________________________________________________________________________________
_________________________________________________________________________________________

Introductory Macroeconomics

EconomicsXII

S
RK HE

Determination of Income and Employment

QUESTION SETI
Define the following concepts:
1. Aggregate demand.
_________________________________________________________________________________________
_________________________________________________________________________________________
2. Aggregate supply.
_________________________________________________________________________________________
_________________________________________________________________________________________
3. Aggregate effective demand.
_________________________________________________________________________________________
_________________________________________________________________________________________
4. Consumption function.
_________________________________________________________________________________________
_________________________________________________________________________________________
5. Saving function.
_________________________________________________________________________________________
_________________________________________________________________________________________
6. Average and marginal propensity to consume.
_________________________________________________________________________________________
_________________________________________________________________________________________
7. Average and marginal propensity to save.
_________________________________________________________________________________________
_________________________________________________________________________________________
8. Ex-ante and ex-post equality between S and I.
_________________________________________________________________________________________
_________________________________________________________________________________________
9. Marginal efficiency of capital.
_________________________________________________________________________________________
_________________________________________________________________________________________
Introductory Macroeconomics

EconomicsXII

10. Output multiplier/investment multiplier.

_________________________________________________________________________________________
_________________________________________________________________________________________
11. Equilibrium level of income and output.
_________________________________________________________________________________________
_________________________________________________________________________________________
12. Excess demand and inflationary gap.
_________________________________________________________________________________________
_________________________________________________________________________________________
13. Deficient demand and deflationary gap.
_________________________________________________________________________________________
_________________________________________________________________________________________
14. Autonomous consumption.
_________________________________________________________________________________________
_________________________________________________________________________________________
15. Full employment and underemployment equilibrium.
_________________________________________________________________________________________
_________________________________________________________________________________________
16. Voluntary and involuntary unemployment.
_________________________________________________________________________________________
_________________________________________________________________________________________
17. Monetary policy and fiscal policy.
_________________________________________________________________________________________
_________________________________________________________________________________________
18. Psychological law of consumption.
_________________________________________________________________________________________
_________________________________________________________________________________________
19. Investment demand function.
_________________________________________________________________________________________
_________________________________________________________________________________________
20. Equilibrium beyond full employment.
_________________________________________________________________________________________
_________________________________________________________________________________________

Introductory Macroeconomics

EconomicsXII

QUESTION SETII
Defend or refute the following statements. Write yes or no with reason:
1. Consumption never exceeds income.
_________________________________________________________________________________________
_________________________________________________________________________________________
2. Saving can never be negative.
_________________________________________________________________________________________
_________________________________________________________________________________________
3. Average propensity to consume can never be greater than one.
_________________________________________________________________________________________
_________________________________________________________________________________________
4. APC and MPC are never equal.
_________________________________________________________________________________________
_________________________________________________________________________________________
5. APC + APS =1.
_________________________________________________________________________________________
_________________________________________________________________________________________
6. MPC + MPS >1.
_________________________________________________________________________________________
_________________________________________________________________________________________
7. Ex-post investment > ex-ante investment.
_________________________________________________________________________________________
_________________________________________________________________________________________
8. Equilibrium beyond full employment does not cause increase in output beyond full employment.
_________________________________________________________________________________________
_________________________________________________________________________________________
9. Underemployment equilibrium causes excess capacity in the economy.
_________________________________________________________________________________________
_________________________________________________________________________________________
10. In the context of equilibrium GDP, desired AS = desired AD.
_________________________________________________________________________________________
_________________________________________________________________________________________
Introductory Macroeconomics

EconomicsXII

11. In the Keynesian model of equilibrium GDP, AS is assumed to be perfectly elastic.

_________________________________________________________________________________________
_________________________________________________________________________________________
12. Increase in output beyond underemployment equilibrium does not cause inflationary gap.
_________________________________________________________________________________________
_________________________________________________________________________________________
13. S may or may not be equal to I when AS = AD.
_________________________________________________________________________________________
_________________________________________________________________________________________
14. In a situation when planned S > planned I, inventory investment of the producers is expected to be
larger than desired.
_________________________________________________________________________________________
_________________________________________________________________________________________
15. The rate at which C increases always tends to be lower than the rate at which Y increases.
_________________________________________________________________________________________
_________________________________________________________________________________________
16. The rate at which S increases always tends to be greater than the rate at which Y increases.
_________________________________________________________________________________________
_________________________________________________________________________________________
17. In the context of equilibrium GDP, Keynes considers only autonomous investment.
_________________________________________________________________________________________
_________________________________________________________________________________________
18. In a situation of inflationary gap, general price level tends to rise.
_________________________________________________________________________________________
_________________________________________________________________________________________
19. There is a direct relationship between MPC and value of investment multiplier.
_________________________________________________________________________________________
_________________________________________________________________________________________
20. Higher saving induces greater investment.
_________________________________________________________________________________________
_________________________________________________________________________________________

Introductory Macroeconomics

EconomicsXII

QUESTION SETIII
Write your comment on each of the following statements in a sentence or two:
1. In a situation of deflationary gap, low level of AD causes low level of AS.
_________________________________________________________________________________________
_________________________________________________________________________________________
2. In a situation of inflationary gap, low level of AS causes low level of AD.
_________________________________________________________________________________________
_________________________________________________________________________________________
3. Point of equilibrium GDP must always be on the 45 line drawn from the origin.
_________________________________________________________________________________________
_________________________________________________________________________________________
4. Inflationary gap can be corrected by lowering the level of autonomous investment.
_________________________________________________________________________________________
_________________________________________________________________________________________
5. Deflationary gap can be corrected by increasing the level of AD.
_________________________________________________________________________________________
_________________________________________________________________________________________
6. Bank rate should be lowered in a situation of inflationary gap.
_________________________________________________________________________________________
_________________________________________________________________________________________
7. CRR should be raised to combat deflationary gap.
_________________________________________________________________________________________
_________________________________________________________________________________________
8. SLR needs to be raised to combat deflationary gap.
_________________________________________________________________________________________
_________________________________________________________________________________________
9. It is not possible to combat inflationary gap without causing unemployment in the economy.
_________________________________________________________________________________________
_________________________________________________________________________________________
10. When deflationary gap is combated, the level of employment tends to rise in the economy.
_________________________________________________________________________________________
_________________________________________________________________________________________
Introductory Macroeconomics

EconomicsXII

11. Investment multiplier runs its full course only on the assumption that there is excess capacity in the
economy.
_________________________________________________________________________________________
_________________________________________________________________________________________
12. If MPC = 0, output multiplier is also equal to zero.
_________________________________________________________________________________________
_________________________________________________________________________________________
13. Output always increases when AD increases.
_________________________________________________________________________________________
_________________________________________________________________________________________
14. A tax on the households reduces their MPC.
_________________________________________________________________________________________
_________________________________________________________________________________________
15. The sum total of APC and APS is always equal to one, even when APC > 1.
_________________________________________________________________________________________
_________________________________________________________________________________________
16. By raising the level of investment in the economy, the government intends to raise the value of output
multiplier.
_________________________________________________________________________________________
_________________________________________________________________________________________
17. Equilibrium GDP refers to a situation when:
Actual stocks = Desired stocks.
_________________________________________________________________________________________
_________________________________________________________________________________________
18. Equilibrium GDP refers to a situation when: injections = withdrawals.
_________________________________________________________________________________________
_________________________________________________________________________________________
19. Once equilibrium GDP is achieved, the level of output is the same; no matter it is underemployment
equilibrium or full employment equilibrium.
_________________________________________________________________________________________
_________________________________________________________________________________________
20. Equilibrium beyond full employment is a better situation (in terms of the level of GDP) than equilibrium
at full employment.
_________________________________________________________________________________________
_________________________________________________________________________________________
Introductory Macroeconomics

EconomicsXII

QUESTION SETIV
Complete the following sentences:
1. In the equation C = a + aY, a shows _________________________________________________________ .
2. In the equation S = a + bY, a shows _______________________________________________________ .
3. If C = a + aY and S = a + bY, then a + b = __________________________________________________ .
4. Autonomous I function is diagrammatically shown as __________________________________________ .
5.

DY
DI

= ________________________________

1
6. 1 MPC

= ________________________________

7. MPS .DY

= ________________________________

8. MPC .DY = ________________________________

9. MPC + MPS = ________________________________
10. APC + APS = ________________________________
11. Output multiplier may be estimated as the reciprocal of ________________________________________ .
12. A situation of inflationary gap arises when ___________________________________________________ .
13. A situation of equilibrium beyond full employment arises when _________________________________ .
14. S and I are always equal when ______________________________________________________________ .
15. In a situation when saving exceeds planned investment ________________________________________ .
16. In a situation when planned investment exceeds planned saving ________________________________ .
17. Three monetary measures to combat inflationary gap are (i)__________________________________,
(ii) ________________________________, and (iii) ___________________________________ .
18. Three fiscal measures to correct deficient demand are (i) _________________, (ii) __________________,
and (iii) ____________________,
19. In a situation of excess demand, general price level ____________________________________________ .
20. In a situation of deficient demand, output level _______________________________________________ .

Introductory Macroeconomics

EconomicsXII

HOTS (Higher Order Thinking Skills)

Write true or false with a reason:
1. If I < S, AS tends to contract.
_________________________________________________________________________________
_________________________________________________________________________________
2. If I > S, level of Y must rise.
_________________________________________________________________________________
_________________________________________________________________________________
3. Higher the level of Y, higher should be the level of autonomous consumption in C-function.
_________________________________________________________________________________
_________________________________________________________________________________
4. Increase in MPC implies increase in the slope of C-function.
_________________________________________________________________________________
_________________________________________________________________________________
5. Perfectly elastic AS means AS adjusts itself to all levels of AD.
_________________________________________________________________________________
_________________________________________________________________________________
6. If APC is constant, C and Y should also be constant.
_________________________________________________________________________________
_________________________________________________________________________________
7. Constant increase in I always causes a constant increase in Y.
_________________________________________________________________________________
_________________________________________________________________________________
8. S is always a virtue, as it is a source of investment.
_________________________________________________________________________________
_________________________________________________________________________________
9. Full employment implies that nobody is ever unemployed in the economy.
_________________________________________________________________________________
_________________________________________________________________________________
10. A situation of underemployment is better than that of over-employment because prices tend
to a fall.
_________________________________________________________________________________
_________________________________________________________________________________
Introductory Macroeconomics

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S
RK HE

Government Budget and The Economy

QUESTION SETI
Define the following concepts:
1. Government budget.
_________________________________________________________________________________________
_________________________________________________________________________________________
2. Revenue receipts.
_________________________________________________________________________________________
_________________________________________________________________________________________
3. Capital receipts.
_________________________________________________________________________________________
_________________________________________________________________________________________
4. Revenue expenditure.
_________________________________________________________________________________________
_________________________________________________________________________________________
5. Capital expenditure.
_________________________________________________________________________________________
_________________________________________________________________________________________
6. Revenue budget and capital budget.
_________________________________________________________________________________________
_________________________________________________________________________________________
7. Tax and non-tax receipts.
_________________________________________________________________________________________
_________________________________________________________________________________________
8. Fiscal deficit.
_________________________________________________________________________________________
_________________________________________________________________________________________
9. Revenue deficit.
_________________________________________________________________________________________
_________________________________________________________________________________________
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10. Primary deficit.

QUESTION SETII
Defend or refute the following statements. Write yes or no with reason:
1. Balanced budget is that budget in which revenue receipts = revenue expenditure.
_________________________________________________________________________________________
_________________________________________________________________________________________
2. Government budget is a statement of all actual receipts and payments of the government.
_________________________________________________________________________________________
_________________________________________________________________________________________
3. Expenditure on law and order is a component of development expenditure.
_________________________________________________________________________________________
_________________________________________________________________________________________
4. Non-plan expenditure contributes to economic growth.
_________________________________________________________________________________________
_________________________________________________________________________________________
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5. Fiscal deficit is zero in case there is no provision for borrowing in the government budget.
_________________________________________________________________________________________
_________________________________________________________________________________________
6. Revenue deficit is the excess of capital receipts over and above revenue receipts of the government.
_________________________________________________________________________________________
_________________________________________________________________________________________
7. Primary deficit does not include interest payments, while fiscal deficit does.
_________________________________________________________________________________________
_________________________________________________________________________________________
8. Revenue receipts do not impact asset and liability status of the government.
_________________________________________________________________________________________
_________________________________________________________________________________________
9. Revenue expenditure reduces assets of the government.
_________________________________________________________________________________________
_________________________________________________________________________________________
10. Capital receipts add to liabilities of the government.
_________________________________________________________________________________________
_________________________________________________________________________________________
11. Capital expenditure reduces capital stock of the government.
_________________________________________________________________________________________
_________________________________________________________________________________________
12. Borrowing by the government is a component of revenue budget.
_________________________________________________________________________________________
_________________________________________________________________________________________
13. Disinvestment is a component of capital budget.
_________________________________________________________________________________________
_________________________________________________________________________________________
14. Disinvestment increases liability of the government.
_________________________________________________________________________________________
_________________________________________________________________________________________
15. Recovery of loan by the government is a component of revenue budget.
_________________________________________________________________________________________
_________________________________________________________________________________________
Introductory Macroeconomics

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QUESTION SETIII
Write your comment on each of the following statements in a sentence or two:
1. Borrowing by the government is a measure of revenue deficit.
_________________________________________________________________________________________
_________________________________________________________________________________________
2. Tax is a capital receipt of the government.
_________________________________________________________________________________________
_________________________________________________________________________________________
3. Repayment of loan by the government is a capital expenditure.
_________________________________________________________________________________________
_________________________________________________________________________________________
4. Sales tax is a direct tax.
_________________________________________________________________________________________
_________________________________________________________________________________________
5. A regressive tax causes a greater real burden on the rich.
_________________________________________________________________________________________
_________________________________________________________________________________________
6. Income tax in India is regressive in nature.
_________________________________________________________________________________________
_________________________________________________________________________________________
7. Loans offered by the central government to the state government are to be treated as capital
expenditure of the central government.
_________________________________________________________________________________________
_________________________________________________________________________________________
8. Payment of interest is a capital expenditure.
_________________________________________________________________________________________
_________________________________________________________________________________________
9. Subsidies are not treated as capital expenditure of the government.
_________________________________________________________________________________________
_________________________________________________________________________________________
10. Grants by the government are treated as revenue expenditure.
_________________________________________________________________________________________
_________________________________________________________________________________________
Introductory Macroeconomics

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11. Construction of fly-over is a revenue expenditure of the government.

