HSC Economics Notes: Important Question of Economics Class 12

HSC Board Exam 2021

Important Question

Sample Paper

1.A Choose the correct option: 5

  1. MU of the commodity becomes negative when TU of a commodity is ………  a) rising b) constant       c) falling          d) zero
  2. The relationship between demand for a good and price of its substitute is…….. a) direct b) inverse   c)        no effect    d)   can be direct and inverse
  3. Price elasticity of demand on a linear demand curve at the X axis is…………… a) zero b) one       c) infinity    d) less than one
  4. When supply curve is upward sloping, its slope is…………..  a) positive b)        negative  c)      first positive than negative   d)         zero
  5. The branch of economics that deals with the allocation of resources.   a) Micro economics b) Macroeconomics  c) Econometrics     d) None of these

Options: 1) a, b and c  2) a and b 3) only a     4) None of these

 Q.1 C. Give economic terms:

  1. A situation where more quantity is demanded at a lower price ………
  2. Revenue per unit of output sold.
  3. Degree of responsiveness of quantity demanded to change in income
  4. The cost incurred on fixed factors.
  5. Degree of responsiveness of a change in quantity demanded of one commodity due to change in the price of another

Q.1.D. Assertion and reasoning questions

Assertion (A) : Elasticity of demand explains that one variable is influenced by another variable.

Reasoning (R) :  The  concept  of  elasticity  of demand indicates the effect of price and changes in other factors on demand.

Options :

  • (A) is True, but (R) is False
  • (A) is False, but (R) is True
  • Both (A) and (R) are True and (R) is the correct explanation of (A)
  • Both (A) and (R) are True and (R) is not the correct explanation of (A)

Assertion (A) : Money market economizes use of cash

Reasoning (R) : Money market deals with financial instruments that are close substitutes of money

Options : 1) (A) is True, but (R) is False

(A) is False, but (R) is True

Both (A) and (R) are True and (R) is the correct explanation of (A)

Both (A) and (R) are True and (R) is not the correct explanation of (A)

Assertion (A) : Degree of price elasticity is less than one in case of relatively inelastic

Reasoning (R) : Change in demand is less then the change in price.

Options : 1) (A) is True, but (R) is False

  • (A) is False, but (R) is True
  • Both (A) and (R) are True and (R) is the correct explanation of (A)
  • Both (A) and (R) are True and (R) is not the correct explanation of (A)

 


Q.2 A. Identify and Explain the Concept (any 3)                  [6]

  1. Gauri collected the information about the income of a particular firm.
  2. Salma purchased sweater for her father in winter season.
  3. ABC bank provides d-mat facility, safe deposit lockers, internet banking facilities to its
  4. Japan sells smart phones to
  5. Number of firms producing identical

Q.2 B. Distinguish between (any 3) [6]

  1. Microeconomics and macroeconomics
  2. Total Utility and Marginal Utility
  3. Expansion of demand and Contraction of demand
  4. Perfectly elastic demand and Perfectly inelastic demand
  5. Stock and Supply.
  6. Internal trade and International

Q3. Answer the following questions (any3) [12]

  1. Explain the features of Micro economics.
  2. Explain non-tax sources of revenue of the
  3. Explain the functions of commercial
  4. Features of monopoly
  5. Types of utility

Q4. State with reasons whether you agree or disagree with the following statements (any3) [12]

  1. The scope of microeconomics is unlimited.
  2. Price is the only determinant of demand.
  3. Fines and penalties are a major source of revenue for the Government.
  4. Foreign trade leads to division of labour and specialization at world
  5. The is no relationship between total utility and marginal utility

Q5. Study the following table, figure, passage and answer the questions given below it. (any2) [8]

Unit of a commodityTU unitsMU units
166
2115
3154
4150
514–1
  • Draw total utility curve and marginal utility curve.
  • a) When total utility is maximum marginal utility is
  1. b) When total utility falls, marginal utility becomes
Quantity demanded
Price per kg. in `Consumer AConsumer BConsumer CMarket demand (in kgs) (A+B+C)
25161512 
30121110 
35100908 
40080604 
  1. Complete the market demand
  2. Draw market demand carve based on above-market demand

 

 6. Answer in detail (any2) [16]

  1. State and explain the law of diminishing marginal utility with exceptions.
  2. What is the Law of Demand? States the Exceptions to the law of demand
  3. What is the elasticity of demand? Explain the types of price elasticity of demand.

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1. Choose the correct option:

  1. Point of Satiety means ……….   a) TU is rising and MU is falling b)  TU is falling and MU is negative   c) TU is maximum and MU is zero d)    MU is falling and TU is rising.
  2. When less units are demanded at high price it shows ……………  a) increase in demand b) expansion of demand c) decrease in demand d) contraction in demand
  3. Price elasticity of demand on a linear demand curve at the Y-axis is equal to ……………..   a) zero b) one c) infinity d) greater than one
  4. An upward movement along the same supply curve shows …………….  a) contraction of supply b) decrease in supply    c) expansion of supply   d) increase in supply
  5. Concepts studied under Micro economics.  a)National income b) General price level  c) Factor pricing           d) Product pricing

Options :1) b and c      2) b, c and d   3) a, b and c      4) c and d

Q.1 B. Give economic terms:

  1. A situation where more quantity is demanded at a lower price ………
  2. Degree of responsiveness of quantity demanded to change in income
  3. The cost incurred on fixed factors.
  4. Net addition made to the total cost of production.
  5. Elasticity resulting from an infinite change in quantity

Q.2 A. Identify and Explain the Concept

  1. Nilesh purchased ornaments for his sister.
  2. Vrinda receives monthly pension of Rs.5,000/- from the State Government.
  3. India purchased petroleum from
  4. Maharashtra purchased wheat from



2 B. Distinguish between (any 3) [6]

  1. Increase in demand and Decrease in demand
  2. Relatively elastic and Relatively inelastic demand.
  3. Expansion of Supply and Increase in Supply.
  4. Public finance and Private
  5. Money market and Capital

Q3. Answer the following questions (any3) [12]

  1. Explain the features of Macroeconomics.
  2. Explain various reasons for the growth of public expenditure.
  3. Explain the role of the capital market in
  4. Features of utility/characteristic of utility
  5. Features of perfect competition

 Q4. State with reasons whether you agree or disagree with the following statements (any3) [12]

  1. Macroeconomics is different from microeconomics.
  2. When the price of Giffen goods falls, the demand for it increases.
  3. The goods and services tax (GST) has replaced almost all indirect taxes
  4. Homogeneous is the only assumption of the law of DMU
  5. There are many theoretical difficulties in the measurement of national

Q5. Study the following table, figure, passage, and answer the questions given below it. (any2) [8]

Observe the given diagram and answer the following questions :

  1. Rightward shift in demand curve …………
  2. Leftward shift in demand curve …………
  3. Price remains ……….
  4. Increase and decrease in demand comes under……….

Q6. Answer in detail (any2) [16]

  1. What is the law of diminishing marginal utility explain with assumption?
  2. Define the Law of Demand, explain it the assumption
  3. What is the national income? Explain difficulties in measuring national income

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1.A Choose the correct option:

  1. When MU is falling, TU is……….   a) rising b) falling c) not changing        d) maximum
  2. The relationship between income and demand for inferior goods is…….  a) direct b) inverse c) no effect     d) can be direct and inverse
  3. Ed = 0 in case of……………. a) luxuries b)           normal goods   c) necessities    d) comforts
  4. A rightward shift in supply curve shows…………….   a) contraction of supply b) decrease in supply   c) expansion of supply  d)increase in supply
  5. Homogeneous product is a feature of this market.  a) Monopoly b)Monopolistic competition     c)Perfect competition   d)Oligopoly

Options:1) c and d      2) a, b and c  3)           a, c and d         4) only c

Q.1 B. Give economic terms :

  1. A situation where more quantity is demanded at a lower price ………
  2. Revenue per unit of output sold.
  3. Degree of responsiveness of quantity demanded to change in income
  4. The cost incurred on fixed factors.
  5. Degree of responsiveness of a change in quantity demanded of one commodity due to change in the price of another

 Q.1.C. Find the odd word out

  1. The market structure on the basis of competition: Monopoly, Oligopoly, Very Short Period market, Perfect competition.
  2. Features of monopoly: Price maker, Entry barriers, Many sellers, Lack of substitutes.
  3. Types of Bank Accounts: Saving a/c, D-mat a/c, Recurring a/c, Current a/c
  4. Unregulated Financial intermediates: Mutual fund, Nidhi, Chit fund, Loan Companies
  5. Number of firms producing identical

Q.2 A. Identify and Explain the Concept

  1. Shabana paid wages to workers in her factory and interest on her bank loan.
  2. Lalita satisfied her want of writing on essay by using pen and notebook.
  3. Rajendra has a total stock of 500 gel pens in his shop which includes the 200 gel pens produced in the previous financial year.
  4. Tina deposited a lumpsum amount of ` 50,000 in the bank for a period of one
  5. India purchased petroleum from



Q.2 B. Distinguish between (any 3) [6]

  1. Individual Demand and market demand
  2. Desire and Demand
  3. Contraction of Supply and Decrease in Supply.
  4. Average Revenue and Average Cost.
  5. Internal debt and External
  6. Demand deposit and Time

Q3. Answer the following questions (any3) [12]

  1. Scope of Micro economics.
  2. Explain the functions of RBI.
  3. Features of oligopoly
  4. Explain the features of national income
  5. Calculate Price Index number from the given data :
CommodityABCD
Price in 2005 (`)616244
Price in 2010 (`)818286

Q4. State with reasons whether you agree or disagree with the following statements (any3) [12]

  1. Macroeconomics deals with the study of individual behaviour.
  2. The demand curve slopes downward from left to right.
  3. Democratic Governments do not lead to an increase in public

Q5. Study the following table, figure, passage, and answer the questions given below it. (any2) [8]

Q6. Answer in detail (any2) [16]

  1. Define Law of Supply explains its Assumption/ Exception.
  2. Explain the income method and expenditure method of measuring national income.
  3. Define elasticity of demand and explain the method of measuring elasticity of demand.

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HSC Economics Notes

Micro- Economics:

  • The word Micro-Economic used first time in 1933 by Ragnar Frisch. The word Micro Economics is derived from the Greek word ‘mikros’ which means small.
  • ii. It studies the economic behavior of individual units of the economy, such as households, firms, industries, and markets.
  • Prof A. P. Lerner – “Microeconomics consists of looking at the economy through a microscope, as it were, to see how the millions of cells in the body of economy – the individuals or households as consumers and individuals or firms as producers play their part in the working of the whole economic organism.”

Scope of Micro Economic

Theory of Product Pricing:

  1. The Theory of Product Pricing Explain or determined the relative price of a particular product like cotton cloth, rice, car, and thousands of other commodities
  2. The price of the product/commodity depends upon the forces of demand and supply. The demand and supply position analyses to determine product prices.
  3. The Study of Demand helps to the analysis of consumer’s behavior and the study of Supply helps to the analysis of conditions of production, cost, and behavior of firm & Industry
  4. So, the theory of product pricing is subdivided into the theory of Demand and theory production and Cost.

Theory of Factor Pricing:

  1. Microeconomics studies help to determine the pricing of various factors of production: Wages of labour, Rent for land, Interest for capital
  2. Theory of factor pricing i.e. Theory of distribution Explains how wages (price for the use of labour), rent (payment for use of land), interest (Price for use of capital), and profit (the reward for the entrepreneur are determined).

Theory of Welfare:

  1. The theory of Welfare basically deals with efficiency in the allocation of resources. Efficiency in the allocation of resources is helping to maximization of satisfaction of people, Economic involves three efficiencies:
  2. Efficiency in Production: it means to maximize the level of output from a given amount of resources
  3. Efficiency in consumption: It means the distribution of produced goods & services among the people for consumption, in such a way to maximize total satisfaction of society
  4. Efficiency in direction of production i.e. overall economic efficiency it means the production of those goods which are most desired by the people

Features of Microeconomics

  1. Study of individual units: Micro-economic is concerned with depth study of the economic behavior of individual units such as individual households, particular firms, individual industries, individual prices, etc.
  2. Price Theory: Microeconomic studies help in determining the price of a particular product. The price of the products depends upon the forces of demand and supply. The demand and supply position is analyses to determine product prices.
  3. Slicing method: Microeconomic uses the slicing method for in-depth study of economic units. It split (divide into part) the economy into smaller units, such as individual households, individual firms, etc. for the depth study.
  4. Partial equilibrium analyses: Microeconomics based on the assumption, and in partial equilibrium, we assume that other things being equal. Based on the assumption, we try to establish the relationship between two variables. E.g. law of Demand’ the quantity of the commodity is inversely related to its price.
  5. Factor pricing: Microeconomics studies help to determine the pricing of various factors of production: Wages of labour, Rent for land, Interest for capital.
  6. Analysis of Market Structure:– Microeconomics analyses different market structures such as Perfect Competition, Monopoly, Monopolistic Competition, Oligopoly, etc.
  7. Limited Scope:– The scope of microeconomics is limited to only individual units. It doesn’t deal with nationwide economic problems such as inflation, deflation, the balance of payments, poverty, unemployment, population, economic growth, etc.
  8. Use of Marginalism Principle: The term ‘marginal’ means change brought in total by an additional unit. The marginal analysis helps to study a variable through the changes. Producers and consumers make economic decisions using this principle. The concept of Marginalism is the key tool of microeconomic analysis.
  9. Based on Certain Assumptions: Microeconomics begins with the fundamental assumption, “Other things remaining constant” (Ceteris Paribus) such as perfect competition, laissez-faire policy, pure capitalism, full employment, etc. These assumptions make the analysis simple.

Importance of Micro Economic

  1. Price determination:  Microeconomic studies help in determined the price of a particular product. The price of the products depends upon the forces of demand and supply. The demand and supply position is analyses to determine product prices.
  2. Free Market Economy: Microeconomics helps in understanding the working of a free market economy. Free market economy means there is no intervention by the Government or any other agency, where the economic decisions regarding the production of goods, such as ‘What to produce? How much to produce? How to produce? etc.’ are taken at individual levels.
  3. Foreign Trade: Microeconomics helps in explaining various aspects of foreign trade like the effects of a tariff (tax) on a particular commodity, determination of currency exchange rates of any two countries, gains from international trade to a particular country, etc.
  4. Economics Model Building:  Microeconomic involves the construction of simple models to express the actual economic phenomenon. The economic models state the relationships between two variables. For e.g. the model of the law of demand, there is an inverse relationship between demand and price.
  5. Business Decisions: Microeconomic theories are helpful to businessmen for taking crucial business decisions. These decisions are related to the determination of cost of production, determination of prices of goods, maximization of output and profit, etc.
  6. Useful to Government: It is useful to the government in framing economic policies; Microeconomic analysis is useful in determining tax policy, public expenditure policy, price policy, efficient allocation of resources, etc.
  7. Basis of Welfare Economics: Microeconomics explains how best results can be obtained by optimum utilization of available resources and proper allocation of resources. It also studies how taxes affect social welfare.

Macro Economics

The term macro-economic is derived from the Greek word ‘MAKROS’ which means large, so macro-economic refers to the study of the economic behavior of total employment, total consumption, total investment, etc. Macroeconomic is the study of aggregate. It is the study of the economic system as a whole. Therefore, it also called aggregate economic.

Definitions of Macro Economics :

J. L. Hansen – “Macroeconomics is that branch of economics which considers the relationship between large aggregates such as the volume of employment, total amount of savings, investment, national income, etc.”

Scope of Macro Economics

Theory of Income and Employment:

  • Macroeconomic is known as Theory of Income and Employment because it explains or determines the level of national incomes and employment in an economy and analyses the causes of fluctuation in the level of income, output, and employment
  • This theory also examines the inter-relation between income and employment and suggests policies to solve the problems related to these variables

Theory of General price level and Inflation:

  • The macro-Economic analysis shows how the general level of price is determined and it also explains what causes fluctuations in it.
  • The study if the general level of prices is significant in the account of the problems created by inflation and depression.
  • The problem of inflation and depression are serious problems in the worlds these days
  • The theory of price level studies the causes and effects of inflation and depression and suggests economic policies to tackle these problems.

Theory of Growth and Development:

  • Another important subject matter of Macroeconomics is the theory of economic growth and development.
  • It analysis the causes of underdevelopment and poverty in poor countries and suggests the best policies for growth and development.
  • It also deals with the problems of the full utilization of resources to increase production capacity.
  • It explains how the higher rate of growth with stability, can be achieved in countries.

Theory of Distribution:

  • It explains what determines the relative shares from the total national income of the various classes.
  • It deals with the relative shares of rent, wages, interest and profits in the total national income.

Features of Macro Economics

  1. Study of Aggregates: Macro-economic is the study of aggregates. It is related to concepts such as aggregate demand and supply, national income, and total output.
  2. Income theory: Income theory is a major aspect of macroeconomic theory. A major task of macroeconomic is the determination of national income. Macroeconomics studies the factors determining national income.
  3. General equilibrium Analysis: Macro-economic is related to the behavior of aggregate and their interdependence. It is a general equilibrium analysis in which everything depends on everything else. E.g. change in the level of income may result in a change in saving, which in turn may influences investment. The investment turn may affect production output.
  4. Interdependence: Macro analysis takes into account interdependence between aggregate economic variables, such as income, output, employment, investments, price level, etc. For example, changes in the level of investment will finally result in changes in the levels of income, levels of output, employment, and eventually the level of economic growth.
  5. Lumping method: Macro-economic study deals with the lumping methods i.e. study of the whole, like national income and the general price of products not the price of individual products.
  6. Growth Models: Macroeconomics studies various factors that contribute to economic growth and development. It is useful in developing growth models. These growth models are used for studying economic development. For example, the Mahalanobis growth model emphasized basic heavy industries.
  7. General Price Level: General Price level is the average of all prices of goods and services currently being produced in the economy. Determination and changes in the general price levels are studied in macroeconomics.
  8. Policy-Oriented: The study of macroeconomics is highly useful for the formulation and implementation of the economic policy of the government. The government is concerned with the regulation of aggregate of economic systems such as the general price level, the general level of production, the level of employment, and so on.

Importance of Macroeconomics :

  1. Functioning of an Economy: Macroeconomic analysis gives us an idea of the functioning of an economic system. It helps us to understand the behavior pattern of aggregative variables in a large and complex economic system.
  2. Economic Fluctuations: Macroeconomics helps to analyze the causes of fluctuations in income, output, and employment and makes an attempt to control them or reduce their severity.
  3. National Income: Macroeconomics analysis helps to measure national income and social accounts.  Without a study of national income, it is not possible to formulate correct economic policies.
  4. Economic Development: Study of macroeconomics help to understand the problems of developing countries such as poverty, inequalities of income and wealth, differences in the standards of living of the people, etc. It suggests important steps to achieve economic development.
  5. Performance of an Economy: Macroeconomics helps us to analyse the performance of an economy. National Income (NI) estimates are used to measure the performance of an economy over time by comparing the production of goods and services in one period with that of the other period.
  6. Study of Macroeconomic Variables: Study of macroeconomic variables are important to understand the working of the economy, Main economic problems are related to the economic variables such as behaviour of total income, output, employment, and general price level in the economy.
  7. Level of Employment: Macroeconomics helps to analyse the general level of employment and output in an economy.

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Reference: MHSB books

Utility

  • “Utility is the power or capacity of a commodity to satisfy human wants.”
  • When a consumer consumes or buys a commodity, he expects to get some benefit in the form of satisfaction of a certain want.
  • This benefit or satisfaction experienced by the consumer is referred to by economists as a utility.

The features/characteristic of utility are as follows:

  1. Relative concept: – Utility is related to time and place. It differs from time to time and place to place. E.g. umbrellas have utility only in the rainy season. Similarly, woolen clothes have more utility in Kashmir than in Mumbai.
  2. Subjective concept: – Utility of a commodity cannot be the same for all individuals. It differs from person to person, because of the differences in tastes, preferences, etc. of the peoples. E.g. Meat has a utility to non-vegetarians, but not to pure vegetarians.
  3. Ethically neutral concept: The concept of utility has no ethical consideration.  The commodity should satisfy any want of a person without consideration of what is good or bad, desirable, or undesirable. For example, a knife has a utility to cut fruits and vegetables as well as it can be used to harm someone. Both wants are different in nature but are satisfied by the same commodity. Thus, the utility is ethically neutral.
  4. The utility is different from usefulness: – Utility is the power or capacity of a commodity to satisfy human wants while usefulness is the benefit that a consumer gets. A commodity may have utility but not be useful. E.g. A cigarette has utility for a smoker, but it does not have used as it is injurious to health.
  5. The utility is different from pleasure: – Some goods have utility but consuming them is not enjoyable. E.g. No one enjoys taking bitter medicine or an injection.
  6. The utility is different from satisfaction: – Utility and satisfaction are related but not the same. The utility is the power or capacity of a commodity to satisfy human wants. Satisfaction is the end result of utility.
  7. Measurement of utility is hypothetical: – It is difficult to measure utility in objective terms. It cannot be measured in numerical terms or cardinal numbers such as 1, 2, 3, and so on. The utility can only be experienced and found either positive, zero, or negative.
  8. Utility is multi-purpose:– If a commodity can be put to a number of uses, then its utility will differ in each use. E.g. Electricity can be used for lighting, ironing, cooking, and washing, etc.
  9. Utility depends on the intensity of wants: – The utility of commodity depends upon the intensity of the want. The more urgent or intense the want more will be the utility. E.g. the Utility of food is higher for the hungry people and utility decline with the satisfaction of hunger.
  10. Utility is intangible: – Utility is intangible in nature. It has no physical existence. One cannot touch it or see it. It can be felt only by the use of the commodity.

Types Utility

  1. Form Utility: – When utility increase due to the changing in the shape or structure of existing material, it called form utility. E.g. wood converted into a chair or furniture.
  2. Place Utility: – When the utility of commodity increases due to the change in the place of utilization. E.g. Goods produced in Mumbai can be transported to Goa for consumption. Thus, transport services can create place utility.
  3. Time Utility: – When the Utility of a commodity increases with a change in the time of utilization it is called time utility. E.g. Umbrellas have greater utility during the rainy season.
  4. Services Utility: – Services Utility is created by providing services to people. E.g. teachers can provide services utility to students, and doctors to patients, etc.
  5. Knowledge Utility: – It’s created by filling the knowledge gap. E.g. advertisements can create knowledge utility by providing information about the latest product in the market.
  6. Possession Utility: It is created by transferring ownership of a commodity from one person to another person. For example when we purchase a Flat after paying the full amount we get Possession utility.

Concept of utility

Total Utility:-

  • It refers to the sum of the total utility derived from all units of the commodity consumed at a given period of time.
  • Total utility is the sum of all utilities derived by a consumer from all units of a commodity consumed by him.
  • Symbolically TU = ∑mu
    TU= Total Utility
    ∑MU = sum total of marginal utilities

Marginal Utility:-

  • Marginal Utility is the utility derived from the consumption of an additional or extra unit of a commodity.
  • Symbolically MUn = TUn – TUn-1
  • It starts diminishing at a beginning level and It is positive zero, and negative.

