1

Introduction Important Questions For

Class 12 Economics Economics and its
Types
1. Economics It is a social science which studies the way a society
chooses to use its scarce resources, which have alternate uses, to
produce goods and services and to distribute them among different
groups of people. It deals with making choices in the backdrop of
scarcity.

2. Definition of Economics According to Paul A Samuelson

‘Economics is the study of how men and society choose, with or
without the use of money, to employ scarce productive resources
which could have alternative uses, to produce various commodities
over time and distribute them for consumption now and in the
future amongst various people and groups of society.’

3. Branches of Economics Economics has two branches namely

microeconomics and macroeconomics.(i) Microeconomics It refers to
the branch of economics, dealing with the economic problems or
economic issues at the level of an individual. Microeconomics focuses
on the action of individuals and industries, like the dynamics
between buyers and sellers, borrowers and lenders, etc.

Examples of microeconomic study are:

(a) Theory of consumer behaviour

(b) Theory of price, etc

(ii)Macroeconomics It refers to the branch of economics dealing

with the economic problems or economic issues at the level of an
2

economy as a whole. Macroeconomics takes a broader view by

analysing the economic activity of an entire country.

Examples of macroeconomic study are:

(a)Theory of equilibrium level of output and employment and

(b)Theory of investment multiplier, etc.

4. Economy An economy is a system in which and by which people

get & living to satisfy their wants through the processes of
production, consumption, exchange and investment.

5. Types of Economy

(i) Market economy In the market economy, economic activities are

fully dependent on the role of market forces of demand and supply.
Producers are free to produce the highly demanded goods and
services in order to maximise their profits.

(ii) Centrally planned economy It is that economy, in which course

of economic activities are decided by some central authority or by
the government. Only the central authority decides the full variety
of goods and services that people can produce or consume.

(iii) Mixed economy It is that economy in which the features of both

market and centrally planned economy applies. In this, economic
activities are generally left to the free play of the market forces,
but the government exercises its control to check the excess
fluctuations in the market.

Previous Years Examination Questions

1 Mark Questions
3

1. Define microeconomics. (Ail India 2012,2009; Foreign

2011)

or

Give the meaning of microeconomics. (Delhi 2009,2007)

Ans. Microeconomics refers to the branch of economics dealing with

the economic problems or economic issues of small or individual
economic units, e.g. single consumer or produce.

2. Give two examples of microeconomic studies. (AN India

2012,2009; Delhi 2009,2007)

Ans. The two examples of microeconomics are demand of a

commodity and supply of a commodity.

3. Give the meaning of economy. (Delhi 2012)

or

Define an economy. (All India 2011; Delhi 2010c)

Ans. An economy is a system in which and by which people get a

living to satisfy their wants through the processes of production,
consumption, exchange and investment.

4. Define macroeconomics. (All India 2011)

Ans. Macroeconomics refers to the branch of economics, dealing

with the economic problems or economic issues at the level of an
economy as a whole, e.g. inflation, employment., etc.
4

5. What is the planned economy? (Delhi 2011)

Ans. Planned economy is that in which course of economic activities

is decided by some central authority or by the government.

6. What is a market economy? (Delhi 2011)

Ans. Market economy is that in which economic activities are fully

dependent on the role of market forces.

7. Give one example each of microeconomics and macroeconomics.

(Delhi 2009c)

Ans. Example of microeconomics : Theory of demand

Example of macroeconomics : Aggregate demand

3 Marks Questions

8. Explain the difference between a planned economy and a market

economy (Delhi 2010C)

Ans. Difference between planned economy and market economy

5

4 Marks Questions

9. Distiguish between microeconomics and macroeconomics (All

India 2010)

Ans .Difference between microeconomics and macroeconomics

10. Giving suitable examples, explain the meaning of

microeconomics and macroeconomics? (Foreign 2010)
6

Ans.Microeconomics refers to the branch of economics dealing with

the economic problems or economic issues of small or individual
economic units, e.g. single consumer or producer.

11. Explain any two main features of a centrally planned economy.

(Delhi 2010)

Ans. Two main features of a centrally planned economy are as

follows:

(i) In this economy, decisions relating to economic problems are

taken by some central authority appointed by the government of
the country.

(ii) Social welfare or collective welfare is the prime consideration

behind allocation of resources to the production of different goods
and services.

Introduction Important Questions for

Class 12 Economics Central Problems
of An Economy, Production Possibility
Curve and Opportunity Cost
1. Economic Problem Problem of choice or a problem of allocation of
resources is the major economic problem which arises due to scarce
resources and alternative uses of resources. With this meaning we
have several other aspects also to study which are:

(i) Scarcity It refers to the situation where demand for a good

exceed its supply.
7

(ii) Choice It refers to the process of selection from available limited

resources .

Or in more simple way

‘Scarcity causes choice’

‘Choice implies decision-making’

‘Decision-making’ relates to usage of limited resources in a manner

that consumer maximises his satisfaction, producer maximises his
profits and a nation maximises its social welfare.

2. Central Problems of An Economy At the micro level, every

economy has to face three central problems, i.e. what to produce,
how to produce and for whom to produce.

(i) What to produce Problem of ‘what to produce’ arises as the

economy has limitedresources. In an economy because of scarcity of
resources, producers are unable to produce everything in desired
quantity, a but they will have to make a choice as to which one is
important as a whole, so that limited resources can be rationally
managed. Problem of ‘what to produce’ involves two fold decisions;
kinds of goods to be produced and quantity of goods to be
produced.

(ii) How to produce It is concerning with, how to organise

production. This problem is related to the choice of technique of
production. It arises due to the availability of various techniques for
the production of a commodity such as labour intensive technique
and capital intensive technique. Depending upon the availability of
resources, either technique is used.
8

(iii) For whom to produce This is essentially the problem of

distribution of income between (a) the different groups of the
society and (b) now and in the future. As to income distribution
between the different groups with in a society an economy has to
find ways and means to get a distribution that promotes social
welfare at present and on the other hand do not compromise the
need of the future generation. Distribution of income could be of
two types:

(a) Factoral distribution

(b)Interpersonal distribution

3. Production Possibility Curve (PPC) It is a curve which shows

various production possibilities with the help of given limited
resources and technology. It is also known as production possibility
frontier and transformation curve. it is a tool which can help to
solve the central economic problems.

From the given curve following

conclusions are drawn

(i) PPC is always concavg to the origin because of rising MRT

(Marginal Rate of Transformation)

(ii) PPC slopes downward because of inverse relationship, between

the production of the
9

two goods, i.e. production of both the goods cannot be increased

simultaneously

4. Shift in the Production Possibility Curve

The rightward shift of Production Possibility Curve indicates the

increase in the resources or productive capacity of the economy,
which expands production of both the goods. On the other hand,
the leftward shift of Production Possibility Curve indicates the
decrease in the resources or productive capacity of the economy,
which contracts production of both the goods

5. Rotation in Production Possibility Curve The Production

Possibility Curve will rotate, whenever, there will be change in
technology i.e. either improvement or deprivation, related to the
production of one good only.
10

6. Opportunity Cost

Opportunity cost for a commodity is the amount of other

commodity that has been foregone in order to produce the first or
in otherwords, it is the cost of the next best (second best)
opportunity foregone.

7. Marginal Opportunity Cost (MOC) or Marginal Rate of

Transformation (MRT)

It is the ratio of number of units of a good ‘Y sacrificed to produce

an additional unit of good‘X.

Previous Years Examination Questions

1 Mark Questions
1. Unemployment is reduced due the measures taken by the
government. State its economic value in the context of Production
Possibilities Frontier. (Delhi 2014)
11

Ans. When government taken measures to reduce the

unemployment it enables the economy to utilise its existing
resources in the optimum manner and moves from inside the PPC
to points on the PPC. Hence, economic value is reflected in terms of
increased output arid income.

2. Large number of technical training institutions have been started

by thegovernment. State its economic value in the context of
Production Possibilities Frontier. (Foreign 2014)

Ans. The technical training institutions will help increase the

efficiency of the labour force, leading to optimum utilisation of
resource. Economy will move from a point below PPC towards a
point on PPC.

Economic value reflected is in terms of increased productivity.

3. Take the economic value achieved through the spread of

education in the context Of production
potential.
(Compartment 2014)

Ans. Government’s endeavours to spread education will lead to an

increase in the quality of the work force. The production potential
of country would also increase.

Economic value reflected is in terms of providing better quality

work force.

4. Define Production Possibility Curve (PPC). (All India 2010,2009)

12

Ans. It is a curve which shows various production possibilities with

the help of given limited resources and technology. It is also known
as Production Possibility Frontier and transformation curve.

5. Why does an economic problem arise? (Delhi 2009,2007)

Ans. An economic problem arises due to relative scarcity of

resources having alternative use and unlimited human wants.

6. Give the meaning of opportunity cost. (AN India 2009; Delhi

2009c, 2008,2007,2006)

Ans. Opportunity cost for a commodity is the amount of other

commodity that has been foregone in order to produce the first or
in otherwords, it is the cost of the next best (second best)
opportunity foregone.

7. Give two reasons for the problem of choice. (AN India 2007)

Ans. Two reasons for the problem of choice are as follows:

(i) Resources are scarce.

(ii) Resources have alternative uses.

8. What does the rightward shift of Production Possibility Curve

indicate? (Delhi 2007)

Ans. The rightward shift of Production Possibility Curve indicates

the increase in the resources or improvement in the technology of
production of the economy, which expands production of both the
goods.
13

9. What does the problem for whom to produce refer to? (All India
2007)

Ans. This is essentially the problem of distribution of income

between (i) the different groups of the society

(ii) now and in future.

3 Marks Questions
10. Explain the central problem for whom to produce. (Delhi 2014)

Ans. Under this problem, the decision is to be taken for whom we

should produce commodities for the rich or for the poor. All goods
and services cannot be produced for everyone. If we produce for the
rich, who have capacity to buy, then poor people will suffer from
starvation.

On the other hand, if we produce for the poor for the sake of social
justice, then we will have to consider, do they have resources to
buy?
11. Why does the problem of what to produce arise?
Explain. (Compartment 2014)

Ans.Problem of ‘what to produce’ arises as the economy has limited

resources.. Because of scarcity city of resources, producers are
unable to produce everything in desired quantity, but they will
have to make a choice as to which one is important as a whole, so
that limited resources can be rationally managed.

Problem of ‘what to produce’ involved two fold decisions; kinds of

goods to be produced and quantity of goods to be produced.
14

12. Define Production Possibility Curve (PPC). Explain, why it is

downward sloping from left to
right? (Foreign 2014; All
India 2012; Delhi 2006C)

Ans. It is a curve which shows various production possibilities with

the help of given limited resources and technology. It is also known
as Production Possibility Frontier and transformation curve.

It is downward sloping from left to right because in a situation of

fuller utilisation of the given resources, production of both the
goods cannot be increased together. More of good X can be
produced only with less of good Y as resources are scarce.

Because of this inverse relationship between production of both the

goods, PPC is downward sloping.

13. What is opportunity cost? Explain with the help of a numerical

example. (Delhi 2012; All India 2012)

Ans. Opportunity cost for a commodity is the amount of other

commodity that has been foregone in order to produce the first or
in otherwords, it is the cost of the next best (second best)
opportunity foregone.

For eample If Mr W has three jobs to select from. Job A is available

at 6,000 per month, Job B with 7,000 per month and Job C
with 8,000 per month. If Mr W chooses Job C, then, in this case
opportunity cost would be 7,000 per month.

14. Explain the central problem of ‘how to produce’. (All India

2010; Delhi 2011c)
or
15

Explain the problem of ‘how to produce’ (All India

2010,2008; Delhi 2008C,2006)
or

Explain the central problem of’choice of

techniques’. (Delhi2008)

Ans. It is concerning with, how to organise production. This

problem is related to the choice of technique of production. It arises
due to the availability of various techniques for the production of a
commodity such as labour intensive technique and capital intensive
technique.

15. Why is a Production Possibility Curve (PPC) concave? Explain.

(Odhi 2011; All India 2009)

Ans. Production Possibility Curve (PPC) is concave to the origin

because marginal opportunity cost of shifting resources from
commodity Y to commodity X tends to rise. Marginal opportunity
cost tends to rise because the factors of production are not perfect
substitute of each other. So when one factor is shifted from the
production of one good to another, then its productivity falls,
causing marginal opportunity cost to rise.

16. How does Production Possibility Curve (PPC) is affected by

unemployment in the economy?
Explain.
(All India 2011)

Ans. Production Possibility Curve (PPC) will not shift due to

unemployment in an economy. Due to unemployment in the
economy, labour is under utilised (or less than fully employed). As a
16

result, actual ouput is less than the potential output. Economy

operates from a point below PPC.

17. Explain the central problem of distribution of income. (All India

2011,2009,2008; Delhi 2008)

Ans. The problem for whom to produce is the problem of

distribution of income. It is a problem concerning the distribution
of goods and services among factors of production and individuals
in an economy. This problem has two aspects:

(i) Distribution of income between the different factors of

production,

(ii) Distribution of income in present as well as in future.

18. Explain properties of Production Possibility Curve (PPC). (Delhi

2010c)

Ans. Productiion Possibility Curve (PPC) has two basic properties

that are as follows:

(i) PPC is downward sloping Downward slope of PPC indicates that

if the country wants to produce more of one good, it has to reduce
the production of other good.

(ii) PPC is concave to origin Concave shape of PPC means that slope
of PPC increases as in this concept production will obey the law of
increasing opportunity costs or increasing Marginal Rate of
Substitution.

19. Explain the central problem of the choice of products to be

produced,
17

(Delhi
2010,2009.2008.2008C, 2006; All India 2006)

Ans. Problem of ‘what to produce’ arises as the producers have

limited resources. In an economy because of scarcity of resources,
producers are unable to produce everything in desired quantity but
they will have to make a choice as to which one is important on
the whole, so that limited resources can be rationally managed.
Problem of ‘what to produce’ involves two fold decisions, kinds of
goods to be produced and quantity of goods to be produced

20. What is Marginal Rate of Transformation? Explain With the help

of an example (Delhi2010)

Ans.It is the ratio of number of units of good ‘Y sacrificed to

produce an additional unit of good ‘X’. Marginal Rate of
Transformation of a particular good along PPC is the amount of a
particular good which is sacrificed to increase the production of the
other good by one unit. It is also called marginal opportunity cost.

21. State reasons, why does an economic problem arise? (Delhi

2009)
18

or
Why do problems relating to allocation of resources in an economy
arise? Explain.
(HOTS; All India 2009)
or
State three reasons which give rise to an economic
problem. (Delhi 2009c)
or
Why does an economic problem
arise? (Delhi 2006)
Ans. The reasons behind an economic problem are as follows:
(i) Scarce resources
(ii) Alternative uses of resources
(iii) Wants are unlimited and recurring in nature

Due to the above three factors, the problem of decision-making or

problem of choice arises in the economy which is also termed as
central problem or economic problem.

4 Marks Questions
22. Production in an economy is below its potential due to
unemployment. Government starts employment generation schemes.
Explain its effect using Production Possibility Curve.
Ans.When the economy is below its potential due to
unemployment the economy operates inside the PPC. When the
government starts employment generation scheme, it enables
the economy to utilise its existing resources in an optimum
manner. The idle resources will now get utilised and the economy
functions at its maximum capacity and moves from inside the PPC
to points on the PPC.
19

Thus, economy moves from point ‘a’ inside the PPC to any point on
PPC as shown in the diagram.

23. With the help of suitable example,

explain the problem of ‘for whom to produce’. (All India 2013)

Ans. This is essentially the problem of distribution of income

between (a) the different groups of the society and (b) in present
and in future. As to income distribution between the different
groups with in a society an economy has to find ways and means
to get a distribution that promotes social welfare at present and on
the other hand do not compromise the need of the future
generation#) e.g. if we produce for the poor for the sake of social
justice, then we will have to consider, whether they can buy it or
not.

24. Explain the meaning of opportunity cost with the help of

production possibility Schedule.
(All India 2013)
Ans. Opportunity cost for a commodity is the amount of other
commodity that has been foregone in order to produce the first or
in otherwords, it is the cost of the next best (second best)
opportunity foregone
20

25. Draw a Production Possibility Curve. What does a point below

this curve indicate?
Explain.
(HOTS; AH India 2006)
Ans. It is a curve which shows various production possibilities with
the help of given limited resources and technology. It is also known
as production possibility frontier and transformation curve.

In the given figure, PP’ shows the Production .Possibility Curve. Any
point inside Production Possibility Curve (like point R) corresponds
to under utilisation of resources or inefficient utilisation of resources.
21

Theory of Consumer
Behaviour Important Questions for
class 12 Economics Utility, Total Utility,
Marginal Utility and Its Law
1. Consumer The one who takes decisions about what to buy for the
satisfaction of wants, both as an individual or as a member of a
household, is called a consumer.

2. Utility The want satisfying power of a good is called utility.

3. Cardinal Measurement of Utility It is that concept of utility which

advocates that utility can be measured in terms of units like 2, 4,
6, 8, etc. In other words, utility is measurable in standard
numerical units, known as‘utils’.

4. Ordinal Measurement of Utility According to this utility cannot

be measured in numerical units, a consumer can (at best) rank his
preferences in the sets of most preferred to least preferred sets.

5. Total Utility (TU) It is the sum total of Marginal Utilities derived

from the consumption of all the units of a commodity.

TU = MUX + MU2+….+MU„ or LMU

6. Marginal Utility (MU) It refers to additional utility on account of

the consumption of an additional unit of a commodity.

MU=TUn -TUn_1 Where, MU = Marginal Utility

TUn = Total Utility at V units TUn_i= Total Utility at (n – 1) units.

7. Relationship between Total Utility (TU) and Marginal Utility (MU)

22

(i)When MU is positive (+), TU rises.

(ii)When MU is zero (0), TU is maximum.

(iii) When MU is negative (-), TU starts declining.

8. Law of Diminishing Marginal Utility The law states that as more

and more standard units of a commodity are continuously
consumed, Marginal Utility derived from each successive units goes
on diminishing. It is also called fundamental law of satisfaction

9. Assumptions of Law of Diminishing Marginal Utility

(i)Cardinal measurement of utility.

(ii)Price of the good remain constant.

(iii) Income of the consumer do not change,

(iv) Consumption should be continuous and of some standard units.

10. Law of Equi-marginal Utility The law states that in order to

maximise their satisfaction a consumer must spend his money on
two goods in such a manner that the ratio of Marginal Utility of a
commodity to its price becomes equal to the ratio of

Marginal Utility of other commodity to its price

where X and Y are two commodities.

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Previous Years Examination Questions

1 Mark Questions
1. Define utility. (Compartment 2014, Foreign 2014, Ail India
2010,2006)

Ans. The wants satisfying power of a good is called utility.

2. Define Marginal Utility (MU). (AllIndia2011)

Ans. Marginal Utility (MU) refers to additional utility on account of

the consumption of an additional unit of a commodity.

MU=TUn-
TUn_1 ‘

Where, MU = Marginal Utility, TU = Total Utility

3 Marks Questions
3. Explain the Law of Diminishing Marginal Utility with the help of
a utility schedule.(Delhi 2013)

or

Explain the Law of Diminishing Marginal Utility with the help of a

Total Utility schedule.

(All India 2011; Delhi 2010)

Ans. It is the fundamental Law of Utility approach to consumer’s

equilibrium. This law states that as more and more standard units
of a commodity are continuously consumed, the Marginal Utility
obtained from each successive unit goes on diminishing. This law is
24

also called as a ‘Fundamental Law of Satisfaction’ or ‘Fundamental

Psychological Law’.

The above schedule shows that with the consumption of successive

unit of a commodity, the level of satisfaction falls and becomes
negative or in other words, MU tends to decline as consumption of
the commodity increases.

Note The above law is based upon certain assumptions. It is

assumed that the different unit consumed should be identical in all
respects and consumption should be continuous.

4. Define Marginal Utility (MU). State the Law of Diminishing

Marginal Utility.(All India 2006)

Ans. Marginal Utility (MU) refers to additional utility on account of

the consumption of an additional unit of a commodity.
25

MU=TUn-
TUn_1 ‘

Where, MU = Marginal Utility, TU = Total Utility

It is the fundamental Law of Utility approach to consumer’s

equilibrium. This law states that as more and more standard units
of a commodity are continuously consumed, the Marginal Utility
obtained from each successive unit goes on diminishing. This law is
also called as a ‘Fundamental Law of Satisfaction’ or ‘Fundamental
Psychological Law’.

The above schedule shows that with the consumption of successive

unit of a commodity, the level of satisfaction falls and becomes
negative or in other words, MU tends to decline as consumption of
the commodity increases.

Note The above law is based upon certain assumptions. It is

assumed that the different unit consumed should be identical in all
respects and consumption should be continuous.
26

5. Define utility. State the Law of Diminishing Marginal Utility.

(Delhi 2006C)

Ans.The wants satisfying power of a good is called utility.

It is the fundamental Law of Utility approach to consumer’s

equilibrium. This law states that as more and more standard units
of a commodity are continuously consumed, the Marginal Utility
obtained from each successive unit goes on diminishing. This law is
also called as a ‘Fundamental Law of Satisfaction’ or ‘Fundamental
Psychological Law’.

The above schedule shows that with the consumption of successive

unit of a commodity, the level of satisfaction falls and becomes
negative or in other words, MU tends to decline as consumption of
the commodity increases.
27

Note The above law is based upon certain assumptions. It is

assumed that the different unit consumed should be identical in all
respects and consumption should be continuous.

