KENDRIYA VIDYALAYA SANGATHAN, AGRA REGION

2-TERM STURDY MATERIAL

CLASS-XII (2021-22)

TOPIC: short run equilibrium output; investment multiplier and its mechanism, meaning of
full employment and involuntary unemployment.

AGGREGATE DEMAND – It refers to the total value of goods and services that all sector of the
economy taken together a planning to buy at a given level of income during a period of time.

COMPONENT OF AGGREGATE DEMAND (AD)

Aggregate demand is also known as aggregate expenditure

AD = C+I+G+(X-M)

G= Govt purchase of goods and services

(X-M)= Net export

I= investment expenditure

Personal consumption expenditure- Personal consumption expenditure include expenditure by

consumer household and non profit institution serving household on goods and services during
an accounting year. It include expenditure on

1. Durable goods
2. Semi-durable Goods
3. Services

Investment expenditure- Investment meant addition to physical stocks of capital during a

period of time, its include machinery, housing construction, factory building construction.

Govt. Purchases of goods and services- It include govt. expending on goods and services on
consumer and capital goods.

Net Export – It shows the difference between domestic spending on foreign goods and foreign
spending on domestic goods.

AD has direct relationship with income

AD curve is upward sloping

It beings from Y- axis

AGGREGATE SUPPLY- It refers to money value of goods and services that all the producers are
willing to supply in an economy in an accounting year.

COMPONENT OF AS

AS=C+S=45 ANGLE LINE

C=CONSUMPTION

S= SAVING

AS = NATIONAL INCOME (Y)

 CONSUMPTION FUNCTION/ PROPENSITY TO CONSUME

APC MPC

Consumption Function explains the functional relationship between income and consumption.

Average propensity to consume (APC) = It is the ratio between total consumption and total
income.

APC= C/Y

APC shows consumption pattern in a particular year

Marginal propensity to consume (MPC) = It is the ratio between change in consumption and
change in income.

MPC = ΔC/ΔY

MPC shows change in consumption pattern

CONSUMPTION FUNCTION EQUATION –

C= a+bY

C=Consumption

a= autonomous consumption

b =MPC

Y =Income

Autonomous consumption = consumption when income is zero.

Keynesian psychological law of consumption - According to this law as income increases
consumption also increases but not in the same proportion, it increases in the lesser proportion

Consumption Schedule and curve.

Y C
0 100
100 150
200 200
300 250

SAVING FUNCTION/PRPENSITY TO SAV

(APS) (MPS)

It explain the functional relationship between saving and income

AVERAGE PROPENSITY TO SAVE – It is the ratio between total saving and income

APS= S/Y

Marginal propensity to save – it is the ratio between change in saving and change in income

MPS= ΔS/ΔY

Saving schedule and curve -

 Y S
0 -100
100 -50
200 0
300 50

Relationship between APC and APS

Y= C+S

Derived equation by Y

Y/Y=C/Y+S/Y

1=APC+APS

Relationship between MPC and MPS

1= MPC and MPS

EQUILIBRIUM OF INCOME AND EMPLOYMENT

Equilibrium in an economy struck at the point where

AD= AS

C+I =C+S OR

I =S

Injections =leakages

Schedule:

Y C S I AD AS
0 100 -100 100 200 0
100 150 -50 100 250 100 AD¿AS
200 200 0 100 300 200
300 250 50 100 350 300
 400 300 100 100 400 400 AD=AS
500 350 150 100 450 500
600 400 200 100 500 600 AS ¿AD

An economy is in equilibrium when AD=AS. Any level before equilibrium AD is greater than AS
and any level after it AD is less than AS. This is not stable situation.

When AD¿ AS (I¿S) : In this situation producers will give more employment to the factors of
production, which increases the level of employment , level of output and in turns level of
Income in an economy.

When AD¿AS (I¿ S ¿ : In the situation some of the good would remain unsold. To clear
unwanted stock, the producer would planned a cut in production, Hence employment would
reduced, national income will fall.
S=1000

INVESTMENT MULTIPLIER - Investment multiplier refers to the number by which change in

investment multiples to become change in income, it is measure as the ratio between change in
income and change in investment.

∆Y
k=
∆I

Relationship between multiplier and MPC

There is a direct relationship between multiplier and MPC. Higher the value of MPC, Higher the
multiplier and vice versa.

1
k=
1−mpc

Working of multiplier

It refer to the actual process whereby a multiple increase in income is brought about by
increase expenditure on consumption due to new investment

Multiplier work on a simple theory that more the consumption expenditure more will be the
income generation

The multiplier process works on the basis

1. Investment generate income

2. Income causes change in consumption
3. Consumption depend on MPC
4. Additional consumption expenditure generate additional income
5. This process keeps repeating till the total increase in income equals the product of
multiplier and change in investment.

ΔY=K. ΔI

For example assuming that additional investment is 20cr. And MPC is 0.5

Time period ΔI ΔY ΔC ΔS
1 20 20 10 10
2 - 10 05 05
3 - 05 2.5 2.5
4 - 2.5 1.25 1.25
. - -
 . - -
total - 40 20 20
The multiplier process keeps repeating till the additional income generated is rs.40 Cr.

1
k=
1−mpc

1/1-0.5=2

ΔY= ΔI x 2= 20x2=40 cr.

SECTION-A (LONG QUESTIONS)

1.Explain the meaning of investment multiplier? What can be its minimum value and maximum
value why?
Ans. Defined as the ratio of change in the income to the change in the investment.
K=ΔY/ΔI.
The value of the multiplier is determined by the MPC. It is directly related to MPC.
K=1/1-mpc = 1/1-0 =1
K=1
Minimum value of K is when minimum value of MPC=0, the minimum value of K will be unit
one.
Maximum value of K is when Value of MPC=1 , the value of K will be infinitive .