Relationship between Total Utility and Marginal Utility:

Total Utility:- Total utility is the sum of all utilities derived by a consumer from all units of a commodity consumed by him.

Symbolically    TU = ∑mu

TU= Total Utility

∑MU = sum total of marginal utilities

Marginal Utility:- Marginal Utility is the utility derived from the consumption of an additional or extra unit of a commodity.

Symbolically          MUn = TUn – TUn-1

TU Curve = Total Utility Curve
MU Curve = Marginal Utility Curve

The X-axis measures the units of the commodity consumed while the Y-axis indicates the figures of total and marginal utility.

Fig. 2.7 shows that the total utility curve slopes upwards whereas the marginal utility curve slopes downwards. The marginal utility curve shows zero and negative levels of marginal utility whereas the total utility curve show maximum and constant total utility level.

  1. The total utility and the marginal utility of the very first unit of x consumed, are the same.
  2. As the consumer consumes further units of x, the total utility increases at a diminishing rate, and marginal utility goes on diminishing.
  3. At a particular stage, total utility reaches its maximum and remains constant whereas marginal utility becomes zero. This is called the point of satiety. (TU highest, MU = 0)
  4. After this point, any additional unit consumed further results in a decline in the total utility, while marginal utility becomes negative.
  5. After reaching the point of satiety, a rational consumer should stop his consumption since the maximum limit of satisfaction is reached and there is no addition to the total utility by any further increase in the stock of a commodity.
  6. Consumption beyond the point of satiety transforms satisfaction into dissatisfaction. In other words, a consumer starts experiencing ill effects of consumption.

Law of Diminishing Marginal Utility :

Introduction :

  • This law was first proposed by Prof. Gossen but was discussed in detail by Prof. Alfred Marshall in his book ‘Principles of Economics’ published in 1890.
  • The law of diminishing marginal utility is based on the common consumer behaviour that utility derived diminishes with the reduction in the intensity of a want.

Statement of the Law: According to Prof. Alfred Marshall, “Other things remaining constant, the additional benefit which a person derives from a given increase in his stock of a thing, diminishes with every increase in the stock that he already has.”

The law explains the economic behaviour of a rational consumer. It states that as a consumer consumes more and more, his Marginal Utility (MU) will decrease. Means after consuming more and more unit of a commodity decrease the satisfaction level of the consumer.

Explanation of the Diagram :

  1. In the above diagram, units of commodity x are measured on X-axis and marginal utility is measured on Y-axis. Various points of MU are plotted on the graph as per the given schedule. When the locus of all the points is joined, the MU curve is derived.
  2. MU curve slopes downwards from left to right which shows that MU goes on diminishing with every successive increase in the consumption of a commodity.
  3. When MU becomes zero, the MU curve intercepts the X-axis. Further consumption of a commodity brings disutility (negative utility) which is shown by the shaded portion in the diagram.

Assumption of the law of DMU:

  1. Rationality: – It assumes that consumer beahviour is rational or normal. And his aim should be to get maximum satisfaction.
  2. Cardinal Measurement: – Dr. Marshall assumes that a consumer can measure utility in terms of numbers i.e. 1, 2, 3, etc.
  3. Homogeneity: – The law is applicable only if all units of goods consumed must be uniform i.e. all the units must be the same in respect of size, colour, taste, quality, etc.
  4. Continuity: – The law applies only if the consumption process is continuous. There should be no time gap during the process of consumption. MU will not diminish if there is a time interval.
  5. Reasonability: – The units of the commodity consumed, should be of a standard or normal size. There should neither be too big nor too small. E.g. a cup of tea, a glass of water, etc.
  6. Constancy: – The law assumes that there should be no change in taste, habits, preference, and income of the consumers during the process of consumption.
  7. Divisibility: The law assumes that the commodity consumed by the consumer is divisible so that it can be acquired in small quantities.
  8. Single wants: – The law of DMU assumes that a commodity is used to satisfy only a single want. The commodity has got single use.

The exception of law of DMU:

  1. Hobbies: – In the case of hobby like painting as you paint more pictures every additional panting gives you more and more satisfying because it is better than the previous panting. Hence marginal utility increases instead of falling.
  2. Misers: – In the case of the miser, every additional rupee gives him more and more satisfaction, because he is not a normal person. So his MU tends to increase with an increase in the stock of money.
  3. Addictions: – This law is not applicable to drunkards because they like to consume more with every additional unit offered to them.
  4. Music and poetry: – Those who are like music and poetry, whenever they hear them, get more and more satisfaction, even if they hear the second time.
  5. Reading: – Reading gives more knowledge, a scholar may receive more and more satisfaction, when he reads various books again, and again he gets more satisfaction And MU increase.
  6. Money: – It is assumed that an individual gets more satisfaction with more money and he wants to have more of it.

Criticisms of the Law :

  1. Unrealistic assumptions: The law of diminishing marginal utility is based upon various assumptions like homogeneity, continuity, constancy, rationality, etc. but in reality, it is difficult to fulfill all these conditions at a point of time.
  2. Cardinal measurement: In reality, the cardinal measurement of utility is not possible because the utility is a subjective concept.
  3. Indivisible goods: this law is not applicable in the case of indivisible commodities like T.V set, car, fridge, etc.
  4. Constant marginal utility of money: The law assumes that the marginal utility of money remains constant that is prices remain constant but this is not true as price level charge.
  5. A single want: The law is restricted to the satisfaction of a single want at a point in time. However, in reality, a man has to satisfy many wants at a point in time.

Significance of the Law :

  1. Usefulness to the consumers: This law creates awareness among the consumers. To obtain maximum utility from the limited resources, it is necessary to ‘diversify’ the consumption.
  2. Useful to the government: The law is useful to the government in framing various policies such as progressive tax policy, trade policy, pricing policy, etc.
  3. Basis of paradox of values: The law of diminishing marginal utility helps us to understand the paradox of values. It includes goods that have more value-in-use and zero or less value-in-exchange such as air, water, sunshine, etc. as well as goods that have more value-in-exchange and less value-in-use such as gold, diamonds, etc.
  4. Basis of the law of demand: The law of demand is based on the law of diminishing marginal utility. According to the law of demand, the quantity demanded of a good rise with a fall in price and falls with an increase in price. When a consumer purchases more and more units of a good, its marginal utility steadily declines. Hence, he would buy additional units of a commodity only at a lower price.

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Demand:

  • Goods are demanded because they have utility
  • Demand is the quantity of a commodity that a person is ready to buy at a particular price during a given period of time.
  • In economics, the term ‘Demand’ refers to a desire for a commodity-backed by the ability to pay and willingness to pay for it.
  • Demand = desire + ability to pay + willingness to pay

Individual Demand:-

Individual demand is demanded by an individual. Individual demand indicates the different quantity of commodities demanded by a consumer at different prices during a given period time.

 Explanation of schedule:-

  • The above table shows that a lower quantity of commodities demanded at higher prices and a higher quantity of commodities demanded at lower prices.
  • For e.g. when the price of a commodity is higher Rs. 10, 1Kg commodity demanded by the individual.
  • It shows an inverse relationship between price and quantity demanded.

  • In figure 3.1, X-axis represents the quantity demanded and Y-axis represents the price of the commodity.
  • The demand curve DD slopes downward from left to right, indicating an inverse relationship between price and quantity demanded.

Market Demand:

  • Market demand indicates the total quantity of commodities demanded by all consumers in the market during a given period of time.
  • The market demand schedule is a tabular representation showing different quantities of a commodity which all consumers are prepared to buy at various prices over a given period of time.

  1. Table 3.2 shows different quantities of commodity x purchased by different consumers (A, B, C) at various prices.
  2. Market demand indicates the total quantity of commodities demanded by all consumers in the market during a given period of time. Thus, there is an inverse relationship between price and quantity demanded.

  1. The X-axis shows the quantity of a commodity demanded and Y-axis shows the price of a commodity. It slopes downwards from left to right.
  2. The market demand curve shows the inverse relationship between price and total quantity demanded in the market.

Types of demand

  1. Direct demand: – When goods and services are demanded to satisfy human wants directly, it is called direct demand. E.g. demand for food, clothes, computer, mobile, etc.
  2. Indirect demand / Derived demand: – When demand for one commodity gives rise to the demand for another commodity, it’s called indirect demand. E.g. raw material, labour, machines, etc. are not demanded to serve directly but they are needed for the production of goods having direct demand.
  3. Joint demand / Complementary demand: – When two or more commodities are demanded at the same time to satisfy a single want, it is called joint demand. For e.g. car and petrol, pen and paper, toothbrush and toothpaste, etc.
  4. Composite demand: – When one commodity is demanded number of uses, it is called composite demand. For e.g. electricity is demanded lighting, cooking, etc. or Milk is used for making tea, coffee, ice-creams, etc.
  5. Competitive demand: – When two goods are close substitutes of each other or when the demand for a commodity competes with its substitutes, it’s called competitive demand. E.g. tea or coffee, Pepsi or cola, etc.

Determinants of Demand /Factor Affecting Demand

  1. Price: – Price is one of the most important factors that affect demand. When the price rises demand falls and when the price falls demand rises.
  2. Income: – Income is directly related to demand. If consumer income rises demand also rises and if consumer incomes fall demand also falls.
  3. Prices of Substitute Goods: If a substitute good is available at a lower price then people will demand cheaper substitute goods than costly goods. For example, if the price of sugar rises then demand jaggery will rise.
  4. Price of complementary: – if goods are jointly demanded like cars and petrol when the price of the car rises, the demand for cars and petrol both will fall.
  5. Nature of product: If a commodity is a necessity and its use is unavoidable, then its demand will continue to be the same irrespective of the corresponding price. For example, medicine to control blood pressure.
  6. Size of the population: – An increase in size population leads to an increase in market demand for goods and services.
  7. Expectation about future prices: – If consumers expect a fall in the price of a commodity in the near future, they will demand less at the present price and vice versa. It shows that expectations about future prices affect demand.
  8. Advertisement: – Powerful advertisements create demand for products. E.g. consumers buy new products like shampoos, soap due to attractive advertisements.
  9. Taste, habits, and preference: – A change in taste also changes the demand for a commodity. E.g. demand for fast food has increased in recent years.
  10. Level of Taxation: High rates of taxes on goods or services would increase the price of the goods or services. This, in turn, would result in a decrease in demand for goods or services and vice-versa.
  11. Weather condition: – Weather also affects demand. E.g. raincoats have demand only in the rainy season or more ice-creams in summer.
  12. Taxation policy: – Government’s taxation policy affects demand. For e.g., a change in income tax will change consumer’s disposable income and therefore demand.
  13. Other factors: – Change in technology, social customs, and festivals, it affects the demand for certain goods. E.g. because of new technology LCD T.V. demand increase, and during Diwali sweets, cloths demand increase.

Law of Demand

Introduction :

The law of demand was introduced by Prof. Alfred Marshall in his book, ‘Principles of Economics’, which was published in 1890. The law explains the functional relationship between price and quantity demanded.

Statement of law:-

Dr. Alfred Marshall defines the law of demand as follows “other thing being equal, the larger quantity will be demanded at a lower price and less quantity at a higher price”
In other words, other factors remaining constant, if the price of a commodity rises, demand for it falls, and when the price of a commodity falls demand for the commodity rises. Thus, there is an inverse relationship between price and quantity demanded.
Symbolically, the functional relationship between demand and price is expressed as Dx = f (Px)

Where D = Demand for a commodity
x = Commodity
f = Function
Px = Price of a commodity

The law of demand is explained with the help of the following demand schedule and diagram.

  1. As shown in Table 3.3 when the price of commodity ‘x’ is  50, the quantity demanded is 1 kg. When the price falls from 50 to 40, the quantity demanded rises from 1 kg to 2 kgs.
  2. Similarly, at price 30, the quantity demanded is 3 kgs and when the price falls from 20 to 10, the quantity demanded rises from 4 kg to 5 kgs.
  3. Thus, as the price of a commodity falls, the quantity demanded rises and when the price of a commodity rises, the quantity demanded falls. This shows an inverse relationship between price and quantity demanded.

In fig. 3.5, X-axis represents the demand for the commodity, and the Y axis represents the price of commodity x. DD is the demand curve that slopes downward from left to right due to an inverse relationship between price and quantity demanded.

Assumptions of the Law of Demand

The law assumed certain factors to remain constant, otherwise, the inverse relationship between price and quantity demanded will not hold true. They are:

  1. Constant level of income: – It assumes that there is no change in consumer income because if income increases consumers will demand more quantity even at a higher price.
  2. No change in the size of the population: – There should not be any change in the size of the population. Because a change in population will bring about a change in demand and vice versa.
  3. Prices of substitute goods remain constant: – The price of substitute and complementary goods should remain the same. For e.g. if the price of tea rises, its demand will decrease but demand for coffee will increase.
  4. Prices of complementary goods remain constant: It is assumed that the prices of complementary goods remain unchanged because a change in the price of one goodwill affects the demand for the other.
  5. No expectations about future changes in prices: – There not be any change in the expectations about the prices of goods in the future. If consumers expect that price will rise or fall in the future, they will change their present demand through price is constant.
  6. No change in tastes, habits, preferences, fashions, etc: – It should remain unchanged, because if consumers tastes, habits, preference change, the demand also change vice and versa.
  7. No change in taxation policy: – No change in direct and indirect taxes compose by government. A change in income tax may cause changes in demand and vice-versa.
  8. No change in weather conditions: – Changes in weather conditions would affect the demand for certain goods, raincoats, woolen clothes,  etc. So it assumed that weather conditions remain unchanged.
  9. No change in technology: – It is assumed that there is no change in technology because any changes in technology would affect the cost of production and also the prices of the products.

The exception of the Law of demand:

  1. Giffen’s paradox: – Inferior goods like bread, potatoes, etc. are those goods whose demand does not rise even if their price falls. Sir Robert in the 19th Century in England observed that when the price of inferior goods like bread fell, poor people purchased a small quantity of bread. This is because when their price fell, the real income of consumers increased and he brought more of some other commodities instead of demanding more of bread.
  2. Prestige goods: – Rich people buy costly things like a diamond, higher-priced motor car, and bungalows, etc. when their price is higher just to show off in the society and vice-versa.
  3. Speculation: – When people speculate rises in the price of goods in the future, they may buy more at the existing higher price. Likewise, when people speculate a fall in the price of goods in the future; they will not buy more at the existing lower prices. They will wait for the price to fall in the future.
  4. Price Illusion: – With a fall in price, sometimes consumers feel that the product of quality is low and they do not want to buy more.
  5. Ignorance: – If the price of a product falls and if people are not aware of that, they do not buy more.
  6. Habitual goods: – Due to habitual consumption certain goods like tobacco, cigarettes, etc. are purchased even if prices are rising. Thus it is an exception.
  7. Fashion: – if a commodity goes out of fashion, people do not buy more even if the price falls.

Variations in Demand :

When the demand for a commodity falls or rises due to a change in price alone and other factors remain constant, it is called variations in demand. It is of two types :

Expansion of demand:

Expansion of demand refers to rising in quantity demanded due to falling in price alone while other factors like tastes, the income of the consumer, size of the population, etc. remain unchanged.
Demand moves in a downward direction on the same demand curve.
This is explained with the help of the following fig. 3.7

As shown in fig. 3.7, DD is the demand curve. A downward movement on the same demand curve from point a to point b indicates an expansion of demand.

Contraction of Demand :

Contraction of demand refers to a fall in demand due to a rise in price alone. Other factors like tastes, the income of the consumer, the size of the population, etc. remain unchanged.
The demand curve moves in the upward direction on the same demand curve.
This can be explained with the help of following fig. 3.8

As shown in fig. 3.8, DD is a demand curve. An upward movement on the same demand curve from point b to point a shows contraction of demand.

Changes in Demand :

When demand for commodity increases or decreases due to changes in other factors and price remains constant, it is known as changes in demand. It is of two types :

Increase in demand :

It refers to an increase in quantity demanded due to favourable changes in other factors like tastes, the income of the consumer, climatic conditions, etc. and the price remains constant.
Demand curve shifts to the right-hand side of the original demand curve. This can be explained with the help of fig. 3.9
As shown in fig. 3.9, DD is the original demand curve. The demand curve shifts outward to the right from DD to D1D1 which indicates an increase in demand.

Decrease in demand:

It refers to a decrease in quantity demanded due to unfavourable changes in other factors like tastes, the income of the consumer, climatic conditions, etc. and the price remains constant.
Demand curve shifts to the left-hand side of the original demand curve. This can be explained with the help of fig. 3.10

As shown in fig. 3.10, DD is the original demand curve. It shifts inward to the left from DD to D2D2 which indicates a decrease in demand.

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Concept of Elasticity of Demand :

  • The elasticity of demand is a “measurement of the relative change in quantity demanded in response to the relative change in price”
  • Because of the elasticity of demand, we are able to measure the percentage change in demand in response to the percentage change in price
  • This elasticity of demand indicates a relationship between percentage change in demand and percentage change in price.
  • According to Prof. Marshall, “Elasticity of demand is great or small according to the amount demanded which rises much or little for a given fall in price and quantity demanded falls much or little for a given rise in price.”

Types of elasticity of demand

  1. Income Elasticity of Demand.
  2. Cross Elasticity of Demand.
  3. Price Elasticity of Demand.

Income Elasticity: Income Elasticity of demand refers to a change in quantity demand for a commodity due to the change in the income of consumers, other factors remain constant. It can be expressed as follows:

Cross Elasticity: Cross Elasticity of demand refers to a change in quantity demand for a commodity due to the change in the price of complementary goods. Eg. Car and Petrol.

Price Elasticity: Price Elasticity of demand refers to change in quantity Demand for a commodity due to change in its price, other factors remain the same.

 

Types of Price Elasticity of Demand :

  1. Perfectly Elastic Demand: When there is a single change or no change in the price of commodity but demand for commodity change infinite. It is called perfectly elastic demand. E.g. if price change by 1% then demand change by more & more. watch my youtube videos for diagram
  2. Perfectly Inelastic Demand: When a change in the price of a commodity has no effect on the quantity demand of the commodity, it is called relatively inelastic demand. For Example, if demand changes by 1% then demand change by more & more.
    Relatively elastic demand: When the percentage change in demand for a commodity is more than the percentage change in the price of the commodity, then it is known as relatively elastic demand. Example If demand change by 20% then the price change by 10%
  3. Relatively inelastic Demand: When the percentage change in demand for a commodity is less than the percentage change in the price of the commodity, it is known as relatively inelastic demand. Example, If demand change by 20% then price change by 40%
  4. Unitary elastic demand: When the percentage change in demand for a commodity is equal to the percentage change in the price of the commodity, it is known as unitary elastic demand. For example, If demand change by 60% the price also changes by 60%.

Factors influencing the elasticity of demand :

  1. Nature of the commodity: The demand for necessaries is inelastic demand and demand for luxuries and comfort is elastic demand.
  2. Availability of substitutes: If the commodity has a number of substitutes it will have elastic demand. If the commodity has no substitute like railways services it will have inelastic demand.
  3. Number of uses: Single-use goods have a less elastic demand. Multi-use goods have more elastic demand, For example, coal, electricity, etc.
  4. Habits: Habits make a demand for certain goods inelastic. For example cigarettes, drugs, etc.
  5. Durability: The demand for durable goods is relatively elastic. For example, furniture, washing machine, etc. The demand for perishable goods is inelastic. For example, milk, vegetables, etc.
  6. Complementary commodities: A commodity having several uses has more elastic in demand. For example, electricity can be used for lighting, cooking, heating, etc.
  7. Income of the consumer: If the consumer income is more demand will be inelastic and when consumer income is less demand will elastic.
  8. Urgency: If wants are more urgent, demand becomes relatively inelastic. If wants can be postponed, demand becomes relatively elastic.
  9. Time period: Elasticity of demand is always related to a period of time. It varies with the length of the time period. Generally speaking, the longer the duration of the period greater will be the elasticity of demand and vice-versa.

Importance of Elasticity of Demand :

  1. Importance to the producer: – It is very useful for the producer in taking price decisions. It means deciding whether to charge a higher prices or lower prices. If the demand for the product is inelastic then the producer always charges a higher price. And if the demand elastic then the price has to low.
  2. Importance to the Government: – The knowledge of the concept of elasticity of demand helps the government in determining taxation policy etc. If the demand is inelastic the governments impose a higher tax and if the demand is elastic the governments impose less tax.
  3. Importance to factor pricing: – this concept is very useful for determining the factor reward. Factor, which has an elastic demand, are paid fewer wages. On the other hand, labour which has inelastic demand is paid a higher reward.
  4. Importance in Foreign Trade: – If export from a country has an inelastic demand then the exporter can fix higher prices to earn more foreign exchange.
  5. Public Utilities: In the case of public utilities like railways which have inelastic demand, Government can either subsidise or nationalise them to avoid consumer exploitation.
  6. Proportion of expenditure: When a consumer spends a very small portion of his income on a commodity demand will be inelastic and vice versa e.g. newspaper.

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Concept of Total Output, Stock, and Supply:

Total Output :

  1. Output produced through the process of production. Input – processing – output
  2. Output in economic is the “total quantity of goods or services produced in a given period of time by a firm, industry, or country”
  3. Therefore, Total output is the total amount of commodities produced during a period of time with help of all factors of production employed by the firms

Stock:

  1. Stock is the total quantity of commodities available for sale with a seller at a particular point in time. Stock refers to the quantity possessed by a seller.
  2. By increasing production, stock can be increased. Without stock, supply is not possible.
  3. Normally, Stock can exceed supply and it is fixed and inelastic.
    In the case of perishable goods such as milk, fish, etc. stock may be equal to supply. On the other hand, durable goods such as furniture, garments, etc. stock can exceed the supply.

Supply:

  1. The term ‘supply’ refers to the quantity of a commodity which the seller is willing and able to sell in the market at a particular price, during a given period of time.
  2. According to Paul Samuelson, supply refers to “The relation between market prices and the number of goods that producers are willing to supply.”
  3. Supply is a relative term. It is always expressed in relation to price, time, and quantity.

Individual Supply Schedule :

Individual supply refers to the various quantity of commodities, offered for sale by an individual seller/producer at different prices during a given period of time.

  • Table 4.1 explains the functional relationship between price and quantity supplied of a commodity. Lower the price, lower the quantity of a commodity supplied, and vice versa.
  • At the lowest price of ` 10, supply is also lowest at 100 kgs. At the highest price of ` 50, the quantity supplied is highest at 500 kgs.

In figure 4.2, the quantity supplied is shown on the X-axis and the price on the Y-axis. Supply curve SS slopes upwards from left to right, indicating a direct relationship between price and quantity supplied.

Market supply

Market supply refers to the various quantity of commodities, offered for sale by all the sellers/producers at different prices during a given period of time.

