Applications of Macroeconomics

Final Term Exam

Set 1

Exam Instructions:
Maximum Marks: 80 Marks
Maximum Time: 120 Minutes/ 2 hours

This question paper consists of nine sections. Sections 1-8 contain 70 multiple-choice
questions, each worth 1 mark. Section 9 has 2 questions, each worth 5 marks.
All questions are multiple-choice, except for the last question in Section 9.
All the best!

Section 1: Fiscal Policy

1. What is the multiplier effect in fiscal policy?

a) The decrease in aggregate demand due to government intervention
b) The reduction in government investment replacing private investment
c) The amplification of economic impact resulting from increased government
spending or reduced taxes
d) The effect of increased government borrowing on inflation

2. What is the crowding-out effect in fiscal policy?

a) Increased government borrowing leads to inflation
b) Government investment replaces private investment
c) Expansionary fiscal policy increases aggregate demand
d) Decreasing taxes reduces government revenue

3. What is fiscal policy primarily concerned with?

a) Controlling inflation
b) Regulating financial markets
c) Managing government revenue and expenditure
d) Influencing the money supply
4. How does expansionary fiscal policy stimulate the economy?
a) By increasing government borrowing
b) By reducing government spending
c) By decreasing taxes and increasing government spending
d) By increasing taxes and decreasing government spending

5. Under what conditions can increased government spending lead to

inflation?
a) When there is high unemployment
b) When the economy is at full capacity
c) When taxes are decreased simultaneously
d) When there is excess saving in the economy

6. When is the multiplier effect greatest?

a) When people save more
b) When there is high inflation
c) When there is excess capacity in the economy
d) When there is full employment

7. Under what circumstances might expansionary fiscal policy be

ineffective?
a) When there is high unemployment and excess capacity in the economy.
b) When the government implements contractionary monetary policy
simultaneously.
c) Expansionary fiscal policy is always effective in stimulating economic growth.
d) When there is full employment and the economy operates at its maximum
capacity.

8. How does the multiplier effect influence the effectiveness of fiscal policy?
a) The multiplier effect decreases the effectiveness of fiscal policy by offsetting
any initial increase in government spending.
b) It amplifies the impact of fiscal policy measures as each dollar of government
spending generates multiple rounds of spending in the economy.
c) The multiplier effect is only relevant in contractionary fiscal policy and does
not impact expansionary measures.
d) Fiscal policy effectiveness is independent of the multiplier effect, as it
 primarily depends on the government's ability to regulate taxes.

Section 2: Gross Domestic Product and Related Concepts

9. What is the significance of considering only final goods and services in

GDP calculation?
a) It helps in avoiding double counting.
b) It ensures an accurate estimation of GDP.
c) It reduces government spending.
d) It increases the price level.

10. When is an economy considered to be in a recession?

a) When GDP increases for two consecutive quarters
b) When GDP decreases for two consecutive quarters
c) When GDP remains constant for two consecutive quarters
d) When GDP increases significantly over a short period

11. What is the main difference between nominal GDP and real GDP?
a) Nominal GDP accounts for inflation, while real GDP does not.
b) Real GDP includes all goods and services, while nominal GDP excludes
imports.
c) Nominal GDP is adjusted for population size, while real GDP is not.
d) Real GDP reflects changes in the quantity of goods and services produced,
while nominal GDP also reflects changes in price level.

12. When does an economy experience negative economic growth, as

indicated by GDP?
a) When real GDP decreases for two consecutive quarters.
b) When nominal GDP exceeds real GDP.
c) When GDP per capita decreases.
d) When government spending surpasses exports.

13. What does GDP at Purchasing Power Parity (PPP) account for?
a) Differences in price levels between countries
b) Differences in government spending
 c) Differences in population size
d) Differences in imports and exports

14. How does GDP per capita provide a more accurate measure of economic
well-being?
a) It accounts for differences in population size among countries.
b) It considers changes in the overall GDP level over time.
c) It reflects the distribution of income within a country.
d) It adjusts GDP based on purchasing power parity.