2. Explain the working of a multiplier with an example.

Ans. Multiplier tells us what will be the final change in the income, as a result of change in
investment. Change in investment results in the change in income. Symbolically:
ΔI→ΔY→ΔC→ΔY
The working of a multiplier can be explained with the help of the following table which is based
on the consumption that is, ΔI=1000 and MPC=4/5.
PROCESS OF ΔI ΔY ΔC
INCOME
GENERATION.
ROUNDS
1. 1000 1000 4/5×I000=800
2. - 800 4/5×800=640
3. - 640 4/5×640=512
4. - 512 4/5×512=409.6
↓∞ ↓∞ ↓∞ ↓∞
TOTAL 5000 4000

3. Explain the equilibrium level of income, employment and output with saving and investment
approach. What happens when savings exceeds investment?
Ans. Equilibrium is achieved when planned saving is equal to planned investment that is S=I.
This can be seen with the help of a diagram.
Y
0X
The equilibrium level of income is s 300 core and at this point S (100) =i (100) the equilibrium
may necessarily not be at the full employment level.
When saving exceeds planned investment means people are consuming less and spending more
as a result AD is less than AS.
This will lead to accumulation of more goods with producer .this will make the businessmen to
reduce production consequently, output, income & employment will be reduced till the
equilibrium level of income

4. When is an economy in equilibrium? Explain with the help of saving and investment function.
Also, explain the changes that take place in an economy when the economy is not in
equilibrium. Use diag
Ans. Equilibrium level of income is determined at a point, where ex-ante or planned saving is
equal to planned investment. This is because, in equilibrium.
AS = AD or C+S=C + l or S=l
Saving is that part of income which is not spent on consumption expenditure
We know that, Y=C+S
or Y is the Aggregate Supply of the economy.
Investment refers to expenditure on capital goods and capital stock during one year,
We know that, AD = C + /
Now, at equilibrium situation, AD = AS
or C + S = C + l or S = l

E is the point where 5 = l , hence the point at which the economy is in equilibrium. OY is the
equilibrium level of National Incomes
When savings is greater than investment in an economy, it refers to AD < AS. There will be a
rise in inventory stock and prices will start to fall. To clear their stocks, the producers would
now plan lesser output. This would mean lesser income in the economy. Lesser income implies
lesser saving. The process would continue till S = l.
But if investments are more than savings, it means that AS < AD. Stocks would reduce and
prices will start to rise. To stand benefitted from such a condition, the producers will increase
their production, leading to an increase in AS. The process would continue till S = l.
5. In an economy, the equilibrium level of income is Rs. 12000 The ratio of Marginal Propensity
to Consume and Marginal Propensity to Save is 3:1. Calculate the additional investment needed
to reach new equilibrium level of income of Rs. 20000 crore.

6. How is saving and investment approach derived from the Aggregate Demand and supply
approach of income determination? Explain and use diagram.
Ans. The equilibrium level of income or output is that level at which the planned savings and
planned investments are equal. It is derived from Aggregate Demand and supply approach in
the following way: Aggregate Demand in a two sector economy is defined as the sum of
consumption expenditure(c) and investment expenditure (I) i.e. AD = C + I, where as Aggregate
Supply is defined as the sum of consumption (c) and savings (s) i.e. AS = C + S.
Mathematically, AD = AS
C + l = C+S
Hence, l=S
or S=l
OP or OP’ is the equilibrium level of income. E is the equilibrium point where Aggregate
Demand equals Aggregate Supply. Equality between AS and AD implies the equality between S
and l. When we stretch the line EP vertically downward, it meets at point E’ with S and l. It is
the equilibrium point of saving and investment approach OP or OP’ represents the level of
income at which the economy is in equilibrium.

7.What changes will take place to bring an economy in equilibrium, if

(i) Planned savings are greater than planned investment
(ii) Planned savings are less than planned investment
Ans. The situation when S > l or when S < l are explained with the help of following figure:

In the diagram, equilibrium is struck at point E when 5 = /. Equilibrium level of income = OY.
Ans. The situation when S > l or when S < l are explained with the help of following figure:
Let us consider a situation when 5 > l. It happens at point E1,.
In such a situation, the following changes will occur
(i) Stocks of the producers would be in excess of the desired limit.
(ii) Profits will start shrinking.
(iii) Desired level of output for the subsequent year will face a cut.
(iv) Levels of income and employment will tend to shrink to the point where S =l, corresponding
to point E in the diagram.
Thus, the economy will come back to the state of equilibrium.
Now, consider a situation when S < l. It happens at point E2. It is a situation when AD>AS.
In such a situation, the following changes will occur
(i) Existing stocks of the producers are not enough to cope with the level of AD.
(ii) Profits will not be maximum, because the desired level of stock is not available.
(iii) Producers will plan higher level of output for the subsequent years.
(iv) Level of output and employment will rise to drive the economy to the point of equilibrium
at point E

8. Explain National Income equilibrium through Aggregate Demand and Aggregate Supply. Use
diagram. Also explain the changes that take place in an economy when the economy is not in
equilibrium.
Ans. In an economy, equilibrium level of income and employment is determined when AD
(Aggregate Demand) is equal to AS (Aggregate Supply).
According to Keynes, AS may be assumed to be perfectly elastic in an economy where full
employment (of resources) is yet to be achieved. Accordingly, AD becomes the principal
determinant of equilibrium level of income.
In the following figure, AD represents aggregate demand curve and 45° line is the line of
reference, where AS – AD. Equilibrium level of income Y is determined at point E, where AD =
AS, Prior to point E, Aggregate Demand exceeds Aggregate Supply leading to an increase in level
of income up to point E, Aggregate Supply exceeds Aggregate Demand leading to a fall in
income back towards point E.
It is only when AS = AD that the equilibrium is struck. Because the equality between AS and AD
implies that the desired level of output in the economy (as indicated by AS) is exactly equal to
the desired level of expenditure (indicated by AD) in the economy. So that, the entire output as
planned by the producers (during and accounting year) is purchased by the buyers. There are
on undesired or unwanted inventories (stock of goods) with the producers.
SECTION-B (SHORT QUESTIONS)