6 Marks Question
6. Explain the difference between cardinal utility and ordinal utility.
Give example. (All India 2012)

Ans. Difference between cardinal utility and ordinal utility

Introduction Important Questions for

Class 12 Economics Consumer’s
Equilibrium Through Utility Approach
1. Consumer’s Equilibrium It refers to a situation wherein a
consumer gets maximum satisfaction from the purchases of given
units of the commodity with his given income.
28

2. Cases of Consumer’s Equilibrium using Marginal Utility Analysis

The conditions of consumer’s equilibrium using Marginal Utility
analysis is studied under two situations.

(i) When only one commodity is consumed.

(ii) When two or more commodities are consumed.

3. Equilibrium in Case of Single Commodity In case of single

commodity, consumer attains equilibrium, when

Where, MUX= Marginal Utility of V, Px= Price of V MU m =

Marginal Utility of money.

Assumption of equilibrium (One-commodity case)

(a)Cardinal measurement of utility

(b) Price of commodity and income of consumer is constant.

4. Equilibrium in Case of Two Commodities In case of two

commodities, consumer attains equilibrium,when
29

Previous Years Examination Questions

1 Mark Question
1.What is meant by consumer’s equilibrium? (Delhi 2011c,
2010,2009)

Ans. Consumer’s equilibrium refers to a situation wherein a

consumer gets maximum satisfaction from the purchase of the
commodity with the given income.

3 Marks Questions
30

2.A consumer consumes only two goods and is in equilibrium. Show

that price and demand for a good are inversely related. Explain
using utility analysis.

or

A consumer consumes only two goods x and y and is in equilibrium.

Price of x falls. Explain the reaction of the consumer through the
utility analysis. (All India 2012)

Ans. If the price of x falls, the consumer gets greater Marginal

Utility than in case of good y. Accordingly, he will spend more on x
than y. As consumption of x rises, MUX will fall. On the other hand,
as consumption of y falls, MUy will rise. The consumer will stop
buying more of x in place of y only when

Hence, we can only say that price and demand are negatively
related.

3. Explain the conditions of consumer’s equilibrium with the help of

utility analysis.(Delhi 2013) or

Explain the conditions of consumer’s equilibrium under utility

analysis.(All India 2013)

Ans. Conditions of consumer’s equilibrium using utility approach are

as follows:
31

Where, MUX is Marginal Utility of commodity x; MUy is Marginal

Utility of commodity y; Px is price of commodity X and Py is price
of commodity y.

(ii) Marginal Utility of money remains constant.

(iii) Law of Diminishing Marginal Utility must hold good, implying

that Marginal Utility must decline as more of a commodity is
consumed.

4. If a price of a good is given, how does a consumer decide as to

how many units of that good to buy? Explain. (hots; Delhi 2012;
All India 2009,2008)

Ans. Given price of a good, a consumer decides on the basis of the

following conditions:

Total gain falls as more is purchased after equilibrium.

If MUX> Px

Consumer keeps on consuming more units. When he consumes more

units, the additional utility derived from consuming x keeps on
32

falling. He keeps on consuming till MUX = Px If MUX<

Px .

He will decrease the consumption of x. When he decreases the

consumption of x, the Marginal Utility of x will increase. He will
keep on decreasing consumption of x till MUX = Px.

Thus, MUX= Px is the condition for consumer’s equilibrium in a

single commodity case.

5. What is meant by consumer’s equilibrium? State its condition in

case of a single commodity. (Delhi 2006)

Ans. Consumer’s equilibrium refers to a situation wherein a

consumer gets maximum satisfaction from the purchase of the
commodity with the given income.

Given price of a good, a consumer decides on the basis of the

following conditions:

Total gain falls as more is purchased after equilibrium.

If MUX> Px

Consumer keeps on consuming more units. When he consumes more

units, the additional utility derived from consuming x keeps on
falling. He keeps on consuming till MUX = Px If MUX<
Px .
33

He will decrease the consumption of x. When he decreases the

consumption of x, the Marginal Utility of x will increase. He will
keep on decreasing consumption of x till MUX = Px.

Thus, MUX= Px is the condition for consumer’s equilibrium in a

single commodity case.

4 Marks Questions
6. Given the price of a good, how will a consumer decide as to how
much quantity of that good to buy? Use utility analysis. (All India
2014)

Ans. Given price of a good, a consumer decided how much quantity

of that good to buy on the basis of the following
conditions: –

Total gains falls as more is purchased after equilibrium.

Case I: If MUx(money) > Px

Consumer keeps on consuming more units. When he consumes more

units, the additional utility derived from consuming X keeps on
falling. He keeps on consuming till MUX = Px

Case II: lfMUx(money)< Px

He will decrease the consumption of X, when he decreases the

consumption of X, the Marginal Utility of X will increase. He will
keep on decreasing consumption of X till MUX = Px.
34

Thus, MUx(money) = Px is the conditioner consumer’s equilibrium in

a single commodity case.

7. What are the conditions of consumer’s equilibrium under utility

analyis? (All India 2011)

Ans. Conditions of consumer’s equilibrium using utility approach are

as follows:

Where, MUX is Marginal Utility of commodity x; MUy is Marginal

Utility of commodity y; Px is price of commodity X and Py is price
of commodity y.

(ii) Marginal Utility of money remains constant.

(iii) Law of Diminishing Marginal Utility must hold good, implying

that Marginal Utility must decline as more of a commodity is
consumed.

8.A consumer consumes only two goods x and y. State and explain
the conditions of

consumer’s equilibrium, with the help of utility analysis. . (hots;

Delhi 2011)

Ans.
35

9.A Consumer consumes only two goods X and Y.At a consumption

level of these two goods, he finds that the ratio of Marginal utility
to price in case of X is higher than in case of Y. Expalin the reaction
of the consumer. (All India 2011)
36

Ans.

6 Marks Questions
10.A consumer consumes only two goods. Explain consumer’s
equilibrium with the help Of Utility analysis. (Delhi 2014;
Compartment 2014)
or
A consumer consumes only two goods A and B and is in equilibrium.
Show that when price of good B falls, demand for B rises. Answer
this question with the help of Utility analysis. (All India 2014,
Froiegn 2014)
Ans. In case of two commodities, consumer attains equilibrium,
when
(i)

It implies that in state of equilibrium utility per rupee from good X

must be equal to utility per rupee from good Y.
The above condition can also be written as
37

It implies that in state of equilibrium, ratio of Marginal Utilities of

two commodities is equal to the ratio of their prices.

It implies that in state of equilibrium utility per rupee obtained by

the consumer from good X or good Y should be equal to Marginal
Utility of money.
Assumption : Px = Py = 1 per unit)of utility analysis.

In case of two commodities, consumer attains equilibrium, when

That is, Marginal Utility of a rupee spent on good A is equal to the

Marginal Utility of rupee spent on good B, which is equal to the
Marginal Utility of money,
i.e. MU(A) P(A) = MUgPg = MUm
If price of good B falls, then the value of the fraction (i.e. MUgPg)
increases. Mathematically, this implies.
MUgPg >MUaPa=MUm
In such a situation, the demand for good B rises and consumer
would increase his consumption of good B. He will continue to
38

increase his consumption of good B untill the equality between the

Marginal Utilities of each of the goods become equal to the Marginal
Utility of money. At this situation, the equilibrium is
restored. That is, MU^PA = MUgPg =
MUm

11.Explain the conditions of consumer’s equilibrium in case of

(i)single commodity (ii) two commodities
Use utility approach. (Delhi 2009)
Ans. (i) Consumer equilibrium in case of single commodity Consumer
is at equilibrium with respect to purchase of one good only
where MU in terms of Money = Price:

(ii) Consumer’s equilibrium in case of two commodities

12.A consumer consumes only two goods. What are the conditions
of consumer’s equilibrium in the utility approach? Explain the
changes that will take place when the consumer is not at
equilibrium. (Delhi 2009c)
Ans. Conditions of Consumer’s equilibrium
39

Where, MUX is Marginal Utility of commodity x; MUy is Marginal

Utility of commodity y; Px is price of commodity X and Py is price
of commodity y.
(ii) Marginal Utility of money remains constant.
(iii) Law of Diminishing Marginal Utility must hold good, implying
that Marginal Utility must decline as more of a commodity is
consumed.if

By spending a rupee on good x, the consumer gets greater Marginal

Utility than in case of good y. Accordingly, he will spend more on x
than y. As consumption of x rises, MUX will fall. On the other hand,
as consumption of y falls, MUy will rise. The consumer will stop
buying more of x in place of y only when

Theory of Consumer
Behaviour Important Questions for
Class 12 Economics Indifference
Curve , Indifference Map and
Properties of Indifference Curve
1. Indifference Curve This curve shows different combinations of
two goods, each combination offering the same level of satisfaction
40

to the consumer. So that the consumer is indifferent among the

various combinations offered to him

2.Properties of
Indifference Curve

(i)Indifference curves slope downwards from left to the right.

(ii)Indifference curve is always convex to the origin.

(iii) Indifference curves can never touch or intersect each other.

(iv)A higher indifference curve represents a higher level of

satisfaction.

(v)Indifference curve cannot touch either axis.

3.Slope of Indifference Curve Slope of indifference curve represents

the rate at which a consumer is willing to exchange one commodity
for the other. It is known as Marginal Rate of Substitution (MRS),
denoted as,
41

4.Indifference Set It is a set of those combination of two goods

which offer the consumer the same level of satisfaction. So that, the
consumer is indifferent across any number of combination in his
indifference set.

5.Monotonic Preferences Monotonic preference refers to a situation

where the consumer will prefer more of commodities than the
lesser quantity. A consumer may have different preference sets
corresponding to different levels of income.

6.Indifference Map It refers to a set of indifference curves

corresponding to different income levels of the consumer

Previous YearsExamination Questions

1 Mark Questions
1. Define an indifference curve. (All India 2014, Delhi 2010)

Ans. Indifference curve is a curve showing different combinations of

two goods, each combination offering the same level of satisfaction
to the consumer. So that the consumer is indifferent, between all
set of bundles.

2. What is meant by monotonic preferences. (All India 2014)

42

or

What are monotonic preferences? (Delhi

2010)

Ans. Monotonic preferences means that greater consumption of a

commodity by the consumer gives him higher level of satisfaction,
as compared to less.

3. Define an indifference map. (Delhi 2010; All India 2010)

Ans. Indifference map refers to a set of indifference curves

corresponding to different income levels of the consumer.

3 Marks Questions
4. Explain the meaning of Diminishing Marginal Rate of Substitution
with the help of a numerical example. (All India 2013)

Ans. Marginal Rate of Substitution refers to the rate at which the

consumer is willing to sacrifice one good to obtain one more unit of
the other good.
43

5. Define Marginal Rate of Substitution. Why is an indifference curve

convex? (Dehii 2012)

or

Define an indifference curve. Why is it convex to the origin? (All

India 2011)

Ans. Marginal Rate of Substitution Marginal Rate of Substitution

refers to the rate at which the consumer is willing to sacrifice one
good to obtain one more unit of the other good.
44

Indifference curve is a curve showing different combinations of two

goods, each combination offering the same level of satisfaction to
the consumer. So that the consumer is indifferent, between all set
of bundles.

Indifference curves is convex to the point of origin because of

diminishing Marginal Rate of Substitution. We can say that for
every additional unit of a good, a consumer is willing to give up less
and less amount of another good as the utility that he derives from
its consumption goes on diminishing.

4 Marks Questions
6. Define an indifference curve, Explain why an indifference curve is
downward sloping from left to right. (Delhi 2012)

Ans. Indifference curve is a curve showing different combinations of

two goods, each combination offering the same level of satisfaction
to the consumer. So that the consumer is indifferent, between all
set of bundles.

An indifference curve always slopes downward from left to the

right, i.e. it has a negative slope. It is because of the simple reason
that if the consumer wants to have more units of one good, he will
have to reduce the number of units of another good, his level of
satisfaction remaining unchanged, in other words, an indifference
curve slope downwards because of limited income of the consumer
45

Note After the study of above answer. We observe two things. First,
the indifference curve is sloping downward from left to right.
Second, the indifference curve is strictly convex towards the origin.

7. Define an indifference map. Explain why an indifference curve to

the right shows higher utility level. (Delhi; All India 2012)

Ans. Indifference map refers to a set of indifference curves

corresponding to different income levels of the consumer.

Higher indifference curve gives higher level of satisfaction than the

lower indifference curve, as we move to the right, the level of
46

satisfaction also rises. Hence, IC2 represents higher level of

satisfaction than the IQ. Because IC2 curve lies to the right side of
the IQ curve. This is because of monotonic preferences because
higher indifference curve means that the consumer is getting more
of both the commodities, or atleast more units of one good and no
less of other

6 Marks Questions
8. Explain the concept of ’Marginal Rate of Substitution’ with the
help of a numerical example. Also, explain its behaviour along an
indifference curve. (All India 2014)

Ans. Marginal Rate of Substitution refers to the rate at which the

consumer is willing to substitute one good to obtain one more unit
of the other good. Symbolically,

Example Equilibrium is struck at point Q. At the point of

equilibrium, price line and indifference curve are tangent to each
47

other implying that the slope of price line

If a consumer wants to have more of X, it reduces the MU of X.

Therefore, he will be willing to sacrifice less unit of Y. As he goes on
obtaining more and more of X, MU of X starts declining so he will
sacrifice less and less of good Y.

9. Explain why is an indifference curve (a) downward sloping, and

(b) convex

(Ail India 2014, Foreign 2014) or

Explain three properties of indifference curves. (All India

2013,2011: Delhi 2011)

or

State and explain the characteristics of indifference curves. (Delhi

2010)

Ans. Properties/characterstics of indifference curves are:

48

(i) Indifference curves are negatively sloped or they slope downward

It shows that more of one commodity implies less of the other, so
that total satisfaction (at any point on Indifference curve) remains
the same. (ii) Indifference curves are
convex to the point of origin An indifference curve will ordinarily
be convex to the point of origin. This is because of diminishing
Marginal Rate of Substitution. We can say that for every additional
unit of a good, a consumer is willing to give up lesser and lesser
amount of another good.

(iii) Indifference curve touches neither X-axis nor Y-axis It is often

assumed that a consumer buys a combination of two goods. Hence,
an indifference curve touches neither X-axis nor Y-axis as touching
either axis represents zero units of the respective goods.

(iv) Indifference curves never touch or intersect each other Each

Indifference curve represents a different level of satisfaction. So,
their intersection is ruled out. Also if indifference curves intersects
Law of Transitivity and indifference law will contradict each other.

Note (i) According to Law of Transitivity if a consumer prefer

bundle A over bundle B, and bundle B over bundle C, then he will
indirectly prefer bundle A over bundle C.

(ii) According to indifference law if a consumer is indifferent

between bundle A and B, and bundle B and C, then he will be
indifferent over bundle A and C too.

10. What are monotonic preferences? Explain why is an indifference

curve (Delhi 2011)

(i)Downward sloping from left to right (ii) Convex to the origin.

49

Ans. Monotonic preferences means that greater consumption of a

commodity by the consumer gives him higher level of satisfaction.

(i) Downward sloping from left to right .

Indifference curve is a curve showing different combinations of two

goods, each combination offering the same level of satisfaction to
the consumer. So that the consumer is indifferent, between all set
of bundles.

An indifference curve always slopes downward from left to the

right, i.e. it has a negative slope. It is because of the simple reason
that if the consumer wants to have more units of one good, he will
have to reduce the number of units of another good, his level of
satisfaction remaining unchanged, in other words, an indifference
curve slope downwards because of limited income of the consumer

Note After the study of above answer. We observe two things. First,
the indifference curve is sloping downward from left to right.
Second, the indifference curve is strictly convex towards the origin.
50

(ii) Convex to the origin

Marginal Rate of Substitution Marginal Rate of Substitution refers

to the rate at which the consumer is willing to sacrifice one good to
obtain one more unit of the other good.

Indifference curve is a curve showing different combinations of two

goods, each combination offering the same level of satisfaction to
the consumer. So that the consumer is indifferent, between all set
of bundles.

Indifference curves is convex to the point of origin because of

diminishing Marginal Rate of Substitution. We can say that for
every additional unit of a good, a consumer is willing to give up less
and less amount of another good as the utility that he derives from
its consumption goes on diminishing.

11. Explain the concept of Marginal Rate of Substitution (MRS) by

giving an example. What happens to MRS when consumer moves
downward along the indifference curve? Give reasons for your
answer.(Delhi2011)
51

Ans. Marginal Rate of Substitution refers to the rate at which the

consumer is willing to substitute one good to obtain one more unit
of the other good. Symbolically,

Example Equilibrium is struck at point Q. At the point of

equilibrium, price line and indifference curve are tangent to each
other implying that the slope of price line

If a consumer wants to have more of X, it reduces the MU of X.

Therefore, he will be willing to sacrifice less unit of Y. As he goes on
obtaining more and more of X, MU of X starts declining so he will
sacrifice less and less of good Y.

Suppose initially, the consumer is at point Q where he units of good

X and yj units of good. Now, the consumer comes down to point R
i.e. the consumer wants to have more of x from xj to x2 (where
x2 > X|) it reduces the MU of x. Therefore, he will be willing to
sacrifice less unit of y. As he goes on obtaining more and more of x,
52

MU of x starts declining, so he will sacrifice lesser and units of good

y say fromyi toy2 and so on.

Suppose initially, the consumer is at point Q where he get x1 units

of good X and units of good. Now, the consumer comes down to
point R i.e. the consumer wants to have more of x from x-j to
x2 (where x2 > X|) it reduces the MU ofx. Therefore, he will be
willing to sacrifice less unit of y. As he goes on obtaining more and
more of x, MU of x starts declining, so he will sacrifice lesser and
units of good y say from y-| to y2 and so on.

Theory of Consumer
Behaviour Important Questions for
Class 12 Economics Budget Set ,
Budget Line and Consumer
Equilibrium through Indifference
Curve Analysis or Ordinal Approach
1. Consumer’s Budget It is the real purchasing power of consumer
from which he can purchase the certain quantitative bundles of two
goods at a given price.
53

2. Budget Set It refers to the set of all possible combinations of two

goods which a consumer can afford at given income and prices in
the market.

Equation of budget set: M > PXQX + Py.Qy

3. Budget Line or Price Line This line is showing different

combinations of two goods which a consumer can attain at given
income and market price of the goods.

Equation of Budget Line, M = Px Qx + Py Qy Where, M = Market

Px = Price of Good x, Py = Price of Good y

Qx = Quantity of Good y, Qy = Quantity of Good y

4. Slope of Budget Line It shows the rate at which market price

allows the consumer to substitute good x for good It is expressed as
PxIPy also known as market rate of exchange.

5Consumer’s Equilibrium It refers to optimum choice of the

consumer. In terms of indifference curve analysis, the consumer
achieves his optimum choice when he strikes a balance between
what he wishes to buy and what he can buy. i.e. a state of
maximum satisfaction given his money income.

6.Conditions of Consumer’s Equilibrium

54

(ii) At the point of equilibrium, indifference curve must be convex

to the origin.

Previous Years Examination Questions

1 Mark Questions
1. Define budget set.(Delhi 2014,2011)

Ans. Budget set refers to the set of all possible combinations of two
goods which a consumer can afford, at his given

income and prices in the market

e.g Px.Qx+PY.Qy<M

2. Define budget line. (Delhi 2014; All India 2011,2010)

Ans. Budget line is a line showing different combinations of two

goods which a consumer can attain, at his given income and
market price of the goods,

e.g Px.Qx + PY.Qy=M

3 Marks Question
3. Define a budget line. Why is it negatively sloped? (All India 2013)

or

What is a budget line? Why is it downward sloping? (Delhi 2013)

Ans. Budget line is a line showing different combinations of two

goods which a consumer can attain, at his given income and
market price of the goods,
55

e.g Px.Qx + PY.Qy=M

It is negatively sloped because consumption of one commodity is

associated with the sacrifice of another commodity, i.e. in order to
increase consumption of good 1, some units of good 2 has to be
sacrificed to be on the same indifference curve.

4 Marks Questions
4. Define a budget line. When can it shift to the right?(All India
2012)

Ans. Budget line is a line showing different combinations of two

goods which a consumer can attain, at his given income and
market price of the goods,

e.g Px.Qx + PY.Qy=M

It can shift to the right due to following reasons:

(i) When the level of income increases.

(ii) When price of both goods falls

5. What is budget set? Explain what can lead to change in budget

set. (All India 2012)

Ans. Budget set refers to the set of all possible combinations of two
goods which a consumer can afford, at his given income and prices
in the market

e.g Px.Qx+PY.Qy<M
56

(i) When the level of income changes With the increase or decrease
in the income of the consumer, new combinations of a set of two
goods will be attained.

(ii) When price of one good changes If the price of one good changes,
the consumer can increase or decrease the consumption of other
good depending on the nature of changes.

(iii) When price of both goods changes If the price of both goods
changes, the consumer can increase or decrease the consumption of
both the goods and new combinations of a set of two goods will be
attained.

Note A budget line is constructed on the basis of the consumer’s

income, price of one good and price of another good. Therefore, if
any one of these determinants changes, the budget line changes.

6 Marks Questions
6. Explain the three properties of indifference curve. (Delhi 2014)

Ans. Indifference curve is a curve showing different combinations of

two goods, each combination

offering the same level of satisfaction to the consumer.

Properties of indifference curves are:

(i) Indifference curves are negatively sloped It shows that more of

one commodity implies less of the other, so that total satisfaction
remains the same.
57

(ii) Indifference curves are convex to the point of origin An

indifference curve will ordinarily be convex to the point of origin.
This is because of diminishing Marginal Rate of Substitution.