Section 3: Inflation

15. How does inflation impact investments?

a) It reduces the real value of investments over time
b) It increases the real value of investments over time
c) It has no impact on investments
d) It leads to uncertainty and volatility in the investment market

16. What is the relationship between inflation and unemployment?

a) High inflation is typically associated with low unemployment
b) High inflation is typically associated with high unemployment
c) There is no relationship between inflation and unemployment
d) None of the above

17. What role does demand-pull inflation play in the economy, and how does
it differ from cost-push inflation?
a) Demand-pull inflation occurs when production costs rise, while cost-push
inflation results from increased consumer demand.
b) Demand-pull inflation is caused by excessive consumer demand, while
cost-push inflation results from rising production costs.
c) Demand-pull inflation is driven by changes in government spending, while
cost-push inflation arises from changes in consumer preferences.
d) Demand-pull inflation leads to lower prices, while cost-push inflation leads to
higher prices for consumers.

18. In the context of monetary policy, how might a central bank use
 contractionary measures to combat inflation?
a) By decreasing interest rates to encourage borrowing and spending.
b) By increasing interest rates to discourage borrowing and spending.
c) By decreasing government spending to reduce aggregate demand.
d) By increasing the money supply to stimulate economic growth.

19. Macroeconomic stability is usually defined as a state of

a) Low inflation, high economic growth
b) High inflation, high economic growth
c) Low inflation, low economic growth
d) High inflation, low economic growth

20. How does inflation impact the purchasing power of consumers,

particularly those on fixed incomes?
a) Inflation tends to increase the purchasing power of consumers on fixed
incomes.
b) Inflation has no impact on the purchasing power of consumers on fixed
incomes.
c) Inflation erodes the purchasing power of consumers on fixed incomes,
reducing their ability to buy goods and services.
d) Inflation stabilizes the purchasing power of consumers on fixed incomes by
balancing supply and demand.

Section 4: Monetary Policy

21. What impact do low interest rates primarily have on economic activity?
a) They stimulate economic activity and encourage investment.
b) They hinder economic activity and discourage investment.
c) They have no significant impact on economic activity.
d) They lead to inflation and reduce consumer spending.

22. ‘Monetary policy refers to the central bank’s decisions regarding

___________ and _____________.’ Fill in the blanks.
a) Interest rates and inflation
b) Inflation and credit rates
c) Interest rates and money supply
d) Interest rates and credit rates
23. How do expansionary open market operations theoretically affect banks'
lending behaviors?
a) They decrease banks' reserves, making it harder to loan money.
b) They increase banks' reserves, encouraging more loans.
c) They have no effect on banks' reserves but affect the stock market.
d) They reduce the federal funds rate without influencing banks' reserves.

24. How does the Cash Reserve Ratio (CRR) contribute to controlling
inflation?
a) By increasing the amount of money banks can lend
b) By decreasing the amount of money banks can lend
c) By encouraging banks to invest in the stock market
d) By reducing government spending

Section 5: Monetary and Fiscal Policy in Tandem

25.What is the impact of no policy action during a recession?

a) Aggregate supply shifts to the right
b) Aggregate demand shifts to the left
c) Wages and resource prices decrease
d) Interest rates increase

26.How does expansionary fiscal policy affect aggregate demand during a

recession?
a) It increases government spending to decrease aggregate demand
b) It decreases government spending to decrease aggregate demand
c) It increases taxes to decrease aggregate demand
d) It decreases taxes to increase aggregate demand

27. During a recession, if the government chooses to wait it out without

implementing any policy, what happens to the aggregate supply?
a) It shifts to the left
b) It shifts to the right
c) It remains unchanged
 d) It becomes vertical

28. A budget deficit can lead to:

a) Higher interest rates and inflation
b) Lower interest rates and inflations
c) Higher interest rates and lower growth
d) Lower interest rate and lower growth

29.Which of the following accurately describes the impact of increasing

taxes under fiscal policy during a recession?
a) It increases aggregate demand
b) It decreases aggregate demand
c) It increases government spending
d) It decreases government spending

30. How does the central bank manage the money supply?
a) By directly controlling government spending.
b) By setting reserve requirements for commercial banks.
c) By implementing fiscal policies.
d) By regulating international trade agreements.

