National Income Determination and Multiplier NCERT SOLUTION CLASS 12TH MACRO ECONOMICS | EDUGROWN NOTES

Short Answer Type Question:

Q.1 What happens to the level of national income when aggregate demand falls short of aggregate supply?
ANSWER:

1. As we know that equilibrium level of national income is determined under the given condition of aggregate demand and aggregate supply, and has tendency to stick to that level i.e., where aggregate demand is equal to aggregate supply.
2. As is given in the examination problem that when aggregate demand falls short of aggregate supply, then national income will decrease as shown in the above mentioned diagram.
   
3. When AD < AS [At Y1], then there would be stockpiling and producers will produce less. National income will fall and as we know positive relationship exists between national income and consumption, so consumption will fall, which will thereby decrease the aggregate demand till we reach the equilibrium.

Q.2 What happens to the level of national income when aggregate supply falls short of aggregate demand?
ANSWER:

1.  As we know that equilibrium level of national income is determined under the given condition of aggregate demand and aggregate supply, and has tendency to stick to that level i.e., where aggregate demand is equal to aggregate supply.
2.  As is given in the examination problem that when aggregate supply falls short of aggregate demand, then national income will increase as shown in the given diagram:
   
3.  When AD > AS [At Y1], then production will have to be increased to meet the excess demand. Consequently, national income will increase. As we know that positive relationship exists between national income and consumption. So consumption will increase, which will thereby increase the aggregate demand till we reach the equilibrium.

Q.3 In an economy planned saving is greater than planned investment. Explain how the economy achieves equilibrium level of national income.[CBSE Sample Paper 2014, AI 04, CBSE 04, 05, 09]
ANSWER:

1. It refers to the point that has come to be established under the given condition of aggregate demand and aggregate supply, and has tendency to stick to that level under this given condition. Therefore, AD = AS C + I = C + S I = C + S- C = S
2. As given in the examination problem, when planned saving is greater than planned investment, then national income will decrease as shown in the diagram.
   
3.  When saving > investment [at Y1], then there would be stockpiling and producers will produce less. National income will fall and as we know positive relationship exists between national income and saving, then saving will start falling until it becomes equal to investment. It is here the equilibrium level of income is derived.

Q.4 If planned saving is less than planned investment, what changes will bring economy in equilibrium?
ANSWER:

1.  It refers to the point that has come to be established under the given condition of aggregate demand and aggregate supply, and has tendency to stick to that level under this given condition. Therefore,
   AD = AS C + I = C + S I=C+S-C=S
2.  As given in the examination problem, when planned saving is less than planned investment, then national income will decrease as shown in the below diagram.
   
3.  When, investment > saving [at Y1], then production will have to be increased to meet the excess demand. Consequently, national income will increase leading to rise in saving until saving becomes equal to investment. It is here that equilibrium level of income is established because what the savers intend to save becomes equal to what the investors intend to invest.

Q.5 Discuss relationship between MPC and multiplier. [AI 2006]
ANSWER:

1.  If we put maximum value of MPC, i.e., 1, we get maximum value of multiplier, i.e., ∞.
2. As against it, if we put minimum value of MPC, i.e., 0, we get the minimum value of multiplier, i.e. 1.
3. So, positive relationship exists between MPC and multiplier. It means when MPC increases, the multiplier also increases and vice-versa.MPC↑→K↑

Q.6 Discuss relationship between MPS and multiplier. [CBSB 1994C, AI 1997]
ANSWER:

1. If we put minimum of MPS i.e. 0, we get maximum value of multiplier, i.e., ∞.
2. As against it if we get maximum value of MPS, i.e., 1, if we get minimum value of multiplier, i.e.,1.
3. Hence, inverse relationship exists between MPS and multiplier.
   It means if MPS increases, the multiplier decreases and vice-versa.
   MPS↑→K↓

Q.7 c = 50 + 0.5Y is the consumption function; where C is consumption expenditure and Y is national income and investment expenditure is 72000 in an economy. Calculate:
(i) Equilibrium level of national income.
(ii) Consumption expenditure at equilibrium level of national income.[CBSE 2013 (Set III)]
ANSWER:

1. Equilibrium level of national income (Y)
   At equilibrium, Y = C + I
   [AD = AS = Y and AD = C + I]
   Or, Y = 50 + 0.5Y + 2,000
   [C = 50 + 0.5Y]
   0.5Y = 2,050
   Y = Rs 4,100
2. Consumption expenditure at equilibrium level of national income.
   Putting value of national income of 4,100 in consumption function, we get: C = 50 + 0.5 x 4,100 C = Rs 2,100
   (a) Equilibrium level of national income = 74,100.
   (b) Consumption expenditure at equilibrium level of national income = Rs 1740

Q.8 In an economy, C = 200 + 0.75 Y is the consumption function, where C is consumption expenditure and Y is national income and investment expenditure is Rs 4000 in an economy.Calculate Equilibrium level of national income and consumption expenditure.[AI 2013 (Set II)]
ANSWER:

1. Equilibrium level of national income (Y)
   At equilibrium, Y = C + I
   [AD = AS = Y and AD = C + I] Or, Y = 200 + 0.75 Y + 4,000
   [C = 200 + 0.75 Y]
   0.25 Y = 1,200
   Y = Rs 16,800
2.  Consumption expenditure at equilibrium level of national income.
   Putting value of national income of 16,800 in consumption function, we get;
   C = 200 + 0.75 x 16,800
   C = Rs 12,800
   (a) Equilibrium level of national income = Rs 16,800;
   (b) Consumption expenditure at equilibrium level of national income = Rs 12,800

Q.9 From the following data about an economy, calculate (a) equilibrium level of national income and (b) total consumption expenditure at equilibrium level of national income.
(i) C = 200 + 0.5 Y is the consumption function, where C is consumption expenditure and Y is national income.
(ii) Investment expenditure is 1500.[AI 2013 (Set III)]
ANSWER:

1.  Equilibrium level of national income (Y)
   At equilibrium, Y = C + I
   [AD = AS = Y and AD = C + I]
   Or, Y = 200 + 0.5 Y + 1500
   [C = 200 + 0.5 Y]
   0.5 Y = 1,700
   Y = Rs 3400
2. Consumption expenditure at equilibrium level of national income. Putting value of national income of 3400 in consumption function, we get; C = 200 + 0.5 x 3400 C = Rs 1900
   (a) Equilibrium level of national income = Rs 3400.
   (b) Consumption expenditure at equilibrium level of national income = Rs 1900

Q.10 Calculate equilibrium national income from the following data:
[AI 2013, C (Set I)] (i) Consumption expenditure at zero income = Rs 60
(ii) Marginal propensity to consume = 0.9 (iii) Investment = Rs 100
ANSWER: Equilibrium level of national income (Y) At Equilibrium, Y = C + I
[AD = AS = Y and AD = C + I]
Y =C¯ + b Y + I
Or, Y = 60 + 0.9 Y + 100
[C = 60 + 0.9 Y]
0.1 Y = 160
Y = Rs 1600

Q.11 Given consumption function C = 100 + 0.75 Y (where C = -consumption expenditure and Y = national income) and investment expenditure Rs 1,000, calculate: (i) Equilibrium level of national income; (ii) Consumption expenditure at equilibrium level of national income. [CBSE 2009]
ANSWER:

1.  Equilibrium level of national income (Y)
   At equilibrium, Y = C + I
   [AD = AS = Y and AD = C + I] Or, Y = 100 + 0.75 Y + 1,000
   [C = 100 + 0.75 Y]
   0.25 Y = 1,100
   Y = Rs 4,400
2. Consumption expenditure at equilibrium level of national income. Putting value of national income of 4,400 in consumption function, we get; C = 100 + 0.75 x 4,400 C = Rs 3,400
   (a) Equilibrium level of national income = Rs 4,400;
   (b) Consumption expenditure at equilibrium level of national income = Rs 3,400

Q.12 In an economy the consumption function is C = 500 + 0.75 Y, where C is consumption expenditure and Y is income. Calculate the equilibrium level of income and consumption expenditure when investment expenditure is Rs 5,000.[CBSE Foreign 2010 (I)]
ANSWER:

1. Equilibrium level of national income (Y)
   At equilibrium, Y = C + I
   [AD = AS = Y and AD = C + I] Or, Y = 500 + 0.75 Y + 5,000
   [C = 500 + 0.75 Y]
   0.25 Y = 5,500
   Y = Rs 22,000
2. Consumption expenditure at equilibrium level of national income. Putting value of National Income of 22,000 in consumption function, we get;
   C = 500 + 0.75 x 22,000 C = Rs 17,000
   Equilibrium level of income = Rs 22,000; Consumption expenditure at equilibrium level of income = Rs 17,000.

