Macroeconomics Questions and Answers

Q: Which one of the following statements is CORRECT in the context of the Keynesian Absolute Income Hypothesis?

The correct statement is The average propensity to consume approaches the marginal propensity to consume as the income increases.Keynes's absolute income consumption function is \(C = a + bY\) with \(a \gt 0\) and \(0 \lt b \lt 1\). The average propensity to consume is:\[ APC = \frac{C}{Y} = \frac{a}{Y} + b \]As income grows, \(a/Y\) shrinks towards zero, so APC falls towards \(b\), the marginal propensity to consume.This also rules out the others. The MPC is constant in the linear form, and Keynes held that it is less than one and, if anything, falls as income rises, so it does not increase. APC decreases with income rather than increasing. And since \(APS = 1 - APC\), the average propensity to save rises with income.

Q: Consider a closed economy IS-LM model with downward sloping IS curve. If there is an increase in government spending, then which one of the following statements is CORRECT?

The correct statement is If LM curve is vertical, then the equilibrium level of income remains unchanged.A vertical LM curve means money demand does not respond to the interest rate, so the money market alone fixes income. Higher government spending shifts the IS curve right along the vertical LM: the interest rate rises until private investment falls by as much as government spending rose. Crowding out is complete and income does not change.With a horizontal LM curve, the liquidity-trap case, the opposite holds: the interest rate stays where it is and income rises by the full multiplier, so both horizontal-LM statements are wrong. With a vertical LM curve the interest rate rises, it does not decrease.

Q: Which of the following options is correct?In theory __________ and __________ should be equal, but in practice they typically differ because they are constructed in different approaches.(i) National Income and Net National Product.(ii) Real GDP and Nominal GDP.(iii) Consumer price Index and Producer Price Index.

Only pair (i) fits, so the answer is Only (i).National income is defined as net national product at factor cost, so in theory the two describe the same aggregate. In practice the published figures differ, because the estimate can be built by the product, income or expenditure method, and NNP at market prices also includes net indirect taxes, which national income leaves out.Pair (ii) does not fit: real GDP is nominal GDP corrected for price change, so the two are equal only in the base year and are not expected to match otherwise. Pair (iii) does not fit either: the Consumer Price Index tracks retail prices paid by households and the Producer Price Index tracks prices received by producers, so no theory says they should be equal. Every option that adds (ii) or (iii) is therefore wrong.

Q: The unemployment which is associated with the inadequacy of productive capacity to create enough jobs for all those able and willing to work refers to _________ .

The answer is Structural unemployment.In the Indian context, structural unemployment arises because the economy's productive capacity, its capital stock and industrial base, is too small to provide jobs for all those willing and able to work. It is long-term and linked to the structure of a developing economy.Frictional unemployment is the short gap while people move between jobs. Cyclical unemployment rises and falls with the business cycle. Open unemployment simply means people who are visibly without any work, without saying why.

Q: GNP measures ___________ .

GNP measures total domestic and foreign output claimed by residents of a country.Gross National Product is the value of all final goods and services produced by a country's residents, whether inside the country or abroad. It equals GDP plus net factor income from abroad (income earned by residents abroad minus income earned by foreigners in the country).Output produced only within the country is GDP, which is closer to the second option, while output abroad alone leaves out domestic production. So neither partial option, nor 'None of the above', is right.

Q: Stagflation is a situation of

Stagflation is high inflation combined with high unemployment.The word joins stagnation and inflation. It describes an economy whose output growth is stalled, with high and rising unemployment, while prices keep rising fast. Textbook demand-side policy struggles with it, because measures that cut inflation worsen unemployment and the reverse. The standard example is the 1970s, when oil price shocks pushed up both prices and joblessness in Western economies.The other options describe other ideas: unemployment confined to agriculture (often disguised unemployment), a seasonally adjusted unemployment rate, and structural inflation, which by itself says nothing about unemployment.

Q: Autonomous Demand indicates that .......................... .

Autonomous demand means the commodity is needed for direct use but not as an input to produce another commodity.Demand is classified by its source. Autonomous (direct) demand is demand for a good for its own sake, for final consumption, such as food or clothing bought by households. Derived demand is demand for a good because it is needed to produce something else, such as steel for cars or labour for output.The option describing use as an input but not for direct use is derived demand, the opposite. A good used both directly and as an input has joint (composite) demand, and the export option mixes in a destination of sale, which is not what autonomous demand refers to.

Q: Ratchet effect relates to :

The ratchet effect relates to the relative income hypothesis.In James Duesenberry's relative income hypothesis (1949), consumption depends on income relative to others and to the highest income previously reached. When income falls, people try to keep the consumption standard they are used to, so consumption falls by less than income. This resistance to downward movement is the ratchet effect.The life-cycle hypothesis (Modigliani) and the permanent income hypothesis (Friedman) explain consumption by lifetime or long-run expected income, and the absolute income hypothesis (Keynes) by current income alone. None of them is built on the ratchet effect.