QUESTION SETIV
Complete the following sentences:
1. Subsidies are revenue expenditure, because __________________________________________________ .
2. Borrowing is not revenue expenditure because _______________________________________________ .
3. Other things remaining constant, if tax rates are increased, fiscal deficit is _________________________ .
4. Two examples of direct tax are (i) __________________________, and (ii) __________________________ .
5. Two examples of non-tax receipts are (i) _______________________, and (ii) _______________________ .
6. Three components of capital receipts are (i) _______________________, (ii) ________________________
and (iii) _______________________ .
7. Two principal components of revenue receipts are (i) _________________, and (ii) __________________ .
8. Two examples of non-development expenditure are (i) ________________, and (ii) _________________ .
9. Dividends on investment is not a capital receipt because _______________________________________ .
10. Mounting fiscal deficit is bad because ________________________________________________________ .
Introductory Macroeconomics

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11. Two ways of tackling budgetary deficit are (i) ____________________, and (ii) _____________________.
12. Four principal objectives of the government budget are (i) _________________, (ii) __________________,
(iii) ____________________, and (iv) ____________________.

HOTS (Higher Order Thinking Skills)

1. Write true or false with a reason:
(i) If revenue budget balances, capital budget also balances.
____________________________________________________________________________
____________________________________________________________________________
(ii) Government budget is a statement of government receipts and expenditure over the
past one year.
____________________________________________________________________________
____________________________________________________________________________
(iii) Budgetary deficit points to failure of the government to manage its budget.
____________________________________________________________________________
____________________________________________________________________________
(iv) Revenue deficit increases when the government fails to recover its loans.
____________________________________________________________________________
____________________________________________________________________________
(v) Balanced budget is always the best budget.
____________________________________________________________________________
____________________________________________________________________________
2. Write a note on the importance of government budget.
_________________________________________________________________________________________
_________________________________________________________________________________________
_________________________________________________________________________________________
_________________________________________________________________________________________
3. Briefly describe how the government budget stimulates the process of growth.
_________________________________________________________________________________________
_________________________________________________________________________________________
_________________________________________________________________________________________
_________________________________________________________________________________________
Introductory Macroeconomics

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S
RK HE

Exchange Rate and Balance of Payments

QUESTION SETI
Define the following concepts:
1. Exchange rate and equilibrium exchange rate.
_________________________________________________________________________________________
_________________________________________________________________________________________
2. Fixed and variable exchange rate.
_________________________________________________________________________________________
_________________________________________________________________________________________
3. Spot market and forward market of foreign exchange.
_________________________________________________________________________________________
_________________________________________________________________________________________
4. Visible and invisible items of balance of payment.
_________________________________________________________________________________________
_________________________________________________________________________________________
5. Balance of trade and balance of payments.
_________________________________________________________________________________________
_________________________________________________________________________________________
6. Current account balance of payments and capital account balance of payments.
_________________________________________________________________________________________
_________________________________________________________________________________________
7. Autonomous and accommodating items of balance of payments.
_________________________________________________________________________________________
_________________________________________________________________________________________
8. Surplus and deficit balance of payments.
_________________________________________________________________________________________
_________________________________________________________________________________________
9. Appreciation and depreciation of currency.
_________________________________________________________________________________________
_________________________________________________________________________________________
Introductory Macroeconomics

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10. Parity value.

QUESTION SETII
Defend or refute the following statements. Write yes or no with reason:
1. Balance of payments always balances.
_________________________________________________________________________________________
_________________________________________________________________________________________
2. Fixed exchange rate is determined by the forces of supply and demand in the international money
market.
_________________________________________________________________________________________
_________________________________________________________________________________________
3. Current account balance of payments includes export and import of goods only.
_________________________________________________________________________________________
_________________________________________________________________________________________
4. Autonomous items of trade are undertaken by the government with a view to restore equilibrium in
balance of payments.
_________________________________________________________________________________________
_________________________________________________________________________________________
5. Speculative purchases by the domestic investors in the international money market cause loss of foreign
exchange.
_________________________________________________________________________________________
_________________________________________________________________________________________
Introductory Macroeconomics

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6. The rising demand for foreign goods implies higher demand for foreign exchange.
_________________________________________________________________________________________
_________________________________________________________________________________________
7. Flexible exchange rate is determined by the WTO.
_________________________________________________________________________________________
_________________________________________________________________________________________
8. Forward market in foreign exchange is that market which deals with sale and purchase of foreign
exchange for current transactions.
_________________________________________________________________________________________
_________________________________________________________________________________________
9. Parity value refers to equal value of two currencies in the international money market.
_________________________________________________________________________________________
_________________________________________________________________________________________
10. Borrowing and lending in the international money market is a part of current account balance of
payments.
_________________________________________________________________________________________
_________________________________________________________________________________________

QUESTION SETIII
Write your comment on each of the following statements in a sentence or two:
1. If balance of trade is in deficit, the balance of payments is also in deficit.
_________________________________________________________________________________________
_________________________________________________________________________________________
2. Appreciation of the Indian currency occurs when more rupees are to be paid for a US $.
_________________________________________________________________________________________
_________________________________________________________________________________________
3. Current account deficit in balance of payments occurs when export of goods < import of goods.
_________________________________________________________________________________________
_________________________________________________________________________________________
4. Foreign direct investment is a component of current account balance of payments.
_________________________________________________________________________________________
_________________________________________________________________________________________
5. Balance of payments is balanced through unilateral transfers.
_________________________________________________________________________________________
_________________________________________________________________________________________
Introductory Macroeconomics

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6. Above the line items in balance of payments refer to autonomous as well as accommodating items.
_________________________________________________________________________________________
_________________________________________________________________________________________
7. Below the line items in balance of payments are undertaken with a view to maximising profits.
_________________________________________________________________________________________
_________________________________________________________________________________________
8. Transfers to rest of the world is a debit component of balance of payments on current account.
_________________________________________________________________________________________
_________________________________________________________________________________________
9. Compensation of employees from rest of the world is a credit component of balance of payments on
capital account.
_________________________________________________________________________________________
_________________________________________________________________________________________
10. Foreign private loans are not considered in the construction of balance of payments accounts.
_________________________________________________________________________________________
_________________________________________________________________________________________

QUESTION SETIV
Complete the following sentences:
1. In the BoP, repayment of loans by the government is reflected as _________________________________ .
2. In case receipts from rest of the world are less than payments to rest of the world, the country's BoP
shows ___________________________________________________________________________________ .
3. In the BoP, commercial borrowings are reflected as ____________________________________________ .
4. Net of exports is a part of ___________________________________________________________________ .
5. Five components of current account BoP are (i) ______________________, (ii) _____________________,
(iii) ____________________, (iv) ____________________, and (v) _____________________ .
6. Six components of capital account BoP are (i) ______________________, (ii) _______________________,
(iii) ________________, (iv) ________________, (v) __________________, and (vi) ___________________ .
7. Two examples of invisible items of trade are (i) ___________________, and (ii) ______________________ .
8. Four principal merits of fixed exchange rate are (i) ___________________, (ii) ____________________,
(iii) ____________________, and (iv) _____________________ .
Introductory Macroeconomics

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9. Four principal merits of flexible exchange rate are (i) ___________________, (ii) ____________________,
(iii) ____________________, and (iv) _____________________ .
10. The principal difference between spot market and forward market is that _________________________ .
11. Demand for foreign exchange arises on account of (i) ___________________, (ii) ____________________,
(iii) ____________________, and (iv) _____________________ .
12. Sources of supply of foreign exchange are (i) ______________________, (ii) _______________________,
(iii) ____________________, and (iv) _____________________ .
13. Three important functions of foreign exchange market are (i) _____________________________,
(ii) ___________________________, and (iii) ___________________________.
14. Transfer function of foreign exchange market refers to _________________________________________ .
15. Credit function of foreign exchange market refers to ___________________________________________ .
16. Hedging function of foreign exchange market refers to _________________________________________ .
17. Disequilibrium in BoP occurs when __________________________________________________________ .
18. Economic causes of disequilibrium in BoP include (i) ___________________, (ii) ____________________,
(iii) ________________, (iv) ________________, and (v) ___________________ .
19. Political cause of disequilibrium in BoP refers to _______________________________________________ .
20. Social cause of disequilibrium in BoP refers to ________________________________________________ .

HOTS (Higher Order Thinking Skills)

1. Write true or false with a reason:
(i) Surplus in capital account BoP reflects prosperity of the nation.
____________________________________________________________________________
____________________________________________________________________________
(ii) Greater flow of foreign exchange from rest of the world indicates higher degree of our
development.
____________________________________________________________________________
____________________________________________________________________________
(iii) Unfavourable BoP reflects high demand for foreign exchange.
____________________________________________________________________________
____________________________________________________________________________
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(iv) Venture capital in the international money market is possible only with flexible
exchange rate, not with fixed exchange rate system.
____________________________________________________________________________
____________________________________________________________________________
(v) Fixed exchange rate system requires huge international reserves. While flexible
exchange rate does not.
____________________________________________________________________________
____________________________________________________________________________
2. How would you interpret a situation of unfavourable balance of trade for a country like India? Write
brief note.
_________________________________________________________________________________________
_________________________________________________________________________________________
_________________________________________________________________________________________
_________________________________________________________________________________________
_________________________________________________________________________________________
_________________________________________________________________________________________

Introductory Macroeconomics

EconomicsXII

SOLUTIONS
Introductory Macroeconomics

Worksheet1

Unit-1: National Income and Related Aggregates

QUESTION SET-I
1. Aggregates of the economic system refer to macroeconomic variables, or the variables which represent
the economy as a whole. Example: aggregate demand and aggregate investment.
2. Producing sector refers to all producing units (or firms) in the economy.
3. Household sector refers to consumers engaged in the consumption of goods and services.
4. Government sector refers to government as a welfare agency (engaged in maintaining law and order,
defence, and other services of public welfare). It also refers to government as a producer.
5. The external sector also called rest of the world sector, is engaged in the export and import of goods
and the flow of capital between the domestic economy and rest of the world.
6. A stock is a quantity, measured at a particular point of time. Example: wealth and capital.
A flow is a quantity, measured per unit of time period. Example: income and investment.
7. National income is the sum total of factor incomes earned by normal residents of a country during the
period of one year.
8. Circular flow of income refers to the unending flow of the activities of production, income generation
and expenditure involving different sectors of the economy.
9. Money flows refer to the flow of money across different sectors of the economy.
Real flows refer to the flow of goods and services across different sectors of the economy.
10. Domestic territory of a country refers to that area of economic activity which generates domestic income.
11. Normal residents of a country are those people who (i) normally reside in the country concerned, and
(ii) whose centre of economic interest lies in the country concerned.
12. Final goods are those goods which are ready for use by their final users.
Intermediate goods are those goods which are used for the production of other goods and services in
the form of raw material.
13. Consumption goods are those goods which are used for the direct satisfaction of human wants.
Example: vegetables used by households.
Capital goods are fixed assets of the producers which are repeatedly used in the production of other
goods and services. Example: tractors used by farmers.
14. Gross investment is the expenditure incurred on capital goods during an accounting year. It includes
replacement investment.
Net investment is the increase in capital stock during an accounting year. It does not include
replacement investment.
15. Depreciation or consumption of fixed capital is the loss of the value of fixed capital due to normal wear
and tear, foreseen obsolescence and normal rate of accidental damage.
16. Induced investment is that investment which is determined by the level of income (and profits) in the
economy.
Autonomous investment is that investment which is independent of the level of income in the economy.
17. Fixed investment is addition to the stock of fixed assets of the producers during an accounting year.
Inventory investment is addition to the stock of inventory with the producers during an accounting year.
18. Market price refers to the price at which goods and services are sold in the market. It includes the
impact of indirect taxes and subsidies.
Factor cost refers to the revenue price (or the price actually received by the producers). It does not
include the impact of indirect taxes and subsidies. It is equal to cost (or rewards) of factors of
production.
Factor Cost = Market Price Net Indirect Taxes + Subsidies.
Introductory Macroeconomics

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19. Domestic income is the sum total of factor incomes generated within the domestic territory of a country.
National income is the sum total of factor incomes earned by normal residents of a country during a
given year.
20. Net of exports refer to the difference between exports and imports during an accounting year.
Net factor income from abroad is the difference between the factor income earned by normal residents
of a country from abroad and the factor income earned by non-residents in our country.
21. Value addition refers to the excess of value of output over and above the value of intermediate
consumption.
22. Compensation of employees is the payments by employers, of wages and salaries to their employees in
cash and in kind and of contributions paid or imputed in respect of their employees to social security
schemes.
23. Factor incomes are the incomes received by the owners of factors of production for rendering their
factor services to the producers.
Transfer payments are one-sided payments (like charity and grants) which do not involve factor
services.
24. Mixed income of self-employed refers to the incomes of the self-employed persons using their own
labour, land, capital and entrepreneurship to produce goods and services.
25. Leakages are those savings and such expenditures which cause contraction in the process of production
in the economy.
Injections are those autonomous expenditures which cause an expansion in the process of production
in the economy.
26. Income from domestic product accruing to private sector is the excess of NDPFC over and above
income from domestic product accruing to the government sector.
27. Private income is the total income from all sources (factor income as well as current transfers) that
accrues to the private sector, during the period of one year.
Personal income is the income actually received by the individuals and households from all sources in
the form of the current transfer payments and factor income.
28. Personal disposable income is the personal income remaining with individuals and households after
deduction of all taxes levied against their income and their property as well as payment of
miscellaneous fees and fines.
29. Gross national disposable income refers to GDP at market price along with net current transfers from
rest of the world and net factor income from rest of the world.
Net National Disposable Income
= Gross National Disposable Income Current Replacement Cost.
30. Private factor income is the sum total of income from domestic product accruing to private sector and
net factor income from abroad.
31. Expected obsolescence means loss of value of fixed capital due to change in technique of production or
change in demand for goods and services, as expected by the producers during an accounting year.
Unexpected obsolescence means loss of value of fixed capital due to natural calamities like flood,
earthquake, fire, etc.
32. Change in stock refers to difference between closing stock and opening stock of the accounting year.
33. Double counting means counting the value of goods or services more than once during an accounting
year.
34. Non-factor or secondary inputs are those non-durable producer goods (and services) which are used by
the producers for purpose of value addition.

Introductory Macroeconomics

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35. The GNP deflator measures the average level of the prices of all the goods and services that make up
GNP.
36. Nominal income refers to national income measured at current prices.
Real income refers to national income measured at constant prices.
37. Operating surplus refers to income from property and entrepreneurship in the form of rent, interest
and profit.
38. Production boundary refers to the final stage of production process. Goods outside the production
boundary are treated as final goods, while those within the production boundary are treated as
intermediate goods.
39. Gross value added refers to value added by all the producing enterprises with in the domestic territory
of a country during an accounting year.
Value of output means market value of the goods and services produced during an accounting year.

