Class XII – Aggregate Demand, Aggregate Supply and Related Concepts – PYQs

Ans. Aggregate demand refers to the total expenditure on the goods and services in an economy during the period of one year.

The main components of aggregate demand are

(i) Consumption expenditure

(ii) Private investment (Fixed Capital Formation + Change in Stock)

(iii) Government expenditure

(iv) Net exports or difference between exports and imports AD = C + I + G + (X – M)

Ans. Following are the three elements important in the determination of investment

(i) Expected Returns or Revenue: An investment is undertaken on the basis of expected demand or expected returns to the producers.

(ii) Costs: It has three components viz. cost of purchase of equipment, cost of maintenance of equipment (depreciation) and Cost of funds borrowed for investment.

(iii) Business Expectation: Bullish expectations attract more investment. Bearish expectations cause low investment.

Ans. Distinguish between marginal propensity to consume and average propensity to consume. Give a numerical example.

The numerical example given below will help to understand the computation of MPC and APC.

Ans.

Ans.

Ans. The given statement is false, as ex-post investment includes both fixed as well as inventory investment with the production unit during a period of time.

Ans. The given statement is true, as it represents change in consumption due to a given change in income.

MPC = ∆C / ∆Y

Ans.

Ans. False. Given, Autonomous Investment= 360

Marginal Propensity to Save (MPS) = 0.3

Equilibrium Level of Income (Y) = 1,400

Marginal Propensity to Consume (MPC) = 1– MPS

= 1– 0.3 = 0.7

At the equilibrium Level, Y = C+I

or,                                Y = C+MPC (Y) +I

1,400 = C + MPC (Y) + I

1,400 = C + 0.7 (1,400) + 360

1,400 = C + 980 + 360

1,400 = C + 1,340

C = 1,400 – 1,340 = 60

Thus, it is proved that the given statement is false. The autonomous consumption = 60.

Ans. (i) Investment Multiplier (K) = 1/1 − MPC

Here, MPC is given = 0.8

Now,

Investment Multiplier (K) = 1/1 − 0.8

Investment Multiplier (K) = 1/0.2

Investment Multiplier (K) = 5

(ii) Investment Multiplier (K)

= Change in Income (∆Y) / Change in Investment (∆I)

Putting the value of K, which is determined in above case

we get 5 = ∆Y /4,000

∆Y = 4,000 × 5

∴ Change in final income ∆Y = ₹ 20,000 crores

Ans. MPC = 0.6, Let autonomous consumption = 40

When economy is in equilibrium, S = I

Y = C + I

Y = 40 + 0.6Y + 80

Y – 0.6Y = 120

0.4Y = 120

Y = ₹ 300 crores

Equilibrium level of income is ₹ 300 crores.

Ans. (i) At the point of equilibrium,

Saving = Investment

(S = I) = − 250 + 0.25Y = 2,000

0.25Y = 2,000 + 250 

0.25Y = 2,250

Y = = 2,250 /0.25 = 9,000

Equilibrium level of income = ₹ 9,000 crores

(ii) AD at income level ₹ 5 000 , crores will be

AD = 250 + (1 – 0.25) (5,000) + 2,000

= 250 + 0.75 x 5,000 + 2,000

= 250 +5,750

= ₹ 6,000 crores

Ans. When economy is in equilibrium, then Y = C + I

= Given C′ = 500, MPS = 0.2, I = 2,000,

MPC = 1 – MPS

MPC = 1 – 0.2 = 0.8

Y = C′ + MPC (Y) + I                         [C = C’ + MPC (Y)]

Y = 500 + 0.8Y + 2,000

Y – 0.8Y = 2,500

0.2Y = 2,500

Y = 12,500

Equilibrium level of income = ₹ 12,500

Ans. APS can have a negative value because at zero level of income there is some amount of consumption which is known autonomous consumption which shows dissaving.

Ans. MPS cannot have a negative value as there is a positive relationship between saving and income, an increase in income must cause an increase in saving. Implying that MPS must always be positive.

Ans. The relationship between the consumption expenditure and the income is known as consumption function.

C = F (Y)

When we write consumption function in terms of an algebraic expression, we write, C = C bar + bY

Where, C = Consumption expenditure,

C bar = Autonomous consumption i.e. consumption at zero level of income,

b = Marginal Propensity to Consume,

Y = Income

Let us understand consumption function with the help of an imaginary schedule and diagram

The point B in the diagram below represents the break-even point where the consumption expenditure equals to the income.

Ans. Investment multiplier is the ratio between change in income and the corresponding change in investment. There is a direct or positive relationship between Marginal Propensity to Consume (MPC) and Multiplier (K). Higher the MPC, higher will be the value of multiplier and vice-versa.

Working of Investment Multiplier

As shown in the table, there is additional investment of ₹ 100 crores and 80% of which is spent on consumption i.e, ₹ 80 crores and ₹ 20 crores is saved. ₹ 80 crores is reinvested of which 80% is consumed and if goes on like this.

Marginal propensity to consume is 0.8

Change in investment = ₹ 100 crores

K = 1/(1 – MPC) = 1/(1 – 0.8)

K = 1/0.2 = 5

Change in investment = ∆I = ₹ 100 crores

Investment multiplier = = K 5

Change in income ∆Y = K × ∆I

= 5 × 100

= ₹ 500 crores

(ii) (a) The shaded area AOB indicates negative savings or dissavings.

(b) Point B is the point of equilibrium. At point B, savings are zero and level of aggregate demand is equal to the level of aggregate supply in the economy. At this point the value of APS = Zero

Ans. (i) At equilibrium level of income,

Y = C + I

Here, Y = Equilibrium level of income

C = Consumption expenditure at equilibrium level of income

I = Investment expenditure at equilibrium level of income

Y = (50 + 0.5Y) + 100

Y – 0.5 Y = 150

0.5Y = 150

Equilibrium level of income = ₹ 300 crores

Ans. C = 50 + 0.5Y

Substituting the value of Y in the above equation

C = 50 + 0.5 x 300

C = 50 + 150

C = 200

Consumption expenditure at equilibrium level of income

= ₹ 200 crores

Y = C + S

300 = 200 + S

S = 300 − 200; S = 100

Saving at equilibrium level of income = ₹ 100 crores.