Test: Income Determination - 2 - Commerce MCQ

To determine the type of function represented by the equation C = -c b(Y), we need to understand the variables involved and their relationships.
The equation represents the relationship between consumption expenditure (C) and the level of some other variable (Y). Let's break down the options to identify the correct answer:
A: Algebraic function of the level of capital expenditure
- The equation does not include any variable related to capital expenditure, so this option can be ruled out.
B: Algebraic function of the level of Consumption expenditure
- The equation represents consumption expenditure (C) as a function of the level of another variable (Y), making it an algebraic function of consumption expenditure.
C: Linear function of the level of Consumption expenditure
- The equation does not have a linear relationship between C and Y because of the presence of the negative sign and the variable c. So this option can be ruled out.
D: Algebraic function of the level of Investment expenditure
- The equation does not include any variable related to investment expenditure, so this option can be ruled out.
Therefore, the correct answer is B: Algebraic function of the level of Consumption expenditure.

What does the term ceteris paribus mean?
Ceteris paribus is a Latin phrase that translates to "other things being equal" or "all other things being constant." It is a principle used in economics and other social sciences to isolate the effect of a specific variable while assuming that all other relevant factors remain unchanged.
Explanation:
Ceteris paribus is often used in economic models and analysis to simplify complex situations and focus on the relationship between two variables. By assuming that all other factors are held constant, economists can study the impact of a single variable in a controlled environment.
Here is a detailed explanation of what ceteris paribus means:
1. Latin Phrase: Ceteris paribus is a Latin phrase that directly translates to "other things being equal" or "all other things being constant."
2. Isolating Variables: In economics and social sciences, ceteris paribus is used to isolate the effect of a specific variable. It allows researchers to focus on the relationship between two variables while assuming that all other relevant factors remain unchanged.
3. Simplification: By assuming ceteris paribus, economists can simplify complex situations and eliminate the influence of confounding variables. This simplification helps in understanding the causal relationship between variables and predicting outcomes.
4. Controlled Environment: Ceteris paribus creates a controlled environment for analysis. It enables economists to study the impact of a single variable while keeping all other factors constant. This approach helps in identifying the direct effect of the variable of interest.
5. Limitations: While ceteris paribus is a useful tool for analysis, it is important to note that in reality, all other factors rarely remain constant. Real-world situations are complex, and various factors can interact and influence outcomes. Ceteris paribus is a simplifying assumption that allows for theoretical analysis but may not fully capture the complexities of the real world.
In conclusion, ceteris paribus is a Latin term used in economics and social sciences to isolate the effect of a specific variable while assuming that all other relevant factors remain constant. It allows researchers to simplify complex situations and focus on the relationship between variables in a controlled environment.

The level of equilibrium income is determined by:
AD and AS:
- Aggregate demand (AD) represents the total spending in an economy, including consumption, investment, government spending, and net exports.
- Aggregate supply (AS) represents the total output of goods and services in an economy.
- The equilibrium income is determined at the point where aggregate demand equals aggregate supply.
- If aggregate demand is higher than aggregate supply, there will be a shortage, leading to an increase in production and income to meet the demand.
- If aggregate demand is lower than aggregate supply, there will be a surplus, leading to a decrease in production and income to adjust to the lower demand.
AD and national income:
- National income refers to the total income earned by individuals and businesses in an economy.
- Aggregate demand is influenced by factors such as consumption, investment, government spending, and net exports, which are all components of national income.
- Changes in aggregate demand can affect the level of national income and vice versa.
- In equilibrium, aggregate demand is equal to national income, indicating that the level of income is determined by the level of aggregate demand.
AD and Investment:
- Investment is a component of aggregate demand.
- Changes in investment spending can affect the level of aggregate demand and, consequently, the level of equilibrium income.
- Higher investment spending increases aggregate demand, leading to an increase in income.
- Lower investment spending decreases aggregate demand, leading to a decrease in income.
AD and Consumption:
- Consumption is the largest component of aggregate demand.
- Changes in consumption spending can impact aggregate demand and, subsequently, the level of equilibrium income.
- Higher consumption spending increases aggregate demand, leading to an increase in income.
- Lower consumption spending decreases aggregate demand, leading to a decrease in income.
In conclusion, the level of equilibrium income is determined by the interaction between aggregate demand and other factors such as aggregate supply, national income, investment, and consumption. These factors influence the level of spending in the economy and ultimately determine the level of equilibrium income.

