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1. MICRO ECONOMICS & MACRO ECONOMICS


Meaning of Micro Economics Micro Economics is defined as Microeconomics is the study of particular firm, particular households, individual price, wages incomes, individual industries, and particular commodities. The term Micro is derived from the Greek word Mikros which means small. It is called as individualistic economics because micro economics deals with analysis of the Individual behavior. The credit for development of micro economics approach goes to Alferd Marshall Meaning of Macro Economics Macro Economics is defined as Macro economics deals not with individual quantities but with aggregate of these quantities, not with individual incomes but with national income not with individual price but with price levels, not with individual outputs but with the national output. The term Macro is derived from the Greek word Makros which means large. It is called aggregative economics because Macro economics deals with the analysis of large aggregates. Features of Micro Economics:1) Microscopic Approach:The approach of micro economics is microscopic because it analyse the behavior of individual consumers, producers, firms, markets & industries. This approach is known as slicing method. 2) Study of individual behaviour:Micro Economics is the study of individual behaviour i.e. particular firm, particular households, individual price, particular commodity, and particular industries. Thus, it studies a part of economy & not the whole. 3) Scope:The scope of micro economics includes product pricing factor pricing & theory of welfare. 4) Application:Micro economics has wider application in theory as well as practice. It is useful in the formulation of various policies, allocation of resources, public finance etc. 5) Nature of Assumptions:Micro economics is based on Ceteris Paribus assumptions i.e. other things being equal. The various laws in ME are based on these assumptions. 6) Partial equilibrium:1

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When equilibrium is related to the behaviour of a single variable, it is called partial equilibrium. Micro Economics studies a small part of the economy through partial equilibrium analysis. For e.g. equilibrium of a consumer, equilibrium of an individual firm, equilibrium of an industry, etc. Thus it is said that microeconomics study just a tree & not the whole forest. Features of Macro Economics:1) Macroscopic approach:The approach of macro economics is Macroscopic because it deals with macro quantities & macro variables unlike micro economics. This approach is known as Lumping method. 2) Study of aggregates:Macro Economics is a study of aggregate i.e. total production, total consumption, total savings & total investments. Thus it is said that macro economics examines the forest, not the trees. 3) Scope:The scope of macro economics includes monetary theory, international trade, theory of income, etc. 4) Application:Macro Economics has a significant application in theory as well as practice. It is useful to analyze the problems like inflation, poverty, unemployment etc. 5) Nature of assumptions:Macro economics is based on very few assumptions. Hence, its approach is said to be more realistic. 6) General equilibrium:When the equilibrium is related to numerous variable or economy as a whole it is called general variable. Macro economics study all the parts of the economy through general equilibrium. It helps to show the inter relationship between various sectors of the national economy. Scope / Importance / Uses of Micro Economics:1) Individual economic behaviour;_ Micro economics studies the behaviour of a small unit in isolation from others. 2) Economic Planning & policies:It is useful in formulating and evaluating economic policies including pricing & distribution policies that promote economic welfare. 3) Allocation of resources:2

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Micro economics explains how the resources are allocated & utilised optimally to produce various types of goods & services in a capitalised economy. 4) Price Determination:It explains how the price of consumer goods & those of factors of production are determined in the commodity markets & the factor markets respectively. 5) Art of Economizing:Micro economics indicates how the factors of production can be used efficiently to get maximum output with the given amount of resources. 6) Public finance:Micro economics in analyzing the impact of direct taxes & indirect taxes on the allocation of resources, economic welfare etc. Scope / Importance / Uses of Macro Economics:1) Helps in understanding the functioning of the economy:Macro economics helps to understand the functioning of an economic system. E.g. the national income (aggregate income) is very useful in analyzing the growth of the economy as well as comparison between different periods. 2) Helps in Government in framing economic policies:Macro Economics helps Government for framing economic policies by providing reliable statistics of aggregate variables like national income, General Price level, wage rate etc. 3) Helps in analyzing the problem of unemployment:Macro economics is very useful in studying the causes, effects & remedies of general unemployment. E.g. the general theory of employment is given by Keynes is a complete a macro analysis. 4) Basis for Micro Economics:Macro economics provides a basis for the study of micro economics. For e.g. A Group behaviour helps us to draw interferences about individual behaviour. 5) Trade Cycle:It helps us in analyzing the phenomenon of trace cycles. 6) Study of Aggregates :The behaviour of aggregate must be studied to draw correct conclusions. This is necessary because the facts to be analysed are large & complex.

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Difference between Micro & Macro: Micro Economics Meaning Microeconomics is a study of particular firm, Macro economics deals not with individual particular household, Individual prices, wages, incomes but with national incomes not with income, individual Industries etc. individual prices but with price levels, not with individual outputs but with the national output. Approach The approach of Microeconomics is The approach of Macroeconomics is Microscopic because it analyzes the behaviour Macroscopic because it deals with Aggregates. of Individuals. Methods The Method adopted in Microeconomics is The Method adopted in Macroeconomics is called Slicing method called Lumping method Scope Scope of Micro economics is said to be limited as compared to Macro economics Scope of Macro economics is wider as it deals with entire economy. Macro Economics

Nature of assumptions Microeconomics is based on Ceteris Paribus assumptions, hence it is less realistic. Macroeconomics is based on very few assumptions, hence it is more realistic.

Equilibrium analysis It deals with Partial equilibrium analysis It deals with General equilibrium analysis Subject Matter

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2. CONSUMER BEHAVIOUR
Utility:Utility is the Quality in products that makes individual wants to buy them. Utility refers to the capacity of a commodity or service to satisfy a human wants. Hence, It is considered as want satisfying power of a commodity. Features of Utility: [S2UPARI-MO] 1) Subjective Concept: Utility is Subjective as well as psychological concept. It deals with personal likes, dislikes etc, hence it differs from person to person. For e.g.:- A smoker finds utility in cigarette but a non-smoker does not. 2) Different from Satisfaction: Utility is a power of commodity to satisfy human wants. It means satisfaction is a result of utility. For e.g.:- A smoker Identifies utility from a cigarette by seeing them but he can get satisfaction only when he will consume cigarette. 3) Different from Usefulness: Utility is a quality which is their in the product may not necessarily be useful. For e.g.:- Many drug addicts enjoy satisfaction from opium but opium is harmful for health. Hence, utility is different from usefulness. 4) Different from Pleasure: A commodity having utility does not necessarily give pleasure. For e.g.:- A medicine relieves the child from fever, it has utility but does not give pleasure due to bitter taste. Hence, utility & pleasure are different. 5) Abstract Concept: Utility does not have physical existence; hence it cannot be seen nor touched. It is a psychological concept, it is a feeling. 6) Relative Concept: Utility differs from person to person, place to place, time to time.
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For e.g.:- Woolen Clothes possess more utility in winter than in summer. Hence utility is a relative concept. 7) Intensity determines utility: A great intensity keeps the utility very high or vice versa. For e.g.:- A child has a greater intensity to consume chocolate, he finds more utility in chocolate after consumption if he satisfied his utility in chocolate will be come low. Hence utility is determined by the degree of intensity. 8) Utility is Multipurpose: Some commodities have specific use & some commodities used for different purpose. For e.g.: Electricity satisfies several purposes hence utility derived from such commodity is also multipurpose. 9) Objectively Immeasurable: As utility is a psychological concept. It is a feeling & feeling cannot be measured numerically. Hence it is immeasurable. Types of Utility: [SPK-FPT] 1) Service Utility:Utility derived from the personal services of doctors,engineers,teachers is termed as service utility. It is created by acquiring specialized Knowledge & Skills. 2) Place Utility:When the utility of a Commodity increases by changing the place & utilization is called place utility. The goods are transported from a place of abundance to a place where there is a need for product. For e.g.:- Woolen cloths in Kashmir will have higher utility than in Mumbai. Knowledge Utility:When the utility of a commodity increases due to knowledge of how to use the same, it is called knowledge utility For e.g.:-Calculator & Computer are more useful to those who have knowledge to operate them. Knowledge utility can be increased to advertisements. Form Utility:When the utility increases by changing the form or structure of a commodity is called form utility. Form utility in product can be increased by changing its shape,size,colours etc. When a carpenter converts wooden logs into furniture, its form utility increases. Possession Utility:6

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Utility derived from transfer of ownership of goods from person to another person is called possession utility. For e.g.:- Wholesalers & retailers facilitate transfer of goods from themselves to the buyers & buyers enjoy possession utility.

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Time Utility:When Utility increases by changing the time of utilization it is called time utility. For e.g.:- Umbrellas have more utility during rainy season than in summer. Total Utility Marginal Utility

MEANING Total Utility refers to the total psychological Marginal Utility refers to the addition made to the satisfaction which a consumer obtains from total Utility by consuming one more unit. consumption of all units of a particular commodity. INTER-RELATION When the total utility is maximum, the Marginal When the Marginal Utility is maximum, the total Utility is zero. Utility is the minimum. SLOPES Total Utility slopes upward at a diminishing rate from Marginal Utility curve slopes downward at a left to right. diminishing rate from left to right. FORMULA MUn=TUn-TUn-1

TUn=MU1+MU2++MUn

NUMERICAL VALUE In a normal case, the numerical value of total utility is The numerical value of marginal utility can be always positive. positive, zero or even negative.

Cardinal Utility Cardinal utility can be measured quantitatively.

Ordinal Utility Ordinal utility can not be measured quantitatively


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but can be measured in terms of preferences. Cardinal utility is measurable, addable & comparable. Ordinal utility cannot be addable but comparable only in terms of preference (Ranks) Utility cannot be measures ordinarily for e.g.:- It is expressed like 1st, 2nd, 3rd, 4th, etc

Marshall assumes utility is in the form of utils.

cardinally measurable

for e.g.: It is expressed numerically 1, 2, 3, 4

Explain the Relationship of TU & MU 1) Introduction : This theory has been propounded by Mr. Alfred Marshall. He tried to explain that, how MU of a particular commodity changes in stock of a commodity. 2) Meaning:

Total utility: Total utility may be defined as the total psychological satisfaction which a consumer obtains from consumption of all units of a particular commodity. In other words it is the sum of all marginal utilities of a particular commodity. Marginal utility: Marginal utility refers to the addition made to the total utility by consuming one more unit. In other words it is the additional utility obtained from last unit consumed. 3) Explanation with the help of the following schedule & diagram

Utility schedule: Units Consumed (Mangoes) 1 2 3 4 5 Total utility 10 15 18 20 20 Marginal Utility 10 5 3 2 0


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From the above schedule it appears that: As the consumption of number of successive mangoes increases, the total utility increases at a diminishing rate & the marginal utility decreases at a diminishing rate. The consumption of 1st unit of mango provides the highest amount of satisfaction i.e.10 units. As the consumer goes on consuming more mangoes i.e. 4th unit, the TU increases & the MU diminishes. But, at the 5th unit of consumption, the marginal utility is zero, it means the consumer wants is totally satisfied and TU ends to remain at maximum. This point is called as Point of Safety. After safety point, if consumer consume further mangoes i.e., 6th unit the MU become negative & also TU will also start falling. Utility Diagram:
25 20 15 10 5 0 1 2 3 4 5 6 TU MU

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Explanation: From the above diagram it appears that: The MU curve slopes downward (negative slope)from left to right it indicates the diminishing marginal utility & TU curve slopes upward from left to right. At the consumption of 1st unit both the MU & TU was same i.e 10units. At the consumption of 5th unit, TU was become maximum & MU becomes zero i.e. the MU touched to X-axis which called Point of Safety. Beyond the safety point MU curve became negative & TU starts falling. Law of Diminishing marginal utility: 1) Introduction : (same as relationship between TU & MU)
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2)

Statement of law of DMU: The additional benefit which a person derives from a given increases of his stock of a thing diminishes with every increase in the stock that he already has"

3) Explanation with the help of the following schedule & Diagram: (same as relationship between TU & MU) Assumption of Law: [CU-MRRIS] 1) Continuity:The law assumes that commodity which is consumed should be continues. It means there should not be long time interval between the consumption of one unit & another. If there is a long gap the utility may not diminish. Uniformity or Homogeneity: The law assumes that all the units of a commodity should be identical in respect of size, shape, colour, quality etc. If the goods are not homogenous the MU may not diminish. Measurability: Utility is a psychological & abstract concept which cannot be measured in numbers. But, Law assume that utility can be measured cardinally i.e. in numbers. Rationality: It is assumed that the behaviour of the consumer should be normal & rational at the time of analyzing the law. He should aim at maximum satisfaction Reasonability: It is assumed that the unit consumed should be of normal standard size.i.e. the unit should not be too big nor too small. Income, Taste & Habit: It is assumed that the income, taste & habit of consumer should remain constant throughout the analysis. If any of the above factors changed the utility of consumer may start increasing hence assumed to be constant. Single Use: The Law assumes that the commodity used for consumption should not be of multiple uses. Due to multiple use the consumers. Utility may increase for that product for other use. Hence it is assumed that commodity should be of single use.

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Conclusion: Apart from the above assumption the other factor like: No change in the price of other products, Real consumption etc. also assumed to be constant.