(iii) Indifference curve touches neither X-axis Nor Y-axis It is often

assumed that a consumer buys a combination of two goods. Hence,
an indifference curve touches neither X-axis nor Y-axis.

7. Explain the conditions of consumer’s equilibrium under

indifference curve approach.

(All India 2014C, 2013)

or

A consumer consumes only two goods. Explain the conditions of

consumer’s equilibrium with the help of indifference curve analysis.
(Foreign 2014; All India 2010)

or

Explain the conditions of consumer’s equilibrium with the help of

indifference curve analysis. (All India 2011; Delhi 2011c,
2010)

Ans. According to indifference curve analysis, consumer’s

equilibrium is at a point where the slope of , indifference curve is
equal to the slope of budget line or price line.

Two conditions of the consumer’s equilibrium are.

58

(ii) At the point of equilibrium, indifference curve must be convex

to the origin. It implies that at the point of equilibrium, MRS must
be diminishing.

P is the equilibrium point at which budget line touches the higher

Indifference Curve IC2 within the consumer budget and /C3 is not
affordable curve as his income does not permit, Point A could not
be the point of equilibrium because at point A, MRS> Px/Py hence
consumer will prefer to consume more of good X and less of good Y,
as a result MUX will fall and MUy, will rise, this process will
continue till the time MRS = PX/Py.

At point B, MRS <PX/Pyf hence consumer will demand more of

good Yand less of good X, MUy will and MUX will rise till the
time MRS = Px/Py.

8. Explain the concepts of

(i) Marginal Rate of Substitution(MRS)

(ii)Budget line,with the help of numerical examples (All India 2011)

59

Ans. (i) Marginal Rate of Substitution refers to the rate at which

the consumer is willing to substitute one good to obtain one more
unit of the other good. Symbolically,

Example Equilibrium is struck at point Q. At the point of

equilibrium, price line and indifference curve are tangent to
each other implying that the slope of price line

If a consumer wants to have more of X, it reduces the MU of X.

Therefore, he will be willing to sacrifice less unit of Y. As he goes on
obtaining more and more of X, MU of X starts declining so he will
sacrifice less and less of good Y.

(ii) Budget line refers to the bundle of two goods which costs
exactly equal to consumer income. The budget line is drawn on the
60

assumptions that price of Good-1 is ? 2 per unit, price of Good-2

is ? 1 per unit and the consumer has ? 60 to spend. Accordingly,
maximum 30 units of Good-1 are purchased, when entire budget
is spent on Good-1 and maximum 60 units of Good-2 can be
purchased, when entire budget is spent on Good

9. What are the conditions of consumer’s equilibrium under the

indifference curve approach? What changes will take place if the
conditions are not fulfilled to reach the equilibrium? (hots; All India
2010)

Ans. Conditions of consumer’ equilibrium

According to indifference curve analysis, consumer’s equilibrium is

at a point where the slope of , indifference curve is equal to the
slope of budget line or price line.

Two conditions of the consumer’s equilibrium are.

61

(ii) At the point of equilibrium, indifference curve must be convex

to the origin. It implies that at the point of equilibrium, MRS must
be diminishing.

P is the equilibrium point at which budget line touches the higher

Indifference Curve IC2 within the consumer budget and /C3 is not
affordable curve as his income does not permit, Point A could not
be the point of equilibrium because at point A, MRS> Px/Py hence
consumer will prefer to consume more of good X and less of good Y,
as a result MUX will fall and MUy, will rise, this process will
continue till the time MRS = PX/Py.

At point B, MRS <PX/Pyf hence consumer will demand more of

good Yand less of good X, MUy will and MUX will rise till the
time MRS = Px/Py.

If the conditions are not fulfilled, following changes will take place:
62

Theory of Consumer
Behaviour Important Questions for
Class 12 Economics Concept of
Demand,Factors Affecting Demand
and Law of Demand
1. Demand It refers to various amounts of a commodity that a
consumer is ready to buy at different possible prices of the
commodity, during a period of time.

2. Quantity Demanded If refers to the specific quantity of a

commodity which is demanded during a particular period of time.

3. Market Demand It is the sum of individual demand at different

price level at a particular period of time by different people.

4. Demand Schedule The table related to price and quantity

demanded is called the demand schedule.
63

5. Individual Demand Schedule It is a table showing various

quantities of a commodity, which an individual buyer is ready to
buy at different possible prices of the commodity at a given point
of time.

6. Market Demand Schedule It is a table showing various quantities

of a commodity, which all the buyers in the market are ready to
buy at different possible prices of the commodity at a given point
of time.

7. Demand Curve It is a graphic presentation of demand schedule.

9. Market Demand Curve It is a graphical presentation of market

demand schedule, i.e. a horizontal summation of individual demand
curves.

10. Determinants/Factors Affecting Demand

(i) Price of the commodity (Px) (ii) Income of the consumers (y)

(iii)Price of related goods (Pr) (iv) Taste and preferences of the

consumers (T)

(v) Expectations (E) (vi) Distribution of Income (Dy)

(vii) Size of population (Ps)

64

Note Factors (i) to (v) affect individual demand, hence considered

under individual demand function, where as factors- (i) to (vii)
affects market demand, hence considered under market demand
function.

11. Demand Function It shows the relationship between demand for

a commodity and its various determinants. Written as :

Dx = f(Px, Y, Pr, T, E, Dy, Ps) [Where Dx = Demand for good x]

12. Normal Goods These are the goods for which the demand is
directly related to consumer’s income i.e. with rise in income
demand rises and vice-versa, e.g. full cream milk, pulses, grains, etc.

13. Inferior Goods These are the goods for which the demand is
inversely related to consumer’s income, i.e. with rise in income
demand falls and vice-versa, e.g. coarse cereals, tonned milk, etc.

14. Substitute Goods These are the goods which can be substituted
for each other, such as tea and coffee or ball pen and ink pen. In
case of such goods, increase in the price of one causes increase in
the demand for other, (i.e. direct relation between price of one
good and demand of other good).

15. Complementary Goods These are those goods which complete

the demand for each other and are therefore, demanded together
in a fixed proportion, e.g. pen and ink, bread and butter, etc. A fall
in price of one causes increase in demand of the other and vice
versa.

16. Law of Demand The law states that other things remaining
constant, quantity demanded of a commodity increases with a fall
in its own price and diminishes with a rise in its own price, i.e.
65

there exist a inverse relationship between price and quantity

demanded. Geometrically, it is represented by a downward sloping
demand curve.

17. Assumptions of the Law of Demand

(i)Tastes and preferences of the consumer remain constant.

(ii)There is no change in the income of the consumers.

(iii) Prices of the related goods do not change.

(iv)No change in the total assets.

(v) No change in population.

(vi) No expectation of further changes in the price of a commodity.

18. Causes for Downward Sloping of Demand Curve

(i) Law of Diminishing Marginal Utility (ii) Income effect

(iii) Substitution effect (iv) Size of

consumer group ,

(v) Different uses

19. Exceptions to the Law of Demand

(i) Conspicuous consumption (ii) Giffen goods

(Hi) Ignorance of the buyers (iv) Conspicuous

necessities
66

20. Movement Along a Demand Curve It occurs when changes in

quantity demanded are related to changes in own price of the
commodity keeping all other factors constant. When quantity
demanded contracts in response to increase in price, it is
called extension in demand.

21. Shift in Demand Curve It occurs when demand for a commodity

is related to factors other than own price of the commodity. When
more is demanded at the same price, there is rightward shift in
demand curve (called increase in demand), when less is demanded
at the same price, there is leftward shift in demand curve (called
decrease in demand).

22. Giffen Good It is a special type of inferior good whose income

effect is negative, but price effect is positive, i.e. demand increase
with rise in price and vice versa.

23. Income Effect It refers to change in quantity demanded of a

commodity when real income of the consumer changes owing to
change in own price of the commodity.

24. Substitution Effect It refers to change in quantity demanded of

commodity X when relative price of the commodity (Px/Py) changes
owing to change in Px or Py.

Where Px is Price of goods X and Py is price of good

y. –

25. Price Effect It refers to change in quantity demanded of a

commodity owing to change in its own price, other things
remaining constant. It includes both income effect and substitution
effect.
67

26. Cross Price Effect It refers to effect of a change in price of

commodity X on demand for commodity Y, when X and Y are
related goods, i.e. either substitutes or complementary.

Previous Years Examination Questions

1 Mark Questions
1. What is market demand? (Delhi 2013)

Ans. Market demand is sum of individual demand at different price

level at a particular period of time by different people.

2. What does a rightward shift in demand curve indicate? (All India

2013)

Ans. Increase in demand.

3. Give one reason for a shift in demand curve. (All India 2oi2)

Ans. Shift in demand curve occurs due to changes in other

determinants of demand like price of related goods, income of the
consumers, etc other than own price of the commodity.

4. State whether the following statement is true or false.

‘The demand for a commodity always increases with increase in the

prices of other goods’. (All India 2011)

Ans. False, it is possible only in case of substitute goods.

5. What causes an upward movement along a demand curve? (All

India 2011)
68

Ans. Increase in own price of the commodity causes an upward

movement along a demand curve.

6. What is Law of Demand? (Delhi 2010)

Ans. Law of Demand states that other things remaining constant,

quantity demanded of a commodity increases with a fall in its own
price and diminishes with a rise in its own price. Geometrically, it
is represented by a downward sloping demand curve.

7. What is meant by inferior goods in economics? (All India

2010,2009)

or

When is a good called an inferior good? (Delhi 2008C, 2006)

Ans. Inferior goods are the goods for which the demand is inversely
related to consumer’s income, e.g. coarse cereals, tonned milk, etc.

Note There is no list of good which are normal or inferior, it

depends on the level of consumer’s income.

8. What is meant by normal goods in economics? (Ml India 2010)

or

When is a good called a normal good? (Ad India 2008; Delhi 2006)

Ans. Normal goods are the goods for which the demand is directly
related to consumer’s income, i.e. with rise in income demand rises
and vice-versa e.g. full cream milk, pulses, grains, etc.
69

9. What is demand schedule? (All India 2008)

Ans. Demand schedule is a table showing the relationship between

different quantities of a commodity to be purchased at different
prices of that commodity.

Introduction Important Questions for

Class 12 Economics,Concept of Price
Elasticity of Demand and Its
Determinants
1. Price Elasticity of Demand It is the ratio between percentage
change in quantity demanded and percentage change in own price
of the commodity. It is represented by a symbol (Ed ). In other
words, Price Elasticity of Demand is the responsiveness of quantity
demanded to change in price.
2.Methods of Measurement of Price Elasticity of Demand

(iii)Total Expenditure/Total Outlay Method (TE) = Price x Quantity

or PxQ
This method only caputre the degree of elasticity and not the
actual value elasticity.
3.Degrees of Price Elasticity of Demand

(ii) Perfectly inelastic

(iii) Unitary elastic demand (Ed = 1)
70

(iv) Greater than unit elastic demand (Ed >1) (v) Less
than unit elastic demand (Ed < 1)

4.Relationship between Price, Total Expenditure and Elasticity

(i) When price (P) and Total Expenditure (TE), changes in same
direction (i.e. with rise in price, TE also rises and vice-versa),
elasticity is less than unity or inelastic.

(ii)When price (P) and Total Expenditure (TE), changes in the

opposite direction (i.e. with rise in price TE falls and vice-versa),
elasticity is greater than unity or elastic.

(iii)When price changes (i.e. rises or falls) TE remains constant,

elasticity is equal to unit or unit elastic

5.Factors Affecting Elasticity of Demand

(i) Nature of commodity

(ii) Availability of substitutes

(iii) Diversity of uses

(iv)Postponement of uses

(v)Income level of the buyers

71

(vi) Habit of consumers

(vii) Proportion of income spent on a commodity

(viii) Price level

(ix) Time period

Previous Years Examination Questions

1 Mark Questions
1. Give the meaning of inelastic demand.(All India 2014) (Delhi
2009)

or

When is demand said to be price inelastic?(HOTS; All India; Delhi

2013,2009)
or

When is the demand for a good said to be inelastic?

Ans. When percentage change in quantity demanded is less than

percentage change in price, the demand is said to be inelastic.

2. Give the meaning of Price Elasticity of (All India 2011)

Ans. Price Elasticity of Demand is the responsiveness of quantity

demanded to change in price.

3. Why is demand for water inelastic? (hots; Delhi 2010)

72

Ans. Demand for water is inelastic because change in price does not
affect the demand for water as water is essential for life.

3 Marks Questions
4.8 units of a good are demanded at a price of ? 7 per unit. Price
Elasticity of Demand is (-) 1. How many units will be demanded if
the price rises to ? 8 per unit? Use expenditure approach of Price
Elasticity of Demand to answer this question.(Delhi 2011)

Ans.

5. A consumer buys 10 units of a good at a price of ? 6 per unit.

Price Elasticity of Demand is (-) 1. At what price will he buy 12
units? Use expenditure approach of Price Elasticity of Demand to
answer this question (Delhi 2011)
73

Ans.

6. When price of a good is 13 per unit, the consumer buys 11 units

of that good. When price rises to 15 per unit, the consumer
continues to buy 11 units. Calculate Price Elasticity of Demand. (All
India 2011)

Ans.

7. When price of a good is 12 per unit, the consumer buys 24 units

of that good. When price rises to 114 per unit, the consumer buys
20 units. Calculate Price Elasticity of Demand. (All India 2011)

Ans.
74

8. From the following table, calculate Price Elasticity of Demand.(All

India 2011)
75

9. Explain any two factors that affect Price Elasticity of Demand.

(Delhi 2010; All India 2009)

Ans.The two main factors that affect Price Elasticity of Demand

are:

(i) Number of substitutes of a goods Demand for goods which have

close substitutes (like tea and coffee) is relatively more elastic.
Because, when price of such a good rises, the consumers have the
option of shifting to its substitute. Goods without close substitutes
like cigarettes etc are generally found to be less elastic or inelastic
in demand.

(ii) Proportion of income spent on the goods On which consumers

spend a small proportion of their income (toothpaste, needles, etc)
will have an inelastic demand. On the other hand, goods on which
the consumers spend a large proportion of their income (cloth,
television, etc) tend to have elastic demand.

10. Explain the effect of the following on Price Elasticity of Demand

of a commodity, (i) Number of substitutes (ii) Nature of the
commodity (All India 2010)

Ans. (i) Number of substitutes of a goods Demand for goods which

have close substitutes (like tea and coffee) is relatively more elastic.
Because, when price of such a good rises, the consumers have the
option of shifting to its substitute. Goods without close substitutes
like cigarettes etc are generally found to be less elastic or inelastic
in demand.

(ii) Nature of the commodity Ordinarily, necessaries like salt, match

boxes, medicines etc have less than unitary elastic (inelastic)
demand. Luxuries, like air conditioner, costly furniture, car etc
76

have greater than unitary elastic demand. Comforts like, cooler,

fans etc have neither very elastic nor very inelastic demand. Jointly
demanded goods like pen and ink etc shows a moderate Elasticity
of Demand.

11. How is a Price Elasticity of Demand of a good influenced by

availability of its close substitute? Explain by giving an example.
(Delhi 2010; 2009)

Ans. Number of substitutes of a goods Demand for goods which

have close substitutes (like tea and coffee) is relatively more elastic.
Because, when price of such a good rises, the consumers have the
option of shifting to its substitute. Goods without close substitutes
like cigarettes etc are generally found to be less elastic or inelastic
in demand.

12. Explain the geometric method of measuring Price Elasticity of

Demand.(All India 2009,2008)

Ans. Geometric method measures Price Elasticity of Demand at

different points on the demand curve. It is also called point method
of measuring Elasticity of Demand.
77

MN is a straight line demand curve sloping downward. P is a mid-

point on the demand curve. It divides the demand curve into two
equal segments, lower segment (PN) and upper segment (PM).

corresponding to a particular point on the demand curve.

13.A 5% fall in price of a good leads to 10% rise in its demand. A

consumer buys 40 units of a good at a price of 10 per unit. How
many units will he buy at a price of 12 per unit? Calculate.(All
India 2009)

Ans.

14.A 5% rise in price of a good leads to 5% fall in its demand. A

consumer buys 100 units of a good when price is 5 per unit. At
what price will he buy 120 units? Calculate. (All India 2009)
78

Ans.
79

15. When price of a good falls from ? 10 per unit to ? 9 per unit,
its demand rises from 9 units to 10 units. Compare expenditure on
the good to determine whether demand is elastic or inelastic. (Delhi
2009)

Ans.

16. When price of a good falls from 18 per unit to ? 7 per unit, its
demand rises from 12 units to 16 units. Compare expenditure on
the good to determine whether demand is elastic or inelastic. (Delhi
2009)

Ans.

17. Price Elasticity of Demand of a good is (-) 1. The consumer buys

50 units of that good when price is 2 per unit. How many units
will he buy if the price rises to 4 per unit? Answer this question
80

with the help of Total Expenditure method of determining Price

Elasticity of Demand.(Delhi 2009 c)

Ans.

18. Price
Elasticity of Demand of a good is (-) 1. The consumer spends ? 50
on the good at the prevailing price. When price changes, he buys 25
units. What is the new price? Use the Total Expenditure Method of
calculating Price Elasticity of Demand to answer this question.
(Delhi 2009c)

Ans.
81

19. When price of a good rises from ?.5 per unit to 16 per unit, its
demand falls from 20 units to 10 units. Compare expenditure on
the good to determine whether demand is elastic or inelastic.(Delhi
2008)

Ans.

20. Price Elasticity of Demand of a good is (-)1. At a given price,

the consumer buys 60 units of the good. How many units will he
buy if the price falls by 10%?(All India 2008)

Ans.
82

21. Price Elasticity of Demand of a good is (-) 2. The consumer buys

a certain quantity of this good at a price of ? 8 per unit. When the
price falls he buys 50% more quantity. What is the new price?(All
India 2008)

Ans.

22.

Price Elasticity of Demand of a good is (-) 3. If the price rises from ?

10 per unit to X12 per unit, what is the percentage change in
demand? (All India 2008)
83

Ans.

23. Due to a 10% fall in the price of a commodity, its quantity

demanded rises from 400 units to 450 units. Calculate its Price
Elasticity of Demand. (Delhi 2008 C)

Ans.

24. When the price of a commodity rises from 110 per unit to 11
per unit, its quantity demanded falls by 15%. Calculate its Elasticity
of Demand. (Delhi 2008 C)
84

Ans.

25. Explain any three factors that affect Price Elasticity of Demand
of a commodity.(All India 2006)

Ans. Three factors that affect Price Elasticity of Demand of a

Commodity are:

(i) Number of substitutes of a goods which have close substitutes

(like tea and coffee) is relatively more elastic. Because, when price
of such a good rises, the consumers have the option of shifting to its
substitute. Goods without close substitutes like cigarettes etc are
generally found to be less elastic or inelastic in demand.

(ii) Proportion of income spent on the goods On which consumers

spend a small proportion of their income (toothpaste, needles, etc)
will have an inelastic demand. On the other hand, goods on which
the consumers spend a large proportion of their income (cloth,
television, etc) tend to have elastic demand.

(iii) Nature of the commodity Ordinarily, necessaries like salt,

match boxes, medicines etc have less than unitary elastic (inelastic)
demand. Luxuries, like air conditioner, costly furniture, car etc
have greater than unitary elastic demand. Comforts like, cooler,
fans etc have neither very elastic nor very inelastic demand. Jointly
85

demanded goods like pen and ink etc shows a moderate Elasticity
of Demand.

26. State any four factors that affect Price Elasticity of Demand.
(All India 2006)

Ans. Four factors that affect Price Elasticity of Demand are:

(i) Number of substitutes of a good

(ii) Proportion of income spent on the good

(iii) Nature of the commodity

(iv) Diversity of uses or number of uses

26.State the Total Expenditure (TE) method of measuring Price

Elasticity of Demand.(Delhi 2006)

Ans. In this method, Price Elasticity of Demand is measured by

comparing the Total Expenditure on commodity before and after
the price change. The following possibilities are:

(i) When TE increases with the fall in price and decreases with the
rise in price then there is elasticity greater than one.

(ii) When TE remains the same with the fall or rise in price then
the Elasticity of Demand will be equal to unity.

(iii) When TE decreases with fall in price and increases with the rise
in price then the Elasticity of Demand will be less than unity.

4 Marks Questions
86

28. Explain any two factors that affect the Price Elasticity of
Demand. Give suitable examples. (Delhi 2013)

Ans.Factors affecting Elasticity of Demand are as follows:

(i) Availability of close substitutes A commodity will have elastic

demand, if there are good substitutes available, e.g. Pepsi, Coca-
Cola. A commodity having no substitutes, e.g. salt will have inelastic
demand

(ii) Postponement of use Usually the demand for such commodities

whose demand can be postponed for some time have elastic
demand, e.g. the demand for DVD player is elastic because its use
can be postponed for some time, if its price goes up or falls, but the
demand for wheat and rice is inelastic, because their use cannot be
postponed when their prices goes up.

29. How is Price Elasticity of Demand affected by

(i)number of substitute available for the good

(ii)nature of good (Delhi 2013)

Ans. (i) Number of substitute of a good which have close substitutes

(like tea and coffee) is relatively more elastic. Because, when price
of such a good rises, the consumers have the option of shifting to its
substitute. Goods without close substitutes like cigarettes etc are
generally found to be less elastic or inelastic in demand.