Q.13 Suppose that consumption equals C = 100 + 0.75 Y, and investment equals I = Rs 50 and Y = C + I. Find;
(i) The equilibrium level of income
(ii) The level of consumption at equilibrium, and
(iii) The level of saving at equilibrium.
ANSWER:

1.  Y = C + I
   Y = 100 + 0.75 Y + 50
   Y – 0.75 Y = 150
   0.25
2. C = 100 + 0.75 600 = Rs 550
3. S = Y – C = 600 – 550 = Rs 50

Q.14 Find national income from the following data: [CBSE 2012]Autonomous consumption = Rs 100 Marginal propensity to consume = 0.80 Investment = Rs 50
ANSWER: As given in the examination problem, Autonomous consumption or C =150 Autonomous investment or I = Rs 50 MPC or b = 0.80 So, AD = C + I = C + bY + I = 100 + 0.8 Y + 50 = 150 + 0.8 Y
As we know that the equilibrium level of national income in two sector model is determined where,
AS = AD
Y = 150 + 0.8Y
Y – 0.8Y = 150 Y(1—0.8) = 150
Y=15020 =Rs 750

Q.15 An economy is in equilibrium. Find Marginal Propensity to Consume from the following: [CBSE 2015] National Income = 2000 Autonomous Consumption = 400 Investment Expenditure = 200
ANSWER: Autonomous consumption or C = Rs 400 Equilibrium level of income or Y = Rs 2000 MPC or b = ?
At equilibrium, Y = C + I
[AD = AS = Y and AD = C + I] Y = C + bY + I
2000 = 400 + b(2000) + 200 2000 – 600 = b(2000)
1400 = b(2000)
MPC(b) = 0.7

Q.16 An economy is in equilibrium. Calculate the Investment Expenditure from the following: [AI 2015] National Income = 800
Marginal Propensity to Save = 0.3 Autonomous Consumption =100
ANSWER:  Autonomous consumption or C = Rs 100 Equilibrium level of income or Y = Rs 800 MPS = 0.3
MPC or b = 1 – MPS = 0.7 At equilibrium, Y = C + I
[AD = AS = Y and AD = C + I]
Y = 100 + 0.7Y + I
800 = 100 + 0.7(800) + I
800 = 100 + 560 + 1
I = 140

Q.17 As a result of increase in investment by Rs 125 crore national income increases by Rs 500 crore. Calculate marginal propensity to consume.[CBSE 2008]
ANSWER: Multiplier k =ChangeinIncome(ΔY)ChangeinInvestment(ΔI)=500125=4
We also know that Multiplier (k)
=11−MPCor4=11−MPC
or or 4 — 4 MPC = 1 or MPC = 3/4 = 0.75

Q.18 As a result of increase in investment national income increases by Rs 600 crore. If marginal propensity to consume is 0.75, calculate the increase in investment. [CBSE 2008]
ANSWER: Multiplier (k)
=11−MPC=11−0.75=10.25=4
We also know that k
=ChangeinIncome(ΔY)ChangeinInvestment(ΔI)
4=600ChangeinInvestment(ΔI)
Hence, change in investment(ΔI)
=Rs 150 crore
Increase in investment = Rs 150 crore

Q.19 If marginal propensity to consume is 0.9, what is the value of multiplier? How much investment is needed if national income increases by Rs 5,000 crore? [CBSE 2008]
ANSWER:  Multiplier (k)
=11−MPC=11−0.9=10.1=10
We also know that k
=ChangeinIncome(ΔY)ChangeinInvestment(ΔI)
10=k=5000ChangeinInvestment(ΔI)
Hence, change in investment (ΔI)
= Rs 500 crores
Multiplier (k) = 10;
Increase in investment = Rs 500 crore

