- The Cobb-Douglas production function assumes –
(A) Constant marginal returns
(B) Diminishing marginal returns
(C) Increasing returns to scale
(D) Substitutability between inputs
Answer: (D)
Explanation: The Cobb-Douglas production function assumes substitutability between inputs (e.g., labor and capital), allowing firms to adjust input ratios while maintaining output. In India, a factory can substitute machines for workers, reflecting this flexibility, unlike fixed or constant return assumptions. - Ricardian equivalence theory suggests that –
(A) Tax cuts boost demand
(B) Government debt does not affect overall demand
(C) Fiscal deficits raise interest rates
(D) Taxation always reduces investment
Answer: (B)
Explanation: Ricardian equivalence posits that government debt doesn’t affect demand, as consumers anticipate future taxes to repay debt, saving rather than spending. In India, a tax cut funded by borrowing may not boost consumption if households save for future tax liabilities. - Okun’s Law shows the relationship between –
(A) Inflation and GDP
(B) Unemployment and GDP
(C) Fiscal deficit and interest rates
(D) Exchange rate and trade deficit
Answer: (B)
Explanation: Okun’s Law links unemployment to GDP, suggesting a 1% rise in unemployment reduces GDP by about 2–3%. In India, high unemployment during slowdowns lowers output, guiding policies to stimulate job creation and growth. - A price floor set above the equilibrium price will result in –
(A) Shortage
(B) Surplus
(C) Equilibrium
(D) Inflation
Answer: (B)
Explanation: A price floor above equilibrium, like India’s Minimum Support Price (MSP) for crops, creates a surplus, as supply exceeds demand at the higher price. Farmers produce more, but buyers purchase less, leading to excess stock. - The Herfindahl-Hirschman Index (HHI) is used to measure –
(A) Inflation
(B) Market concentration
(C) Income inequality
(D) Fiscal deficit
Answer: (B)
Explanation: The HHI measures market concentration by summing squared market shares of firms. In India, a high HHI in telecom (e.g., dominated by a few firms) indicates low competition, unlike metrics for inequality or deficits. - The LM curve shifts when there is a change in –
(A) Government expenditure
(B) Money supply
(C) Investment demand
(D) Savings rate
Answer: (B)
Explanation: The LM curve, showing money market equilibrium, shifts with changes in money supply. In India, an RBI increase in money supply shifts the LM curve right, lowering interest rates for a given income level, unlike fiscal or savings changes. - A kinked demand curve is typical in –
(A) Perfect competition
(B) Monopoly
(C) Oligopoly
(D) Monopsony
Answer: (C)
Explanation: A kinked demand curve, common in oligopolies, reflects firms’ reluctance to change prices due to competitors’ reactions. In India’s telecom sector, firms like Jio maintain stable prices, as rivals match cuts but not hikes, stabilizing market dynamics. - The Slutsky equation in microeconomics explains –
(A) Wage-price spiral
(B) Substitution and income effects
(C) Investment multiplier
(D) Trade deficit
Answer: (B)
Explanation: The Slutsky equation decomposes a price change’s effect on demand into substitution (shifting to cheaper goods) and income (real income change) effects. In India, a rice price hike may lead consumers to buy wheat (substitution) while reducing overall consumption (income effect). - GDP deflator includes –
(A) All goods and services
(B) Only final goods
(C) Exports only
(D) Government expenditure
Answer: (A)
Explanation: The GDP deflator measures price changes for all goods and services in GDP, including intermediate and final goods. In India, it captures broad price trends, unlike metrics focusing solely on exports or government spending. - The Pigovian tax is intended to –
(A) Raise revenue
(B) Control public borrowing
(C) Internalize externalities
(D) Reduce fiscal deficit
Answer: (C)
Explanation: A Pigovian tax, like a carbon tax in India, internalizes negative externalities (e.g., pollution) by making polluters pay for societal costs, aligning private and social costs, unlike revenue or deficit-focused taxes. - The J-curve effect is seen in –
(A) Fiscal policy
(B) Trade balance after currency devaluation
(C) Budget deficit reduction
(D) Inflation targeting
Answer: (B)
Explanation: The J-curve effect describes a worsening trade balance after currency devaluation, followed by improvement as exports grow. In India, a rupee devaluation initially raises import costs but later boosts export competitiveness. - Permanent income hypothesis is associated with –
(A) Milton Friedman
(B) Paul Samuelson
(C) John Hicks
(D) Keynes
Answer: (A)
Explanation: Milton Friedman’s permanent income hypothesis suggests consumption is based on long-term (permanent) income, not temporary fluctuations. In India, households smooth consumption based on expected earnings, not one-time bonuses. - A backward bending supply curve of labor shows that –
(A) Wage and labor supplied are always positively related
(B) At higher wages, people may choose to work less