31. What effect does buying bonds by the central bank have on the money
supply?
a) It increases the money supply.
b) It decreases the money supply.
c) It has no effect on the money supply.
d) It stabilizes the money supply.

32.When the central bank conducts an open market operation to purchase

treasury bills, what is the immediate impact on the economy?
a) It decreases the money supply and raises interest rates.
b) It increases the money supply and lowers interest rates.
c) It stabilizes the stock market.
d) It increases government spending.
 Section 6: Money and the World

33. How do foreign direct investments contribute to the economic

development of a host country?
a) By increasing short-term liquidity in the financial markets.
b) By promoting speculative trading in the stock market.
c) By creating job opportunities and transferring technology and skills.
d) By increasing government control over the economy.

34. How does inflation affect foreign investments in a nation?

a. Inflation has no impact on foreign investments.
b. High inflation discourages foreign investments as it erodes the purchasing
power of profits.
c. High inflation encourages foreign investments as it indicates economic
growth.
d. Low inflation encourages foreign investments as it signals stability in the
economy.

35. What are the potential consequences of high inflation on a nation's

economy in the context of foreign investments?
a) Increased foreign direct investment due to higher returns.
b) Decreased foreign direct investment due to economic instability.
c) Stable economic growth and increased job opportunities.
d) Enhanced government control over the economy.

36. A depreciating domestic currency can

(i) make exports more competitive in international markets, and
(ii) attract foreign investment to stimulate economic growth
Which of these two statements are true?
a) Only (i)
b) Only (ii)
c) Both (i) and (ii)
d) Neither (i) nor (ii)
37. What are the potential consequences of printing more money during a
crisis?
a) Decreased national debt
b) Increased purchasing power
c) Hyperinflation
d) Lower interest rates

38.What are foreign exchange reserves and who holds them?

a) Foreign currency held by individuals for international travel purposes.
b) Foreign currency held by commercial banks for trading purposes.
c) Foreign currency held as reserves by the central bank of a country.
d) Foreign currency held by multinational corporations for investment purposes.

39.What is the primary reserve currency used in international trade?

a) Euro
b) Indian Rupee
c) US Dollar
d) Chinese Yuan

40. When India had a large current account deficit, low foreign exchange
reserves, external debt burden, and low export growth:
a) It was because of the Asian Financial Crisis
b) It was because of the Global Economic Crisis
c) It resulted in the Balance of Payments Crisis
d) It resulted in a banking sector Non-performing Assets Crisis

41. When a country’s exchange rate is linked to a specific reference currency,

it is known as
a) Fixed exchange rate
b) Floating exchange rate
c) Standard exchange rate
d) Contrived exchange rate

42. Which of the following functions does not fall under the purview of RBI?
a) Setting interest rates
 b) Setting FDI limits
c) Managing foreign exchange
d) Lending to banks

43.If India’s exports were no longer competitive in foreign markets, the RBI
could:
a) Sell Indian rupees in the foreign market
b) Buy Indian rupees in the foreign market
c) Raise interest rates in the domestic market
d) Lower interest rates in the domestic market

44. What role does the central bank play in the foreign exchange market?
a) To facilitate the government's monetary policies and prevent destabilization
of the economy.
b) To maximize profits through currency trading.
c) To regulate the exchange rates between different currencies.
d) To control the supply of foreign currency to commercial banks.

45.What is the main reason behind holding foreign currency reserves by

central banks?
a) To facilitate international travel and tourism.
b) To stabilize the value of the domestic currency in relation to other currencies.
c) To fund government expenditure on imports.
d) To provide loans to multinational corporations for international expansion.

46.What are the consequences of currency devaluation for a country's

economy?
a) Decreased exports and increased imports.
b) Increased exports and decreased imports.
c) Decreased interest rates and increased inflation.
d) Increased interest rates and decreased inflation.

