Short Answers 1.

Average Fixed Cost The factor inputs which remain unchanged in short run production functions are called fixed factors. Average Fixed Cost is total fixed cost divided by total units of output. Average Fixed Cost is defined as fixed cost per unit of production. AFC = TFC/Q As the output increases, total fixed costs increases and therefore average fixed cost progressively diminishes. Consequently, average fixed cost curve slopes downwards from the left to right but never touches the x-axis or y-axis. Average Fixed Cost curve is a rectangular hyperbola. AC and AVC curves slope downwards up to a level of output and slopes upwards later. At any given level of output, the gap between AC and AVC curves must be equal to the gap between AFC curve and x-axis. It implies that any point on the curve gives the same total cost as the product of multiplication of average fixed cost by the units of output. Thus, Average Fixed Cost curve signifies that total fixed cost is constant throughout the production. 2. Economies of Scale Economies of Scale maybe defined as anything which serves to minimize average cost of production in the long run as the scale of output increases. It relates to the characteristics of the production process by which average productivity is enhanced with the expanding scale of output. Increasing returns to scale are caused by real economies. The economies of scale can be classified as Internal Economies and External Economies Internal Economies are those economies which are open to an individual firm when its size expands. They emerge within the firm itself as its scale of production increases. Internal economies cannot be realized unless the firm expands its size. Thus, internal economies are the function of the size of the firm. Various forms of internal economies are labour, technical, marginal, marketing financial and risk bearing economies. External Economies are those economies which are shared by all the firms in an industry or in a group of industries when their size expands. They are available to all the firms, irrespective of their size and scale of production. External economies are the result of the growth and expansion of any particular industry or a group of industries as a whole. Various forms of external economies are localization, information or technical and market intelligence, vertical disintegration and economies of by-products. 3. Privatization Privatization is the process by which the government transfers the productive activity from the public sector to the private sector. According to Barbara Lee and John Nellis, privatization is the general process of involving

the private sector in the ownership or operation of a state owned enterprise. Privatization has been advocated on the following grounds Improvement in efficiency and performance Fixing responsibility is easier Private units are subject to capital market discipline Political interference is unavoidable in public enterprises Decision making becomes easier Response time in case of private sector is less Remedial measures are taken earlier in private sector Political considerations make improvement and efficiency difficult in public enterprises Privatization results in better service to customers

4. Gross National Product GNP = GDP + (X-M) + (Rf-Pf) X = Exports M = Imports Rf = factors received Pf = factor payments (X-M) = Balance of trade (Rf-Pf) =Net factor incomes from abroad It is the current market value of all the final goods and services produced in a country during one year of time. Production of goods and services must be made by the citizens of that country irrespective of where it is produced. Gross National Product maybe ><= Gross Domestic Product, depending upon Indias trade position with other countries. Gross National Product < Gross Domestic Product is not a good sign for the economy 5. Socialism According to Paul M. Sweezy, socialism is a complete social system which differs from capitalism not only in the absence of private ownership of means of production but also in its basic structure and mode of functioning. The term socialism has been popularized by Karl Marx. He is considered as father of scientific socialism. In a socialist system, there is no private property. The means of production are owned by the state. Goods are produced by the state enterprises. A central authority decides what and how much of goods shall be produced. Profit motive is replaced by social welfare motive. Price mechanism does not operate and consumer freedom is restricted because the state decides what to produce. The features of socialism can be broadly given as no private property, state ownership of the means of production, goal of social welfare, planned economy, equitable income distribution, equal opportunities, social security, elimination of competition, classless society and no windfall profits.

