SECTION-'A'

1. Current transfers are generally meant for consumption whereas capital transfers are meant for capital formation.

2. Current transfers are made from the current income whereas capital transfers are made out of saving.

Decline in the value of capital assets due to normal wear and tear and expected obsolescence is called consumption of fixed capital of depreciation.

Unless fixed capital is kept intact, i.e., worn out capital is replaced with new fixed capital, there will be a fall in the production of an enterprise. As such every enterprises makes provision (i.e., allocates funds from its sale of goods and services) for the consumption of fixed capital over its expected life time.

There are three phases in the circular flow of national income, namely, production, distribution, and disposition. to measure it at each phase, we require different data and methods. If we want to measure it at the phase of production, we have to find out the sum of net value added by all the production enterprises ( including the government) of the country. If we want to measure it at the phase of income distributed, we have to find out the total income generated in the production of goods and services. finally, if we want to measure it at the phase of disposition, we have to know the sum of expenditures of the three spending units in the economy, namely general government, consumer households, and producing enterprises.

Production units engaged in exploiting natural resources are grouped as primary sector. Those engaged in transforming one type of commodity into another are grouped upto secondary sectors. Those producing services are grouped into tertiary sector.

(i) Expenditure on second hand goods to be excluded because they are not the expenditure on the currently produced goods and services.

(ii) Expenditure on purchase of shares and bonds to be excluded because they are not payments for a goods or service.

(iii) All government expenditure on transfer payments such as unemployment benefits, old age pensions and scholarships should excluded as no productive service is rendered by the recipients in exchange.

It is a difficult task to measure national income of India by using each of three methods ( namely - Production, Income and Expenditure method) separately. This is so because (i) the nature of Indian economy is typical, (ii) there is inadequacy of data, (iii) the data available are not reliable on income. For example, in agriculture it is not possible to use the income method because reliable income data are not available.

As such different methods are used for different sectors. However, Value added method and income method are being used in all the sectors of the Indian economy to cross - check the results.

Income Approach is used to estimate domestic product in the following sectors :

(a) Unregistered manufacturing.

(b) Gal, electricity and water supply.

(c) Banking and Insurance.

The difference between indirect tax and subsidies is called net indirect taxes. Indirect taxes are called commodity taxes imposed (but) by government on the sale and purchase of commodities. Example of such taxes are excise duties, custom duties and general sales tax.

Subsidies : Grants given by government to enterprises to encourage production are called subsidies.

Examples : (i) Sale of foodgrains by Food Corporation of India to the Fair Price Shops in the country at the prices fixed by the Govt.

(ii) Cash subsidy to exporters encourages them to export more goods.

There will be positive impact of subsidies on factor payment. Factor payment will be increase when subsidies increases and vice - versa.

Indirect taxes on a commodity increase the price whereas the effect of subsidy is to reduce the price in the market.

400

900

= Rs. 500 crores + Rs. 500 crores + Rs. 400 crores = Rs. 1,400 crores.

Gross Domestic Product at Market Price ( Production Method ) = Rs. 1,400 croes.

(b) Gross Domestic Product at Market Price ( Income Method ) = Emoluments of employees + Mixed Income + Operating surplus + Consumption of Fixed Capital + Net Indirect Tax

= Rs. 400 crones + Rs. 650 crores + Rs. 300 crores + Rs. 40 crores + Rs. 10 crores = Rs. 1,400 crores.

From the economist's point of view, it means making the best use of what is available.

When total product increases at a diminishing rate, marginal product declines.

Excess Demand : When aggregate demand for goods and services exceeds aggregate supply of output which is produced by full employing the given resources of an economy, excess demand is said to occur.

Deficient demand : Deficient demand exists when aggregate demand for goods and services falls short of aggregate supply of output which can be produced by full employing the given resources of the economy.

State any two circumstances under which abnormal profits may arise. (2)

(i) Unforeseen changes in demand and supply.

(ii) Imperfections in the market (Monopoly).

Explain relationship between Marginal Revenue and Average Revenue. (3)

(i) When both AR and MR are falling, MR falls at a greater rate than the AR.

(ii) MR can be negative but AR is always positive (i.e., greater than zero). that is why AR curve always remains above the x-axis while MR curve can go below the x-axis.

State the steps involved in the construction of an economic theory. (3)

The main steps in formulating an economic theory are given below :

(i) Assumptions : The terms used in theroy are defined and certain assumptions about the behaviour of economic variables are made.

(ii) Process of Logical Deduction : On the basis of assumptions conclusions regarding economic phenomena are drawn with the help of logic.

(iii) Predictions : The conclusions drawn as a result of logical deduction are called predictions or implications.

(iv) A process of Empirical observation : It is undertaken to test the prediction i.e., whether the prediction is consistent with the real facts.

(v) Conclusions : If the theory is consistent with real facts it is accepted and if the theory is in consistent with real facts, it is rejected or amended.

Why do household buy more of a good at a lower price? Explain. (3)

When the price of good falls, it has two effects that leads to a consumer to buy more of the commodity.

1. Income effect : When the price of a commodity falls, the real income of the consumer, that is, his purchasing power increases so that he can now by more of the commodity. This is called income effect which also causes the increase in quantity demanded of the good when its price falls.

2.Substitution effect : when the price of a commodity falls, it becomes relatively cheaper than others. This induces the consumers to substitute the relatively cheaper commodity for the others which have become relatively expensive. This is called substitution effect. This causes the increase in quantity demand of the commodity whose price has fallen.