QUESTION SET-II
1. No, it is a flow concept. Because it is related to a period of time.
2. No, it can be less than domestic income. National income is greater than domestic income only when
net factor income from abroad is positive.
3. No. National Income = Domestic Income + Net Factor Income from Abroad.
National income can be less than domestic income in case net factor income from abroad is a negative
number.
4. No. National income at market price = National income at factor cost + Net indirect taxes.
National income at market price can be less than national income at factor cost in case net indirect taxes
is a negative number.
5. No. Because remittances from abroad by the NRIs are transfer payments.
6. No. X M (Exports Imports) is equal to net exports. It has nothing to do with factor incomes.
7. Yes. Gross Investment = Net Investment + Depreciation.
Therefore, gross investment can occur even when net investment is zero.
8. Yes. National income is the sum total of factor incomes earned by normal residents of a country during
a given year. Domestic income is the sum total of factor incomes generated within the domestic territory
of a country.
9. Yes. Private income is the total income from all sources (factor income as well as current transfers) that
accrues to the private sector, during the period of one year.
10. Yes. Private Factor Income = Income from Domestic Product accruing to Private Sector + Net Factor
Income from Abroad.
11. No. Market price includes the impact of both indirect taxes and subsidies. Indirect taxes raise the
market price while subsidies lower it.
12. Yes. But only expected obsolescence is to be considered as a part of depreciation.
13. No. Population of a country is a stock concept because it is related to a point of time.
14. Yes. Net investment always implies increase in the stock of capital. Because it does not include
replacement investment.
15. No. Mixed income of the self-employed includes only factor incomes. Transfer payments are not
included.
16. No. Domestic income estimated in the context of a open economy as well.
17. No. Indian embassy in abroad is a part of domestic territory of India. Therefore, salaries to Indian
employees working in Indian embassies abroad are a part of domestic factor income.
18. No. It is a part of domestic factor income of India because non-resident companies are within the
domestic territory of India.
Introductory Macroeconomics

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19. No. Income in the form of old-age-pensions are a part of transfer payments. It is not a compensation for
work.
20. No. It is not a part of domestic income because financial transactions are not included in the estimation
of domestic income.

QUESTION SET-III
1. Yes. Because, national income is defined as the market value of the goods and services produced
during the period of one year.
2. Yes. Compensation of employees = Wages and salaries in cash + Payment in kind
+ Employers contribution to social security schemes + Pension on retirement.
3. No. Net factor income from abroad is the difference between the factor income earned by normal
residents of a country from abroad and the factor income earned by non-residents in our country. It
has nothing to do with exports and imports.
4. No. Final goods can finally be consumed by the households as well as by the producers.
5. No. Change in the stock of consumer goods also forms a part of capital formation.
6. No. The same good may be a final good or an intermediate good. It all depends on the end-use of the
goods. Example: Sugar is a final good when used by households. It is an intermediate good when used
by candy-makers.
7. No. Autonomous investment can change, though it is independent of the level of income.
8. No. Inventory investment is a flow concept because it is related to a period of time.
9. No. Only the value of final goods is included in the estimation of national income.
10. No. Imputed rent is included in the estimation of national income as a component of rent.
11. No. Brokerage paid to Real Estate Agents on the sale and purchase of new as well as second hand
houses should be included in the estimation of national income.
12. No. Net capital formation is the increase in the stock of physical capital. Whereas shares are a part of
financial capital only.
13. No. Income in the form of capital gains means income accruing to the individuals on account of
increase in prices of land, shares, bonds, etc. They do not add to the stock of physical capital.
14. Yes. Expenditure by all domestic institutional units on the net purchase of old physical assets from rest
of the word is a part of domestic capital formation. It adds to the stock of national capital.
15. Yes. Gross investment = Net investment + Depreciation. And, expected obsolescence is a part of
depreciation.
16. No. Double counting is avoided if GDP is estimated by summing up value added by all the producing
units in the country.
17. Yes. Only final goods and services are to be considered to avoid double counting in the estimation of
GDP. Because, final goods and services do not require further value-addition. These are outside the
boundary line of production.
18. No. Expenditure on the construction of residential buildings by the households is a part of investment
expenditure. Therefore, it should be treated as investment expenditure.
19. No. Change in stock as a part of investment expenditure is a component of aggregate expenditure in
the economy.
20. No. Net exports (exports imports) is a component of aggregate expenditure in the economy.

QUESTION SET-IV
1. net factor income from abroad.
2. net factor income from abroad.
Introductory Macroeconomics

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3. sales.
4. gross value added or gross domestic product at market price.
5. corporate savings corporate profit tax.
6. + net indirect taxes (indirect tax subsidy)
7. corporate saving corporate profit tax direct personal taxes miscellaneous fees and fines paid by
the households.
8. factor income to rest of the world.
9. NDPFC or domestic income.
10. depreciation
11.

(i) only final expenditure (or expenditure on final goods) is to be taken into account to avoid error of
double counting
(ii) expenditure on second hand goods is not to be included

12.

13.
14.
15.
16.
17.

18.
19.
20.
21.

(iii) expenditure on shares and bonds is not to be included.

(i) business fixed investment
(ii) investment on residential construction
(iii) government fixed investment.
(i) avoid double counting, by considering only the final goods
(ii) sale of second-hand goods should not be considered.
(i) income from transfer payments should not be included
(ii) income in terms of capital gains should not be included.
+ net indirect tax + current transfers from rest of the world.
direct personal taxes miscellaneous fees and fines paid by the households.
(i) normal wear and tear
(ii) normal rate of accidental damages
(iii) expected obsolescence.
(i) change in technology
(ii) change in demand.
(i) household consumption
(ii) household saving.
GDPFC.
+ gross domestic capital formation + net exports depreciation + net factor income from abroad.

HOTS (Higher Order Thinking Skills)

1. True. If depreciation reserve fund is not maintained, production capacity in the economy would tend
to reduce. Because depreciation reserve fund facilitates replacement investment (replacement of worn
out assets).
2. True. Personal income = Private factor income + Transfers payments to the private sector Corporate
saving Corporate profit tax.
3. False. Because social welfare depends not only on GDP, but also on the distribution of GDP across
different sections of the society.
4. False. In GDP we include expenditure by the resident household as well as expenditure by the
government. Example: Exports are a part of GDP, and it involves expenditure by the non-residents on
domestic product.
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5. False. Purchase of machinery from abroad is not part of intermediate consumption. Instead, it is a part
of gross domestic fixed capital formation.
6. True. Because it is assumed that loans by the government (related to public debt) are used for
consumption purpose only.
7. False. Net indirect taxes are equal to subsidies in case indirect taxes are zero.
8. False. When factor income from abroad is greater than factor income to abroad, national income
exceeds domestic income. Exports/imports have nothing to do with net factor income from abroad.
9. False. Social welfare depends on the composition of output as well. If goods are produced primarily for
richer sections of the society (oblivious to the interest of poorer sections of the society) social welfare is
bound to be low.
10. No. Exports are also a part of domestic product, and these are the goods sold in rest of the world (or
foreign markets).
11. False. Goods produced and used for self-consumption are included in the estimation of national
income. Because that goods are like those produced for the market and involve value-addition.

Introductory Macroeconomics

EconomicsXII

Worksheet2

Unit-2: Money and Banking

QUESTION SET-I
1. Money is something which is generally acceptable as a means of exchange and/or as a measure and
store of value.
Value of money refers to the amount of goods/services that a unit of money can buy.
2. Barter system is a system in which goods are exchanged for goods.
Monetary system is a system in which money serves as a medium of exchange.
3. Money supply refers to the total quantity or stock of money available in the economy at a point of time.
4. Full-bodied money is a money whose commodity value is equal to the face value.
Credit money is a money whose face value is more than commodity value.
5. Double coincidence of wants implies that goods in possession of two different individuals are needed by
each other at the same time.
6. High powered money means cash (coins and notes) with the people and cash reserves with the
commercial banks.
7. Discounting bills of exchange is a method through which a holder of a bill of exchange can get it
discounted by the bank.
8. Demand deposits refers to those deposits which can be withdrawn from the bank by the depositors on
demand by issuing a cheque.
Time deposits refers to those deposits which are kept with the bank for a fixed period of time.
9. Bank rate is the rate at which the central bank gives credit to the commercial banks.
Market rate of interest is the rate at which people borrow from the commercial banks.
10. Open market operations refer to the sale and purchase of securities in the market by the central bank.
11. Lender of last resort means that if a commercial bank fails to get financial accommodation from
anywhere it approaches the central bank as a last resort. Central bank advances loan to such a bank
against approved securities.
12. Repo rate refers to the interest rate at which the central banks offers short-term credit to the commercial
banks.
Reverse repo rate refers to the interest rate at which commercial banks can park their funds (short
period) with the central bank.
13. Credit creation refers to creation of credit through demand deposits by the commercial banks on the
basis of their cash reserves.
14. Cheap money policy refers to the situation when credit is easily available at a low rate of interest.
Dear money policy refers to the situation when credit is not easily available and therefore, it become
scarce and expensive.
15. CRR (cash reserve ratio) refers to the percentage of demand deposits which the commercial banks are
required to keep as cash reserves with the central bank.
Every bank is required to maintain a fixed percentage of its assets in the form of cash or other liquid
assets, called SLR (statutory liquidity ratio).
16. Margin requirement refers to the difference between the current value of the security offered for loans
and the value of loans granted.
17. Moral suasion refers to moral pressure exercised by the central bank on the commercial banks follow its
guidelines with regard to overall credit flow as well as credit flow across different sectors of the
economy.
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18. Quantitative credit control refers to controlling the flow of credit across all sectors in economy.
Qualitative credit control refers to controlling the flow of credit to specific sectors in the economy.
19. Face value of money refers to what is indicated on a note or a coin.
Intrinsic value of money refers to market value of the material which the money is made of.
20. Standard of deferred payments refers to the function of money which it performs as a standard for
future payments.

QUESTION SET-II
1. No. In case coins are made of gold and silver, intrinsic value of money may over time exceed its face
value.
2. No. Double coincidence of wants is a typical feature of barter system of exchange.
3. No. Credit money is money whose face value is more than its commodity value.
4. Yes. With the introduction of money, an individual can buy or sell a thing without selling or buying
anything in return.
5. No. Under barter system, goods themselves are the medium of exchange for goods. Of course, there is
no common medium of exchange like money.
6. Yes. Money serves as a measure of value in terms of unit of account and store of value in terms of store
of wealth.
7. Yes. Money serves as a convenient mode of transfer of value because of its general acceptability and the
merit of liquidity.
8. No. High powered money refers to currency with public and cash reserves with the commercial banks.
9. Yes. All financial institutions are not banking institutions but all banking institutions are financial
institutions. Example: LIC is a financial institution, but not a banking institution.
10. No. Commercial banks advance loans both for investment as well as consumption purposes.
11. Yes. The central bank is the sole authority of issuing notes in the country. However, by advancing loans
through credit creation, commercial banks contribute to money supply in the economy.
12. Yes. The central bank is an apex bank of all banks in the country.
13. Yes. A central bank advances loan to a bank who fails to get financial accommodation from anywhere
against approved securities.
14. No. CRR and SLR are fixed by the central bank of the country.
15. Yes. In order to increase or decrease money supply in the economy, central bank purchases or sells
securities in the open market.
16. No. Demand deposits are many times more than the cash deposits with the commercial banks. The
differential between the two explains how commercial banks create credit in the economy.
17. No. When CRR is raised, flow of credit is reduced in the economy.
18. No. CRR and SLR are complementary to each other.
19. Yes. It happens when intrinsic value of money exceeds its face value.
20. No. Money acts as a store of value even when it is not in the form of gold or silver coins. Example:
Deposits with the bank are a store of value.

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QUESTIONS SET-III
1. Yes. Demand deposits with the commercial banks are a part of M1 measure of money supply.
M1 = Currency + Demand Deposits + Other Deposits.
2. No. Money supply in the economy includes notes and coins with the people as well as demand deposits
with the banks.
3. No. Commercial banks contribute to the stock of money supply in the economy by way of credit
creation.
4. Yes. Because monetary system (unlike Barter system) does not require double coincidence of wants.
5. No. Loans offered by the commercial banks are a part of demand deposits by the commercial banks.
6. Yes. As a result of buying government securities, central bank withdraws cash balances from the
economy and the capacity of commercial banks to create credit is reduced.
7. Yes. When margins are raised, the difference between the market value of the security offered for loans
and value of loans granted becomes high. It is now expensive for the people to take loans from the
banks. Therefore, demand for loans reduces in the economy.
8. Yes. Increase or decrease in bank rate is often followed by increase or decrease in the market rate of
interest.
9. Yes. Because when intrinsic value exceeds face value of money ( as it often happened in case of gold and
silver coins), money is used as a commodity (implying metal content of money is sold as a commodity).
10. No. Higher bank rate implies lower credit creation capacity of the banks.
11. No. Central bank designs all instruments of monetary policy and also controls them.
12. No. The central bank controls the supply of credit in the economy.
13. Yes. The central bank is the sole issuing authority in the country. It has the exclusive right of
note-issuing.
14. Yes. Commercial banks offer facilities of deposits and mobilise savings of the people. This contributes to
capital formation.
15. Yes. There is a lack of common unit of exchange in barter system. Evolution of money offered a
common unit of exchange.
16. Yes. As a banker to the government, central bank keeps the accounts of all government banks and
manages government treasuries.
17. Yes. Central bank is the apex bank that controls the entire banking system of a country.
18. Yes. Overdraft is a facility by which banks advance loans to their clients for short-term.
19. Yes. Discounting bills of exchange is an important method of advancing loans by the commercial banks.
20. No. Central bank does not issue currency on the basis of CRR. The ratio CRR impacts credit creation
capacity of the commercial banks.

QUESTION SET-IV
1. (i) Cash reserves, and (ii) CRR.
2. decrease money supply in the economy.
3. increased.
4. Currency with Public + Demand Deposits + Other Deposits with the Reserve Bank.
5. M1 + Deposits with Post Office Saving Bank Account.
6. M1 + Net Time Deposits with the Commercial Banks.
7. M3 + Total Deposits with Post Offices (Other than National Saving Certificate.)
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(i) accepting deposits

(ii) advancing loans.

(i) purchase and sale of securities

(ii) locker facilities.

10.

(i) fixed or time deposit account

(ii) current or demand deposit account.

11.

(i) cash credit

(ii) overdraft
(iii) demand loans
(iv) short-term loans.

12. those loans which can be called back by the banks on demand.
13.

(i) issuing of notes

(ii) controller of credit
(iii) banker to the government
(iv) bankers bank.

14. gives loans to those commercial banks who fail to get financial accommodation from other sources.
15.

(i) bank rate

(ii) open market operations
(iii) cash reserve ratio
(iv) statutory liquidity ratio
(v) margin requirement.

16. decrease.
17. decrease.
18. decrease in money supply in the economy.
19. increased.
20. creation of credit (or adding to the flow of credit) by the commercial banks by way of demand deposits
several times more than their cash reserves.
1
21.
.
CRR

HOTS
1.