6. Macro Economics Macro Economics is derived from the Greek word macros which means large. It is the study of economic system as a whole. According to K.E.Boulding, Macro Economics deals not with individual quantities as such but with aggregates of the quantities, not with the individual in crores but with the national incomes, not with individual price but with the price level, not with the individual outputs but with the national output Macro Economics is important to know the working of an economy, solve employment related problems, formulate suitable economic policies, study national income, tackle the problems of inflation/ deflation, business cycles, economic growth/ development, solution to monetary problems, standard of living of people, promote economic welfare and attain the best allocation of resources Macro Economics is subjected to limitations such as too much generalization is not good, all units of the aggregates may not be homogeneous, indiscriminate use of macroeconomics may become irrelevant, statistical and conceptual difficulties, aggregates may not be important always and limited applicability of it. 7. Cross Demand It studies the functional relationship between the quantity demanded of one commodity and the price of other commodity. Qdx=f(Py) i. X and Y maybe competitive/substitutes ii. X and Y maybe complimentary Substitutes Two or more than two goods are said to be substitutes for one another when they serve the same purpose depending upon the degree of substitutability, the substitutes can be classified into 3 types. Perfect Substitutes Two or more goods are said to be perfect substitutes if they are identical goods or when there is no difference in the goods. Close Substitutes Two or more goods are said to be close substitutes if there is a small difference in the goods Remote Substitutes Two goods are said to be remote substitutes for each other if there is a great difference between the two goods Complimentary Goods Two or more than two goods are said to be complimentary for one another when they are used simultaneously in a certain proposition in the fulfillment of a given want of an individual. In case of complimentary goods, there is a negative co-relation between the price of one commodity and demand for other commodity. As a result, the demand will have negative slope. 8. Recession The business cycle is divided into four phases. 1. Prosperity Phase 2. Recessionary Phase 3. Depressionary Phase 4. Recovery Phase Recession Recession begins when prosperity ends. Recession relates to a turning point rather than a phase. It lasts relatively for a shorter period of time. It marks the point at which the forces that make for contraction finally win over the forces of expansion. The outward symptoms of recession are liquidation in stock market, reluctant to borrow bank loans and the decline in prices. People lose confidence in future possibility of investment. Hence, the production of capital goods drastically falls. During this period, the banking system and

the people in general try to attain greater liquidity. There is a general drive to contract the scale of operations, leading to increase in unemployment. Thus, income throughout the economy falls. Reduced income causes a decrease in aggregate expenditure and thus the general demand falls, which in turn prices, profit and business activities decline. Essays 1. Distinguish between economic and non-economic activities ECONOMIC ACTIVITY These activities are taken up to earn a living through production and sale of goods and services. The very basis of these economic activities is economic motive. Remuneration These activities ultimately result in the generation of income. Motive/ Consideration These activities are guided by economic motive as they involve the use of scarce productive resources. Necessity Economic activities are necessary to create wealth. Employment, profession, business. Basis Objective/ Purpose NON-ECONOMIC ACTIVITY These activities are taken up to satisfy personal, social, spiritual and patriotic obligations. The basis of these activities is personal or social motive. These activities do not result in the generation of monetary gains. These activities are guided by emotions and sentiments. Hence personal inconvenience or economic loss is not considered here. Non-economic activities are necessary for pleasure, religious purposes and psychological satisfaction. Serving the family, the poor, the nation, etc. without expecting any monetary gain.

Examples

2. Explain Law of Diminishing Marginal Utility (or) Psychological Law of Consumption (or) H.S.Gossens First Law with exceptions The law of diminishing marginal utility was originally explained by H.H. Gossen and it was popularized in a more scientific way by Alfred Marshall. The law explains the relationship between the utility and the stock of the commodity. According to the law, if a person goes on consuming more and more units of a commodity, the additional utility he derives from the consumption of additional units of the commodity goes on diminishing. Assumptions Utility can be measured Consumer is a rational man Utilities are independent Homogenous commodity The tastes and preferences of the consumer remain constant There should be continuity in the consumption of commodity Units of commodity are not rare collections like stamps, coins or paintings Units of the commodity should of suitable size i.e. neither too big nor too small Marginal utility of money is constant Commodity is divisible into small units

Definitions According to Alfred Marshall, The additional benefit which a person derives from a given increase of his stock of a thing diminishes with every increase in the stock that he already has The law can be explained with the help of Total utility and Marginal utility Total Utility it is the total satisfaction obtained by the consumer from al the units of a commodity taken together at a time. TUx=f(Qx) Marginal Utility it is the additional satisfaction obtained from an additional unit of a commodity consumed. MUx=TUx-TUx-1 Units of commodity 1 2 3 4 5 6 7 Total Utility 20 35 45 50 50 45 35 Marginal Utility 20 15 10 05 0 -5 -10