47. Why is the stability of a country's currency important for investors and
businesses?
a) It ensures consistent returns on investment and reduces exchange rate risk.
b) It increases the cost of borrowing and discourages investment.
 c) It leads to unpredictable fluctuations in market prices.
d) It encourages speculative trading and market volatility.

48. How does currency devaluation affect a country's balance of trade?

a) It increases exports and decreases imports, leading to a trade surplus.
b) It decreases exports and increases imports, resulting in a trade deficit.
c) It has no effect on trade balances.
d) It leads to fluctuations in trade balances depending on other economic
factors.

49.How does a country's foreign exchange reserve position impact its ability
to respond to economic crises?
a) Higher reserves provide more flexibility in monetary policy and currency
interventions.
b) Lower reserves limit the government's ability to stabilize currency values and
interest rates.
c) Foreign exchange reserves have no effect on a country's ability to manage
economic crises.
d) Foreign exchange reserves only impact the stability of international trade
agreements.

50.Which of the following is a key indicator of a country’s international

trade and financial position?
a) Balance of Payments
b) Exchange Rate
c) Foreign Direct Investment
d) Current Account Deficit

51. What is the relationship between inflation and foreign direct investment
(FDI) inflows?
a) High inflation typically attracts more FDI inflows due to increased
profitability.
b) High inflation usually leads to a decrease in FDI inflows as investors seek
more stable economies.
c) Inflation has no significant impact on FDI inflows.
d) None of the above
 Section 7: Deflation

52.What does deflation mean in economics, and how does it differ from
short-term price decreases?
a) Deflation refers to a temporary decrease in the price level of goods and
services due to seasonal factors.
b) Deflation signifies a sustained decrease in the general price level of goods and
services over an extended period.
c) Deflation is characterized by periodic fluctuations in prices caused by changes
in consumer preferences.
d) Deflation indicates a rapid increase in prices due to excessive demand for
goods and services.

53. How does the government typically combat deflation using fiscal policy?
a) By increasing taxes and reducing government spending.
b) By decreasing taxes and increasing government spending.
c) By decreasing taxes and reducing government spending.
d) By increasing taxes and increasing government spending.

54.Explain the potential consequences of deflation if left unchecked by

policymakers.
a) Deflation leads to increased consumer spending and economic growth.
b) Deflation can result in recession, job losses, and declining economic activity.
c) Deflation encourages investment and innovation in the economy.
d) Deflation stabilizes prices and promotes long-term economic stability.

55. Discuss the potential effects of deflation on consumer behavior and

overall economic activity.
a) Deflation typically stimulates consumer spending and boosts economic
growth.
b) Deflation encourages consumers to postpone purchases, leading to decreased
demand and economic contraction.
c) Deflation has no significant impact on consumer behavior or economic
activity.
d) Deflation promotes investment and innovation, driving economic expansion.
56.Discuss the potential implications of deflation on asset prices and
investment decisions.
a) Deflation typically leads to an increase in asset prices, attracting investors and
stimulating economic growth.
b) Deflation results in a decline in asset prices, discouraging investment and
exacerbating economic downturns.
c) Deflation has no significant impact on asset prices or investment decisions.
d) Deflation causes asset prices to stabilize, creating favorable conditions for
long-term investment.

57. How do central banks implement expansionary monetary policy to

combat deflation, and what instruments do they typically employ?
a) Central banks decrease interest rates and purchase government securities to
increase the money supply.
b) Central banks increase interest rates and sell government securities to reduce
the money supply.
c) Central banks decrease interest rates and reduce reserve requirements to limit
lending.
d) Central banks increase interest rates and raise reserve requirements to
encourage lending.

Section 8: Budget

58.What is the significance of presenting an interim budget in the year of

General Elections?
a) It allows for a brief overview of the government's income and expenditure.
b) It ensures continuity in financial governance until a new government is
formed.
c) It introduces new policies and reforms for the upcoming fiscal year.
d) It serves as a comprehensive review of the country's economic performance.

59.How does the concept of fiscal deficit relate to government expenditure?

a. It represents the excess of government revenue over its spending.
b. It indicates the proportion of government spending financed through
borrowings.
c. It reflects the surplus generated from capital expenditure projects.
 d. It signifies the amount of government revenue allocated for social welfare
programs.