1.Find equilibrium S and equilibrium I when Y=4400, MPC= 0.75 and a=100

Equilibrium is struck when

Y=C+I

Or S=I

Consumption at equilibrium

=100+0.75(4400)

=100+3300

C=3400

We know MPS= 1-MPC

1-0.75=0.25

MPS= 0.25 thus S at equilibrium

S= -100+0.25(4400)

S=1000

We know in equilibrium S=I

I=1000

2 given that S= -25+0.5Y and I = 5000, find equilibrium Y and equilibrium C.

Ans- In equilibrium S=I

-25+0.5Y=5000

0.5Y=5025

Y=10050

S at equilibrium

S=-25+0.5(10050) = -25+5025=5000
We know

Y= C+S

C=Y-S

Thus equilibrium C=10050-5000=5050

3.what is investment multiplier? Explain relation in between k and Mpc.

INVESTMENT MULTIPLIER - Investment multiplier refers to the number by which change in

investment multiples to become change in income, it is measure as the ratio between change in
income and change in investment.

∆Y
k=
∆I

Relationship between multiplier and MPC

There is a direct relationship between multiplier and MPC. Higher the value of MPC, Higher the
multiplier and vice versa.

1
k=
1−mpc

4. Explain working multiplier?

Working of multiplier

It refer to the actual process whereby a multiple increase in income is brought about by
increase expenditure on consumption due to new investment

Multiplier work on a simple theory that more the consumption expenditure more will be the
income generation

The multiplier process works on the basis

6. Investment generate income

7. Income causes change in consumption
8. Consumption depend on MPC
9. Additional consumption expenditure generate additional income
10. This process keeps repeating till the total increase in income equals the product of
multiplier and change in investment.

ΔY=K. ΔI
For example assuming that additional investment is 20cr. And MPC is 0.5

Time period ΔI ΔY ΔC ΔS
1 20 20 10 10
2 - 10 05 05
3 - 05 2.5 2.5
4 - 2.5 1.25 1.25
. - -
. - -
total - 40 20 20
The multiplier process keeps repeating till the additional income generated is rs.40 Cr.

1
k=
1−mpc

1/1-0.5=2

ΔY= ΔI x 2= 20x2=40 cr.

5. Explain the meaning of investment multiplier. What can be its minimum and maximum
value? (Compartment 2014)
Ans. Investment multiplier is the ratio between change in income and the corresponding
change in investment. It represents the responsiveness of income to change in investment. It is
denoted by K. Symbolically,

MPC is Marginal Propensity to

Consume.
The value of Multiplier depends on the value of MPC.

6. As a result of increase in investment by Rs. 60 crore, National Income rises to Rs. 240 crore.
Calculate Marginal Propensity to Consume.
7. In an economy, investment is increased by Rs. 2000 crore. Calculate the change in total
income, if Marginal Propensity to Save is 0.25.

8. State whether the following statements are true or false. Give reasons for your answer
(i)When Marginal Propensity to Consume is greater than Marginal Propensity to Save, the value
of investment multiplier will be greater than 5.
(ii) The value of Marginal Propensity to Save can never be negative.

Ans. (i) No, the statement is false. This can be understood by an example. Suppose, the value of
MPC = 0.6,
hence, MPS = 0.4 (as MPS = 1 – MPC)
Here, MPC > MPS
Now, K=1/1-MPC=1/1-0.6
=1/0.4=2.5
So, K < 5 even if MPC > MPS.
(ii) Yes, the statement is true.
As MPS tells about the change in savings due to change in income and change is saving will
always be positive even if savings is negative, as with rise in income, savings rise at a faster rate
than consumption, so MPS can never be negative.

9. Giving reasons, state whether the following statements are true or false.
(i) Average Propensity to Save is always greater than 0.
(ii) Value of investment multiplier varies between zero and infinity.

Ans. (i) No, the statement is false.

When Average Propensity to Consume (APC) is greater than one (i.e. when consumption is
greater than income), Average Propensity to Save (APS) will less than or equal to zero.
(ii) No, the statement is false.
We know that, K =1/1-MPC so even if the MPC will have its minimum value, i.e. 0, the
investment multiplier will be 1.
Similarly, when MPC = 1, the value of investment multiplier is infinity.
Hence, value of investment multiplier varies between one and infinity.

10. Giving reasons, state whether the following statements are true or false
(i) When Marginal Propensity to Consume is zero, the value of investment multiplier will also be
zero.
(ii) Value of Average Propensity to Save can never be less than zero.

Ans. (i) No, the statement is false.

When Marginal Propensity to Consume is zero, the value of investment multiplier will be 1 (not
zero).
K=1/1-MPC or K=1/1-0=1/1=1

11. Giving reasons state whether the following statements are true or false
(i) If the ratio of Marginal Propensity to Consume and Marginal Propensity to Save is 4 : 1, the
value of investment multiplier will be 4.
(ii) Sum of Average Propensity to Consume and Marginal Propensity to Consume is always equal
to 1.
Ans. (i) No, the statement is false.
If the ratio of MPC and MPS is 4 : 1, then the value of investment multiplier is 5.
MPC=4/4+1=4/5=0.8 as (MPC/MPS=4/1)
K=1/1-0.8=1/0.2=5
(ii) No, the statement is false.
APC and MPC can have values other than 1.
12. State whether the following statements are true or false. Give reasons for your answer
(i)When Marginal Propensity to Consume is greater than Marginal Propensity to Save, the value
of investment multiplier will be greater than 5.
(ii) The value of Marginal Propensity to Save can never be negative.

Ans. (i) No, the statement is false. This can be understood by an example. Suppose, the value of
MPC = 0.6,
hence, MPS = 0.4 (as MPS = 1 – MPC)
Here, MPC > MPS
Now, K=1/1-MPC=1/1-0.6
=1/0.4=2.5
So, K < 5 even if MPC > MPS.
(ii) Yes, the statement is true.
As MPS tells about the change in savings due to change in income and change is saving will
always be positive even if savings is negative, as with rise in income, savings rise at a faster rate
than consumption, so MPS can never be negative.

13. Giving reasons, state whether the following statements are true or false.
(i) Average Propensity to Save is always greater than 0.
(ii) Value of investment multiplier varies between zero and infinity.

Ans. (i) No, the statement is false.

When Average Propensity to Consume (APC) is greater than one (i.e. when consumption is
greater than income), Average Propensity to Save (APS) will less than or equal to zero.
(ii) No, the statement is false.
We know that, K =1/1-MPC so even if the MPC will have its minimum value, i.e. 0, the
investment multiplier will be 1.
Similarly, when MPC = 1, the value of investment multiplier is infinity.
Hence, value of investment multiplier varies between one and infinity.

14. Giving reasons, state whether the following statements are true or false
(i) When Marginal Propensity to Consume is zero, the value of investment multiplier will also be
zero.
(ii) Value of Average Propensity to Save can never be less than zero.
Ans. (i) No, the statement is false.
When Marginal Propensity to Consume is zero, the value of investment multiplier will be 1 (not
zero).
K=1/1-MPC or K=1/1-0=1/1=1

15. Explain the components of equation c= a + by.

Ans. ‘a’ is called intercept and it represents the amount of consumption
When there is a zero level of income i.e. autonomous consumption. The
Consumption is positive at zero level of income. The coefficient ‘b’ measures
the slope of consumption. The slope gives the increase in consumption per
unit increase in income. This is called as MPC. Consumption changes by
‘b’ for every one rupee change in income. Consumption changes in the
same direction as income.

16.Can the value of APS be negative? If yes then when?

Ans. The value of APS can be negative when the value of consumption
exceeds the value of income. At low level of income saving is negative.
e.g.: if income is Rs 1000 and consumption expenditure is Rs 1200
y=c+s s=y-c
1000-12000=-200
APS=-200/1000=0.2 APS=S/Y.
APS=-0.2.

17.Can the average propensity to consume be greater than one? Give the
reason for your answer.
Ans. APC can be greater than one when the consumption exceeds the
income. At that level APS will be negative .when the APS is negative APC
will be greater than one.
e.g.: if the income is 1000 and the consumption is 1200, APC =1200/
1000=1.20.

18.Explain the meaning of investment multiplier? What can be its minimum

value and why?
Ans. Defined as the ratio of change in the income to the change in the
investment.
K=  Y/  I.
The value of the multiplier is determined by the MPC. It is directly related
to MPC.
K=1/1-mpc = 1/1-0 = 1
K=1
Minimum value of K is when minimum value of MPC=0, the minimum value
of K will be unit one.
19.Differentiate between ex ante and ex post investment.
Ans. Ex ante is the planned investment which the planner intends to invest
at different level of income and employment in the economy.Ex post
Investment may differ from ex ante investment when the actual sales differ
From the planned sales and the firms thus face unplanned addition or
Reduction of inventories.

20.When can the APC be equal to one? Give reason for your answer.
Ans. APC can be equal to one when APS =0, i.e when consumption =
income.
E.g: y=1000, c=1000.
APC=C/Y 1000/1000=1
APC=1
APC+APS=1
1-APC=APS
1-1=0
SECTION-C (ASSERTION/ REASONING TYPE QUESTION)

Question Question Content

No

Q1 ASSERTION (A):

APS can never be one or more than one.

REASONING (R):

APC increases with increase in income.

Alternatives:

(a) Both Assertion (A) and Reason (R) are true and Reason (R) is the correct
explanation of Assertion (A)

(b) Both Assertion (A) and Reason (R) are true and Reason (R) is not the correct
explanation of Assertion (A)

(c) Assertion (A) is true but Reason (R) is false.

(d) Assertion (A) is false but Reason (R) is true.

Q2 ASSERTION (A):

MPC of poor is more than that of rich.

REASONING (R):

MPC falls with successive increase in Income.

Alternatives:

(a) Both Assertion (A) and Reason (R) are true and Reason (R) is the correct
explanation of Assertion (A)

(b) Both Assertion (A) and Reason (R) are true and Reason (R) is not the correct
explanation of Assertion (A)

(c) Assertion (A) is true but Reason (R) is false.

(d) Assertion (A) is false but Reason (R) is true.

Q3 ASSERTION (A):

Multiplier explains how many times the income increases as a result of an increase
in the investment.

REASONING (R):

There is an inverse relationship between the value of marginal propensity to save

and investment multiplier.

Alternatives:

(a) Both Assertion (A) and Reason (R) are true and Reason (R) is the correct
explanation of Assertion (A)

(b) Both Assertion (A) and Reason (R) are true and Reason (R) is not the correct
explanation of Assertion (A)

(c) Assertion (A) is true but Reason (R) is false.

(d) Assertion (A) is false but Reason (R) is true.

Q4 ASSERTION (A):

Full employment is that situation in the economy when AS = AD along with fuller
utilization of the resources. But it does not mean a situation of zero
unemployment in the Economy.

REASONING (R):

Full employment means absence of unemployment in the economy.

Alternatives:

(a) Both Assertion (A) and Reason (R) are true and Reason (R) is the correct
explanation of Assertion (A)

(b) Both Assertion (A) and Reason (R) are true and Reason (R) is not the correct
explanation of Assertion (A)

(c) Assertion (A) is true but Reason (R) is false.

(d) Assertion (A) is false but Reason (R) is true

Q5 ASSERTION (A):

When Investment Multiplier is 1, the value of MPC is also 1.

REASONING (R):

Consumption can exceed Income but Savings cannot.

Alternatives:

(a) Both Assertion (A) and Reason (R) are true and Reason (R) is the correct
explanation of Assertion (A)

(b) Both Assertion (A) and Reason (R) are true and Reason (R) is not the correct
explanation of Assertion (A)

(c) Assertion (A) is true but Reason (R) is false.

(d) Assertion (A) is false but Reason (R) is true.

Q6 Assertion (A): Higher the value of Marginal Propensity to Consume, higher the
value of multiplier and more chances of economic growth and increase in National
Income. This happens when marginal propensity to save falls and marginal
propensity to consume rises.

Reason(R): Investment generates income and this additional income causes a

change in consumption. Additional consumption expenditure generates additional
income for producers of goods and services. This process keeps repeating till the
total increase in income equals the product of multiplier and change in
investment: ΔY=Kx ΔI

(a) Both Assertion (A) and Reason (R) are true and Reason (R) is the correct
explanation of Assertion (A)

(b) Both Assertion (A) and Reason (R) are true and Reason (R) is not the correct
explanation of Assertion (A)

(c) Assertion (A) is true but Reason (R) is false.

(d) Assertion (A) is false but Reason (R) is true.

Q7 Assertion (A): Unplanned inventories accumulates when planned investment is less

than planned savings i.e. producers are left with unsold stock of goods as planned
savings are more than planned investments.

Reason(R): In a situation of deficiency of AD in relation AS, Aggregate Demand is

less than Aggregate Supply when buyers (consumers and firms) are consuming less
and thus spending less. It means that they are planning to buy less than what
sellers are planning to sell implying fall in marginal propensity to consume.

(a) Both Assertion (A) and Reason (R) are true and Reason (R) is the correct
explanation of Assertion (A)

(b) Both Assertion (A) and Reason (R) are true and Reason (R) is not the correct
explanation of Assertion (A)

(c) Assertion (A) is true but Reason (R) is false.

(d) Assertion (A) is false but Reason (R) is true.

Q8 Assertion (A): There is direct relationship between Saving and demand for goods
and services in the economy.

Reason(R): As people save more and more, the demand for goods and services fall
in the economy.

(a) Both Assertion (A) and Reason (R) are true and Reason (R) is the correct
explanation of Assertion (A)

(b) Both Assertion (A) and Reason (R) are true and Reason (R) is not the correct
explanation of Assertion (A)

(c) Assertion (A) is true but Reason (R) is false.

(d) Assertion (A) is false but Reason (R) is true.

Q9 Assertion (A): J M Keynes emphasized more on Investment.

Reason(R): As saving increases, it leads to more and more investment in the

economy and hence more demand for goods and services in the economy.

(a) Both Assertion (A) and Reason (R) are true and Reason (R) is the correct
explanation of Assertion (A)

(b) Both Assertion (A) and Reason (R) are true and Reason (R) is not the correct
explanation of Assertion (A)

(c) Assertion (A) is true but Reason (R) is false.

(d) Assertion (A) is false but Reason (R) is true.

Q10 Assertion (A): There is always full employment equilibrium in the economy.

Reason (R): The equilibrium in the economy, where AD=AS may strike even when
there is underemployment.

(a) Both Assertion (A) and Reason (R) are true and Reason (R) is the correct
explanation of Assertion (A)

(b) Both Assertion (A) and Reason (R) are true and Reason (R) is not the correct
explanation of Assertion (A)

(c) Assertion (A) is true but Reason (R) is false.

(d) Assertion (A) is false but Reason (R) is true.

Q11 Assertion: Price has no role to play as a determinant of Aggregate Supply.

Reason: Proportionate increase in aggregate supply due to excess capacity of

production leads to a constant price level in the economy.

(a) Both Assertion (A) and Reason (R) are true and Reason (R) is the correct
explanation of Assertion (A)

(b) Both Assertion (A) and Reason (R) are true and Reason (R) is not the correct
explanation of Assertion (A)

(c) Assertion (A) is true but Reason (R) is false.

(d) Assertion (A) is false but Reason (R) is true.

Q12 Assertion: The rate at which consumption increases often lags behind the rate at
which Y increases.

Reason: There is always some minimum level of consumption, even when income
is zero

(a) Both Assertion (A) and Reason (R) are true and Reason (R) is the correct
explanation of Assertion (A)

(b) Both Assertion (A) and Reason (R) are true and Reason (R) is not the correct
explanation of Assertion (A)

(c) Assertion (A) is true but Reason (R) is false.

(d) Assertion (A) is false but Reason (R) is true.

Question Answer
No

Q1 (c) Assertion (A) is true but Reason (R) is false

Q2 (a) Both Assertion (A) and Reason (R) are true and Reason (R) is the correct
explanation of Assertion (A)

Q3 (a) Both Assertion (A) and Reason (R) are true and Reason (R) is the correct
explanation of Assertion (A)

Q4 (c) Assertion (A) is true but Reason (R) is false

Q5 (d) Assertion (A) is false but Reason (R) is true.

Q6 (a) Both Assertion (A) and Reason (R) are true and Reason (R) is the correct
explanation of Assertion (A)

Q7 (a) Both Assertion (A) and Reason (R) are true and Reason (R) is the correct
explanation of Assertion (A)

Q8 (d) Assertion (A) is false but Reason (R) is true.

Q9 (c) Assertion (A) is true but Reason (R) is false

Q10 (d) Assertion (A) is false but Reason (R) is true.

Q11 (a) Both (A) and (R) are correct and (R) is correct explanation of (A).
 Q12 (b) Both (A) and (R) are correct but (R) is not correct explanation of (A).

SECTION-D (MCQ)

1.The maximum value of multiplier is____________ when the value of MPC is_______

a) Infinity zero

b) Infinity one

c) One infinity

d) None of these
Q2 When economy decides to save the whole of its additional income then value of
investment multiplier will be

a) 1

b) Indeterminate

c) 0

d) Infinity

Q3 If saving function of an economy is given as: S=-40+0.4(Y) then MPC is.

a) 1

b) 0.4

c) 0.6

d) None of these

Q4 Keynesian theory of employment is based on the assumption of

(a) short-run

(b) long-run

(c) full employment

(d) none of these

Q5 If APC of an economy is 0.6, savings at the income level of Rs. 1,000 crore will be

(a) Rs. 100 crore

(b )Rs. 300 crore

(c) Rs. 400 crore

(d) Rs. 600 crore

Q6 If the value of investment multiplier increases, It would mean that

(a) Taxes have increased

(b) MPC has increased

(c) MPS has increased

(d) MPC has decreased

Q7 45° line in the context of equilibrium income is a:

(a) Line of reference.

(b) Line of identity.

(c) Line of equality between AD and AS.

(d) Both (a) and (c).

Q8 Aggregate demand is estimated as:

A. private consumption expenditure

B. private consumption expenditure + government expenditure

C. private investment expenditure + private consumption expenditure + government

expenditure

D. private consumption expenditure + private investment expenditure + government

expenditure + next export

Q9 Marginal Propensity to Consume is equal to:

A. ∆Y / ∆C
B. Y/C
C. ∆C / ∆Y
D. C/Y
Q10 If MPS is 0.6, what will be ∆S when income increased by Rs.50?

A.30

B. 20

C. 25

D. 35

Q11 Which of the following is correct?

A. MPC + MPS = 1
B. 1 - MPC = MPS
C. 1 - MPS = MPC
D. all of these
Q12 Breakeven point occurs when :

A. Y=S
B. S=0
C. Y=C
D. both second and third option
Q13 Since AS = C+S and AD = C+I, the equilibrium will be established when C+S = C+I , or where:

A. S=I
B. S>I
C. S<I
D. all of these
Q14 Investment which is independent of the level of income is called:

A. autonomous investment
B. induced investment
C. fixed investment
D. inventory investment
Q15 The slope of S-line is indicated by:

A. MPC
B. MPS
C. 1 – MPC
D. both second and third option
Q16 Multiplier =

A. ∆Y / ∆S
B. ∆Y / ∆I
C. ∆I / ∆Y
D. ∆Y / ∆C
Q17 If MPC = 1/4, the value of multiplier will be:

A. 4
B. ¾
C. 4/3
D. 6
Q18 if investment increase from 400 to 550 and income increase from 900 to 1650 e the MPS
should be equal to :

A. 0.1
B. 0.2
C. 0.3
D. 0.4
Q19 What will be the value of multiplier if MPC=MPS?

A. 1
B. 2
C. 3
D. Infinite

Q20 Which of the following is correct? Keynes approach is based on

A. Long run Micro approach

B. Short run Micro approach
C. Short run Macro approach
D. Long run Macro approach
Q21 Aggregate demand can be increased by:

(a) Increasing bank rate

(b) Selling government securities by RBI
(c) Increasing cash reserve ratio
(d) Purchasing government securities by RBI

Q22 What can be the maximum value of Marginal Propensity to Save?

(a) 0
(b) 1
(c) 2
(d) 3
Q23 According to classical economists, real wage rate is _______ to the Marginal Productivity of
labour.

(a) Equal
(b) More
(c) Less
(d) None of these

Q24 If the marginal propensity to consume is greater than marginal propensity to save, the
value of multiplier will be:

(a) Less than 2

(b) Greater than 2
(c) Equal to 2
(d) Equal to 1

Q25 The size of the multiplier varies:

(a) Directly with the size of the MPC

(b) Inversely with the size of MPC
(c) Proportionately with the size of the MPC
(d) Slowly with the size of the MPC
Q26 In an economy, C=40+0.75Y and I= ₹ 60 crore, what will be the equilibrium level of income?

(a) ₹ 300 crore

(b) ₹ 350 crore
(c) ₹ 400 crore
(d) ₹ 450 crore

In which situation AD and AS become equal? (e)

(a) Full employment

(b) Beyond full employment
(c) Less than full employment
(d) All of these

Q27 Which of the following is not true about AD in a two-sector economy? (e)

(a) AD= consumption + Saving

(b) AD curve starts from some point above the origin
(c) AD= consumption + investment
(d) AD curve has a positive slope
Q28 The maximum value of multiplier is _______ when the value of MPC is ___________.