(i) Yes. If CRR is lowered credit creation capacity of the commercial banks is enhanced. Availability of
easy credit increases investment demand.
(ii) No. Bank rate is an instrument of quantitative credit control.
(iii) Yes. Because high powered money includes currency with the public as well as cash reserves with
the banks. It serves as the basis of credit-creation by the commercial banks.
(iv) Yes. According to broader concept of money supply,
M3 = M1 + Net Time Deposits (or term deposits or fixed deposits) with the commercial banks.
(v) No. Commercial banks do not create credit only on the advice of government. However, their
capacity to create credit depends on credit policy of the central bank of the country.

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2. Credit creation is an important function of the commercial banks. By creating credit commercial banks
contribute to money supply in the economy. Credit creation capacity of the commercial banks depends
on their cash reserves and cash reserve ratio. Commercial banks create credit several times more than
their cash reserves. Credit creation occurs in the form of demand deposits. Ratio between demand
deposits and cash reserves of the commercial banks is called credit-multiplier. It is also estimated as the
reciprocal of CRR (cash reserve ratio). Thus,
1
Credit multiplier =
CRR
Assuming cash reserve ratio of 10 per cent, if commercial banks received demand deposits of ` 1,000,
total credit creation in the economy will be:
1
=
Demand Deposits
CRR
1
=
1,000 = ` 10,000
10%
That is after keeping cash reserve ratio of 10 per cent, of ` 1,000, the commercial bank can offer loan up
to ` 10,000. Loans are reflected as demand deposits in the accounts of the borrowers. Accordingly,
deposits of the banks are 10 times their cash reserves.

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Worksheet3

Unit-3: Determination of Income

and Employment

QUESTION SET-I
1. Aggregate demand refers to the sum total of demand for all goods and services during the period of an
accounting year.
2. Aggregate supply refers to the flow of goods and services in the economy during an accounting year.
3. Aggregate effective demand refers to that level of aggregate demand where AD = AS.
4. Consumption function refers to the functional relationship between consumption and income.
5. Saving function refers to the functional relationship between saving and income.
6. Average propensity to consume is the ratio of aggregate consumption expenditure to aggregate
income.
Marginal propensity to consume is the ratio of change in consumption to change in income.
7. Average propensity to save is the ratio of aggregate saving to aggregate income.
Marginal propensity to save is the ratio of change in saving to change in income.
8. Ex-ante equality between S and I implies that planned (or desired) saving is exactly equal to planned
investment in the economy. Equilibrium is struck what ex-ante S = ex-ante I.

9.
10.
11.
12.

13.

14.
15.

16.

17.

Ex-post equality between S and I refers to equality between actual saving and actual investment in the
economy. It is an accounting identity.
Marginal efficiency of capital refers to the rate of expected returns from an additional investment in the
economy.
Output/Investment multiplier is the ratio of a change in output/income to a given change in
investment.
Equilibrium level of income and output is that level of income and output where
AS = AD.
Excess demand refers to the situation when aggregate demand is in excess of aggregate supply
corresponding to full employment in an economy.
Inflationary gap is the excess of aggregate demand over and above its level required to maintain full
employment equilibrium in the economy.
Deficient demand refers to a situation when aggregate demand (AD) is short of aggregate supply (AS)
corresponding to full employment in an economy.
Deflationary gap is the deficiency of AD required to maintain full employment equilibrium in the
economy.
Consumption at zero level of income is known as autonomous consumption.
Full employment equilibrium refers to the situation where aggregate demand = aggregate supply and
all those who are able to work and willing to work (at the existing wage rate) get work.
Underemployment equilibrium refers to the situation where AD = AS even when there is some
unemployment in the economy.
Voluntary unemployment is a situation in which a worker is not willing to work at the current rate of
wages.
Involuntary unemployment is a situation in which a worker is willing to work at current rate of wages
but does not get work.
Monetary policy refers to that policy of the government which combats the situations of excess and
deficient demand by regulating interest rate and availability of credit in the economy.

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Fiscal policy refers to revenue and expenditure policy of the government to combat the situations of
excess and deficient demand.
18. Psychological law of consumption states that when income increases consumption also increases but
increase in consumption lags behind the increase in income.
19. Investment demand function is the functional relationship between rate of interest and investment
demand.
20. Equilibrium beyond full employment occurs when AD = AS, and the level of AD is beyond full employment
in the economy. Since full employment is already reached there is no increase in real output to cope with
higher level of AD. Only the monetary value of output (or market value of output) matches with AD
(beyond full employment).

QUESTION SET-II
1. No. Consumption can be greater than income. There is always some minimum level of consumption
even when income is zero.
2. No. Saving can be negative when consumption is greater than income. Negative saving amounts to
borrowing.
3. No. Average propensity to consume can be greater than one when consumption is greater than income.
4. No. APC and MPC can be equal. When APC is constant, APC will be equal to MPC.
5. Yes. We know that,
Y=C+S
Y C S
(Dividing both sides by Y)
= +
Y Y Y
C S
1= +
Y Y

APC + APS = 1.

6. No. MPC + MPS = 1.

7. Yes. Because, expost investment includes undesired/unwanted change in stock while ex-ante
investment does not.
8. Yes. Equilibrium beyond full employment does not cause increase in output beyond full employment
because economy is already in the state of full capacity production. Only the market value of output
tends to rise.
9. Yes. In the situation of underemployment equilibrium, AD fails to cope with full employment of the
factors. Implying the existence of excess capacity in the economy.
10. Yes. Equilibrium GDP is achieved where AS = AD or desired AS = desired AD.
11. Yes. In the Keynesian model of equilibrium GDP, AS is assumed to be perfectly elastic, implying that AS
converges with AD at all levels of AD without causing any increase in the price level in the economy.
12. Yes. Increase in output beyond underemployment equilibrium does not cause inflationary gap because
excess capacity exists in the economy and AS catches up with AD at the existing price level.
13. No. When AS = AD, S necessarily be equal to I.
14. Yes. When planned S > planned I, some output would remain unsold and producers will have
undesired stock of goods.
15. Yes. The rate at which consumption increases is often less than the rate at which income increases. This
is in accordance with the Psychological Law of Consumption.
16. No. Because a part of increased income is also spend on consumption.
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17. Yes. In the context of equilibrium GDP, Keynes considers only autonomous investment which is
independent of the level of income.
18. Yes. In the situation of inflationary gap, excess demand implies pressure of demand on the existing
resources. Consequently, cost of production rises causing a rise in the general price level.
19. Yes. There is a direct relationship between MPC and value of investment multiplier. Higher the value
of MPC, higher the multiplier and vice versa.
20. No. According to Keynes, saving causes a leakage in the circular flow of income. Higher saving implies
lower consumption which reduces the inducement to invest.

QUESTION SET-III
1. Yes. Under deflationary gap or deficient demand, underemployment equilibrium occurs at a point
where level of AD is less than that of full employment. Since AS is assumed to be perfectly elastic, it
adapts itself to the low level of AD.
2. Yes. In the situation of inflationary gap, output remains constant and pressure of demand on the
existing output causes rise in prices. Due to this AD ultimately comes down to full employment level of
AS.
3. Yes. Equilibrium GDP must be struck on the 45o line because it is only on this line that AD = AS.
4. Yes. Inflationary gap or excess demand can be combated by reducing autonomous investment
expenditure because investment is a component of AD.
5. Yes. Deflationary gap can be corrected by increasing the level of AD. Because it is the deficiency of AD
that causes deflationary gap.
6. No. Bank rate should be increased in a situation of inflationary gap in order to lower money supply in
the economy. Implying that AD should reduce.
7. No. CRR should be lowered to combat deflationary gap. This raises capacity of the commercial banks to
create credit in the economy. Thus, AD tends to rise.
8. No. SLR should be lowered. This raises capacity of the commercial banks to create credit in the
economy. Thus, AD tends to rise.
9. No. When inflationary gap is combated, the economy is brought back to its full employment level.
Hence no question of decrease in employment.
10. Yes. Because deflationary gap causes a fall in the level of employment. When deflationary gap is
combated, there is rise in the employment level in the economy.
11. Yes. Multiplier process assumes the existence of excess capacity in the economy.

1
1
K= 1 MPC = 1 0 = 1

12. No. When MPC = 0, multiplier (K) = 1.

13. No. In response to increase in AD, output increases only till full employment equilibrium is struck in
the economy.
14. No. A tax on the households only reduces their disposable income.
15. Yes. APC + APS = 1, even when APC > 1. Because consumption and saving are the only two
components of income.
16. No. By raising the level of investment, the government intends to increase the level of AD in the
economy.
17. Yes. Equilibrium GDP is attained when actual stocks = desired stocks. It implies that the producers do
not suffer the burden of unwanted stock or the loss of unfulfilled demand.

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18. Yes. Equilibrium GDP is achieved when S= I since S refers to withdrawals from the circular flow and I
refers to injections into circular flow, it implies that at a point of equilibrium injections = withdrawals.
19. No. GDP level is lower corresponding to underemployment equilibrium compared with full
employment equilibrium.
20. No. Output remains constant even beyond full employment equilibrium. It is equal to output of full
employment equilibrium. Because, full employment equilibrium output is the maximum output.

QUESTION SET-IV
1. minimum level of consumption, even when Y=0.
2. negative saving when Y = 0 and there is some minimum level of consumption in the economy.
3. one.
4. a horizontal straight line parallel to X-axis.
5. investment multiplier.
6. value of investment multiplier.
7. S (change in saving).
8. C (change in consumption).
9. one.
10. one.
11. MPS.
12. there is excess of AD over and above its level required to maintain full employment equilibrium in the
economy.
13. AD is in excess of its full employment level.
14. AD = AS.
15. actual stocks > desired stocks.
16. actual stocks < desired stocks.
17. (i) rise in bank rate
(ii) rise in CRR
(iii) rise in SLR.
18.

(i) rise in government expenditure.

(ii) cut in taxation (so that disposable income rises)
(iii) a cut in public borrowing so that liquidity is not reduced in the economy.

19. tends to rise.

20. tends to be lower than at full employment.

HOTS
1. True. When I < S, producers will have undesired stock. In order to clear their stock, the producers
would like to produce less output implying AS tends to contract.
2. True. When I > S, producers would plan to produce higher output to cope with higher demand.
However, output/income level will rise only upto the point of full employment.
3. False. Because autonomous consumption is not related to the level of Y.
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4. True. Because MPC shows the rate at which consumption increases in response to increase in Y. Or,
MPC is the slope of C-function.
5. True. Perfectly elastic AS implies that whenever AS is greater than or less than AD, it is AS that adjusts
itself to AD to restore the equilibrium.
6. False. Constant APC only implies that the ratio C/Y is constant.
7. False. It depends on the value of MPC. Constant increase in I will cause constant increase in Y only if
MPC is constant.
8. False. Saving is a vice as well. Increasing S causes a cut in consumption expenditure. Implying a cut in
AD. Accordingly, economy may be driven to a state of underemployment equilibrium.
9. False. Even in a state of full employment, there is some minimum level of the employment, called
natural unemployment.
10. False. Because in a situation of underemployment, the economy is caught in a low level equilibrium
trap.

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Worksheet4

Unit-4: Government Budget and The Economy

QUESTION SET-I
1. A government budget is a statement showing estimated receipts and expenditure of the government
during a fiscal year.
2. Revenue receipts are those receipts which do not either create a liability or cause a reduction in assets.
3. Capital receipts are the receipts which either create a liability or causes a reduction in assets.
4. Revenue expenditure is that expenditure which does not cause increase in assets or decrease in liability.
5. Capital expenditure is an expenditure which causes increase in assets or reduction in liabilities.
6. Revenue budget is the statement of estimated revenue receipts and estimated revenue expenditure
during a fiscal year.
Capital budget is the statement of estimated capital receipts and estimated capital expenditure during a
fiscal year.
7. Tax revenue receipts are receipts from all types of direct and indirect taxes, like income tax,
corporation tax, wealth tax, sales tax, excise duty, etc.
Non-tax revenue receipts are receipts from interest, dividend, profit, external grants etc.
8. Fiscal deficit is equal to the excess of total expenditure over the sum of revenue receipts and capital
receipts excluding borrowing.
9. Revenue deficit is equal to the excess of total revenue expenditure over the total revenue receipts.
10. Primary deficit is equal to fiscal deficit reduced by interest payments.
11. Direct tax is a tax levied on income and wealth and its final burden cannot be shifted on to others.
Indirect tax is a tax levied on goods and services and its final burden can be shifted on to others.
12. Progressive tax is a tax that causes relatively less real burden on the poor and more on the rich.
Regressive tax is a tax that causes relatively more real burden on the poor and less on the rich.
13. Plan expenditure is the expenditure to be incurred during the year in accordance with the plan for the
year.
Non-plan expenditure is the expenditure other than the plan expenditure during the year.
14. Development expenditure is the expenditure on activities which are directly related to economic and
social development like, education and health.
Non-development expenditure is the expenditure on essential general services of the government, like
law and order.
15. Deficit financing refers to the financing mechanism of the government to cover the gap between
expenditure and receipts.

QUESTION SET-II
1. No. Balanced budget is that budget in which total expenditure = total receipts.
2. No. Government budget is a statement of expected receipts and expenditure of the government during
a fiscal year.
3. No. Expenditure on law and order is a component of non-development expenditure because it does
not directly add to the flow of goods and services in the economy.
4. No. Non-plan expenditure does not contributes to economic growth because it is not incurred in
accordance with planned development programmes of the country.
5. Yes. Because fiscal deficit is equal to total borrowing by the government.
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6. No. Revenue deficit is the excess of revenue expenditure over revenue receipts.
7. Yes. Primary deficit is the difference between fiscal deficit and interest payment.
8. Yes. Revenue receipts are those receipts who do not cause reduction in assets or increase in liability for
the government.
9. No. Revenue expenditure is that expenditure of the government which does not cause increase in
assets or a reduction in liabilities.
10. Yes. Capital receipts are those receipts which cause a reduction in assets of the government.
11. No. If incurred on the creation of assets (like construction of government buildings) capital
expenditure increases capital stock of the government.
12. No. Borrowing by the government is a component of capital budget. Because, it increases liability of the
government.
13. Yes. Disinvestment causes reduction in assets of the government. Therefore, it is a capital receipt of the
government.
14. No. Disinvestment raises receipts of the government.
15. No. Recovery of loan by the government is a component of capital budget. Because, it reduces assets of
the government.