The level of equilibrium income is determined by:
Planned Savings and Planned Investment:
- Planned savings and planned investment are two important factors that contribute to the determination of equilibrium income.
- Planned savings refer to the portion of income that individuals and households intend to save rather than spend.
- Planned investment refers to the amount of investment expenditure that businesses plan to undertake in order to expand their production capacity.
Equilibrium income:
- Equilibrium income is the level of income at which aggregate demand (AD) equals aggregate supply (AS). It is the level of income at which there is no tendency for output or income to change.
- At equilibrium income, planned savings are equal to planned investment, creating a balance in the economy.
Key points:
- Equilibrium income can be determined by the intersection of the aggregate demand (AD) and aggregate supply (AS) curves. However, this option (B) is incorrect as it does not directly determine the equilibrium income.
- Planned AD and planned national income (option C) are related to the determination of equilibrium income, but they are not the primary factors.
- The correct answer is option D, as planned savings and planned investment directly determine the level of equilibrium income. When these two components are in balance, the economy reaches equilibrium income.

The Multiplier Effect
The multiplier effect is an economic concept that measures the change in income or output resulting from a change in investment. It is a key component of Keynesian economics and helps to understand how changes in one sector of the economy can have ripple effects throughout the rest of the economy.
Explanation:
The multiplier effect can be understood by breaking down the various components involved:
1. Initial change in investment:
- Investment refers to spending on capital goods such as machinery, equipment, and infrastructure.
- An initial increase in investment will lead to an increase in aggregate demand in the economy.
2. Increase in aggregate demand:
- The increase in investment will lead to an increase in overall spending by businesses.
- This increase in spending will lead to an increase in the production of goods and services.
3. Increase in production:
- As businesses produce more goods and services to meet the increased demand, they will need to hire more workers and purchase more inputs.
- This will lead to an increase in income for workers and suppliers.
4. Increase in income:
- The increase in income for workers and suppliers will lead to an increase in their consumption.
- This increase in consumption will further stimulate demand and lead to an increase in production.
5. Multiplier effect:
- The multiplier effect measures the overall change in income or output resulting from the initial change in investment.
- It takes into account the cumulative impact of increased spending and production throughout the economy.
- The multiplier effect is expressed as a multiplier, which represents the ratio of the change in output to the initial change in investment.
Answer:
The correct answer is A: Final change in the income, as a result of a change in investment.

Explanation:
Autonomous consumption refers to the level of consumption that occurs even when income is zero. It is the minimum level of consumption that individuals or households engage in to meet their basic needs. Here is a detailed explanation of why autonomous consumption is assumed to be at the zero level of income:
1. Definition of autonomous consumption:
- Autonomous consumption refers to the part of consumption that does not depend on income. It represents the basic needs or minimum level of consumption that individuals maintain even when they have no income.
2. Basic needs:
- Basic needs such as food, shelter, and clothing are essential for survival and are considered autonomous consumption. These needs must be met regardless of an individual's income level.
3. Government support:
- In many countries, governments provide social welfare programs or assistance to individuals with zero or low income. This support helps ensure that basic needs are met, even when individuals have no income.
4. Savings and borrowing:
- Some individuals may rely on their savings or borrow money to meet their basic needs when they have no income. This borrowing or drawing from savings represents autonomous consumption.
5. Consumption function:
- The consumption function is a relationship between income and consumption. It suggests that as income increases, consumption also increases. However, at the zero level of income, consumption is assumed to be at the minimum or autonomous level.
Conclusion:
In summary, autonomous consumption is assumed to be at the zero level of income because it represents the basic needs or minimum level of consumption that individuals maintain even when they have no income. It is the consumption that is necessary for survival and is often supported by government programs or individual savings and borrowing.

APC + APS = 1 because income is either used for consumption or for saving.