In Table 4.2, market supply is obtained by adding the supply of sellers A, B, and C at different prices. At the highest price of ` 50, market supply is the highest at 1800 kgs. At the lowest price of 10 market supply is the lowest at 600 kgs.

In figure 4.3, the quantity supplied is shown on the X-axis and the price on the Y-axis. Supply curve SS slopes upwards from left to right, indicating a direct relationship between price and market supply.

Determinants of supply factors determining supply

  1. Price of a Commodity:– The supply of commodities is directly related to its price. Generally, more quantity of a commodity is offered for sale at a higher price, and less quantity is offered for sale at a lower price.
  2. State of technology: – Technological improvements help not only improves the quality, but also the quantity of production. The quantity of production is increased due to the speed of the machines, and also there is a reduction in wastage. The increase in production facilities more supply in the market.
  3. Cost of production: – If the cost of production rises i.e. if sellers have to pay more factors like rent, wages, interest, etc. thus, supply will be reduced.
  4. Infrastructure facility: – Infrastructure in a form of transport, communication, etc. it influences the production process and also supplies. And the shortage of these facilities decreases the supply.
  5. Government policy: – Government’s policy affects the supply. For e.g., changes in taxation, industrial policies, sales tax, customs duties, etc. may encourage or discourage production and supply.
  6. Natural conditions: – Natural factors like weather conditions, drought, floods, earthquakes, etc. can cause fluctuations in supply, especially in agriculture goods.
  7. Future Expectation about price: – Expectations about the future price will affect the supply. If the price is expected to rise in the near future, the producer may hold on to the stock. This will reduce supply.
  8. Exports and imports: – Export reduces the number of goods supplied within the country. Imports increase the supply in the domestic market.
  9. Size of the market: – The size of the market greatly influences the supply. The larger the size of the market, there will more production and larger will be the supply.
  10. Nature of market: – Supply is influenced by the nature of the market. In a competitive market, the supply of goods would be more due to a large number of sellers. But in monopoly, i.e., single seller market, supply would be less.
  11. Number of producers: – If there is a large number of producers, there will be large-scale production of a commodity, which leads to higher supply in the market. However, if the number of producers is very low, the production may be low and supply also would be low.

Law of Supply

Introduction:-

The law of supply is introduced by Dr. Alfred Marshall in his book ‘Principles of Economic,’ which was published in 1890. The Law of Supply explains the functional relationship between the price of the commodity and quantity supplied in the market.

Statement of the Law:-

According to Dr. Alfred Marshall, “other thing being equal, higher the price of the commodity, greater is the quantity supplied and lowers the price of the commodity, smaller is the quantity supplied.”

More quantity of a commodity is offered for sale at a higher price and less quantity is offered for sale at lower prices. So the supply of a commodity is directly related to its price.

Sx = f (Px)

S = Supply,  x = Commodity f = Function,  P = Price of commodity

  1. Table 4.3 explains the direct relationship between the price and quantity of commodities supplied. When the price rises from ` 10 to 20, 30, 40, and 50, the supply also rises from 100 to 200, 300, 400, and 500 units respectively.
  2. It means, when price rises supply also rises and when the price falls supply also falls. Thus, there is a direct relationship between price and quantity supplied which is shown in following figure 4.4 :
  3. In figure 4.4, X-axis represents the quantity supplied and Y-axis represents the price of the commodity. Supply curve ‘SS’ slopes upwards from left to right which has a positive slope.
  4. It indicates a direct relationship between price and quantity supplied.

Assumptions of the law :

  1. Constant cost of production: It is assumed that there is no change in the cost of production. If there is a change in the cost of production, it may affect the price of the commodity and its supply.
  2. Constant technique of production: It is assumed that there is no change in the method or technique of production. Improvement in technology can increase the supply at the same price.
  3. No change in weather conditions: It is assumed that there is no change in weather conditions. There are no natural calamities like floods, earthquakes which may decrease supply.
  4. No change in Government policy: It is also assumed that government policies like taxation policy, trade policy, etc. remain unchanged.
  5. No change in transport cost: – It is assumed that the transport cost remains unchanged. If a change in transport cost it affect the price of the commodity and their supply.
  6. Price of other goods remains constant: – The prices of other goods are assumed to remain constant. If the price of other goods changes, then, the law of supply will not apply.
  7. No future expectations: The law also assumes that the sellers do not expect future changes in the price of the product.

Exceptions to the Law of Supply :

  1. Supply of labour: Labour supply is the total number of hours that workers work at a given wage rate. It is represented graphically by a supply curve. In the case of labour, as the wage rate rises the supply of labour (hours of work) would increase. So the supply curve slopes upward. Supply of labour (hours of work) falls with a further rise in wage rate and the supply curve of labour bends backward. This is because the worker would prefer leisure to work after receiving a higher amount of wages. Thus, after a certain point when the wage rate rises the supply of labour tends to fall.
    It can be explained with the help of a backward bending supply curve. Table no. 4.4 and fig. no 4.5 explains the backward bending supply curve of labour.
    In fig. 4.5, the supply of labour (hours of work) is shown on X-axis, and the wage rate per hour is shown on the Y-axis. The curve SAS represents the backward bending supply curve of labour. Initially, when the wage rate is 100 per hour, the hours of work are 5. The total amount of wages received is 500. When the wage rate rises from 100 to 200, hours of work will also rise from 5 hours to 7 hours and the total amount of wages would also rise from 500 to 1400. At this point, labourer enjoys the highest amount
    i.e. 1400 and works for 7 hours. If the wage rate rises further from 200 to 300, the total amount of wages may rise, but the labourer will prefer leisure time and denies working for extra hours. Thus, he is ready to work only for 6 hours. At point A, the supply curve bends backward, which becomes an exception to the law of supply.
  2. Agricultural goods: The law of supply does not apply to agricultural goods as they are produced in a specific season and their production depends on weather conditions. Due to unfavourable changes in weather, if agricultural production is low, their supply cannot be increased even at a higher price.
  3. Urgent need for cash: – A businessman may face an urgent need for funds, and as such he may sell out more goods even at a lower price. This is an expectation of the law of supply.
  4. Perishable goods:- The seller has to dispose of perishable goods like meat, fish, fruits, flowers, etc., even if the price falls. They cannot wait for a longer time for the price to rise, in order to increase supply.
  5. Rare goods: The supply of rare goods cannot be increased or decreased according to their demand. Even if the price rises, supply remains unchanged. For example, rare paintings, old coins, antique goods, etc.

Variations in Supply :

When quantity supplied of a commodity varies due to change in its price, other factors remaining constant, it is known as variations in supply. There are two types of variations in supply :

Expansion of supply :

Expansion of supply refers to a rise in the quantity supplied due to a rise in the price of a commodity, other factors remaining constant. Expansion in supply leads to an upward movement on the same supply curve due to a rise in price. It is shown in figure 4.6

In figure 4.6, the quantity supplied is shown on the X-axis and the price on the Y-axis. Quantity supplied rises from OQ to OQ1, with a rise in price from OP to OP1, resulting in an upward movement from M to N along the same supply curve SS. It is known as the Expansion of supply.

Contraction of supply :

Contraction of supply refers to a fall in the quantity supplied, due to a fall in the price of a commodity, other factors remaining constant. In the case of contraction of supply, there is a downward movement on the same supply curve. It is shown in figure 4.7

In figure 4.7, the quantity supplied is shown on the X-axis and the price on the Y-axis. Quantity supplied falls from OQ to OQ2 with a fall in price from OP to OP2, resulting in a downward movement from N to M on the same supply curve SS. It is known as Contraction of supply.

Changes in Supply :

When other factors change and price remains constant, it is known as changes in supply. There are two types of changes in supply :

Increase in supply :

An increase in supply refers to a rise in the supply of a given commodity due to favourable changes in other factors such as fall in the price of inputs, fall in tax rates, technological up-gradation, etc., while price remains constant. The supply curve shifts to the right of the original supply curve. It is shown in figure 4.8
In figure 4.8, the quantity supplied is shown on the X-axis and the price on the Y-axis. Supply rises from OQ to OQ1 at the same price OP, resulting in an outward shift of the original supply curve to the right from SS to S1S1. It is known as an increase in supply.

Decrease in supply :

A decrease in supply refers to a fall in the supply of a given commodity due to unfavourable changes in other factors such as an increase in the prices of inputs, an increase in the tax rate, outdated technology, strikes by workers, while price remains constant. The supply curve shifts to the left of the original supply curve. It is shown in figure 4.9

In figure 4.9, the quantity supplied is shown on the X-axis and the price on the Y-axis. Supply falls from OQ to OQ2 at the same price OP, resulting in an inward shift of the original supply curve to the left from SS to S2S2. It is known as a Decrease in supply.

Concepts of Cost and Revenue :

Total Cost (TC) :

Total cost is the total expenditure incurred by a firm on the factors of production required for the production of goods and services. Total cost is the sum of total fixed cost and total variable cost at various levels of

TC = TFC + TVC

TC = Total cost

TFC = Total Fixed Cost

TVC = Total Variable Cost

Total Fixed Cost (TFC): Total fixed costs are those expenses of production which are incurred on fixed factors such as land, machinery, etc.
Total Variable Cost (TVC): Total variable costs are those expenses of production which are incurred on variable factors such as labour, raw material, power, fuel, etc.

Average Cost (AC) :

The average cost refers to the cost of production per unit. It is calculated by dividing total cost by total quantity of production.

Marginal cost (MC):

Marginal cost is the net addition made to total cost by producing one more unit of output.

Total Revenue (TR):

Total revenue is the total sales proceeds of a firm by selling a commodity at a given price. It is the total income of a firm. Total revenue is calculated as follows :

Average Revenue (AR):

Average revenue is the revenue per unit of output sold. It is obtained by dividing the total revenue by the number of units sold.

Marginal Revenue:

Marginal revenue is the net addition made to total revenue by selling an extra unit of the commodity.

 

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Market

In the ordinary sense, the term market refers to a place where buyers and sellers meet for the purpose of exchange. However, the market need not be the place of exchange. The following are the features of the market.

  1. A market involves the exchange of goods and services between the buyers who are willing to buy and the seller who is willing to sell.
  2. ‘Demand’ from the buyer and ‘Supply’ from the seller are two market forces.
  3. There are free entry and exit of buyers and sellers in a competitive market.
  4. The sellers sell their goods in the market with a view to earning profit and buyers buy the goods to satisfy their wants.
  5. The market can be of any size, large or small, local or national, or international.
  6. Market need not necessarily refer to a place. Buyers and sellers may meet personally or they can contact each other through various means of communication.

Classification of Market :

On the basis of place :

  1. Local market: Local market is a market in which sellers sell and customers buy a product in the region or area in which it is produced.
  2. National market: National market is a domestic market in a given country. Each national market is governed by the regulation of its own country.
  3. International market: The international market is a worldwide market in which buyers and sellers trade in goods and services across the national borders.

On the basis of time :

  1. Very short period: Very short period is a period in which supply is fixed and the price is determined by the demand. The time period is for a few days or weeks in which the supply of commodities cannot be increased.
  2. Short period: Short period is a period of less than one year. In this period, firms can only make adjustments in inputs like labour to increase the supply of goods and services.
  3. Long period: Long run is a period of time in which all factors of production and costs are variable. In the long run, firms are able to adjust all costs. It is for a few years, generally up to five years.
  4. Very long period: Very long period is a production time that is so long that all inputs are variable. It is for more than five years.

Perfect Competition :

Perfect competition is a market situation where there is a large number of buyers and sellers buying and selling homogeneous products at a single uniform price. It refers to market conditions which include the following features.

  1. Large number buyers and sellers: – In perfect competition, there is a large number of buyers and sellers. Their number is so large, so single buyers and sellers cannot affect the market demand and supply.
  2. Homogeneous product: – The product supplied by all the sellers is homogeneous or identical (same, similar) in all respect. That is size, colure, shape, quantity, etc.
  3. Free entry and exit: – In a perfect competition market, there is complete freedom for entry and exit of buyers and sellers. Any buyer or seller enters the market or exit from the market as and he wants.
  4. Single price: A single uniform price prevails under perfect competition which is determined by the interaction of demand and supply.
  5. Perfect knowledge about market: – Each and every buyer should have perfect knowledge about the market condition like price, quality, quantity, and feature of the product. If buyers have perfect knowledge about the market condition they cannot be charged more by the seller.
  6. Perfect mobility of factor of production: – labour, capital, etc. are known as features of the production. They are freely movable from one industry to another or one market area to another.
  7. Absence of transport cost: – In perfect competition, the transport cost remains the same or equal to another firm. If the transport cost is included in the cost, it makes a lot of difference in the price of the same commodity.
  8. No government intervention: – It assumed that the government does not interfere in respect of production, transportation, and exchange of goods. In other words, there are no government restrictions.
  9. Demand curve of the firm: – Under perfect competition demand curve is perfectly elastic i.e. a horizontal straight line parallel to X-axis because the seller can sell infinite quantity at market price.

Price determination under Perfect Competition:

The interaction of demand and supply determines the price of the commodity in perfect competition. This is known as ‘equilibrium price.’ The equilibrium price is the price at which the quantity demanded is equal to the quantity supplied.

The price of the product under perfect competition is influenced by both buyers and sellers and the equilibrium price is determined by the interaction of demand and supply forces.

This is explained with the help of the following schedule and diagram.

  1. When the price rises from 100 to 200 quantity demanded falls from 5000 kgs. to 4000 kgs. whereas supply increases from 1000 kgs. to 2000 kgs. This is because demand falls with rising in price and supply rises with a rise in price. This is the stage where demand is greater than supply (DD >SS).
  2. When the price rises to 300, the quantity demanded and quantity supplied become equal that is 3000 kg. This is the stage of equilibrium where demand and supply become equal (DD = SS). Hence, 300 becomes the equilibrium price.
  3. When price further rises from 400 to 500, demand falls from 2000 kgs. to 1000 and supply rises from 4000 kgs. to 5000 kgs. Thus, supply is greater than demand. (SS > DD).

The process of price determination is explained in the following figure 5.2.

  1. In the above diagram, X-axis represents the quantity demanded and quantity supplied, whereas Y-axis represents the price.
  2. DD is the downward sloping demand curve which shows the inverse relationship between price and quantity demanded.
  3. SS is the upward-sloping supply curve which shows a direct relationship between price and quantity supplied.
  4. E is the equilibrium point where DD and SS curves intersect each other.
  5. Accordingly, 300 is the equilibrium price and 3000 kgs. is the equilibrium quantity demanded and supplied. This equilibrium price is determined by market demand and market supply.

Monopoly :

The terms ‘monopoly’ is derived from two Greek words ‘mono’ which means ‘one’ and ‘poly’ which means ‘seller’. A monopoly is a market situation where there is only one seller who commands complete control over the supply of commodities. There is no competition in the market, and therefore, the seller is a price maker and not a price taker. The following are the features of a monopoly:

  1. Single seller: – Monopoly is a market situation in which there is only one seller controlling the entire supply of a commodity in the market. There are no competitions from the seller’s side.
  2. No Close Substitute: – The commodity supplied or sell by the monopolist has no substitute. Therefore the buyers have no choice, but to buy the product, or go without it.
  3. Barriers to entry: – Under the monopoly situation there are entry barriers to other firms. The seller may have exclusive marketing rights to market the product in a particular area or country for a certain period. Thus, other producers are not allowed to enter the market.
  4. Complete control over the market supply: The monopolist has complete hold over the market. He is the sole producer or seller of the product.
  5. Price maker: – In Monopoly the seller is a “price maker” since the monopolist has entire control supply in the market. Therefore he can determine the market price. The seller under monopoly can be called a price maker.
  6. Price discrimination: When a firm charged different prices to different buyers for the same product, it is called a discriminating monopoly.
  7. No difference between firm and industry: – Under monopoly, there is only one producer. Since he is the sole producer for a product, there is no difference between firm and industry. The firm itself becomes the industry for that type of product.
  8. Large number of buyer: – under monopoly, there are large numbers of buyers in the market; who compete with one another.
  9. No competition: – Under monopoly there is only one seller of a product without having close substitutes, there is no competition in the market. In other words, the seller enjoys complete monopoly.
  10. Demand curve: – Demand curve in case of a monopoly market is downward sloping. This indicates that though he is a price maker If he wants to increase the sales he must sell at a lower price.

Types of monopoly

  1. Private Monopoly: – When an individual or private firm owned and controls the production of goods, it is regarded as a private monopoly. For example, Tata Group.
  2. Public Monopoly: – when the government owns and controls the production of goods, it called a public monopoly. For example, Indian Railways.
  3. Legal monopoly: This monopoly emerges on account of legal provisions like patents, trademark, copyrights, etc. The law forbids the potential competitors to imitate the design or form of the product registered under given branded names. For example, Amul products.
  4. Natural Monopoly: – When a firm acquires power due to natural advantages such as location, climate condition, it called a natural monopoly. For example, wheat from Punjab.
  5. Simple Monopoly: – When a firm charges the same price to a different buyer for the same product, it is called a simple monopoly.
  6. Discriminating Monopoly: – When a firm charged a different price to different buyers for the same product, it is called a discriminating monopoly.
  7. Voluntary monopoly: To avoid cut-throat competition, some monopolists voluntarily come together and form a group of monopolists. This facilitates them to maximize profit. For example, the Organisation of Petroleum Exporting Countries (OPEC).

Oligopoly :

The term oligopoly is derived from the Greek words ‘Oligo’ which means few and ‘poly’ which means sellers. It is that market where there are a few firms (sellers) in the market producing either a homogeneous product or a differentiated product. For example, mobile service providers, cement companies, etc.

Features of oligopoly :

  1. Few firms or sellers: Under an oligopoly market, there are few firms or sellers. These few firms dominate the market and enjoy considerable control over the price of a product.
  2. Interdependence:  There are few sellers in the market, if any firm makes the change in the price, all other firms in the industry also try to follow the same to remain in the competition. Therefore the seller has to be cautious with respect to any action taken by the competing firms.
  3. Advertising: Advertising is a powerful instrument in the hands of oligopolists. A firm under oligopoly can start an aggressive and attractive advertising campaign with the intention of capturing a large part of the market.
  4. Entry barriers: The firm can easily exit from the industry whenever it wants. But has to face certain entry barriers such as Government license, patents, etc.
  5. Lack of uniformity: There is a lack of similarity among the firms in terms of their size. Some firms may be small while others may be of a bigger size.
  6. Uncertainty: There is a considerable element of uncertainty in this type of market due to different behaviour patterns. Rivals may join hands and co-operate or may try to fight each other.

Monopolistic competition :

Monopolistic competition is a type of market in which there are a large number of firms that produce and sell similar but that are differentiated but close substitutes to each other. The monopolistic competition exists between the sellers of differentiated products. Monopolistic competition is a mixture of the feature of competition and monopoly. Monopolistic competition exists in the case of products like toothpaste, soaps, etc. and consumer durable like T.V sets and refrigerators, etc.

Following are the features of monopolistic competition.

  1. Fairly large number of sellers: – In a monopolistic competition market, there is a large number of sellers. Hence, a single seller cannot influence the market supply.
  2. Fairly Large number of buyers: – In monopolistic competition, there is a large number of buyers purchased goods by choice, not by chance. So in order to attract more customers, the seller introduces the product according to the taste, preference of the customer.
  3. Product differentiation: – Products differentiation in terms of colour, size, design, taste, etc. product differentiation can also take place in the form of brand name and trademark. Product differentiation gave rise to the element of monopoly.
  4. Free entry and exit: – There are free entry and exit of firms under monopolistic competition market. There are no barriers for the firm to enter or exit. A firm can easily enter into the market with a product which is a close substitute to other firm’s product.
  5. Selling Cost: Selling costs is peculiar to monopolistic competition only. It refers to the cost incurred by the firm to create more demand for its product and thus increase the volume of sales. It includes expenditure on advertisements, radio and television broadcasts, hoardings, exhibitions, window display, free gifts, free samples, etc.
  6. Close substitute: – The product is differentiated but still close substitutes of each other. For e.g. we have different brands of soaps in the market.
  7. Price maker: – In monopolistic competition, the firm is a price maker. The firm has some control over the price due to product differentiation. Thus, there is price differentiation between the firms producing close substitutes.

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National Income

  • The modern economy is a money economy. Hence, the national income of a country is expressed in terms of money. The total income of the nation is called national income.
  • In simple words, national income is “The total money value of all the goods and services produce in an economy during a given period of time”.
  • National Income is also the sum total of income earned by factors. National Income is “the net money value of commodity and services flowing during the year from the countries productive system in the hand of the ultimate consumer”.

Feature of National Income.

  1. Macroeconomic concept: – Macroeconomics deals with aggregate or the economy as a whole. National Income data present the picture of the performance of the country’s economy as a whole in a given period of time.
  2. Value of only final goods and services: In order to avoid double-counting, while estimating national income, we include the only the value of final goods and services.
  3. Net aggregate value: National income includes the net value of goods and services produced and does not include depreciation cost. (i.e. wear and tear of capital assets)
  4. Net income from abroad: – While estimating national income, net income received from international trade that is the net export value (X-M) as well as net receipts (R-P).
  5. Financial years: – It is always expressed with reference to the time period, that is, generally a financial year, which in India is from 1st April to 31st March of every year.
  6. Flow concept: – National income is the ‘flow’ of goods and services produced in the country during a year. It includes only those goods and services which are actually produced.
  7. Money value: – National income always expressed in monetary terms. It represents only those goods and services which are exchanged for money.

Circular flow of Income

The circular flow of income is the basic concept in macroeconomics. The circular flow of income refers to the process whereby an economy’s money receipts and payments flow in a circular manner continuously through time.

The circular flow of income can be determined for the following :

  • Two sector Economy (Households and Business Firms.) Y = C + I
  • Three sector Economy (Households, Business Firms, and Government sector)   Y = C + I + G
  • Four Sector Economy(Households, Business Firms, Government and Foreign sector)
    Y = C + I + G + (X-M)
    The circular flow of goods and money in a two-sector model is explained below :
    HSC Economics Notes
  1. The factoring service flows from the households to the firm and factor income from the firms to the household. The upper half shows this flow through the factor market. The lower half shows the flow of goods and services and payments for the same through the commodity market.
  2. The factor of production and goods and services represent real flow whereas factor payment and payment of goods and services represent money flow.
  3. The real flow and money flow occur in the opposition direction. When we combine the flow factors and goods market we get the circular flow.
  4. Factor services supplied by households to the firms get converted into goods and services and flow back to the households.
  5. Similarly, the money income received by the households in the form of rent, wages, interest, and profits are spent by them in purchasing goods and services, money returns to firms.