Q: In simple Keynesian model of output determination, government expenditure will have a bigger impact if :

Government expenditure has a bigger impact when the marginal propensity to consume is higher.In the simple Keynesian model, a change in government expenditure changes income by the multiplier:\[ \begin{aligned} k &= \frac{1}{1 - MPC} \\ \Delta Y &= k \times \Delta G \end{aligned} \]A higher MPC means more of each round of income is spent again, so the multiplier is larger: with MPC 0.8 it is 5, with MPC 0.5 only 2. A lower MPC weakens the effect, an MPC of zero gives a multiplier of one, and a constant MPS says nothing about how large the effect is.

31.

Which one of the following statements is CORRECT in the context of the Keynesian Absolute Income Hypothesis?

A.The marginal propensity to consume increases as the income increases.
B.The average propensity to consume increases as the income increases.
C.The average propensity to save decreases as the income increases.
D.The average propensity to consume approaches the marginal propensity to consume as the income increases.

Exam Year(s)

IIT JAM - 2026,

Answer: D

The correct statement is The average propensity to consume approaches the marginal propensity to consume as the income increases.

Keynes's absolute income consumption function is \(C = a + bY\) with \(a \gt 0\) and \(0 \lt b \lt 1\). The average propensity to consume is:

\[ APC = \frac{C}{Y} = \frac{a}{Y} + b \]

As income grows, \(a/Y\) shrinks towards zero, so APC falls towards \(b\), the marginal propensity to consume.

This also rules out the others. The MPC is constant in the linear form, and Keynes held that it is less than one and, if anything, falls as income rises, so it does not increase. APC decreases with income rather than increasing. And since \(APS = 1 - APC\), the average propensity to save rises with income.

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32.

Consider a closed economy IS-LM model with downward sloping IS curve. If there is an increase in government spending, then which one of the following statements is CORRECT?

A.If LM curve is horizontal, then the equilibrium level of income remains unchanged.
B.If LM curve is horizontal, then the equilibrium interest rate increases.
C.If LM curve is vertical, then the equilibrium level of income remains unchanged.
D.If LM curve is vertical, then the equilibrium interest rate decreases.

Exam Year(s)

IIT JAM - 2026,

Answer: C

The correct statement is If LM curve is vertical, then the equilibrium level of income remains unchanged.

A vertical LM curve means money demand does not respond to the interest rate, so the money market alone fixes income. Higher government spending shifts the IS curve right along the vertical LM: the interest rate rises until private investment falls by as much as government spending rose. Crowding out is complete and income does not change.

With a horizontal LM curve, the liquidity-trap case, the opposite holds: the interest rate stays where it is and income rises by the full multiplier, so both horizontal-LM statements are wrong. With a vertical LM curve the interest rate rises, it does not decrease.

Discuss in Forum

33.

Which of the following options is correct?

In theory __________ and __________ should be equal, but in practice they typically differ because they are constructed in different approaches.

(i) National Income and Net National Product.
(ii) Real GDP and Nominal GDP.
(iii) Consumer price Index and Producer Price Index.

A.Only (i)
B.Only (i) and (ii)
C.Only (ii) and (iii)
D.All of the above ((i), (ii) and (iii))

Exam Year(s)

Kerala PSC KAS - 2025,

Answer: A

Only pair (i) fits, so the answer is Only (i).

National income is defined as net national product at factor cost, so in theory the two describe the same aggregate. In practice the published figures differ, because the estimate can be built by the product, income or expenditure method, and NNP at market prices also includes net indirect taxes, which national income leaves out.

Pair (ii) does not fit: real GDP is nominal GDP corrected for price change, so the two are equal only in the base year and are not expected to match otherwise. Pair (iii) does not fit either: the Consumer Price Index tracks retail prices paid by households and the Producer Price Index tracks prices received by producers, so no theory says they should be equal. Every option that adds (ii) or (iii) is therefore wrong.

Discuss in Forum

34.

The unemployment which is associated with the inadequacy of productive capacity to create enough jobs for all those able and willing to work refers to _________ .

A.Frictional unemployment
B.Cyclical unemployment
C.Structural unemployment
D.Open unemployment

Exam Year(s)

KPSC KAS - 2020,

Answer: C

The answer is Structural unemployment.

In the Indian context, structural unemployment arises because the economy's productive capacity, its capital stock and industrial base, is too small to provide jobs for all those willing and able to work. It is long-term and linked to the structure of a developing economy.

Frictional unemployment is the short gap while people move between jobs. Cyclical unemployment rises and falls with the business cycle. Open unemployment simply means people who are visibly without any work, without saying why.

Discuss in Forum

35.

GNP measures ___________ .

A.Total domestic and foreign output claimed by residents of a country
B.Total domestic output claimed by residents of a country
C.Total foreign output claimed by residents of a country
D.None of the above

Exam Year(s)

KPSC KAS - 2020,

Answer: A

GNP measures total domestic and foreign output claimed by residents of a country.