Explanation:
To determine whether the statement is true or false, we need to understand the definitions of APS and APC.
- APS: Average Product of Labor (APS) is the total output produced per unit of labor input.
- APC: Average Physical Capital (APC) is the total output produced per unit of physical capital input.
The given statement, "APS = 1 APC," implies that the average product of labor is equal to the average physical capital.
To evaluate this statement, we need to consider the relationship between labor and physical capital in the production process.
- If labor and physical capital have a one-to-one relationship, where an increase in labor input results in the same increase in physical capital input, then APS could be equal to APC.
- However, in most production processes, labor and physical capital have different roles and contributions. Labor input refers to the human effort and skills, while physical capital input refers to the machinery, equipment, and infrastructure used in production. These inputs are not directly interchangeable or equal.
Therefore, the statement "APS = 1 APC" is false. It cannot be generalized that the average product of labor is always equal to the average physical capital. The relationship between APS and APC depends on the specific production process and the relative importance of labor and physical capital inputs.

Mathematically, in a closed economy, MPS + MPC = 1

Since MPS is measured as ratio of change in savings to change in income, its value lies between 0 and 1. Also, marginal propensity to save is opposite of marginal propensity to consume. Mathematically, in a closed economy, MPS + MPC = 1, since an increase in one unit of income will be either consumed or saved.

To determine at which level of income the saving is negative, we need to understand the relationship between income and saving. Saving is the difference between income and expenditure. If expenditure exceeds income, then saving becomes negative.
Income levels:
- Zero level of Income
- Low level of Income
- High level of Income
- Maximum level of Income
Explanation:
- At the zero level of income (A), there is no income to save, so the saving is automatically zero or negative.
- At a low level of income (B), individuals may have enough income to cover their basic expenses but not enough to save, resulting in negative saving.
- At a high level of income (C), individuals have enough income to cover their expenses and save, so the saving is positive.
- At the maximum level of income (D), individuals have a surplus income after covering their expenses, resulting in a high positive saving.
Conclusion:
At zero level of income, there is some amount of consumption which means autonomous consumption. Since Y - C = S, so at zero level of income savings will be negative.

Between APS and MPS, the value of APS can be negative when consumption expenditure becomes higher than income.

The coefficient (1-b) measures the slope of the saving function.
Explanation:
- The saving function represents the relationship between income and saving.
- The coefficient (1-b) is a constant term in the saving function equation, where b represents the marginal propensity to consume (MPC).
- The MPC is the proportion of additional income that is spent on consumption.
- The complement of MPC, which is (1-b), represents the proportion of additional income that is saved.
- The slope of the saving function indicates the rate at which saving changes with respect to changes in income.
- Therefore, the coefficient (1-b) measures the slope of the saving function.
- When (1-b) is positive, the saving function has a positive slope, indicating that saving increases as income increases.
- When (1-b) is zero, the saving function is a horizontal line, indicating that saving does not change with changes in income.
- When (1-b) is negative, the saving function has a negative slope, indicating that saving decreases as income increases.
- In summary, the coefficient (1-b) measures the slope of the saving function, representing the relationship between income and saving.

The ratio of total saving to total income is called APS. 
APS =  800/1000
        = 0.8

To find APS (Average Product of a variable input), we need to know the formula for calculating APS:
APS = Total Product / Quantity of Variable Input
Given that APC (Average Physical Product) is 0.7, we can use the relationship between APC and APS to find the value of APS.
Relationship between APC and APS:
- APC is the product of one unit of variable input, whereas APS is the average product of all units of variable input.
- APC is always equal to or less than APS.
Steps to find APS:
1. Assume the quantity of variable input to be 1 unit.
2. Calculate the Total Product at this level of input.
3. Substitute the Total Product and quantity of variable input into the formula for APS.
Now let's calculate APS using the given information:
Step 1:
Assume the quantity of variable input to be 1 unit.
Step 2:
As no information is given about the Total Product, we cannot directly calculate it. Therefore, we need additional information or assumptions to proceed.
Step 3:
Since we do not have the Total Product, we cannot calculate APS.
Thus, based on the given information, we cannot determine the value of APS. The correct answer is therefore cannot be determined.

The important factor influencing the propensity to consume in an economy is:
There are several factors that can influence the propensity to consume in an economy, but the most important one is the level of income (Y). This is because income determines the amount of money individuals and households have available to spend on goods and services. Here is a detailed explanation:
1. Propensity to consume: The propensity to consume refers to the proportion of income that is spent on consumption rather than saved. It is an important indicator of consumer behavior and economic growth.
2. Income: Income is the primary source of funds for individuals and households. The level of income directly affects the propensity to consume because people tend to spend more when they have higher incomes.
3. Disposable income: Disposable income is the income that is available for spending after deducting taxes. It is a key determinant of consumption as it represents the actual amount of money individuals have available to spend on goods and services.
4. Consumption function: The consumption function is an economic model that shows the relationship between disposable income and consumption. It suggests that as income increases, consumption also increases, but at a lower rate. This is known as the marginal propensity to consume (MPC), which indicates the change in consumption for every additional unit of income.
5. Savings: While savings can also influence the propensity to consume, it is not the most important factor. Savings represent the portion of income that is not spent on consumption. When income increases, individuals may choose to save a portion of it rather than spend it. However, the impact of savings on consumption is generally smaller compared to the impact of income.
In conclusion, the level of income (Y) is the most important factor influencing the propensity to consume in an economy. Higher income levels generally lead to higher consumption levels, as individuals and households have more money available to spend on goods and services.

The important factor influencing the propensity to save in an economy is:
1. The level of income (Y):
- The level of income plays a crucial role in determining the propensity to save in an economy.
- When individuals have higher income, they tend to save more as they have more disposable income available.
- Conversely, when individuals have lower income, their ability to save is limited, and they may be more inclined to spend rather than save.
2. The level of consumption:
- The level of consumption also affects the propensity to save.
- If individuals have high consumption patterns and spend a significant portion of their income, their propensity to save may be lower.
- On the other hand, if individuals have lower consumption habits and save a larger portion of their income, their propensity to save will be higher.
3. The level of investment:
- The level of investment can indirectly influence the propensity to save.
- When there are higher investment opportunities and potential returns in the economy, individuals may be more motivated to save in order to invest and earn a return on their savings.
- Conversely, if investment opportunities are limited, individuals may be less motivated to save and instead opt for immediate consumption.
In conclusion:
- While all the factors mentioned above are interconnected and influence each other, the level of income (Y) is the most important factor influencing the propensity to save in an economy.
- Higher income provides individuals with more financial resources to save, whereas lower income limits their ability to save.
- The level of consumption and investment also play a role, but they are influenced by income levels.

The correct option is B.

The Consumption function is a+bY and not -a+bY

We know, Y=C+S

S= Y - C

S=Y-(a+bY)

S=Y-a-bY

S= -a+Y-bY

S= -a+(1-b)Y

The slope of the saving function gives the:
The slope of the saving function represents the relationship between income and savings. It indicates how savings change with respect to a change in income. Here's a detailed explanation:
1. Definition of slope:
- The slope of a function represents the rate of change of the dependent variable (savings) with respect to the independent variable (income).
- It measures the steepness or inclination of the function.
2. Interpretation of the slope of the saving function:
- The slope of the saving function indicates the increase in savings per unit increase in income.
- It represents the marginal propensity to save (MPS), which is the proportion of additional income that is saved.
- A positive slope indicates that savings increase as income increases, implying a positive MPS.
3. Relationship between slope and income:
- When the slope of the saving function is positive, it means that savings increase as income increases.
- Conversely, when the slope of the saving function is negative, it implies dissavings, where individuals are spending more than their income. However, this is not the case mentioned in the question.
4. Answer to the question:
- Option C is the correct answer: The slope of the saving function gives the increase in savings per unit increase in income.
- This means that for every additional unit of income, the savings will increase by the amount represented by the slope.
In summary, the slope of the saving function represents the increase in savings per unit increase in income. It provides insights into how savings change with changes in income levels.

Explanation:
The coefficient (1-b) is also known as the marginal propensity to save (MPS). It represents the proportion of additional income that an individual saves rather than consumes.
Key Points:
- The coefficient (1-b) reflects the relationship between changes in income and changes in saving.
- It is a measure of how much of an increase in income will be saved rather than spent.
- The value of (1-b) ranges between 0 and 1, where 0 means that all additional income is spent and 1 means that all additional income is saved.
- The MPS is an important concept in Keynesian economics and is used to analyze the effects of changes in income on saving and consumption.
- The MPS plays a crucial role in determining the size of the spending multiplier, which measures the overall impact of changes in spending on the economy.
- It is important to note that the coefficient (1-b) is different from the marginal propensity to consume (MPC), which represents the proportion of additional income that is consumed rather than saved.
Conclusion:
- The coefficient (1-b) is also known as the marginal propensity to save (MPS).
- It measures the proportion of additional income that is saved rather than consumed.
- Understanding the MPS is essential for analyzing the effects of changes in income on saving and consumption.