(ii) Nature of good Ordinarily, necessaries like salt, match boxes,

medicines etc have less than unitary elastic (inelastic) demand.
Luxuries, like air conditioner, costly furniture, car etc have greater
than unitary elastic demand. Comforts like, cooler, fans etc have
87

neither very elastic nor very inelastic demand. Jointly demanded

goods like pen and ink etc shows a moderate Elasticity of Demand.

30. The Price Elastictiy of Demand for a good is – (0.4). If its price
increases by 5% by

what percentage will its demand fall? Calculate.

Ans.

31.

When the price of a commodity falls by 20% its demand rises from
400 units to 500

units. Calculate its Price Elasticity of Demand. (All India 2013)

Ans.

32. Price Elasticity of Demand of a good is – (0.75). Calculate the

percentage fall in its price that will result in 15% rise in its
demand.(All India 2013)
88

Ans.

33. 5% Fall in the price of a good raises its demand from 300 units
to 318 units. Calculate its Price Elasticity of Demand.(All India
2013)

Ans.

34. The demand rises by 20% as a result of fall in its price. Its Price
Elasticity of Demand is (-) 0.8. Calculate the percentage fall in
price.(Delhi 2013)

Ans.
89

35. When price of a good is 7 per unit, a consumer buys 12 units.

When price falls to 6 per unit, he spends 72 on the good. Calculate
Price Elasticity of Demand by using percentage method. Comment
on the likely shape of demand curve based on this measure of
elasticity. (Delhi 2012)

Ans.

36.A consumer buys 10 units of a good at a price of 9 per unit. At

price of 10 per unit, he buys 9 units. What is Price Elasticity of
Demand? Use expenditure approach. Comment on the likely shape
of demand curve based on this measure of elasticity (Delhi 2012)

Ans.

As per the expenditure approach, when with a change in price, the

Total Expenditure remains unchanged, demand is unitary elastic
90

(E^ =1). [Demand curve will have a normal shape with equal
percentage change in price and quantity demanded].

37.A consumer buys 20 units of a good at a price of 5 per unit.

He incurs an expenditure of 120 when he buys 24 units. Calculate
Price Elasticity of Demand using the percentage method.
Comment on the likely shape of demand curve based on this
information(Delhi 2012)
91

Ans.

38.A consumer buys 10 units of a commodity at a price of 10 per

unit. He incurs an expenditure of 200 on buying 20 units. Calculate
Price Elasticity of Demand by percentage method. Comment on the
shape of demand curve based on this information. (All India 2012)
92

Ans.

Elasticity of demand is perfectly elastic. Therefore, demand curve is

a straight line parallel to x-axis.

39.A consumer buys 14 units of

a good at a price of 8 per unit. At price of 7 per unit, he spends
198 on the good. Calculate Price Elasticity of Demand by
percentage method. Comment on the shape of demand curve based
on this information.(All India 2012)
93

Ans.

40.A consumer buys 8 units of a good at a price 7 per unit. When

price rises to 8 per unit, he buys 7 units. Calculate Price Elasticity
of Demand through expenditure method. Comment on the shape of
demand curve based on this information.(AID India 2012)

Ans.

As per the expenditure approach, when with-a change in price, the

Total Expenditure remains unchanged, demand is unitary elastic
(£</ = 1). [Demand curve will have a normal shape with equal
percentage change in price and quantity demanded].
94

41. Explain the effect of the following on Price Elasticity of Demand

of a good

(i) Number of substitutes of a good

(ii) Proportion of income spent on the good (AH India 2011)

Ans.The two main factors that affect Price Elasticity of Demand

are:

(i) Number of substitutes of a goods Demand for goods which have

close substitutes (like tea and coffee) is relatively more elastic.
Because, when price of such a good rises, the consumers have the
option of shifting to its substitute. Goods without close substitutes
like cigarettes etc are generally found to be less elastic or inelastic
in demand.

(ii) Proportion of income spent on the goods On which consumers

spend a small proportion of their income (toothpaste, needles, etc)
will have an inelastic demand. On the other hand, goods on which
the consumers spend a large proportion of their income (cloth,
television, etc) tend to have elastic demand.
95

42. Explain the relationship between Price Elasticity of Demand and

Total Expenditure. (Ml India 2011)

Ans. Relation between Price Elasticity of Demand and Total

Expenditure are as follows:

Total Expenditure is calculated by multiplying price with quantity,

i.e. TE = PxQ

(i) If Total Expenditure remains unchanged with increase or

decrease in price then it is unitary elastic demand.

(ii) If direction of change in Total Expenditure is opposite to the

direction of change in price i.e. with rise is Price Total Expnediture
falls and vice-versa. Then, it is greater than unitary elastic demand.

(iii) If direction of change in Total Expenditure is the same as the

direction of change in price i.e. with rise in Price Total Expenditure
rises and vice-versa. Then, it is less than unitary elastic demand.
96

43. Calculate Price Elasticity of Demand by percentage method (All

India 2011)

44. When price of a commodity falls from ? 8 per unit to 7 per

unit, Total Expenditure on it increases from 200 to 210.
Calculate its Price Elasticity of Demand by percentage
method.(Delhi 201 ic)

Ans.
97

45. The price of a commodity is 20 per unit and Total Expenditure

on it is 1000. When its price falls to 18 per unit, Total
Expenditure increases by 8%. Calculate its Price Elasticity of
Demand by percentage method.(Delhi2011C)

Ans.

46. When price of a commodity falls by 2 per unit, its quantity

demanded increases by 10 units. Its Price Elasticity of Demand is (-)
1. Calculate its quantity demanded at a price before change which
was 10 per unit(Delhi 2010)

Ans.

47. When price of

a commodity falls by 1per unit, its quantity demanded rises by 3
units. Its Price Elasticity of Demand is (-) 2. Calculate its quantity
demanded if the price before change was 10per unit. (All India
2010)
98

Ans.

48. The Price Elasticity of a Commodity is (-) 1.5. When its price
falls by? 1 per unit, its quantity demanded rises by 3 units. If the
quantity demanded before the price change was 30 units, what
was the price at this demand? Calculate. (AN India 2010)

Ans.

49. Quantity demanded of a commodity rises by 6 units, when its

price falls by 1 per unit. Its Price Elasticity of Demand is (-) 1. If
the price before the change was 20 per unit, calculate quantity
demanded at this price.(AN imfia 2010)
99

Ans.

50. Calculate Price Elasticity of Demand by percentage method.(All

India 2010)

51. From the following schedule, calculate Price Elasticity of

Demand by comparing Totcil Expenditure on the good.(Delhi 2010c)
100

52. On the basis of the following schedule, calculate Price Elasticity

of Demand by percentage method.(Delhi 2010C)

53.A consumer buys 40 units of a good at a price of 3 per unit.

When price rises to? 4 per unit, he buys 30 units. Calculate Price
Elasticity of Demand by Total Expenditure method. (Delhi 2007)
101

Ans.

As per the expenditure approach, when with a change in price, the

Total Expenditure remains unchanged, demand is unitary
elastic(Ed=1)

54.A consumer buys 80 units of a good at a price of 5 per unit.

Suppose Price Elasticity of Demand is (-) 2. At what price will he
buy 64 units?(Delhi 2007)

Ans.

55.When price of a good falls by 10%, its quantity demanded rises

from 40 units to 50 units. Calculate Price Elasticity of Demand by
percentage method.

(All India 2007)

102

Ans.

56.A consumer buys 50 units of a good at a price of 10 per unit.

When price falls by 5

per unit, he buys 100 units. Find out Price Elasticity of Demand by
Total Expenditure method.(All India 2007)

Ans.

57.Demand of a product is elastic. Its price falls. What will be its

effect on total Expenditure on the product? ,Give a numerical
example.(Hots;Delhi2006c)

Ans.
103

Production and Costs Important

Questions for Class 12 Economics
Concept of Production Function
1. Production Function It studies the functional relationship between
physical inputs and physical outputs. It is expressed as Qx = F(L,K)

Where, Qx = Quantity of output, F = Function, L = Labour, K =

Capital

2. Different Periods in Production

• Market period It is the period during which production

factors can not be changed at all. Hence, the production
function is written as Qx = F(L,K), where both labour and
capital are taken as fixed.
• Short period It is a time period in which the producer can
change only the variable factors of production while the fixed
factors_of production remains constant. The production
function is written as Qx = F (L, K), where labour is taken as a
variable and capital as fixed factor .
• Long period It is a time period when the producer has enough
time to change both fixed and variable factors of production,
infact all factors are variable in the long-run. The production
function is written as Qx = F (L, K) where both labour and
capital are variable in nature.

3. Total Product (TP) It is the sum total of output corresponding to

each unit of the variable factor used in the process of production.
104

4. Marginal Product (MP) It is an additional output produced by the

use of an additional unit of the variable factor, fixed factor
remaining constant.

Where, ATP = Change in Total Product AL = Change

in labour (variable factor)

5. Average Product (AP) It is per unit output of the variable factor.

6. Returns to a Factor It refers to the behaviour of output when

only one variable factor of production is increased fixed factors
remaining constant. This is a short-run phenomenon.

7. Returns to Scale It refers to change in physical output of a good

on account of increase in all inputs required to produce a good
simultaneously in the same proportion. This is a long-term
phenomenon.

8. Law of Variable Proportion It states that as more and more units

of the variable factors are used (alongwith the fixed factor), a stage
must come when Total Product of the variable factor starts
declining, after reaching its maximum points or in other word
105

Marginal Product of variable factors initially increase, reaches its

maximum point and eventually falls to become negative.

9. Assumptions of Law of Variable Proportion

• There are only two factors of production, i.e. labour and

capital. Where labour is variable and capital is fixed.
• State of technology remains constant.

10. Three Stages of Law of Variable Factor/Variable Proportions

• Stage of increasing returns to a factor

• Stage of diminishing returns to a factor
• Stage of negative returns to a factor

11. Law of Diminishing Marginal Product This law states that with
the increase in a variable factor, keeping all other factors constant,
the Marginal Product of the variable factor first increases then
decreases and eventually becomes negative.

12. Point of Inflexion It is a point from where slope of TP curve

changes. TP has been increasing at an increasing rate, from this
point onwards TP increases, but only at the diminishing rate. Also,
at this point MP is maximum.

13. Postponement of the Law of Variable Proportions

• When there is improvement in technology used in the process

of production. So, that greater output is achieved with the
same inputs.
• When some substitute of the fixed factors are discovered. So,
that the constraint of fixity of the factor is removed. However,
such a situation is very rare, if not impossible.
106

14. Relationship between Total Product and Marginal Product

• When MP increases, TP increases at an increasing rate.

• When MP reaches at its maximum, TP changes its slope
termed as point.of inflexion.
• When MP falls but remains positive, TP increases at a
diminishing rate.
• When MP is zero, TP is maximum.
• When MP becomes negative, TP start to fall.

15. Relationship between Marginal Product and Average Product

• When AP increase, MP > AP.

• When AP is maximum MP = AP.
• When AP decreases, MP < AP.
• MP can become zero or negative, however AP can never be
zero.

Previous Years Examination Questions

1 Mark Questions
1. Give the meaning of returns to a factor. (Delhi 2014; All India
2009)

Ans. Returns to a factor refers to the behaviour of output when

only variable factor of production is increased in the short-run and
fixed factors remaining constant.

2. Define Marginal Product. (All India 2014)

107

Ans. Marginal Product is the change in Total Product as a result of

unit change in the input of a variable

3. Define production function. (All India 2011,2008,2006; Delhi

2009,2007)

Ans. Production function studies the functional relationship

between physical inputs and physical output.

It is expressed as Qx = F (t, K)

Where, Qx = Quantity of output

L = Labour

K = Capital

4. Give meaning of Marginal Physical Product. (All

India 2007; Delhi 2006,2006C)

Ans.Marginal Physical Product refers to an additional output

caused by use of an additional unit of the variable factor, fixed
factor remaining constant, it is calculated as,

3 Mark Questions
5. State the relation between Marginal Revenue and Average
Revenue. (Delhi 20014)
108

Ans.Relationship between MR and AR are:

(i) When AR is constant, MR – AR.

(ii) When AR is diminishing, AR > MR.

(iii) MR can be negative, but not AR.

6. Why is Average Revenue always equal to price? (All India 2014)

Ans.Average Revenue is the per unit revenue (price) received from

the sale of one unit of a commodity.

With the help of following equation we can prove AR = P.

7. Giving reasons, explain the Law of Variable Proportion. (All India

2014)

Ans. The Law of Variable Proportion shows the impact on output

when units of variable factor are increased, keeping fixed factors
constant in the short-run.

The law states that if more and more units of a variable factor are
employed with fixed factors, Total Physical Product (TPP) increases
at an increasing rate in the beginning, then increases at a
diminishing rate and finally starts falling.
109

Number of TPP APP

Land (Acre) MPP (Quintal)
labourers (Quintal) (Quintal)

–
1 0 0 0
Stage l

1 1 2 2 2

1 2 6 3 4

1 3 12 4 6

V 4 16 4 4

2
1 5 18 3.6
Stage II

1 6 18 3 0

(-) 4
1 7 14 2
Stage III

1 8 8 1 H6

As per the above schedule,

In stage I, TPP tends to rise at an increasing rate. This corresponds
to the situation of increasing return to a factor.

In stage II, TPP tends to rise at a diminishing rate. This

corresponds to a situation of diminishing returns to a factor.
In stage III, TPP starts declining. This is a situations of negative
110

returns to a factor.

8. Complete the following data (Delhi 2013)

Marginal Product (MP

Units of labour Average Product (AP) (units)
(units)

1 8 –

2 10 –

3 – 10

4 9 –

5 – 4

6 7 –

Ans.
111

Marginal
Labour t(Q) Total Product (TP) Average Product (AP)
Product
(Units) (units) (units)
(MP) (units)

1 8 8 8

2 20 10 12

3 30 10 10

4 36 9 6

5 40 8 4

6 42 7 2

AP = TP/Q, MPnth = TP„ – TPn_v TP = AP x Q

9. Complete the following table (Delhi 2013)

Average Product (AP) Marginal Product

Units of labour
(units) (MP) (units)

1 16 –

2 20 –

3 – 20

4 18 –

5 – 8

6 14 –

Ans.

Labour (Q) Total Product (TP) Average Product (AP) Marginal

112

(Units) (units) (units) Product (MP)

1 16 16 16

7 40 20 24

7 60 20 20

4 72 18 12

5 80 16 8

6 84 14 4

10. What is meant by returns to a factor? State the la w of

diminishing returns to a factor. (Delhi 2006)

Ans.Returns to a factor refers to the behaviour of output when only

variable factor of production is increased in the short-run and fixed
factors remaining constant.

Law of diminishing returns to a factor This law states that with the
increase in a variable factor, keeping all other factors constant, the
Marginal Product of the variable factor first increases then
falls and eventually becomes negative.

4 Marks Questions
11. What does the Law of Variable Proportion show? State the
behaviour of Marginal Product according to this law.(All India
2012)

Ans.The Law of Variable Proportion shows the impact on output

when units of variable factor are increased, keeping fixed factors
constant in the short-run.
 113

The law states that if more and more units of a variable factor are
employed with fixed factors, Total Physical Product (TPP) increases

Number of TPP APP

Land (Acre) MPP (Quintal)
labourers (Quintal) (Quintal)

1 0 0 0 – Stage l

1 1 2 2 2

1 2 6 3 4

1 3 12 4 6

V 4 16 4 4

1 5 18 3.6 2 Stage II

1 6 18 3 0

1 7 14 2 (-) 4 Stage III

1 8 8 1 H 6

at an increasing rate in the beginning, then increases at a

diminishing rate and finally starts falling.

As per the above schedule,

In stage I, TPP tends to rise at an increasing rate. This corresponds
to the situation of increasing return to a factor.

In stage II, TPP tends to rise at a diminishing rate. This

corresponds to a situation of diminishing returns to a factor.
In stage III, TPP starts declining. This is a situations of negative
114

returns to a factor.

As per the above schedule, in stage I Marginal Product is rising but

in stage II Marginal Product tends to decline and in stage III
Marginal Product becomes negative.

12. What does the Law of Variable Proportion show? State the
behaviour of Total Product according to this law. (Delhi 2012)

Ans.The Law of Variable Proportion shows the impact on output

when units of a variable factor are increased, keeping fixed factors
constant in the short-run

It states that as more and more units of the variable factors are
used (along with the fixed factor), a stage must come when Total
Product of the variable factor starts declining, and eventually
115

starts falling.

As per the above schedule, in phase I, Total Product tends to rise at

an increasing rate. This corresponds to the situation of increasing
returns to a factor. In phase II, Total Product tends to rise at a
diminishing rafe this corresponds to a situation of diminishing
returns to a factor. In Phase III, Total Product starts declining,-this
is actuation of negative returns to a factor.

13. Prepare a Marginal Product schedule for increasing production

when only one input is increased. Indicate the phases of the Law of
Variable Proportion. (All India 2010)

Ans.The Law of Variable Proportion shows the impact on output

when units of variable factor are increased, keeping fixed factors
constant in the short-run.

The law states that if more and more units of a variable factor are
employed with fixed factors, Total Physical Product (TPP) increases
 116

at an increasing rate in the beginning, then increases at a

Number of TPP APP

Land (Acre) MPP (Quintal)
labourers (Quintal) (Quintal)

1 0 0 0 – Stage l

1 1 2 2 2

1 2 6 3 4

1 3 12 4 6

V 4 16 4 4

1 5 18 3.6 2 Stage II

1 6 18 3 0

1 7 14 2 (-) 4 Stage III

1 8 8 1 H 6

diminishing rate and finally starts falling.

As per the above schedule,

In stage I, TPP tends to rise at an increasing rate. This corresponds
to the situation of increasing return to a factor.

In stage II, TPP tends to rise at a diminishing rate. This

corresponds to a situation of diminishing returns to a factor.
In stage III, TPP starts declining. This is a situations of negative
 117

returns to a factor.

14. Explain the likely behaviour of Total Product when only one
input is increased for increasing production? Use
diagram. (Delhi 2010c)

Ans.The Law of Variable Proportion shows the impact on output

when units of variable factor are increased, keeping fixed factors
constant in the short-run.

The law states that if more and more units of a variable factor are
employed with fixed factors, Total Physical Product (TPP) increases
at an increasing rate in the beginning, then increases at a
diminishing rate and finally starts falling.

Number of TPP APP

Land (Acre) MPP (Quintal)
labourers (Quintal) (Quintal)
 118

1 0 0 0 – Stage l

1 1 2 2 2

1 2 6 3 4

1 3 12 4 6

V 4 16 4 4

1 5 18 3.6 2 Stage II

1 6 18 3 0

1 7 14 2 (-) 4 Stage III

1 8 8 1 H 6

As per the above schedule,

In stage I, TPP tends to rise at an increasing rate. This corresponds
to the situation of increasing return to a factor.

In stage II, TPP tends to rise at a diminishing rate. This

corresponds to a situation of diminishing returns to a factor.
In stage III, TPP starts declining. This is a situations of negative
119

returns to a factor.

15. Identify different phases of the Law of Variable Proportion from

the following schedule. Give reasons for your answer. (Delhi 2006C)
120

Ans.

6 Marks Questions
16. State the behaviour of Marginal Product is the Law of Variable
Proportions. Explain the causes of this behaviour. (Delhi 2014)

Ans. Law of Variable Proportion states that the Marginal Product

of a factor input, initially rises with its employment level. But after
reaching a certain level of employment, it starts falling.

This law may be explained with the help of following schedule and
diagram:
121

Following observations can be made from the given table and curve:.
(i) MP rises till 3rd unit of labour are employed, in this condition
TP increases at increasing rate, this condition is called condition of
increasing returns.
(ii’) With the use of 4th unit of labour, MP starts decreasing and
TP increases only at decreasing rate, this condition is called
condition of diminishing returns.
(iii) When decreasing MP reduces to zero, Total Product is
maximum.
122

(iv) When Marginal Product is negative, Total Product starts

declining. (l)
Law of Variable Proportion basically depends on diminishing
returns to marginal factor.
It’s main cause are:
(a) Fixity of theiactor. (b) Imperfect factor substitutability.
(c) Poor coordination between the factors.

17. State giving reasons whether the following statements are true
or false.
(i) Average Product will increase only when Marginal Product
increases. (All India 2013)
(ii) Under diminishing returns to a factor, Total Product continues
to increase till Marginal Product reaches zero.
(All India 2011)
(iii) Where there are diminishing returns to a factor, Total Product
first increases and then starts falling. (Delhi 2010)
(iv) When Marginal Product falls, Average Product will also fall.
(Delhi 2010)
(v) Total Product always increases whether there is increasing
returns or diminishing
returns to a factor. (All India 2010)
(vi) When there are diminishing returns to a factor, Total Product
always decreases. (Delhi 2009)
(vii) Product will increase only when Marginal Product increases.
(Delhi 2009)
(viii) Increase in Total Product always indicates that there are
increasing returns to a factor. (Delhi 2009)
(ix) When there are diminishing returns to a factor, Marginal
product and Total Product both fall. (Delhi 2009; All India 2009)

Ans. (i) False, AP rise even when MP falls, and AP and MP are
equal at the maximun point of AP.
123

(ii) True, under diminishing returns to a factor, Marginal Product

tends to fall which implies that Total Product should be increasing
at a diminishing rate.
(iii) False, under diminishing returns to a factor, Marginal Product
tends to fall. Falling Marginal Product implies that Total Product
should be increasing at a diminishing rate.
(iv) False, Average Product can rise even when Marginal Product
falls.
(v) True, in a situation of increasing returns to a factor, Marginal
Product tends to rise. Accordingly, Total Product should be
increasing at an increasing rate. Under diminishing returns to a
factor, Marginal Product tends to fall which implies that Total
Product should be increasing at a diminishing rate.
(vi) False, in a situation of diminishing returns to a factor, Marginal
Product tends to fall which implies that Total Product should be
increasing at a diminishing rate.
(vii) False, Total Product will also increase when Marginal Product
decreases. In that case, Total Product increases at a diminishing
rate.
(viii) False, it is not necessary because in the stage of diminishing
returns to a factor, Total Product also increases, but at a
diminishing rate.
(ix) False, in the case of diminishing returns to a factor, only
Marginal Product tends to fall. Total Product tends to increase at a
diminishing rate.