60. How does the government's expenditure in sectors such as education

and healthcare impact the economy?
a) It stimulates economic growth by creating employment opportunities.
b) It reduces the burden on private institutions and promotes social equity.
c) It leads to inflationary pressures and fiscal imbalances.
d) It discourages private investment in critical sectors.

61. In the context of the budget, what does ‘Current Expenditure’ refer to?
a) Expenditure on infrastructure development projects.
b) Expenditure on maintaining existing government operations.
c) Expenditure on long-term investments in sectors such as education.
d) Expenditure on providing financial support to businesses.

62.How does the government's borrowing to finance fiscal deficits impact

the economy?
a) It increases the supply of money, leading to inflationary pressures.
b) It decreases the availability of credit, stifling economic growth.
c) It stabilizes interest rates, encouraging investment.
d) It has no significant impact on the overall economy.

63.Why is it essential for business owners to pay attention to incentives and

financial support announced in the budget?
a) It determines the profitability of their investments in the stock market.
b) It affects their tax liabilities and operational costs.
c) It influences the availability of skilled labor in the market.
d) It determines the demand for their products and services.

64.How does the government's emphasis on infrastructure spending impact

the economy?
a) It leads to a higher fiscal deficit, causing inflation.
b) It enhances productivity and competitiveness, driving economic growth.
c) It increases unemployment by diverting resources from other sectors.
d) It reduces consumer spending, leading to a slowdown in economic activity.
65.Why is it important for investors to consider the government's fiscal
deficit when analyzing the budget?
a) It provides insights into the government's priorities and future spending
patterns.
b) It influences interest rates and inflation levels in the economy.
c) It affects the stability of the currency and exchange rates.
d) It determines the allocation of tax revenues for infrastructure development.

66.What role does taxation play in shaping investment decisions?

a) It determines the amount of capital gains generated from investments.
b) It influences the after-tax returns on investments.
c) It dictates the type of assets investors can allocate their funds to.
d) It has no impact on investment behavior.

67. Why is it important for individuals to understand the impact of

budgetary decisions on their personal finances?
a) It helps in making informed investment decisions.
b) It enables them to influence government policies through feedback.
c) It does not determine their eligibility for social welfare programs.
d) It has no direct bearing on their financial well-being.

68. What is the primary purpose of a budget?

a) To outline the spending and revenue for the government.
b) To regulate the stock market and financial institutions.
c) To control inflation and interest rates.
d) To monitor international trade and foreign exchange rates.

69.What does the term ‘actual figures’ refer to in the context of budget
estimates?
a) The money budgeted by the government for various expenditures.
b) The revenue generated by the government from different sources.
c) The actual amount of money spent by the government.
d) The projected growth rate of the economy.
 70.Why is it important for the government to keep the revenue receipts
higher than revenue expenditure?
a) To accumulate surplus funds for future investments.
b) To reduce the fiscal deficit and borrowings.
c) To stimulate economic growth through increased spending.
d) To stabilize interest rates and inflation.

Section 9: Subjective/ Analytical

The country’s economy is facing a severe recession. Unemployment is at an

all-time high, businesses are closing down, and the stock market has
plummeted. The government is under pressure to take action to stimulate the
economy and alleviate the distress faced by the people. The government has
come up with four key policy initiatives.
(i) Implement a large-scale infrastructure spending program to create jobs
and boost the economy
(ii) Reduce taxes for businesses to encourage investment and job creation
(iii) Increase government spending on social programs and provide direct
subsidies and direct assistance to those affected most by the recession
(iv) Cut government spending across certain sectors to curtail fiscal deficit
In which order would the government implement the following policy
responses? Use critical thinking and reasoning to arrive at your answer.
a) i, ii, iii, iv
b) iii, ii, iv, i
c) ii, iv, i, iii
d) iii, ii, i, iv
In not more than five bullet points as reasons, justify your choice of answer for
the above question. The bullet points must be crisp, short, and to the point.
Keep the word count to less than 250 words.