Exceptions to the Law: [RMMM-HD] 1) Reading: It is said that a scholar derives more & more utility by reading more & more books. It is noted that scholar refers different books from different fields by different authors for (knowledge) satisfaction. Hence it violates the assumption of homogeneity hence it may not be an exception to Law. Money: It is said that with every additional rupee, the purchasing power increases & the individual gets more & more MU. But it is not true because the poor people get greater utility of money as the rich people enjoy less utility. Hence it proves that MU of money diminishes but it can never be zero or negative. Misers: It is said that miser enjoy more utility when he acquires more wealth. It is noted miser only accumulating money & not spending it. Hence it violates the assumption of rationality & real consumption hence it may not be any exception. Music & Poetry: It is said that repeated listening of music & poetry may give more & more utility. But if an individual is given the same song to listen then beyond certain stage, the marginal utility will diminish. Hence it may not be considered as exception because it may violates the rule of homogenity Hobbies: It is said that certain hobbies like collecting stamps, old coins etc gives more utility as more units are collected. It is noted that, the stamps & coins collected are not (homogenous) same. Hence it violates the assumption of homogeneity, hence it may not be considered as exception. Drunkards: It is said that a drunkards gets more utility when he drinks more. It is noted that, the behaviour of drunkards is irrational or abnormal. Hence it violates the assumption of rationality hence it may not be considered as exception.
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Conclusion: From the above cases it is clear that may be they are considered as exception but they are not real exceptions as they violets the assumptions of Law. Price & MU Every rational consumer tries to maxims his total satisfaction, for this purpose he consumes commodity; he compares MU with the price. This can be explained with the help of following schedule. Units Price MU Worth of (P) MU 1 5 8 8 2 5 6 6 3 5 5 5 4 5 3 3 5 5 1 1 Assumption: 1Rs = 1 Units of MU Explanation: A person consumes as long as the MU is greater than price or equal to price, after that he stops purchasing because MU became lesser than price. Intramarginal Units: At This level MU is more than price Thus the consumer consumes up till 2 units without any hesitation. Marginal Unit: This level MU (5Rs) is equal to price(5Rs) Thus the consumer will decide whether to consume 3rd unit or not Hence he attain equilibrium & derives maximum satisfaction Extra Marginal unit At this level MU is less than price Thus to consumer will not be ready to consumes 4th & 5th Unit Conclusion:It is therefore said that price determines MU but MU does not determine the price. Limitations of Law:1. Cardinal Measurement:As utility is a psychological concept. It is a feeling & feeling cannot be measured cardinally.
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Intramarginal units (MU>P) Marginal unit (MU=P) Extra marginal unit (MU<P)

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Hence it is immeasurable. 2.

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Comparison of MU:Law assumes that MU of every successive units is comparable. But, practically it is not possible. Indivisible / Bulky goods:Law cannot be applied to bulky or indivisible goods like TV sets, Motor car etc. Because practically No people purchase 10 TV sets or cars at a time. Unrealistic assumption:The law is based on various assumptions like homogeneity, continuity, rationally etc. are unrealistic. One commodity theory:This law is restricted to one commodity only. But, practically a consumer buys more than one commodity at a time.

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Importance or Usefulness of Law:1. Use full for formulation of various laws :Various laws like: Law of demand, Law of equi -marginal utility, consumer surplus etc. derived on the basis of this law only. 2. Diamond water paradox of Adam smith :DMU helped to explain this riddle. It states that, as the supply of water is unlimited, it has less utility & the price is low. Where as the supply of Diamond is limited. It has high level of utility & there price are very high. 3. Consumer equilibrium :This law helps the consumer to attain maximum satisfaction (i.e. consumer equilibrium) when MU is equal to price. 4. Helps producers to fix prices :Law of DMU helps the producers to fix the prices for their goods according to the level of supply. I.e. if the supply of commodity of goods is large, tax marginal utility will be low & thus producer will charge low price or vice versa. 5. Helps to maintain the proper level of Demand & Supply :Law of DMU helps to maintain balance between demand & Supply.
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For e.g. If the supply of goods will fall short, the MU will increase & thus price will increase, Thus the increase in price will encourage the supplier to increase the supply of goods (Law of Supply)

6. Help to Discriminate the price of Goods:Monopolist change high price for goods to the rich people who have less marginal utility for money. And he change low price for goods to the poor people, who has high marginal utility for money. Principal of Equi-Marginal utility: The Law of equi-marginal utility explains how a consumer with a given income gains maximum satisfaction. 1. Explanation of Law: The law states that the consumer will distribute his money income between different goods in such a way that the utility derived from the last unit is the same. 2) Symbolically, consumer equilibrium as per the principal can be expressed as follows:MuA = MUB = MUC = = MUN = MU per unit of income PA PB PC PN The above symbol states that the consumer can be in equilibrium; the ratio of marginal utility of a good A to its price should be equal to the ratio of MU of good B to its price & so on. 3) The consumer has to spend 24 Rs. on two goods A & B & their price are Rs 2 &Rs 3 respectively. Units MU of A MUA / Price A MU of B MUB / Price B 1 30 15 24 8 2 20 10 15 5 3 16 8 9 3 2 4 8 4 6 5 6 3 3 1 2 6 7 1 0.33 The schedule explains that : The consumer will get maximum satisfaction where the ratio of MU to price will be equal for all the commodities. When consumer consumes 6 units of commodity A & 4 units of commodity B where total expenditure is 12Rs.on A & 12 Rs. on B. In to the total utility which consumer will device will be maximum i.e.(A=84 + B=56) =140. 4) Assumptions of Laws: Utility is cardinally measurable. Price of goods remains constant.
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Incomes of consumer remain constant. The consumer behaves rationally etc.

3. DEMAND
Meaning of Demand: Demand refers to the quantity of goods & services which consumers are willing & able to purchase at various price during a period of time. Symbolically, Demand = Desire to buy + Purchasing power + willingness to pay. Demand is always expressed with reference to price, time & Quantity hence it is called as relative concept. For E.g. Today when the price of chocolate is Rs. 8 per chocolate, Ram has demanded 10 choclates. Determinants of Demand: [ P3H2C2-FS] Meaning of Demand: (Refer Q1 point a) There are various factors which influence the demand which are explained as follows:1. Price: Price is one of the most important factors which affect the Quantity demanded. Price has inverse relationship with Quantity demanded. Therefore, when the price increases quantity demanded decreases or when the price decreases, Quantity demanded increases. 2. Price of complementary goods:Complementary goods are those goods which are consumed together or simultaneously. Therefore, when the price of one goods increases the demand for its complement goods decreases. (OR) When the price of one goods decreases the demand for its complement goods increases. For E.g. Car & petrol, Ink & Ink pen, Tea & Sugar etc. 3. Price of substitute goods:Substitute goods are those goods which can be easily used in place of one another. Therefore, when the price of one goods increases the demand for its Substitute goods increases. (OR) When the price of one goods decreases the demand for its Substitute goods also decreases. For E.g. Tea & Coffee, Coca-Cola & Pepsi etc. 4. Household Income:There is a direct relationship between the income & a quantity demanded. Therefore, when the income increases the demand for Goods also increases or vice versa. Incase of necessary goods the change in income brings less change in demand for necessaries as compare to Luxury goods.
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5. Habit, Taste & Preference:Change in habit, tastes & preference also determines demand. The people who are habituated will not give up such goods easily. For e.g. Demand for cigarettes, liquor, etc. Incase of taste & preferences the goods which are more in fashion command higher demand then goods which are out of fashion. 6. Size of population:When the size of population is large in a country the demand for goods are huge or vice versa. 7. Composition of population:If there are more old people in a region the demand for spectacles, walking sticks etc. will be high. If the population consists of more children, demand for toys, baby foods, & chocolates will be high. 8. Climate:A change in climate can influence the extent of the market. For E.g. in Rainy season, demand for umbrellas & Rain coats, are high were as demand for woolen cloths remains high during winter season. 9) Future price expectations:If the consumers expects that price of a commodity will raise in future the demand for a commodity at present will be high even though the price are high. Similarly, if consumers expect that price will fall in future the demand for goods at present will be low even though the prices are low. Conclusion: Apart from the above factors the other factors like class, groups, weather conditions, advertisement etc also affect the demand. TYPES OF DEMANDS: 1) Direct Demand:A demand is said to be direct when the goods are demanded to derive satisfaction directly. Demand for consumption of goods like food, soft drinks, houses, TV etc. It is also called as autonomous demand. 2) Indirect / Derived Demand:16

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When the demand for goods is derived from demand for other goods, it is said to be derived demand. Normally, factors of productions like Labour, Land, Raw material, Machinery have derived demand. In case of derived demand, the fall in price of one commodity (Finished goods) will result in the demand for other goods (Raw material.) 3) Complementary Demand / Joint Demand:When two goods are demanded jointly to satisfy a single want is called complementary demand. Therefore, when the price of one good increases the demand for its complement goods decreases. (OR) When the price of one goods decreases the demand for its complement goods increases. For e.g. Car & petrol, Ink & Ink-pen, Tea & Sugar etc. A fall in price of car will leads to an increase in demand for petrol or vice versa. 4) Substitute / Competitive Demand:Substitute demand takes place when the goods are used in place of one another. Therefore, when the price of one goods increases the demand for its substitute goods also increases. OR When the price of one goods decreases the demand for its substitute goods also decreases. For eg. Tea & Coffee, Coca cola & Pepsi etc. The fall in price of coffee will Leads to decrease in demand of tea & vice versa. 5) Composite Demand:When one commodity satisfies several purposes the demand for that commodity is called composite demand. Eg. Demand for wool, electricity, steel, etc. When the demand for product by one use increases the supply for product for another use decreases. DEMAND SCHEDULE & DEMAND CURVE 1) DEMAND SCHEDULE: a) A demand schedule is a tabular statement, which shows different quantities of a commodity demanded at a different price. b) A demand schedule is a list of possible alternatives price quantity combinations. c) INDIVIDUAL DEMAND SCHEDULE: It is a tabular statement, which shows different quantities of a commodity demanded by an individual consumer at a different price at a particular time.

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INDIVIDUAL DEMAND SCHEDULE


PRICE (Rs) QUANTITY DEMANDED (UNITS) 25 20 15 10 5

1 2 3 4 5

It indicates that when the price rises the demand falls, & when the price falls, then the demand rises. d) MARKET DEMAND SCHEDULE: It is a tabular statement, which shows different quantities of a commodity demanded by all the Individuals in the market at different prices at a given period of time. The market demand schedule can be derived by summing up individuals demand, explained as follows: MARKET DEMAND SCHEDULE
PRICE INDIVIDUAL DEMAND SCHEDULE TOTAL DEMAND C 10 8 6 4 2 65 52 39 26 13

A 1 2 3 4 5 5 4 3 2 1

B 50 40 30 20 10

e) Both the demand schedule shows inverse relationship between price & quantity demanded. 2) DEMAND CURVE:a) The demand curve is a graphical representation of demand schedule which shows different quantity of goods is demanded at different prices. b) INDIVIDUAL DEMAND CURVE:It is a graphical representation of individual demand schedule showing the relationship between price & quantity demanded.
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The demand curve DD slopes downward from left to right indicating the inverse relationship between price & the quantity demanded. c) MARKET DEMAND CURVE:It shows graphical representation of MDS showing the relationship between price & quantity demanded at different prices. The MDC is a summation of the Individual demand curve.

Here D1, D2, D3, are the individual demand curve & MD is a market demand curve. Law of Demand: Law of demand is a propounded by Mr. Alfred Marshall. It shows inverse relationship between price & demand. Statement Of Law :Other things being equal, the demand for commodity tends to rise as its price falls, conversely, as the price rises, its demands tends to fall. Explanation: The Law of demand can be explained with the help of following Demand schedule & Demand curve. INDIVIDUAL DEMAND SCHEDULE: INDIVIDUAL DEMAND SCHEDULE
PRICE (RS) Quantity Demanded (units) 5 4 3 2 1

1 2 3 4 5

From the above schedule it can be observed that: When the price is less (Rs.1), the demand is more (5 Units), & when the price rises (Rs. 5), the demand falls (1 Unit).
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Thus it indicates inverse relationship between the price& quantity demanded.