QUESTION SET-III
1. No. Borrowing by the government is not a measure of revenue deficit. It is a measure of fiscal deficit.
2. No. Tax is a revenue receipt of the government. It does not impact asset/liability status of the
government.
3. Yes. Because repayment of loan causes reduction in liabilities of the government. Therefore, it is a
capital expenditure.
4. No. Sales tax is an indirect tax because its burden can be shifted on to other persons.
5. No. A regressive tax, by definition, causes a greater real burden on the poor.
6. No. Income tax in India is progressive in nature. Because tax rate increases with increase in income.
7. Yes. Because loans offered by the central government to state government create assets for the central
government.
8. No. Payment of interest is a revenue expenditure because it does impact asset/liability status of the
government.
9. Yes. Subsidies are treated as revenue expenditure of the government, because subsidies do not impact
asset/liability status of the government.
10. Yes. All grants, as a matter of convention are treated as revenue expenditure of the government.
11. No. Construction of fly-over is a capital expenditure of the government because it adds to assets of the
government.
12. No. Primary deficit is equal to fiscal deficit reduced by interest payments.
13. Revision of salary structure enhances revenue expenditure of the government. If other things are
constant (implying that interest payment by the government is also constant), increase in fiscal deficit
should also be reflected as increase in primary deficit (Fiscal deficit Interest payment = Primary
deficit).
14. No. Primary deficit is only a part of fiscal deficit.
Fiscal deficit = Primary deficit + Interest payment.
15. No. Because fiscal deficit also depends on capital receipts and expenditures of the government.
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QUESTION SET-IV
1. these do not impact asset/liability status of the government.
2. it creates liability for the government.
3. reduced.
4.

(i) income tax

(ii) wealth tax.

(i) interest
(ii) dividend.

(i) recovery of loans

(ii) borrowing
(iii) receipts through disinvestment

(i) taxes
(ii) interest.

(i) expenditure on tax collection

(ii) expenditure on defence.

9. it do not create a liability or lead to reduction in assets of the government.

10. it reflects borrowings by the government. It compounds liability for the future generations.
11.

(i) decreasing government expenditure

(ii) increasing government receipts.

12.

(i) redistribution of income and wealth

(ii) reallocation of resources
(iii) economic stability
(iv) managing public enterprises.

HOTS (Higher Order Thinking Skills)

(i) False. Because revenue budget shows revenue receipts and revenue expenditure while capital
budget shows capital receipts and capital expenditure.
(ii) False. Government budget is a statement of estimated receipts and expenditure of the government
for the fiscal year which is to begin.
(iii) False. Budgetary deficit reflecting borrowing by the government may in fact be a part of designed
strategy of the government to accelerate the pace of growth or to achieve macro stability in the
economy.
(iv) False. Revenue deficit is the excess of revenue expenditure over revenue receipts. While the
recovery of loans by the government is a capital receipt.
(v) False. Balanced budget is not always the best budget because it is not conducive to growth and
development programmes of less developed country.

2. Following points highlight the importance of the government budget:

(i) It reflects the fiscal policy, that is, the expenditure and receipts of the government. It is a part of overall
economic and social policy of the government.
(ii) It shows how much and on what items government is going to spend during the year.
(iii) It shows how the government is going to get money (mainly out of taxation) to finance its
expenditure.
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3. Free play of market forces (or the forces of supply and demand) are bound to generate trade cycles, also
called business cycles. These refer to the phases of recession, depression, recovery and boom in the
economy. The government of a country is always committed to protect the economy from business
cycles. Budget is used as an important policy instrument to combat the situations of deflation and
inflation. By doing it, the government tries to achieve economic stability. Economic stability stimulates
the inducement to invest and increases the rate of growth and development.

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Worksheet5

Unit-5: Exchange Rate and Balance of Payment

QUESTION SET-I
1. Exchange rate is the rate at which one currency can be exchanged for the other currency in the
international foreign exchange market.
Equilibrium exchange rate occurs where supply of and demand for foreign exchange are equal to each
other.
2. Fixed rate of exchange is a rate fixed and determined by the government of a country and the
government alone changes it.
Flexible rate of exchange is that rate which is determined by the demand for and supply of different
currencies in the foreign exchange market.
3. Spot market in foreign exchange is that market which covers sale and purchase of foreign exchange of
the daily nature.
Forward market in foreign exchange refers to that market which covers sale and purchase of foreign
exchange for future delivery.
4. Visible items include all commodities of exports and imports.
Invisible items refer to all types of services which are rendered to rest of the world as exports or
received from the rest of the world as imports.
5. Balance of trade is defined as the difference between the value of imports and exports of only physical
goods or visible items.
Balance of payments refers to the statement of accounts recording all economic transactions of a
country with rest of the world in one year.
6. Current account balance of payments is that account which records imports and exports of goods and
services and unilateral transfers.
Capital account balance of payments is that account which records all such transactions which cause a
change in the asset or liability status of the residents of a country or of its government.
7. Autonomous items of balance of payments are related to those transactions which are determined by
considerations of profit.
Accommodating items of balance of payments are not determined by considerations of profit. These
items are meant to restore BoP identity.
8. When the payments (debit) of the country are less than its receipts (credit), the BoP is said to be in surplus.
When the payments (debit) of the country are more than its receipts (credit), then it is called deficit BoP.
9. When value of a domestic currency increases in relation to value of foreign currency, it is known as
appreciation of domestic currency.
When value of a domestic currency decreases in relation to value of foreign currency, it is known as
depreciation of domestic currency.
10. Parity value refers to the value of one currency in terms of the other for a given basket of goods and services.
11. Balance of trade on current account refers to the balance occurring on account of export and import of
visible items.
Balance of payments on current account refers to the balance occurring on account of export and
import of visible and invisible items as well as unilateral transfers.
12. Disequilibrium in balance of payments refers to a situation of either a surplus or a deficit in the BoP
account.
13. Managed floating is a system that allows adjustments in exchange rate according to a set of rules and
regulations which are officially declared in the foreign exchange market.
Introductory Macroeconomics

EconomicsXII

QUESTION SET-II
1. Yes. But, it is only in the accounting sense that balance of payments always balances. Thus, loans from
rest of the world may be a balancing item, but certainly it is a liability of the government.
2. No. Fixed rate of exchange is not determined by the forces of demand and supply in the international
money market. Instead, it is fixed or declared officially by the government of a country.
3. No. Current account balance of payments includes export and import of goods and services, i.e., it
includes value of export and import of both visible and invisible items.
4. No. Autonomous items are not meant to restore equilibrium in BoP. These are determined entirely by
considerations of profit.
5. No. Speculative purchases by the domestic investors in the international money market only cause
demand for foreign exchange.
6. Yes. The rising demand for foreign goods implies greater imports and hence higher demand for
foreign exchange.
7. No. Flexible exchange rate is determined by the forces of supply and demand in the international
market.
8. No. Forward market in foreign exchange is that market which deals with sale and purchase of foreign
exchange for future delivery.
9. No. Parity value refers to the value of one currency in terms of the other for a given basket of goods and
services.
10. No. Borrowing and lending in the international money market is a part of capital account balance of
payments.

QUESTION SET-III
1. No. Because balance of trade is only a part of balance of payments current account.
2. No. In case of appreciation, the value of domestic currency increases in relation to the value of other
currency and hence less rupees are to be paid for a US$.
3. No. Because current account balance depends on:
(i) export and import of goods
(ii) export and import of services
(iii) unilateral transfers from one country to another.
4. No. Foreign direct investment is a component of capital account balance of payments.
5. No. Balance of payments is not balanced through unilateral transfers. These transfers are only a
component of current account BoP.
6. No. Above the line items in balance of payments refer to autonomous items only.
7. No. Below the line items in balance of payments are not undertaken with a view to maximising profits.
These are meant to restore balance of payments identity.
8. Yes. Transfers to rest of the world is recorded as negative item and therefore reflected in the debit side
of balance of payments on current account. This is because it involves the payment of foreign exchange
to rest of the world.
9. No. Compensation of employees from rest of the world is a credit component of balance of payments on
current account.
10. No. Foreign private loans are included in the capital account of balance of payments.
Introductory Macroeconomics

EconomicsXII

QUESTION SET-IV
1. debit item of capital account balance of payments.
2. unfavourable balance of payments.
3. credit item of capital account balance of payments.
4. current account balance of payments.
5.

(i) export and import of visible items

(ii) export and import of invisible items
(iii) transfers
(iv) investment income
(v) compensation of employees.

(i) private foreign loan flow

(ii) movement in banking capital
(iii) official capital transaction
(iv) reserves, monetary gold and SDRs
(v) gold movement
(vi) miscellaneous.

(i) export and import of banking services

(ii) expenditure by tourists.

(i) it ensures stability in the international money market and promotes mobility of capital
(ii) it encourages international trade
(iii) it helps formulation of macroeconomic policies and promotes bilateral trade agreements
(iv) it avoids speculation in the international money market.

(i) gold reserves not required

(ii) international mobility of capital is promoted
(iii) venture capital is encouraged
(iv) optimum resource allocation is achieved.

10. spot market deals with current sale and purchase of foreign exchange while forward market deals with
such transactions which cover sale and purchase of foreign exchange for future delivery.
11.

(i) payments of international loans

(ii) gifts and grants to rest of the world
(iii) investment in rest of the world.
(iv) direct purchases abroad as well as imports from rest of the world.

12.

(i) purchases of domestic goods by the foreigners

(ii) direct foreign investment as well as portfolio investment by the foreigners
(iii) speculative purchases of foreign exchange
(iv) transfer of foreign exchange by the residents of the country settled abroad.

13.

(i) transfer function

(ii) credit function
(iii) hedging function.

Introductory Macroeconomics

EconomicsXII

14. transfer of purchasing power in terms of foreign exchange across different countries of the world.
15. provision of credit in terms of foreign exchange for international trade.
16. protection against risk related to variations in foreign exchange rate.
17. payments of foreign exchange are not equal to receipts of foreign exchange.
18.

(i) large scale development expenditure

(ii) business cycles
(iii) high inflation rate
(iv) development of import substitutes
(v) change in cost structure of trading partners.

19. political instability in the country.

20. change in tastes and preferences across different parts of the world.

HOTS (Higher Order Thinking Skills)

(i) False. Because surplus in capital account balance of payments may have been achieved
through loans which are a financial obligation to rest of the world.
(ii) False. Because greater flow of foreign exchange may be occurring on account of borrowings from rest
of the world.
(iii) True. Unfavourable balance of payments occur when there is high demand for foreign exchange
on account of factors like high imports.
(iv) True. Because, venture capital assumes the existence of uncertainties of exchange rate in the
international money market, as caused by supply and demand forces.
(v) True. Fixed exchange rate system is always supported with huge international reserves, so that
stability of the exchange rate is not challenged in the international money market.

2. Unfavourable balance of payments occurs when receipts are less than payments of foreign exchange on
account of factors other than borrowings from rest of the world. Unfavourable balance of payments
status of a country like India shows greater financial obligations to rest of the world. It also reflects low
forex reserves of the country. This enhances our vulnerability in the international market. Our
currency suffers depreciation in the international money market. Implying that the foreigners can buy
more goods from the Indian markets for (say) a dollar of US currency. This may increase pressure on
domestic supplies and trigger inflation. On the other hand, we need more foreign exchange to cope
with our mounting development imports. Ultimately, we may be driven into a debt trap. Thus, we
should be cautious in maintaining deficit within manageable limits.

Introductory Macroeconomics

EconomicsXII

CBSE Question Papers2011

(Delhi, All India & Foreign)
Introductory Macroeconomics

QUESTION PAPERS2011
INTRODUCTORY MACROECONOMICS
1 MARK QUESTIONS
1. What is nominal gross domestic product?
Ans. Nominal gross domestic product refers to GDP estimated at current prices during the year of
estimation.
2. Define flow variables.
Ans. A flow variable is a quantity measured per unit of time period. Example: Consumption in the economy
during the period of one year.
3. Define cash reserve ratio.
Ans. Cash reserve ratio is the minimum percentage of a banks total demand deposits which the banks are
required to keep as reserves with the central bank.
4. Define money supply.
Ans. Money supply refers to the total quantity or stock of money available in the economy at a point of time.
5. Define foreign exchange rate.
Ans. The rate at which one currency exchanges for the other currency in the international money market is
known as foreign exchange rate.
6. What are stock variables?
Ans. Stock variables are those variables which are measured at a point of time. Example: Savings in the
bank accounts.
7. Define depreciation.
Ans. Depreciation is the loss of the value of fixed assets (in use) on account of their normal wear and tear.
8. Define Statutory Liquidity Ratio.
Or
Define legal reserve ratio.
Ans. Every bank is required to maintain a fixed percentage of its assets in the form of cash or other liquid
assets, called statutory liquidity ratio.
9. Define money.
Ans. Money refers to a thing (like notes and coins) which is generally accepted as a medium of exchange.
10. What is foreign exchange?
Ans. Foreign exchange refers to demand and supply of the currencies of other countries in the domestic
economy.
11. Define capital goods.
Ans. Capital goods are fixed assets of the producers which are repeatedly used in the production of other
goods and services.
12. Define real gross domestic product.
Ans. Real gross domestic product refers to GDP, estimated at constant prices or prices prevailing during the
base year (defined as the year of comparison).

Introductory Macroeconomics

EconomicsXII

13. What are demand deposits?

Ans. Demand deposits of commercial banks are those deposits which can be withdrawn from the bank on
demand or by writing a cheque any time.
14. What is balance of payments?
Ans. Balance of payments refers to the statement of accounts recording all economic transactions of a
country with rest of the world in an accounting year.

