Macroeconomics Questions and Answers

Answer: D

The key gives 1, 2, 3 and 4.

Stagflation is the combination of high inflation with stagnant output and rising unemployment. Inflationary pressure from heavy government spending (1) supplies the inflation, while a decline in industrial production and sluggish growth (2) is the stagnation itself.

A fall in aggregate demand and consumer spending (3) deepens the slowdown, and an appreciating rupee that hurts export competitiveness (4) further weakens output and growth. The Commission's remarks treat all four as factors that could contribute to stagflation, so every narrower option is incomplete.

Answer: D

The incorrect statement is that consumption is zero when income is zero. Even with no income, households must spend something to live, by borrowing or drawing on past savings, so there is a positive autonomous consumption. The other statements are correct: MPC + MPS = 1 because any extra income is either consumed or saved, MPC is the ratio of the change in consumption to the change in income, and disposable income is the most important determinant of household consumption. The answer is option D.

Answer: B

The short run aggregate supply curve shifts to the right when the cost of production falls or productive capacity grows. A fall in the prices of inputs lowers the cost of producing each level of output, so firms supply more at each price level. Higher energy prices and a lower rate of productivity raise costs and shift it to the left. Lower investment spending is a change in aggregate demand and, in the short run, does not raise supply. The answer is that the prices of inputs decrease, option B.

Answer: B

The investment multiplier is \(k = \dfrac{1}{1 - MPC}\). With an MPC of 0.4,

\[ k = \frac{1}{1 - 0.4} = \frac{1}{0.6} = 1.667 \]

The rise in income equals the rise in investment times the multiplier, so the investment needed for an income rise of 500 crore is

\[ \Delta I = \frac{500}{1.667} = 300\ \text{crore} \]

The value 833.3 crore comes from multiplying by 1.667 instead of dividing, 1250 crore from using a multiplier of 0.4, and 200 crore from a wrong multiplier of 2.5. The answer is 300 crore, option B.

Answer: C

The three main macroeconomic goals of a society are stable prices (low inflation), a high level of employment (low unemployment) and a high rate of economic growth. The other options include reducing interest rates or increasing the money supply, which are means and not goals. The answer is maintaining stable prices, high levels of employment and achieving a high rate of economic growth, option C. Reducing interest rates and raising the money supply are tools of policy, and they are not goals in themselves.

Answer: A

The GDP deflator is the ratio of nominal GDP to real GDP (multiplied by 100 to express it as an index).

\[ \text{Deflator} = \frac{\text{Nominal GDP}}{\text{Real GDP}} \] \[ \frac{36000}{34000} \]

The result is about 1.06, which means prices have risen 6 per cent from the base year. The inverse ratio, 34000/36000, would be below one, the difference 36000 - 34000 is the gap in rupees and not a price index, and the product has no meaning. The answer is option A.

Answer: B

Consumption depends on income and wealth. A rise in investment raises income through the multiplier, and as income increases, consumption spending increases with it. A rise in taxes lowers disposable income and so consumption, a fall in wealth reduces the wealth effect on spending, and a rise in interest rates makes saving more attractive and borrowing for consumption more costly. The answer is a rise in investment, option B. Higher taxes, a fall in wealth and higher interest rates each work to reduce the spending of households.

Answer: C

In a two sector model of the circular flow there are only households and firms. Households supply factors of production to firms and receive income, and then spend that income on the goods and services produced by firms, so income and output flow in a circle between the two. The government and the foreign sector are added in the three and four sector models. The answer is firms and households, option C. The two flows are the real flow of factor services and goods and the money flow of income and expenditure moving the other way.

Answer: A

The average propensity to save is saving divided by disposable income. Because the marginal propensity to save is positive and, at low income, saving is negative or very small, saving grows faster than income when income increases, so the ratio S/Y rises. So the APS increases as disposable income rises. The answer is increases, option A. The ratio S/Y is also called the average propensity to save, and it rises as income increases because saving grows faster.

Answer: A

Actual output to the right of the intersection of the 45 degree line and the AD curve means that output is higher than the aggregate demand at that point, so the goods produced exceed what is bought. There is an excess supply of goods, inventories pile up unintentionally, and firms cut output until equilibrium is reached. A fall in inventories or inflation would happen if output was to the left of the intersection. The answer is option A. As stocks of unsold goods rise, firms cut production, which moves output back to the left to the equilibrium point.