INDIVIDUAL DEMAND CURVE: From the above diagram it can be seen that: The demand curve slopes downward from left to right. The demand curve has negative slope which indicates inverse relationship between price & demand. This shows that more the price, less quantity demanded & vice versa. Assumptions of the Law of Demand:1) Price of Complementary Goods Remains the Same:In case of complementary goods when the price of one goods change, the demand for its complementary goods change without change in its price. For e.g. Car & petrol, Ink & Ink pen, Tea & sugar, etc. This is in violation of Law of demand, hence the price of complementary goods remain constant. 2) No change in price of Substitute Goods:In case of substitute goods when the price of one goods changes, the demand for its substitute goods changes without changes in its price. For e.g. Bus Transport, Railway Transport, Tea & Coffee etc. Hence it is assumed to be constant. 3) No change in household income:There is a direct relationship between the income & demand. Therefore, as the income increases the demand for goods also increases or vice versa, without change in its price. Hence income is assumed to remain constant. 4) No change in taste & preference:In this case, a change in consumers taste & preference may lead to a change in demand irrespective of the position of the price. Hence, the taste & preference are assumed to be constant. 5) No future expectation of price change:If consumer expects a fall or rise in price in the near future, he acts against the law of demand. For e.g. If he expects a further fall in price after two months, he may prefer to purchase less though the price is low at present. Hence it is assumed to be constant. 6) No change in population:If population increase, the demand for food, cloth & other essential goods increases even though price remain constant. This is against the law of demand hence assumed to remain constant.
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7) No introduction of new goods:Introduction of new goods due to innovation may influence the consumer & change their preference. Hence there should be no introduction of new goods. 8) No change in climate:Due to change in climate & weather conditions, the demand for goods like umbrellas, Ice creams, etc. may change, irrespective to change in price. Hence change in climate is assumed to be constant. Conclusion: Apart from the above assumption the other things like change in govt. policy, advertisements etc. are also assumed to remain constant. EXCEPTIONS OF THE LAW (GNPD-F2I2) According to the Law of demand, there is an inverse relationship between price & demand. But incase of some products it does not work, that exceptions are as follows:1) Giffen Goods:Sir Robert Giffen noted that when the price of inferior goods falls the demand of such goods also falls. Robert Giffen found out that inferior quality product such as maize, jowar, Bajra, etc. exception to the Law of demand. Therefore, inferior goods are named after Giffen & they are called Giffen Goods. 2) Necessary Goods:Incase of necessary goods, if prices are increasing the demand for the goods remains same/ constant. For e.g. Salt, Medicines & other necessity products. 3) Prestige Goods:There are certain goods which represent exclusive status. Demand for prestige & price have direct relationship. For e.g. Rich people buy diamonds in higher quantities, if their prices are more. 4) Demonstration effect:It refers to tendency on the part of Low- income groups to imitate standard of living of high income groups. In such cases, even though the prices of some commodities are high, low income group people demand more. 5) Fashion:If a commodity is out of fashion, people demand less of it, even though its less & vice versa. 6) Future Exceptions:- (same explanation as in Q II point 9) When the consumer expects a rise in price in future he will demand more goods even though the current prices are high & vice versa.
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7) Illusion:When the price of goods falls, the consumer feels that its quality must have declined. Therefore, they demand less though the prices are less. 8) Ignorance:When the consumer is unaware price. This is called Ignorance effect.

of the price of the commodity, consumer buys more at a higher

Conclusion:Apart from the above exceptions the other points like speculation, emergencies, Depression, etc. does not follow Law of Demand. VARIATION IN DEMAND: a) When the demand for a commodity falls or rises due to change in price alone other things remain same, it is called Variation in demand. b) Variations are shown by movement along the same demand curve from left to right or right to left or vice versa. c) Variation can be either extension or contraction. Extension in demand: (Refer Distinguish Between) Contraction in demand: (Refer Distinguish Between) CHANGES IN DEMAND: a) When the demand for a commodity falls or rises due to changes in factors other than price, it is called changes in demand. b) Changes are shown when the Demand Curve shifts from left to right or right to left, & new Demand Curve is formed. c) Changes can be either Increase or Decrease. Increase in Demand: (Refer Distinguish Between) Decrease in Demand: (Refer Distinguish Between)

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Extension in Demand A rise in demand caused by a fall in price alone is called expansion of demand. Expansion of Demand is caused by a fall in the price.

Contraction in Demand A fall in demand caused by rise in price alone is called as Contraction of Demand. Contraction of Demand is caused by a rise in the price.

From the above diagram, it can be seen that as the price falls from OP to OP1, the demand rise from OQ to OQ1. Equilibrium point moves downward on the same demand curve from left to right. INCREASE IN DEMAND A rise in demand caused by favourable changes in factors than price is called increase in demand. Increase in demand is caused by: 1) Rise in income 2) Increase in liking etc.

From the above diagram it can be seen that as the price rises from OP to OP1, the demand falls from OQ to OQ1. Equilibrium point moves upward on the same demand curve from right to left.

DECREASE IN DEMAND A fall in demand caused by unfavourable changes in other factor than price is called decrease in demand. Decrease in demand is caused by: 1) Fall in income 2) Decrease in liking etc.

From the given diagram, it can be seen that the demand rises from OQ to OQ1, at the same price OP.

From the given diagram, it can be seen that the demand falls from OQ to OQ1, at the same price OP.
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In this the equilibrium point shifts on new demand curve to the right of the original demand curve.

In this the equilibrium point shifts on new demand curve to the left of the original demand curve.

4. ELASTICITY OF DEMAND
PRICE ELASTICITY OF DEMAND:Meaning: The elasticity of demand measures the response of the demand for the commodity to change in price - Bouling Price elasticity is the percentage change in quantity demanded divided by percentage change in price. -Samuelson. TYPES OF PRICE ELASTICITY OF DEMAND:The following are the different types of price elasticity of demand:1) Perfectly Inelastic:The demand is said to be perfectly inelastic, when a proportionate change in price brings no (zero) change in quantity demand. The numerical value of perfectly inelastic demand is zero i.e. Ed=0 The demand curve is parallel to Y-axis. 2) Relatively inelastic demand:The demand is said to be relatively inelastic, when a proportionate change in price brings less than proportionate change in Quantity demanded. The Numerical value of relatively inelastic demand is less than one i.e. Ed<1 The demand curve DD is Steeper to X- axis. 3) Unitary elastic demand:The demand is said to be unitary elastic when proportionate change in the price brings equal proportionate change in quantity demanded. The numerical value of this demand is one i.e. Ed=1

4) Perfectly elastic demand:The demand is said to be perfectly elastic, when a slight proportionate change in the price brings infinite (unlimited)
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proportionate change in quantity demanded. The numerical value of a perfectly elastic demand is The demand curve DD is parallel to X- axis.

5) Relatively Elastic Demand:The demand is said to be relatively elastic, when a proportionate change in the price brings greater the proportionate change in quantity demanded. The numerical value of relative elastic demand is greater than one i.e.>1 The demand curve DD is flatter to X-axis. Conclusion:The above five types of price elasticity which can be calculated by the Percentage method or Total expenditure method or Point method. Methods of measuring Price Elasticity of Demand:1) Percentage Method or Ratio Method Or Proportionate Method:The price elasticity of demand according to this method can be measured by dividing the percentage change in the quantity demanded by percentage change in price. This method is also called as Percentage method or Ratio method or Proportionate Method. The formula used for measurement of elasticity is as follows:Price Elasticity of demand= Proportionate change in demand / proportionate change in price. Symbolically, Ep= Q/Q* 100P/P*100 = Q/Q*P/P =Q/P*P/Q Where 1) Q = change in Quantity demanded, 2) P = Change in Price, 3) P = Original price 4) Q = Original Quantity Calculation Price Original New Ep =Q/P*P/Q
25

Demand 10 5

50 60

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= 5/10 * 50/10 = 25/10 =2.5

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As the numerical value of elasticity is greater than one i.e. 2.5 hence it is Relatively elastic or more elastic demand. 2) Total Outlay Method or Total Expenditure Method. Under this method one can find the elasticity of demand by observing the changes in Total Outlay with reference to the change in price. This method can be explained with the help of following examples (Demand Schedule). SRNO. Price 1 2 a) 3 4 b) 5 6 c) 7 8 Quantity Demanded 8 7 6 5 4 3 2 1 Total Outlay 8 14 18 20 20 18 14 8 Ed>1 Relatively elastic demand Ed=1 Unitary Elastic demand Ed<1 Value of Elasticity Type of Demand Relatively Inelastic Demand

a) Inelastic Demand:The demand is said inelastic when the price of goods increases & the total expenditure on goods also increases. OR When the price of goods decreases & the total expenditure on goods also falls. b) Unitary Elastic Demand:The demand is said unitary when the total expenditure remains same even though the price increases or decreases. c) Elastic Demand:The demand is said elastic when the price increases & the total expenditure on goods decrease. OR When the price of goods decrease & the total expenditure on goods
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increases.

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It can be explained with the help of following diagram:In the diagram the curve PUDO indicates the relationship between price & outlay. The downward sloping portion (PU) indicates elastic demand. The upward sloping portion (OD) indicates inelastic demand & (UD) shows the demand is unity. 3) Point Method or Geometric Method:Under this method the elasticity of demand can be find out at a point on the Demand curve which can be explained with the following diagram:Linear demand Curve:Under LOC a straight line is drawn to meet X & Y axis at point B & A respectively. The straight line is divided in to equal parts as shown in the diagram viz.AC: & BC The upper segment is AC & Lower segment is BC The elasticity of demand can be calculated by using this formula: ED = Lower segment of Demand curve
Upper segment of demand curve

It indicates that the elasticity of demand is different at different points. If the point falls under upper segment then the demand will be more than 1 & it is elastic. I.e. Ed>1 or Ed= . Non Linear Demand Curve:If the demand curve is non linear in such case we draw a tangent line which extends to meet X & Y axis at point B & A respectively. This can be explained with the help of diagram. In the above diagram we draw a tangent line at point C. Then the elasticity of demand is measured by dividing the line in to upper segment & lower segment. Same as Linear demand Curve. INCOME ELASTICITY OF DEMAND. Meaning:The elasticity of demand measures the response of the demand for the commodity to change in income of consumer. Income Elasticity= % Change in quantity demanded / % Change in Income Symbolically, Ey= Q/y*y/Q Where, ey= elasticity of income,
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Q= change in Quantity demanded. Q= Original Quantity Y= Change in income Y= Original income Types of Income Elasticity of demand. 1) Negative Income Elasticity:The inferior goods have a negative income elasticity of demand. When the income increases the demand decreases & when the income decrease the demand for inferior goods increases. 2) Zero Income elasticity of demand:If a change in income of the consumer does not change the demand for a commodity then the income is said to be zero. For e.g. News paper, salt, etc. have zero income elasticity of demand. 3) Positive income elasticity of demand:if a change in income have a direct relationship with the change in demand then it is called positive income elasticity of demand. There are three types of positive income elasticity which are as follows:a) When a proportionate change in income brings equal proportionate change in demand is called Unitary income elasticity or ey=1. b) When a proportionate change in income brings a lesser proportionate change in demand is called Inelastic demand or ey<1 c) When a proportionate change in income brings greater proportionate change in demand is called Elastic demand or ey>1 Conclusion:When the demand for Quantity gets affected only by income of consumer it is called Income Elasticity without change in price of commodity. CROSS ELASTICITY OF DEMAND:Meaning:Cross elasticity refers to the degree of responsiveness shown quantity demanded of one commodity in response to a given change in price of another commodity. Cross Elasticity= % Change in quantity demanded of X / % Change in Price of Y Formula:- Symbolically, Ec= Q/Q* 100P/P*100 = QX/QX*PY/PY =QX/PY*PY/QX Where, Ec= Cross elasticity of demand. Qx= Change in Quantity demanded of X
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Qx= Original Quantity of demand X Py= Change in price of Y Py= Original price of Y. Types of Cross Elasticity:1. Cross Elasticity for Substitutes is positive:In case of substitutes, there is a direct relationship between the price of one commodity & the Quantity of another commodity. For e.g. When the price of tea increases the demand for coffee increases or When the price of tea decreases the demand for coffee decreases. Diagram: From the above diagram, when the price of Tea increases OP to OP1, the demand for coffee has also increased from OQ to PQ1 In Cross elasticity, the elasticity is high when the substitutes are perfect. If the substitutes are poor the elasticity is low. 2. Cross elasticity for complementary goods are negative: In case of Complementary goods, there is as inverse relationship between price of one commodity & the demand of another commodity. For E.g. When the price of car falls the demand for the petrol rises. When the price of car rises the demand for the petrol falls. Diagram: From the above diagram, when the price of car increased from OP-OP1 the demand of petrol has been decreased from OQ TO OQ1. 3. Cross elasticity for Unrelated goods is zero:In case of unrelated goods, the price of one commodity does not have any effect on the demand of another commodity hence the effect is zero. For e.g. Car & Chair, Coldrinks & Fruits etc. Diagram:From the above diagram: - Even though the price of car is continuously increasing the demand of chair is same. Conclusion:In case of complementary elasticity the relationship is explained between the two products.