Different Concepts of National Income :

Gross Domestic Product (GDP):

GDP is defined as the aggregate market value of all goods and services produced in a country during a given period of time. It is the sum of the money value of goods and services produced within the country.  GDP = C + I + G + (X-M)

Where, C = Private consumption expenditure

I = Domestic Private Investment

G = Government’s consumption and Investment Expenditures

X – M = Net export value (Value of Exports – Value of imports

Net Domestic Product (NDP):

NDP is defined as the net market value of all the goods and services produced during a given period of time. To get NDP we must less depreciation from GDP. Hence, NDP= GDP- depreciation

Gross National Product (GNP):

  • Gross National Product means the gross value of final goods and services produced annually in a country, which is estimated according to the price prevailing in the market.
  • GNP = C + I + G + (X-M) + (R-P).

(R = receipts from abroad and P = payments made abroad)

Net National Product (NNP):-

NNP defines as a net market value of all goods and services produced in a country during a given period of time as well as net factor income from abroad. Since NNP measures the market value of all goods and services less depreciation is called NNP. Hence, NNP= GNP – depreciation

Method for measuring National Income

 There are three methods for measuring national income.

  1. Value-added Method
  2. Income Method
  3. Expenditure Method

Value-added method: –

This method is known as the output and inventory method. Under this method, National Income is calculated as the “sum total of the money value of all goods and services produced in a country during a given period of time as well as net factor income from abroad.” In this method, the value of final goods and services is included to avoid double counting. It includes the net value of:

  1. Consumption (C):- the market value of all consumer goods like a car, gold, house, etc.
  2. Investment (I):- the market of all producer goods like machinery, tools, factory, building, etc.
  3. Government Expenditure (G):- It refers to the expenditure made by the government on consumption and investment.
  4. Net Income from abroad (x-m):- It refers to the net difference between export and import.

Precautions:

  1. To avoid double counting.
  2. Depreciation costs should be deducted.
  3. Net income from abroad should be included.
  4. It includes only those goods and services which are exchanged for money.

Income Method:

This method is also known as the factor cost method. National Income is obtained by adding income such as rent, interest, wages, etc. by all the persons and enterprises in the country during a given period of time. Wherever goods and services are produced in the economy, income is also generated and distributed among the factors of production. Different factors of production are paid for their productive services. Thus, labour gets wages, the land gets rent, capital gets interest, and the entrepreneur gets profits. So it includes:

  1. Rent: Total rent includes, rent of land, shop, factory, etc.
  2. Wages and Salary: Total wages and salary earned through productive activity.
  3. Interest: Interest on capital received by an individual.
  4. Profit of enterprise.
  5. Net income earned from abroad.

Precautions:

  1. Transfer payments like pension, gifts, donations, gains from gambling and lotteries, etc. are to be excluded.
  2. All unpaid services of house-wife, the help of friends should be excluded.
  3. Net income from abroad should be included.
  4. Undistributed profit of the company, government income, and profit of government should be included.

Expenditure Method:

Under this method, national income is measured by adding all the expenses made on the purchase of goods and services. We include the expenditure of the following category.

  1. Consumption (C):- the market value of all consumer goods like a car, gold, house, etc.
  2. Investment (I):- the market of all producer goods like machinery, tools, factory, building, etc.
  3. Government Expenditure (G):- It refers to the expenditure made by the government on consumption and investment.
  4. Net Income from abroad (x-m):- It refers to the net difference between export and import.

Precautions:

  1. Double counting should be avoided.
  2. Income reserved in the form of receipt payment should be avoided.
  3. Expenditure on old goods must not include.

Difficulties in the Measurement of National Income :

Theoretical difficulties :

  1. Transfer payments: Problem of transfer of payment National Income does not include transfer payment such as an old-age pension, scholarship, etc. therefore, the national income does not present a true picture of the real income of the country.
  2. Illegal Incomes: There are a number of illegal activities taking place in the country. For example, there is a number of smuggling activities or underworld activities. The income earns from such activities does not include in national income.
  3. Unpaid services: National Income includes the money value of all the goods and services. There are many goods and services which cannot be measured in the terms of money. For example, services of house-wife, the help of a friend, etc. these services are produces in a nation but not includes in National Income.
  4. Production for self-consumption: Goods produced for self-consumption such as food grains, vegetables, and other farm products do not enter the market. But the value of such goods should be estimated at the rate of market price that has been marketed and should be included in national income.
  5. The income of foreign firms: According to the IMF view-point, the income of a foreign firm should be included in the national income of the country, where the firm actually undertakes production work. However, profits earned by foreign firms are credited to the parent concern.
  6. Valuation of Government Services: Government provides a number of public services like defense, public administration, law, and order, etc. Measuring the market value of such government services is difficult; as the real value of these services is not known, therefore it has become a convention to treat all such services as final consumption. Hence, it is included in national income.
  7. Changing price levels: The difficulty of price changes arise in the national income estimate, when the price level in the country rises, the national income also shows an increase even though the production might have fallen and when the price level falls., National Income may show a decrease even though production may have increased

Practical or Statistical difficulties 

  1. The problem of double counting: Double counting a major difficulty at the time of measuring the national income. Double counting takes place when a commodity or raw material is being included twice in the calculation of national income. In national income, we must include only final goods but in the big country likes India’s, the danger of double counting cannot be avoided
  2. Inadequate and unreliable Data: There is a problem in the estimation of national income as the data is inadequate and unreliable. In India, the production and cost data are not available. The data on unearned income such as old-age pensions, unemployment allowances, etc are not available. Data related to expenditure on consumption and investment by rural and urban households is not obtainable
  3. Depreciation: National Income is calculated by deducting depreciation of capital assets. It is difficult to find out the net value of depreciation because there is no common and stander method for calculating depreciation, so it becomes difficult.
  4. Illiteracy and ignorance: Due to ignorance and illiteracy, small producers do not keep an account of their production. So they cannot give information about the quantity or value of their output.
  5. Capital gains or losses: Windfall gains such as lotteries and capital gains are unearned income and are not included in the estimation of the national income. However, these activities very much add to the national product.
  6. Valuation of inventories: Raw materials, intermediate goods, semi-finished and finished products in the stock of the producers are known as inventories. Any mistake in measuring the value of inventory will distort the value of the final production of the producer. Therefore, the valuation of inventories requires careful assessment.
  7. Self-consumption: At times, the producer or firm keeps a certain portion of the output for self-consumption. Such a portion of production that is retained for self-consumption should be included in the estimation of national income, but it is difficult to calculate such consumption and production.
  8. Lack of Account: In under developing countries like India, most of the people are illiterate. They do not keep their account of income. So the figure of national income may be wrong.

 

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Meaning and Nature of Public Finance :

  • Public finance is one of the old branches of economics which highlights the role and functions of the government in an economy.
  • Public finance is the study of the role of the government in the economy. It is a field of economics concerned with how a government raises money, how that money is spent, and the effects of these activities on the economy and society.
  • Public finance includes public revenue, public expenditure, public debt, and financial administration Thus, Public Finance is the branch of economics that studies the taxing and spending activities of the government.
  • According to Prof. Findlay Shirras: “Public finance is the study of the principles underlying the spending and raising of funds by public authorities.”

These functions of the government can be classified as :

  1. Obligatory functions: Protection from external attacks, maintaining internal law and order, etc. are obligatory functions of the government.
  2. Optional functions: Provision of education and health services, provision of social security like pensions and other welfare measures, etc. are optional functions of the government.
Points of differencePublic financePrivate finance
1) ObjectivesTo     offer the maximum      social advantage to societyTo fulfill private interests
2) Determination of expenditureThe government first determines the volume and different ways of its expenditureAn individual considers his income and then determines the volume of expenditure
3) Credit statusThe high degree of credibility in the marketThe credit of a private individual is limited
4) Right to print currencyThe Government can print notes through the Reserve Bank of IndiaThe private individual does not enjoy such right
5) Elasticity of financePublic finance is more elasticThere is not much scope for changes in private finance
6) Effect on the economyTremendous impact on the economy of the countryMarginal effect on the national economy

Structure of Public Finance :

I) Public Expenditure :

Public expenditure refers to the expenses of public authorities – central, state, and local government for the protection of their citizens, for satisfying their collective needs, and for promoting their economic and social welfare.

Till the 20th century, the majority of the governments had adopted a policy of laissez-faire. Under this policy, the functions of government were restricted to the obligatory functions.

But, the modern governments not only perform the obligatory functions such as defence and civil administration but also perform optional functions for promoting the social and economic development of their countries. Therefore, the study of public expenditure is an important part of the study of public finance.

Classification of Public Expenditure :

  1. Revenue Expenditure: Revenue expenditure of the government is for incurred carrying out day-to-day functions of the government departments and various services. It is incurred regularly. For example, administration costs of the government, salaries, allowances, and pensions of government employees, medical and public health services, etc.
  2. Capital Expenditure: Capital expenditure of the government is expenditure on the progress and development of the country. For example, huge investments in different development projects, loans granted to the state governments and government companies, repayment of government loans, etc.
  3. Developmental Expenditure: Developmental expenditure is productive in nature. The expenditure which results in the generation of employment, increase in production, price stability, etc. is known as a developmental expenditure. For example, expenditure on health, education, industrial development, social welfare, Research and Development (R & D), etc.
  4. Non-Developmental Expenditure: On the other hand, that government expenditure which does not yield any direct productive impact on the country is called non- developmental expenditure. For example, administration costs, war expenditure, etc. These are unproductive in nature.

Reasons for Growth in Public Expenditure :

It is observed that there is a continuous growth in public expenditure in developing countries like India.
Let us study some of the important reasons :

  1. Increase in the Activities of the Government: As mentioned earlier, the modern government performs many functions for the social and economic development of the country. These functions include the spread of education, public health, public works, public recreation, social welfare schemes, etc. This leads to an increase in public expenditure.
  2. Rapid Increase in Population: The population of developing countries like India is increasing fast. In the 2011 Census, it was 121.02 crores. As a result, the government has to incur greater expenditure to fulfill the needs of the increasing population.
  3. Growing Urbanization: Urbanization leads to an increase in government expenditure on water supply, roads, energy, schools and colleges, public transport, sanitation, etc.
  4. Increasing Defence Expenditure: In modern times, defence expenditure of the government is increasing even in the peacetime due to unstable and hostile international relationships.
  5. Spread of Democracy: The majority of the countries in the world are democratic in nature. A democratic form of government is expensive due to regular elections and other such activities. This results in an increase in the total expenditure of the government.
  6. Inflation: Just like a private individual, the government has to buy goods and services from the market for the spread of economic and social development. Normally, prices show a rising trend. Due to this, the government has to incur increasing costs.
  7. Industrial Development: Industrial development leads to an increase in production, employment, and overall growth in the economy. Hence, the government makes huge efforts for implementing various schemes and programmes for industrial development. This results in an increase in government expenditure.
  8. Disaster Management: Many natural and man-made calamities like earthquakes, floods, cyclones, social unrest, etc. are occurring more frequently. The government has to spend a huge amount on disaster management which increases total expenditure.

Modern governments are working for the ‘welfare state’. Hence, there is a continuous increase in public expenditure.

II) Public Revenue :

Public revenue deals with the methods of raising income from tax and non-tax sources. So it deals with sources or methods (taxation & Fees) through which a government earns revenue. Public revenue holds a permanent position in the study of public finance which is part of the study of economics. Thus, the necessity of public revenue arises due to public expenditure.
The main sources of public revenue are as follows.

Sources of Public Revenue: A) Taxes B) Non-tax Revenue :

A) Taxes :

According to Prof. Seligman, “A tax is a compulsory contribution from the person to the government without reference to special benefits conferred.”

A tax possesses the following essential characteristics :

  1. It is a compulsory contribution to the government and every citizen of the country is legally bound to pay the tax imposed upon him. It is a major source of revenue for the government. If any person does not pay a tax, he can be punished by the government.
  2. Tax is paid by a taxpayer to enable the government to incur expenses in the common interests of the society.
  3. The payment of a tax by a person does not entitle him to receive any direct and proportionate benefits or services from the government in return for the tax.
  4. Tax is imposed on income, property, or commodities and services.

Types of Taxes :

  1. Direct Tax: It is paid by the taxpayer on his income and property. The burden of tax is borne by the person on whom it is levied. As he cannot transfer the burden of the tax to others, the impact and incidence of the direct tax fall on the same person. For example- personal income tax, wealth tax, etc.
  2. Indirect Tax: It is levied on goods or services. It is paid at the time of production or sale and purchase of a commodity or a service. The burden of an indirect tax can be shifted by the taxpayer (producers) to another person/s. Hence, the impact and incidence of tax are on different heads. For example, newly implemented Goods and Services Tax [GST] in India has replaced almost all indirect taxes, customs duty.

B) Non-Tax Revenue Sources :

Public revenue received by the government administration, public enterprises, gifts, and grants, etc. are called as non-tax revenue. These sources are different than taxes. Brief information about these sources are as follows :

  1. Fees: Fee is paid in return for certain specific services rendered by the government. For example- education fees, registration fees, etc.
  2. Prices of public goods and services: Modern governments sell various types of commodities and services to the citizens. A price is a payment made by the citizens to the government for the goods and services sold to them. For example- railway fares, postal charges, etc.
  3. Special Assessment: The payment made by the citizens of a particular locality in exchange for certain special facilities given to them by the authorities is known as ‘special assessment.’ For example- local bodies can levy a special tax on the residents of a particular area where extra/ special facilities of roads, energy, water supply, etc. are provided.
  4. Fines and Penalties: The government imposes fines and penalties on those who violate the laws of the country. The objective of the imposition of fines and penalties is not to earn income, but to discourage the citizens from violating the laws framed by the Government. For example, fines for violating traffic rules. However, the income from this source is small.
  5. Gifts, Grants, and Donations: The government may also earn some income in the form of gifts by the citizens and others. The government may also receive grants from foreign governments and institutions for general and specific purposes. Foreign aid has become an important source of development finance for a developing country like India. However, this source of revenue is uncertain in nature.
  6. Special levies: This is levied on those commodities, the consumption of which is harmful to the health and well-being of the citizens. Like fines and penalties, the objective is not to earn income, but to discourage the consumption of harmful commodities by the citizens. For example- duties levied on wine, opium, and other intoxicants.
  7. Borrowings: The government can borrow from the people in the form of deposits, bonds, etc. It also gets loans from foreign governments and organizations such as IMF, World Bank, etc. Loans are becoming a more and more popular source of revenue for governments in modern times.

III) Public Debt :

Like a private individual, the government also needs to raise loans. In fact, raising debt is the most common activity of any government, because government expenditure generally exceeds government revenue. The public debt policy of the government plays an important role in public finance.
There are mainly two types of public debt.
They are 1) Internal Debt and 2) External Debt

  1. Internal Debt: When a government borrows from its citizens, banks, the central bank, financial institutions, business houses, etc. within the country, it is known as internal debt.
  2. External Debt: When a government borrows from foreign governments, foreign banks or institutions, international organizations like the International Monetary Fund, World Bank, etc., it is known as external debt.

IV) Fiscal Policy :

Fiscal policy is the part of government policy that deals with raising revenue through taxation and deciding the level and pattern of public expenditure. Fiscal policy is composed of tax policy, expenditure policy, investment or disinvestment strategies, and public debt management.

Budgetary policy refers to government strategies to implement and manage a budget.

V) Financial Administration :

A smooth and efficient implementation of revenue, expenditure, and debt policy of the Government, is referred to as financial administration. This includes the preparation and implementation of the Government budgets along with the overall growth of the country.

Government Budget :

The budget is an important instrument of financial administration through which all the financial affairs of the state are regulated. The budget is a financial statement showing the expected receipts and proposed expenditures of the government in the coming financial year.

In India, a financial year is from 1st April to 31st March. Article 112 of the Constitution of India has a provision for annual financial statements. In every budget, a set of seven budget documents describe the details of Government finance in India.
The word ‘Budget’ is derived from the French word ‘Bougette’, which means a bag or a wallet containing the financial proposals. These financial proposals are in the form of Government expenditure and revenue.

Revenue and Capital Budgets :

Central Budget provisions are divided into-
1) Revenue Budget and
2) Capital Budget

  1. Revenue Budget: It consists of revenue receipts and revenue expenditure of the government. Revenue receipts are divided into tax and non-tax revenue. Revenue expenditure comprises of interest paid on Government borrowings, subsidies, and grants given to the state governments.
  2. Capital Budget: The capital budget consists of capital receipts and capital payments. Capital receipts are Government loans raised from the public and the Reserve Bank of India, divestment of equity holding in the public sector enterprises, loans received from the foreign Governments and other foreign bodies, State deposit funds, special deposits, etc. Capital payments refer to the capital expenditures on various development projects, investments by the Government, loans given to the state Governments, and Government companies, corporations, and other parties. Besides, it includes expenditure on social and community development, defence, and general services.

Types of Budget :

Balance Budgets:

  • When government revenue is equal to government expenditure is called as Balance budget
  • A government budget is said to be balanced when its estimated revenue and its anticipated expenditure are equal. That is, Government receipts = Government Expenditure
  • It implies that the government raised funds in the form of taxes and other means.
  • The government must Exercise financial discipline and should keep its expenditure within the available income.

Surplus Budget:

  • When Government revenue is greater than Government Expenditure it is called a surplus budget that is Estimated Government Revenue receipts > anticipated Government expenditure
  • When estimated government receipts are more than the estimated government expenditure it is termed as Surplus budget
  • A surplus budget is used either to reduce government public debts ( its liabilities) or increase its savings
  • The Surplus budget can be used during inflation.

Deficit Budget:

  • When Government revenue is less than government expenditure it is called a deficit budget
  • When estimated government receipts are less than the estimated government expenditure than the budget is termed as Deficit Budget
  • In modern economics, most of the budgets are of this nature. That is, estimated Government Receipts < anticipation government Expenditure
  • A deficit budget increases the liability of the government or decreases its reserves
  • A deficit budget may be useful during the period of depression.

Importance of Budget :

  1. The Union Budget is important because it affects people and the economy in general in a number of ways. Taxes are the most interesting part of any budget. Taxes determine the fate of businesses and individuals. The level of disposable income of the taxpayers depends on the tax rates presented in the budget.
  2. Government expenditure on various heads such as defence, administration, infrastructure, education, and health care, etc. affects the lives of the citizens and the overall economy.
  3. Also, the budget is important because Governments use it as a medium for implementing economic policies in the country.
  4. Budgetary actions of the Government affect production, size, and distribution of income and utilization of human and material resources of the country.
    Thus, the scope and importance of public finance in a modern economy have undergone an immense change for the last 100 years.

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Meaning of Financial Market :

  • The financial market refers to a market where the sale and purchase of financial assets such as bonds, stocks, derivatives, government securities, foreign currency, etc. are undertaken.
  • Financial markets operate through banks, non- banking financial institutions, brokers, mutual funds, discount houses, etc. Financial markets include two distinct markets i.e. the Money market and Capital market.

A) Money Market in India: Meaning :

The money market is a market for lending and borrowing of short term funds. It is a market for “near money” i.e. short term instruments such as trade bills, government securities, promissory notes, etc. Such instruments are highly liquid, less risky, and easily marketable with a maturity period of one year or less than one year.

Structure of Money Market in India :

The money market in India is comprised of both, the organized sector as well as the unorganized sector. The organized sector includes the Reserve Bank of India (RBI), commercial banks, co-operative banks, development financial institutions, investment institutions, and the Discount and Finance House of India (DFHI).

The unorganized sector, on the other hand, comprises indigenous bankers, money lenders, and unregulated non- bank financial intermediaries.

Money market centers in India are located at Mumbai, Delhi, and Kolkata. However, Mumbai is the only active money market center in India with money flowing in from all parts of the country.

The following chart explains the structure of the money market in India :

Organized Sector: The organized sector of the money market consists of the Reserve Bank of India, commercial banks, co-operative banks, regulated financial intermediaries, etc. Let us now discuss the organized sector of the money market in India.

a) Reserve Bank of India (RBI):

  • Every country in the world has a Central Bank which is at the apex of the banking system. It is entrusted with the responsibility of regulating the money market in the country.
  • Reserve Bank of India is the central bank of our country. RBI was set up on the basis of the recommendations of the Hilton Young Commission.
  • The RBI Act of 1934 provides the statutory basis of the functions of the bank. RBI commenced its operations on 1st April 1935 as a private shareholders’ bank. RBI was nationalized on 1st January 1949. It is the most important constituent of the money market.
  • Popular Definitions of Central Bank :
    Dr. M. H. de Kock: “Central bank is one which constitutes the apex of the monetary and banking structure of the country.”

Functions of Reserve Bank of India

  1. Issue of Currency Notes: The central bank has the authority to issue currency notes of all denominations, except for one rupee note and coins. As per the ‘Minimum Reserve System’ of 1957.  The one rupee note is directly issued by the Government of India.
  2. Banker to the Government: The central bank act as banker, agent, and adviser to the government. It transacts all banking business of the central government and of the state government. It accepts money on account of the government and makes payment on behalf of the government.
  3. Banker’s Bank: The Reserve Bank of India (RBI) act as banker to all other banks including commercial bank. It lays down the rules and regulation which are to be followed by all the financial institution. RBI provides financial assistance to banks in the form of discounting of eligible bills. Loans and advances are also provided against approved securities.
  4. Custodian of Foreign Exchange Reserves: RBI acts as a custodian of the country’s foreign exchange reserves. It has to maintain the official rate of exchange of rupees as well as ensure its stability. RBI also undertakes to buy and sell the currencies of all the members of the International Monetary Fund (IMF).
  5. Controller of Credit: The central bank has the responsibility to control credit in the economy. The central bank regulates the volume of credit and money supply in the country. The money supply decreases to control inflation. And increase money supply so that banks lend more funds to the various sectors. Various quantitative and qualitative control s are used by RBI to regulate credit and money.
  6. Collection and Publication of Data: RBI collects and compiles statistical information related to banking and other financial sectors of the economy.
  7. Promotion and development Function: The central bank also performs the promotion and development function. For e.g. set up National Bank for Agriculture and Rural Development (NABARD) to promote agriculture and rural development. It has also set up the Export-Import (EXIM) Bank of India, to promote foreign trade.
  8. Lender to last Resort: Whenever any commercial bank faces liquidity problems, the central bank provides funds to overcome the crisis. Normally, the funds are provided by rediscounting the bills of commercial banks.
  9. Supervisions of Bank: the central bank supervises and monitors the working of commercial banks. The RBI is given the power to supervises and monitor the working of commercial banks under the Banking Regulations, Act, 1949.

b) Commercial banks :

Commercial banks act as intermediaries in the country’s financial system to bring the savers and investors together. They are profit-seeking financial institutions. Acceptance of deposits and granting loans and advances are the primary functions of commercial banks.

Commercial banks play an important role in mobilizing savings and allocating them to various sectors of the economy. It includes both scheduled commercial banks and non- scheduled commercial banks. Scheduled commercial banks are those included in the second schedule of the Reserve Bank of India Act, 1934. In terms of ownership and function, commercial banks in India can be classified into four categories:
• Public sector banks
• Private sector banks
• Regional rural banks
• Foreign banks

Popular Definitions of Commercial Bank :
Banking Regulation Act of 1949: “Banking means the accepting, for the purpose of lending or investment, of deposits of money from the public, repayable on demand or otherwise, and withdrawable by cheque, demand draft, order or otherwise.”

