Determination of Income and Employment Question Answers: NCERT Class 12 Macro Economics

Marginal propensity to consume refers to the ratio of change in the consumer’s expenditure due to the change in disposable income (income after deducting taxes). In other words, MPC measures how consumption will vary with the change in income.

So,
MPC
Where,
ΔC = Change in consumption
ΔY = Change in income

For example, if income increases from Rs 200 crores to Rs 250 crores and consumption increases from Rs 20 crores to Rs 40 crores, it implies that 0.4 is the MPC or 40% increase in the income is being consumed.

Considering the equation of a straight line as

b = ma + ÃŽÂμ

Where m = slope of straight line, m > 0

ÃŽÂμ = intercept on vertical axis, ÃŽÂμ> 0

Also, when a increases by 1 unit, the value of b increases by m units.

The parameters ÃŽÂμ and m are parameters of a graph.

As the value of m increases, the straight line rotates upward around the same vertical intercept. This movement is an example of parametric shift of the graph.

(i) A straight line rotates downward around the same vertical intercept as its slope decreases.
(ii) A straight line shifts parallelly upward when its intercept increases.

Effective demand refers to a situation in which equilibrium output is determined solely by the level of aggregate demand. This is because of the assumption that the supply is infinitely elastic and if there exists any inequality between the Aggregate Demand (AD) and the Aggregate Supply (AS), then the equilibrium output will only be influenced by AD. The concept of effective demand can be explained:

The x-axis represents income/output level and y-axis represents the level of aggregate demand. E is the equilibrium point where the two curves AS and AD meet. EG is the effective demand and output level is determined by AD (assuming the elasticity of supply to be perfectly elastic).

Autonomous expenditure multiplier is derived as

Y = AD (at equilibrium)
Y = A + cY [Where AD = A + cY]
Y - cY = A
Y (1 - c) = A

Where
A = Autonomous expenditure
c = MPC
Y = level of income
= autonomous expenditure multiplier

So, the autonomous expenditure multiplier is dependent on the income and MPC.

Consumption expenditure (A) = Rs 50 Crores

MPS = 0.2

So, MPC = 1 - MPS
= 1 - 0.2
= 0.8

Y = 4000 Crores

We know that AD = A + cY (1)

Putting the values in equation (1)

AD = 50 + 0.8 x 4000
= 50 + 3200
= Rs 3250 Crores

But, Rs 3250 < Rs 4000

Implies that AD < Y

Hence, the economy is not in equilibrium.

Paradox of thrift refers to a situation in which people tend to save more money, there by leading to a fall in the savings of the economy as a whole. In other words, when everyone increase his/her saving-income proportion i.e. MPS (s), then, the aggregate demand will fall as consumption decreases. This will further lead to a decrease in employment and income level and finally this will reduce the total savings for the economy. This concept was suggested by Keynes wherein increased saving at individual levels will gradually lead to the slowdown of economy in terms of circular flow of income.