From the above table and graph, it is observed that, a) When the consumer consumes more commodity, total utility increases at a diminishing rate, marginal utility diminishes from the beginning b) When the marginal utility is zero, total utility is maximum c) Beyond this, any further consumption leads to decrease in total utility and negative marginal utility Thus, the law of diminishing marginal utility states that as the consumption of a commodity with consumer increases, its marginal utility diminishes. Limitations of Law a) If there is any change in consumers preferences b) In case of durable goods c) In case of complimentary goods d) In case of indivisible goods e) For hobbies like stamps and coin collection, etc. the law is not applicable Importance of Law a) The law explains the difference between value in use and value in exchange b) It helps government in formulating taxation policies c) It is the basis for the law of demand d) It is important for the policy of redistribution of income and wealth e) The law explains the diamond-water paradox 3. Law of Demand with exceptions

Ceteris Paribus, the quantity demanded of a good tends to rise with a fall in price, conversely the quantity demanded tends to fall with a rise in its price- Alfred Marshall

Assumptions No change in consumers income No change in consumers preferences No change in fashion No change in the prices of related goods No expectations of future price changes or shortages No change in size, age-composition and sex-ration of the population No change in the range of goods available to consumers No change in the distribution of income and wealth of the community No change in government policy No change in weather conditions Demand Schedule Individual demand schedule the quantity demanded by a single consumer in the market at varying prices can be shown in individual demand schedule Market demand schedule it shows the total demand for the commodity by all the consumers in the market. Various individual demands are added up to get the market demand schedule The demand curve always slopes downwards from left to right or it has a negative slope. The following are the reasons Real income effect Substitution effect Real Income Effect The consumers start buying more under the impression that they have become richer. It is called real income effect. Substitution Effect Consumers buying more and more of a commodity as it becomes cheaper and cheaper. They start using the commodity for more and more purposes. Income Demand It is the functional relationship between the quantity demanded of a commodity and consumers income is called income demand. It is directly proportional. The exact nature of relationship between the consumers income and quantity demanded depends upon the nature of the commodity Superior Good In case of superior goods, the demand will increase with the increase in the incomes of the consumers. It shows a positive or direct relationship.

Inferior Good the demand for the inferior goods decreases with the increase in incomes of the consumers. It shows a negative or inverse relationship.

Normal Good Normal goods is one which is consumed by every individual customer in the society irrespective of wealth and income. It is zero co-relation.

Cross Demand It studies the functional relationship between the quantity demanded of one commodity and the price of other commodity. Qdx=f(Py) i. X and Y maybe competitive/substitutes ii. X and Y maybe complimentary Substitutes Two or more than two goods are said to be substitutes for one another when they serve the same purpose depending upon the degree of substitutability, the substitutes can be classified into 3 types.

Perfect Substitutes Two or more goods are said to be perfect substitutes if they are identical goods or when there is no difference in the goods. Close Substitutes Two or more goods are said to be close substitutes if there is a small difference in the goods Remote Substitutes Two goods are said to be remote substitutes for each other if there is a great difference between the two goods Complimentary Goods Two or more than two goods are said to be complimentary for one another when they are used simultaneously in a certain proposition in the fulfillment of a given want of an individual. In case of complimentary goods, there is a negative corelation between the price of one commodity and demand for other commodity. As a result, the demand will have negative slope. Expectations to the Law of Demand Giffens goods Articles of snob appeal Speculation Consumers psychological bias or illusion

4. Distinguish between movement along the demand curve and shifts in the demand curve The other types of demand are Extension Contraction Increase Decrease Extension - Rise in the quantity demanded due to fall in the price is called extension of demand. A downward movement along the demand curve represents extension of demand.

Contraction - Fall in the quantity demanded due to rise in the price is called contraction of demand. An upward movement along the demand curve represents contraction of demand.

Increase and Decrease in Demand - Change in the quantity demanded of a commodity due to changes in the factors other than the price represents increase or decrease in the demand. Increase in Demand - Increase in demand represents higher demand at the same price or same quantity. The demand curve shifts right, which represents increase in demand.

Decrease in Demand - Decrease in demand represents lower demand at the same price or same quantity. The demand curve shifts left, which represents decrease in demand.