Q.20 An increase of Rs 250 crore in investment in an economy resulted in total increase in income of Rs 1,000 crore. Calculate the following: (a) Marginal propensity to consume (MPC), (b) Change in saving, (c) Change in consumption expenditure, (d) Value of multiplier. [CBSE Sample Paper 2008]
ANSWER: Multiplier k
=ChangeinIncome(ΔY)ChangeinInvestment(ΔI)
=1000250=4
We know that Multiplier (k)
=11−MPCor4=1MPC−1
4-4MPC=1
MPC=3/4=0.75
MPC=ChangeinConsumption(ΔC)ChangeinIncome(ΔY)
0.75= ChangeinConsumption(ΔC)1000
So, change in consumption expen¬diture (C) = Rs 750 crore Change in Saving = Change in Income – Change in Consumption Expenditure So, Change in Saving = Rs 1,000 crore – Rs 750 crore = Rs 250 crore
(a) Marginal propensity to consume = 0.75
(b) Change in saving = Rs 250 crore
(c) Change in consumption expenditure = Rs 750 crore
(d) Value of multiplier = 4

Long Answer Type Question:

Q.1 Why must aggregate demand be equal to aggregate supply at the equilibrium level of income and output? Explain with the help of a diagram. Or [CBSE 2006] Explain how is equilibrium level of income and employment established through AD and AS?
Or
Explain determination of equilibrium level of income using consumption plus investment approach. Use diagram. [CBSE 2008]
ANSWER:

1.  It refers to the point that has come to be established under the given condition of aggregate demand and aggregate supply, and has tendency to stick to that level under this given condition where Aggregate Demand= Aggregate Supply.
2.  If due to some disturbance, we divert from that position, the economic forces will work in such a manner so as to drive us back to the original position, i.e., aggregate demand is equal to aggregate supply.
   
3.  In the above mentioned figure, at point P, income = consumption, which is known as to be a break-even point. The equilibrium level of national income is attained at point E, where aggregate demand = aggregate supply.
4.  If due to some disturbance we divert from our position, like when AD > AS [at Y2], then, production will have to be increased to meet the excess demand. Consequently, national income will increase. As we know positive relationship exists between national income and consumption, so consumption will increase, which will thereby increase the aggregate demand till we reach the equilibrium.
5. As against it, when AD < AS [at Y1], then there would be stockpiling and producers will produce less. National income will fall and as a result consumption will start falling, which will thereby reduce the aggregate demand till we reach the equilibrium.

Q.2 Explain the meaning of equilibrium level of income and output using saving and investment approach. Use a diagram.
ANSWER:

1. It refers to the point that has come to be established under the given condition of aggregate demand and aggregate supply, and has tendency to stick to that level under this given condition where Aggregate Demand (AD) = Aggregate Supply (AS).
   AD = AS
   CONSUMPTION(C) + Investment(I) = CONSUMPTION(C) + Saving(S)
   I = S
2.  If due to some disturbance, we divert from that position, the economic forces will work in such a manner so as to drive us back to the original position, i.e., Saving is equal to Investment.
   
3. In the above figure, the equilibrium level of national income is attained at point E, where saving = investment which is derived from a point where S = I.
4. If due to some disturbance we divert from our position like when investment > saving [at Y2], then production will have to be increased to meet the excess demand. Consequently, national income will increase leading to rise in saving until saving becomes equal to investment. It is here that equilibrium level of income is established because what the savers intend to save becomes equal to what the investors intend to invest.
5. As against it, when saving > investment [at Y1], then there would be stockpiling and producers will produce less. National income will fall and as a result saving will start falling until it becomes equal to investment. It is here the equilibrium level of income is derived.

Q.3 Explain the working of investment multiplier with the help of a numerical example. Or [CBSE 2005]
Explain with the help of a numerical example how does increase in investment in an economy affect its level of income?
Or
Explain the dynamic multiplier. Or
Explain the income propagation process due to change in investment.
Or
Explain the process of working of the ‘investment multiplier with the help of a numerical example. [CBSE Sample Paper 2014]
ANSWER:  The process of investment multiplier is as under:

1.  It can be illustrated with the help of a simple example. We know that one man’s expenditure is another man’s income.
2.  Suppose, the government of a country spends Rs 100 crore on building roads. National income of the country automatically rises by Rs 100 crore in Round 1.
3. Now suppose MPC is 0.5, people working in the investment industry will spend Rs 50 crore on new consumption goods.
4. The consumer goods industry will have an extra income of Rs 50 crore. Assume the MPC for the whole society is 0.5, people working in these consumer goods industry would again spend 50% of their additional income of Rs 50 crore (which works out to be 25 crore) on more consumer goods.
5. These Rs 25 crore will, thus, become the income for others. This will continue till total increase in income becomes k times the increment of investment.
6. The process of income generation has been shown in the following table: