Passage Based Questions: Determination of Income and Employment | Economics Class 12 - Commerce PDF Download

Passage - 1

Direction: Read the hypothetical case study given below and answer the questions that follow:

Passage:
An economy is in short-run equilibrium when the aggregate amount of output demanded is equal to the aggregate amount of output supplied. In the ADAS model, the short-run equilibrium is found at the point where the Aggregate Demand (AD) curve intersects the Short-Run Aggregate Supply (SRAS) curve. This equilibrium identifies the equilibrium price level and equilibrium output. A useful way to think about the short-run equilibrium is by considering how much real GDP is being produced and what the Consumer Price Index (CPI) is at that point in time.
When an economy is not in equilibrium, prices adjust until the market reaches an equilibrium. In a short-run macroeconomic context, if the aggregate output demanded exceeds the output produced, the scarcity of goods drives up the price level. As prices rise, producers increase output until aggregate production matches aggregate demand.

Q1: What is the main focus of the article above?
Ans: The above article is talking about the short-run equilibrium.

Q2: According to the article, under what conditions is the economy in short-run equilibrium?
Ans: According to the article, the economy is in short-run equilibrium when the aggregate amount of output demanded equals the aggregate amount of output supplied.

Q3: Based on the information in the article, what would happen if aggregate demand is less than aggregate supply in the economy?
Ans: When aggregate demand in the economy is less than aggregate supply, it leads to excess supply, causing prices to fall and potentially creating a deflationary situation. The government may need to increase expenditure to inject cash into the economy.

Passage - 2

Direction: Read the news article given below and answer the questions that follow:

Passage:
The Concept of Investment Multiplier: The theory of multiplier occupies an important place in the modern theory of income and employment.
The concept of multiplier was first of all developed by F.A. Kahn in the early 1930s. But Keynes later further refined it. F.A. Kahn developed the concept of multiplier with reference to the increase in employment, direct as well as indirect, as a result of initial increase in investment and employment.
Keynes, however, propounded the concept of multiplier with reference to the increase in total income, direct as well as indirect, as a result of original increase in investment and income.
Therefore, whereas Kahn’s multiplier is known as ’employment multiplier’, Keynes’ multiplier is known as investment or income multiplier. The essence of multiplier is that total increase in income, output or employment is manifold the original increase in investment. For example, if investment equal to Rs. 100 crores is made, then the income will not rise by Rs. 100 crores only but a multiple of it.
If as a result of the investment of Rs. 100 crores, the national income increases by Rs. 300 crores, multiplier is equal to 3. If as a result of investment of ` 100 crores, total national income increases by ` 400 crores, multiplier is 4. The multiplier is, therefore, the ratio of increment in income to the increment in investment. If ΔI stands for increment in investment and ΔY stands for the resultant increase in income, then multiplier is equal to the ratio of increment in income (ΔK) to the increment in investment (ΔI).
Therefore k = ΔY/ΔI where k stands for multiplier.
Now, the question is why the increase in income is many times more than the initial increase in investment. It is easy to explain this. Suppose Government undertakes investment expenditure equal to Rs. 100 crores on some public works, say, the construction of rural roads. For this Government will pay wages to the labourers engaged, prices for the materials to the suppliers and remunerations to other factors who make contribution to the work of road-building.

Q1: What topic does the article above discuss?
Ans: The above article is about the Investment Multiplier.

Q2: How was the concept described in the article originally developed?
Ans: The concept of the multiplier was first developed by Kahn, focusing on the increase in employment relative to investment. Keynes expanded this concept by considering the change in income relative to investment.

Q3: Explain the concept described in the article using a different example than the one provided.
Ans: Imagine an investment in the construction of a hospital. The investment pays workers, purchases materials, and buys hospital equipment. This spending increases aggregate demand, as the workers use their wages to buy goods and services, which in turn stimulates production, leading to a continuous cycle of increased economic activity driven by the initial investment.

Passage - 3

Direction: Read the hypothetical case study given below and answer the questions that follow:

Passage:
Central banks use tools such as interest rates to adjust the supply of money to keep the economy stable. Monetary policy has taken on various forms over time, but its core objective remains to regulate the money supply within the economy to achieve a balance between inflation and output stabilization.

Most economists agree that, in the long run, the output of an economy—typically measured by Gross Domestic Product (GDP)—is constant, meaning that any variations in the money supply will only influence price levels. However, in the short term, because prices and wages do not immediately adjust, changes in the money supply can impact the actual production of goods and services. This makes monetary policy, generally managed by central banks like the U.S. Federal Reserve (Fed) or the European Central Bank (ECB), a crucial tool for managing both inflation and economic growth.

During a recession, for instance, consumer spending decreases, business production declines, leading to layoffs and reduced investments, and foreign demand for exports may also diminish. In other words, there is a reduction in overall, or aggregate, demand, which the government can counter with policies that counteract the economic downturn. Monetary policy often serves as this countercyclical tool of choice.

Implementing such a countercyclical policy would stimulate the desired increase in output (and employment). However, since it involves increasing the money supply, it would also lead to rising prices. As the economy nears full capacity, growing demand will drive up input costs, including wages. Workers, with higher incomes, will then spend more on goods and services, further driving up prices and wages, which could lead to higher overall inflation—something policymakers typically aim to prevent.
Monetary Policy: Stabilizing Prices and Output

Q1: What is the main focus of the article? Provide a detailed explanation.
Ans: The above article is discussing Monetary Policy. Monetary policy is utilized by the central bank to manage inflation and deflation within the economy through various credit control measures.

Q2: According to the article, how does monetary policy manage inflationary pressures?
Ans: Countercyclical measures are employed to achieve the desired expansion or contraction of employment and money supply. In the case of inflation, the central bank implements monetary policy to decrease the money supply, which in turn reduces aggregate demand, thereby stabilizing prices in the economy.