3 MARKS QUESTIONS
1. State the components of capital account of balance of payments.
Ans. Main components of capital account of balance of payments are as follows:
(i) Foreign Investment: It includes FDI (Foreign Direct Investment) and portfolio investment.
Investment by our residents in rest of the world is recorded under debit items, while investment
by non-residents in our country is recorded under credit items in current account BoP.
(ii) Loans: These include external assistance and commercial borrowings. Assistance and loans
offered to rest of the world are recorded under debit items while assistance and loans received
are recorded under credit items in capital account BoP.
(iii) Changes in Reserve of Gold and Foreign Exchange: Foreign currency assets of the government,
gold reserves of the Central Bank, and similar capital receipts, are included under credit items
and the corresponding payments under debit items.
2. Explain how distribution of gross domestic product is a limitation in taking gross domestic
product as an index of welfare.
Ans. Increase in gross domestic product (GDP) is often taken as a measure of economic welfare. This is
because increase in GDP implies increased flow of goods and services in the economy. However,
distribution of GDP acts as a limitation in this context. If with every increase in the level of GDP,
distribution of GDP is getting more unequal, welfare level of the society may not rise. Only fewer
people tend to benefit from a larger share of the cake. The gulf between haves and have-nots may
increase. The bulk of the population may have even lesser goods than before even when the overall
level of GDP has tended to rise.
3. Given that national income is ` 80 crore and consumption expenditure ` 64 crore, find out average
propensity to save. When income rises to ` 100 crore and consumption expenditure to ` 78 crore,
what will be the average propensity to consume and the marginal propensity to consume?
Ans. Given,

national income (Y) = ` 80 crore

Consumption expenditure (C) = ` 64 crore
Saving (S) = Y C
= ` 80 crore ` 64 crore

= ` 16 crore
S
Average Propensity to Save (APS) =
Y
16
=
= 0.2
80
Increased income (Y1) = ` 100 crore
Increased consumption expenditure (C1) = ` 78 crore
Change in income (Y) = ` 100 crore ` 80 crore
= ` 20 crore

Introductory Macroeconomics

EconomicsXII

Change in consumption expenditure (C)

= ` 78 crore ` 64 crore
= ` 14 crore
C
78
Average Propensity to Consume (APC) = 1 =
= 0.78
Y1 100
Marginal Propensity to Consume (MPC) =

C 14
=
= 0.7
Y 20

APS = 0.2.
APC = 0.78.
MPC = 0.7.
4. Explain the relationship between investment multiplier and marginal propensity to consume.
Ans. There is direct relationship between investment multiplier and marginal propensity to consume.
Higher the marginal propensity to consume, greater is the size of multiplier. On the contrary, lower
the marginal propensity to consume, smaller is the size of multiplier. In fact, the value of multiplier is
determined by the value of marginal propensity to consume. i.e.,
1
K=
1 MPC
Where, K = Multiplier and MPC = Marginal propensity to consume.
5. When price of a foreign currency rises, its demand falls. Explain why.
Or
When price of a foreign currency rises, its supply also rises. Explain why.
Ans. When price of a foreign currency rises, its demand falls, owing to the following reasons:
(i) Indian players in the international market will now buy less of foreign currency, because now it is
available at a higher price. Thus, the demand falls.
(ii) Now, imports become dearer than before. Accordingly, imports tend to fall, implying a fall in the
demand for foreign currency.
(iii) Travelling abroad now becomes dearer. Accordingly, demand for the foreign currency falls.
Or
Rise in the price of a foreign currency causes a rise in its supply, owing to the following reasons:
(i) Now domestic currency becomes cheaper in relation to the foreign currency. Accordingly, foreign
investors will make larger investment in the domestic economy. Implying, a rise in the supply of
foreign currency.
(ii) Now domestic exporters will get an opportunity to increase their exports, because domestic goods
become cheaper in relation to foreign goods (Example: if US $ becomes expensive, it can buy
more goods in the Indian market). Accordingly, supply of foreign currency (or flow of foreign
currency into our economy) will tend to rise.
(iii) Rise in the price of a foreign currency (say US $) would mean more Indian rupees per US dollar.
Accordingly, NRIs would make greater transfers to their home country. Implying, a rise in the
flow of foreign currency into the domestic economy.
6. State the components of current account of balance of payments.
Or
List the transactions of current account of the balance of payments account.
Or
What are the components of the current account of the balance of payments account?
Introductory Macroeconomics

EconomicsXII

Ans. The components of current account of balance of payments are includes:

(i) Merchandise (referring to export and import of goods).
(ii) Invisibles, including:
(a) Services (such as of shipping and tourism).
(b) Transfers (unilateral payments such as gifts and donations).
(c) Investment income (such as interest and dividend income).
(d) Compensation of employees (wages and salaries).
7. If national income is ` 50 crore and saving ` 5 crore, find out average propensity to consume. When
income rises to ` 60 crore and saving to ` 9 crore, what will be the average propensity to consume
and the marginal propensity to save?
Ans. Given, national income (Y) = ` 50 crore.
Saving (S) = ` 5 crore.
Consumption (C) = Y S
= ` 50 crore ` 5 crore
= ` 45 crore
C 45
Average Propensity to Consume (APC)= =
= 0.9
Y 50
Increased income (Y1)= ` 60 crore
Increased saving (S1)= ` 9 crore
New consumption (C1)= ` 60 crore ` 9 crore = ` 51 crore
C
51
Average Propensity to Consume (APC)= 1 =
= 0.85
60
Y1
Change in income (Y)= ` 60 crore ` 50 crore
= ` 10 crore
Change in saving (S)

= ` 9 crore ` 5 crore
= ` 4 crore

Marginal Propensity to Save (MPS)=

S
4
=
= 0.4
Y 10

APC = 0.9.
New APC = 0.85.
MPS = 0.4.
8. What does balance of payments account show? Name the two parts of the balance of payments
account.
Ans. Balance of payments refers to the statement of accounts recording all economic transactions of a
country with rest of the world. Each country enters into economic transactions with other countries of the
world. As a result of such transactions, it receives payments from and makes payments to other
countries. The balance of payments is a statement of accounts of these receipts and payments.
Two parts of the balance of payments account are:
(i) Current account of balance of payments.
(ii) Capital account of balance of payments.
9. If national income is ` 90 crore and consumption expenditure ` 81 crore, find out average
propensity to save. When income rises to ` 100 crore and consumption expenditure to ` 88 crore,
what will be the marginal propensity to consume and marginal propensity to save?
Introductory Macroeconomics

EconomicsXII

Ans. Given, national income (Y) = ` 90 crore.

Consumption expenditure (C) = ` 81 crore.
Saving (S) = Y C
= ` 90 crore ` 81 crore
= ` 9 crore
Average Propensity of Save (APS) =
=

S
Y

9
= 0.1
90

Increased income (Y1)= ` 100 crore

Increased consumption expenditure (C1)= ` 88 crore

Increased saving (S1)= ` 100 crore ` 88 crore = ` 12 crore

Change in income (Y)= ` 100 crore ` 90 crore = ` 10 crore
Change in consumption expenditure (C)= ` 88 crore ` 81 crore = ` 7 crore
Change in saving (S)= ` 12 crore ` 9 crore = ` 3 crore
C
7
Marginal Propensity to Consume (MPC)=
=
= 0.7
Y 10
S
3
Marginal Propensity to Save (MPS)=
=
= 0.3
Y 10
APS = 0.1.
MPC = 0.7.
MPS = 0.3.
10. Which transactions determine the balance of trade? When is balance of trade in surplus?
Ans. Export and import of goods or visible items determine the balance of trade. Visible items include all
commodities of export and import.
Balance of trade is the difference between the value of exports and value of imports of only the visible
items. Surplus in balance of trade occurs when
Exports of goods > Imports of goods.
11. Explain how non-monetary exchanges are a limitation in taking gross domestic product as an
index of welfare.
Ans. In economies like that of India, barter system of exchange is not totally non-existent. Non-monetary
transactions are quite evident in rural areas where payments for farm-labour are often made in kind
rather than cash. But such transactions are not recorded, because they are outside the monetary
system of exchange. To this extent GDP remains underestimated, and is, therefore, not a proper
index of welfare.
12. In an economy the marginal propensity to consume is 0.75. Investment expenditure in the economy
increases by ` 75 crore. Calculate the total increase in national income.
Ans. Given, marginal propensity to consume (MPC) = 0.75.
Change in investment expenditure (I) = ` 75 crore.
We know that,
Multiplier (K) =
We also know that,
Introductory Macroeconomics

1
1
1
=
=
=4
1 MPC 1 0.75 0.25
Y
I
73

EconomicsXII

Or,

Y = K . I
= 4 75= 300

Increase in national income = ` 300 crore.

13. Explain the distinction between voluntary and involuntary unemployment.
Ans.

(i) Voluntary unemployment is a situation in which a worker is not willing to work at the current rate
of wages. On the other hand, involuntary unemployment is a situation in which a worker is willing
to work at current rate of wages but does not get work.
(ii) Voluntary unemployment is not considered in the estimation of total unemployment in a country.
While, involuntary unemployment is considered in the estimation of total unemployment in the
economy.

14. When price of a foreign currency falls, the demand for that foreign currency rises. Explain, why.
Or
When price of a foreign currency falls, the supply of that foreign currency also falls. Explain, why.
Ans. When price of a foreign currency falls, its demand rises, owing to the following reasons:
(i) Indian players in the international market will now buy more of foreign currency, because now it
is available at a lower price. Thus, the demand rises.
(ii) Now, imports become cheaper than before. Accordingly, imports tend to rise, implying a rise in
the demand for foreign currency.
(iii) Travelling abroad now becomes cheaper. Accordingly, demand for the foreign currency rises.
Or
Fall in the price of a foreign currency causes a fall in its supply, owing to the following reasons:
(i) Now domestic currency becomes dearer in relation to the foreign currency. Accordingly, foreign
investors will make smaller investment in the domestic economy. Implying, a fall in the supply of
foreign currency.
(ii) Now domestic exports will fall because 1 US $ buys less goods in the domestic market. Accordingly,
supply of foreign currency (or flow of foreign currency into our economy) will fall.
(iii) Fall in the price of a foreign currency (say US $) would mean less Indian rupees per US dollar.
Accordingly, NRIs would make less transfers to their home country. Implying, a fall in the flow of
foreign currency into the domestic economy.
15. In an economy the marginal propensity to save is 0.4. National income in the economy increases by
` 200 crore as a result of change in investment. Calculate the change in investment.
Ans. Given, marginal propensity to save (MPS) = 0.4.
Increase in national income (Y) = ` 200 crore.
We know that,
1
1
=
= 2.5
MPS 0.4
Y
K=
I
Y 200
=
= 80
I =
K
2.5

Multiplier (K) =
We also know that,

Change in investment = ` 80 crore.

16. Distinguish between balance of trade and balance on current account of balance of payments.
Ans. Balance of trade account includes only visible items of trade. It is defined as the difference between
export of goods and import of goods.
Balance of trade account = Export of visible items Imports of visible items
Introductory Macroeconomics

EconomicsXII

On the other hand, balance on current account of balance of payments includes transactions of visible
items, invisible items and unilateral transfers.
17. As a result of increase in investment by ` 60 crore, national income rises by ` 240 crore. Calculate
marginal propensity to consume.
Ans. Given, increase in investment (I) = ` 60 crore.
Increase in national income (Y) = ` 240 crore.
We know that,
Y
I
240
=
=4
60
1
K=
1 MPC

Multiplier (K) =

We also know that,

1
1 MPC

1 MPC =

1 MPC = 0.25

1
4

MPC = 1 0.25 = 0.75

Marginal propensity to consume = 0.75.

18. Explain how externalities are a limitation of taking gross domestic product as an index of welfare.
Ans. Externalities are the good and bad impact of an activity without paying the price or penalty for that.
Example: Positive externalities occur when a beautiful garden maintained by Mr. X raises welfare of
Mr. Y even when Mr. Y is not paying for it. There is no valuation of it in the estimation of GDP. Negative
externalities occur when smoke omitted by factories causes air pollution, or the industrial waste is
driven into rivers causing water pollution. Environmental pollution causes a loss of social welfare. But
nobody is penalised for it and there is no valuation of it in the estimation of GDP. Impact of
externalities (positive or negative) is not accounted in the index of social welfare in terms of GDP. To
that extent, GDP as an index of welfare is not an appropriate index. It either underestimates or
overestimates the level of welfare.
19. An economy is in equilibrium. Its consumption function is C = 300 + 0.8Y where C is
consumption expenditure and Y is income and investment is ` 700. Find national income.
Ans. Given, Consumption expenditure (C) = 300 + 0.8Y
Investment (I) = 700
At equilibrium,
Y=C+I
Y = 300 + 0.8Y + 700
Y = 1,000 + 0.8Y
Y 0.8Y = 1,000
0.2Y = 1,000
Y = 5,000
National income (Y) = ` 5,000.

Introductory Macroeconomics

EconomicsXII

20. Explain with the help of examples, the distinction between direct tax and indirect tax.
Ans. The main differences between direct tax and indirect tax are as follows:
(i) Direct taxes are those taxes the final burden of which falls on that very person who makes the
payment to the government. On the other hand, indirect taxes are those which are paid to the
government by one person but their final burden is borne by another person.
(ii) Direct taxes cannot be shifted to other persons whereas the indirect taxes can be shifted to other
persons.
Example: A shopkeeper pays sales tax to the government but usually recovers it from the
customers as a part of price of the commodity sold. So, impact of sales tax (an indirect tax) is
ultimately shifted to the consumers. But, the impact of income tax is to be finally borne by the tax
payer himself. He cannot shift its burden onto others.
21. Distinguish between balance of current account and balance of trade.
Ans. Balance on current account includes transactions of visible items, invisible items and unilateral
transfers.
Whereas, balance of trade includes only visible items of trade. It is defined as the difference between
export of goods and import of goods.
Balance of Trade = Export of visible items Imports of visible items
22. An economy is in equilibrium. The economys consumption function is C = 100 + 0.5Y where C is
consumption expenditure and Y is national income. National income is 1,000. Find out investment
expenditure in the economy.
Ans. Given,

Consumption expenditure (C) = 100 + 0.5Y

National income (Y) = 1,000
At equilibrium,
Y =C+I
Or,
I =YC
= 1,000 100 0.5Y = 1,000 100 0.5 (1,000)
= 1,000 100 500 = 400
Investment expenditure in the economy (I) = 400.

23. Distinguish between balance of current account and balance of trade.

Ans. Balance on current account includes transactions of visible items, invisible items and unilateral
transfers.
Whereas, balance of trade includes only visible items of trade. It is defined as the difference between
export of goods and import of goods.
Balance of Trade = Export of visible items Imports of visible items
24. An economy is in equilibrium. The economys consumption function is C = 100 + 0.5Y where C is
consumption expenditure and Y is national income. National income is 1,000. Find out investment
expenditure in the economy.
Ans. Given,

Consumption expenditure (C) = 100 + 0.5Y

National income (Y) = 1,000
At equilibrium,
Y =C+I
Or,
I =YC
= 1,000 100 0.5Y
= 1,000 100 0.5 (1,000)
= 1,000 100 500 = 400
Investment expenditure in the economy (I) = 400.

Introductory Macroeconomics

EconomicsXII

4 MARKS QUESTIONS
1. Explain the allocation of resources objective of government budget.
Or
Explain the redistribution of income objective of government budget.
Ans. Through its budgetary policy, the government of a country directs the allocation of resources in a
manner such that there is a balance between the goals of profit maximisation and social welfare.
Production of goods which are injurious to health is discouraged through heavy taxation. On the
other hand, production of socially useful goods is encouraged through subsidy. Larger budgetary
allocations to the production of merit goods in the public sector also impacts the allocation of
resources.
Or
Equitable distribution of income and wealth is a sign of social justice which is the principal objective of
any welfare state as in India. The government uses budgetary instruments of taxation and subsidies
with a view to improving the distribution of income and wealth in the economy. Distribution of income
is impacted largely by way of progressive taxation policy. It implies greater tax burden on the rich
than the poor. In fact, those with very low incomes are exempted from the payment of tax. Those who
are absolutely poor are offered goods through PDS (Public Distribution System) at the subsidised rate.
2. From the following data about a Government budget, find out (a) revenue deficit, (b) fiscal deficit and
(c) primary deficit:
Items
(i) Capital receipts net of borrowings

(` in arab)
95

(ii) Revenue expenditure

100

(iii) Interest payments

(iv) Revenue receipts

(v) Capital expenditure

Ans. (a) Revenue Deficit = Revenue expenditure Revenue receipts

110

= ` 100 arab ` 80 arab = ` 20 arab

(b) Fiscal Deficit

= Revenue expenditure + Capital expenditure Revenue

receipts Capital receipts net of borrowings
= ` 100 arab + ` 110 arab ` 80 arab ` 95 arab
= ` 210 arab ` 175 arab
= ` 35 arab

(c)

Primary Deficit = Fiscal deficit Interest payments

= ` 35 arab ` 10 arab

= ` 25 arab
3. Giving reasons classify the following into intermediate products and final products:
(i) Furniture purchased by a school.
(ii) Chalks, dusters, etc. purchased by a school.
Ans.