(AND)

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FACTORS INFLUENCING THE ELASTICITY OF DEMAND [N2AI-PIU-R] 1. Nature of Commodity:This is one of the important factors which influence the elasticity of demand. In case of Luxurious goods, like cars, perfumes, etc. have elastic demand. Incase of Necessities like salt, medicines, etc. have inelastic demand. 1. Number of Uses:The Commodity having many uses has a relatively an elastic demand. For e.g. milk, electricity, etc. The commodity having specific use has a relatively inelastic demand. 3) Availability of substitutes:The commodity which have many substitute in the market having Elastic Demand. For E.g. Soaps, Shampoo, Biscuits, etc. The commodity which has no substitute in the market having inelastic demand. For e.g. salt. Income of Consumers:The people who have a high level of income, does not get affected by change in price, hence they have relatively inelastic demand. The people who are poor their demand get changes as the price change, thus they have relatively elastic demand. Proportion of Income:If people spend a small proportion of his income on a commodity, it has relatively inelastic demand. For e.g. Match box, pins, etc. If people spend a high proportion of his income on a commodity, it has relatively, elastic demand. For e.g. Perfumes etc. Influence of Habits:If an individual becomes habituated to use commodity then for them it has inelastic demand. For e.g. Smokers demand for cigarettes. Urgency & Postponement:If the use of a commodity is urgent then the demand will be relatively inelastic. For e.g. Medicines. If the use of a commodity is not urgent & can be postponed to a future date, then the demand will be relatively elastic. Range of Price:Hire price goods like Diamonds & low Price goods like match box have an inelastic demand. In Hire price goods & low price goods when the price changes the demand remains almost same. Where as, Average price goods like T-shirts, perfumes etc. have an elastic demand.

4)

5)

6)

7)

8)

CONCLUSION: - Apart from the above factor other factors like Tied demand, Time Period, etc. also influence Elasticity of demand.
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5. Supply
Supply: Supply refers to the quantity of a Goods & Services, which the producers or traders are willing & able to offer for actual sale at a given price at a point of time. Supply is always expressed with reference to price, time & quantity hence it is called as relative concept. Supply is that part of stock which is actually brought out in market for sale. For e.g. The sellers daily supply is 100 oranges at Rs10 per unit. Stock:The term stock refers to the total Quantity of a commodity available with the producer or trader for a sale at a particular point of time. Stock includes the total Quantity produced in the current year plus balance remaining from the last year stock. Symbolically: Stock = Total Current Production + Balance of last year. Supply is a part of stock which is actually offered for sale. Reservation Price:Reservation price is the minimum price below which the seller refuses to sell. If market price is equal to reservation price, the seller will offer a small amount of goods. If market price is more than Reservation price, the seller will offer a larger quantity of goods. If market price is lesser than Reservation price, the seller will not supply th goods. Generally Perishable goods have lower Reservation price & Durable goods have higher reservation price. SUPPLY SCHEDULE & SUPPLY CURVE Supply Schedule:a) A supply schedule is a tabular statement which shows different quantities of a commodity offered for a sale at different prices. b) A supply schedule is a list of possible alternatives of price quantity combinations. c) Individual Supply Schedule:It is a tabular Statement, which shows different quantities of a commodity offered for a sale by individual firms at different prices. INDIVIDUAL SUPPLY SCHEDULE
Price (Rs) Per Unit 1 2 3 4 Quantity Supplied (Units) 1 2 3 4

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It indicates when the price raises the supply also increases & when the price fall Quantity supplied falls. d) Market Supply Schedule:It is a tabular statement, which shows different quantities of commodities are offered by all the individual firms at different prices. The market supply schedule can be derived by summing up the supply of all individuals firms, explained as follows Market Supply Schedule
PRICE INDIVIDUAL SUPPLY SCHEDULE A 1 1 B 2 C 4 7 MSS

2 3 4 5

2 3 4 5

3 4 5 6

5 6 7 8

10 13 16 19

e) Both the supply schedules show direct relationship between price & Quantity supplied.

Supply Curve a) The supply curve is a graphical representation of supply schedule which shows different quantities of goods are offered for sale at different prices. b) Individual Supply Curve:It is a graphical representation of individual supply schedule showing the relationship between price & Quantity supplied. The supply curve SS slopes upward from left to right indicating the direct relationship between price & Quantity supplied.

c) Market Supply Curve:It shows a graphical representation of MSS showing the relationship between price & Quantity supplied. The MSC is a summation of the Individual firms supply curves.
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Here S1, S2, S3 are the Individual supply curve & MS is a market supply curve.

FACTORS AFFECTING SUPPLY: [P2WAET2F2N] 1] PRICE: Price is one of the most important factors which affect Quantity supply. Price has direct relationship with Quantity Supplied. Therefore, when the price increases, Quantity supplied increases or when the price decreases, Quantity supplied decreases. 2] Price of Other Goods: When the price of the other goods increases, the firm start producing the other goods which leads to reduction in supply of the goods whose price remains unchanged. For E.g. If the price of A increases faster then B the supplier increase the supply of A as compared to B whose price is less. 3] WEATHER CONDITION:The supply of the agricultural products depends upon the weather condition. When Climate, Rainfall, Temperature, etc. are favourable, the supply of agricultural products increases. OR Where as drought, floods, etc. reduce the supply of products. 4] Availability of Inputs:If Inputs like Raw Material, Labour, Equipments, etc. are scarcely available, it will hamper the production of goods, which results in reduction of supply. 5] Exports & Imports:Exports of goods results in a reduced supply of goods in the Domestic Market.
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Imports of goods lead to increase the supply of goods in the Domestic Market. 6] Technology:The supply of goods also depends on the methods or techniques of production. Advanced & Sophisticated technology increases the production & thus increases the supply. Traditional & Outdated technology decreases the production & thus decreases the supply. 7] Transport & communication Facilities:Modern & speedy transport facilities increase the supply of the goods in the different markets. Slower transport, Breakdown, Strikes, etc. decrease the supply of goods. 8] Future Price Expectation:If the seller expects that price of the goods will rise in future the supply for a goods at present will be reduced even though the price are high. Similarly, if the seller expects that the price of the goods will fall in future the supply of goods at present price will be high even though the prices are low. 9] Number of sellers:If a large number of firms sell a particular product, the market supply will be high. If the number of the firms is less, the Supply for a product will be less. Conclusion: Apart from the above factors the other factors like goals of producer, self consumption, etc. also affect Quantity supplied.

Law of Supply: Law of supply is propounded by Mr. Alfred Marshall. It shows direct relationship between price & supply. Statement Of Law: Other things being equal, the supply of Commodity expands with a rise in price & contract with a fall in price. Explanation:The Law of Supply can be explained with the help of following Supply Schedule & supply Curve. Individual Supply Schedule
Price (Rs) (per unit) Quantity Supplied (Units) 1 2 3

1 2 3

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4 5 4 5

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. From the above schedule it can be observed that: When the price is less (Rs 1), the supply is also less (1Unit), & when the price rises (Rs 5), the supply also rised (5 Units). Thus it indicates direct relationship between price & quantity supplied. INDIVIDUAL SUPPLY CURVE: From the above diagram it can be seen that: The Supply curve slopes upward from left to right. The Supply curve has positive slope which indicates the direct relationship between Price & Supply. This shows that more the price, more Quantity is supplied & vice versa.

Assumptions to the Law of Supply:1) No change in price of other goods:In case of other goods, when the price of other goods rises the supply of other goods also rises, it leads to reduction in supply of the goods whose price remains unchanged. This is in violation of law of supply, hence it is assumed to be constant. 2) No change in Weather Conditions: The Supply of agricultural products gets affected by weather conditions. When the weather conditions are favourable, the supply of agricultural product increases or vice versa without change in its price Hence it is assumed to be constant. 3) No change in Availability of inputs: When the inputs like Raw Material, Labour, Equipments, etc. are scarcely available, it reduce the supply of goods without change in its price. Hence availability of inputs assumed to be constant. 4) No change in Exports & Imports:Exports of goods results in a decrease in supply of goods in a Domestic market without change in price. Imports of goods results in a increase in supply of goods in a Domestic market without change in price Hence Imports & Exports are assumed top be constant.
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5) No change in Technology:Advanced & sophisticated technology increases the production & thus increases the supply without change in price. Traditional & outdated technology decreases the production & thus decreases the supply without change in price. Hence technologies are assumed to be constant. 6) No change in Transport & communication facilities: Modern & speedy transport facilities increase the supply of goods without change in price. Slower transport, breakdown, strikes etc. decreases the supply of goods without change in price Hence Transport & communication facilities are assumed to be constant. 7) No Future expectation of price change:-. If seller expects that a fall or rise in price in the near future, he acts against the Law of Supply. For E.g.: If supplier expects a further fall in price after two months, he may prefer to supply more though the price is low at present. Hence it is assumed to be constant. 8) No change in Number of sellers:Changes in the number of sellers bring a change in the supply of goods without change in the price. Hence the number of sellers is assumed to be constant. 9) No change in Infrastructural Facilities:Infrastructural Facilities like transport, communication, banking, etc. hampers the supply of goods without change in the price. Hence changes in Infrastructural Facilities are assumed to be constant.

Conclusion:Apart from the above assumptions the other things like Producers goal, Speculations, etc. are also assumed to be constant.

Exception to the Law of Supply:-

[PHNCAFL]

1) Perishable Goods: Perishable Goods have a very short life; it cannot be stocked for a longer period of time. For E.g. Vegetables, Fruits, Eggs, etc. Some time sellers are forced to increase the supply of perishable goods, when the prices are low due to a risk of loss. 2) Handicraft Goods:The Supply of handicraft goods cannot be increased suddenly even though the prices are high.
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Therefore items like rare paintings & sculptures, etc. Are exceptions to law of supply. 3) Need for cash : When a seller is in urgent need for money, he deliberately tries to sell more products even though the prices are low to get more liquidity. 4) Cost if Storing: When the cost of storing increases it leads to reduces the profit margin. In such case, the seller sells more even at a lower price. 5) Agricultural Products: Agricultural products are exception because their supply cannot be increased overnight though their prices are high. This is because Agricultural Products require sufficient period of time for growth. 6) Future Expectations: When the supplier expects a rise in price in future, he will supply less at present even though the prices are high. 7) Labour Supply: In the initial stages, as the wage rate increases, the labour supply also increases. But at the later stage, the Labour prefers to earn the same amount of income by working for less hours. Thus the labour supply has backward sloping supply curve.

Conclusion: The above points are the major exceptions to the Law of Supply.

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6. Forms of Market & Price Determination Market:The term market refers not necessarily to a place but always to a commodity & the buyers & sellers who are in Direct Competition with one another. The elements of market are:a) Buyers & sellers b) A product or service c) Bargaining for a price d) Knowledge about market condition. e) One Price for a product or services at a given time. PERFECT COMPETITION MARKET:Meaning: - A market is said to be perfectly competitive when There are large no. Of buyers & sellers in the All the sellers selling same product. The firms are price taker & industries are price maker. Features of PC: 1) Homogenous Product:The product which is sold in a perfect competition market is homogenous in character. All the firms produces identical product in respect of size, color, tastes etc. Product supplied by on firm is a perfect substitute that supplied by another. 2) Large No. of Sellers:There are large No. of Sellers in the market. The No. of sellers is so large that no individual seller is in a position to influence the total supply of industry. Each & every seller is a price taker & the supply for their product is perfectly elastic. 3) Large No. of Buyers:There are large No. of buyers in the market. The no. of buyer is so large, that no individual buyer is in a position to influence the total demand of industry. Each & every buyer is also a price taker & the demand for their product is perfectly elastic. 4) Full Knowledge of market: It is assumed that, every buyer & seller has full knowledge of the prevailing price of the product & other market information. Here, there is no need of selling campaigns & advertisements.
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5) No Transportation & Other Transaction Cost:There is no transport & other transaction cost in perfect competition. The price paid to by buyer is equal to price received by the seller. A seller has no need to incur the selling & advertisement expenses as the product are homogenous in to market. 6) Perfect mobility of facts:Under perfect competition the factors enjoys complete freedom to move to any industry where they find more attractive rewards. They can quit the industry any time if they find unfair rewards & can joint other industry. 7) Free entry & exit:Any existing firm can close down & leave the industry any time if they suffer losses, similarly any new firm can setup their business & sell the products. There are no legal, institutional or technical hurdles in entering & existing from the industry. 8) No Government Interference:Govt. interference may bring tariff, subsidies, controls, etc. which may disturb the prices & free functioning of market. Hence it is assumed that there is no govt. interference.