(C) Labor supply is fixed
(D) Unemployment rises with wage
Answer: (B)
Explanation: A backward bending labor supply curve indicates that at high wages, workers may reduce hours, valuing leisure over income. In India, high-paid professionals may work less if wages rise significantly, balancing income and leisure. - Time inconsistency in economic policy refers to –
(A) Lack of planning
(B) Government’s inability to commit to long-term policies
(C) Price rigidity
(D) Sticky wages
Answer: (B)
Explanation: Time inconsistency occurs when governments deviate from announced long-term policies for short-term gains, undermining credibility. In India, promising low inflation but easing policy for growth exemplifies this, affecting expectations. - Baumol’s cost disease applies to –
(A) Manufacturing sector
(B) Financial markets
(C) Services with low productivity growth
(D) Labor-intensive agriculture
Answer: (C)
Explanation: Baumol’s cost disease explains rising costs in services like education or healthcare, where productivity grows slowly compared to manufacturing. In India, teacher salaries rise despite stagnant productivity, increasing service costs. - The non-accelerating inflation rate of unemployment (NAIRU) implies –
(A) Structural unemployment
(B) The natural rate below which inflation rises
(C) Constant unemployment rate
(D) Rate that causes deflation
Answer: (B)
Explanation: NAIRU is the unemployment rate where inflation remains stable; below it, inflation rises due to labor market pressures. In India, pushing unemployment below NAIRU via stimulus could trigger wage-driven inflation. - A Giffen good violates –
(A) Law of diminishing marginal utility
(B) Law of supply
(C) Law of demand
(D) Engel’s Law
Answer: (C)
Explanation: A Giffen good, like staple foods for India’s poor, violates the law of demand, as demand rises with price due to income effects dominating substitution. For example, a rice price hike may force higher consumption, reducing other purchases. - Tragedy of the commons refers to –
(A) Inefficient public finance
(B) Overuse of shared resources
(C) Rising tax burden
(D) Wage inequality
Answer: (B)
Explanation: The tragedy of the commons occurs when shared resources, like fisheries in India, are overused due to lack of ownership, leading to depletion. Private incentives clash with collective sustainability, requiring regulation. - The coefficient of price elasticity of demand is zero when –
(A) Demand is highly responsive
(B) Demand doesn’t change with price
(C) Perfect substitutes exist
(D) Total revenue increases
Answer: (B)
Explanation: A price elasticity of zero indicates perfectly inelastic demand, where quantity demanded remains constant despite price changes. In India, demand for essential medicines remains stable regardless of price hikes, reflecting zero elasticity. - Marshall’s Scissors refers to –
(A) Intersection of IS-LM
(B) Demand and supply determining price
(C) Fiscal and monetary policy
(D) Labor and capital efficiency
Answer: (B)
Explanation: Marshall’s Scissors analogy describes how demand and supply intersect to determine equilibrium price, like blades cutting paper. In India’s vegetable markets, prices balance consumer demand with farmers’ supply, shaping market outcomes. - Dornbusch’s overshooting model explains –
(A) Price rigidity
(B) Long-run unemployment
(C) Exchange rate volatility
(D) Credit rationing
Answer: (C)
Explanation: Dornbusch’s overshooting model explains exchange rate volatility, where rates overshoot long-run values after monetary policy changes due to sticky prices. In India, an RBI rate cut may cause the rupee to depreciate sharply before stabilizing. - The real exchange rate adjusts for –
(A) Tax effects
(B) Inflation differences
(C) Trade surplus
(D) Government borrowing
Answer: (B)
Explanation: The real exchange rate adjusts nominal rates for inflation differences between countries, reflecting purchasing power. In India, high inflation relative to the US weakens the real rupee value, impacting trade competitiveness. - Stolper-Samuelson theorem links –
(A) Trade and income distribution
(B) Savings and investment
(C) Exchange rate and exports
(D) Money and inflation
Answer: (A)
Explanation: The Stolper-Samuelson theorem states that trade benefits abundant factors and harms scarce ones, affecting income distribution. In India, trade liberalization may boost wages for skilled labor (abundant) but hurt unskilled workers (scarce). - Sen’s capability approach emphasizes –
(A) Freedom and human development
(B) GDP growth
(C) Industrial efficiency
(D) Tax equity
Answer: (A)
Explanation: Amartya Sen’s capability approach prioritizes human development through freedoms and opportunities, like access to education and health. In India, policies like free schooling enhance capabilities, beyond mere GDP growth. - In a closed economy, GDP =
(A) C + I + G + X – M
(B) C + I + G
(C) C + I
(D) C + I + NX
Answer: (B)
Explanation: In a closed economy with no trade, GDP equals consumption (C), investment (I), and government spending (G). In an Indian context without exports (X) or imports (M), this captures total domestic economic activity. - Liquidity trap is a situation where –
(A) Inflation rises sharply
(B) Interest rate is high
(C) Interest rate is near zero and monetary policy is ineffective
(D) Banks have no reserves
Answer: (C)
Explanation: A liquidity trap occurs when interest rates are near zero, and monetary policy fails to stimulate demand, as people hoard cash. In India, if RBI cuts rates to near zero without boosting spending, it signals a trap. - The Harrod-Domar model focuses on –
(A) Short-run fiscal policy
(B) Long-term employment
(C) Capital accumulation and growth
(D) Income redistribution
Answer: (C)
Explanation: The Harrod-Domar model links capital accumulation to economic growth, emphasizing investment’s role. In India, higher investment in infrastructure drives GDP growth, assuming stable capital-output ratios, unlike fiscal or redistribution policies. - General equilibrium analysis studies –
(A) One market in isolation
(B) All markets simultaneously
(C) Trade policy
(D) Fiscal policy impact
Answer: (B)
Explanation: General equilibrium analysis examines all markets simultaneously, capturing interdependencies. In India, studying how a steel price rise affects agriculture and manufacturing reflects this holistic approach, unlike partial equilibrium’s single-market focus. - Ramsey Rule in public finance deals with –
(A) Intergenerational equity
(B) Optimal taxation
(C) Fiscal federalism
(D) Pricing of public goods
Answer: (B)
Explanation: The Ramsey Rule guides optimal taxation by minimizing economic distortions, taxing goods with inelastic demand more. In India, higher taxes on luxury goods with low elasticity align with this, balancing revenue and efficiency. - Sustainable development involves –
(A) GDP growth only
(B) Resource use without harming future generations
(C) Consumption maximization
(D) Financial independence
Answer: (B)
Explanation: Sustainable development balances current resource use with future generations’ needs. In India, renewable energy adoption ensures long-term resource availability, unlike growth-focused or consumption-driven approaches. - Externalities cause –
(A) Market equilibrium
(B) Efficient allocation
(C) Market failure
(D) Competitive pricing
Answer: (C)
Explanation: Externalities, like pollution from Indian factories, cause market failure by imposing costs not reflected in prices, leading to overproduction. Government interventions, like taxes, address this inefficiency, unlike competitive pricing scenarios. - Backward induction is a technique used in –
(A) Monopoly pricing
(B) Game theory
(C) Input-output analysis
(D) Fiscal planning
Answer: (B)
Explanation: Backward induction, used in game theory, solves sequential games by working backward from outcomes. In India, firms strategizing price wars (e.g., telecom) use this to anticipate competitors’ moves, optimizing decisions. - The income elasticity of demand for inferior goods is –
(A) Zero
(B) Positive
(C) Negative
(D) Greater than 1
Answer: (C)
Explanation: Inferior goods, like low-quality grains in India, have negative income elasticity, as demand falls when income rises, as consumers switch to better alternatives. Normal goods have positive elasticity, unlike zero or high elasticity cases. - Edgeworth Box is a tool for analyzing –
(A) Monopoly
(B) Efficiency in exchange
(C) Government spending
(D) Trade policy
Answer: (B)
Explanation: The Edgeworth Box analyzes efficiency in exchange between two parties, showing possible allocations. In India, it could illustrate how farmers and consumers trade rice and cloth, identifying Pareto-efficient outcomes. - Lorenz curve and Gini coefficient both measure –
(A) Government efficiency
(B) Inflation
(C) Income inequality
(D) Trade performance
Answer: (C)
Explanation: The Lorenz curve and Gini coefficient measure income inequality. In India, a steep Lorenz curve or high Gini (e.g., 0.35) indicates disparity, guiding policies like progressive taxation to reduce inequality. - The Samuelson condition applies to –
(A) Public good provision
(B) Tax elasticity
(C) Supply chain management
(D) Unemployment
Answer: (A)
Explanation: The Samuelson condition states that optimal public good provision equates the sum of individuals’ marginal benefits to marginal cost. In India, funding roads requires balancing collective benefits against costs, ensuring efficient allocation. - Euler’s theorem in production theory implies –
(A) Returns to scale
(B) Factor pricing exhausts total product
(C) Law of diminishing returns
(D) Income elasticity
Answer: (B)
Explanation: Euler’s theorem implies that under constant returns to scale, factor payments (e.g., wages, rent) fully exhaust the total product. In India, a firm’s output value equals labor and capital payments, ensuring no residual profit. - Leontief paradox challenged –
(A) Comparative advantage
(B) Factor proportions theory
(C) Monopoly pricing
(D) Keynesian assumptions
Answer: (B)