(a) Infinity, zero

(b) Infinity, one
(c) One, infinity
(d) None of these

Q2

Q3 a

Q4 c

Q5 b

Q6 d

Q7 d

Q8 c

Q9 c

Q10 a

Q11 a

Q12 c

Q13 a

Q14 a

Q15 b

Q16 b

Q17 c

Q18 b

Q19 b
Q20 c

Q21 (d) Purchasing government securities by RBI

Q22 (b) 1 (Hint: As the change in the saving can be less than or equal to change in income only)

Q23 (a) Equal

Q24 (b) Greater than 2

Q25 (a) Directly with the size of the MPC

Q36 (c) ₹ 400 crore

Q38 (a) AD= consumption + Saving

Q39 (b) Infinity, one

SECTION-E (CBQ/SITUATION BASED QUESTION)
 CBQ NO Question Content

Q1 CASE STUDY-1

State Bank of India’s latest edition of ECOWRAP has noted that many households may
have marginal propensity to consume less because several types of spending are not
easily available amid social distancing constraints. Analysing the trends in deposits since
the lockdown was first imposed, on May 25, the bank noted that the data revealed that
deposits (savings, current and term) increased significantly during Lockdown-1 as
people were apprehensive in the beginning about spending, and turned frugal. During
Lockdown-2, there was a 25% decline in bank deposits, but term deposit accrual was
very healthy.

Source: Business Standard; June 2nd, 2020

Questions:

1.____________ is the ratio of change in consumption to change in income. (APC/MPC)

2. According to given article, many households may have marginal propensity to

consume because several types of spending are not easily available amid social
distancing constraints.

(a) no change (b) more

(c) less (d) None of these

3. There was a 25%__________ in bank deposits, but term deposit accrual was very
healthy during lockdown 2.

4. The sum of APC and MPC is ___________ .

(a) one (b) zero

(c) both (a) and (b) (d) None of these

CASE STUDY-2:Government consumption will have to fuel demand till the economy comes out
of the COVID-19 shock and regains pre-COVID-19 momentum, the Reserve Bank's annual report
said on Tuesday. Private consumption, which has lost its discretionary elements across the
board, particularly transport services, hospitality, recreation and cultural activities, will come in
later as "behavioural restraints may prevent the normalisation of demand for these activities",
RBI said in the annual report. Source: Economics Times
Aug 25, 2020

Questions:

1. The term demand referred above means :

(a) Individual demand (b) Aggregate demand

(c) Market demand (d) none of the above

2. What situation is faced by the economy due to this COVID situation?

(a) Excess Demand (b) Deflationary gap

(c) Deficient Demand (d) both b and c

3. Net Exports is a part of Aggregate demand for an economy. (True / False)

4. If this is situation is not addressed immediately then an economy will face :

(a) Boom and rise in prices (b) Depression and fall in prices

(c) Recovery and fall in prices (d) recession and rise in prices

CASE STUDY 3

Read the passage given below and answer the questions(21-22)

The equilibrium output in the economy also determines the level of employment, given the
quantities of other factors of production.. This means that the level of output determined by
the equality of income with Aggregate Demand does not necessarily mean the level of output
at which everyone is employed. Full employment level of income is that level of income where
all the factors of production are fully employed in the production process. Recall that
equilibrium attained at the point of equality of income and Aggregate Demand by itself does
not signify full employment of resources. Equilibrium only means that if left to itself the level of
income in the economy will not change even when there is unemployment in the economy. The
equilibrium level of output may be more or less than the full employment level of output.

1.Full employment level of income is that level of income where

A. All the factors of production are fully employed in the production process.
B. Some factors of production are fully employed in the production process.

C. Only labour are fully employed.

D. None of the above

2.The equality of income with Aggregate Demand:

A. Does not necessarily mean the level of output at which everyone is employed.

B. Does necessarily mean the level of output at which everyone is employed.

C. Both of the above

D. None of the above

Case Study 4

Read the following news report and answer the Questions:

Significant pick-up in economic activity was observed from October 2020 that peaked in January
this year and started declining from February.

The same started increasing from May this year, peaked in July and declined again in August.

At this juncture, there is a need to further fuel the drivers of household consumption and
private investments to enhance the aggregate demand in the economy as it will have an
accelerated effect on expansion of capital investments in the country.

The government should frontload the National Infra Pipeline expenditure as increased spending
on infrastructure will give a multiplier effect to rejuvenate the aggregate demand in the
economy.

Source:(Interview: Sanjay Aggarwal, President of the PHD Chamber of Commerce and Industry)

Entrepreneur India September 13, 2021

Q.1: What is the relationship between multiplier and MPC?

(a) Positive and indirect (b) Positive and direct

(c) Negative and direct (d) Negative and indirect

Q.2: Which of these is a component of aggregate demand?

(a) Private consumption expenditure (b) Investment expenditure

(c) Government expenditure (d) All of these

Q.3: which is not affected by changes in the level of income:

(a) Autonomous investment (b) Induced investment

(c) Aggregate investment (d) Portfolio investment

Q.4: Which policy is related to the RBI:

(a) Fiscal Policy (b) Budgetary Policy

(c) Monetary Policy (d) Revenue Policy

Case Study 5

The Reserve Bank of India said on Monday that the second wave of the COVID-19 pandemic in
India has had a bigger impact on aggregatedemand than on aggregate supply, and it believes
the economic slowdown was not as severe as a year ago.

The biggest toll of the second wave is in terms of a demand shock - loss of mobility,
discretionary spending and employment, besides inventory accumulation, while the aggregate
supply is less impacted, the Reserve Bank of India said in its monthly bulletin.

RBI said the impact of the second wave is appearing to be U-shaped with agriculture and
technology forming the shoulders of the letter U andmost vulnerable being blue collar groups
(manual work or workers, particularly in industry) and these will warrant a priority in
policyinterventions.

Source: The Economic Times (17 May 2021.)

Q1: If AD<AS, what will the impact of the situation in an economy?

