IGNOU - Solved Question Papers: EEC - 11 (June' 2012)

Term-End Examination June, 2012
Time : 3 hours Maximum Marks : 100 (Weightage : 70%)
Note : Answer questions from all sections as per instructions.
Attempt any two questions from this section in about 500 words each : 2x20=40
1. How do you derive the IS and LM curves ? What do they signify ?
Ans: Refer above
2. What is meant by an indifference curve ? Explain with the help of a diagram how a consumer attains equilibrium.
Ans: Refer below
3. Explain different forms of market. How does a firm achieve equilibrium in a perfectly competitive market ?
4. Explain the output method of estimating national income. What are the limitations of GDP as a measure of performance of the economy ?

Ans: Output Method: The first method is variously called as the product method in the inventory method or the census method or output method. This method consists or finding out the market value of all goods and services produced by country during a given period of time. The sales of all producers are calculated and an estimate is made for self-consumption as well as for increase in stocks during a given period of time. This constitutes the value of the gross product and from this figure should be deducted the depreciation of equipment used in the process of production as well as the value of the intermediate products such as raw materials consumed, to arrive at the net national product. The product method may be adopted through a census of manufactures as well as of other products. The government may undertake as annual census of all the goods produced as well as their prices.
Limitations of GDP as a measure of performance
GNP is a measure of the overall flow of goods & services, as well as to show the general welfare of the people. It aims not only at the level of cost of living but also the standard of living.  It is quite correct to show the cost of living but there are some limitations on the GNP statistics to indicate the standard of living of an economy.
1. Price Changes: A higher nominal GNP of a nation may not mean that the standard of living is better.  If the prices increase at a high rate, the real GNP may even fall.
2. Omittion or Under-estimation
a. Voluntary Services: GNP figures do not include the contribution of the voluntary agencies which raise the general welfare, e.g. the Tung Wah group of hospitals. In this respect, the GNP figures under-estimate the level of welfare. The voluntary work of housewives is also neglected by the GNP figures.  It again under-estimates our welfare or standard of living.
b. Leisure: It is also a source of welfare and raises our standard of living, e.g. the welfare enjoyed with a Chinese New Year Holiday. However, the monetary value is difficult to calculate.
c. Illegal Activities: Drug trafficking and illegal gambling are activities omitted in the value of GNP.  It is difficult to determine its effect on the welfare of an economy.
d. Undesirable Effects of Production: GNP figures had not considered the effects of pollution, traffic congestion on the economy.  They have lowered our standard of living.
3. Problem of Comparison
a. Output Composition: Nations with the same GNP may have different living standard because their output composition may be different.  In general, a higher level of consumer goods & services in the GNP indicates a higher current level of living standard.
b. Distribution of Income & Wealth: If income is obtained by a small rate of people in a nation, the general living standard is still low compared with a nation having a more evenly distributed income or GNP.
4. Other Limitations
a. Population Size: A large population has a lower living standard even if its GNP is the same as that of a small population.  The per capita GNP is more useful to compare the 2 nations.
b. National Defense: If a nation has spent a lot of resources in the production of weapons and so on, its living standard may not be improved.
c. Time: Technology will be improved over time.  This may not be shown in GNP figures because there may be small changes in cost and price only. Besides, durable goods provide welfare to us over a period of time ( usually more than 1 year ).  This cannot be shown by GNP figures within a year.

Answer any three questions from this section in about 250 words each. 3x10=30
5. What do you mean by demand for money ? Describe Keynes’s different motives for holding money.
Ans: Refer Below
6. What is meant by inflation ? How is it related to unemployment ?
7. Can a monopolist incur losses in the short-run ? Explain through appropriate diagram.
Ans: It is generally believed that monopolist always earn profits .In the short-run, if the demand is not sufficient monopolist can make losses. At times of recession or depression or any kind of crises demand for goods decreases and monopolist has to suffer losses .But if the losses continued for a long time then the monopolist will shut down his present business in the long run .But in the short run he will continue in his present business so long as his price is greater than the average variable cost. When losses exceed total fixed costs and the monopolist will not be able to cover his variable cost fully, the monopolist would stop production in the short-run.