Gross National Product is the value of all final goods and services produced by a country's residents, whether inside the country or abroad. It equals GDP plus net factor income from abroad (income earned by residents abroad minus income earned by foreigners in the country).

Output produced only within the country is GDP, which is closer to the second option, while output abroad alone leaves out domestic production. So neither partial option, nor 'None of the above', is right.

Discuss in Forum

36.

Stagflation is a situation of

A.High inflation combined with high unemployment
B.High unemployment in agriculture
C.Unemployment adjusted for seasonal fluctuations
D.High inflation which is structural in nature

Exam Year(s)

Punjab Civil Service - 2018,

Answer: A

Stagflation is high inflation combined with high unemployment.

The word joins stagnation and inflation. It describes an economy whose output growth is stalled, with high and rising unemployment, while prices keep rising fast. Textbook demand-side policy struggles with it, because measures that cut inflation worsen unemployment and the reverse. The standard example is the 1970s, when oil price shocks pushed up both prices and joblessness in Western economies.

The other options describe other ideas: unemployment confined to agriculture (often disguised unemployment), a seasonally adjusted unemployment rate, and structural inflation, which by itself says nothing about unemployment.

Discuss in Forum

37.

Autonomous Demand indicates that .......................... .

A.Commodity is used both for the export and direct domestic consumption
B.Commodity is used both for the direct domestic consumption and as an input to produce another commodity
C.Commodity is needed for direct use but not as an input to produce another commodity
D.Commodity is needed as an input to produce another commodity but not for the direct use

Exam Year(s)

MH SET - 2018, SET Exam - 2018,

Answer: C

Autonomous demand means the commodity is needed for direct use but not as an input to produce another commodity.

Demand is classified by its source. Autonomous (direct) demand is demand for a good for its own sake, for final consumption, such as food or clothing bought by households. Derived demand is demand for a good because it is needed to produce something else, such as steel for cars or labour for output.

The option describing use as an input but not for direct use is derived demand, the opposite. A good used both directly and as an input has joint (composite) demand, and the export option mixes in a destination of sale, which is not what autonomous demand refers to.

Discuss in Forum

38.

Ratchet effect relates to :

A.Life-cycle hypothesis
B.Permanent income hypothesis
C.Relative income hypothesis
D.Absolute income hypothesis

Exam Year(s)

MH SET - 2018, SET Exam - 2018,

Answer: C

The ratchet effect relates to the relative income hypothesis.

In James Duesenberry's relative income hypothesis (1949), consumption depends on income relative to others and to the highest income previously reached. When income falls, people try to keep the consumption standard they are used to, so consumption falls by less than income. This resistance to downward movement is the ratchet effect.

The life-cycle hypothesis (Modigliani) and the permanent income hypothesis (Friedman) explain consumption by lifetime or long-run expected income, and the absolute income hypothesis (Keynes) by current income alone. None of them is built on the ratchet effect.

Discuss in Forum

39.

The Samuelson-Hicks type business cycle models will show stability as well as cyclical fluctuations only :

A.Income movement equation shows complex roots whose magnitudes are less than one
B.Income movement equation shows real roots whose magnitudes are less than one
C.Income movement equation shows complex roots whose magnitudes are more than one
D.Income movement equation shows real roots whose magnitudes are more than one

Exam Year(s)

MH SET - 2018, SET Exam - 2018,

Answer: A

The model shows damped cyclical fluctuations when the income equation has complex roots whose magnitudes are less than one.

In the Samuelson-Hicks multiplier-accelerator model, income follows a second-order difference equation. Complex roots produce cycles (oscillations), while real roots produce steady movement in one direction. The modulus of the roots decides stability: less than one means the oscillations die away (damped), more than one means they grow (explosive).

So stability together with cycles needs complex roots of modulus less than one. Real roots less than one give a stable path with no cycles, and complex roots greater than one give explosive cycles.

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40.

In simple Keynesian model of output determination, government expenditure will have a bigger impact if :

A.Marginal propensity to consume is lower
B.Marginal propensity to consume is higher
C.Marginal propensity to save is constant
D.Marginal propensity to consume is zero

Exam Year(s)

MH SET - 2018, SET Exam - 2018,

Answer: B

Government expenditure has a bigger impact when the marginal propensity to consume is higher.

In the simple Keynesian model, a change in government expenditure changes income by the multiplier:

\[ \begin{aligned} k &= \frac{1}{1 - MPC} \\ \Delta Y &= k \times \Delta G \end{aligned} \]

A higher MPC means more of each round of income is spent again, so the multiplier is larger: with MPC 0.8 it is 5, with MPC 0.5 only 2. A lower MPC weakens the effect, an MPC of zero gives a multiplier of one, and a constant MPS says nothing about how large the effect is.

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