(i) Furniture purchased by a school is a final product because school is the final user of the furniture
and no value is to be added to the furniture. This will be deemed as investment expenditure
because furniture is used by the school for several years and is of high value.
(ii) Chalks, dusters, etc. purchased by a school are intermediate goods as these are used up in the
process of value-addition during the year.

Introductory Macroeconomics

EconomicsXII

4. Giving reasons classify the following into intermediate products and final products:
(i) Computers installed in an office.
(ii) Mobile sets purchased by a mobile dealer.
Ans.

(i) Computers installed in an office is a final product because computers are finally and repeatedly
used by the office for several years and these are of high value.
(ii) Mobile sets purchased by a mobile dealer is an intermediate product because these are purchased
for resale.

5. Giving reason identify whether the following are final expenditure or intermediate expenditure:
(i) Expenditure on maintenance of an office building.
(ii) Expenditure on improvement of a machine in a factory.
Ans.

(i) Expenditure on maintenance of an office building is an intermediate expenditure as the things

purchased for repair and maintenance are used up during the period of one year.
(ii) Expenditure on improvement of a machine in a factory is a final expenditure as the machine is
repeatedly used for several years as a fixed asset. Improvement of a machine implies
improvement of asset value (through investment expenditure).

6. Explain the economic stability objective of a government budget.

Ans. Free play of market forces (or the forces of supply and demand) tend to generate trade cycles, also
called business cycles. These cycles bring a situation of inflation or deflation in the economy. Such
situations are not conducive to the process of growth. Pace of growth enhances only in situations of
economic stability. Budget is used as an important policy instrument to correct the situations of
deflation and inflation. Policy of deficit budget is pursued to combat deflationary gap. Policy of surplus
budget is pursued to combat (or correct) inflationary gap.
7. From the following data about a government budget, find out (a) revenue deficit, (b) fiscal
deficit and (c) primary deficit:
Items
(i) Tax revenue

Ans.

(` in arab)
47

(ii) Capital receipts

(iii) Non-tax revenue

(iv) Borrowings

(v) Revenue expenditure

(vi) Interest payments

20
(a) Revenue Deficit = Revenue expenditure Revenue receipts (Tax revenue + Non-tax revenue)
= ` 80 arab (` 47 arab + ` 10 arab)
= ` 80 arab ` 57 arab
= ` 23 arab
(b) Fiscal Deficit= Borrowings
= ` 32 arab
(c) Primary Deficit = Fiscal deficit Interest payments
= ` 32 arab ` 20 arab

= ` 12 arab
8. Giving reasons, explain the treatment assigned to the following while estimating national income:
(i) Family members working free on the farm owned by the family.
(ii) Payment of interest on borrowings by general government.
Introductory Macroeconomics

EconomicsXII

Ans.

(i) Family members working free on the farm owned by the family are engaged in the value addition
process. Imputed value of their farm output is included in national product. Accordingly, income
generated by the farming family would be treated as mixed income of self-employed, which
includes compensation of labour.
(ii) Payment of interest on borrowings by general government is not included in the estimation of
national income because it is assumed that the government uses the borrowing for consumption
purpose only.

9. Giving reasons, explain the treatment assigned to the following while estimating national income:
(i) Social security contributions by employees
(ii) Pension paid after retirement.
Ans.

(i) Social security contributions by employees are not separately included in the estimation of
national income as these are paid out of compensation of employees.
(ii) Pension paid after retirement is included in the estimation of national income because this is a
kind of deferred wage payment and is therefore, treated as a component of compensation of
employees.

10. Giving reasons, explain the treatment assigned to the following while estimating national income:
(i) Expenditure on maintenance of a building.
(ii) Expenditure on adding a floor to the building.
Ans.

(i) Expenditure on maintenance of a building is not included in national income, as it is a part of

intermediate consumption. A building is an income generating asset.
(ii) Expenditure on adding a floor to the building is included in national income because it is a part of
investment expenditure or capital formation.

11. Explain the economic stability objective of a government budget.

Or
Explain the allocation of resources objective of a government budget.
Ans. Free play of market forces (or the forces of supply and demand) tend to generate trade cycles, also
called business cycles. These cycles bring a situation of inflation or deflation in the economy. Such
situations are not conducive to the process of growth. Pace of growth enhances only in situations of
economic stability. Budget is used as an important policy instrument to correct the situations of
deflation and inflation. Policy of deficit budget is pursued to combat deflationary gap. Policy of surplus
budget is pursued to combat (or correct) inflationary gap.
Or
Through its budgetary policy, the government of a country directs the allocation of resources in a
manner such that there is a balance between the goals of profit maximisation and social welfare.
Production of goods which are injurious to health is discouraged through heavy taxation. On the other
hand, production of socially useful goods is encouraged through subsidy. Larger budgetary allocations
to the production of merit goods in the public sector also impacts the allocation of resources.
12. From the following data about a government budget, find (a) revenue deficit, (b) fiscal deficit and
(c) primary deficit:
Items
(i) Plan capital expenditure

(` in arab)
120

(ii) Revenue expenditure

100

(iii) Non-plan capital expenditure

(iv) Revenue receipts

(v) Capital receipts net of borrowing

140

(vi) Interest payments

Introductory Macroeconomics

30
79

EconomicsXII

Ans. (a) Revenue Deficit = Revenue Expenditure Revenue Receipts

= ` 100 arab ` 70 arab
= ` 30 arab
(b) Fiscal Deficit

= Revenue expenditure + Plan capital expenditure + Non-plan capital

expenditure Revenue receipts Capital receipts net of borrowing
= ` 100 arab + ` 120 arab + ` 80 arab ` 70 arab ` 140 arab
= ` 300 arab ` 210 arab
= ` 90 arab

(c) Primary Deficit = Fiscal deficit Interest payments

= ` 90 arab ` 30 arab
= ` 60 arab
13. Giving reasons, explain the treatment assigned to the following while estimating national income:
(i) Payment of income tax by a firm.
Ans.

(ii) Festival gift to employees.

(i) Income tax by a firm implies corporate tax. It is a transfer payment by the firm to the government.
It has nothing to do with the estimation of national income. It is paid out of income.
(ii) Festival gift to employees is not included in the estimation of national income because this is a
transfer payment.

14. Giving reasons, explain the treatment assigned to the following while estimating national income:
(i) Subsidy on the output produced.
(ii) Contribution to provident fund by the employees.
Ans.

(i) Subsidy on the output produced is not separately included while estimating national income. It is
an integral component of NNPFC. We know NNPFC Subsidies + Indirect taxes = NNPMP. This
equation shows that subsidies are an integral component of NNPFC or national income.
(ii) Contribution to provident fund by the employees is an integral component of income. It is paid
out of income. It is therefore not separately added in the estimation of national income.

15. Giving reasons, explain the treatment assigned to the following while estimating national income:
(i) Contribution to provident fund by the employers.
Ans.

(ii) Free dress provided to nurses by the hospital.

(i) Contribution to provident fund by the employers is included in national income, because it is paid
by the employers on behalf of the employees. It is included in national income as a part of the
compensation of employees.
(ii) Free dress provided to nurses by the hospital is included in the estimation of national income
because it is a kind of wages in kind, and therefore a part of compensation of employees.

6 MARKS QUESTIONS
1. Explain the role of the following in correcting deficient demand in an economy:
(i) Open market operations.
(ii) Bank rate.
Or
Explain the role of the following in correcting excess demand in an economy:
(i) Bank rate.
(ii) Open market operations.
Introductory Macroeconomics

EconomicsXII

Ans.

(i) Open market operations is the policy that focuses on increasing and decreasing the stock of
liquidity (or cash balances) with the people, through sale and purchase of securities by the central
bank. During the situations of deficient demand, when cash balances need to be increased, the
central bank starts buying securities. Purchase of securities injects purchasing power into the
money market. Consequently, aggregate demand is increased, as required to correct deficient
demand.
(ii) Bank rate is the rate at which the central bank lends money to the commercial banks. To correct
the situation of deficient demand, bank rate is decreased. As a follow-up action, the commercial
banks lower the market rate of interest (the rate at which the commercial banks lend money to the
consumers and the investors). This increases demand for credit. Consequently, consumption
expenditure and investment expenditure are increased. Implying a expansion in aggregate
demand, as required to correct deficient demand.
Or
(i) Bank rate is the rate at which the central bank lends money to the commercial banks. To correct
the situation of excess demand, bank rate is increased. As a follow-up action, the commercial banks
raise the market rate of interest (the rate at which the commercial banks lend money to the
consumers and the investors). This reduces demand for credit. Consequently, consumption
expenditure and investment expenditure are reduced. Implying a reduction in aggregate
demand, as required to correct excess demand.
(ii) Open market operations is the policy that focuses on increasing and decreasing the stock of
liquidity (or cash balances) with the people, through sale and purchase of securities by the central
bank. When cash balances need to be reduced as during situations of excess demand, the central
bank starts selling securities. Sale of securities sucks purchasing power from the money market.
Consequently, aggregate demand is reduced and excess demand is corrected.

2. Explain the process of money creation by the commercial banks with the help of a
numerical example.
Ans. Money/credit creation is an important function of the commercial banks. By creating credit,
commercial banks contribute to money supply in the economy. They create credit in the form of
demand deposits. Demand deposits of the commercial banks are many times more than their cash
reserves. If cash reserves are (say) ` 1,000 and if demand deposits are (say) ` 10,000, then the
commercial banks are creating credit ten times of their cash reserves. Accordingly, on the basis of
cash reserves of ` 1,000, the commercial banks are contributing ` 10,000 to the supply of money.
Here, comes the basic question: how are cash reserves of ` 1,000 with the banks converted into
demand deposits of ` 10,000? Following is a brief description of how it happens.
(i) The commercial banks know, by way of their historical experience, that all the depositors would not
show up in the banks to withdraw all their deposits at a point of time.
(ii) If experience shows that withdrawals are generally around 10 per cent of the deposits, the banks need to
keep only 10 per cent of deposits as cash reserves. This is known as CRR (cash reserve ratio).
(iii) If CRR = 10%, total cash reserves of ` 1,000 allows the bank to offer loans up to ` 10,000 in accordance
with following formula:
1
Cash Reserves
CRR
1
=
` 1,000
10%

Demand Deposits =

= 10 ` 1,000 = ` 10,000.

Here, it is important to note that loans are never offered in cash. These are always reflected as demand
deposits in favour of the borrowers. Accordingly, when loans are offered worth ` 10,000, demand
deposits of the banks are raised by ` 10,000. So that, in the above equation, demand deposits are in fact
pointing to loans.
Introductory Macroeconomics

EconomicsXII

3. Calculate National Income and Gross National Disposable Income from the following:
Items

(` in crore)

(i) Net current transfers to the rest of the world

(ii) Private final consumption expenditure

() 5
500

(iii) Consumption of fixed capital

(iv) Net factor income to abroad

()10

(v) Government final consumption expenditure

200

(vi) Net indirect tax

100

(vii) Net domestic fixed capital formation

120

(viii) Net imports

(ix) Change in stocks

()20

Ans. Gross Domestic Product at Market Price (GDPMP)

= Private final consumption expenditure + Government final consumption expenditure +
Net domestic fixed capital formation + Consumption of fixed capital
+ Change in stocks Net imports
= ` 500 crore + ` 200 crore + ` 120 crore + ` 20 crore + () ` 20 crore ` 30 crore
= ` 840 crore ` 50 crore = ` 790 crore
National Income
= GDPMP Consumption of fixed capital Net indirect tax Net factor income to abroad
= ` 790 crore ` 20 crore ` 100 crore () ` 10 crore
= ` 680 crore
Gross National Disposable Income
= GDPMP Net factor income to abroad Net current transfer to the rest of the world
= ` 790 crore () ` 10 crore () ` 5 crore
= ` 790 crore + ` 15 crore = ` 805 crore
National income = ` 680 crore.
Gross national disposable income = ` 805 crore.
4. Find out Gross National Product at Market price and Net National Disposable Income from the
following:
Items
(i) Opening stock

(` in arab)
50

(ii) Private final consumption expenditure

1,000

(iii) Net current transfers to abroad

(iv) Closing Stock

(v) Net factor income to abroad

()10

(vi) Government final consumption expenditure

300

(vii) Consumption of fixed capital

(viii) Net imports

(ix) Net domestic fixed capital formation

Introductory Macroeconomics

150

EconomicsXII

Ans. Gross National Product at Market Price (GNPMP)

= Private final consumption expenditure + Government final consumption
expenditure + Net domestic fixed capital formation + Change in stock +
Consumption of fixed capital Net imports Net factor income to abroad
= ` 1,000 arab + ` 300 arab + ` 150 arab + (` 40 arab ` 50 arab) + ` 30 crore
` 20 arab () ` 10 arab
= ` 1,000 arab + ` 300 arab + ` 150 arab ` 10 arab +` 30 arab ` 20 arab + ` 10 arab
= ` 1,460 arab
Net National Disposable Income
= GNPMP Consumption of fixed capital Net current transfer to abroad
= ` 1,460 arab ` 30 arab ` 5 arab
= ` 1,425 arab
Gross national product at market price (GNPMP) = ` 1,460 arab.
Net national disposable income = ` 1,425 arab.
5. Calculate Net National Product at Market Price and Gross National Disposable Income:
Items
(i) Consumption of fixed capital

(` in arab)
40

(ii) Change in stocks

()10

(iii) Net imports

(iv) Gross domestic fixed capital formation

100

(v) Private final consumption expenditure

800

(vi) Net current transfers to rest of the world

(vii) Government final consumption expenditure

(viii) Net factor income to abroad

250
40

(ix) Net indirect tax

Ans. Gross Domestic Product at Market Price (GDPMP)

130

= Private final consumption expenditure + Government final consumption

expenditure + Gross domestic fixed capital formation + Change in stocks
Net imports
= ` 800 arab + ` 250 arab + ` 100 arab + () ` 10 arab ` 20 arab
= ` 1,120 arab
Net National Product at Market Price (NNPMP)
= GDPMP Consumption of fixed capital Net factor income to abroad
= ` 1,120 arab ` 40 arab ` 40 arab
= ` 1,040 arab
Gross National Disposable Income
= GDPMP Net factor income to abroad Net current transfers to rest of the world
= ` 1,120 arab ` 40 arab ` 5 arab
= ` 1,075 arab
Net national product at market price (NNPMP) = ` 1,040 arab.
Gross national disposable income = ` 1,075 arab.
Introductory Macroeconomics

EconomicsXII

6. Explain the role of the following in correcting the inflationary gap in an economy:
(i) Legal reserves.
(ii) Bank rate
Or
Explain the role of the following in correcting the deflationary gap in an economy:
(i) Open market operations.
(ii) Margin requirements.
Ans.