Functions of Commercial Banks :

Acceptance of deposits: Deposits constitute the main source of funds for commercial banks. Savings lead to the creation of deposits. Deposits are categorized as (i) Demand deposits and (ii) Time deposits.

Demand Deposits: Deposits that are withdrawable on demand are known as demand deposits. They are in the form of Current account and Savings account deposits.

  • The current account is usually opened by businessmen, corporations, industrial houses, trusts, etc. They are provided with an overdraft facility. Overdraft means withdrawal in excess of the balance in the account.
  • Savings account are operated by a large number of people, particularly the salaried class, small traders, etc. who wish to save a part of their income with the bank.

Time deposits: Deposits that are repayable after a certain period of time are known as time deposits. They are in the form of recurring deposits and time deposits

  • Recurring deposit refers to a deposit wherein a customer deposits a fixed amount at regular intervals for a specified period of time.
  • Fixed deposits refer to a lumpsum amount deposited by a customer for a specified period of time. Compared to all other deposits, fixed deposits carry a high rate of interest.

Providing loans and advances: Commercial banks mobilize savings and lend these funds to institutions and individuals for various purposes. Based on the tenure, loans include call loans, short-term, medium-term, and long-term loans. The longer the duration of the loans, the greater will be the rate of interest. Besides this, banks also provide cash credit, overdraft facility as well as discount bills of exchange.

Ancillary functions: Commercial banks also provide a range of ancillary services such as transfer of funds, collection of money, making periodical payments on behalf of the customer, merchant banking, foreign exchange, safe deposit lockers, D-mat facility, internet banking, mobile banking, etc.

Credit Creation: Credit creation is an important function of commercial banks. Commercial banks are creators of credit. Demand and time deposits constitute the primary deposits of banks. After meeting the reserve requirements out of the net demand and time liabilities, the balance amount is used for giving loans. Thus, secondary deposits or ‘derivative deposits’ are created out of the loans given by the banks.
For instance, when the bank provides a loan to its customer, the loan amount is credited into the bank account of the customer. The bank that receives the loan amount as a deposit, keeps aside a certain portion in the form of reserves. After meeting the reserve requirements, the bank lends the remaining amount. This procedure is followed by the entire banking system in the country, leading to the creation of credit. In short, commercial banks create deposits out of the loans given thereby leading to crediton.

c) Co-operative Banks: Co-operative banks came into existence with the enactment of the Co-operative Credit Societies Act of 1904. Co-operative banks supplement the efforts of commercial banks by meeting the credit needs of the local population. It fulfills the banking needs of small and medium-income groups. The co-operative credit sector comprises co-operative credit institutions such as primary co-operative credit societies, district central co-operative banks, and state co-operative banks.
Fig. 9.3 explains the structure of co-operative banks in India :

 

d) Development Financial Institutions (DFIs): Development financial institutions are agencies that provide medium and long-term financial assistance. They help in the development of industry, agriculture, and other key sectors. Industrial Finance Corporation of India (IFCI) was the first development financial institution to be established in 1948. Development financial institutions have diversified their operations with the advent of liberalization and globalization. They have set up subsidiaries to offer a wide range of new products and services such as commercial banking, consumer finance, broking, venture capital finance, infrastructural financing, e-commerce, etc. Thus, development financial institutions are in the process of converting themselves into universal banks. RBI has issued guidelines for developing financial institutions to become commercial banks. For e.g. ICICI (Industrial Credit and Investment Corporation of India) has become a universal bank by a reverse merger with its subsidiary ICICI Bank.

e) Discount and Finance House of India (DFHI): The Discount and Finance House of India (DFHI) was set up in 1988 as a money market institution based on the recommendations of the Vaghul Committee. It is jointly owned by the RBI, public sector banks, and financial institutions to impart liquidity to the money market instruments.

2) Unorganized Sector :

The unorganized money market in India comprises of indigenous bankers, money lenders, and unregulated non-bank financial intermediaries. The activities of the unorganized money market are largely confined to rural areas.

  1. Indigenous bankers: They are financial intermediaries that function similar to banks. They mostly deal with indigenous short-term credit instruments such as hundi. The rate of interest differs from one market to another. Indigenous bankers are mostly confined to certain social strata. They are an important source of funds in unbanked areas and provide loans directly to agriculture, trade, and industry.
  2. Money lenders: They mostly operate in the villages. Moneylenders usually charge a high rate of interest. The loans provided by money lenders are for both productive and unproductive purposes. Agricultural labourers, small and marginal farmers, artisans, small traders, etc. usually borrow money from the money lenders. At present, the activities of the money lenders have been restricted by RBI due to their exploitative tendencies.
  3. Unregulated Non-Bank Financial Intermediaries: They include Chit funds, Nidhi, loan companies, etc. Under Chit funds, members make regular contributions to the fund. Bids or draws are made on the basis of criteria mutually agreed upon by the members. Accordingly, the collected fund is given to the chosen member. Chit funds mostly operate in Kerala and Tamil Nadu. Nidhi is also a type of mutual benefit fund thriving on the contribution of its members. Loans are provided to members at reasonable rates of interest. Loan companies are finance companies. They provide loans to traders, small-scale industries, and self-employed persons. Being unregulated, they charge a high rate of interest on loans.

Role of Money Market in India :

The following points outline the role of the money market in India :

  1. Short-term requirements of borrowers: The money market provides reasonable access for meeting the short-term financial needs of the borrowers at realistic prices.
  2. Liquidity Management: The money market is a dynamic market. It facilitates better management of liquidity and money in the economy by the monetary authorities. This, in turn, leads to economic stability and development of the country.
  3. Portfolio Management: The money market deals with different types of financial instruments that are designed to suit the risk and return preferences of the investors. This enables the investors to hold a portfolio of different financial assets which in turn, helps in minimizing risk and maximizing returns.
  4. Equilibrating mechanism: Through the rational allocation of resources and mobilization of savings into investment channels, the money market helps to establish equilibrium between the demand for and supply of short-term funds.
  5. Financial requirements of the Government: The money market helps the Government to fulfill its short term financial requirements on the basis of Treasury Bills.
  6. Implementation of Monetary policy: Monetary policy is implemented by the central bank. It aims at managing the quantity of money in order to meet the requirements of different sectors of the economy and to increase the pace of economic growth. A well-developed money market ensures the successful implementation of the monetary policy. It guides the central bank in developing an appropriate interest policy.
  7. Economizes the use of cash: Money market deals with various financial instruments that are close substitutes of money and not actual money. Thus, it economizes the use of cash.
  8. Growth of Commerce, Industry, and Trade: The money market facilitates discounting bills of exchange to local and international traders who are in urgent need of short-term funds. It also provides working capital for agriculture and small scale industries.

Problems of the Indian Money Market :

Compared to advanced countries, the Indian money market is less developed in terms of volume and liquidity. The following points explain the problems of the Indian Money Market :

  1. Dual Structure of the Money Market: The presence of both, the organized and unorganized sectors in the money market leads to disintegration, lack of transparency, and increased volatility. The unorganized markets lack co-ordination and do not come under the direct control and supervision of the RBI.
  2. Lack of uniformity in the rates of interest: The money market comprises various entities such as commercial banks, co-operative banks, non-bank finance companies, development finance institutions, investment companies, etc. The category of borrowers is also different.
  3. Shortage of funds: The money market faces a shortage of funds due to inadequate savings. Low per capita income, poor banking habits among the people, indulgence in wasteful consumption, inadequate banking facilities in the rural areas, etc. have also been responsible for the paucity of funds in the money market.
  4. Seasonal fluctuations: Demand for funds varies as per the seasons. During the peak season, from October to June, finance is required on a large scale for various purposes such as trading in agricultural produce, investment in business activities, etc. This results in wide fluctuations in the money market.
  5. Lack of financial inclusion: Banking facilities in the country are still inadequate and inaccessible to the vulnerable groups such as the weaker sections and the low-income groups. This shows a lack of financial inclusion.
  6. Delays in technological up-gradation: The use of advanced technology is a prerequisite for the development and smooth functioning of financial markets. Delays in the up-gradation of technology hamper the working of the money market.

Reforms introduced in the Money Market :

Following are some of the important reforms introduced in the money market :

  1. Introduction of new instruments such as Treasury bills of varying maturity periods, Commercial Papers (CPs), Certificate of Deposits (CDs), and Money Market Mutual Mutual Funds (MMMFs).
  2. RBI Repos and Reverse Repos were introduced under the Liquidity Adjustment Facility (LAF).
  3. Interest rates to be largely determined by market forces.
  4. National Electronic Fund Transfer (NEFT) and Real-Time Gross Settlement (RTGS) were introduced as an improved payment infrastructure.
  5. The electronic dealing system was introduced to bring about technological upgradation.

B) Capital Market in India: Meaning :

  • The capital market is a market for long-term funds both equity and debt raised within and outside the country. It is also an important constituent of the financial system.
  • The development of an effective capital market is necessary for promoting more investments as well as achieving economic growth.
  • The demand for long-term funds comes from agriculture, trade, and industry. Individual savers, corporate savings, banks, insurance companies, specialized financial institutions are the suppliers of long term funds.

Structure of Capital Market in India :

The capital market in India comprises the Gilt-Edged or the Government Securities Market, Industrial Securities Market, Development Financial Institutions, and Financial Intermediaries.

  1. Government Securities Market: It is also known as the gilt-edged market. It deals with government and semi-government securities. Such securities carry a fixed rate of interest.
  2. Industrial Securities Market: It deals with the shares and debentures issued by old and new companies. It is further divided into Primary Market (New Issues) and Secondary Market (Old Issues). The primary market helps to raise fresh capital through the sale of shares and debentures. Secondary market deals with securities already issued by companies. Secondary markets function through stock exchanges.
    The stock exchange is an important constituent of the capital market. It is an association or organization in which stocks, bonds, commodities, etc are traded. Bombay Stock Exchange (BSE) and National Stock Exchange (NSE) are the premier stock exchanges in the country.
  3. Development Financial Institutions (DFIs): They provide medium-term and long-term financial assistance to the private sector. They include the Industrial Finance Corporation of India (IFCI), Industrial Investment Bank of India (IIBI), EXIM Bank, etc.
  4. Financial Intermediaries: Financial intermediary is an organization that acts as a link between the investor and the borrower to meet the financial objectives of both parties. They consist of merchant banks, mutual funds, leasing companies, venture capital companies, etc.

Role of Capital Market in India :

  1. Mobilizes long term savings: There is an increasing demand for investment funds by industrial organizations and the government. But the availability of financial resources is insufficient to meet this growing demand. The capital market helps to mobilize long-term savings from various sections of the population through the sale of securities.
  2. Provides equity capital: The capital market provides equity capital or share capital to entrepreneurs which could be used to purchase assets as well as fund business operations.
  3. Operational efficiency: Capital market helps to achieve operational efficiency by lowering the transaction costs, simplifying transaction procedures, lowering settlement timings in the purchase and sale of stocks.
  4. Quick valuation: Capital market helps to determine a fair and quick value of both equity (shares) and debt (bonds, debentures) instruments.
  5. Integration: Capital market leads to integration among real and financial sectors, equity and debt instruments, government and private sector, domestic and external funds, etc.

Problems of the Capital Market :

The following points explain the problems faced by the Indian Capital Market :

  1. Financial Scams: Increasing number of financial frauds have resulted in an irreparable loss for the capital market. Besides this, it has also lead to public distrust and loss of confidence among the individual investors.
  2. Insider trading and price manipulation: Insider trading means buying or selling of a security by someone who has access to non-public information or ‘unpublished information’ for personal benefit. Price manipulation or price rigging on the other hand means to simply raise the prices of shares through buying and selling of shares within certain individuals themselves for personal gains. Such illegal practices have also affected the smooth functioning of the capital market.
  3. Inadequate debt instruments: Debt instruments include bonds, debentures, etc. There is not much trading in the debt securities due to the narrow investor base, high cost of issuance, lack of accessibility to small and medium enterprises.
  4. Decline in the volume of trade: Regional stock exchanges have witnessed a sharp decline in the volume of trade because investors prefer to trade in securities listed in premier stock exchanges like BSE, NSE, etc.
  5. Lack of informational efficiency: A market is said to be informationally efficient if a company’s stock prices incorporate all the available information into the current prices. However, the stock market in India lacks informational efficiency compared to advanced countries.

Reforms introduced in the Capital Market :

Following are some of the important reforms introduced in the capital market :

  1. Securities and Exchange Board of India (SEBI) was established in 1988 but given statutory powers in 1992 to protect the interest of the investors and promote the development of the securities market.
  2. National Stock Exchange (NSE), the leading stock exchange in India was established in 1992.
  3. The computerized Screen-Based Trading System (SBTS) was introduced as a part of modernization.
  4. Demat account has been introduced since 1996 to facilitate easy purchase and sale of shares by the investors through the electronic method.
  5. Increased access to global funds by Indian companies was permitted through American Depository Receipts (ADRs) and Global Depository Receipts (GDRs).
  6. Investor Education and Protection Fund (IEPF) was established in 2001 to promote investors’ awareness and protecting the interest of the investors.

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Meaning of Internal Trade :

Buying and selling of goods and services within the boundaries of a nation are referred to as ‘Internal Trade’ or ‘Domestic Trade’ or ‘Home Trade’. For example, if goods produced in Maharashtra are sold to states like West Bengal, Uttar Pradesh, Tamil Nadu, etc, then it is known as internal trade.

Meaning of Foreign Trade :

Foreign Trade is traded between the different countries of the world. It is called International Trade or External Trade.
Definition: According to Wasserman and Hultman, “International Trade consists of the transaction between residents of different countries”.

Types of foreign trade :

Foreign trade is divided into the following three types.
1) Import Trade, 2) Export Trade, 3) Entrepot Trade

  1. Import Trade: Import trade refers to the purchase of goods and services by one country from another country or inflow of goods and services from a foreign country to the home country. For example, India imports petroleum from Iraq, Kuwait, Saudi Arabia, etc.
  2. Export Trade: Export trade refers to the sale of goods by one country to another country or outflow of goods from one country to a foreign country. For example, India exports tea, rice, jute to China, Hong Kong, Singapore, etc.
  3. Entrepot Trade: Entrepot trade refers to the purchase of goods and services from one country and then selling them to another country after some processing operations. For example, Japan imports raw material required to make electronic goods like radio, washing machine, television, etc. from England, Germany, France, etc. and sells them to various countries in the world after processing them.

Role of Foreign Trade :

Trade is an engine of growth of an economy because it plays an important role in economic development. In developed countries, it represents a significant share of the Gross Domestic Product.
The role of foreign trade can be justified on the basis of the following points :

  1. To earn foreign exchange: Foreign trade provides foreign exchange which can be used for very productive purposes. Foreign trade is a remarkable factor in expanding the market and encouraging the production of goods.
  2. Encourages Investment: Foreign trade creates an opportunity for the producers to reach beyond the domestic markets. It encourages them to produce more goods for export. This leads to an increase in total investment in an economy.
  3. Division of labour and specialization : Foreign trade leads to the division of labour and specialization at the world level. Some countries have abundant natural resources, they should export raw material and import finished goods from countries which are advanced in skilled manpower. Thus, foreign trade gives benefits to all countries thereby leading to the division of labour and specialization.
  4. Optimum allocation and utilization of resources: Due to specialization, resources are channelized for the production of only those goods which would give the highest returns. Thus, there is rational allocation and specialization of resources at the international level due to foreign trade.
  5. Stability in price level: Foreign trade helps to keep the demand and supply position stable which in turn stabilizes the price level in the economy.
  6. Availability of multiple choices: Foreign trade provides multiple choices of imported commodities. As foreign trade is highly competitive it also ensures good quality and standard products. This raises the standard of living of people.
  7. Brings reputation and helps earn goodwill: Exporting country can earn reputation and goodwill in the international market. For example, countries like Japan, Germany, Switzerland, etc. have earned a lot of goodwill and reputation in the foreign markets for their qualitative production of electronic goods.

Composition and Direction of India’s foreign trade :

Over the last 70 years, India’s foreign trade has undergone a complete change in terms of composition and direction. The main feature of the composition of India’s foreign trade are as follows :

  1. Increasing share of Gross National Income: In 1990-91, the share of India’s foreign trade (import-export) in gross national income was 17.55%. It increased to 25% during 2006-07 and to 48.8% during 2016-17
  2. Increase in volume and value of trade: Since 1990-91, the volume and value of India’s foreign trade have gone up. India now exports and imports goods which are several times more in value and volume.
  3. Change in the composition of exports: Since Independence, the composition of the export trade of India has undergone a change. Prior to Independence, India used to export primary products like jute, cotton, tea, oil-seeds, leather, foodgrains, cashew nuts, and mineral products. With the passage of time, manufactured items like readymade garments, gems, and jewellery, electronic goods, especially computer hardware and software occupy a prime place in India’s exports.
  4. Change in the composition of imports: Prior to independence, India used to import consumer goods like medicines, cloth, motor vehicles, electrical goods, etc. Apart from petrol and petroleum, India is now importing mainly capital goods like high-tech machinery chemicals, fertilizers, steel, etc.
  5. Oceanic trade: Most of India’s trade is by sea. India has trade relations with its neighbouring countries like Nepal, Afghanistan, Myanmar, Sri Lanka, etc. The share of India’s oceanic trade is around 68%.
  6. Development of new ports: For its foreign trade, India depended mostly on Mumbai, Kolkata, and Chennai ports. Therefore, these ports were overburdened. Recently, India has developed new ports at Kandla, Cochin, Vishakhapatnam, Nhava Sheva, etc. to reduce the burden on the existing ports.

Direction of India’s foreign trade :

  • The direction of foreign trade means the countries to which India exports its goods and services and the countries from which it imports the goods and services.
  • Thus, direction consists of the destination of exports and the sources of our imports. Prior to Independence, much of India’s trade was done with Britain.
  • Therefore Britain used to hold the first position in India’s foreign trade. However, after Independence, new trade relations with many other countries were established. Now the USA has emerged as the leading trading partner followed by Germany, Japan, and the United Kingdom.

Trends in India’s foreign trade since 2001 :

Since liberalisation, India’s foreign trade has expanded manifold and has shown a significant structured shift in imported and exported products, and also in its geographical composition.

Recent Trends in Exports :

  1. Engineering goods: According to the Engineering Goods Export Promotion Council (EGEPC) Report, the share of engineering goods was 25% in India’s total exports in 2017-18. Within this category, some of the prominent exported items are transport equipment including automobiles and auto components, machinery, and instruments. During the period 2010-11 to 2014-15, exports of transport equipment have grown from 16 billion dollars to to
    24.8 billion dollars.
  2. Petroleum products: India’s petroleum capacity increased significantly since 2001-02, due to which India turned as a net exporter of petroleum refinery products. Petroleum products had a share of 4.3% in India’s total exports in 2000-01, which rose steadily to 20.1% in 2013-14.
  3. Chemicals and chemical products: An important export item that has performed reasonably well over the last few years is chemicals and chemical products. The share of this item was 10.4% in 2014-15.
  4. Gems and Jewellery: Gems and jewellery are one of the major contributors to export earnings in India, having a share of 13.3% in India’s merchandise export in 2014-15.
  5. Textiles and readymade garments: Textiles and garment exports together accounted for 11.3% of India’s exports in 2014-15. In fact, India is one of the leading exporting countries of textiles and readymade garments in the world.

Trends in Imports :

  1. Petroleum: Petroleum has always remained the most important item of imports in India’s trade in the pre as well as post-reform period. It had a share of 27% of total imports in 1990-92 which currently stands at around 31%.
  2. Gold: After petroleum, the second most imported item is gold. It has been observed that there is a significant drop in gold imports during 2013-14. The gold imports declined from 53.3 billion dollars in 2011-12 to 27.5 billion dollars in 2013-14. This was primarily due to falling in international gold prices and various policy measures taken by the government to curb gold imports.
  3. Fertilizers: The share of fertilizers in import expenditure declined from 4.1% in 1990-91 to only 1.3% in 2016-17.
  4. Iron and Steel: The share of iron and steel in import expenditure declined from 4.9% to 2.1% in 2016-17.

Concept of Balance of payments :

The Balance of payments of a country is a systematic record of all international economic transactions of that country during a given period, usually a year.
According to Ellsworth, “Balance of payments is a summary statement of all the transactions between the residents of one country and the rest of the world.

Balance of Trade :

  • The balance of trade is the difference between the value of a country’s exports and imports for a given period. Balance of trade is also referred to as the international trade balance.
  • According to Samuelson, “if the export value is greater than the import value it is called a trade surplus and if import value is greater than export value, then it is called as a trade deficit.”
    It is clear from the above definitions that the balance of trade includes the value of imports and exports of visible goods and invisible goods.

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Reference: MHSB books

Q.2. (A) Define or explain the following concepts (Any THREE):   (6)

  1. Microeconomics
  2. Macroeconomics
  3. Unitary elasticity of demand
  4. Entrepreneur
  5. Bank rate
  6. Autonomous consumption
  7. Clearing house
  8. Market demand
  9. Repo rate
  10. Total output
  11. Stock

Q.2 (B) Give reasons for explain the following statements.

  1. Microeconomic is also known as price theory
  2. Macroeconomic is the study of aggregates
  3. Microeconomics studies individual economics unit
  4. Microeconomic is also known as price theory
  5. Price discrimination is possible under Monopoly
  6. Labour cannot be stored
  7. Supply cannot exceed stock
  8. Supplies directly related to price
  9. Unpaid service are not included in national income
  10. Supply of land is perfectly inelastic
  11. An entrepreneur is called as leader of the organisation
  12. Central bank is a banker to the government
  13. Demand for the commodity having multiple uses has elastic demand
  14. Utility has no it legal consideration
  15. Utility is relative concepts
  16. All desires are not demand

Q.3 A. Write short note on: (6)

  1. Types of utility
  2. Types of capital
  3. Types of monopoly
  4. Importance of microeconomics
  5. Types of money
  6. Types of elasticity demand
  7. Determinants of elasticity of demand
  8. Determination of equilibrium price under perfect competition
  9. Function of entrepreneur
  10. Qualities of entrepreneur
  11. Features / characteristic of land
  12. Features / characteristic of capital
  13. Features / characteristic of labour

Q.3 B. Distinguish between 

  1. Total utility and marginal utility
  2. Microeconomics and macroeconomics
  3. Individual supply market supply
  4. Individual demand market demand
  5. Demand curve and supply curve
  6. Demand and desire
  7. Extension of demand and contraction of demand
  8. Extension of supply and contraction of supply
  9. Slicing method lumping method
  10. Surplus budget deficit budget
  11. Direct tax and indirect tax
  12. Total cost and Total revenue
  13. Increase in demand decrease in demand
  14. Increase in supply decrease in supply
  15. Relatively elastic and relatively inelastic
  16. Perfectly elastic and perfectly inelastic
  17. Price equilibrium and  General equilibrium
  18. Land and capital
  19. Quantitative credit control and Qualitative credit control
  20. Average revenue and Average cost
  21. Gross National Product and Net National Product.