The reasons for change (increase or decrease) in demand are i. Change in income ii. Change in taste, habit and preference

iii. Change in fashions and customs iv. Change in the distribution of wealth v. Change in substitutes vi. Change in complimentary goods vii. Change in population viii. Advertisement and publicity persuasion ix. Change in the value of money Change in the level of taxation x. xi. Expectations of future changes in price 5. Law of Variable Proportions. Reasons for three stages of the law Statement other things remaining constant, an increase in the application of labour and capital in the cultivation of a fixed amount of land causes in general, a less than proportionate increase in the product raised unless it happens to coincide with an improvement in the art of cultivation Alfred Marshall. The law of Variable Proportions is related to short period production function. The producer tries to change variable factors and increase the production in short period. Since input proportions are changed, the law is known as Law of Variable Proportions. Assumptions (a) The law applies only to agriculture sector (b) Fixed factor of production is land (c) Labour and capital are variable factor inputs (d) Diminishing returns operate in agriculture (e) There is no improvement in the art of cultivation The law can be explained with the help of three concepts and three stages in production. Total Product the output produced by all the laborers is known as total product. Average Product the product per laborer is known as average product. It is obtained by total product divided by no. of laborers. Marginal Product it is the additional output produced by an additional laborer. It can be known from changes in total product. MPn = TPn TPn-1 The three concepts are explained in the following table Variable Input Total Average (Laborer) Product Product 1 30 30 2 80 40 3 120 40 4 150 37.5 5 170 34 6 180 30 7 180 26 8 170 21.5 Marginal Product 30 50 40 30 20 10 0 -10

The law of variable proportions is classified into 3 stages based on the behavior of marginal product Stage I It is known as the stage of increasing returns because the marginal product of variable factor has been increasing. The contribution of additional unit of labour is higher. As a result, the total product has been increasing at an increasing rate. This stage ends where the marginal product is the highest. Stage II It is known as the stage of diminishing returns because the marginal product of the variable factor has been diminishing. The contribution of each additional unit of labour has been lower and lower. Each extra worker is giving less productivity to business. This stage ends were marginal product is zero and total product is the highest. Stage III it is known as the stage of negative returns because the marginal product of variable factor has become negative. As a result, the total product has been diminishing. Reasons for Increasing Returns I Stage In the beginning of the first stage, fixed factor is too much in relation to variable factor. As a result, the available fixed factor is under-utilized. In such a situation, any increase in the units of labour leads to better utilization of the existing fixed factor. Consequently, efficiency of the fixed factor increases. Gradual increase in the units of the variable factor i.e. labour makes it possible to introduce division of labour. Division of labour increases the efficiency of the labour. Increase in the efficiency of the fixed factor and increase in the efficiency of variable factor together result in increasing returns in the first stage of the law. Reasons for Negative Returns III Stage In the third stage, the variable factor is too much and fixed factor is too little. Some units of the variable factor either remain idle or under-employed. The existing fixed factor is over-utilized or over-exploited because of too much of labour. As a result, the fixed factor loses its efficiency. Negative returns occur in the 3rd stage because of the above two reasons. Importance The law is useful to the producer to plan his production in short period. Of the 3 stages, the producer should not remain in the first stage as the total output is not maximum. Therefore he should enter second stage. He should not enter third stage because the total product is diminishing. First and third stages are called stages of economic absurdity. The second stage is rational and practical for the production. 6. Internal and External Economies of Scale Economies of Scale maybe defined as anything which serves to minimize average cost of production in the long run as the scale of output increases. It relates to the characteristics of the production process by which average productivity is enhanced with the expanding scale of output. Increasing returns to scale are caused by real economies. The economies of scale can be classified as Internal Economies and External Economies Internal Economies Internal Economies are those economies which are open to an individual firm when its size expands. They emerge within the firm itself as its scale of production increases. Internal economies cannot be realized unless the firm expands its size. Thus, internal economies are the function of the size of the firm.