EQUILIBRIUM PRICE:The price at which quantity demanded equals quantity supplied is called equilibrium price. Once equilibrium price is reached there is no tendency for the price to move upward or downward. The quantity of a good which is sold & bought at the equilibrium price is called the equilibrium quantity. SCHEDULE:The determination of equilibrium price can be explained with the help of the following schedule: Price 1 2 3 4 5 EXPLAINATION:In the above schedule Rs.3 is the equilibrium price because the DD & SS is equal at 30 units & there is no chance of price rise or fall.
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Qty. Demanded 50 40 30 20 10

Qty. Supplied 10 20 30 40 50

Remark

Shortage of goods price may rise Equilibrium price will remain same Surplus of goods price may fall

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Above the equilibrium price i.e. Rs1 & Rs2 the DD is greater than supply of goods hence there is a shortage & suppliers may increase the price for goods. Below the equilibrium price i.e.Rs4 & Rs5 the SS is greater than DD of goods hence there is a surplus & suppliers may reduce the price for goods. Diagram Explanation:As per the above diagram on Y-axis price is measured & both Qty DD & SS on X- axis. Point E is an equilibrium price because the quantity demand & qty supply is equal. Above equilibrium point E there is a surplus of goods as supply is more than Quantity demand. AND Below equilibrium point E there is a shortage of goods as supply is lesser than Quantity demand. MONOPOLY:Meaning:Monopoly refers to the market situation where there is only one seller who has complete control over the supply of products. There is no close substitute for a product. Under monopoly the firm & industry is one & same. FEATURES:1) Single Seller of the Product:In monopoly market there is only one firm producing or supplying a product. There is no rival & he faces no competition. 2) Restrictions to Entry:In a monopolistic market, there are strong barriers to entry. The barriers to entry could be economic, institutions, legal or artificial. 3) No. Close Substitutes:The monopolist generally sells a product which has close substitutes. Hence, the monopolist faces no serious competition. 4) Firm & Industry are the same:As the entry of other firms is strictly prohibited, the firm itself develops into an industry. Hence, there is no difference between firm & industry. 5) Downward Sloping Demand Curve:40

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The demand curve of the monopoly firm slopes downward indicating that the monopolist can maximize sales only by reducing the price. 6) Large No. of buyers:In monopoly market there is large no. of buyers. The single seller serves the demand of large no. of buyers. Monopolistic Competition:It means a large no. of sellers sell similar but differentiates products to a large no. of buyers. Monopolistic competition market is a mixture of the features of monopoly & perfect competition. Features:1) Product differentiation:Under monopolistic competition seller uses differentiation techniques to attract customer to purchase their product. The product can be differentiated through difference in quality, size, color, special gifts, advertisements, etc. Under this competition seller sell goods which are close substitutes to each other. 2) Selling Expenses:Under monopolistic competition seller sells similar but differentiated product, hence selling cost become inevitable. Product differentiation necessitates incurring of selling expenses. 3) Large No. of Sellers:There are a large no. of sellers in the market The demand & supply conditions of these sellers are interdependent. Each & every seller is price maker & the demand curve for their product is downward sloping( not perfectly elastic) 4) Full knowledge of market:It is assumed that each firm has an accurate knowledge of its demand & cost conditions. This knowledge therefore, enables the firm to maximize its expected profit income. 5) Free entry & exit:Any existing firm can close down & leave the industry anytime if they suffer losses, similarly any new firm can setup their business & sell differentiated products. Free entry & exit ensures that in long run no firm incurs a loss & no firm is able to earn abnormal profit. 6) Competition:The Competition under monopolistic market is stiff as all the firms sell close substitute. The competition is related to price & non prices like Advertisement, sales promotion etc.
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PRICE DISCRIMINATION/ DISCRIMINATE MONOPOLY:Price discrimination refers to the policy of charging different prices for the same product or service. Only a monopoly firm can discriminate the price for their products to maximize the profit. CONDITIONS FOR IMPLEMENTATING PRICE DISCRIMINATION POLICY 1) Monopoly:There should be a monopoly in the market because price discrimination cannot be implemented under perfect competition. If it is implemented in other competitive market the consumer will leave the seller & go to the rival producers. 2) Two or more separate sub- markets:The seller should be able to divide his market in two or more sub-markets & keep them separate. If monopoly seller cannot keep sub-market separate the consumer can resell the monopoly products in the high priced market. 3) Differences in the elasticities of demand:The price elasticity of the product should be different in the different markets. The monopolist charges higher price in that market where the demand for the product is inelastic or less than 1. The monopolist charges lower price in that market where the demand for the product is less elastic or more than 1. 4) Complete Control Over Supply:The monopolist should have complete control over the supply of the commodity then on price discrimination is possible. 5) Immobility of buyers:When buyers are unable to move to different markets, price discrimination is possible. 6) Consumers ignorance:When the consumer is ignorant about price changed by the seller to other consumers for the same product, price discrimination takes place. OLIGOPOLY Meaning: Oligopoly refers to the market structure where few sellers or firm selling identical or differentiated products. In oligopoly few sellers operate the entire market & face cut-throat competition among themselves.

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Features of Oligopoly: - [ FNIS G ] 1.

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Few firms / sellers:Oligopoly is a market where a few firms produce & supply goods. Duopoly is the one of the example of oligopoly market, where only two firms produce & supply the products.

2.

Nature of product: In oligopoly market either identical or differentiated goods are produced. If few sellers produce an identical products that market is called perfect oligopoly. If few sellers produce a differentiated goods that market is called Imperfect oligopoly. Interdependence of Firm:In oligopoly Industry, Even firm is dependent on each others decisions. This is because when the numbers of competitors are few, any change made in price, output, product by a single firm in the Industry will have direct effect on the other sellers (rivals) Hence interdependence is one of the important features of oligopoly.

3. 4.

Selling & Advertising Costs: In the Oligopoly market, competition among few firms is very tough, hence firms adopt various aggressive and defensives strategies to gain or maintain market share. Among various strategies advertising is an important strategy used by oligopolistic to gain market shares. Group Behaviour:The theory of oligopoly is a theory of Group behaviour. This is because there is a cut- throat competition among few sellers. So, to reduce competition firms form groups & acting together. Like a) They unanimously decide to change same price. b) They agree to limit the output one the basis of quota fixed by them etc. For e.g. OPEC (Organization of Petroleum Exporting Countries)

5.

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7. FACTORS OF PRODUCTION

Meaning of Factors of Production: Factors of production refer to goods or services which are used in the process of production. No productive activity is possible in the absence of factors. There are four important factors are as follows:1. Land 2. Labour 3. Capital 4. Organisation (Entrepreneur) LAND: Meaning By land is meant materials & forces which nature gives freely for mans aid, in land, water, air, light & heat. It is a free gift of nature. Land refers to all the natural resources which are available on, above & under the surface of earth. For e.g.: Soil, mountains, rivers, forest, Sunshine, Rainfall, Iron ore, coal ore etc. FEATURES [F2P3S DHI] 1) Free gift of nature:Land includes all the natural resources like soil, rivers, coal ore, rainfall etc. which are available on, below & over the surface of the earth. No human efforts are required to create land. It is available as a gift of nature. 2) Fixed supply:Supply of land is fixed; it can neither be increased nor decreased. Thus, the supply of land for society as a whole is perfectly inelastic. But, supplies of land for Individual are elastic. Permanent and indestructible:Unlike perishable goods, it will not go out of existence. It can not be destroyed & enjoy permanent existence. Passive factor:Land cannot produce anything on its own. Land becomes productive only when labor & capital are applied to it. It is a dependent factor it is called passive factor. Primary factors of production:44

3)

4)

5)

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Land is the primary or landing factor encouraging industrial & agricultural activity. The industrialists receive raw material from land & agriculture cultivates crops on land. 6) Heterogynous:Land differs in fertility, some units of land are more fertile & some are less fertile. Land differs in areas, land situated in develop areas enjoy more advantage as compare to land situated in backward areas. Hence we can say that the fertility of land is gradable. Immobile:Land is geographically immobile. Land cannot be moved or it can be transported from one place to another. Site value:Value of land depends upon locations. Land which is near stations, market place has higher values/price. Derived demand:The demand for land is determined by the demand for finished goods & services. For e.g.:- If the demand for food grains increases, the demand for land increases & vice versa.

7)

8)

9)

Conclusion: - All the above are the features of land. LABOUR: Labour consist of all human efforts of body or mind which are undertaken in the expectation of reward The labour power varies from laborer to laborer. Labourer is classified into skilled, semi-skilled, & unskilled labour. The service of laborer is considered labour only when they are paid some economic reward. If service is provided due to love & affection it is not considered as labour FEATURES [H2PL2-DWI] 1) Human factor & an active factor:Labours are provided by labourers, hence it is a human factor. Labour can act on its own, but land & capital are useless without Labour hence it is most active factor. 1) Heterogeneous:Labourers differ from one another in respect of skills, efficiency, productivity, intelligence etc. Labourers are basically of three types: skilled, semi-skilled, & unskilled labourers.

2)

Perishable:Labour power cannot be stored & used for future.


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If worker is absent for a day, the days labour is gone. The amount of labour lost is lost forever. 3) Less elastic supply:Supply of labour is less elastic in the short run but can be elastic in the long run. Less mobile:Labour enjoys both geographical as well as occupational mobility. However, the mobility of labour faces limitations like Age, Language, and Climate etc. As it is less mobile than capital. Derived demand:The demand for labourers is determined by the demand for goods & services. If the demand for finished goods increases the demand for labour increases or vice-versa. Weak bargaining power:Generally labourers possess weak bargaining power compared to employers. Labour is perishable & cannot be stored. The labour is unorganized. Inseparable from labourer:Labour power cannot be separated from the laborers body. Labourers must be physically & mentally present at the working place.

4)

5)

6)

7)

CAPITAL:Capital consists of those kind of wealth which yield income Capital is a produced means of production. All capital is wealth but all wealth is not capital. Thus capital is a part of wealth used for the production of further wealth. Money invested in a productive activity is called capital. FEATURES: - [M2C2I- PD] 1) Man made factor:Capital is on artificial of production. It is formed out of the savings of the people & which is invested further for production activity. 2) Mobile:Capital is the most mobile factor. It enjoys geographical as well as occupational mobile.
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3)

Compared to labour & entrepreneur, capital has more mobility. Capital can be change:Supply of capital is variable; it can be increased or decreased. It can be stored as a wealth or can be used as a capital. Highs savings & investment results increase in capital.

4)

Capacity to earn income:Capital is used for further production to generate income. Thus capital acts as a source of income for the owner.

5)

Improves productivity:By investing more capital owner can use sophisticated technology which improves productivity. Hence it accelerates productivity & increase production multi-fold.

6)

Produced means of production:Capital is a result of human labor. All types of capital like buildings, machinery etc are produced by man for the purpose of further production. Hence it is called as produced means of production.

7)

Durability:Capital goods are durable in nature. Capital goods like machines can be stored & used for a long time, say 25 to 30 years, hence they are durable. Conclusion:From the above discussion we conclude that All capital is wealth but all wealth is not capital.

ENTREPRENEUR:The term entrepreneur is derived from the French word entreprendre which means to undertake. An entrepreneur is a person who performs the dual functions of risk-taking & control. He is one who collects & combines all factors & initiates the process of production. Thus, he is a pioneer, organizer, controller, risk-taker of an enterprise. FEATURES/QUALITIES OF ENTREPRENEUR:-[DICRIL] 1) Decision Making:An entrepreneurs is only a person who manes all the decision from set ping business to selling the products in the market.
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It entrepreneur have a quality of making good decisions. It will results in good profit. 2) Initiative:An entrepreneur should have a good Initiative taking quality. He is the person who takes the Initiative to start the business and make other necessary plan to run business successful. 3) Coordinator:The entrepreneur acts as a coordinator between different factors such as land, labour, capital etc. He makes use of all factors in a proper proportion to conduct effective production with high quality. 4) Risk taker & uncertainty bearer:Risk taking & uncertainty bearing are the main function of entrepreneur. The entrepreneur takes the risk by investing a huge capital in advance, even though be know their is a uncertainty of profits in future. The entrepreneur has been rewarded with a profit for taking risks & uncertainties. 5) Innovation:Innovation means to introduce new technology, new products, new ideas etc. An entrepreneur must be an innovator to survive in the market, without innovation surviving is very difficult. 6) Leader:An entrepreneur is a person who leads the entire organization. Effective leadership brings better result or vice-versa. Conclusion:The entrepreneur becomes successful entrepreneur only when the above qualities are vested in it. FUNCTIONS OF ENTREPRENEUR:1) Planning:It is one of the most important functions of entrepreneur. Planning is a blue print of production. While planning the factors like scale of production, type of goods, quantity of production should be considered. Selection of Locality:Entrepreneur should select a locality which is suitable to locate a factory.
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While selecting a locality following points are to be considered: - nearness to market, availability of labour, proper supply of water & electricity, transport & communication etc. 3) Arrangement of funds (capital):To set up a business an entrepreneur requires a huge capital. Entrepreneur has to prepare budget & has to make arrangement of capital to start business. 4) Provision of land & labour:The next step is to arrange land & labour. He may buy or hire land. He also recruits different types of labours (skilled, semi-skilled & unskilled) from different places. 5) Purchase of machinery & raw material:An entrepreneur purchases the machinery which is suitable to the production process. He also makes arrangement of raw material for the production of goods. 6) 7) Coordinating (same as quality of entrepreneur). Search of markets:An entrepreneur always plans to expand his business. For expansion he continuously searches the new markets. 8) Innovation :- (same as quality of entrepreneur).