The monopolist is in equilibrium at OS level of output, where OP price is determined. This case price is greater than average cost therefore the monopolist is making losses is equal to the area of the rectangle ABCD.As price is higher than average variable cost ,the monopolist will continue his production in the short run. From the above discussion we can conclude that demand for the product plays an important role in determining whether the monopolist will get profit or make losses.

8. Explain the theory of comparative cost advantage.
Ans: Refer Below
9. Explain the concept of deflationary gap with the aid of a diagram.
Ans: Deflationary Gap: In the theory of income and employment, the concept of deflationary gap occupies an important place, since in a capitalist economy unemployment and depression occur due to this gap. According to Keynesian theory of income and employment, equilibrium at the level of full- employment is established when aggregate demand consisting of consumption demand plus investment demand plus government demand (C + I + G) is equal to the national income at the level of full-employment.
This happens when investment and government demand is equal to the saving gap at full-employment level of national income. If aggregate demand is less than the full-employment level of national income, i.e., when investment and government demand is less than the saving gap at full-employment level of income, the deficiency of aggregate demand occurs due to which national income and employment will fall below the full-employment level causing unemployment and depression in the economy.
The concept of deflationary gap is illustrated in Fig. 5.11 in which along the X-axis national income is measured and along the K-axis level of aggregate demand is measured. Suppose national income at the level of full-employment is equal to OYF.
In Fig. 5.11 when aggregate demand curve is C + I+ G’ deflationary gap is equal to EK. The aggregate demand curve C + I + G’ (dotted) which cuts the 45° line at point Q asp result of which equilibrium is established at OYF level of national income. It will be seen from Fig. 5.11 that OY1, is less than full-employment level of income OYF. Deflationary gap represents the situation of deficient demand in the economy.Deflationary Gap

Answer all questions in this section as indicated. 2x15=30
10. Explain any three of the following concepts : 3x5=15
(a) Consumer surplus
Ans: Refer Below
(b) Investment multiplier
Ans: Refer Below
(c) Stagflation
Ans: Stagflation
Stagflation is a period of rising inflation and falling output. With falling output, unemployment will tend to be rising. Stagflation is often caused by a supply side shock. For example, rising commodity prices, such as oil prices, will cause a rise in business costs and Aggregate Supply will shift to the left. This causes a higher inflation rate and lower GDP. People may talk about stagflation if there is a rise in inflation and a fall in the growth rate. This is less damaging than higher inflation and negative growth. But, it still represents deterioration in the tradeoff between unemployment and inflation.
(d) Oligopoly
Ans: Refer below
(e) Circular flow of income
Ans: Refer above
11. Distinguish between any three of the following : 3x5=15
(a) Fixed cost and Variable cost
Ans: Refer above
(b) Autonomous investment and Induced investment.
Ans: Autonomous investment is motivated by service motive and is independent of margin of profit. It is income inelastic and as such, it is not influenced by variation in income. It is not profit oriented and accordingly, it remains unaffected by the variation in income, price, wage, rent, etc.
Induced investment refers to the investment which is motivated by the margin of profit. The higher the margin of profit is, the larger the volume of investment. In other words, it is profit originated investment and varies with the margin of profit in the like direction. Margin of profit depends upon other things remaining the same, on the size of income and as such, induced investment is income elastic.
(c) Average propensity to consume and Marginal propensity to consume.
Ans: Refer above
(d) Monopoly and Monopolistic competition
Monopolistic Competition
Single firm and many buyers
Large number of firms and large number of buyers
Absence of competition
Competition amongst monopolists
No close substitute
Similar but not identical products
Entry debarred
Freedom of entry/exit
Demand is inelastic
Demand is highly elastic
Total freedom is decision making
Independent decision making
Imperfect knowledge
Imperfect knowledge
Price maker firm
Competitive prices
Profit maximizing firm
Profit maximizing firms
No need to incur SC
Selling costs important
Price discrimination
Discrimination possible
Equilibrium with rising, falling and constant MC
Equilibrium when MR = MC
Individual behaviour
Individual and mass behaviour
Realistic in nature
Exists in practice
(e) Stock variable and Flow variable
Ans: Refer stock and flow difference