(i) Legal reserve refers to the legally determined ratio between liquid assets and total assets of the
commercial banks. The commercial banks are required to maintain minimum SLR, also known as
legal reserves as fixed by the central bank from time to time.
Legal reserve ratio is raised to correct inflationary gap. This reduces credit creation capacity of the
commercial banks. Accordingly, availability of credit decreases in the capital market. As a result,
aggregate demand reduces as required to correct inflationary gap in the economy.
(ii) Bank rate is the rate at which the central bank lends money to the commercial banks. To correct
the situation of inflationary gap, bank rate is increased. As a follow-up action, the commercial
banks raise the market rate of interest (the rate at which the commercial banks lend money to the
consumers and the investors). This reduces demand for credit. Consequently, consumption
expenditure and investment expenditure are reduced. Implying a reduction in aggregate
demand, as required to correct inflationary gap.
Or
(i) Open market operations is the policy that focuses on increasing and decreasing the stock of
liquidity (or cash balances) in the economy, through sale and purchase of securities by the central
bank. When cash balances need to be increased (as during situations of deficient demand or
deflationary gap), the central bank starts buying securities. Purchase of securities injects
purchasing power into the money market. Consequently, aggregate demand is increased and
deflationary gap is corrected.
(ii) Margin requirements refer to minimum down payment that the borrowers are to make as a
percentage of their total borrowing from the commercial banks. Margin requirement is reduced
to correct situations of deflationary gap. Lower margin requirement acts as a incentive to borrow.
This induces borrowers to raise more credit. Implying a rise in aggregate demand, as desired to
correct deficient demand or deflationary gap.

Explain the following functions of the central bank:

(i) Bank of issue.

Ans.

(ii) Bankers bank.

(i) The central bank is the sole note-issuing authority in the country. Often, the central bank divides its
functions into two departmentsbanking department and issue department. It is the issue
department that is responsible for note-issuing. It issues currency to cope with the demand for it,
which depends upon the level of economic activity in the economy.
(ii) Central bank is an apex bank of all banks in the country. The central bank has almost the same
relation with other banks in the country as a commercial bank has with its customers. As a bankers
bank, the central bank offers loans to the commercial bank, and also accepts deposits from them.
The central bank keeps some cash balances of the commercial banks as a compulsory deposit. This
is to help them during financial crises. CRR, Repo rate and Reverse repo rate (as applicable to the
commercial banks from time to time) are fixed by the Central Bank.

Introductory Macroeconomics

EconomicsXII

8. Calculate (a) Net Domestic Product at Factor Cost and (b) Private Income from the following:
(i)
(ii)
(iii)
(iv)
(v)
(vi)
(vii)
(viii)
(ix)
(x)
(xi)
(xii)
Ans. (a)

Items
Domestic product accruing to government
Wages and salaries
Net current transfers to abroad
Rent
Interest paid by the production units
National debt interest
Corporation tax
Current transfers by government
Contribution to social security schemes by employers
Dividends
Undistributed profits
Net factor income to abroad
Net Domestic Product at Factor Cost (NDPFC)

(` in crore)
300
1,000
()20
100
130
30
50
40
200
100
20
0

= Wages and salaries + Contribution to social security schemes by employers

+ Rent + Interest + Corporation tax + Dividends + Undistributed profits
= ` 1,000 crore + ` 200 crore + ` 100 crore + ` 130 crore + ` 50 crore + ` 100 crore
+ ` 20 crore
= ` 1,600 crore
(b) Factor Income from Net Domestic Product accruing to Private Sector
= NDPFC Domestic product accruing to government
= ` 1,600 crore ` 300 crore
= ` 1,300 crore
Private Income
= Factor Income from net domestic product accruing to private sector Net factor
income to abroad + National debt interest + Current transfers by government
Net current transfer to abroad
= ` 1,300 crore ` 0 crore + ` 30 crore + ` 40 crore () ` 20 crore
= ` 1,300 crore ` 0 crore + ` 30 crore + ` 40 crore + ` 20 crore
= ` 1,390 crore
(a) Net domestic product at factor cost (NDPFC) = ` 1,600 crore.
(b) Private income = ` 1,390 crore.
9. Calculate (a) Net National Product at Market Price and (b) Private Income from the following:
Items
(` in crore)
(i) Net current transfers to abroad
30
(ii) Mixed income
600
(iii) Subsidies
20
(iv) Operating surplus
200
(v) National debt interest
70
(vi) Net factor income to abroad
10
(vii) Compensation of employees
1,400
(viii) Indirect tax
100
(ix) Domestic product accruing to government
350
(x) Current transfers by government
50
Introductory Macroeconomics

EconomicsXII

Ans. (a) Net Domestic Product at Market Price (NDPMP)

= Compensation of employees + Operating surplus + Mixed income + Net indirect tax
= ` 1,400 crore + ` 200 crore + ` 600 crore + (` 100 crore ` 20 crore)
= ` 2,280 crore
Net National Product at Market Price (NNPMP)
= NDPMP Net factor income to abroad
= ` 2,280 crore ` 10 crore = ` 2,270 crore
(b) Factor Income from Net Domestic Product accruing to Private Sector
= NDPMP Net indirect tax Domestic product accruing to government
= ` 2,280 crore (` 100 crore ` 20 crore) ` 350 crore
= ` 1,850 crore
Private Income
= Factor income from net domestic product accruing to private sector Net Factor
income to abroad + National debt interest + Current transfers by government
Net current transfers to abroad
= ` 1,850 crore ` 10 crore + ` 70 crore + ` 50 crore ` 30 crore
= ` 1,930 crore
(a) Net national product at market price (NNPMP) = ` 2,270 crore.
(b) Private income = ` 1,930 crore.
10. Calculate (a) Gross National Product at Market Price and (b) Personal Disposable Income from
the following:
Items
(i) Net factor income to abroad

(` in crore)
10

(ii) Private income

1,700

(iii) Operating surplus

300

(iv) Corporation tax

150

(v) Undistributed profit

(vi) Mixed income

500

(vii) Consumption of fixed capital

100

(viii) Personal taxes

200

(ix) Compensation of employees

1,200

(x) Net indirect tax

Ans. (a) Gross National Product at Market Price (GNPMP)

250

= Compensation of employees + Operating surplus + Mixed income + Consumption

of fixed capital + Net indirect tax Net factor income to abroad
= ` 1,200 crore + ` 300 crore + ` 500 crore + ` 100 crore + ` 250 crore ` 10 crore
= ` 2,340 crore
(b) Personal Disposable Income
= Private income Corporation tax Undistributed profits Personal taxes
= ` 1,700 crore ` 150 crore ` 30 crore ` 200 crore
= ` 1,320 crore

Introductory Macroeconomics

EconomicsXII

(a) Gross national product at market price (GNPMP) = ` 2,340 crore.

(b) Personal disposable income = ` 1,320 crore.
11. Explain the role of the following in correcting deficient demand in an economy:

Ans.

(a) Government expenditure.

(b) Legal reserve.
Or
Explain the role of the following in correcting inflationary gap in an economy:
(a) Open market operations.
(b) Government expenditure.
(a) In a situation of deficient demand, aggregate demand (measured in terms of aggregate
expenditure) is less than the aggregate supply corresponding to the full employment level in the
economy. Accordingly, aggregate demand needs to be stepped up. But, because of poor market
sentiments (a characteristic feature of deficient demand), private expenditure continues to be low.
It is in such a situation that the government expenditure (which is not driven by profit-motive) can
play a significant role. It will act as an injection of demand into the system and is expected to trigger
private expenditure. Accordingly, the situation of deficient demand will be corrected.
(b) Legal reserve refers to the legally determined ratio between liquid assets and total assets of the
commercial banks. The commercial banks are required to maintain minimum SLR, also known as
legal reserves as fixed by the central bank from time to time.
During situations of deficient demand, legal reserve ratio is lowered. This raises credit creation
capacity of the commercial banks. Accordingly, availability of credit increases in the capital market.
As a result, aggregate demand is increased as required to correct deficient demand in the
economy.
Or
(a) Open market operations is the policy that focuses on increasing and decreasing the stock of
liquidity (or cash balances) with the people, through sale and purchase of securities by the central
bank. When cash balances need to be reduced (as during situations of excess demand or
inflationary gap), the central bank starts selling securities. Sale of securities sucks purchasing
power from the money market. Consequently, aggregate demand is decreased and inflationary
gap is corrected.

(b) Inflationary gap refers to a situation of excess demand, when aggregate demand is greater than
aggregate supply corresponding to full employment in the economy. During this situation,
general price level tends to rise, causing a rise in the rate of interest and consequently, a fall in
investment and a fall in the growth rate of GDP. Correction of inflationary gap calls for a cut in
expenditure, but, owing to rising prices, wage rate tends to rise (along with other factor costs)
which stokes the rate of inflation. In such a situation, a cut in government expenditure
(particularly) non-development expenditure like on defence, law and order and subsidies to the
consumers will cause an overcall cut in aggregate demand. So that excess aggregate demand is
corrected and inflationary gap is eliminated.
12. How do commercial banks create credit?
Ans. Money/credit creation is an important function of the commercial banks. By creating credit,
commercial banks contribute to money supply in the economy. They create credit in the form of
demand deposits. Demand deposits of the commercial banks are many times more than their cash
reserves. If cash reserves are (say) ` 1,000 and if demand deposits are (say) ` 10,000, then the
commercial banks are creating credit ten times of their cash reserves. Accordingly, on the basis of
cash reserves of ` 1,000, the commercial banks are contributing ` 10,000 to the supply of money.
Here comes the basic question: how are cash reserves of ` 1,000 with the banks converted into
demand deposits of ` 10,000? Following is a brief description of how it happens.
Introductory Macroeconomics

EconomicsXII

(i) The commercial banks know, by way of their historical experience, that all the depositors would
not show up in the banks to withdraw all their deposits at a point of time.
(ii) If experience shows that withdrawals are generally around 10 per cent of the deposits, the banks
need to keep only 10 per cent of deposits as cash reserves. This is known as CRR (cash reserve
ratio).
(iii) If CRR = 10%, total cash reserves of ` 1,000 allows the bank to offer loans up to ` 10,000 in
accordance with following formula:
1
Demand Deposits =
Cash Reserves
CRR
1
=
` 1,000
10%
= 10 ` 1,000
= ` 10,000.
Here, it is important to note that loans are never offered in cash. These are always reflected as demand
deposits in favour of the borrowers. Accordingly, when loans are offered worth ` 10,000, demand
deposits of the banks are raised by ` 10,000. So that, in the above equation, demand deposits are in fact
pointing to loans.
13. Calculate National Income and Personal Disposable Income from the following:
Items
(` in crore)
(i) Personal tax
150
(ii) Net imports

()10

(iii) Private final consumption expenditure

700

(iv) Private income

600

(v) Undistributed profit

(vi) Net domestic capital formation

120

(vii) Government final consumption expenditure

200

(viii) Net factor income to abroad

()5

(ix) Corporation tax

100

(x) Net indirect tax

105
Ans. National Income = Private final consumption expenditure + Government final consumption
expenditure + Net domestic capital formation Net imports Net indirect tax Net factor income to
abroad
= ` 700 crore + ` 200 crore + ` 120 crore () ` 10 crore ` 105 crore () ` 5 crore
= ` 930 crore
Personal Disposable Income
= Private income Undistributed profit Corporation tax Personal tax
= ` 600 crore ` 20 crore ` 100 crore ` 150 crore
= ` 600 crore ` 270 crore
= ` 330 crore
National income = ` 930 crore.
Personal disposable income = ` 330 crore.

Introductory Macroeconomics

EconomicsXII

14. Calculate Net National Product at Factor Cost and Gross National Disposable Income from the
following:
Items
(i) Profits

(` in crore)
200

(ii) Net current transfers to abroad

()10

(iii) Royalty

(iv) Wages and salaries

600

(v) Consumption of fixed capital

(vi) National debt interest

(vii) Interest paid by production units

120

(viii) Social security contributions by employers

100

(ix) Net factor income to abroad

()20

(x) Rent

(xi) Net indirect tax

Ans. Net National Product at Factor Cost (NNPFC)

= Wages and salaries + Social security contribution by employers + Profits + Royalty

+ Interest paid by production units + Rent Net factor income to abroad
= ` 600 crore + ` 100 crore + ` 200 crore + ` 10 crore + ` 120 crore + ` 50 crore () ` 20 crore
= ` 1,100 crore
Gross National Disposable Income
= NNPFC + Consumption of fixed capital + Net indirect tax Net current transfer to abroad
= ` 1,100 crore + ` 60 crore + ` 70 crore () ` 10 crore
= ` 1,240 crore
National product at factor cost = ` 1,100 crore.
Gross national disposable income = ` 1,240 crore.
15. Calculate Net Domestic Product at Factor Cost and Net National Disposable Income:
Items
(i) Net factor income to abroad

(` in crore)
30

(ii) Sales

2,000

(iii) Subsidies

(iv) Consumption of fixed capital

(v) Net current transfers to abroad

()10

(vi) Closing stocks

100

(vii) Opening stocks

200

(viii) Intermediate costs

1,000

(ix) Indirect tax

Ans. Net Domestic Product at Factor Cost (NDPFC)

150

= Sales Intermediate costs + Change in stock (Closing stocks Opening stocks)

Consumption of fixed capital Net indirect tax
= ` 2,000 crore ` 1,000 crore + (` 100 crore ` 200 crore) ` 50 crore (` 150 crore ` 20 crore)
= ` 2,000 crore ` 1,000 crore ` 100 crore ` 50 crore ` 130 crore
= ` 720 crore
Introductory Macroeconomics

EconomicsXII

Net National Disposable Income

= NDPFC + Net indirect tax Net factor income to abroad Net current transfers to abroad
= ` 720 crore + (` 150 crore ` 20 crore) ` 30 crore () ` 10 crore
= ` 720 crore + ` 130 crore ` 30 crore + ` 10 crore
= ` 830 crore
Net domestic product at factor cost = ` 720 crore.
Net national disposable income = ` 830 crore.
zzz

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