18. Explain the Law of Returns to a Factor with the help of Total
Product and Marginal Product schedule. (Delhi 2013; All India
2010,2009)
or
Explain the Law of Variable Proportion with the help of Total
Product and Marginal Product curves. (Delhi
2010,2008; All India 2006)
 124

or
What are the different phases in the behaviour of Total Product in
the Law of Variable Proportion? Also give reasons behind the
behaviour in each case. (Delhi 2009C, 2007)

Ans.The Law of Variable Proportion shows the impact on output

when units of variable factor are increased, keeping fixed factors
constant in the short-run.

The law states that if more and more units of a variable factor are
employed with fixed factors, Total Physical Product (TPP) increases
at an increasing rate in the beginning, then increases at a
diminishing rate and finally starts falling.

As per the above schedule,

Number of TPP APP

Land (Acre) MPP (Quintal)
labourers (Quintal) (Quintal)

1 0 0 0 – Stage l

1 1 2 2 2

1 2 6 3 4

1 3 12 4 6

V 4 16 4 4

1 5 18 3.6 2 Stage II

1 6 18 3 0

1 7 14 2 (-) 4 Stage III

1 8 8 1 H 6
125

In stage I, TPP tends to rise at an increasing rate. This corresponds

to the situation of increasing return to a factor.

In stage II, TPP tends to rise at a diminishing rate. This

corresponds to a situation of diminishing returns to a factor.
In stage III, TPP starts declining. This is a situations of negative
returns to a factor.

19. Identify the three phases of the Law of Variable Proportion from
the following and also give reasons behind each phase.
126

Ans.

Production and Costs Important

Questions for Class 12 Economics
Concept of Cost Function
1. Cost It refers to the expenditure incurred by a producer on the
factor as well as non-factor inputs for a given amount of output of
a commodity.

2. Cost Function A cost function shows the functional relationship

between output and cost of production. It is given as

C = F(Q)

Where, C – cost, F = function, Q = output

3. Implicit Cost These are the costs of self-owned and self-employed

or self-supplied resources, e.g. rent of own land, interest on own
capital, etc.
127

4. Explicit Cost These are those actual cash payments, which firms
make to outsiders for their goods and services, e.g. wages, payment
for raw material , rent, interest, etc.

5. Total Cost (TC) It is the sum total of fixed cost and variable cost,
corresponding to a given level of output.

Symbolically, 6.Total Fixed Cost

(TFC) These costs are the sum total of expenditure incurred by the
producer on purchase or hiring of fixed factors of production, e.g.
rent of building, wages of the manager, etc.

These costs do not vary with the output level.

7. Total Variable Cost (TVC) These are the costs which has been
incurred for hiring variable factors of production like raw material,
wages of casual workers etc. These costs vary with the quantity of
output produced. These are also called prime cost. These costs
changes directly with the level of output.

8. Average Cost (AC) It is the Total

Cost per unit of output.

Symbolically,

9. Average Fixed Cost (AFC) It is defined as the fixed cost of

producing per unit of the commodity. It is obtained by dividing TFC
by the level of output.
128

10. Average Variable Cost (AVC) It is defind as the variable cost of

producing per unit of the commodity. It is obtained by dividing
TVC by the level of output

11. Marginal Cost It is

‘additional cost’ owing to the production of an additional unit of
output.

Symbolically,

12. Relations
hip between TC and MC

(i) TC increases at an increasing rate, when MC is increasing,

(ii) TC stops increasing at a diminishing rate, when MC reaches its

lowest point.

(iii) TC increases at a diminishing rate, when MC is decreasing.

13. Relationship between AC and MC

(i)When Average Cost is falling, AC > MC.

(ii)When Average Cost is rising, AC < MC.

(iii)When Average Cost is constant and minimum AC = MC.

14. Relationship between MC and AVC

129

(i) Both Average Variable Cost and Marginal Cost starts from same
point.

(ii) When Average Variable Cost is falling, AVC > MC.

(iii)When Average Variable Cost is rising, AVC < MC.

(iv)When Average Variable Cost is constant and minimum AVC =

MC.

15. Relationship between AC, AVC and MC

(i)AC is the sum total of AVC and AFC, hence AC lies above AVC.

(ii)AVC and MC starts from same point.

(iii) When MC falls, both AC and AVC also falls but MC < AC and MC
< AVC.

(iv) MC falls, reaches its minimum and start rising though AC and
AVC continuous to falls till both reaches their minimum.

(v) MC is equal to AC and AVC at their respective minimum point.

(vi) With rise in output AC and AVC come close to each other but
never coincide with each other as AFC is always positive.

16. Shapes of Cost Curves

(i)TC = Inverted ‘S’ shaped

(ii)TVC = Inverted ‘S* shaped

(iii)TFC = Horizontal line parallel to X-axis.

130

(iv)MC = ‘U’ shaped

(v)AC = ‘IF shaped

(vi)AVC = ‘U’ shaped

(vii)AFC = Rectangular hyperbola

Previous Years Examination Questions

1. Give two examples of Variable Cost. (Delhi 2013)

Ans. Two examples of Variable Cost are as follows:

(i) Cost of raw material. (ii) Wages of

casual labour.

2. Give an example each of Fixed Cost and Variable Cost. (Delhi

2013)

Ans. Examples for Fixed Cost and Variable Cost are:

(i)Fixed Cost Rent of the building.

(ii) Variable Cost Cost of raw material.

3. Define Marginal (Delhi 2013,2010c, 2008,2007,2006; All India

2009,2006)

Ans. Marginal Cost is ‘additional cost’ owing to the production of

an additional unit of output.

Symbolically, MCnth = TCn-TCn_1

131

4. Give two examples of Fixed Cost. (Delhi 2013; All India 2010)

Ans. Two examples of Fixed Cost

are: ‘• ‘

(i) Expenditure on machine and plant. (ii) Wages and salaries of

permanent staff.

5. What is the behaviour of Average Fixed Cost as output increases?

(hots; Delhi 2012)

or

What is the behaviour of Average Fixed Cost as output is

decreased? (HOTS; AH India 2009)

or

How does Average Fixed Cost behave as output is increased? (Delhi

2008C)

Ans. Average Fixed Cost goes on diminishing as output increases,

but never become zero.

6. What is the behaviour of Total Variable Cost as output increases?

(All India 2012)

Ans.Total Variable Cost increases with increase in output.

7. Define Fixed Cost. (Delhi 2009,2008 C, 2007,2006; All India

2009,2006)
132

Ans. Fixed Costs are the sum total of expenditure incurred by the
producer on the purchase or hiring of fixed factors of production.

8. Why is Average Total Cost greater than Average Variable Cost?

(Alt India 2009)

Ans. Average Total Cost (ATC) is greater than Average Variable

Cost (AVQ because Average Total Cost is the sum of Average Fixed
Cost (AFC) and Average Variable Cost.

9. What does cost mean in economics? (Delhi2008,2007)

Ans. Cost refers to the expenditure incurred by a producer on the

factor as well as non-factor inputs for a given amount of output of
a commodity

10. Define Variable Costs. (All India 2008; Delhi 2006)

Ans. Variable Costs are the costs incurred on hiring variable factors
of production, these costs vary directly with the quantity of output
produced. These are called prime cost also. Symbolically, TVC = TC
-TFC

3 Marks Questions
11. State the relation between Total Cost and Marginal Cost. (Delhi
2014)

Ans. Relationship between Total Cost and Marginal Cost are:

(i) When MC is diminishing, TC increases at a diminishing rate.

(ii) When MC is rising, TC increases at an increasing rate.

133

(iii) When MC is constant, TC increases at a constant rate.

12. What is the behaviour of Average Fixed Cost as output is

increased? Why is it so? (Delhi 2014)

Ans. AFC falls, when output is increased. Since, the Total Fixed Cost
remains the same with changes in output, therefore, AFC falls
steadily with increase in output. AFC curve is downward sloping.

13. Complete the following table(Delhi 2013)

14. Draw Average Variable Cost, Average Total Cost and Marginal
Cost single diagram(Delhi 2012).

Ans.
134

15. An individual is both the owner and the manager of a shop

taken on rent. Identify implicit cost and explicit cost from this
information. Explain.(hots; Delhi 2012)

Ans. In the above example, rent Is an explicit cost as it is paid by

the owner and salary is the implicit cost as it is earned by manager
while working in an organisation.

Implicit cost These are costs of self-owned and self-employed or

self supplied resources, e.g. rent of own land, interest on own
capital, etc.

Explicit cost These are those cash payments, which firms make to
outsider for their factor services, e.g. wages of labour, payment for
raw material, rent, interest, etc.

16.A producer borrows money and opens a shop. The shop premises
is owned by him. Identify implicit cost and explicit cost from this
information. Explain, (hots; Delhi 2012)

Ans. In the above example, interest paid on borrowed money will

be explicit cost whereas the imputed rent of the shop premises is
implicit cost.

Implicit cost These are costs of self-owned and self-employed or

self supplied resources, e.g. rent of own land, interest on own
capital, etc.

Explicit cost These are those cash payments, which firms make to
outsider for their factor services, e.g. wages of labour, payment for
raw material, rent, interest, etc.
135

17.A producer invests his own savings in starting a business and

employs a manager to look after it. Identify the implicit cost and
explicit cost from this information. Explain. (HOTS; Delhi 2012)

Ans. In the above example, imputed values of the interest that a

producer would have earned on his savings will be implicit cost and
salary paid to the manager will be explicit cost.

Implicit cost These are costs of self-owned and self-employed or

self supplied resources, e.g. rent of own land, interest on own
capital, etc.

Explicit cost These are those cash payments, which firms make to
outsider for their factor services, e.g. wages of labour, payment for
raw material, rent, interest, etc.

18.Draw Total Variable Cost, Total Cost and Total Fixed Cost
curves in a single diagram. (All India 2012)

Ans.

19.A producer starts a business by investing his own savings and

hiring the labour. Identify implicit cost and explicit cost from this
information. Explain.(HOTS; All India 2012)
136

Ans. In the above example, imputed value of the interest that a

producer would have earned on his savings will be implicit cost and
wages paid to the labour will be the explicit cost.

Implicit cost These are costs of self-owned and self-employed or

self supplied resources, e.g. rent of own land, interest on own
capital, etc.

Explicit cost These are those cash payments, which firms make to
outsider for their factor services, e.g. wages of labour, payment for
raw material, rent, interest, etc.

20.A producer borrows money and starts a business. He himself

looks after the business. Identify implicit cost and explicit cost from
this information. Explain.(HOTS; All India 2012)

Ans. In the above example, interest paid on borrowed money will

be explicit cost and income earned by him from his business is
implicit cost.

Implicit cost These are costs of self-owned and self-employed or

self supplied resources, e.g. rent of own land, interest on own
capital, etc.

Explicit cost These are those cash payments, which firms make to
outsider for their factor services, e.g. wages of labour, payment for
raw material, rent, interest, etc.

21. Giving examples, explain the meaning of cost in economics.

(Delhi 2011)

Ans. Cost refers to the expenditure incurred by a producer on the

factor as well as non-factor inputs for production of a given
137

amount of output of a commodity. It includes explicit cost

(expenditure on the purchase of inputs from the market like wages
paid to labours, interest paid on borrowed money, etc) and implicit
cost (estimated expenditure on the use of self supplied factors like
rent of the building owned by the producer, wages and salary for
producer’s own labour, etc).

22. Distinguish between implicit and explicit costs and give examples.
(All India 2011)

Ans.Difference between implicit cost and explicit cost

23. Given below is the cost schedule of a firm. Its Average Fixed Cost
is 20 when it produces 3 units. (Delhi 2010)
138

24.A firm’s Average Fixed Cost, when it produces 2 units is ? 30.

Its Average Total Cost schedule is given below. (All India 2010)

25. Given below is the cost schedule of the firm. Its Total Fixed Cost
is 120(All India 2010)
139

26. From the following cost schedule of a firm, calculate Marginal

Cost and Average Variable Cost at each level of output.(All India
2010)

27. Explain the relationship between Marginal Cost and Average

Cost.(All India 2008;Delhi 2007)

Ans. Relationship between Marginal Cost and Average Cost is as

follows:

(i) When AC falls, MC is lower than AC.

(ii) When AC rises, MC is greater than AC.

(iii) When AC is constant and minimum (as at point £), MC is equal

to AC.
140

(iv)MC’s minimum point (At Q) lies to the left of AC’s minimum

point (At Q1)

28. Why does the difference between Average Total Cost and
Average Variable Cost decrease with increase in the level of output?
Explain.(Delhi 2008 C)

Ans.As we increase the level of output, the difference between ATC

and AVC decreases because ATC = AFC + AVC and Total Fixed Cost
remain constant at all levels of output, but with rise in level of
output, AFC decreases. That’s why the difference between ATC and
AVC decreases with rise in level of output.

4 Mark Questions
29. Define Marginal Cost. Explain its relation with Average Cost(All
India 201l; Delhi 2009c)

Ans. Marginal Cost is ‘additional cost’ owing to the production of

an additional unit of output.
141

Symbolically, MCnth = TCn-TCn_1

Relationship between Marginal Cost and Average Cost

Relationship between Marginal Cost and Average Cost is as follows:

(i) When AC falls, MC is lower than AC.

(ii) When AC rises, MC is greater than AC.

(iii) When AC is constant and minimum (as at point £), MC is equal

to AC.

(iv)MC’s minimum point (At Q) lies to the left of AC’s minimum

point (At Q1)

30. Define Variable Cost. Explain the behaviour of Total Variable

Cost as output increases. (All India 2011)

Ans. Variable Cost are the costs incurred on hiring variable factors
of production, these costs vary directly with the quantity of output
produced. These are called prime cost also. Symbolically, TVC = TC
-TFC
142

Total Variable Cost increases with increase in output. Initially, it

increases at decreasing rate, eventually it increases at an increasing
rate. In other words, it increases at an increasing rate when
diminishing returns to a factor starts operating.

31. Complete the following table.(Delhi 2009)

32. Complete the following table.(All India 2009)

143

33. Draw Total Fixed Cost, Total Variable Cost and Total Cost
Curves in a single diagram. State the relation between Total
Variable Cost and Total Cost curves. (All India 2009)

Ans.

Relations between Total Variable Cost and Total Cost curves are:

(i) TC is the sum of TFC and TVC.

(ii) TC always exceed TVC by the same amount of TFC.

(iiii) TVC and TC curves will run vertically parallel and vertical
distance between the two is equal to TFC.
144

(iv) Both TC and TVC are inverted ‘S’ shaped. While TFC is
horizontal line.

34. Complete the following table.(Delhi 2008)

35. Complete the following table.(Delhi 2008)

36. Distinguish between (i) Fixed Cost and Variable Cost giving
examples (ii) Average Cost and Marginal Cost giving an
example. (All India 2008)
145

37. Complete the following table.(All India 2008 c)

38. Complete the following table.(All India 2008)

146

39. Calculate Total Variable Cost and Total Cost from the following
cost schedule of a firm whose Fixed Cost are 10.(Delhi 2007)

40. Calculate Total Variable Cost and Marginal Cost from the
following cost schedule of a firm, whose Total Fixed Cost are 12(All
India 2007)
147

41. Complete the following table.(All India 2006)

6 Mark Questions
42. From the following information about a firm, find the firms
equilibrium output in terms of Marginal Cost and Marginal Revenue.
Give reasons. Also, find profit at this output. (Delhi 2014)
148

43. From the following information about a firm, find the firm’s
equilibrium output in terms of Marginal Cost and Marginal Revenue.
Give reasons. Also find profit at this output. (All India 2014)

According to the MR = MC approach, the firm attains its

equilibrium, where the following two necessary and sufficient
conditions are fulfilled.

(i) MR – MC

(ii)MC must be rising after the equilibrium level of output.

149

Thus, by looking at the above table, we can say that the firm is in
equilibrium at output equal to 4 units, because at 4th unit of
output MR = MC and MC increases after the 4th unit of output.

44. State giving reasons, whether the following statements are true
or false.

(i) With increase in level of output, Average Fixed Cost goes on

falling till reaches zero.(All India 2013)

(ii) Average Variable Cost falls even when Marginal Cost is rising.
(Delhi 2010)

(iii) The difference between Total Cost and Total Variable Cost falls
with increase in output.(Delhi 2010)

(iv) As soon as Marginal Cost starts rising, Average Variable Cost

also starts rising.(All India 2010)

(v) Average Cost falls only when Marginal Cost falls. (All India 2009)

(vi) The difference between Average Total Cost and Average Variable
Cost is constant.(All India 200?)

(vii) As output is increased, the difference between Average Total

Cost and Average

Variable Cost falls and ultimately becomes zero. (All India 2009)

Ans. (i) False, because as output increases, Average Fixed Cost falls
but can never be zero, Average Fixed Cost must remain positive
even when it is falling, as TFC is always positive.
150

(ii) True, Average Variable Cost can fall even when Marginal Cost is
rising, as MC cuts AVC at its minimum point.

(iii)False, because the difference between Total Cost and Total

Variable Cost is equal to Total Fixed Cost which remains constant
at all levels of output.

(iv)False, Average Variable Cost can fall even when Marginal Cost
starts rising.

(v)False, Average Cost can fall even when Marginal Cost is rising as
MC cuts AC at its minimum point.

(vi)False, the difference between Average Total Cost and Average

Variable Cost is Average Fixed Cost which can never be constant.
Since, AFC tends to decline with increase in output, the difference
between ATC and AVC must reduce as output increases.

(vii)False, because as output increases, the difference between ATC

and AVC falls but can never be zero. The difference is equal to AFC,
which must remain positive, even when it is falling

45. Complete the following table.(Delhi 2011 c)

151

46. Complete the following table.(All India 2011)

47. Complete the following table. (All India 2011C)

152

48. The Total Fixed Cost of a firm is 12. Given below is its marginal
cost schedule. Calculate Total Cost and Average Variable Cost for
each given level of output (Delhi 2006)

49. Calculate Total Cost and Average Variable Cost of a firm at each
given level of output from its cost schedule given below. (All India
2006)
153

50. Explain the relation between Marginal Cost and Average

Variable Cost with the help of diagram. (All India 2006)

Ans. Relations between Marginal Cost (MC) and Average Variable

Cost (AVC) are as follows;

(i) MC and AVC starts from same point A.

(ii) AVC falls when MC remains below it. Hence, MC < AVC in this
range of output (before pomt B in the figure)

(iii) When MC comes equal to AVC, the AVC becomes constant and
this happens at its minimum point of AVC where MC curve cuts it
from below Hence, MC = AVC (at point B),

(iv)In the range between L and K level of output, MC is rising but

AVC diminishes.
154

(v)AVC starts rising when MC becomes higher than AVC. Hence,

MC > AVC in this range of output (after point B).

(vi) Minimum of MC curve (at B) lies to the left of minimum point

of AVC curve (at K)

Theory of Producers Behaviour and

Supply Important Questions for Class
12 Economics,Concept of Revenue
1. Revenue It refers to money receipts of the producer from the sale
of his output,

2. Total Revenue (TR) It is the total money receipts of a producer

on account of the sale of his total output. It can be calculated by
multiplying the units of the sales with the price.

Where, TR = Total Revenue, AR = Average Revenue Q = Quantity,

P = Price MR = Marginal Revenue

3. Average Revenue (AR) It refers to revenue received per unit of

output sold, It is the same as price of the commodity.
155

Where, P = Price of the commodity

4. Marginal Revenue (MR) It is the change in Total Revenue on

account of the sales of an additional unit of output.

Note Negative Marginal Reveuve is possible only when price is

declining under imperfect competition such as monopoly and
monopolistic competition. It is not possible in case of perfect
competition, where price remains constant for a firm

5. Relationship between Total Revenue (TR) and Marginal Revenue

(MR)

(i) When TR increases at an increasing rate, MR increases.

(ii) When TR increases at a diminishing rate, MR decreases but

remains positive.
156

(iii) When TR is constant and maximum, MR is zero.

(iv)When TR decreases, MR becomes negative.

6. Relationship between Average Revenue (AR) and Marginal

Revenue (MR)

(i)When AR is constant, it is equal to MR under perfect competition.

(ii)When AR is diminishing, MR also diminishes but AR diminishes

at a faster rate as in the case of monopoly and monopolistic
competition.

(iii) MR can be zero or negative but not AR.

(iv) AR curve is the demand curve of the firm, at the mid-point of

AR curve (Ed = 1), MR is zero.

(v) Below the mid-point of AR curve (Ed < 1), MR becomes negative.

(vi)Slope of MR curve is half of slope of AR curve.

7. AR Curve is Firm’s Demand Curve Firm’s demand curve is a curve

showing relationship between price of the products and its quantity
demanded in the market.