Various forms of internal economies 1. Labour Economies Increased division of labour is a major source of labour economies. The extent of division of labour is a preconditioned by the scale of output. As output increases and the labour force grow, a more and more complex division of labour with a greater degree of specialization is possible. 2. Technical Economies Technical economies refer to reductions in the cost of the manufacturing process itself. These relate to the methods and techniques of production, especially to the nature and forms of capital employed. a. Economies of superior technique As a firm expands, it can use superior techniques to produce capital goods. Small firms can combine and produce capital goods together with superior techniques and use it for mutual benefit b. Economies of increased dimension Certain technical economies may become available just on account of increased dimensions. It is a purely a mechanical advantage of using large machines. c. Economies of linked process A large plant usually enjoys the advantage of linking of processes, i.e., by arranging production activities in a continuous sequence without any loss of time. d. Economies in power Large units of machines and their continuous running by a large firm are often more economical in their power consumption as compared to a small machine e. Economies of by-products Large firms can make a more economical use of their raw materials. A large firm can avoid waste of its raw materials, which it can economically use for manufacturing of by-products. f. Economies of continuation Technical economy are also realized due to long run continuation of the process of production. 3. Marginal Economies As a result of the divisibility of managerial factors, the cost per unit of management will fall as output increases. Thus, with the increasing scale of output, greater managerial economies are enjoyed by an expanding firm. It can only be realized when production is on large scale. 4. Marketing Economies Marketing economies are economies of buying of raw materials and selling of goods produced. A large firm can generally buy more cheaply than a small firm because it can purchase its raw materials on a large scale at a low cost. 5. Financial Economies In financial matters also, a large firm has relatively greater advantages than a smaller firm. Usually, it has wider reputation and greater influence in the money market. Thus the cost of obtaining credit and capital is lower to a large concern than to a smaller firm. 6. Risk bearing economies A large firm by producing a wide range of products is in a position to eliminate or minimize business risks by spreading them over. Risk spreading advantages are sought by a big firm in the following ways a. By diversification of outputs As a big firm can produce a number of items and in different varieties, the loss in one can be compensated by gain in others. b. By diversification of market When a product is produced on a large scale, it can have an extended market throughout the country so that the danger of fluctuations in demand is reduced to the minimum. c. By diversification of sources of supply as well as process of manufacturing In a large firm, there are less chances of disruption of output as a result of scarcity of raw materials of breakdown of a particular process. External Economies External Economies are those economies which are shared by all the firms in an industry or in a group of industries when their size expands. They are available to all the firms, irrespective of their size and scale of

production. External economies are the result of the growth and expansion of any particular industry or a group of industries as a whole. Various forms of external economies 1. Localization When a number of firms are located in one place, all of them derive mutual advantages through the training of skilled labour, provision of better transport facilities, stimulation of improvements, etc. These are the benefits of localization. Concentration of a particular industry in one area, results in the mutual benefit of all the firms in that area. 2. Information or technical and market intelligence A large growing industry can bring out trade and technical publications to which every firm can have access. Producers are thus saved from independent research which is very costly. There can be a research of association of the industry as a whole. 3. Vertical disintegration The growth of industry will make it possible to split up production and some subsidiary jobs can be left to be done more efficiently by specialized firms. New subsidiary industries may grow up to serve the needs of the main industry. 4. Economies of by-products A large industry can make use of waste materials for manufacturing byproducts. The firms using it can flourish when waste material available in the industry is converted into by-products 7. Price Determination under Perfect Competition One of the features of perfect competition is that every individual firm offers its product for sale at the same unit price. Every individual buyer has to pay same unit price irrespective of the quantity he decides to buy. Alfred Marshall says that Perfect Market is neither a sellers market nor a buyers market. No individual firm is strong enough to decide and influence the market price because there are large no. of firms and the output produced and quantity supplies by any single firm are too small in relation to the total market supply. Similarly, no single buyer is strong enough to decide and influence the market price by his decision to buy the product because the quantity demanded by him is too small in related to the market demand. Price is determined by the forces of market demand (demand of all the customers) and market supply (supply of all the firms) Alfred Marshall argues that market demand and market supply are as important in price discrimination as two blades of the same scissor cutting a piece of cloth. Market Demand f (price) negative co-relation Market Supply f(price) positive co-relation

Market Demand and Market Supply Schedule Price 10 15 20 Market Demand 60 50 40 Market Supply 40 50 60

Md>Ms Excess demand situation (scarcity/shortage in market) Md=Ms Equilibriu situation (no surplus/no shortage) Md<Ms Excess supply situation (surplus/glut in market)

When Md>Ms prices tend to move up When Md=Ms price will stabilize When Md<Ms price tend to go down Equilibrium price is one where the quantity demanded in the market is equal to quantity supplied in the market. The price will continue to be same until there is a change either in demand or supply.