Explanation: The Leontief paradox challenged the Heckscher-Ohlin factor proportions theory, finding that the US exported labor-intensive goods despite being capital-abundant. In India, exporting labor-intensive textiles aligns with factor endowments, supporting the theory. - Hotelling’s rule is used for –
(A) Pricing under monopoly
(B) Resource extraction over time
(C) Inflation adjustment
(D) Taxation policy
Answer: (B)
Explanation: Hotelling’s rule guides optimal resource extraction, stating that non-renewable resource prices rise at the interest rate. In India, managing coal extraction balances current profits with future scarcity, ensuring efficient resource use. - Pareto optimality means –
(A) Equal distribution
(B) No one can be made better off without making someone worse off
(C) Free market equilibrium
(D) Efficient taxation
Answer: (B)
Explanation: Pareto optimality occurs when resources are allocated such that no one can be better off without harming another. In India, efficient trade allocations may achieve this, but equality or free markets aren’t guaranteed. - In the Solow growth model, long-run growth is driven by –
(A) Capital accumulation
(B) Technological progress
(C) Population growth
(D) Fiscal policy
Answer: (B)
Explanation: The Solow growth model attributes long-run growth to technological progress, as capital accumulation faces diminishing returns. In India, innovations in IT drive sustained growth, unlike temporary boosts from capital or population. - Rational expectations theory assumes that –
(A) Agents act randomly
(B) Expectations are always wrong
(C) Agents use all information efficiently
(D) Government policy is always effective
Answer: (C)
Explanation: Rational expectations assume agents use all available information to form accurate forecasts. In India, investors predicting RBI rate cuts based on economic data reflect this, challenging the efficacy of surprise policy moves. - A second-degree price discrimination involves –
(A) Charging different prices for different groups
(B) Price based on quantity purchased
(C) Bargaining-based pricing
(D) Pricing based on income
Answer: (B)
Explanation: Second-degree price discrimination involves pricing based on quantity, like bulk discounts. In India, telecom plans offering lower per-unit rates for higher data packs exemplify this, encouraging larger purchases. - Inflation targeting as a policy was first adopted by –
(A) USA
(B) New Zealand
(C) UK
(D) India
Answer: (B)
Explanation: New Zealand pioneered inflation targeting in 1990, setting a specific inflation range. India adopted it in 2016 (4% ± 2%), with the RBI’s MPC stabilizing prices, following global examples like New Zealand. - Heckscher-Ohlin theory predicts trade based on –
(A) Currency values
(B) Technology
(C) Relative factor endowments
(D) Consumer tastes
Answer: (C)
Explanation: The Heckscher-Ohlin theory predicts trade based on relative factor endowments, with countries exporting goods intensive in abundant factors. India exports labor-intensive textiles due to abundant labor, importing capital-intensive machinery. - Public choice theory studies –
(A) Government budgeting
(B) Political decision-making using economic tools
(C) Market selection
(D) Tax structure
Answer: (B)
Explanation: Public choice theory applies economic tools to analyze political decisions, like voting or lobbying. In India, it explains why policies favor certain groups, reflecting self-interest in political processes, beyond budgeting or taxes. - Deadweight loss arises due to –
(A) Efficient pricing
(B) Taxes and subsidies
(C) Market clearing
(D) Optimal allocation
Answer: (B)
Explanation: Deadweight loss occurs from taxes or subsidies distorting market efficiency, reducing total surplus. In India, high taxes on goods like fuel create losses by discouraging consumption and production, unlike efficient pricing. - Crowding out happens when –
(A) Private investment rises with public spending
(B) Government borrowing reduces private investment
(C) Tax cuts increase revenue
(D) Public debt lowers inflation
Answer: (B)
Explanation: Crowding out occurs when government borrowing raises interest rates, reducing private investment. In India, heavy borrowing for infrastructure may limit corporate access to funds, stifling private projects. - A natural monopoly arises due to –
(A) High competition
(B) Government policy
(C) Economies of scale
(D) Legal restrictions
Answer: (C)
Explanation: A natural monopoly arises from economies of scale, where one firm serves the market at lower cost. In India, electricity distribution often exhibits this, as single providers reduce costs compared to multiple competitors. - The income effect of a price change leads to –
(A) Increase in real income
(B) Change in quantity demanded due to price change
(C) Increase in supply
(D) Lower average cost
Answer: (B)
Explanation: The income effect of a price change alters quantity demanded due to changes in real purchasing power. In India, a fall in rice prices increases real income, boosting demand, distinct from supply or cost effects.