8. AR Curve is a Horizontal Straight Line Under Perfect

Competition A firm under perfect competition is a price taker. It
cannot influence/change the market price, implying a constant AR
for a firm corresponding to all levels of output and it coincide with
MR curve.
157

9. AR Curve Slopes Downwards Under Imperfect Competition Under

monopoly and monopolistic competition, more of the commodity
can be sold only at a lower price. This implies an inverse
relationship between price of the commodity and demand for the
firm’s output. Hence, it is a downward sloping firm’s demand curve.
However, MR curve lies below AR curve.

10. General Relationship Between AR and MR Curve

(i) When AR curve rises, MR > AR.

(ii) When AR curve reaches its maximum and constant, MR = AR.

(iii)When AR curve falls, MR < AR.

(iv)MR curve can be zero or negative however, AR curve can

neither be zero nor negative.

Previous Years Examination Questions

1. Define Marginal Revenue. (All India
2013,2009,2008,2007,2006; Delhi 2006)

Ans. Marginal Revenue (MR) is the change in total revenue on

account of the sale of an additional unit of output.
158

2. What is the behaviour of average revenue in the market, in which

a firm can sell more only by lowering the price? (hots; Delhi
2012)

Ans. Average Revenue falls in the market, in which a firm can sell
more only by lowering the price, i.e.imperfect competition

3. What is the behaviour of Marginal Revenue in the market, in

which a firm can selll any quantity of the output it produces at a
given price?(hots; All India 2012)

Ans. In a perfectly competitive market, firm’s Marginal Revenue is

just equal to the market price and it will be a horizontal line
parallel to X-axis.

4. Define revenue.(Delhi 2008)

or

Give meaning of revenue in microeconomics.(Delhi 2007; All India

2006)

Ans. Revenue refers to money receipts of the producer from the

sale of his output.

3 Marks Questions
5. Draw Average Revenue and Marginal Revenue curves in asingle
diagram of a firm, which can sell more units of a good only by
lowering the price of that good. Explain.(Delhi 2011)

Ans. Under imperfect competition, firms faces a downward sloping

AR and MR curves, as under this form of market, firms can sell
159

higher output only at lower price, resulting in downward slope of

AR and MR, curves wherein MR lies below AR because additional
revenue of every addition unit sold is less than the price of output.

6. Draw a single diagram of the Average Revenue and Marginal

Revenue curves of a firm, which can sell any quantity of the good at
a given price Explain(All India 2011)

Ans. Under perfect competition, a firm is a price taker. It can not

influence/change the market price. It can sell any number of units
of output at the prevailing price. If a firm tries to sell at a price
higher than market price, it will lose all its customers. Firm’s price
line or revenue curve is a straight horizontal line. AR and MR
Curves coincide with each other
160

7. Explain the relation between Marginal Revenue and Average

Revenge. (Delhi 2010C)

Ans. Relationship between Marginal Revenue (MR) and Average

Revenue (AR) is:

(i) When AR curve rises, MR > AR

(ii) When AR curve reaches its maximum and constant, MR = AR.

(iii)When AR curve falls, MR < AR.

(iv) MR curve can be zero or negative however, AR curve can

neither be zero nor negative.
161

8. Explain the relationship between Marginal Revenue and Total

Revenue.(All India 2008,2007)

Ans. Relationship between Total Revenue (TR) and Marginal

Revenue (MR) is :

(i) When TR increases at an increasing rate, MR increases

(ii)When TR increases at a diminishing rate, MR decreases but

remains positive.

(iii)When TR is constant and miximum, MR is zero.

(iv)TR decreases, when MR becomes negative.

162

4 Marks Questions
9.A producer can sell more of a good only by lowering the price.
Prepare a Total Revenue and Marginal Revenue schedule. Take four
output levels. (All India 2010)

10.A producer can sell any quantity of output of the good he

produces at a given price. Prepare a Total Revenue and Marginal
Revenue schedule for four output levels.(Delhi 2010C)

11. Complete the following table(Delhi 2009)

163

12. Complete the following table(All India 2009)

Ans.
164

13.A firm can sell as many units of a good as it wants to sell at a

given price. Draw

(i) Total Revenue curve and(ii) Average Revenue and Marginal

Revenue curves of the firm

State the relation between Average Revenue and Marginal Revenue

curves in this case. (All India 2009)

Ans. (i) Total Revenue, Average Revenue and Marginal Revenue

curves of the perfectly competitive firm. Here, AR and MR curves
are perfectly elastic and TR curve is upward sloping straight line
because as output rises, the price remains constant and TR
increases
165

(ii) When firm can sell any level of output at a given price, it means
that price, i.e. AR remains constant. In this case, MR and AR
coincide with each other as Marginal Revenue (MR) is equal to the
Average Revenue (AR), which is constant. Also, TR will be a straight
line from origin indicating that TR is increasing at a constant rate,
since MR is constant.

14.A firm can sell as many units of a good as it wants to sell at a

given price. Prepare a schedule showing Total Revenue, Average
Revenue and Marginal Revenue of such a firm. State the relation
between Average Revenue and Marginal Revenue in this case. (All
India 2009)

(ii)Relationship between Marginal Revenue (MR) and Average

Revenue
166

Relationship between Marginal Revenue (MR) and Average Revenue

(AR) is:

(i) When AR curve rises, MR > AR

(ii) When AR curve reaches its maximum and constant, MR = AR.

(iii)When AR curve falls, MR < AR.

(iv) MR curve can be zero or negative however, AR curve can

neither be zero nor negative.

15. Define revenue. State the relation between Marginal Revenue

and Average Revenue (Delhi 2009C)

Ans.Revenue refers to money receipts of the producer from the sale

of his output.

Relationship between Marginal Revenue (MR) and Average Revenue

(AR) is:

(i) When AR curve rises, MR > AR

(ii) When AR curve reaches its maximum and constant, MR = AR.

167

(iii) When AR curve falls, MR < AR.

(iv) MR curve can be zero or negative however, AR curve can

neither be zero nor negative.

16. Complete the following table (All India 2008)

168

Theory of Producer’s Behaviour and

Supply Important Questions for Class
12 Economics Producers Equilibrium
1. Producer A producer is someone who produces output by
combining factor inputs which have an exchange value.

2. Producers’s Equilibrium Producer’s equilibrium refers to the

situation of profit maximisation or minimisation of costs.

Profit maximisation of a producer means maximising the difference

between Total Revenue and Total Cost.

3. Assumptions for Producer’s Equilibrium

(i) Producer’s behaviour is rational.

(ii) Producer’s behaviour does not change frequently.

(iii) There are two factors (capital and labour) taken into
consideration for determining producer’s equilibrium.

(iv)Production technique remains constant.

4. Conditions of Producer’s Equilibrium In terms of Marginal

Revenue (MR) and Marginal Cost (MC) approach. Under MR = MC
approach, a producer is in equilibrium.
169

Where,

(i)MR = MC and

(ii)MC should cut MR from below, i.e. MC should be rising

These conditions can be studied with the following graph:

5. Super Normal
Profits
170

6. Super Normal Losses It is a situation in which TR < AC or P <

AC .

7. Normal Profit It is a situation in which P = AC or TR = TC. It is

also referred as a no profit and no loss situation.

8. Break-even Point Break-even for a firm occurs when it is able to

cover its all costs of production. Under this situation, the firm
earns only normal profit, i.e. neither super normal profits nor
super normal losses. This situation prevails at the point where Total
171

Cost is equal to Total Revenue,

i.e. TR = TC or AR = AC.

Shut Down Point It is defined as a situation when TR = TV C or AR

= AV C. It occurs when firm is just able to cover its variable costs,
incurring the loss of fixed cost of production

Previous Years Examination Questions

3 Marks Questions
1. In the following table, find out the level of output, at which the
producer will be in equilibrium. Give reason for your answer.(All
India 2013)
172

Output (units) 1 2 3 4 5

Marginal Revenue
8 8 8 8 8
(Rs)

Marginal Cost (Rs) 10 8 7 8 9

Ans.

Marginal Cost (MC)

Output (Q) (units) Marginal Revenue (MR) (Rs)
(Rs)

1 8 10

2 8 8

3 8 7

4 8 8

5 8 9

Prod– r is in equilibrium at 4th unit of output.

Reason At an output level, 2nd and 4th, the MR and MC is equal.

But the producer is in equilibrium at 4th unit only where MR = MC,
i.e. 8 as per the schedule and MC is rising, afterwards.

2. Explain producer’s equilibrium with the help of a diagram. (Delhi

2007)

Ans. Producer’s equilibrium refers to a situation of profit

maximisation. A producer strikes his equilibrium at that level of
output, where profit is maximised. It is only when (a) MR = MC,
and (b) MC is rising, these two conditions are satisfied, then a
173

producer will reach the point of his equilibrium and maximising his
profit.

In the below figure will be the point of equilibrium as if producer

produces more, its profit will increase. Hence, he will be in
equilibrium only at Q2 level of output.

4 Marks Questions
3. Explain the conditions of producer’s equilibrium with the help of a
numerical example.(Delhi 2013)

Ans. Producer’s equilibrium refers to a situation, where a producer

is producing that level of output, at which its profits are maximum.
In other words, it is a situation of profit maximisation.

Following are the two conditions of producer’s equilibrium:

(i) MR = MC (Marginal Revenue = Marginal Cost)

(ii) MC must be rising at the point of equilibrium or MC curve must

cut MR curve from below.

Following schedule explains the producer’s equilibrium:

174

Marginal Revenue Marginal Cost

Output (Q) (units) (MR in Rs) (MC in Rs)

1 12 15

2 12 12

3 12 10

4 12 9

5 12 8

6 12 7

7 12 8

8 12 9

9 12 10

10 12 12 (Producer equilibrium)

11 12 15

Reason At 2nd level of output MR and MC are equal but at 3rd level
of output MR > MC (12 > 10). Hence, firms will continue
production as its profits are not yet maximised. Producer will be in
equilibrium at 10th level of output.

4. A producer can sell more of a good at the same price. Prepare a

Total Revenue and Marginal Revenue schedule. Take four output
levels.(All India 2010)

Units of Output (Q) W Marginal Revenue Total Revenue

175

Price (MR in Rs) (TR in Rs)

1 12 12 12

2 12 12 24

3 12 12 36

4 12 12 42

5. From the following schedule, find out the level of output, at which
the producer is in equilibrium. Give reason for your answer.(Delhi
2009)

Total Cost
Output (units) Price(Rs) (TC in Rs)

1 24 26

2 24 50

3 24 72

4 24 92

5 24 115

6 24 139

7 24 165

Ans.
176

Margin
(MC
Total
Price Total Profit Marginal in Rs)
Output Revenue
(P) Cost (TC (?) (TR- Revenue (MR in MC
(Q) (units) (TR in Rs)
in Rs) TC) Rs) (P = MR) MC=
(ARxQ)
TCn-
TCn_1

1 24 26 24 -2 24 26

2 24 50 48 –2 24 24

3 24 72 72 0 24 22

4 24 92 96 4 24 20

5 24 115 120 5 24 23

6 24 139 144 5 24 24

7 24 165 168 3 24 26

Producer is in equilibrium at 6th unit of output.

Reason At an output level 5th and 6th unit, the difference between
TR and TC, i.e. profit is maximum, which is equal to 5. But the
producer is in equilibrium at 6th unit only, where MR = MC (24)
and MC is rising, thereafter, i.e. there is no further possibility of
increasing profit after this level of output.

6. From the following table, find out the level of output, at which
the producer is in equilibrium Give reason for your answer.(Delhi
2009)

Output (units) Average Revenue (AR Total Cost (TC in Rs)

177

in Rs.)

1 12 14

2 12 26

3 12 35

4 12 52

5 12 64

6 12 . 70

Ans.

Output Average Revenue Total Cost (TC Total Revenue Profit (?)
(Q)(units) (AR in Rs) in Rs (TR in (ARxQ) TC)

1 12 14 12 -2

2 12 26 24 -2

3 12 35 36 1

4 12 52 48 -4

5 12 64 60 -4

6 12 70 72 2

Producer is in equilibrium at 6th unit of output.

Reason The producer,is at equilibrium, when the difference between

Total Revenue and Total Cost (i.e. profit) is maximum. At the 6th
unit of output, producer gets maximum profit, which is equal to 2
in this case.
178

7. Given below is a cost and revenue schedule of a producer. At

what level of output is the producer in equilibrium. Give reason for
your answer.(All India 2009)

Producer is in equilibrium at 6th unit of output.

Reason At 5th and 6th unit of output the difference between Iota!
Revenue and Total Cost (i.e. profit) is maximum, which is equal to
3 in both the cases. But, producer is at equilibrium at 6th unit only
where MR = MC (= 10), and MC is rising afterwards.

6 Marks Questions
179

8. Explain the conditions of a producer’s equilibrium in terms of

Marginal Cost and Marginal Revenue. Use diagram. (Delhi 2012)

or

What is producer’s equilibrium? Explain Marginal Cost and Marginal

Revenue approach. Use diagram.(Ail India 2011)

Ans. Producer’s equilibrium refers to the state in which a producer

earns his maximum profit or minimise its losses. According to MR-
MC approach, the producer is at equilibrium,, when the Marginal
Revenue (MR) is equal to the Marginal Cost (MC) and Marginal Cost
curve must cut the Marginal Revenue curve from below.

Two conditions under this approach are:

(i) MR = MC

(ii) MC curve should cut the MR curve from below, or MC should be

rising.

MR is the addition to TR from the sale of one more unit of output

and MC is the addition to TC for increasing the production by one
unit. In order to maximise ; .profits, firms compare its MR with its
MC

As long as the addition to revenue is greater than the addition to

cost. It is profitable for a firm to continue producing more units of
output.In the diagram, output is shown on the X-axis and revenue
and cost on the Y-axis.The Marginal Cost (MC) curve is U-shaped
and P ~ MR = AR, is a horizontal line parallel to X-axis.
180

MC = MR at two points Rand K in the diagram, but profits are

maximised at point K, corresponding to O Q level of output.
Between O Q, and O Q levels of output, MR exceeds MC. Therefore,
firm will not stop at point R but will continue to produce to take
advantage of additional profit. Thus, equilibrium will be at point K,
where both the conditions are satisfied.

Situation beyond O Q level:

MR < MC When output level is more than O Q, MR < MC, which

implies that firm is making a loss on its last unit of output. Hence,
in order to maximise profit, a rational producer decreases output
as long as MC > MR. Thus, the firm moves towards producing O Q
units of output.

9. Explain producer’s equilibrium with the help of Marginal Cost and

Marginal Revenue schedule. (Delhi 2011)

Ans.

Marginal Revenue Marginal Cost

Output (units) (MR in Rs) (MC in Rs)
181

1 12 15

2 12 12

3 12 10

4 12 9

5 12 8

6 12 7

7 12 8

8 12 9

9 12 10

10 12 12

‘ 11 12 15

In the above schedule, MR= MC in two situations

(i) When 2 units of output are produced.

(ii) When 10 units of output are produced.

However, while in situation (i), MC is falling, while in situation (ii),

MC is rising. A producer will strike his equilibrium only, when MC is
rising, i.e. at 10 units of output.

Note Producer’s equilibrium refers to the state in which a producer

earns his maximum profit or minimise its losses. According to MR-
MC approach, the producer is at equilibrium,, when the Marginal
Revenue (MR) is equal to the Marginal Cost (MC) and Marginal Cost
curve must cut the Marginal Revenue curve from below.
182

Two conditions under this approach are:

(i) MR = MC

(ii) MC curve should cut the MR curve from below, or MC should be

rising.

MR is the addition to TR from the sale of one more unit of output

and MC is the addition to TC for increasing the production by one
unit. In order to maximise ; .profits, firms compare its MR with its
MC

As long as the addition to revenue is greater than the addition to

cost. It is profitable for a firm to continue producing more units of
output.In the diagram, output is shown on the X-axis and revenue
and cost on the Y-axis.The Marginal Cost (MC) curve is U-shaped
and P ~ MR = AR, is a horizontal line parallel to X-axis.

MC = MR at two points Rand K in the diagram, but profits are

maximised at pointK, corresponding to OQ level of output. Between
OQ, andOQ levels of output, MR exceeds MC. Therefore, firm will
not stop at point R but will continue to produce to take advantage
of additional profit. Thus, equilibrium will be at point K, where
both the conditions are satisfied.
 183

Situation beyond OQ level:

MR < MC When output level is more than OQ, MR < MC, which
implies that firm is making a loss on its last unit of output. Hence,
in order to maximise profit, a rational producer decreases output
as long as MC > MR. Thus, the firm moves towards producing OQ
units of output.

10. From the following schedule, find out the level of output, at
which the producer is at equilibrium, using Marginal Cost
and Marginal Revenue approach. Give reasons for your answer.(An
India 2010)

Price Per Unit (Rs) Output (units) Total Cost (TC in Rs)

8 1 6
 184

7 2 11

6 3 15

5 4 18

4 5 23

Total Revenue Marginal Revenue Marginal Cost

Output Total Cost
Price (TR in Rs) (AR (MR in Rs) (MC in Rs)
(units) (TC in Rs)
(Rs) x Q) (TRn –TRn-1) (TCn-TCn-1)
 185

8 1 6 8 8 –

7 2 11 14 6 5

6 3 15 18 4 4

5 4 18 20 2 3

4 5 23 20 0 5

Ans.

The producer’s equilibrium is at 3 rd unit of output because here,

MR= MC and after this MC is rising.

11. Is a producer at equilibrium under the following situations?

(i) When Marginal Revenue is greater than Marginal Cost.

(ii) When Marginal Revenue is equal to Marginal Cost.

Give reasons for your answer.(Delhi 2010 C)

Ans. (i) No, because when MR>MC at that point, producer will not
get maximum profit as due to law of

variable proportion, if he increases his production level, his cost will

further decrease.

(ii) Yes, a producer will be at equilibrium, where MR= MC and MC

should be rising at this point. He will get maximum profit here.
186

Theory of Producer’s Behaviour and

Supply Important Questions for Class
12 Economics Concept of Supply and
Elasticity of Supply
1. Supply It refers to various quantities of a commodity that the
producers wish to sell at different possible prices of the commodity
at a particular point of time.

2. Quantity Supplied It refers to a specific quantity supplied at a

particular price, during a time period.

3. Individual Supply Supply of a particular commodity by an

individual firm at a given price in the market is termed as
individual supply.

4. Market Supply Quantities of a particular commodity offered for

sale by all the firms at a given price in the market is known as
market supply.

5. Factors Affecting Supply

(i)Own price of a commodity (Px)

(ii)Price of related goods (Pr)

(iii) Number of firms in the industry (N f) .

(iv)Goal of the firm (G)

(v)Price of factors of production (Pf)

(vi)State of technology (T)

187

(vii) Business confidence or expectation (Ex)

(viii) Government policy (relating to taxation and subsidies) (Gp)

6. Supply Schedule It is a table showing a relationship between price

and quantity supplied of a commodity.

7. Individual Supply Schedule It is a table showing different

quantities of a commodity that an individual firm is ready to sell at
different prices.

8. Market Supply Schedule It is a table showing different quantities

of a commodity that all the firms in a market are willing to sell at
different prices of that commodity at a given time.

9. Supply Curve It is a graphical presentation of supply schedule,

showing positive relationship between price and quantity supplied
of a commodity.

10. Individual Supply Curve Graphical presentation of the

relationship between price and individual supply of a commodity is
called individual supply curve

11. Market Supply Curve It is the graphical representation of

market supply schedule. It is a horizontal summation of the
individual supply curves.
188

12. Supply Function Supply function

studies the functional relationship between supply of a commodity
and its various determinants.

It is expressed in the following equation: Sx = F

(Px ,Pr,N f,G,Pf,T,Ex,GP)

13. Individual Supply Function It represents functional relationship

between individual supply and factors affecting it. Sx = F (Px, Pr,
G,Pf,T, Ex,Gp)

14. Law of Supply According to the law, keeping other factors

constant, their exist a positive relation between price of the
commodity and its quantity supplied, i.e. as price increases, supply
also increases and vice-versa.
189

15. Movement Along a Supply Curve or Change in Quantity

Supplied When supply of a commodity changes due to change in
price and other factors are remaining constant. It is called change
in quantity supplied.

16. Extension of Supply It refers to expansion in quantity supplied

in response to increase in own price of the commodity

17. Contraction of Supply It refers to contraction in quantity

supplied in response to decrease in own price the commodity

18. Shift in Supply Curve

or Change in Supply Shift in supply curve shows the situation of
increase or decrease in supply, even own price of the commodity
remains constant due to change in the factors.
190

19. Increase in Supply When supply of a commodity increases due to

factors other than price is known as increase in supply. In this
situation, supply curve shifts rightward

20. Causes for the Increase in Supply

(i)Fall in the price of substitute goods.

(ii)Fall in the price of factors of production.

(iii) Improvements in technology.

(iv)Increase in the number of firms in the market.

(v) Reduction in factor price.

(vi) Decrease in taxation.

21. Decrease in Supply When supply of a commodity decreases due

to factors other than price is called decrease in supply. In this
situation, supply curve shifts leftward.
191

22. Causes for the Decrease in Supply

(i)Rise in the price of substitute goods.

(ii)Rise in the price of factors of production.

(iii)Outdated technology.

(iv)Decrease in the number of firms in the market.

(v)Increase in factor price.

(vi)Increase in taxation.

23. Price Elasticity of Supply It is the responsiveness of quantity

supplied due to change in price of own commodity. It is calculated
as the percentage change in quantity supplied caused by a given
percentage change in price of the commodity,
192

24. Percentage Method of Measuring Price Elasticity of

Supply According to this method, Elasticity of Supply is the ratio
between ‘percentage change in quantity supplied and‘percentage in
price of the commodity

25. Perfectly Inelastic Supply (Es = 0) When quantity supplied does

not change at all in response to change in price of the commodity,
its supply said to be perfectly inelastic
193

26. Less than Unit Elastic (Es < 1) When percentage change in
quantity supplied is less than the percentage change in price,
supply is said to be less than unit elastic.

27. Unit Elastic Supply (Es = 1) Supply of a commodity is said to be

unit elastic, when percentage change in quantity supplied equal to
percentage change in price.

28. More than Unit Elastic Supply (Es > 1) When percentage change
in quantity supplied is more than percentage change in price,
supply is said to be more than unit elastic.
194

29

30. Factors Affecting Elasticity of Supply

(i)Nature of inputs used

(ii)Risk taking by the producer

(iii)Nature of commodity

(iv)Time factor

(v) Technique of production

(vi) Cost of production

195

31. Geometric Method of Measuring Price Elasticity of Supply Under

this method, we can conceive following three possible situations of
Elasticity of Supply.

(i)Es = 1, when a straight line, positively sloped, supply curve starts

from the origin ‘O’.

(ii) Es > 1, when a straight line positively sloped, supply curve starts
from the Y-axis.

(iii) Es < 1, when a straight line positively sloped, supply curve starts
from the X-axis.

Previous Years Examination Questions

1 Mark Questions
1. What is market supply of product? (All India 2014)

or

Give the meaning of market supply. (All India 2013)

Ans. Quantities of a particular commodity offered for sale by all the

firms at a given price in the market is known as market supply.

2. Give one reason for ‘decrease’ in supply of a commodity. (AH

India 2013)

Ans. Rise in the price of substitute goods.

196

3. Give one reason for an ‘increase’ in supply of a commodity. (All

India 2013)

Ans. Improvement in technology leading to a fall in the cost of

production.

4. What is meant by increase in supply? (Delhi 2011)

Ans. When supply of a commodity increases due to factors other

than price is called increase in supply. In this situation supply curve
shifts rightward.

5. What is meant by decrease in supply? (All India 2011)

Ans. When supply of a commodity decreases due to factors other

than price is called decrease in supply. In this situation supply curve
shifts leftward.

6. Define supply. (All India 2009; Delhi 2009 C)

or

Give meaning of supply. (Delhi 2006 C)

Ans. Supply refers to various quantities of a commodity that the

producers willing to sell at different possible prices of the
commodity at a particular point of time.

7. What causes a downward movement along a supply curve? (Delhi

2009,2008 C)

Ans. Downward movement along a supply curve happens when

own price of the commodity falls.
197

8. Give one reason for a rightward shift in supply curve. (All India
2009)

Ans. Rightward shift in supply curve occurs due to reduction in

factor prices, causing a fall in cost of production.

9. When is the supply of a commodity called elastic? (Delhi 2008)

Ans. When percentage change in quantity supplied is more than

percentage change in price, it is called elastic or more than unit
elastic supply.

10. What does an upward movement along a supply curve indicate?

(All India 2008)

Ans. An upward movement along a supply curve indicates rise in

the price of the commodity.

11. When is the supply of a commodity said to be perfectly inelastic?

(All India 2008)

Ans. Perfectly inelastic supply is a situation when quantity supplied

remains constant, irrespective of change in price.

12. What is meant by inelastic supply of a commodity? (All India

2008)

Ans. When percentage change in quantity supplied is less than

percentage change in price, it is called inelastic or less than unit
elastic supply.

13. What is meant by perfectly elastic supply of a commodity?

(Delhi 2008 C)
198

Ans. Supply of a commodity is said to be perfectly elastic, when its

quantity supplied expands or contracts to any extent without any
change or with very little change in price.

14. Price Elasticity of Supply of a good is 0.8. Is the supply elastic or

inelastic? Why?

(All India 2006)

Ans. The supply is inelastic because Price Elasticity of Supply is less

than one.

3 Marks Questions
15. Explain how technological progress is a determinant of supply of
a good by a firm.

(All India 2014) or

Explain the effect of technological progress on supply of a

commodity .(Delhi 2009 C, 2008; All India 2008)

Ans. Technological improvement tends to lower the Marginal Cost

and Average Costs of production because better technology
facilitates higher output with the same inputs. Accordingly,
producers are willing to supply more at the existing price.

As a result profit of producer increases, and supply curve will shift

to the right from 55 to 5151 and quantity increases from O Q to
O Qv with same level of price.
199

16. Explain how input prices are a determinant of supply of a good

by a firm. (All India 2014)

Ans. In case of increase in input price, Marginal Cost tends to rise.

Accordingly, producers will supply less of the commodity at its
existing price. This implies a backward shift in supply curve or
decrease in supply

17. A firm’s revenue rises from ? 400 to ? 500 when the price of
its product rises from ? 20 to ? 25 per unit. Calculate the price
elasticity of supply.(Delhi 2013)
200

18. The Price Elasticity of Supply of a good is 0.8. Its price rises by
50%. Calculate the percentage increase in its supply.(Delhi 2013)

Ans.

Percentage change in quantity supplied = 0.8 x 50

Percentage increase in supply = 40%

19. The Price Elasticity of Supply of a commodity is 2.0. A firm

supplies 200 units of it at a price of Rs 8 per unit. At what price
will it supply 250 units. (All India 2013)
201

20.A 15% rise in the price of a commodity raises its supply from
300 units to 345 units. Calculate its Price Elasticity of Supply.(All
India 2013)

Ans.

21.When the price of a good rises from ? 20 per unit to ? 30 per

unit, the revenue of the firm producing this good rises from ? 100
to ? 300. Calculate Price Elasticity of Supply. (All India 2013)
202

22.A firm supplies 10 units of a good at a price of 15 per unit.

Price Elasticity of Supply is 1.25. What quantity will the firm
supply at a price of ? 7 per unit.(All India 2013)

23. At a price of X 5 per unit of a commodity A, Total Revenue is ?

800. When its price rises by 20%, Total Revenue increases by ? 400.
Calculate its Price Elasticity of Supply. (Delhi 2010)
203

24. Price of commodity A is Rs 10 per unit and Total Revenue at

this price is Rs 1600. When its price rises by 20%, Total Revenue
increases by 1 Calculate its Price.(Delhi 2010)
204

25. Total Revenue at a price of Rs 4 per unit of a commodity is ?Rs

480. Total Revenue increases by Rs 240 when its price rises by
25%. Calculate its Price Elasticity of Supply (Delhi 2010)

26. Total Revenue is Rs 400 when the price of the commodity is Rs

2 per unit. When price rises to Rs 3 per unit, the quantity supplied
is 300 units. Calculate the Price Elasticity Of (All India 2010)

27. Explain any two causes of decrease in supply of a

commodity.(Delhi 2010 C)

Ans. Two causes of decrease in supply pf a commodity are:

205

(i) Increase in factors price Increase in price of factors of

production will increase the cost of production due to which profit
decreases. In this situation, supplier will stop producing this
particular commodity and starts producing other commodity
whose factor inputs are available at lower price. As a result, supply
of this commodity decreases.

(ii) Increase in taxation Increase in taxes by government will also

increase the cost of production due to which profit decreases. In
this situation, supplier will stop producing this particular
commodity and starts producing other commodity on which
imposed taxes are not high. As a result, supply of this commodity
decreases.

28. What is increase in supply? State any two factors that can cause
it. (All India 2010 c)

Ans.Increase in supply When supply of a commodity increases due

to factors other than price is called increase in supply. In this
situation supply curve shifts rightward.

Two factors that causes increase in supply are:

(i) Reduction in factor price It will decrease the cost of production

due to which profit increases. In this situation, the supplier will
increase the supply of the commodity.

(ii) Decrease in taxation Decrease in taxes by government will also

decrease the cost of production due to which profit increases. In
this situation, the supplier will increase the supply of the
commodity.
206

29. Explain the effect of fall in prices of inputs on the supply of a

good.(All India 2009,2008)

Ans. In case of fall in input price, Marginal Cost will decline.

Accordingly, producer will supply more of the commodity at its
existing price. This implies a forward shift in supply curve or
increase in supply, at same level of price.

30. Explain the

meaning of increase in supply and increase in quantity supplied
with the help of a schedule. (Delhi 2009)

Ans. When supply of a commodity increases due to factors other

than price is called increase in supply. In this situation supply curve
shifts rightward.

Increase in quantity supplied When supply of a commodity

increases due to increase in price of a commodity and other factors
are remaining constant, it is called increase in quantity supplied. In
this situation, supply curve moves upward.
207

31. Commodities X and Y have equal Price Elasticity of Supply. The

supply of X rises from 400 units to 500 units due to a 20% rise in
its price. Calculate the percentage fall in supply of Y if its price falls
by 8%. (Delhi 2009)

32.A firm supplies 200 units of a good at a price of Rs 5 per unit.

When price changes it supplies 100 units less. Price Elasticity of
Supply is 2.5. Calculate price after change. (All India 2009)
208

33. Explain the effect of rise in input prices on supply of a

commodity.(Delhi 2009 c, 2008)

Ans. In case of increase in output price, Marginal Cost tends to rise.

Accordingly, producers will supply less of the commodity at its
existing price. This implies a backward shift in supply curve or
decrease in supply, quantity falls from O Q to O Qt with same
price level.

34. Explain the geometric method of measuring Price Elasticity of

Supply. (Delhi 2008 C)

Ans. Geometrically, Elasticity of Supply depends on the origin of

the supply curve. Assuming the supply curve to be a straight line
and positively sloped.

We can have three possible situations of elasticity of supply as in

the following diagrams:
209

(ii) Es > 1, when a straight line, positively sloped supply curve starts
from Y-axis.

(iii) Es < 1, when a straight line, positively sloped supply curve starts
from X-axis.

35.A 15% rise in the price of a

commodity results in a rise in its supply from 600 units to 735
units. Calculate its Elasticity of Supply. (All India 2008)
210

36. State three causes of decrease in supply.(All India 2007)

or

State any three causes of a leftward shift of supply curve.(All India

2006)

Ans. Three causes of decrease in supply are:

(i) Increase in factor prices, causing increase in cost of production.

(ii) Decrease in number of firms in the industry.

(iii) Increase in price of a competing product or substitute product.

37. Draw straight line supply curves with Price Elasticity of Supply
(i) Equal to one

(ii)Less than one (iii) More than one (All India 2007)

Ans. Geometrically, Elasticity of Supply depends on the origin of

the supply curve. Assuming the supply curve to be a straight line
and positively sloped.

We can have three possible situations of elasticity of supply as in

the following diagrams:
211

(ii) Es > 1, when a straight line, positively sloped supply curve starts
from Y-axis.

(iii) Es < 1, when a straight line, positively sloped supply curve starts
from X-axis.

38. State three causes of increase in

supply. (Delhi 2007 c)

or
212

State any three causes of a rightward shift of supply.(Delhi 2006)

Ans. Three causes of increase in supply are:

(i) Improvement in technology leading to a fall in cost of

production.

(ii) Reduction in factor prices, causing a fall in cost of production.

(iii)Decrease in the price of a competing product or substitute.

4 Marks Questions
39. Explain how changes in price of other products influence the
supply of a given product. (Dalhl 2012; All India 2009)

Ans. As resources have alternative uses, the quantity supplied of a

commodity depends not only on its price, but also on the price of
other commodities. Increase in the price of other goods makes them
more profitable in comparison to the given commodity. As a result,
the firm shifts its limited resources from production of the given
commodity to production of other goods, as a result supply of
concerned commodity falls.

For example, increase in the price of wheat will induce the farmer
to use land for cultivation of wheat in place of rice.
213

40. Explain
how changes in prices of inputs influence the supply of a
product.(All India 2012)

Ans. In case of fall in input price, Marginal Cost will decline.

Accordingly, producer will supply more of the commodity at its
existing price. This implies a forward shift in supply curve or
increase in supply, at same level of price.

In case of increase in output price, Marginal Cost tends to rise.

Accordingly, producers will supply less of the commodity at its
existing price. This implies a backward shift in supply curve or
decrease in supply, quantity falls from OQ to OQt with same price
level.
214

41. Define market supply.

What is the effect on the supply of a good, when government
imposes a tax on the production of that good? Explain. (Delhi 2011;
All India 2009,2008)

Ans. Quantities of a particular commodity offered for sale by all the

firms at a given price in the market is known as market supply.

If government imposes heavy taxes on the production of a

particular commodity, the cost of production will increase and
price remaining constant, it will result in reduction in profits. In
this situation, the producer will shift his resources towards
producing those commodities, on which government has imposed
less taxes. As a result, supply of a particular commodity decreases.

42. What is a supply schedule?

What is the effect on the supply of a good, when government gives
a subsidy on the production of that good? Explain. (Delhi 2011)

Ans. (i) It is a table showing a relationship between price and

quantity supplied of a commodity.
215

(ii) If government gives subsidy on the production of a particular

commodity, the producer will earn higher revenues due to fall in
cost, price remaining constant. This results in higher profits. In
this situation, supply of a particular commodity increases.

43. The Price Elasticity of

Supply of commodity X and Y are equal. The price of X falls from ?
10 to ? 8 per unit and its quantity supplied falls by 16%. The price
of Y rises by 10%. Calculate the percentage increase in its supply.
(Delhi 2009)

44. The Price Elasticity of Supply of commodity Y is half the Price

Elasticity of Supply of

commodity X. 16% rise in the price X result in a 40% rise in its

supply. If the price of
216

Y falls by 8%, calculate the percentage fall in its Supply. (All India
2009)

45.A producer supplies 200 units of a good at Rs 10 per unit.

Price Elasticity of Supply is t How many units will the producer
supply at Rs 11 per unit? (Delhi 2009 c)

46. Draw supply curves with Price Elasticity of Supply throughout

equal to (i) 0 (ii) 1 (iii)Infinity (iv) Less than 1. (All India 2008)
217

Ans. (i) Es=0

Es = 0, when supply does not respond to change in price of the

commodity.

(ii) Es =1,

(iv)Es < 1,

Es < 1, when a straight line, positively sloped supply curve starts

from X-axis.
218

47. Explain any two factors that causes a

shift of supply curve. (All India 2008)

Ans. Two factors that causes a shift of supply curve are:

(i) Change in technology Technological improvement tends to lower

the Marginal Cost and Average Cost of production. As, better
technology facilitates higher output with the same inputs.
Accordingly, producers are willing to supply more at the existing
price. This implies a rightward shift in supply curve.

(ii)Change in input price Input price may increase or decrease. In

case of increase in input price, Marginal Cost and Average Cost
tend to rise. Accordingly, producers will supply less of the
commodity at its existing price. This implies a backward shift in
supply curve and vice-versa.

48. Distinguish between change in supply and change in quantity

supplied. Which of

these causes a shift of supply curve?(All India 2008)

Ans.Difference between change in supply and change in quantity

supplied
219

Change in supply causes a shift of supply curve, i.e. due to change in

other factors keeping price constant

49. Explain briefly the following determinants of supply

(i) Increase in the prices of inputs (ii) Decrease in tax on

the product

(iii)Technological change (Delhi 2008)

Ans.(i)Increase in the prices of inputs :

In case of increase in output price, Marginal Cost tends to rise.

Accordingly, producers will supply less of the commodity at its
existing price. This implies a backward shift in supply curve or
decrease in supply, quantity falls from OQ to OQt with same price
level.
220

(ii) Decrease in tax on the product: If government reduces taxes on

the production of a particular commodity, the cost of production
decreases. This results in higher profits. As a result, supply of a
particular commodity increases and supply curve shifts rightward.

(iii) Technological change:

Technological improvement tends to lower the Marginal Cost and

Average Costs of production because better technology facilitates
higher output with the same inputs. Accordingly, producers are
willing to supply more at the existing price.

As a result profit of producer increases, and supply curve will shift

to the right from 55 to 5151 and quantity increases from O Q to
O Qv with same level of price.
221

50. The Price Elasticity of Supply of a commodity is 2. When its

price falls from Rs 10 to Rs 8 per unit, its quantity supplied falls by
500 units. Calculate the quantity supplied at the reduced
price(Delhi 2006)

51. When the price of a commodity rises from Rs 10 to Rs 11 per

unit, its quantity supplied rises by 100 units. Its Price Elasticity of
Supply is 2. Calculate its quantity supplied at the increased
price. (All India 2006)
222

52.A firm supplies 500 units of a good at a price of Rs 5 per unit.

The Price Elasticity of Supply of a good is 2. At what price will the
firm supply 700 units? (All India 2006)

53.Distinguish between change in Supply and change in quantity

supplied. State two factors responsible for change in supply? (All
India 2006)

Ans. Two factors that causes a shift of supply curve are:

(i) Change in technology Technological improvement tends to lower

the Marginal Cost and Average Cost of production. As, better
technology facilitates higher output with the same inputs.
Accordingly, producers are willing to supply more at the existing
price. This implies a rightward shift in supply curve.

(ii)Change in input price Input price may increase or decrease. In

case of increase in input price, Marginal Cost and Average Cost
tend to rise. Accordingly, producers will supply less of the
commodity at its existing price. This implies a backward shift in
supply curve and vice-versa.
223

Difference between change in supply and change in quantity

supplied

Change in supply causes a shift of supply curve, i.e. due to change in

other factors keeping price constant

Economics Forms of Market Important

Questions for Class 12
1. Concept of Market It may be defined as an arrangement of
establishing effectivey relationship between buyers and sellers of the
commodity.

Different components of market are:

(i) Commodity to be bought and sold.
(ii) Buyers and sellers of the commodity.
224

(iii) Area or place where buyers and sellers meet.

(iv) Close contact between buyers and sellers.

2. Forms of Market There are two main forms of market:

(i) Perfect competition
(ii) Imperfect competition
Imperfect competition includes:
(a) Monopoly
(b) Monopolistic competition
(c) Oligopoly

3. Perfect Competition It is a form of market in which there are

very large number of buyers and sellers of a homogeneous product.
Price is determined by the market forces of the supply and
demand. An individual firm is a price taker.

Different features of perfect competition are:

(i) Very large number of buyers and sellers.
(ii) Homogeneous product/identical products.
(iii) Free entry or exit of firms.
(iv) Perfect knowledge.
(v) Perfect mobility of factors of production.
(vi) Absence of transportation cost.
(vii) Firms are price taker and industry is price maker.

4. Imperfect Competition It is a form of market structure showing

some but not all features of competitive market. It includes three
different types of market:

(i) Monopoly It is a form of market in which there is a single seller

of a commodity and having a complete control over its price.

Features of Monopoly
225

• One seller and large number of buyers

• Restrictions on the entry of new firms
• No close substitutes
• Full control over price
• Price discrimination
• Firm is price maker

Reasons for Emergence of Monopoly Market

• Granting government licensing/ government control

• Product security by patent rights
• Natural reasons of occurance
• Cost advantages reasons of economics of scale

(ii) Monopolistic Competition It is a form of the market in which

there are large number of sellers, selling differentiated product.
Each firm has a partial control over price. Features of Monopolistic
Competition

• Large number of buyers and sellers

• Product differentiation
• Free entry or exit of firm
• Imperfect knowledge
• High selling cost
• High transporation cost

(iii) Oligopoly It is a form of market in which there are few large

firms which sells both homogeneous as well as differentiated
products. Two important forms of oligopoly are collusive oligopoly
and non-collusive oligopoly.

Oligopoly is further classified into:

226

• Collusive oligopoly It is a form of market in which there are

few firms in the market and all decide to avoid competition
through a formal agreement known as cartils i.e. they decide
to cooperate rather to compete.
• Non-collusive oligopoly It is a form of market in which there
are few firms in the market and each firm pursues its own
price and output policy independent of the rival firms. Hence,
their exist cut throat competition among the firms and very
high degree of inter-dependence.

Features of Oligopoly

• A few firms, large in size

• Large number of buyers
• Entry barriers
• Formation of cartels
• Non-price competition
• Price rigidity
• Indetermined demand curve

Previous Years Examination Questions

1 Mark Questions
1. What is imperfect oligopoly? (All India 2014)
Ans. Imperfect oligopoly is that market situation in which all firms
produce differentiated but close substitutes e.g. Automobile industry.

2. What is perfect oligopoly? (Delhi 2014)

Ans. Perfect oligopoly refers to a market where all the firms are
producing homogeneous product.
227

3. State the main features of a perfectly competitive market.

(Compartment 2014)
Ans. Features of perfect competition are as follows:
(a) Very large number of buyers and sellers, (b) Homogeneous
product
(c) Perfect knowledge about market. (d) Freedom of entry and exit.

4. What is meant by collusive oligopoly? (Compartment 2014)

Ans. Under oligopoly, when two or more firms decide to cooperate
with each other in price and output decision is known as collusive
oligopoly.

5. State whether the following statement is true or false. ‘A

monopolist can sell any quantity at the price, he likes’. Give
reason. (hots; Delhi 2013)
Ans. No, the statement is not correct, even though a monopolist
has full control over price, however in order to sell greater units it
must reduce its price of additional units.

6. Which is a price taker firm? (Delhi 2012; All India 2012)

Ans. A perfectly competitive firm is a price taker firm which takes
the price from the market which is determined by the market
forces of demand and supply.

7. When is a firm called price taker? (Delhi 2011)

Ans. The firm is called price taker when it has to accept the price
that are determined by the market forces of demand and supply
and hence cannot decide the price.