Q.4 Answer the following question (any 3) 12

  1. State the Features of microeconomics 
  2. What are the features of macroeconomics
  3. What are the Characteristic/features of utility
  4. explain the relationship between total utility and marginal utility
  5. What are the determinants of demand?
  6. Explain the features of perfect competition
  7. Explain the features of monopolistic competition
  8. Explain the features of monopoly
  9. what are the determinants of aggregate demand
  10. what are the determinants of aggregate supply
  11. Explain the function of money
  12. Explain the primary function of commercial Bank
  13. Explain the secondary function of commercial Bank
  14. State the function of Central Bank
  15. Explain the qualitative method of credit control
  16. Explain the quantitative method of credit control

Q.5 State with reasons whether you agree or disagree with the following statement (12)

  1. There is no difference between microeconomics and macroeconomics
  2. Law of DMU depends upon various Assumptions
  3. the law of diminishing marginal utility can be explain with the help of scandals and diagram
  4. law of diminishing marginal utility is important in practice
  5. Price is the only determinants of supply
  6. Barter system had many difficulties
  7. There are no exceptions to the law of demand
  8. Commercial bank can create credit on the basis of primary deposit
  9. Old draught facility is not provided to the current account holder
  10. Central bank is called as bankers Bank
  11. Central Bank has the sole power of issuing currency notes
  12. Income  is the only  determinants factor of demand
  13. There is no difference between stock and supply
  14. Law of equi marginal utility is based on certain Assumptions

Q.6 Write explanatory answers (16)

  1. Define the law of DMU explain its assumption and exception
  2. What is law of demand explain its assumption and exception
  3. Explain the types of price elasticity of demand
  4. What is law of supply explain its assumption and exception
  5. Explain the theoretical and  practical difficulties of measuring national income
  6. Explain the subjective and objective factor determining consumption function
  7. What is saving function explain with schedule and diagram
  8. What is consumption function explain with schedules and diagram

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Micro economics is also known as price theory

  • Because Micro economic studies help in determined the price of particular product and
  • It explains how the relative prices of thousands of commodities are determined.
  • It also deals with theory of distribution i.e. what is price of factors of production in the form of land, labour, capital and entrepreneur in the form of rent, wages, interest and profit are determined.
  • Therefore Micro economic is known as price theory.

Zero marginal utility is the point of maximum satisfaction.

  • This statement is true because when a person starts consumption of a particular commodity and consumption increase marginal utility goes on decreasing.
  • And when a particular want is completely satisfied a person will not get further utility.
  • Therefore zero marginal utility is the point of maximum satisfaction.

Utility is subjective concept.

  • It is because utility differs from one person to another
  • Utility of a commodity cannot be same for all individual. It differs from person to person, because of the differences in tastes, preference etc. of the peoples.
  • eg. Meat has utility to non-vegetarians, but not to pure vegetarians.
  • Therefore utility is a subjective concept.

Utility and happiness are different

  • It is because utility is a power of commodity to satisfy human wants.
  • While happiness is the better result of consumption and experience of happiness.
  • A commodity having utility may or may not result in happiness.

All desire is not demand.

  • A desire cannot be considered as demand in economics. This is explained as follows:
  • Demand is a desire backed by ability and willingness to pay for commodity.
  • When person willing to get something it is called desire. It depends upon consumers income
  • Willingness to buy a commodity depends on the likes and dislikes of the consumer.
  • So, Demand= desire + ability to pay + willingness to pay)

 Inferior goods are exceptional to the law of demand

  •  I do agree with the statement inferior goods are exceptional to the law of demand.
  1. It is because in the case of inferior goods when price fall demand also falls and when price rises demand also rises.
  • It is opposite to law of demand, therefore, I agree with the statement.

Supply is directly related to price

  • It is because when price raises supply of a commodity also rises as the seller is willing to sell more quantity t higher price to earn more profits.
  • There is direct relationship between price and supply. 

In a monopoly, the seller is a price maker OR a monopolist controls the supply of goods.

Ans.: Yes, I agree with this statement that in a monopoly, the seller is a price maker or controls

the supply of goods.

  • Under monopoly, there is a single seller of commodity, which has no substitutes.
  • The seller controls the entire supply in the market. He can dictate the market price. Therefore, in a monopoly, the seller is a price maker.
  • Normally, price fixed is higher. The main objective of the seller is profit maximization.

There is price discrimination in monopoly.

  Ans.:  Yes, I agree with this statement that there is price discrimination in monopoly.

  1. Monopoly is a market situation where there is only one seller who has complete controls over the supply of a commodity.
  2. In a discriminating monopoly, the firm charge different prices to different buyers in the same market.
  3. The firm may also charge different price in different markets for the same product.

 Labour cannot be stored

  • It is because labour is perishable factor of production. If a worker is absent for a day, the day of labour has gone.
  • The amount of labour lost is lost forever.
  • Therefore labour cannot be stored and used in future.

The entrepreneur is called a leader / captain of the organization

  • It is because entrepreneur is the factor of production that combined all factor of production that is land, labour, capital.
  • He controls and supervises the production activity and is willing to accept the profit or loss of the business.

Macro economics is the study of aggregates

Ans.:

  • It is because macro economics is the study of economic system as whole. It deals with determination of national income and employment
  • It also studies theory of economic growth and business cycles. Thus it deals with the aggregates relating to whole economy.

Macro-economic is comprehensive in nature.

OR

Scope of Macro-economic is wide.

OR

The study of whole economy is done with the help of macro-economic. 

Ans.: Agree. The reasons are:

  1. Macroeconomics deals with the overall economic behavior of the people in the economy. It studies the economy as a whole.
  2. The scope of macroeconomics is wide. It is related with the study of aggregate such as aggregate demand and supply, total output, national income, etc.
  3. It enables the government to frame macroeconomic policies such as monetary policy, fiscal policy, etc.

 

Micro- Economics:

  1. The word Micro-Economic used first time in 1933 by Ragnar Frisch. The word Micro Economic s is derived from the Greek word ‘mikros’ which means small.
  2. It studies the economic behavior of individual units of the economy, such as household, firms, industries, and markets.
  • Definition:-

                    According to K. Boulding micro-economic define as “Micro-economic is the study of particular firms, particular households, individual price, wages, income, individual industries, and particular commodities.”

 

Individual units: –

  • In Micro Economics analysis we analysis the economics behaviour of small individual economic units such as individual consumer, individual producer, etc.
  • Micro-economic is concerned with depth study of economic behavior of individual units such as household, firms, industries, and markets.
  • g. a study of economic behavior of certain households, with respect to buying pattern:
  • What they buy?       Why they buy?    How much they buy? 

Utility

  • “Utility is the power or capacity of commodity to satisfy human wants.”
  • When a consumer consumes or buys a commodity, he expects to get some benefit in the form of satisfaction of a certain wants.
  • This benefit or satisfaction experienced by the consumer is referred to by economists as utility.

Total Utility:-

  1. It refers to the sum of the total utility derived from all units of commodity consumed at a given period of time.
  2. Total utility is the sum of all utilities derived by a consumer from all units of a commodity consumed by him.
  • Symbolically       TU = ∑mu

                                  TU= Total Utility

                                             ∑MU = sum total of marginal utilities

 

Marginal Utility:-

  1. Marginal Utility is the utility derived from the consumption of an additional or extra unit of a commodity.
  2. Symbolically MUn = TUn – TUn-1
  • It start diminishing at beginning level and It is positive, zero and negative

 

Demand

  • Goods are demanded because they have utility
  • Demand is that quantity of a commodity which a person is ready to buy at a particular price during given period of time .
  • In economics the term ‘Demand’ refers to a desire for a commodity backed by ability to pay and willingness to pay for it.
  • Demand = desire + ability to pay + willingness to pay

Indirect demand / Derived demand:

  • When demand for one commodity gives rise to demand for another commodity, it’s called indirect demand.
  • For example raw material, labour, machines, etc. are not demanded to serve directly but they are needed for the production of goods having direct demand. 

Individual Demand:-

                             Individual demand is demanded by an individual. Individual demand indicates the different quantity of commodity demanded by a consumer at different price during a given period time.

Individual schedule:

Price per Kg. (Rs.)Demand (Kg.)
102
84
66
48
210

 Explanation of schedule:-

  1. The above table shows that lower quantity of commodity demanded at higher price and higher quantity of commodity demanded by lower price.
  2. For e.g. when price of commodity is higher Rs. 10, 2Kg commodity demanded by individual.
  3. It shows an inverse relationship between price and quantity demanded.

Marker demand:

                          Market demand indicates the total quantity of commodity demanded by all consumers in the market during a given period time.

Market schedule:

Price per Kg. (Rs.)Demand of consumerTotal market demand
Mr. AMr. BMr. C
101236
824410
636514
448618
2510722

Explanation of schedule:-

                              Market demand schedule shows an inverse relationship between price and the total quantity of commodity demanded in the market at a given time and place.

Supply:

  • The term ‘supply’ refers to the quantity of a commodity which the seller is willing and able to sell in the market at particular price, during given period of time.
  • According to Paul Samuelson, supply refers to “The relation between market prices and the amount of goods that producers are willing to supply.”
  • Supply is a relative term. It is always expressed in relation to price, time and quantity.

Total Output:

  • Output produced through the process of production. Input – processing – output
  • Output in economic is the “total quantity of goods or services produced in a given period of time by a firms, industry, or country”
  • Therefore, Total output is the total amount of commodities produced during a period of time with help of all factors of production employed by the firms

 

Market supply

           Market supply refers to the various quantity of commodity, offered for sale by all the sellers at different prices during a given period of time.

Market supply schedule:

Price per Kg. (Rs.)Quantity supplied (Sugar in Kg) Total market supply
Mr. AMr. BMr. C
 2102030 60
420304090
6304050120
8405060150
10506070180

Explanation of schedule:-

  1. The above schedule shows that the total supply by different seller increases as the price increases.
  2. Market supply schedule shows direct relationship between quantity supplied of a commodity and its price.

Individual supply:-

Individual supply refers to the various quantity of commodity, offered for sale by an individual seller at different price during given period of time.

Schedule:-

Price per Kg (in Rs.)Quantity supplied (Sugar in Kg)
 25
410
615
820
1025

Explanation of the schedule:

  1. The above schedule shows that an individual seller is ready to sell more at higher price and less at lower price.
  2. When the price of sugar is Rs. 5, he is ready to sell 10kg and when price increase Rs.25 he is ready to sell more quantity that is 50kg.

Entrepreneur

Ans.:

  • Entrepreneur is human factor who organize production activity.
  • Entrepreneur combine of all three factors i.e. land, labour, capital in the proper direction.
  • In modern economy, it is entrepreneur who decides what to produce? How to produce? How much to produce? When to produce? Etc.
  • Thus, in short, entrepreneur is the person who directs the process of production by combining other factors.

Variable capital

Ans.:

  • Capital which is used one in the process of production is called as working capital.
  • Coal, raw material, fuel etc. are the example of working capital. It has short life it does change with output.
  • It is less durable. For example certain raw material are perishable.

Fixed Capital

Ans.:

  • Capital which is used again and again in the process of production is called as fixed capital.
  • Machinery, tools, factory building are example of fixed capital. It has long life. It does not change with the output.
  • It has longer life. For example a building or machinery can be use for several years.

Land

Ans.:

  • In ordinary sense, land refers to the surface of the earth.
  • But in economic, it includes all natural resources which are available on, above and under the surface of the earth, like forests, mountains, water, coal, petroleum, gold, silver, air, light, heat can be called as land.
  • Land is perfect immobile. It gets rent as a reward.

Labour

  • Ans.:
  • In ordinary language, labour means unskilled person, who involve in physical efforts.
  • But in economics, labour means any physical or mental work undertakes to earn money.
  • It means a human effort for which payment is made is known as labour.

Scope and subject matter of Micro Economic

Product Pricing:

  1. The Theory of Product Pricing Explain or determined the relative price of particular product like cotton cloth, rice, car and thousands of other commodities
  2. Price of the product/commodity depends upon the forces of demand and supply. The demand and supply position analyses to determine the product prices.
  3. The Study of Demand helps to analysis of consumer’s behavior and the study of Supply helps to analysis of conditions of production, cost and behavior of firm & Industry
  4. So, theory of product pricing is subdivided into theory of Demand and theory production and Cost.

 

Factor Pricing:

  1. Micro economics studies helps to determine the pricing of various factors of production:
  2. Wages of labour
  3. Rent for land
  • Interest for capital

 

  1. Theory of factor pricing i.e. Theory of distribution Explains how wages (price for the use of labour), rent (payment for use of land), interest (Price for use of capital) and profit (the reward for the entrepreneur are determined).

 

Theory of Welfare:

  1. Theory of Welfare basically deals with efficiency in allocation of resources. Efficiency in the allocation of resources is helps to maximization of satisfaction of people, Economic involves three efficiencies:
  2. Efficiency in Production: it mean maximize the level of output from given amount of resources
  3. Efficiency in consumption: It means distribution of produced goods & services among the people for consumption, in such a way to maximize total satisfaction of society.
  4. Efficiency in direction of production i.e. overall economic efficiency it means production of those goods which are most desired by the people

We may conclude that Micro Economics is mainly concerned with price theory and allocation of resources. It seeks to examine the following basic economic questions:

  1. What goods are produced with and in what quantities?
  2. Who will produced them & how
  3. To whom & how the wealth so produced shall be distributed?
  4. How shall resources be allocated to production & consumption in efficient manner?

All these entire questions are in the domain of Micro economic. Above discussion on subject matter of Micro Economic explains the Scope of it

 

Define the micro economics, explain the features of microeconomics

Meaning:-

The word Micro-Economic used first time in 1933 by Ranger Frisch. The word Micro Economic s is derived from the Greek word ‘mikros’ which means small. It studies the economic behavior of individual units of the economy, such as household, firms, industries, and markets.

 

Definition:-

According to K. Boulding micro-economic define as “Micro-economic is the study of particular firms, particular households, individual price, wages, income, individual industries, and particular commodities.”

Feature of Micro-economic

  • Study of individual units: – Micro-economic is concerned with depth study of economic behavior of individual units such as household, firms, industries, and markets. E.g. a study of economic behavior of certain households, with respect to buying pattern:
  • What they buy?
  • Why they buy?
  • How much they buy?
  • Analyses allocation of resources: – The micro-economic study helps in allocation of resources to the production of particular goods and services in the economy. E.g.
  • What to produce?
  • How to produce?
  • How much to produce?
  1. Partial equilibrium analyses: – Micro economic based on the assumption, and in partial equilibrium, we assume that other things being equal. Based on assumption, we try to establish the relationship between two   E.g. law of Demand’ the quantity of commodity is inversely related to its price.
  2. Uses of slicing method: – Micro economic uses slicing method for in-depth study of economic units. It split (divide into part) the economy into smaller units, such as individual households, individual firms etc. for the depth study.
  3. Product price determination: – Micro economic studies help in determined the price of particular product. Price of the products depends upon the forces of demand and supply. The demand and supply position are analyses to determine the product prices.
  4. Determination of factor pricing:- Micro economics studies helps to determine the pricing of various factors of production:
  5. Wages of labour
  6. Rent for land
  • Interest for capital
  1. Focus on market behaviour: – Micro-economic is concerned with market behavior of sellers and buyers. It’s help to find the answer of the following questions:
  2. What goods to be produced?
  3. How much to produced?
  • Who will produced them and how?
  1. Who will buy the goods?
  2. Analyses of economic efficiency: – Micro economic studies how efficiently the various resources are allocate to the production of particular product in an economy. Economic efficiency involves efficiency in consumption and production.
  3. Construction of model: – Micro-economic involves construction of simple models to express the actual economic phenomenon. The economic models state the relationships between two variables. For e.g. the model of law of demand, there is an inverse relationship between demand and price.

Importance and usefulness of Micro Economic

  1. Allocation of resources: – The micro-economic study helps in allocation of resources to the production of particular goods and services in the economy. E.g.
  2. What to produce?
  3. How to produce?
  4. How much to produce?

 

  1. Price determination: – Micro economic studies help in determined the price of particular product. Price of the products depends upon the forces of demand and supply. The demand and supply position are analyses to determine the product prices.
  2. It helps businessman in decision making: The Knowledge of price theory is useful to businessman in deciding policies regarding the price, cost of production, investment and for maximum productivity etc. also with help of Micro Economics the businessman can estimate demand for his product
  3. Useful to Government: It is useful to government in framing economic policies; Micro economic analysis is useful in determining tax policy, public expenditure policy, price policy, efficient allocation of resources etc.
  4. Helpful in international trade & public finance: Micro economics analysis helps many aspects of international trade like effects of tariff determination of exchange rate, gain from international trade etc. It is useful in public finance to analyze incidence and effects of particular tax.
  5. Basis of welfare economics: Micro Economics examines the conditions of economic welfare. It explains how best results can be obtained through avoidance of wastage of resources. Thus micro economic analysis has great theoretical and practical importance.
  6. Slicing method: – Micro economic uses slicing method for in-depth study of economic units. It split (divide into part) the economy into smaller units, such as individual households, individual firms etc. for the depth study.
  7. Construction of model: – Micro-economic involves construction of simple models to express the actual economic phenomenon. The economic models state the relationships between two variables. For e.g. the model of law of demand, there is an inverse relationship between demand and price.Economic efficiency: – Micro economic studies how efficiently the various resources are allocate to the production of particular product in an economy. Economic efficiency involves efficiency in consumption and production.

 

Distinguish between:

UtilityUsefulness
It refers to the ability of commodity to satisfy human want.

 

It refers to the better result of consumption.
A commodity having utility may or may not be useful.

 

A commodity which has utility will also be useful.
e.g. alcohol has utility  but not usefule.g. Milk have utility as well as usefulness
It is broad conceptIt is narrow concept.
UtilitySatisfaction
Utility refers to the capacity of commodity to satisfy human want.

 

Satisfaction is the result of consumption.
Utility is ability to satisfy human wants

 

It is a act of consumption or use of commodity.
Utility  increases with change in place

 

It increases with change in time
e.g. there is utility in the watere.g. when we use water we get satisfaction
Total utility Marginal utility
Total utility is the sum of all utilities derived by a consumer from all units of a commodity consumed by him.

 

Marginal Utility is the utility derived from the consumption of an additional or extra unit of a commodity.

 

TU = mu 

TU= Total Utility

∑MU = sum total of marginal utilities

 

Symbolically

MUn = TUn – TUn-1

 

It is positive, zero and negative

 

 It is always positive
It start diminishing at beginningIt start diminishing when marginal utility become zero

 

  1. what is Features of Utility/ Explain characteristic of Utility.

 

The features / characteristic of utility are as follows.

  1. Subjective concept: – Utility of a commodity cannot be same for all individual. It differs from person to person, because of the differences in tastes, preference etc. of the peoples. E.g. Meat has utility to non-vegetarians, but not to pure vegetarians.
  2. Relative concept: Utility is related to time and place. It differs from time to time and place to place. E.g. umbrellas have utility only in rainy season. Similarly, woolen clothes have more utility in Kashmir than in Mumbai.
  3. No cardinal measurement: – It is difficult to measure utility in objective terms. It cannot be measured in numerical terms or cardinal numbers such as 1, 2, 3, and so on. It can be measured in ordinal terms, like 1st, 2nd, 3rd, and so on, i.e., in the order of preference.
  4. Utility is different from usefulness/ Utility and usefulness are not same: – Utility is the power or capacity of commodity to satisfy human wants while usefulness is the benefit which a consumer gets. A commodity may have utility but not be useful. E.g. A cigarette has utility for a smoker, but it does not have usefulness as it is injurious to health.
  5. Utility is different from pleasure/ Utility is not same as pleasure: – Some goods have utility but consuming them is not enjoyable. E.g. No one enjoys taking bitter medicine or an injection.
  6. Utility is different from satisfaction/Utility is not the same as satisfaction: – Utility and satisfaction are related but not the same. Utility is the power or capacity of commodity to satisfy human wants. Satisfaction is the end result of utility.
  7. Utility is multi-purpose:– If a commodity can be put to numbers of uses, then its utility will differ in each use. E.g. Electricity can be used for lighting, ironing, cooking and washing etc.
  8. Utility depends on the intensity of wants: – The utility of commodity depends upon the intensity of the want. More urgent or intense the want, more will be the utility. E.g. Utility of food is higher for hungry person and utility decline with the satisfaction of hunger.
  9. Utility is intangible: – Utility is intangible in nature. It has no physical existence. One cannot touch it or see it. It can be felt only by the use of the commodity.

 

 

Explain the Types Utility / Explain the Forms of utility

  1. Form Utility: – When utility increase due to the changing in the shape or structure of existing material, it called form utility. E.g. wood converted into chair or furniture.
  2. Place Utility: – When utility of commodity increase due to the changing in the place of utilization. E.g. Goods produced in Mumbai can be transported to Goa for consumption. Thus, transport services can create place utility.
  3. Time Utility: – When Utility of a commodity increases with a change in the time of utilization it is called time utility. E.g. Umbrellas have greater utility during rainy season.
  4. Services Utility: – Services Utility is created by providing services to people. E.g. teachers can provide services utility to students, and doctors to patients, etc.
  5. Knowledge Utility: It’s created by filling the knowledge gap. E.g. advertisements can create knowledge utility by providing information about latest product in the market.
  6. Possession Utility: It is created by transferring ownership of a commodity from one person to another person. For example when we purchase Flat after paying full amount we get Possession utility.

Q5. State with reasons whether you Agree or Disagree with the following statements:

  1. When Marginal utility is zero total utility is highest

Ans.: I agree with the statement that when marginal utility is zero Total utility is highest

Total Utility:-

Total utility is the sum of all utilities derived by a consumer from all units of a commodity consumed by him.

Symbolically    TU = ∑mu

TU= Total Utility

∑MU = sum total of marginal utilities

 

Marginal Utility:-

Marginal Utility is the utility derived from the consumption of an additional or extra unit of a commodity.

Symbolically          MUn = TUn – TUn-1

 

Schedule/ table:

 Diagram:

 

  1. There are no limitations to the law of Diminishing Marginal Utility.

Ans.: I do not agree with the statement,

Because there various limitation to the Law of Diminishing Marginal Utility.

  1. Single commodity: The law applicable only in the case of single commodity at a time, while consumers consume more than one commodity.
  2. Cardinal measurement: In reality cardinal measurement of utility is not possible because utility is subjective concept.
  3. Indivisibility: this law is not applicable in the case of indivisible commodities like T.V set, car, fridge, etc.
  4. Quick succession: The law assumes the consumption is in quick succession but this not reality.
  5. Constant marginal utility of money: The law assumes that marginal utility of money remain constant that is prices remain constant but this is not true as price level charge.
  6. Rational behaiour of consumers: the law assumes that behaiour of consumer is rational but due to customs, tradition etc., behaiour of a consumer may not be always rational.
  7. Comparison of utility: the law assumes that comparison of utility is possible but since utility cannot be measured cardinally it cannot be compared also.

 

Explain the law of equi-marginal utility

Introduction:

The law of equi-marginal utility is an extension of the law of diminishing marginal utility. It explains consumers’ equilibrium, when he spends his income on various goods for maximum satisfaction.

The law of equi-marginal utility is also known as the law of maximum satisfaction.

Statement of law:

According to Alfred Marshall “other things remain the same, a consumer will distribute his money income on different goods in such a way that the ratio of marginal utilities and their prices tends to be equal.

In other words, a consumer get maximum total utility from spending his income, when marginal utility derived from last unit of money, spent on each commodity tends to be equal.

If a consumer spends his given income on three goods, consumer’s equilibrium can be presented as follows:

=     =   = Mum

Where,

MUA, MUB and MUC refer to marginal utility derived from commodities A, B and C, respectively. Mum= marginal utility of money spent.

The law of equi-marginal utility is based on following assumptions:

  1. Utility can be measured cardinally
  2. Consumer’s behaiour is rational and he aims at maximum satisfaction
  3. Income of consumer is fixed
  4. A consumer spends his entire income on commodities – A, B and C respectively
  5. All units of each commodity are homogeneous
  6. Price of commodity remain constant
  7. MU of money is constant
  8. A consumer knows marginal utility schedule and prices of commodities – A, B and C.

Table:

 

 

Distinguish between:

Variation in demandChange in demand
Definition:-

Variation in demand refers to extension or contraction in demand due to change in price of product.

 

Change in demand refers to increase and decrease in demand due to changes in determination of demand.
Types:-

There are two types of variation in demand. They are:

1.    Extension in demand and

2.    Contraction in demand.

 

 

There are two types of change in demand. They are:

1.    Increasing in demand and

2.    Decreasing in demand.

When due to fall in price demand rises, it’s called extension in demand and when the price rises and demand falls, it’s called contraction in demand.

 

When due to change in determinants of demand, demand rises, it’s called increasing in demand and demand falls, it’s called decrease in demand.

 

Extension in demandIncreasing demand
1.   Definition:

Extension in demand refers to more demand at lower price.

 

Increasing in demand refers to more demand at same price or same quantity is demand at higher price.
2.    This is shown by the downward movement on the same demand curve

 

This is shown by the shift of the demand curve to the right of the original one.

3.

4.    Demand curve moves downwards

3.

4.    Demand curve moves upward.

 

Contraction in demandDecreasing in demand
1.   Definition:

Contraction in demand refers to less demand at higher price.

Decreasing in demand refers to lower demand at same price or same demand at lower price

 

2.    Decrease in demand because of rise in price.Demand decrease because of change in determinants like fall in income, less fashion etc.
3.    It’s shown by upward movement on the same demand curve.It’s shown by the shift of the demand curve to the left of the original one.

 

Consumption / direct demand Investment demand/ indirect demand
 

It is demand for goods by consumer

 

 

It demand by investors, industrialist and traders etc.

Examples, Demand for rice, milk, etc.Example demand for machinery plant, factory, building etc.

 

It is direct demand/ consumption demand

 

It is indirect demand / investment demand
It is destruction of utilityIt is creation of utility

 

Individual demandMarket demand
 

It refers to quantity of a commodity demanded by a consumer at various alternative prices during a given period.

 

 

It refers to sum of the total quantity supplied by all sellers in the market at various alternative prices during years.

It is micro conceptIt is macro concept

 

It indicate supply of a sellersIt indicates quantity supplied by all sellers

Explain the Types of demand

  1. Direct demand: – When goods and services are demanded to satisfy human wants directly, it is called direct demand. E.g. demand for food, clothes, computer, mobile etc.
  2. Indirect demand / Derived demand: – When demand for one commodity gives rise to demand for another commodity, it’s called indirect demand. E.g. raw material, labour, machines, etc. are not demanded to serve directly but they are needed for the production of goods having direct demand.
  3. Joint demand / Complementary demand: – When two or more commodities are demanded at the same time to satisfy a single want, it is called joint demand. For e.g. car and petrol, pen and paper, toothbrush and toothpaste etc.
  4. Composite demand: – When one commodity is demanded for number of uses, it is called composite demand. For e.g. electricity is demanded for lighting, cooking etc. or Milk is used for making tea, coffee, ice-creams etc.
  5. Competitive demand: – When two goods are close substitutes of each other or when the demand for a commodity competes with its substitutes, it’s called competitive demand. E.g. tea or coffee, Pepsi or cola etc.

 

What are the Determinants of demands / factors determining demand?

Or

Explain the factor affecting demand

  1. Price: – Price is one of the most important factors that affect demand. When price rises demand falls and when price falls demand rises.
  2. Income: – Income is directly related to demand. If consumer income rises demand also rises and if consumer incomes fall demand also falls.
  3. Size of population: – An increase in size population leads to increase in market demand for goods and services.
  4. Taste, habits and preference: – A change in taste also changes the demand for a commodity. E.g. demand for past food has increased in recent years.
  5. Price of complementary: – if goods are jointly demanded like car and petrol, when price of car rises, demand for car and petrol both will fall.
  6. Advertisement: – Powerful advertisements create demand for product. E.g. consumers buy new new products like shampoos, soap due to attractive advertisements.
  7. Weather condition: – Weather also affects demand. E.g. raincoats have demand only in rainy season or more ice-creams in summer.
  8. Expectation about future prices: – If consumers expect a fall in the price of a commodity in the near future, they will demand less at present price and vice versa. It shows that expectations about the future prices affect demand.
  9. Taxation policy: – Government’s taxation policy affects demand. For e.g., a change in income tax will change consumer’s disposable income and therefore demand.
  10. Other factors: – Change in technology, social customs and festivals, its affects the demand for certain goods. E.g. because of new technology LCD T.V. demand increase, and during Diwali sweets, cloths demand increase.

Distinguish between:

Relatively less elastic demandRelatively more elastic
When percentage change in demand for a commodity is more than percentage change in price of commodity, then it is known as relatively less elastic demand.

 

When percentage change in demand for a commodity is less then percentage change in price of commodity, it is known as relatively more elastic demand.
Numerically value of elasticity is less than  one e>1Numerically value of elasticity is less than  one e<1

 

Demand curve is flatter and downward sloppingDemand curve is steeper and downward sloping.
DesireDemand
When person willing to get something it is called desire.Demand is a desire backed by ability and willingness to pay for commodity.
Desire is narrow concept

 

Demand is broad concept
Desire to have something is not demand

 

Demand is followed by desire and ability.
e.g. beggar’s desire to have a car is not demandA person having desire and ability to pay for a commodity is known as demand
Inferior’s goodNormal goods
 

It refers to goods which are low priced and low quality.

 

 

It refers to goods which are normally demanded by consumers

it is exceptional to law of demandThe law of demand applicable on normal goods.
There is direct relationship between price and quantity demanded.There is indirect relation between price and quantity demanded.

 

Types of elasticity of demand/Explain the different types of Elasticity of demand. 

Answer: Following are the different types of Elasticity of demand.

  1. Price Elasticity of Demand.
  2. Income Elasticity of Demand.
  3. Cross Elasticity of Demand.
  4. Price Elasticity of Demand: Price Elasticity of demand refers to change in quantity Demand for a commodity due to change in its price, other factors remain the same.

EDp =    percentage change in demand

Percentage change in price

 

  1. Income Elasticity of Demand: Income Elasticity of demand refers to change in quantity demand for a commodity due to change in income of consumer, other factor remain constant. It can be expressed as follows:

EDy =         percentage change in Demand   

Percentage change in income of consumer

 

  1. Cross Elasticity of Demand: Cross Elasticity of demand refers to change in quantity demand for a commodity due to change in price of complementary goods. Eg. Car and Petrol.

 

                        EDc    =   percentage change in Demand of X commodity

Percentage change in price of y commodity

 

What are the Factor influencing Elasticity of Demand / explain the factor affecting of elasticity of demand.

Or

Income is the only determinant of price elasticity of demand  

  1. Nature of the commodity: The demand for necessaries is inelastic demand and demand for luxuries and comfort is elastic demand.
  1. Availability of substitutes: If the commodity has number of substitutes it will have elastic demand. If the commodity has no substitute like railways services it will have inelastic demand.
  1. Income: If the consumer income is more demand will be inelastic and when consumer income is less demand will elastic.
  1. Habits: Habits make demand for certain goods inelastic. For example cigarettes, drugs, etc.
  2. Composite commodities: A commodity having several uses has more elastic in demand. For example electricity can be used for lighting, cooking, heating, etc.
  3. Urgency: If want are more urgent, demand become relatively inelastic. If wants can be postponed, demand becomes relatively elastic.
  4. Proportion of expenditure: When a consumer spend very small portion of his income on a commodity demand will be inelastic and vice versa e.g. news paper

Importance of Elasticity of demand/ Explain the importance of Elasticity of demand. 

Ans.:- following are the importance of the Elasticity of demand

  1. Importance to the Government: – The knowledge of the concept of elasticity of demand helps the government in determining taxation policy etc. If the demand is inelastic the governments impose higher tax and if the demand is elastic the governments impose less tax.
  2. Importance to the trade Union: – the concept of elasticity of demand is useful to trade union leader at the time of determining the wages rate. If the demand for producer is elastic then trade union leader cannot force the employer to increase the wages rate and vice versa.
  3. Importance to the international trade: – If export from a country has an inelastic demand then exporter can fix higher price to earn more foreign exchange.
  4. Importance to the producer: – It is very useful for the producer in taking price decision. It means to decide whether to charge higher price or lower price. If the demand for the product is inelastic then producer always charge higher price. And if the demand elastic then the price has to low.
  5. Importance to factor pricing: – this concept is very useful for determine the factor reward. Factor, which has elastic demand, are paid less wages. On the other hand labour which has inelastic demand are paid higher reward

Distinguish between: 

StockSupply
Stock refers to the quantity possessed by a seller.It refers to the quantity which is offered for sale in the market at various alternative price during a given period of time
Stock can exceed supplySupply cannot exceed stock.

 

Stock is a reserviour of a commodity.

 

Supply is a flow of a commodity.
Stock can be more or equal to Supply.

 

Supply can be less or equal to stock.

 Individual supply and market supply

Extension in supplyContraction in supply
When more quantity is supplied due to rise in price it is called extension in supply

 

When less quantity is supplied due to fall in price it is called contraction in supply
Price rises and other factors remain constantsPrice falls and other factor remain constant
 

 

Supply curve move upwardSupply curve move downward

 Explain the factor affecting Determinants of supply / what are the factors determining supply

  1. Price of a Commodity:– The supply of commodity is directly related to its price. Generally, more quantity of a commodity is offered for sale at higher price, and less quantity is offered for sale at a lower price.
  2. Natural calamities: – Natural factors like weather conditions, drought, floods, earthquakes etc. can cause fluctuations in supply, especially in agriculture goods.
  3. Future Expectation: – Expectations about the future price will affect the supply. If the price is expected to rise in the near future, the producer may hold on to the stock. This will reduce the supply.
  4. Government policy: – Government’s policy affects the supply. For e.g., a changes in taxation, industrial policies, sales tax, customs duties, etc. may encourage or discourage production and supply.
  5. Cost of production: – If cost of production rises i.e. if sellers have to pay more factors like rent, wages, interest etc. thus, supply will be reduce.
  6. State of technology: – Technological improvements helps not only improves the quality, but also the quantity of production. The quantity of production is increased due to the speed of the machines, and also there is a reduction in wastages. The increase in production facilities more supply in market.
  7. Exports and imports: – Export reduces the quantity of goods supplied within the country. Imports increase the supply in the domestic market.
  8. Size of the market: – The size of the market greatly influences the supply. Larger the size of the Market, there will more production and larger will be the supply.
  9. Infrastructure facility: – Infrastructure in a form of transport, communication, etc. it influence the production process and also supply. And shortage of these facilities decreases the supply.
  1. Nature of market: – Supply is influenced by the nature of market. In a competitive market, the supply of goods would be more due to large number of sellers. But in monopoly, i.e., single seller market, supply would be less.
  1. Number of producers: – If there is large number of producers, there will be large scale production of a commodity, which in leads to higher supply in the market. However, if the number of producers is very low, the production may be low and supply also would be low.

Distinguish between:

Perfect competitionPure competition
It is a market in which there are large number of buyer and large number of seller selling homogeneous products.

 

It is a part of perfect competition
Features

 

Features
It is an idealistic market

 

It is an realistic market
It is a broad concept with more featuresIt is a narrow concept with less features

 

Private monopolyPublic monopoly
It is owned by an individual or private firm is  called private monopoly

 

It is owned by the state government or central government.
It aims to earn profits

 

It aims to public welfare
A monopolistic can exploit consumerA monopoly is created to avoid the exploitation
Price and product policy is determined for earning profits.Price and product is policy is services oriented

 

Natural monopolySocial / Public monopoly
It comes into existence due to ownership of natural resources or location

 

It comes into existence when monopoly firm owned by the government
E.g. Gulf countries have monopoly of  oil supply

 

E.g. Indian railway operated by the central government.
It aims to earn profits

 

It aims to public services
It can be in private / public sectorIt is always owned by the public authority

 

Natural MonopolyLegal Monopoly
It comes into existence due to natural advantages such as good location, control over scare resources, etc.

 

It comes into existence due to legal protection given to the producer by government authorities.
The main objective is to earn profitThe main objectives is to prevent the competitors from producing identical goods
It emerge due to availability of a particular natural resources.Some producer uses a particular trade mark for their product and they get legal permission from the government for a brand or patent.

 

E.g. Monopoly due to location such as source of raw material like iron, cotton, etc.Monopoly due to legal rights by the government such as copy right, trade mark etc.


What is perfect competition? Explain its features / Define the perfect competition and states the features of perfect competition.

MEANING:

Perfect competition is a market situation where there are large number of buyers and sellers buying and selling homogeneous product at single uniform price. It refers to market condition which include following features.

  1. Large number buyers and sellers: In perfect competition there are large number of buyers and sellers. There number is so large, so single buyer and seller cannot affect the market demand and supply.
  2. Homogeneous product: – The product supplied by all the seller is homogeneous or identical (same, similar) in all respect. That is size, colure, shape, quantity etc.
  3. Free entry and exit: – In perfect competition market, there is complete freedom for entry and exit of buyers and sellers. Any buyer or seller enter the market or exit from the market as and he wants.
  4. Perfect knowledge about the market condition: – Each and every buyer should have a perfect knowledge about the market condition like price, quality, quantity and feature of the product. If buyers have a perfect knowledge about the market condition they cannot be charged more by seller.
  5. Perfect mobility of factor of production: – labour, capital etc. are known as feature of production. They are freely movable from one industry to another or one market area to another.
  6. No transport cost: In perfect competition the transport cost remain the same or equal to another firm. If transport cost is included in the cost, it makes a lot of difference in the price of same commodity.
  7. No government interference: – It assumed that the government does not interfere in respect of production, transportation and exchange of goods. In other ward there are no government restrictions.
  8. Demand curve of the firm: – Under perfect competition demand curve is perfectly elastic i.e. a horizontal straight line parallel to X-axis, because seller can sell infinite quantity at market price.

What is pure competition? Explain its features / Define the pure competition and states the features of perfect competition.

Meaning:

Pure competition is a market situation where there a large number of buyers and sellers buying and selling homogeneous products at single uniform. Pure competition is a part of perfect competition. Pure competition fulfils certain conditions of perfect competitions.

Following features are:

  1. Large number of buyers
  2. Large number of sellers
  3. Homogeneous products
  4. Free entry and exit of buyer and seller

Price determination under perfect Competition

Equilibrium Price:

  1. Equilibrium price is the price at which quantity demanded is equal to quantity supplied.
  2. The price of the product under perfect competition is influenced by both buyers and sellers and equilibrium price is determined by interaction of demand and supply forces.
Price ( per units)Quantity DemandedQuantity Supplied
5

4

3

2

1

100

200

300

400

500

500

400

300

200

100

Explanation:

  1. Above table shows the effects of price on market demand and market supply. The table shows that when price of the commodity is Rs.5 quantity demanded is 100 units and quantity supplied 500 units.
  2. When price fall Rs.4 and Rs.3, respectively and quantity demand increase to 200 and 300 units where as supply decrease to 400 and 300 units respectively.
  3. The above table shows at Rs.3 the quantity demanded and quantity supplied equal, thus Rs3 will be equilibrium price.

Diagram:

 

Define the Monopoly, state it features/ characteristic / what is monopoly? Explain its features.

Ans.: The terms ‘monopoly’ is derived from two Greek word ‘mono’ which means ‘one’ and ‘poly’ which means ‘seller’. Monopoly is a market situation where there is only one seller who commands complete control over the supply of commodity. There is no competition in the market, and therefore, the seller is a price maker and not a price taker. Following are the features of monopoly:

  1. Single seller: – Monopoly is a market situation in which there is only one seller controlling the entire supply of a commodity in the market. There are no competitions from the seller’s side.
  2. No Close Substitute: – The commodity supplied or sell by the monopolist has no substitute. Therefore the buyers have no choice, but to buy the product, or go without it.
  3. Price maker: – In Monopoly the seller is a “price maker” since monopolist has entire control supply in the market. Therefore he can determine the market price. The seller under monopoly can be called as price maker.
  4. No Entry: – Under the monopoly situation there are entry barriers to other firms. The seller may have exclusive marketing rights to market the product in a particular area or country for certain period period. Thus, other producers are not allowed to enter the market.
  5. Large number of buyer: – under monopoly there are large numbers of buyers in the market; who compete with one another.
  6. No competition: – Under monopoly there is only one seller of a product without having close substitutes, there is no competition in the market. In other words, the seller enjoys complete monopoly.
  7. No difference between firm and industry: – Under monopoly there is only one producer. Since he is the sole producer for a product, there is no difference between firm and industry. The firm itself becomes the industry for that type of product.
  8. Demand curve: – Demand curve in case of monopoly market is downward sloping. This indicates that thought he is price maker, If he want to increase the sales he must sell at lower price.

Explain the Types of monopoly

  1. Private Monopoly: – When an individual or private firm owned and controls the production of goods, it is regarded as private monopoly.
  2. Public Monopoly: – when the government own and control the production of goods it is regarded as public monopoly.
  3. Simple Monopoly: – When a firm charge same price to different buyer for the same product, it is called as simple monopoly.
  4. Discriminating Monopoly: – When a firm charged different price to different buyer for the same product, it is called as discriminating monopoly.
  5. Natural Monopoly: – When a firm acquire the power due to natural advantages such as location, climate condition, it called as natural monopoly.

What is monopolistic competition? Explain its features / Define the monopolistic competition and states the features of monopolistic competition.

 Ans.:

 Meaning:

Monopolistic competition is a type of market in which there are a large number of firms that produce and sell similar but that are differentiated but close substitute to each other. The monopolistic competition exists between the sellers of differentiated products. Monopolistic competition is mixture of the feature of competition and monopoly. Monopolistic competition exists in case of product like toothpaste, soaps, etc. and consumer durable like T.V sets and refrigerators, etc.

Following are the features of monopolistic competition.

  1. Large number of seller: – In a monopolistic competition market, there are large number of seller. Hence, a single seller cannot influence the market supply.
  2. Large number of buyer: – In monopolistic competition, there are large number of buyer purchased goods by choice, not by chance. So in order to attract the more customers, the seller introduces the product according to the taste, preference of the customer.
  3. Free entry and exit: – There are free entry and exit of firm under monopolistic competition market. There are no barriers for the firm to enter or exit. A firm can easily enter into market with a product which is a close substitute to other firm’s product.
  4. Price maker: – In monopolistic competition the firm is a price maker. The firm has some control over the price due to product differentiation. Thus, there is price differentiation between the firms producing close substitute.
  5. Product differentiation: – Products differentiation in term of colour, size, design, taste, etc. product differentiation can also take place in the form of brand name and trade mark. The product differentiation given rise to element of monopoly.
  6. Close substitute: – The product is differentiated but still close substitutes of each other. For e.g. we have different brands of soaps in the market.

Distinguish between:

LandCapital
Land is a free gift of nature.Capital is a man-made means of production
Land is a permanent factor of production

 

Capital is not permanent factor of production
Supply of land is perfectly inelastic

 

Supply of capital is elastic
Land is geographically immobile factor of productionCapital is mobile factor of production

 

Fixed CapitalVariable Capital
 It refers to the capital which can be used again and again over long period. It refers to the capital which can be used only once in the process of production

 

E.g. Machinery, building etc.

 

Raw material, power, fuel etc.
 It is durable in nature

 

 It is not durable in nature
 It does not lose its form during production It loses its form during production, and transform in some other goods.

 

LabourEntrepreneur
It is human efforts (both mental and physical ) for which payment is made is known as labour.

 

 Entrepreneur is the person who plan, organize, directs and controls the process of production
 Labour get wages as a rewardEntrepreneur get profit or some  time suffer loss
Reward paid to labour are fixed and predetermine

 

 Reward of entrepreneur is uncertain and undetermined.
Supply of labour is more than entrepreneur Supply of entrepreneur is less than that of labour

 

Insurable riskNon-insurable risk
 Risk which arises due to fire, floods, accident, etc. can be insured  Risk arises due to change in the market condition it is called non-insurable risk.

 

  Losses can be transferred to insurance company

 

 Losses can not be transferred to insurance company
 It can be anticipated It can not be anticipated.
 It is not the case of profits. If is avoided by entrepreneur, he can get profit

 

Q1. What is land? Explain its features?

Ans.: In ordinary sense, land refers to the surface of the earth. But in economic, it includes all natural resources which are available on, above and under the surface of the earth, like forests, mountains, water, coal, petroleum, gold, silver, air, light, heat can be called as land.

 Following are the features of land.

  1. Free gift: – land is a free gift of nature. It is not created by human efforts. It endowed by nature for our productive process.
  2. No cost of production: – It has no social or production cost It is already in existence. It is free gift of nature, so it has no cost of production.
  3. Land is perfect inelastic in supply: – Supply of land is perfect inelastic. The total area of land available to mankind is fixed. Man has no power to increase or decrease the supply of land.
  4. Not perishable: – Land is the natural resources but it is not perishable. It means that it cannot be destroyed.
  5. Lacks of geographic mobility: Geographically, land has no mobility. It cannot be physically moved from one place to another place. So land is perfect immobile factor.
  6. Primary factor of production: The other factors of production cannot carry out any productive activity without land. Therefore, land becomes a primary factor of production.
  7. Quality:The quality of land differs from one place to another place. One piece of land is different from another. All unit of land are not equal or same in quality. One piece of land is more fertile and other is less fertile.
  8. Derived demand: The demand for land is derived. It means that the demand for land arises in process of production.
  9. Rent as a rewarded: The owners of the land get rent as a reward, when they allow to others use their land. The rent is a payment collection toward use of land. The rent varies from place to place and from time to time.