NOTE :- (other point of qualities can be added) Distinguish Between: Capital The assets which is used for Further production is called Capital Land cannot be considered as Capital as it is a natural factor All capital is considered as Wealth Capital has a capacity to Increase the wealth Capital has a capacity to Generate income/profit Wealth The assets which remain idle & useless Is called Wealth Land can be considered as wealth Only a part of wealth which is used for production Is considered as capital wealth remains same Through out to period Without capital Wealth has no capacity To Generate income as It remains idle.
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8. National Income
National Income (Meaning):National Income refers to the total money value of all goods & service produced during a year in a country. 1) Gross Domestic Product (GDP):GDP refers to money value of all final goods & service produced within the domestic territory of a country during an accounting year. The term Gross implies inclusion of depreciation. Symbolically: GDP = C+I+G Where C = Consumer goods & services I = Gross Domestic Private Investment G = Government purchases. Gross domestic product excludes Net Factor Income from Abroad(NFIA) Under GDPMP various taxes are included & subsidies are not I.e. GDPMP= GDPfc+ TAX- Subsidies.

2) Net Domestic Product( NDP):NDP refers to the money value of all final goods & services produced within the domestic territory in a year less deprecation. The term NET implies exclusion of depreciation. Symbolically NDP= GDP- Depreciation Where C= Consumer Goods & services I = Gross domestic pvt. Investment. G= Government purchases. Net Domestic Product excludes Net Factor Income from Abroad(NFIA)

3) Gross National Product( GNP):GNP refers to the money value of all final goods & service produced in the country during a year plus the foreign income from abroad. The term Gross implies inclusion of depreciation. Symbolically GNP= (C+I+G)+NFIA Where: C= Consumer goods & services I= Gross domestic private investment G= Govt. Purchases NFIA= Net Factor Income from Abroad GNP includes Net Factor Income from Abroad 4) Net National Product(NNP):NNP refers to the money value of all final goods & services produced in the country during a year (after deducting deprecation) plus Net Foreign Income from abroad. The term NET implies exclusion of depreciation
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Symbolically : NNP = GNP- Depreciation Where: C= Consumer goods & services I= Gross domestic private investment. G= Govt. Purchases. NFIA= Net Factor Income from Abroad GNP includes NFIA METHODS OF CALCULATE NI 1ST Method: Production Method/ Output Method/ Product Method Under Production method, the National income is commuted by summing the value of all the final goods & service produced in a country during a year & then the net income from abroad is added. The GNP is valued at market price & includes following items: 1) Consumer Goods & service(C):It includes the money value of all consumer goods & service like refrigerators, furniture, hospitals, education institutes services, rent received by landlord etc. during a year. 2) Gross Domestic Private Investment(I):It includes the money value of all types of capital goods, inventories, & new building constructed during a year. 3) Govt. Purchases(G):It includes the money value of goods & service purchased by governments like services rendered by police, Defense, Education, etc. & the public investment made on road, railways, brides, dams, etc. during the year. 4) Net Foreign Earnings(E):It includes both the a) Net Exports & b) NFIA a) Net Exports(X-M): It refers to the difference between the values of goods & services exported & imported. If the difference is positive, it is added & if negative, it is deducted. b) NFIA(R-P): It refers to the difference between factors income (rent, wages, interest, & profit) received by India from abroad & paid by India to abroad. If the difference is positive, it is added & if the difference is negative then it is deducted. i. All these four items constitute GNP at market price i.e. GNPMP = C+I+G+E. ii. From GNPmp, we arrive at NNPmp by deducting Depreciation i.e. NNPmp= GNPmp - Depreciation iii. From NNPmp we arrive at NNpfc or national income by deducting Indirect taxes & by adding subsidies i.e. NNPfc/NI= NNPmp-IT+Subsidies. This is the final value of National Product.

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2nd Method: - Expenditure Method:Under Expenditure method, the NI is computed by summing all the expenditure incurred by Households, firms, & the Government during a period of one year & then the income from abroad is added. The Gross National Expenditures are valued at market price & includes following items:1) Total Expenditure on Consumer Goods & service(C):It includes the total expenditure made by consumer on goods & service like purchase of refrigerators, furniture, hospitals service, education institute service, rent paid to landlords etc., during a year. 2) Total Expenditure on Gross Domestic Private Investment(I):It includes total expenditure made by business, business firms on capital goods, inventories & new building constructed during a year. 3) Government Consumption & Investment Expenditure (G):It includes the total expenditure made by Government for purchase of goods & service like payments made for purchase of service like police, defense, administration etc. & expenditure made for building, dams, bridges, roads, etc. 4) Net Foreign Investment/ Earnings(E):It includes both the a) Net Exports & b) NFIA a) Net Exports(X-M): It refers to the difference between the value of goods & services exported & imported. If the difference is positive, it is added & if negative, it is deducted. b) NFIA(R-P): It refers to the difference between factors income (rent, wages, interest, & profit) received by India from abroad & paid by India to abroad. If the difference is positive, it is added & if the difference is negative then it is deducted. i. ii. iii. iv. All these four items constitute GNE at market price ie. GNEmp= C+I+G+E From GNEmp, we arrive at NNEmp by deducting depreciation ie NNPmp= GNPmp Depreciation. From NNEmp, we arrive at NNEfc or National Income by deducting Indirect taxes & by adding Subsidies ie. NNEfc/NI= NNEmp- Indirect tax+ Subsidies

This is the final value of National Expenditure. 3rd Method: Income Method Under Income method, the National Income is computed by summing total of money income received by all the factors of production in a country during a period of one year & then the net factor income from abroad is added: The Gross National Income valued at factor cost & includes following items:1. Labour Income:Income received by the Laborers is called Labour Income It includes: (a) salaries & wages (b) Contribution to laborers welfare fund etc. 2. Rental Income:52

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3.

4.

5.

6.

7.

Income received from real property (Land) rented is called rental income. It includes: (a) Rental value of self occupied houses (b) Royalties etc. Organisational profit:Income received by Entrepreneurs for taking the risk in the business Is called Profits. It includes: (a) Dividend incomes (Distributed profit) (b) Reserves income (Undistributed profit) Interest Income:Income received on Investment (capital) is called Interest income. It includes: (a) Interest received on Loans, Savings, Mortagges etc. Mixed Income:When labour income cannot be separated from capital income that income is called Mixed Income. Mixed Income is received by self employed persons like Lawyers, Traders, tailors etc. Such income is occurred in Agriculture, Trade, and Transport etc. Profit of government enterprises:The property income of the government & surplus revenue from public sector organized are also included. Net factor income from Abroad:It refers to the different between factors income (rent, wages, Interest & Profit) Received by India from abroad & paid by India to abroad. If it is positive it is Added & If negative, it is deducted. All these 7 items constitute NI at factor cost. Hence, it is also called as National Income.

Difficulties in measuring the NI? 1. Double counting: In National Income we include only final goods & not intermediary goods to avoid double counting Sometimes, it becomes difficult to determine whether the goods is an intermediate goods or final goods This results difficulty in estimation of NI Depreciation: There are various types of capital goods are available on which different rates & different methods are used for calculation of depreciation Hence, the calculation of depreciation may not be reliable This results difficulty in estimation of NI Constant price: There are many goods & services which is produced in the current year but were not produced in the base year Such innovative goods & services do not have base year prices Hence, it is very difficult to value the new goods & services at constant price for estimation of NI
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2.

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4.

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Total consumption: It is difficult to get the correct idea of total expenditure made consumption in a country during a year Hence it is difficult to calculate NI through expenditure method Lack of accounts: In many underdeveloped countries, people who are illiterate do not keep accounts of income & output & people who are illiterate hide incomes by manipulating accounts for avoiding tax payments Hence, no proper estimation of NI Rental value: The calculation of the rental value of self-occupied houses is difficult Hence, no proper estimation of NI Barter transaction: Today also in many of the villages, goods are exchanged directly without money This results in the difficulty of estimation of NI

5.

6.

7.

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9. Aggregate Demand & Supply


Determinants of Aggregate Demand:Aggregate demand is the total demand in an economy which includes consumption, investment, government, expenditure, & foreign demand. Aggregate demand represents aggregate expenditure, thus aggregate demand is equal to aggregate expenditure. The aggregate demand is symbolically stated by: AD= C+I+G+(X-M) Where C= Aggregate consumption Expenditure I= Aggregate Investment Expenditure G= Aggregate Government Expenditure X= Exports, M= Imports The components of aggregate are as follows:1) Consumption Expenditure or Consumption demand by Household(C):Consumption Expenditure made by consumer on goods & service like refrigerators, furnitures, Educational & health service etc. Consumption expenditure comprises of partly autonomous expenditure & partly depend on disposal income. 2) Investment Expenditure or Investment demand(I):Investment Expenditure refers top expenditure made by the individuals, firms, capital goods, inventories & buildings, etc. Investment expenditure comprises of both financial investment & Real investment. 3) Government Expenditure(G):Government expenditure refers to the expenditure made by government on consumption or from investment. Government spends money for the service like police, defense, administration etc. & for building dams, brides, roads, etc. The Government expenditure is autonomous in nature. 4) Foreign Expenditure/ Foreign Demand(X-M):Foreign demand refers only to Net exports of goods & service. It refers to the difference between the values of goods & service exported or imported. If the difference is positive, it is added to AD & if negative, it is deducted from AD.

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AGGREGATE SUPPLY: Aggregate supply is the total supply in an economy which include supply of Land, Labour, Capital & Technical know- how during a year. Aggregate supply represents Aggregate income, thus As = AI = Total expenditure. The aggregate supply is symbolically started as As = f ( N, L, K T ) When F = Function of N = Natural resources (land) L = Labour K = Capital T = Technical knowledge The components of aggregates are as follows:Natural Resources (Land) (N) : By Natural resources means all resources which are available on, above & under surface of the earth. For e.g.:- Soil, Mountains, Rivers, Forests, Oil, Metals, Iron etc. All such Natural resources are very helpful in the process of production of goods & services. Labour (L):By Labour we mean human efforts of body and mind required to exploit the natural resources. The skill & efficiency of human resources is very helpful for the production quantity & quality goods & services. Capital (K):By capital we mean that kind of wealth which yield income or further production. Capital formation is the key factor promoting productivity & economic growth. Hence , high rate capital investment is required to increased aggregate supply of goods& service State of technical know- how (T):Technical know- how means application of the mechanical arts in various sector of an economy. Due to highly developed technical know- how, the output of goods & services per worker would be high. Hence, Technical know- how helps to increase aggregate supply by making optimum use of Resources (Land, Labour, Capital etc).

1.

2.

3.

4.

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10. Consumption Function & Saving Function.


What is Consumption Function? Meaning: Consumption function is defined as the amount of expenditure spent out of level of Income. Thus, this function explains the relationship between income & consumption. Symbolically : C = f (y) Where, C = Consumption function, Y = Income, F = Function of. This can be explained with the help of following schedule & Diagram: Schedule: (Income in Rs) Income (y) 100 200 300 400 500 Consumption (c) 120 200 280 360 440 Saving (s) -20 0 20 40 60

Explanation: From the above schedule it can be observed that:Initially income is less (100.Rs) than consumption (120.Rs.) therefore, saving is negative. Later on when Income increased 200.Rs, the consumption expenditure also increased to 200, both were equal hence saving remains zero. Further, when Income increased beyond 200.Rs, the consumption also increased but comparatively at a lesser rate, hence Income become greater & saving become positive. Diagram Explanation:From the above diagram it can be seen that OA is the 45o Income line CC is the consumption line OA & CC intersects at point B (Break even point). Income is equal to consumption: Saving is zero. Before point B Income is less than consumption, hence saving is negative. After point B Income is more than consumption, hence saving is positive.
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What is saving function:Meaning:-

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Saving function is defined as The amount which is unspent part of level of income. Thus, this function explains the relationship between Income & Savings. Symbolically : S = f (y) Where, S = Saving Function, Y = Income, F = Function of This can be explained with the help of following schedule & diagram. Schedule: (Income in Rs) Income (y) 0 5 10 15 20 Consumption (c) 2 4 8 11 14 Savings (s) -2 0 2 4 6

Explanation: From the above schedule it can be observed that: Initially income is O than consumption (2.Rs) therefore saving is negative is (-2) Later on when income increased to 5, the consumption expenditure also increased to 5.Rs, both were equal, hence saving remains zero. Further, when income increased beyond 5.Rs, the consumption also increased, but comparatively at a lesser rate, hence income become greater & saving become positive. Explanation:From the above diagram it can be seen that:DA is the 45 Income line SS is the saving line At point B income is equal to consumption, saving is zero. Before point B income is less than consumption, hence saving is negative After point B Income is more than consumption, hence saving is positive. Average Property to Consumption(APC) Average Property to Save (APS)

Meaning Average propensity to consume refers to Average propensity to save refers to the
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ratio of saving to the income Formula

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the ratio of consumption to the income

Formula of calculating APC is APC = C/y When, C = Consumption, Y = Income

Formula of calculating APS is APS = S/y When, S = Saving, Y = Income.

Relation with Income As the income increase, the APC falls. (it AS the income increase, the APS rises. (it has inverse relationship) has direct relationship) 4) Inter relationship As APC the APS falls & vice versa As APS the APC falls & vice versa 5) Numerical value At the low level of income the APC remain At the low level of income the APS remains equal to 1 & at high level income Negative or lower than 1 & at the APC becomes less than 1 high level of income the APS becomes more than 1

Marginal Propensity to consume(MPC) Marginal Propensity to Save(MPS) Meaning MPC refers to the ratio of change in MPS refers to the ratio of change in Saving Consumption to change in Income to change in Income Formula Formula for calculation of MPC is MPC = Formula for calculation of MPS is MPS = C/ Y S/ Y When, C = Consumption, Y = Income, = When, S = Saving, Y = Income. =Change Change Reference with Income As the income Increases, The MPC falls As the Income increases, The MPS rises Interrelationship As the MPC increases, the MPS falls & Vice As the MPS increases, the MPC falls & Vice versa versa

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11. Money
I.Definition of Money:Money is what money does. Or Anything which is commonly used & generally accepted as a medium of exchange or as a standard of value II. Barter System:Barter system exchange of goods for goods. Barter system was in practice in the primitive society. Barter system takes place when surplus commodities are produced. Barter system takes place when:a) Both the party have surplus goods & b) Both of them need the commodities produced by each other. Limitations of Barter system:1) Absence of Double Co-incidence of wants:The major problem of barter system is the requirement of a double co-incidence of wants. For e.g.:- Mr. A who has surplus of rice and requiring wheat must find out Mr.B who has surplus of wheat and requiring rice. 2) Absence of common measure of value:There was no common measure of value under barter system to measure the value of all commodities. Due to lack of standard unit pricing system was not possible. 3) Absence of medium of exchange:Under barter system there was no effective medium of exchange like money. Different goods are used as medium of exchange. It made the exchanges more complicated. 4) Lack of store value:In barter system it was difficult to store wealth as there was not stable store of value. Neither commodities nor animals could act as store of value. 5) Indivisibility:Only divisible goods can be exchange under barter system. It is impossible to divide a horse or goat for the purpose of exchange.
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6) Difficulties in settlement of debt:Under barter system settlement of debts are very requirement difficult. For e.g.:- Mr. A who borrowed 3 cows from Mr.B, three years back may not be able to return back because they are older and useless. Functions of money: 1 Medium of exchange :Money acts as an effective medium of exchange. By performing as the medium of exchange, money removes the difficulties of barter system. Due to medium of exchange money splits single barter transaction into three economic activities comprising (1) Two Sale / Purchase transactions and (2) One that of storing wealth. Hence we can buy without selling anything and sell without buying anything. 2. Store of value:Money serves as a store of value. Under barter system, seller accepts one good in exchange of other even when it has no intrinsic value for him, he do so because seller knows that goods which is stores as an asset have some purchasing power (stored value) and in future can be exchanged for some other goods. Thus, the second function of money should be a store of value. 3. Measure of value:Money serves as common measures of value. Under barter system, all goods and services which are exchange for each other their value are measured in terms of some standard unit or some other unit of account. Hence, money is one of the two items exchanged. Being common to all transactions, it has the best claim to be used for expressing measures of value. For e.g. In India the standard monetary unit is called a rupee. 4. Standard for deferred payments:Money acts as an effective and efficient standard for deferred payment. Deferred payments refer to payment to be made at future date. The debtor will pay to the creditor a certain value as expressed and measures in terms of standard monetary units of the country. Hence, money acts as a better standard of differed payments due to the attributes of stability, durability and general acceptability. Types of Money:Animal Money:Animal Money was in practice during primitive hunting stage. Animals like cow & cattle were used as a medium of exchange in Europe,Africa & Asia. 1) Commodity Money:61

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Any Commodity which was in great demand served as the medium of exchange. Commodities like rice, wheat, tobacco, skin etc acted as the medium of exchange. 2) Metallic Money:Money which is made out of a particular metal like gold, silver, copper, nickel etc. is called metallic money. Metallic money is divided into two parts:a) Full bodied coins or standard coins:Coins the face value of which is equal to intrinsic value are called standard coins. Standard coins are made of silver, gold etc. Standard coins can be used for making big payments. Standard coins are treated as unlimited legal tender money. E.g.:- Indian rupee before 1983 was a standard coin made out of silver. It is referred as Principal Money. b) Token Money:Coins the face value of which is higher than its intrinsic value are called token money. Token coins are made of inferior & lighter metal. Token coins are used for making smaller payment. Token money is treated as limited legal tender money. E.g.:- Metallic coins like 50 paisa Rs.1, Rs.5 which are circulated in India are token coins. It is a subsidiary of standard coins. 4) Paper Money:Money which is made of a paper is called paper money. Paper money was introduced on the ground of safety, security & convenience. These are four types of currency are as follows:a) Representative Paper Money:Paper money which is fully backed by gold & silver reserves is called representative money. Under this system, the monetary authorities will maintain metallic reserves equivalent to the value of paper money issued. b) Convertible Paper Money:Paper Money which is convertible into standard coins at the option of the holder is called convertible paper money. Under this system, people can convert their paper money into gold or silver. This money also backed by gold & silver reserves, but reserves will be lower than the money issued. c) Non-Convertible Paper Money:Paper Money which is not convertible in to coins & other valuable metals is called Non-Convertible Paper Money.
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Under this system, No metallic reserves are backed to this currency. Such notes are usually backed by Government Securities, Bonds & treasury bills. d) Fiat Money:It is a kind of inconvertible currency which is issued at the time of emergency or crisis. It is known as emergency money. Such notes are not backed by any reserves of gold or silver. It is issued at Governments order. 5) Legal Tender Money:Money which is backed by the legal sanction of the Government is called legal tender money. It is accepted by both Government & people as the means of payment & cannot refuse to accept it as a means of payment. It is of two types:a) Limited Legal Tender Money:It is that type of money which any person can refuse to accept as means of payment after certain limit. No body can force to accept beyond this limit. In India coins are the limited legal tender money. It is that type of money which any person can accept up to certain limit after that he refuse to accept. b) Unlimited Legal Tender Money:It is that type of money which any person can accept at any limit. No body can refuse to accept them. In India paper currencies are treated as unlimited legal tender money, 6) Bank Money(Credit Money):The money that is based on the promise of the bank to pay is called bank money The bank deposits kept by people with banks which are payable on demand are called bank money. a) Cheques:A cheque is an unconditional order in writing drawn upon a specified banker, signed by the customer directing the bank to pay a sum of money on demand to a certain person or bearer of the cheque. It is a negotiable instrument. b) Bank Draft:Bank draft is a convenient method used by traders to transfer money from one place to another. c) Travelers Cheque:Travelers cheque is a printed paper carrying the promise of a bank to pay a specified amount of money.
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When people move within the country or between countries travelers cheque is most convenient way to carry money. International travelers cheque helps to get local currency in respective country. d) Credit Cards:Credit Cards are plastic cards are the latest addition to the bank money. The Credit cards are used to make payments in airlines, hotels, various purchases etc. For e.g.:- Visa & Master Card are popular & used throughout the world. Qualities of Good Money: - [ACD2 FPSM] 1) Acceptability:Good money is one which is accepted by people as a means of exchange. In earlier stage, standard coins were generally accepted as a medium of exchange & today coins & notes which have no backing of gold & reserves but having a sanction of government as a medium of exchange. 2) Cognisibility:One must be able to recognize money easily & people accept it easily. Cognisibility helps easy circulation of money. 3) Durability:Money should be durable so that it can be used for a longer period of time. Bank notes & coins are more durable. 4) Divisibility:Money should be divisible into smaller denomination like Rs.5, Rs.2 etc. Divisibility facilitates small payments. 5) Flexibility:Money should be flexible it means, whenever the requirement of money increases, it should be satisfied by increasing the supply of money. The demand for more money can be increased due to rapid development of economy etc. 6) Portability:Good money should be made convenient & small size so that it can be carried from one place to another place easily. 7) Stability of value:The value of money should remain stable to boosts economic growth. If the value of money is not stable (i.e. values are falling & rising rapidly) the economy can be in changes by creating inflation or deflation.
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8) Malleability:The material which is used for marking money should be such that any impression can be pressed on it. The seal of government can be made on it to give it the official sanction.
CIRCULAR FLOW OF MONEY: Diagram:

In a closed economy, the circular flow of economic activity or a circular flow of NI exists between two economic agents i.e. Households & Firms. This can be explained with the help of following diagram:I. Households:Households are the owner of factors production as they supply The Land, Labour & Capital to the firms. Households receive incomes in the forms of rent, wages, Interest & Profits by selling their factors services. Households spent income for buying goods & services produced by the firm.

II. Firms:Firms are the Productive Organizers as they produce goods & services Which is supplied to households. Firms receive incomes by selling goods & services to households Firms Spent income for making payment to households (factors of production) sevices. III. Real flow money flow:The circular flow of income & expenditure has two aspects: Real flow & Money flow Real flow represents (a) movement of factors services ( Land, Labour, Capital) & (b) movement of goods & services from firm to households.

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Money flow represents (a) movement of money for payment of factors services from firm to household & (b) movement of money for payment of goods & services purchased from household to firms Conclusion:By circular flow of money / NI we can conclude that, Total expenditure generates total income ( or ) Total Expenditure is equal to total income. Money Near Money

1) Money is commonly used & generally accepted as a medium of exchange or as a standard of Value.

1) Near money use same assets which are not generally acceptable in paying debts but can be easily converted into cash without any loss.

2) Money enjoys legal status

2) Near money does not have any legal status.

3) Money is accepted as a medium of exchange as well as store of value. 4) Money is 100% liquid it provides ready liquidity. 5) Money is a common denominator of value.

3) Near money functions mainly as store of value.

4) Near money is relatively less liquid assets.

5) Near money is value in terms of money.

6) For e.g.:- Paper money, coins etc are the example of money.

6) Time deposits in banks, bonds, securities, debentures, bills of exchange etc are the e.g. of near money.

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12. COMMERICAL BANKING


Meaning of Commercial Banking:Commercial banking is an institution whose debts are wider accepted in settlement of other peoples debts to each other. Functions of Commercial Banking:A) Primary Functions:- These are the original functions of bank, which each & every bank performs:1) Accepting Deposits:Accepting deposits from public is most significant function of a bank. Commercial banks accepts deposits through various types of accounts which are as follows: a) Saving Account:It is a kind of Demand deposit, as deposit holder can withdraw money any time. Saving accounts can be started with minimum deposit of Rs500 & people must keep minimum balance of Rs1000. If they need cheque book facility. Saving account earn only nominal rate of interest i.e. 3.5% p.a. b) Current Accounts:It is also another type of Demand deposits account. To start current account minimum balance are not necessarily required to maintain , some bank provide ( negative balance) overdraft facility in this account. Such accounts are mainly serves transaction purpose. Current account earns no interest or a very low interest i.e. 1% p.a. Such accounts are mostly held by companies, institutions, government, businessman, etc. c) Fixed Deposits:Fixed deposits known as time deposit or term deposits attract funds for a specific period. The amount deposit cannot be withdrawn before the maturity of the period. Such deposit carry high rate of interest varies according to his length of the period. d) Recurring deposit:These are deposits under which people pay a particular amount regularly. The amount deposit cannot be withdrawn before the maturity of the period.

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2) Lending Loans & Advance:-

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This is the secondary important function of banks to provide loans to corporate sectors & other individuals. a) Overdraft facility:Overdraft facility enables companies, firms, & businessman to withdraw amount more than their actual balance in the current account. The extra amount withdraw is treated as loan &interest is charged on it. b) Cash Credit facility:This facility allows the borrower to withdraw cash to a certain limit in form of cash credit. This facility is available against personal security to banks. Interest is charged against the loan. c) Bills discounting & purchasing:Bank provides funds to the customer by purchasing or discounting bills of exchange. Bank charges interest up to maturity period of bills. Bills may be inland or foreign bills. d) Direct Loans:Banks provide loans for purchasing fixed assets or for satisfying working capital requirement. Such loans provided for a fixed period with fixed interest rates. e) Term Loans:In additions to short term loans, banks also provide term loans for varying period of time, extending up to 7 years. Loans are granted for purchasing fixed assets or for satisfying working capital requirements. 3) Credit Creation:A process by which Banks can multiply their deposits is called Credit Creation. Bank creates credits by accepting primary deposits & providing loans & advances. It leads to increase in circulation of money. Bank can expand & contract money supply through credit creation.