Shifts in Demand Curve

Shifts in Supply Curve

8. Price rigidity under Oligopoly. Explain the kinked demand curve Oligopoly was originally propounded by Professor Hedge worth and Wilfred Pareto. It was later developed by Paul M. Sweezy, Professor Hall and Professor Hitch. According to Paul M. Sweezy, monopoly is not desirable, monopolistic market is also not desirable. Monopoly is inefficient due to absence of competition, poor quality of product and high cost. Monopolistic Market is inefficient due to too much competition and wastage of resources. Absence of competition in monopoly and too much competition in monopolistic market are not desirable. Paul M. Sweezy, suggested a form of market which should be based on the principle of co-operation among the firms rather than competition. He named that market as oligopoly market.

Features 1. No. of firms there should not be a single firm as it leads to monopoly. There should not be many firms as it leads to monopolistic competition. On the other hand, there should be limited no. of firms. According to Paul M. Sweezy, no. of firms can be between 2 and 10. 2. Nature of relationship between the products produced by the firm the products produced by the firms can be identical or products can be differentiated. If the product of the firms is identical, it is called oligopoly without product differentiation. If the products are not identical but similar, it is called oligopoly with product differentiation. 3. Agreement the firms decide to avoid competition and accept co-operation as a means of survival and progress. The firms form an association called cartel. Cartel is a group of oligopoly firms. The firms decide to avoid price war and all the firms agree to offer their products for sale at a single price acceptable to all. Price Determination in Oligopoly All the firms together decide the price in such a way that at least normal profits are guaranteed to the least efficient firm or the firm with the highest average cost. Derivation of demand curve under oligopoly market A,B,C,D,E,F,G,H,I,J, are 10 firms who are in the condition of oligopoly. J tries to increase the price from 20 to 22 after some time when he is confident that he will not lose the customers in spite of higher price. Previously, Js price was 20. Demand is 100. Total Revenue is 2000 Now, Js price is 22. Demand is 5. Total Revenue is 110 If a firm increases price, other firms do not increase price. If a firm decreases price, other firms decreases price. Oligopoly demand curve is kinked demand curve.

9. Methods of measurement of National Income (a) Dividend Method Census of Income Method (b) Product Method Census of Output Method (c) Expenditure Method/ Outlay Method Census of Expenditure Method Dividend Method Census of Income Method

Under Income Method, the national income of a country is estimated by taking into account the income earned by the owners of all the factors of production during a period of one year. For this purpose the factors of production are classified into (i) Land Rent (R) (ii) Labour force Wages (W) (iii) Capital Interest (I) (iv) Organization Profits (P) (v) Self-employed Mixed Income (MI) The total rental earnings of all the landlords (R), total earnings of all the labour force (W), total earnings of capital lent by businessman (I), profit or loss of all the businesses of the country (P) and mixed income (MI) of the self-employed should be added to get Gross Domestic Income. GDI = R+W+I+P+MI Income Method = Gross National Income = GDI + (Rf-Pf) GDI Gross Domestic Income; Rf Factor receipts; Pf Factor payments Precautions to be taken in estimation of national income from income method Income earned by people from unauthorized sources like robbery, smuggling, etc. are ignored in measurement of national income All transfer earnings of the people like scholarships, pensions, gifts, reliefs, etc. do not form part of national income Windfall gains and loss unexpected profits and losses are ignored Income from gambling like playing cards, betting, horse riding, lottery, etc. do not form part of national income Product Method Census of Output Method Under Product method, the national income is estimated by taking into account the market value of all the final goods and services produced during a period of one year. N.I = [{(Q - D) + (X - M) + (Rf - Pf)} - (IT - S)] Q = GDP = C+I+G D Depreciation X Exports M Imports Rf Factor receipts Pf Factor payments (X - M) Balance of trade {(X - M) + (Rf - Pf)} Balance of payments {(Q - D) + (X - M) + (Rf - Pf)} Net National Product It is difficult to classify the goods into final goods and intermediate goods. There is no scientific method of classification. The same product can final good for one purpose and intermediate good for other purpose. An alternative approach is developed to overcome this difficulty which is Value Added Approach Value Added Approach A commodity undergoes changes in various processes before being declared as final good. Example