Explain any three factors affecting supply of good.(3)

In real life the supply of a commodity depends upon various factors. The three major factors are :

(i) Price of the commodity : The price of a commodity affects its supply directly, other things remaining the same of the price is more the supply will be more and vice-versa.

(ii) Prices of factors of production : If the price of the factors of production is more, their demand will be less and as such the supply will decrease. Reverse will be case if the factors of production are cheaper.

(iii) Natural factors : The supply of agricultural goods affect the production to a great extent. If the natural factors are favourable, the supply will increase and vice - versa.

Differentiate between net value added at market price and net value added at factor cost. Which of these two is equal to the sum of factor incomes and why ? (3)

Value Added can be measured at market price or at factor cost. From value added at market price, by deducting indirect taxes paid by the firm to government, (e.g., sale-tax, excise duties, etc.), and by adding subsidies paid by the government to the firm, we get value Added at factor cost.

Thus ,

Value Added at factor cost =

Value Added at market price - Indirect taxes + Subsidies

If we define Net Indirect Taxes, as being equal to indirect Taxes less subsidies, then

Value Added at factor cost =

Value Added at market price - Net Indirect Taxes.

It is clear from the above discussion that Net Indirect Taxes creates difference between net value added at market price and net value added at factor cost.

Net Value Added at factor cost is the cost to the producing enterprise and income to the factor owners, i.e., it is equal to factor incomes of wages, rent, interest and profit.

What can be the effects on the equilibrium price of a commodity when its demand and supply curves both shift to the right simultaneously ? (3)

If both demand curve and supply curve of a commodity shift to the right simultaneously (i.e., both demand and supply increase), the equilibrium quantity would certainly rice. but the equilibrium price may rise, fall or remain unchanged. It depends on the comparative increases in demand and supply.

(i) If the increase in demand is greater than the increase in supply, the equilibrium price will rise.

(ii) If the increase in demand is less than the increase in supply, the equilibrium - price will fall.

(iii) If the increase in demand and increase in supply are equal, the equilibrium - price will remain unchanged.

How do changes in bank rate affect availability of credit ? Explain .

The rate at which the Central Bank, the wholesaler of credit lends to commercial banks, the retailers of credit is called the discount rate or the bank rate.

The Central Bank increases bank rate to contract bank credit. By raising the bank rate, the Central Bank can directly affect the cost of borrowing by banks and by indirectly affecting interest rates and credit conditions.

To expand bank credit, the Central Bank decreases the bank rate, the lowering of discount rate reduces the cost of borrowing by banks; this may reduce interest rate and expand credit conditions.

To expand bank credit, the Central Bank decreases the bank rate, the lowering of discount rate reduces the cost of borrowing by banks; this may reduce interest rate and expand credit conditions.

(i) There is only one or single seller or producer of the commodity in the market having full control over supply of the commodity.

(ii) The product sold by the monopolist has no close substitutes.

Lonable Funds Theory : According to this theory, rate of interest is determined by demand for and supply of loanable funds. The supply of loanable funds consist of savings dishoarding ( individual and corporate ) and, money created by banks. The demand for loanable funds comes from demand for investment by firms or producers, demand for consumption by households and demand by the government.

According to Hawley, profit is a reward for risk bearing. The main function of the entrepreneur, according to him, is to bear risk. Production involves risk of various kinds and no body will be ready to bear it unless he is hopeful of earning profit. Profit is the main motive for taking risk. It is thus, the price of risk taking. Prof. Knight finds the risk theory incorrect and vague. He divides risk into two groups-Predictable and non-predictable. The latter he names as uncertainty. According to him, profit is the reward for uncertainty bearing. The modern views regards the entrepreneur's contribution to the process of production as that of bearing non-predictable risks, i.e., uncertainties. Here, it is essential to understand the meaning and difference between predictable and non-predictable risk.

(i) Predictable Risks - The risks about which certain predictions and estimates are possible can be insured, hence they are called as predictable risks, known risks or insurable risks. For example, the risks of fire, theft, accidents etc.

(ii) Non-Predictable Risks - Non - predictable risks are uncertain in nature and mainly relate to price - output decisions. According to Knight profit is the result of bearing such uncertain risks.

Following are the characteristics of a perfectly competitive market :

1. Large number of Buyers and Sellers : The number of buyers and sellers is so large in a perfectly competitive market that no single buyer or seller is in a position to influence the market.

2. Homogenous Product : The goods and services produced by the firms under perfectly competitive conditions are homogeneous in all respect. There is no difference of brand name, colour, design, shape, price, taste, to out looks etc.

3. Perfect knowledge : Both the buyers and the sellers are fully aware of the ruling price of the commodity in the market which leads to uniformity of price in the market.

4. Free entry into the industry : There is no legal, economic, natural or social restriction on the entry of new firms into the industry. In the short run, if the firms in the industry are reaping super normal profits, new firms are attracted towards that industry.

5. Perfect mobility of the factors of production.

Absence of Transport cost : Transport costs do not play any role in perfect competition. They do not affect the price level. Although, it is an arbitrary assumption but it is taken to ensure the uniformity of price through out the market.

Scarcity in the supply of labour to occupations or industries may result from a number of factors which are listed below :

1. Barriers to entry in certain professions.

2. Cost and period of initial training in some professions;

3. Lack of mobility between geographical areas and from occupation to another due to lack of training, or other reasons;

4. The higher attraction of non-monetary advantages in certain areas of or occupations;

5. Differences in risk, disagreeableness or cultural preferences of languages, customs, etc. which may hinder mobility of labour.