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B) SECONDARY FUNCTION:1) Agency function:a) Transfer of funds:-

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Commercial banks transfer funds from place to place through credit instruments like cheques, bank drafts, etc. b) Collection:Commercial banks collect bills, cheques, dividends, & rents on behalf of their customers. c) Payments:Commercial banks make payments like Insurance premiums, subscriptions, rent, etc. on behalf of customer. d) Trustee:Commercial bank acts as the trustees of funds & property of their customers. It is very helpful when the heir of the deceased customer is a minor. e) Executor:Banks acts as the executor of the will of the deceased customer & carries out the desire of deceased customer as given in he will. f) Income Tax Consultant:Bank gives advices in income tax matters & even prepares the income tax returns of their customers. g) Agents:Banks act as agent of their customers & obtain passports, travelers tickets for their customers. 2) General Utility Services:a) Letter of Credits:Bank issue letter of credit to their customers which enable them to buy goods from foreign countries on credit. b) Travelers Cheque:Bank issue internal & international travelers cheques. When people travel within or outside country travelers cheques are used as most convenient method of carrying fund. c) Underwriting:69

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The bank extend guarantee to companies coming up with new issue by underwriting the issue of shares or debentures. d) Foreign Exchange Department:The bank run FED & deal in foreign exchange by accepting or controlling bills of exchange. e) Status Reports:Bank provides safe lockers, in which customers can keep the valuables like Jewellery, Securities, Shares etc. very safely. MULTIPLE CREDIT CREATION:Multiple credit creation is a process by which bank multiply their deposits. In other words, a bank can create money & multiply it too. For E.g. It can convert a deposit of Rs1000 into Rs 10000 & Rs 10000 into Rs100000. Banks creates credits in economy by accepting primary deposits & providing loans becomes deposit in same or some other bank & again the deposit amount given as a loan. This process goes on till the original deposit gets exhausted. For E.g. Suppose the CRR is 10% & the original deposit amount is Rs.100

Banks

PRIMARY DEPOSIT (Rs)

Cash Reserve (Rs)

Loans (Rs)

100

10

90

90

81

80

8.10.

72.90

. . .
TOTAL

. . .
1000

. . .
100

. . .
900

The formula for calculating credit creation is:Deposit multiplier (K)= 1 R Where K= Deposit Multiplier, r= Cash Reserve Ratio.
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K= 1 R =1 10% =1 0.1 = 10 Additional deposit creation = Initial deposit X deposit multiplier = 100X 10 = 1000 Thus the initial deposits Rs 100 turns into Rs1000 through the process of ,mutiple credit creation.

LIMITATIONS OF CREDIT CREATIONS:1) Liquidity Preference of the people:Liquidity preference means the desire of the people to hold cash,. Liquidity preference of the people is inversely related with multiple credit creation. If people decide to keep more cash, it leads to less credit creation. Or if the people decide to keep less cash, it leads to more credit creation. 2) Cash Reserve Ratio:Every commercial bank has to keep certain proportion of their deposit with the RBI, that proportion is called Cash Reserve. Cash reserve is also inversely related with credit creation. I.e. higher the ratio of reserves, less cash will be available with bank to create credit or vice versa. 3) Amount of Cash Available:It means excess cash available after deducting CRR. Excess cash available has direct relationship with credit creation. i.e. larger the excess cash available, higher will be credit creation or vice versa. 4) Volume of currency in circulation:It refers to the cash received through primary deposits. Credit creation depends upon primary deposit & it is directly related to volume of currency in circulation. I.e. higher the volume of currency circulation, higher primary deposit & credit creation or vice versa. 5) Banking habits among people:If people have banking habits, bank will receive more deposits & create more credit.
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If people lack banking habits, they will prefer to keep their income at home, hence less scope for credit creation. 6) Business Conditions:Credit creation is also related to the existing business condition in the economy. During the period of prosperity, business people demand for loans & advances, hence large credit creation. During the period of depression period, demand for loans & advances falls, hence low credit creation. 7) Credit Control by Central Banks:Central Bank has full authority to control credit in the economy. Central Bank takes various measures like increase or decrease in CRR, bank rate policy,, open market operation etc. to affect the power to create credit. 8) Leakages in credit Creation:There are various reasons which restricts banks to create credit which are as follows:The borrower withdraws cash & keeps a part amount with himself. The Banks may not use the entire excess reserves for credit creation. The people use the loan money for making payment for imported goods. From the above reasons the power of creating credit gets reduced.

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13. CENTRAL BANKING


1] Definition of Central Bank: A Central Bank is to help control & stabilize the monetary & Banking System. The Reserve Bank of India serves as the Central Bank of India. The RBI was established in the year 1935 & it was nationalized in the year 1949. The major functions of Central Bank are: a) Issue of Currency b) Support to Government c) Controlling the credit d) maintaining foreign exchange reserve etc. 2] FUNCTIONS OF CENTRAL BANK: 1) Issue of Currency: The Central Bank has the sole authority for the issue of currency in India other than one rupee coins & notes & subsidiary coins. Central Bank exercise control over the volume of the currency of a country. 2) Governments Bank: Central Bank acts as the banker, adviser & agent to the govt. Central Bank performs most of the monetary functions on behalf of the government like a) Managing their funds, b) managing public debts, c) raising loans & advances for government by issuing Treasury Bills, etc. It also advises government in formulation & execution of monetary policy. 3) Bankers Bank: A central Bank has been vested with power to supervise & control the functions of all the banks. All the commercial banks keep certain cash reserve with the Central Bank & it acts as a custodian of the cash reserves of the banks. 4) Custodian of Foreign Exchange Reserve: The Central Bank has a responsibility to stabilize the exchange value of the nations Foreign exchange reserve. When Foreign exchange reserves are inadequate for meeting balance of payment problems, it borrows from IMF.(International Monetary Funds) 5) Controller of Credit: Credit plays an important role in the settlement of business transaction & purchasing power of people. Controlling Credit operations is a principle function of central bank & for this purpose it can use almost the Qualitative & Quantitative methods of credit controls.
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6) Lender of the last resort: Whenever a bank is in difficulty or does not have enough cash to pay to customer, it approaches to Central Bank for help. The central bank helps commercial bank by providing loans & advances or discounting bills of exchange, hence it is called as Lender Of last resort. 7) Clearing house: Central Bank provides clearing facility for the smooth function of commercial bank. There are large no. of commercial banks & it is not possible for all commercial bank to meet personally & settle their claims. Hence Commercial Bank solves these problems smoothly by debiting & crediting against each bank concerned. 8) Promotes of Development: Central Bank helps Government to promote economic development by developing financial sector in the economy. Central Bank setup NABARD Bank to provide loans to develop Rural & Agricultural sector. It also provides loans & advance to develop Industrial sector & also provide Export Import finance to encourage Globalization. 3] Methods of Credit Control by Banks:I) Quantitative Steps: Quantitative instruments used for influencing the total volume of credit in the economy. The Quantitative measures are as follows:1) Bank Rate Policy: The Bank rate is the rate at which Central Bank lends to the Commercial Banks. During inflation Central Bank increases the bank rates, which increases the cost of borrowings of Commercial bank. Who in turns change higher interest rate from borrowings. Hence the price of credit increases& the demand for credit falls. During deflation Central Bank reduces the bank rates which reduce the cost of borrowings of commercial bank & for borrowers; hence the demand for credit increases. 2) Open Market Operations:It refers to buying & selling of securities & other eligible paper by central bank in open market. During inflation central bank sells the securities & other liquidity with banks & people (market) & contracts credit.
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During deflation central bank purchase the securities, money flows in the market & liquidity increases with banks & people & expand credit. 3) Change in Reserve Ratio:There are two types of reserves i.e.:a) Cash Reserve Ratio: - It refers to that proportion of total deposits which a commercial bank has to keep with the central bank. b) Statutory Liquidity ratio: - It refers to that proportion of total deposits which a commercial bank has to keep with itself. Central Bank can use either or both reserve ratio to control credit. During inflation central bank increases the Reserve Ratio, which leads to reduce the liquidity in the market hence it contracts credit. During deflation central bank reduces Reserves, which leads to increase the liquidity in the market, hence credit expands. OR There are two types of Reserves i.e. cash reserves ratio & Statutory Liquidity Ratio: - it refers to that proportion of total deposits which the commercial banks has to keep with central bank & itself respectively. II) Qualitative Steps/ Selective steps: Qualitative instruments are used for regulating a particular use of credit & not its total volume. The Qualitative measures are as follows: 1) Margin requirements: A Banks provide loans & advances against securities like Gold, Shares, Property, etc. The difference between the value of security & the actual amount of the loans is known as margin. Central Bank can reduce flow of credit money in to undesirable sectors by increasing margin requirements. It can also increase the flow of credit money in the desirable sector (Agriculture) by reducing margin requirements. 2) Consumer Credit Regulation:Commercial Banks often provide advance to consumer for purchasing luxury goods like T.V, Refrigerators etc. Central Bank can regulate consumer loans by directing commercial banks to increase the minimum down payment or by reducing the no. Of installments for repayment of loan & can do vice versa during deflation. 3) Rationing of Credit: Central Bank uses this method for controlling & regulating the purpose for which credit is granted.
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This method helps to check the flow of money in to undesirable uses. 4) Moral Suasion: Moral Suasion is a Psychological means of controlling credit. It refers to persuasion & request made by central bank to the commercial bank to cooperate in controlling credit. For E.g. Central Bank request to commercial bank for not to finance the speculative activities etc. 5) Direct action: The Central bank may take direct action against the earning of commercial banks. Direct actions can be like: -a) Suspending the activities of the commercial bank, b) Refusal of renewal of license, refuse to rediscount their papers etc. 6) Issue of Directors: Central Bank also uses directives to various Commercial banks. Directives are in the form of oral or written, appeals or warning particularly to curb individual credit structure.

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14. PUBLIC ECONOMICS


Budget:The term budget is derived from the French word Budgette which means bag or a wallet. A budget is an annual financial statements the government showing estimated Expenditure & estimated revenue for the coming year i.e. April- 1 to march- 31. Hence, it is a financial plan which give estimation of how & from where will generate Revenue & where they will go to spend. COMPONENTS OF BUDGET:Budget is classified in to two parts that is shown in the following charts: BUDGET (I)REVENUE BUDGET (II) CAPITAL BUDGET

(1) Revenue receipts (2) Revenue expenditure

(1)Capital receipt

(2) Capital expenditure

(I)

REVENUE BUDGET:Revenue budget gives an account of revenue receipts & revenue expenditure. Revenue receipts:Revenue receipts are those receipts which increase usable funds of the government without creating any debt liability. It includes receipts from (a) Tax revenue & (b) Non- tax revenue i.e. a. Tax revenue: It includes proceeds from direct taxes (Income tax, Interest tax, cooperation tax etc.) & Indirect taxes (Custom duties, Sale tax, Service tax etc.) b. Non-tax revenue: It includes receipts from other than taxes like fees, fines, penalties, gifts & grants etc. Revenue expenditure:Revenue expenditure are those expenditure which reduce usable funds of the government Without reducing any debt liability. It includes expenditure on :
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1.

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a) b) c) d)

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Salaries to government employees Interest payment on loans Old age pensions Subsidies

(II)

Capital Budget:Capital Budget gives an account of capital receipts & capital expenditure. Capital Receipts: Capital receipts are those receipts which increase usable funds of the government by creating debt liability. It includes receipts from :a. borrowing by government from the public, reserve bank of India b. Borrowing from World Bank, Asian development bank etc. c. Small savings & public provident funds (PPF). Capital Expenditure: Capital expenditure are those expenditure which reduces usable funds of Government by creating debt liability. It includes expenditure on : a. Purchase of assets like land, building, machinery etc. b. Expenditure for the development of transport, communication etc. c. Provide loans to state government, Govt. companies etc.

1.

2.

TYPES OF GOVERNMENT BUDGET:TYPES OF BUDGET

(I) BALANCED BUDGET (Revenue = Expenditure)

(II) UNBALANCED BUDGET

(1) Surplus budget (Revenue > Expenditure) (I)

(2) Deficit budget (Revenue <Expenditure)

Balanced budget:A budget is said to be balanced when the estimated receipts is Equal to estimated expenditures. In other words, there is neither surplus nor deficit in the budget. This ensures financial & economic stability. Such budget is not suitable for less developed countries.
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(II)

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Unbalanced budget:A budget is said to be unbalanced when the estimated revenue is not Equal to estimated expenditure. Unbalanced budget is further classifieds in to two types i.e. Surplus Budget: A budget is said to be surplus when the total estimated receipts is Greater than total estimated expenditure. In the other word, the total receipts (RR+CR) is more than the total Expenditure (revenue expenditure+ capital expenditure) Such budget indicates a sound financial background of government. Normally developed countries like U.S.A, Canada etc. have surplus budget. Deficit Budget:A budget is said to be deficit when the total estimated receipts is lesser than Total estimated expenditure. In other words, the revenue receipts is lesser than the total expenditure (Revenue expenditure + Capital expenditure) Such budget indicates a poor financial background of government & Government borrowing funds to cover budget deficit. Normally underdeveloped and developing countries like India, Pakistan etc. have budget deficit.

1.

2.

TYPES OF BUDGETARY DEFICITS:1. Revenue Deficit:Revenue deficit occurs when the estimated revenue receipts is lesser than Revenue expenditure. Formula: Revenue deficit = revenue expenditure revenue receipts. The revenue deficit is either covered by borrowing or through sale of assets. Fiscal Deficit: Fiscal deficit occurs when total estimated receipts (revenue receipts+ capital receipts) Is less than total expenditure (revenue expenditure+Capital expenditure) excluding borrowing. Formula : fiscal deficit = total exp. total receipts + borrowing OR Fiscal deficit = budget deficit + borrowings Primary deficit:Primary deficit is calculated by deducting interest payments of government from the fiscal deficit. Formula : Primary deficit = fiscal deficit interest payments OR Primary deficit = budget deficit + borrowing Interest Payments

2.

3.

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