2010 Farmer produced Raw cotton 50 cr 2011 Power loom industry Thread 60 cr 2012 Textile mill Cloth 80 cr 2012 Ready-made garment shirt 100 cr If national income is estimated by product method of final goods approach, there is national income of 100cr in year 2013 and no income in previous years This results in over-estimation of the performance of the economy in the year 2013 and under estimation or zero performance in previous three years If value added approach is followed, there is no over-estimation or under estimation of the performance of the economy in any year Value added is equal to the value at the end of the year value at the beginning of the year Value added = closing value opening value; value at end beginning value Value added to the product notwithstanding whether product has become final or not, should become part of the national income of the year in which process is completed.

Expenditure Method/ Outlay Method Census of Expenditure Method Under expenditure method, national income is estimated by a) Household sector family - consumption expenditure (C) b) Business sector firm sector - investment expenditure (I) c) Government sector government expenditure (G) d) Foreign trade sector - (X - M) + (Rf - Pf) National income is estimated by taking into account expenditure incurred by different sectors of the economy on final goods and services. Estimate the expenditure of household sector on all final goods and services. It is called as consumption expenditure Estimate the expenditure of business sector on all final producer goods or capital goods. It is called as investment expenditure Estimate the expenditure made by government on various types of final goods. It is called as government expenditure. Government expenditure is also called as autonomous expenditure as there is no profit motive. Gross Domestic Expenditure = C+I+G Foreign trade sector. It includes exports, imports, factor payments and receipts Gross National Expenditure = GDE + (X - M) + (Rf - Pf) Precautions Expenditure incurred by any sector on the purchase and sale of second hand goods should be ignored Expenditure by the government in the form of transfer payments like pensions, scholarships, etc. 10. Advantages and Disadvantages of International Trade International Trade is the exchange of goods and services across the territorial boundaries of different countries of the world. International trade of goods and service serves as the most powerful linkagesinterdependence among the various national economies. Today, countries all over the world are becoming

closer and co-ordinated which has complex network of growing economic interdependence as well as cordial political and social relations developed under the expanding global trade. Advantages 1. Optimum allocation international specialization and geographical division of labour leads to the optimum allocation of worlds resources, making it possible to make the most efficient use of them 2. Gains of specialization each trading country gains when the total output increases as a result of division of labour and specialization. These gains are in the form of more aggregate production, large number of varieties and greater diversity of qualities of goods that become available for consumption in each country as a result of international trade 3. Enhanced wealth increase in the exchangeable value of possessions, means of enjoyment and wealth of each trading country 4. Larger output enlargement of worlds aggregate output 5. Welfare contour increase in the worlds prosperity and economic welfare of each trading nation 6. Cultural values cultural exchange and ties among different countries develop when they enter into mutual trading 7. Better international politics international trade relations help in harmonizing international political relations. 8. Dealing with scarcity a country can easily solve its problem of scarcity of raw materials of food through imports 9. Advantageous competition competition from foreign goods in the domestic market tends to induce home produces to become more efficient to improve and maintain the quality of their products 10. Larger size of product because of foreign trade, when a countrys size of market expands, domestic producers can operate on a larger scale of production which results in further economics and thus promote development. Disadvantages 1. Exhaustion of resources when a country has larger and continuous exports, her essential raw materials and minerals get exhausted, unless new resources are tapped or developed 2. Blow to infant industry foreign competition may adversely affect new and developing infant industries at home 3. Dumping dumping tactics restored to by advanced countries may harm the development of poor countries 4. Diversification of savings a high prosperity to import may cause reduction in the domestic savings of the country. This may adversely affect her rate of capital formation and the process of growth 5. Declining domestic employment under foreign trade, when a country tends to specialize in a few products, job opportunities available to people are curtailed 6. Over interdependence foreign trade discourages self-sufficiency and self-reliance in an economy. When countries tend to be interdependent, their economic independence is jeopardized.