(a) Decrease in inventories, income, employment and general price level

(b) Increase in inventories, income, employment and general price level

(c) Decrease in income, output, employment and general price level

(d) No change in output but increase in employment and general price level
Q2: Which of the following is a reason of demotivation for induced investment?

(a) High aggregate demand

(b) Availability of labour at low wages

(c) Easy availability of finance facilities

(d) Loan on high interest rate

Q3: AD<AS will cause a situation of:

(a) Deflation (b) Inflation (c) Over employment (d) None of these

Q.4: Aggregate Demand = Consumption + ______________.

(a) Supply (b) Investment (c) Saving (d) Expenditure

Case Study 6

Read the passage given below and answer the following question

Amidst indications of an economic slowdown in the beginning of year in feb-mar 2020, forcing
the government to impose a strict lockdown leading to near cessation of major economic
activities across all sectors. The finance minister on 13th, 14th, 15th may 2020 announced an
economic package of Rs. 20 lakh crore for revival of the Indian economy.

Government of India’s Rs. 20 lakh crore ‘AatmaNirbhar Bharat’ package which aimed at reviving
the economy, includes major fiscal measures like free food for the poor, direct cash transfer,
money for rural job guarantee scheme, MGNREGA and credit guarantee to MSMEs. RBI has also
taken steps to slash lending rates and add more liquidity into markets.

1 indicate the impact of economic package on AD-

(A) fall in the AD

(B) rise in the AD

(C) rise in the general price level

(D) no change in AD

2. to induce liquidity RBI must have-

(A) increased CRR

(B) reduced Repo rate

(C) increased reverse repo rate

(D) kept statutory liquidity ratio constant

3. the likely impact of “deficit demand” under income and employment theory, in an economy
are:

(A) decrease in income, output, employment and general price level

(B) decrease in income, but no change in real output

(C) increase in income, output, employment and general price level

(D) no change in output/employment but increase in general price level

4. The nature of fiscal policy undertaken by the government is ______and monetary policy is
____in its nature.

(A) expansionary, expansionary

(B) expansionary, contractionary

(C) contractionary, expansionary

(D) contractionary, contractionary

Case study 6 Read the passage given below and answer the following question

In the simple Keynesian model of income determination, we assume that there is no

government activity in the economy. If we remove this assumption to see how the equilibrium
level of income can be determined in the presence of economic activity of the government, it
can be seen that, the government collects money from the economy and spends money into
the economy. Government expenditures and receipts have an important effect on the
economy. Government budget has two sides viz. the expenditure side and the receipt side.
Money inflows in the receipt side of the budget are of three types, i.e. taxation, public
borrowing and sales of goods and services; money outflow in the expenditure side of the
budget are also of three types i.e. purchase of goods and services, transfer payment and
repayment of debts. Taxation is a compulsory contribution made by the people to the
government against which no direct payments are made by the government. A taxpayer
becomes poorer by the amount of taxes. Hence, the income available in the hands of the
people is reduced by the amount of taxes paid. Public borrowing is made through the sale of
new government bonds, which people voluntarily purchase. Neither their income nor their
wealth is deduced thereby. They simply alter the form and composition of wealth in the private
sector. An increase in the net indebtedness of the government to the central bank takes place
through the creation of new money by the central bank.

1. If government increases its expenditure on the infrastructural project, how will this impact
the aggregate demand?

( A) Increase

(B) Decrease

(C) Remains constant

(D) Increase in a three sector closed economy

2. what will be the impact on the aggregate demand, if the government increase tax rates as it
is a main source of government’s revenue

(A) Increase

(B) Decrease

(C) Remains constant

(D) Either Increase or decrease

3. Public borrowings by the government will lead to --------------(increase/decrease) money

supply in the economy.

4. Suppose government gives subsidies to an industry to share its cost and help the industry to
establish it in the long run. This represents which of the following objectives of the government
budget?

(A)Reducing income inequality

(B) Reallocation of resources

(C) Social Welfare

(D) Fiscal Discipline

REPORT- 7

Amidst indications of an economic slowdown in the beginning of year 2020 came the challenge
of Corona pandemic in Feb-Mar 2020, forcing the Government to impose a strict lockdown
leading to near cessation of major economic activities across all sectors. The Finance Minister
on 13th, 14th, 15th May 20 announced an economic package of ₹20 Lakh Crore for revival of
Indian economy.

Indicate the impact of economic package on AD:

a) Fall in Aggregate Demand

b) Rise in Aggregate Demand

c) Rise in general price level

d) No change in Aggregate Demand

REPORT- 8

Government of India’s ₹20 lakh crore ‘AatmaNirbhar Bharat’ package which aimed at reviving
the economy, includes major fiscal measures like free food for the poor, direct cash transfer,
money for rural job guarantee scheme, MGNREGA and credit guarantees to MSMEs. RBI has
also taken steps to slash lending rates and add more liquidity into the markets. To induce
liquidity RBI must have.

a) Increased cash Reserve Ratio

b) Reduced Repo Rate

c) Increased Reverse Repo Rate

d) Kept statutory liquidity Ratio constant

ANSWER
CBQ NO Answer

Q1 1. MPC

2. Less

3. Decline/

4. (d) None of these

Q2 1. (b) Aggregate demand

2. (d) both b and c

3. True

4. (b) Depression and fall in prices

Q3 1. A

2. A

Q4 1. (b) Positive and direct

2. (d) All of these

3. (a) Autonomous investment

4. (c) Monetary Policy

Q5 1. (c) Decrease in income, output, employment and general price level

2. (d) Loan on high interest rate

3. (a) Deflation

4. (b) Investment

Q6 1 (B) rise in the AD

2 (B) reduced Repo rate

3 (A) decrease in income, output, employment and general price level

4 (B) expansionary, contractionary