Q2. What is labour? Explain its features?

Ans.: In ordinary language, labour means unskilled person, who involve in physical efforts. But in economics, labourmenas any physical or mental work undertakes to earn money. It means a human effort for which payment is made is known as labour. Following are the features of labours.

  1. Labour is a Human resources: Labour itself is human. It is produced by human being for production purpose.
  2. Living factor:labour is a living factor of production. It has own feelings and emotions. Labour is a different factor of production than other like land, capital etc. which are lifeless.
  3. Heterogeneous factor: Skill and efficiency of the worker differ from worker to worker i.e. two labour are not same in skill and efficiency. The efficiency of labour, i.e. education, training etc.
  4. Perishable:labour is a perishable factor of production. It cannot be store for future use.
  5. Less mobility: Labour is less mobility. Its mobility restrict by various factors, such as attachment with family, friend, language etc.
  6. Supply of labour: Supply of labour depends upon various factor such as size of population, age ratio of population, sex ratio etc.
  7. Derived demand: Demand for labour is a derived. It means that the demand for labour arises in the process of production.
  8. Relatively inelastic supply: the supply of labour is relatively inelastic in short period. The supply labour cannot increase in short period.
  9. Most active factor: The labour is most active factor. All other factors are useless without labour. Even machine to operate, human hands are required.

Q3. What is capital? Explain the features and type of capital.

Ans.: In ordinary sense, the term ‘capital’ means ‘money’. But in economic, the term ‘capital’ refers to man-made factors of production which are used in the process of production. For example: factory building tools, machinery etc. following are the features of capital.

  1. Man-made: Capital is man-made factor. It is the man who produce the capital in form of plant and machinery, building and vehicles, etc.
  2. Mobility factor:Capital is most mobile factor of production as compared to all other factors of production. It can be easily move from one place to another place.
  3. Depreciative factor: Capital like machines, buildings, etc. are subject to wear and tear. Therefore, capital is subject to depreciation. The value of capital goes on decreasing.
  4. Durability factors: Fixed capital like machines, building are durable and can be used for long period or can be used for several years.
  5. Increase in productivity of land: Capital helps to increase the production capacity of labour, by the use of various capitalslike machinery; equipment etc. labour can easily increase the production and productivity.
  6. Elastic supply: The supply of capital is elastic. Depending upon the requirements the capital can increased or decreased. If there is more demand, the supply of capital like machine or vehicles can be increased.
  7. Derived demand: Like other factor of production capital also has a derived demand. Because capital goods produce consumer goods which satisfy human wants directly.

Q4. Explain the quality and function of entrepreneur

Ans.: Entrepreneur is human factor who organize production activity. Entrepreneur combine of all three factors i.e. land, labour, capital in the proper direction. In modern economy, it is entrepreneur who decides what to produce? How to produce? How much to produce? When to produce? Etc. Thus, in short, entrepreneur is the person who directs the process of production by combining other factors.

Following are the quality of entrepreneur:

  1. Personality: An entrepreneur needs to have a good personality to be successful. It includes physical qualities, mental qualities, and social qualities. In fact, personality is main quality that any person needs to be successful.
  2. Technical knowledge: It implies knowledge about the product, process and technology used in manufacturing. In addition, an entrepreneur should have knowledge about legal, faience and administration matter relating to business.
  3. Communication skill: It means the ability to share information with others. An entrepreneur who communicates effectively with employees and outside is more successful in business than others.
  4. Goal organizer: successful entrepreneur are good organizers of resources of man, machines, materials, and money needed to start and run the business smoothly.

The functions of entrepreneur are follows:

  1. Decisions-making: An entrepreneur is required to take various decisions. The decisions in respect to location of the business unit, selection of employee, obtaining of funds, production decisions, marketing and distribution decisions etc.
  2. Combines the factor of production: The entrepreneur has to combine the factors of production in such a way that he gets maximum return on investment. Therefore, there should be a proper mix of land, labour and capital to get highest possible returns.
  3. Innovation: The entrepreneur should be imaginative and innovation. He should be dynamic in nature. Therefore, successful entrepreneur is always on the lookout for new ideas, new products, new processes or methods etc.
  4. Maintaining Relations:An entrepreneur has to maintain good relations with various parties such as employees, government authorities, customers, supplied etc.
  5. Directing the subordinates: The entrepreneur performs the role of directing. He has to give right directions to his subordinates, so that they work properly to achieve the goals of the entrepreneur.

Define the macroeconomics, explain the features of macroeconomics / what the macroeconomics? States it features

MEANING:

The term macro-economic is derived from Greek word ‘MAKROS’ which means large, so macro-economic refers to study of economic behavior of total employment, total consumption, total investment etc. Macroeconomic is the study of aggregate. It is the study of economic system as a whole. Therefore, it also called aggregate economic.

DEFINITIONS:

Kenneth E. Boulding in his book ‘Economic Analysis’ defines “macroeconomic deals not with individual quantities as such, but with aggregates of these quantities; not with individual incomes but with the national incomes; not with individual prices but with the price level; not with individual outputs but with the national output”.

The important features of macroeconomic as follows:

  1. Study of Aggregates: Macro-economic is the study of aggregates. It is related with concept such as aggregate demand and supply, national income and total output.
  2. Lumping method:macro-economic study deals with lumping method i.e. study of whole, like national income and general price of products not the price of individual products.
  3. General equilibrium Analysis:Macro-economic is related with behavior of aggregate and their interdependence. It is a general equilibrium analysis in which everything depend on everything else. E.g. change in level of income may result in change in saving, which in turn may influences investment. The investment turn may affect production output.
  4. Useful for Government policies:The study of macroeconomics is highly useful for the formulation and implementation of economic policy of the government. The government is concerned with the regulation of aggregate of economic system such as he general price level, the general level of production, the level of employment, and so on.
  5. Income theory: the Income theory is a major aspect of macroeconomic theory. A major task of macroeconomic is the determination of national income. Macroeconomics studies the factors determining national income.
  6. Employment theory: The employment theory is also a major aspect of macroeconomic theory. it studies the various factors responsible for employment, and also problem of unemployment. Therefore, the employment theory can help the government to take suitable measure to control unemployment problem.
  7. Overall View of the Economy: The study of macro-economic gives an overall view of economy. It aims to provide a more realistic view of the overall economy, which helps in policy formulation and implementation.
POINTSMICROMACRO
MeaningMicro economic refers to study of individual units.Macro-economic refers to the study of aggregate.
SourcesMicro economic is derived from Greek word “MIKROS” which means small.Macro-economic is derived from Greek word “MAKROS” which means large.
Theory Micro economic is known as “Theory of slicing”Micro economic is known as “Theory of income”
Level Micro economic is used to solve the problem of individual level.Macro-economic is used to solve the problem of at aggregate level.
Concept            This concept is given by Alfred MarshallThis concept is given by Keynes.

DISTINGUISH BETWEEN:

 

. Distinguish between:

Net National Product (NNP)Net Domestic Product (NDP)
 

It is money value of all final goods and services produced in a country during a year including net income from abroad and excluded depreciation.

 

It is money value of all final goods and services produced in a country during a year excluding depreciation and net income from abroad.
NNP = NDP + Net Income From abroad i.e. (X-M)

 

NDP = NNP – Net Income from international trade i.e. (X- M)
It is useful in the open economy having international transactions.

 

It is useful in closed economy having no international transactions.
It gives idea about net national income of a country.It gives idea about net domestic income of a country.

Distinguish between:

Consumption ExpenditureInvestment Expenditure
 

It refers to the expenditure incurred to satisfy human wants directly.

 

It refers to the expenditure incurred for future production of goods and services.

 

E.g. Expenditure on foods, clothing, shelter etc.

 

Expenditure to purchase machinery, plant, factory building etc.
It satisfies human wants directly.

 

It satisfies human wants indirectly.
It is unproductiveIt is productive

 

Marginal Propensity to ConsumeAverage Propensity to Consume
 

It is the ratio of the changes in consumption to the changes in income

 

 

It is the ratio of total consumption to total income

MPc =

Where MPC = Marginal propensity to consume

= changes in consumption

= changes in Income

 

APC =

APC = Average propensity to consume.

C = Consumption

Y = Income

With increase in income MPC increase at less than proportionate.

 

With increase in income start declining.
MPC is always less than APC.APC is always greater than MPC.

Q1. What is aggregate demand? Explain its determination.

Ans.:-

  1. Aggregate demand refers to the total demand for different types of goods and services by all types of buyers in a country at different price during a given period of time.
  2. Aggregate demand is calculating by the aggregate expenditure of economy. So aggregate demand is total expenditure of household on consumption (C)+ expenditure of firm on investment (I) + Government expenditure (G)+ and the net difference between export and import (X-M).
  • The determination of aggregate demand can be expressed in the term of,

AD       = C+I+G+(X-M).

C          = Consumption function.

I           = Investment expenditure

G          = Government expenditure.

(X-M) = Net earnings from transactions

 

Determination of Aggregate demand: – The Aggregate of demand depends upon the following factors.

  1. Consumption expenditure made by the household(C): Consumption expenditure refers to the expenditure made by the household on consumer goods like rice, wheat etc. There are two types of consumption expenditure:-

 

  1. Autonomous expenditure: It refers to the expenditure which is independent of income. It is income inelastic i.e. it does not depend upon income. For e.g. Expenditure on religious activity, marriages etc.

 

  1. Induced consumption expenditure: It refers to the expenditure depend upon the size of income. If the income is high there is a high expenditure. For e.g. large amount spend by family when income is very high.

 

  1. Investment expenditure (I): It refers to the expenditure made by business firm on capital goods like factory building, machinery, equipments, etc. such expenditure leads to capital formation in the country. There are four types of investment expenditure:-

 

  1. Inventory expenditure: It refers to the investment on the stock of raw materials by the wholesaler and the retailer.

 

  1. Fixed investment: It refers to the investment on fixed assets like machinery, building etc.
  2. Autonomous investment: It refers to the investment made by irrespective size of profit. E.g. investment made by the government on roads, railways etc.

 

  1. Induced investment: It refers to the investment depend upon the size of profit. Large investment made by the private firm, if the profit is high.

 

  1. Government expenditure: It has a great importance in modern economy. It may be either on consumption expenditure or investment expenditure. Government spends the money on defense, hospital, road etc. So government spends lots of amount on purchase of variety of goods and services.

 

  1. Foreign demand (X-M): Foreign demand is a part of aggregate demand. Some have demand of imported goods, this leads to expenditure on import (M). At the same time people of other country spend money on the Indian goods. This leads to export (X). The difference between the export and import are expressed in term of (X-M). The foreign demand can be positive when exports are more than import. Foreign demand can be negative when export less then import.

 

Q2. What is aggregate supply? Explain its determination.

 

Ans.:-Aggregate supply means a sum total of all goods and services produced and supplied in the economy during a given period of time. The producer appoints the factor of production. They have to make payment in the form of rent, wages, interest, and profit.

The difference types of factor of production are land, labour, capital and entrepreneur. The different type of goods and services are supplied by following three sector

  1. Primary sector: It includes all types of agricultural commodity. E.g. rice, wheat etc.
  2. Secondary sector: It includes all type of industrial goods like car, T.V. etc.
  • Tertiary sector: It includes all type of services like transport & communication, banking etc.

 

Determination of aggregate supply: – The aggregate supply depends upon the following factors.

 

  1. Land (Natural Resources) (N): Natural resources means the resources, which are available on, above and under the surface of earth. The productivity of commodity is very much affected by natural resources. It includes land, climatic condition, rainfall, water resources, mountain etc. All these resources are helpful in the process of production. If the country is rich in the natural resources then they produce more output.

 

  1. Labour (L): Labour is the most active human factor that determines aggregate supply. The size and efficiency of the labour are very important for increasing production. The supply of labour depends on the size of the population, age composition of the population, education and training of the labour force.

 

  1. Stock of capital (K): Stock of capital is equally important determination of aggregate supply. It is a man-made factor of production which is use in process of production. The aggregate supply of goods and services produced in the country depends on the availability and use and quality of capital. Therefore, more the capital more is the supply of goods, and less capital available, less would be the supply.

 

  1. State of technology (T): The state of technology plays a very important role in determination of aggregate supply. If the production unit is well designed with latest technology and improved technical know-how, it helps the producer to produce more. Introduction of new and latest technology will lead to an increase in the production.
  2. What are the difficulties in barter system?
  3. Lack of double co-incidence of wants: Double co-incidence of wants indicates need of each other’s goods and willingness to accept it. It was one of the important limitations of barter system.

 

  1. Lack of common measure of value: It was very difficult to calculate the values of the goods in barter system. For example it was difficult to compare 2 litres of milk with 2 kgs of onions.

 

  1. Difficulty of storage of goods: Under barter exchange, it was necessary to store goods for future consumption. Storage of highly perishable goods like fish, vegetables etc. was difficult besides the were no space to store the goods.

 

  1. Problem of indivisibility: Under barter system, it was difficult to make fractional payments, especially when things to be exchanged were indivisible.

 

  1. Problem of making deferred payments: Deferred payments are those which are made in future. When people used to borrow cattle, it was difficult to return the cattle in the same physical conditions, after a certain number of years.

Q1. Explain various types of money

Ans.: following are the types of money.

 

  1. Commodity money: In ancient times, commodity money was used as a medium of exchange. For e.g., food grain, cattle, animal skins etc. were used as commodity money. Following are the limitation of commodity money:
  2. Some commodities such as cattle were not divisible into pieces.
  3. Some commodities such as fish were perishable and as such not stable.
  4. Certain commodities were not accepted at certain places etc.

 

  1. Metallic money: To overcome the limitation of commodity money, metallic coins were introduced. Metallic coins of gold, silver, copper etc., were accepted as medium of exchange especially for bigger transactions. Following are the advantages of metallic money:
  2. Metallic money was durable and as such storable.
  3. It can be divided into parts.
  4. It was suitable for small as well as for big transactions.

 

  1. Paper money: Paper money consists of currency note issued by government or central bank of country. In India, 1 rupee note are issued by the government of India and all other currency notes are issued by the Reserved Bank of India (RBI). Following are the advantages of paper money:
  2. It is lighter and convenient to carry.
  3. It is cheaper to print paper money.
  4. It reduces the burden of counting, especially in the case of larger transitions.
  5. It can be issued of any denomination.

 

  1. Bank / credit money: it is the most popular form of money. Bank money issued in form of cheque, draft, bill of exchange etc. Bank money help to settle large business transaction. Bank has actively contributed in the development of commerce. Now-days, bank money has become very popular even with non-business persons. The bank money is the backbone of modern business.

 

  1. Credit cards: a new concept of credit money is gaining popularity, i.e. credit cards, issued by private business firms and by banks. Now-a-days credit cards have become extremely popular. These cards are used are used to buy goods and make payment. Credit cards are valid not only at national level but also at international level.

Function of commercial bank

  1. Primary function:-
  2. Medium of exchange: Money acts as a medium of exchange. People accept money and use it for exchange of goods and services. People can purchase any commodity when they required. The exchanges have become quick and easy due to money.

 

  1. Measure of value: money work as common measures of value. Value of any commodity can be expressed in the term of money. One difficulty of batter system was a common measure of value. Now a day’s one can easily measure a value of commodity in term of money.

 

  1. Secondary functions:-

 

  1. Standard of deferred payment: Deferred payment is the payment which is to be made at a future date. Lending or borrowing was difficult in batter system. With money, it is possible to settle payments at the time of actual exchange or later date. Thus, credit transactions are possible because of this function.

 

  1. Store of value: Money acts as store of value. Men can keep money for future in the form of currency notes or bank deposit. Because of the store of value, money can be used in future when required. Money can be stored without loss in its value.

 

  1. Contingent functions:-

 

  1. Estimation of national income: Estimation of national income is possible only because of money as a unit of account.

 

  1. Liquidity: Money is most liquid asset. It can be available on demand and can be transferred without any loss of time and value. It can be converted into any other commodity almost instantly.

 

  • Transfer of value: Money helps us to transfer values from one place to another or from one person to another without any difficulty.

 

  1. Basis of credit: Modern economy is based on credit. Hence, lending and borrowing activity is made easy by using money.

 

Meaning:

 

  1. In India, Reserve Bank of India (RBI) acts as central bank. It is an apex financial institution.

 

  1. It regulate and monitors the banking and monetary system in the country. The RBI was established in 1935, under acts 1934.

 

  • In 1st January, 1949, it was nationalized. The head office RBI is at Mumbai.

 

Q.1 what are the function of central bank?

 

Ans.:

  1. In India, Reserve Bank of India (RBI) acts as central bank. It is an apex financial institution.

 

  1. It regulate and monitors the banking and monetary system in the country. The RBI was established in 1935, under acts 1934.

 

  • In 1st January, 1949, it was nationalized. The head office RBI is at Mumbai.

 

Following are the important function of RBI:

 

  1. Issue of paper currency: The central bank has the authority to issue currency notes. The Reserve Bank of India has been authorized by the government of India to issue notes of all denominations except One rupee note. The one rupee note is directly issued by the Government of India.

 

  1. Banker to the Government: The central bank act as banker, agent and adviser to the government. It transacts all banking business of central government and of the state government. It accepts money on account of the government and makes payment on behalf of the government.

 

  1. Banker’s Bank: The Reserve Bank of India (RBI) act as banker to all other bank including commercial bank. It lays down the rules and regulation which are to be followed by all the financial institution.

 

  1. Controller of Credit: The central bank has responsibility to control credit in the economy. The central bank regulates volume of credit and money supply in the country. The money supply is decrease to control inflation. And increase money supply so that banks lend more funds to the various sectors. Various quantitative and qualitative control s are used by RBI to regulate credit and money.

 

  1. Lender to last Resort: Whenever any commercial bank faces liquidity problems, the central bank provides funds to overcome the crisis. Normally, the funds are provided by rediscounting the bills of commercial bank.

 

  1. Promotion and development Function: The central bank also performs the promotion and development function. For e.g. set up National Bank for Agriculture and Rural Development (NABARD) to promote agriculture and rural development. It has also set up Export- Import (EXIM) Bank of India, to promote foreign trade.

 

  1. Supervisions of Bank: the central bank supervises and monitors the working of commercial banks. The RBI is given power to supervises and monitor the working of commercial banks under the Banking Regulations, Act, 1949.

 

 

Q2.What is the different tools used RBI to control credit?

Ans.: The credit control measures can be broadly divided into two groups.

  1. A) Quantitative Credit Control: it affects the quantity of credit in economy by the following way:

 

  1. Bank Rate: Bank rate is the rate charged by the central Bank for rediscounting the bills of exchange presented by the commercial banks. When the bank rate is increase, the interest rate of commercial bank will also increase. As a result, the barrower has to pay high rate of interest and therefore he will demand less. Through changes in bank rate, RBI affects the interest rate in the money market.

 

  1. Open Market Operations: It refers to buying and selling of securities by RBI in open market. RBI reduces credit by selling securities to public. When it sell security to public, money flow from public to RBI. It reduces credit. It can expand credit by purchasing securities from the market. When it purchase security, money flow from RBI to public. It leads to credit creation.

 

  1. Cash Reserve Ratio: Cash reserve ratio (CCR) refers to proportion of the total deposit which commercial bank have to keep with the Central bank. When the CCR is increased, cash reserve of commercial banks will reduce which is turn will reduce the lending capacity of bank. This will lead to decrease in the volume of credit creation by the bank. This policy is adopted during inflation.

 

  1. B) Qualitative Credit Control: it refers to measure use to control credit or direction of credit. Following instruments are used by the central bank.

 

  1. Margin Requirement: A bank requires security such as gold, house, against loan sanctioned. No bank give loans equal the security. Suppose a person present security of Rs. 1 lakh then he may be given loan upto Rs.75, 000. This difference between the actual value and sectioned value is known as margin. RBI directs the commercial bank to keep lower margin against loan towards agriculture etc.

 

  1. Moral Suasion: – It refers to general appeal by central bank to commercial bank to co-operate in credit control. Under moral suasion, the RBI issues periodical latters to banks to exercise control over credit. Such periodical letters act as a reminder to the banking sector to follow credit control norms.

 

  1. Direct Action: The central bank may take direct action on commercial banks for not observing the guidelines. If guidelines are not followed, central bank may impose penalty or suspend the activity of commercial bank.

 

  1. Publicity: The central bank may adopt wide publicity and inform people about its policy, working of the bank etc.

 

  1. Ceiling on Credit: It means fixing a limit for the different types of loan sanctioned by commercial bank.

 

 

Q5. Answer with reasons whether you Agree or Disagree with the statements:

  1. The central bank works as a banker’s bank
  2. Central bank has control on credit creation
  3. Central bank work as Government’s bank

 

Q6. Answer in detail.

  1. Explain the functions of Central bank.
  2. Explain qualitative (selective) methods of credit control by Central bank.

 

CH: 13 Public Economics

 

Meaning of Government Budget:

 

  1. Budgets is an important instrument of financial administration, through which all the financial affairs of the state are regulated

 

  1. It is an annual statement of expenditure and revenue of the government prepared by the financial authority during fiscal year.

 

  • The word Budgets is derived from the French word “Bougette”, which means a bag or a wallet containing the financial proposals. These financial proposals are in the form of the government expenditure and revenue.

 

  1. Article 112 of the constitution of India requires the central government to prepare “Annual Financial Statement” for the country as a whole. This is known as ‘Budget’

 

  1. In India, budget is presented every year on the last working day of the month of February, in the parliament by the finance Minister for approval.

 

 

Types of Governments Budgets

 

Balance Budgets:

  1. When government revenue is equal to government expenditure is called as Balance budget

 

  1. A government budget is said to be balanced when its estimated revenue and its anticipated expenditure are equal. That is, Government receipts = Government Expenditure

 

  • It implies that the government raised funds in the form of taxes and other means.

 

  1. Government must Exercise financial discipline and should keep its expenditure within the available income.

 

Surplus Budget:

  1. When Government revenue is greater than Government Expenditure it is called as surplus budget that is Estimated Government Revenue receipts > anticipated Government expenditure

 

  1. When estimated government receipts are more than the estimated government expenditure it is termed as Surplus budget

 

  • A surplus budgets is used either to reduce government public debts ( its liabilities) or increase its savings

 

  1. The Surplus budget can be used during the inflation.

 

Deficit Budget:

  1. When Government revenue is less than government expenditure it is called as deficit budget

 

  1. When estimated government receipts are less than the estimated government expenditure, than the budget is termed as Deficit Budget

 

  • In modern economics most of the budgets are of this nature. That is, estimated Government Receipts < anticipation government Expenditure

 

  1. A deficit budget increases the liability of the government or decreases its reserves

 

  1. A deficit budgets may be useful during the period of depression.

 

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