8. When is a firm called price maker? (All India 2011)

Ans. The firm is called price maker when the price of the
commodity is determined by the firm itself.
228

9. Which market form has the least number of producers? (All India
2011)
or
Under which form of market, is a firm price maker? (Delhi
2008C)
or
In which market there is only one firm? (All India 2006)
Ans. Monopoly, where, there is only a single seller in the market.

10. Define oligopoly. (Delhi 2011c, 2010)

Ans. It is a form of market in which there are few large firms that
sell both homogeneous as well as differentiated products.

11. Name the characteristic which makes monopolistic competition

different from perfect competition. (Delhi 2010)
Ans. In perfect competition, there is homogeneous product and in
monopolistic competition, there is a product differentiation.

12. State one feature of oligopoly. (Delhi 2010)

Ans. Large number of buyers and few large sellers is one of the
main features of oligopoly.

13. In which market form a firm cannot influence the price of the
product? (All India 2010)
or
In which market, firm is a price taker? (All India 2007)
Ans. In perfect competition, firms cannot influence price of the
product because of their large numbers.

14. Define monopoly. (All India 2010; Delhi 2009)

Ans. It is the form of the market in which there is single sellerof a
commodity with complete control over its price.
229

15. What can you say about the number of buyers and sellers under
monopolistic Competition? (All India 2010)
Ans. There are large number of sellers and large number of buyers
under monopolistic competition.

16. Give meaning of monopolistic competition. (All India 2010)

Ans. Monopolistic competition refers to that form of market in
which there is a large number of sellers, selling differentiated
product but closely related goods.

17. What is the effect on price when a perfectly competitive firm

tries to sell more? (Delhi 2009C)
Ans. It will remain constant because firms do not have any control
over prices, thus it can sell any quantity at a given price.

18. What is the effect on price when a monopoly firm tries to sell
more? (Delhi 2009c)
Ans. If a monopolist tries to sell more, he must lower the price of
every additional unit sold.

3 Marks Questions
19. Why is the number of firms small in oligopoly? Explain. (All
India 2014)
or
Explain why there are only a few firms in an oligopoly market? (All
India 2011; 2010)
Ans. Oligopoly is a form of market in which there are few firms.
However, each firm is so big that it controls a significant segment
of the market. It is so significant that the price and output policy
of one firm has a direct bearing on the price and output of the
rival firms in the market. That is why, it is not possible to draw
any unique demand curve for an oligopoly firm.
230

Often the oligopoly firms tend to form trusts and cartels with a
view to avoid price competition and earn monopoly profits. Only a
small number of firm can form trusts and cartels to earn
monopoly profits.

20. Why are the firms said to be interdependent in an oligopoly

market? Explain. (Delhi 2014)
or
Explain why firms are mutually interdependent in an oligopoly
market? (Delhi 2012,2010C)
Ans. Under oligopoly, there is a high degree of interdependence
between the firms. Price and output policy of one firm has a
significant impact on the price and output policy of the rival firms
in the market as there are only few firms, which are large in size.
When one firm lowers its price, the rival firms may also lower the
price. And, when one firm raises the price, the rival firms may
take its decision accordingly.
Note While taking an action on price or output, a firm must take
into account the possible reaction of the rival firms in the market.

21. Under what market condition does Average Revenue always

equal Marginal Revenue? Explain. (Delhi 2014)
Ans Under perfect competition Average Revenue i.e. price is equal
to Marginal Revenue as under this form of market there are very
large number of sellers who sells homogeneous product hence
cannot influence the market price through its decisions as a result
industry is price maker and each individual firms are price takers,
which ramins constant.

22. Explain the implications of large number of buyers and sellers in

a perfectly competitive market. (Foreign 2014; Delhi
2012; All India 2011)
or
231

Explain ‘large number of buyers and sellers’ features of

perfectly competitive market. (Delhi 2013)
Ans. A perfectly competitive market is dominated by a very large
number of buyers and sellers of a commodity which means that
there is no such buyer or seller in the market whose purchase or
sale is so large as to impact the total sale or purchase in the
market. Each buyer/seller has only a fractional share in the market
demand/market supply.
Since, price is determined by the market forces of demand and
supply, no individual buyer or seller has any control on it. Each
buyer/seller has to accept the price as it is in the market.

23. Explain ‘freedom of entry and exit to firms in industry’ feature

of monopolistic competition. (Delhi 2013)
Ans. Firms are free to enter the industry or leave the industry,
however new firms have no absolute freedom of entry into industry.
Products of some firms may be legally patented. New firms cannot
produce those products, e.g. no rival firm can produce or sell a
patented item like Woodland shoes. In the same way a firm may
leave the industry if it incur losses.

24. Why can a firm not earn abnormal profits under perfect
competition in the long-run? Explain. (hots All India 2013)
or
Explain the implications of freedom of entry and exit to the firms
under perfect competition. (Delhi 2011,2010)
Ans.There is freedom of entry and exit under perfect competition.
In situations of extra-normal profits, new firms will be induced tb
join the industry. This increases market supply and lowers market
price to finally wipe out extra-normal profits.
In situations of extra-normal losses, marginal firms will quit the
industry, lowering market supply and raising market price to
232

finally wipe out extra-normal losses. So, firm cannot earn

abnormal profit under perfect competition in the long-run.

25. Why is the demand curve of a firm under monopolistic

competition more elastic than under monopoly? Explain. (hots;
All India 2013)
Ans. Demand curve under monopolistic competition are similar to
monopoly. But the main difference between monopoly and
monopolistic competition is that under monopolistic competition,
demand curve is more elastic because the seller has many rivals
producing close substitutes in the market, hence consumer can
easily substitute away from the good which has became expensive.

26. Explain the implications of perfect knowledge about market

under perfect competition. (Delhi 2011)
Ans. Perfect knowledge means that both buyers and sellers are fully
informed about the market conditions like price etc. Therefore, no
firm is in a position to charge a different price and no buyer will
pay a higher price. As a result uniform price prevails in the market.
In case of perfect competition, buyers and sellers have perfect
knowledge of the market. In other forms of the market, there is
imperfect knowledge of the market.

27. Explain the implications of the feature homogeneous products in

perfectly competitive market. (All India 2011; Delhi 2010)
Ans. Homogeneous products means the products which are identical
in quality, shape, size and colour. So, no producer is in a position to
charge a different price of the product it produces. A uniform price
prevails in the market. In a perfectly competitive market,
commodity must be homogeneous (identical). Thus, the buyers find
no reason to prefer the product of one seller to the product of
another.
233

28. Why is a firm under perfect competition a price taker and

under monopolist competition a price maker? Explain briefly. (Delhi
2011c, 2009)
Ans. Under perfect competition, there are very large number of
firms producing homogeneous commodity. An individual firm in
such a market cannot change price of the commodity. Price is
determined by the market forces of demand and supply. All the
firms in the industry sell their output at the given price. It is
therefore said that a firm under perfect competition is a price
taker.
A monopolist is a price maker because he is a single seller of the
product in the market. So, there is no competition. There are no
close substitutes of the monopoly product. So, there is no fear that
buyers would shift from one product to the other to any significant
extent. There are number of legal, technical or natural barriers to
the entry of new firms. So, that there is no increase in the market
supply.

29. Giving reasons, distinguish between the behaviour of demand

curves of firms under perfect competition and monopolistic
competition. (All India 2010)
Ans. (i) Demand curve of the firm under perfect competition:
234

Demand curve is perfectly elastic. It means that a firho can sell any
amount Of the commodity at the prevailing price. Even a fractional
rise in price would wipe out entire demand for the firm’s product.
Firm’s demand curve is indicated by a horizontal straight line
parallel to X-axis.
This shows that the firm has to accept the price as determined by
the market forces of supply and demand; it can sell whatever
amount it wishes to sell at this price.
(ii) Demand curve of the firm under monopolistic competition :

Demand curve is more elastic. Under monopolistic competition, the

firm faces a negatively slope demand curve. It means that a large
quantity of the commodity can be sold by decreasing its price. But
demand curve here is more elastic than the demand curve faced
by monopoly firm. It is because of availability of close substitutes in
the market.

30. Explain the features of perfect competition. (All India 2009)

or
State three features of perfect competition. (Delhi 2008,2008C,
2006)
Ans. Features of perfect competition are as follows: (Any three)
(i) Very large number of buyers and sellers There are very large
number of buyers and sellers are present in the market as a result
of which size of each economic agent is so small as compared to the
market that they cannot influence the price through their
235

individual actions.
(ii) Homogeneous products These are the products which are
identical in quality, shape, size and colour. So, no producer is in a
position to charge a different price of the product it produces. A
uniform price prevails in the market. In a perfectly competitive
market, commodity must be homogeneous (identical). Thus, the
buyers find no reason to prefer the product of one seller to the
product of another.
(iii) Freedom of entry and exit Firms under this form of market are
free to leave the industry if they are suffering from loss, on the
other hand profits could attracts new firms.
(iv) Perfect knowledge Each economic agent have a perfect
knowledge about the market conditions say the prevailing prices in
the market etc.

31. State three features of monopoly. (Delhi 2008)

Ans. Three features of monopoly are as follows:
(i) Single seller and large number of buyers Under monopoly, there
is a single producer of a commodity. He may be alone or there may
be a group of partners or joint stock company or a state. However,
there is a large number of buyers of the product.
(ii) Restrictions on the entry of new firms Under monopoly, there
are some restrictions on the entry of new firms into the monopoly
industry. Generally, there are patent rights or exclusive control
over a technique or on raw material.
(iii) No close substitutes A monopoly firm produces a commodity
that has no close substitutes. For example, There is no close
substitute of Microsoft, they are the leaders of operating system.

32. State three features of monopolistic competition. (Delhi 2008;

All India 2006)
Ans. Features of monopolistic competition are as
follows: ‘
236

(i) Large number of buyers and sellers Under monopolistic

competition, there are large number of buyers and sellers. Each
firm has a limited share of the market.
(ii) Product differentiation It is a distinct feature of^monopolistic
competition. A product is often differentiated by way of trade
marks and brand names quality, quantity, size etc. The
differentiated products are close substitutes of each other, like
Colgate and Close up toothpaste. Because of product differentiation,
each firm has a partial control over the price however cannot
determine the price.
(iii) Selling cost Each firm has to incur selling costs (expenditure on
advertisement, etc) to promote its sales. This is because there is a
large number of close substitutes in the
market. (1 x3 =3)

33. Explain differentiated products characteristic of monopolistic

competition.(Delhi 2006C)
Ans. It is a distinct feature of monopolistic competition, it means a
product is differentiated by trade mark, brand name, size, shape,
etc. It is usually done to attract the buyers, e.g. toothpastes of two
different companies i.e. Colgate and Pepsodent. This gives the
monopolistic producers some power to influence the prices. Also
they produces an excess capacity, as each brand has certain fixed
consumer as well as excess capacity help firm to meet any
unforseen circumstances.

4 Marks Questions
34. Explain two points of distinction between monopoly and
monopolistic competition. (All India 2009)
Ans. Difference between monopoly and monopolistic competition
237

Basis Monopoly Monopolistic competition

There is a large number of buyers

Number of Under this market, there is a
and sellers. Also, the size of each
sellers and single seller of a commodity and
firm is small. Each firm has a
buyers large number of buyers.
limited share of the market.
238

It sells products which are

Nature of It sells a product which has no
differentiated hence close
the product close substitutes.
substitutes of each other.

Free and Restriction on entry and exit of Free dom of entry and exit of
exit firms firms
239

Selling cost Very low selling cost Very high selling cost

6 Marks Questions
35. Distinguish between collusive and non-collusive oligopoly. Explain
how the oligopoly firms are interdependent in taking price and
output decisions? (Delhi 2011)

Ans.(1) Difference between collusive and non-collusive oligopoly

Basis Collusive oligopoly Non-collusive oligopoly

240

Under this form, firms might In this form of oligopoly, firms do

Meaning decide to collude together and not collude but compete with each
not to compete with each other. other.

Under collusive oligopoly, the

Firms Under non-collusive oligopoly,
firms would behave as a single
behave the firms behave Independently.
monopoly
241

This aims at maximising its own

This aims at maximising their profits and decides how much
Aim collective profits rather than quantify to be produced assuming
their individual profit that the other firms would not
change their quantity supplied.

(ii)Firms are interdependent in an oligopoly market

Under oligopoly, there is a high degree of interdependence between

the firms. Price and output policy of one firm has a significant
impact on the price and output policy of the rival firms in the
market as there are only few firms, which are large in size. When
one firm lowers its price, the rival firms may also lower the price.
And, when one firm raises the price, the rival firms may take its
decision accordingly.

Note While taking an action on price or output, a firm must take

into account the possible reaction of the rival firms in the market.

36. Distinguish between collusive and non-collusive oligopoly. Explain

the following features of oligopoly.

(i) Few firms

(ii) Non-price competition (All India 2011)

242

Ans. Difference between collusive and non-collusive oligopoly

Basis Collusive oligopoly Non-collusive oligopoly

Under this form, firms might In this form of oligopoly,

Meaning decide to collude together and firms do not collude but
not to compete with each other. compete with each other.
243

Under collusive oligopoly, the

Firms Under non-collusive oligopoly,
firms would behave as a single
behave the firms behave Independently.
monopoly

This aims at maximising its own

This aims at maximising their profits and decides how much
Aim collective profits rather than quantify to be produced assuming
their individual profit that the other firms would not
change their quantity supplied.

Features of oligopoly
are:
(2)

(i) Few firms In oligopoly form of market, there are few firms
dominating the market for a commodity and each seller has a
significant share in the market;
244

(ii) Non-price competition Under oligopoly, firms tend to avoid

price competition because of the fear of price war.
For example, In India both Coke and Pepsi drinks sell at the same
price. However, in order to enhance its share of the market, each
firm tries to resort to non-price competition.

37. Explain the implications of the following features of a perfectly

competitive market.
(i) Perfect knowledge about the market of the good.
(ii) Perfect knowledge about the inputs used in the production. (All
India 2010)
Ans. (i) Perfect knowledge about the market
Perfect knowledge means that both buyers and sellers are fully
informed about the market conditions like price etc. Therefore, no
firm is in a position to charge a different price and no buyer will
pay a higher price. As a result uniform price prevails in the market.
In case of perfect competition, buyers and sellers have perfect
knowledge of the market. In other forms of the market, there is
imperfect knowledge of the market.

(ii) Perfect knowledge about the inputs used in the production Due
to homogeneous product or identical in every respect like quality,
size, etc. The products are perfect substitutes of one another. As a
result, both buyers and sellers have perfect knowledge about the
inputs used in the production.

38. Explain the implications of the following features of oligopoly

market.

(i) Few firms (ii) Barriers to the entry of

firms. (All India 2010)

Ans. (1) Few firms

245

Oligopoly is a form of market in which there are few firms.

However, each firm is so big that it controls a significant segment
of the market. It is so significant that the price and output policy
of one firm has a direct bearing on the price and output of the
rival firms in the market. That is why, it is not possible to draw
any unique demand curve for an oligopoly firm.

Often the oligopoly firms tend to form trusts and cartels with a
view to avoid price competition and earn monopoly profits. Only a
small number of firm can form trusts and cartels to earn
monopoly profits.

(ii) Barriers to the entry of firms There are various barriers or

restrictions to the entry of new firms. These barriers are almost
similar to those under monopoly. Entry of the new firms is
extremely difficult, if, not impossible. These barriers can be natural
like requirements of huge capital or operating at minimum average
cost of artificial barriers like patent rights which prevents entry of
new firms in the industry.

39. Explain the implications of the following features of perfectly

competitive market.

(i) Large number of buyers (ii)Large number of

sellers (Delhi 2010c)

Ans, (i) Large number of buyers In perfectly competitive market,

large number of buyers are present, due to which each buyer
buying only a small fraction of the total market transactions.
Buyers take the price of the commodities as a given parameter,
acts accordingly and will adjust their demand according to the set
price of the market.
246

(ii) Large number of sellers In perfectly competitive market, large

number of sellers exist in the market due to which they cannot
influence the sale of the market. They will take the market price as
a given parameter acts accordingly. At the set price of the market
they will sell their products and gains the title ‘price taker’.

40. Explain the implications of the following features of monopolistic

competition

(i) Differentiated products (ii) Freedom of entry and exit to firms

(All India 2009)

Ans. (i) Product differentiation It is a distinct feature of

monopolistic competition. A product is often differentiated by way
of trade marks and brand names size, quality, quantity etc. The
differentiated products are close substitutes of each other, like
Colgate and Close up toothpaste. Because of product differentiation,
each firm can decide its price policy independently. So, that each
firm has a partial control over price of its product. This is done to
attract buyers from the rival firms in the market. Also because of
this firms produce an excess capacity (quantity), as their product is
different and hence they have some consumers who always
consumes their products only.

(ii) Freedom of entry and exit to firms Firm under this form of
market are free to leave the industry if they are suffring from loss,
on the other hand profits could attracts new firms.

41. Explain the implications of the following features of perfect

competition.

(i) Homogeneous products

247

(ii) Freedom of entry and exit to firms (Delhi 2009C)

Ans. (i) Homogeneous products It means the products which are

identical in quality, shape, size and colour. So, no producer is in a
position to charge a different price of the product it produces. A
uniform price prevails in the market. In a perfectly competitive
market, commodity must be homogeneous (identical). Thus, the
buyers find no reason to prefer the product of one seller to the
product of another.

(ii) Freedom of entry and exit to firms A firm can enter or leave
the industry any time. Because of free entry and exit, firms in the
long-run can earn only normal profits (TR =TC or AR = MR and P
= MC). In case extra normal profits are earned, new firms will join
the industry, market supply will increase. Market price will fall,
extra normal profits will be wiped out. In case of extra normal
losses, some of the existing firms will leave the industry. Market
supply will decrease, market price will increase. Extra normal losses
will be wiped out.

42. Explain the implications of the following

(i) Differentiated products under monopolistic competition.

(ii) Large number of sellers under perfect competition. (All India

2008)

Ans. (i) Product differentiation It is a distinct feature of

monopolistic competition. A product is often differentiated by way
of trade marks and brand names size, quality, quantity etc. The
differentiated products are close substitutes of each other, like
Colgate and Close up toothpaste. Because of product differentiation,
each firm can decide its price policy independently. So, that each
248

firm has a partial control over price of its product. This is done to
attract buyers from the rival firms in the market. Also because of
this firms produce an excess capacity (quantity), as their product is
different and hence they have some consumers who always
consumes their products only.

(ii) Large number of sellers There are very large number of buyers
and seller are present in the market as a result of which size of
each economic agent is so small as compared to the market that
they cannot influence the price through their individual actions.

43. Distinguish between perfect competition and monopolistic

competition.

Ans. Difference between perfect competition and monopolistic

competition

Basis Perfect Competition Monopolistic Competition

Number of buyers and There are very large number There are large number of
sellers of buyers and sellers buyers and sellers

Products Homogeneous products Differentiated products

Slopes of firm’s DD Horizontal straight line (AR Slopes downward with high
curve = MR) elasticity (AR > MR)

Mobility Perfect mobility Imperfect mobility

Selling costs Not required Very significant

Partial control over price

Degree of price
No control over price
control
249

Important Questions for Class 12

Economics Market Equilibrium
1. Market Equilibrium It refers to a situation of market in which
market demand for a commodity is equal to its market supply, i.e.
a situation, which is stable.

2. Equilibrium Price It is the price at which market demand is equal

to market supply.

3. Equilibrium Quantity It is the quantity which corresponds to

equilibrium price.

4. Assumptions of Equilibrium

(i)Demand curve should always have a negative slope.

(ii)Supply curve should have a positive slope.

5. Determination of Equilibrium Price Under Perfect

Competition Equilibrium price under perfect competition refers to
the price which corresponds to the equality between market
demand and market supply.

6. Excess Demand It refers to the situation in which at a price in

the market, demand is more than that of supply [DD>SS], which
creats an upward pressure on price.
250

7. Excess Supply It refers to the situation in which at a price in the

market, supply is more than that of demand [SS>DD], which
creats a downward pressure on price.

8. Effects of Change in Demand On Equilibrium Increase in demand

will shift the demand curve to the right keeping supply constant, it
will lead to increase in equilibrium price and quantity and vice-
versa . However,

(i) In case of perfectly elastic supply Increase or decrease in demand

does not cause any change in equilibrium price. Only the
equilibrium quantity changes, i.e. increases or decreases.

(ii) In case of perfectly inelastic supply Increase or decrease in

demand does not cause any change in equilibrium quantity. Only
the equilibrium price changes, i.e. increases or decreases.

9. Effects of Change in Supply On Equilibrium When there is change

in supply, keeping demand constant, it will shift supply curve to
the right. When supply increases it leads to fall in equilibrium price
and rise in quantity, on the other hand, when supply decreases,
251

supply curve will shift to the left, causing rise in price and fall in
quantity. However,

(i) In case of perfectly elastic demand Increase or decrease in supply

does not cause any change in equilibrium price. Only the
equilibrium quantity changes, i.e. Increases or decreases.

(ii) In case of perfectly inelastic demand Decrease in supply results

in an increase in price and increase in supply leads to decrease in
price. The equilibrium quantity remains constant.

10. Effects of a Simultaneous Change in Demand and Supply on

Equilibrium Price and Quantity

(i) When both demand and supply increases there arises three cases

(a)When increases in demand is more than increase in supply.

Effect Equilibrium price and quantity both increases.

(b)When increase in demand is less than increase in supply.

Effect Equilibrium price will fall and quantity will increase.

(c)When increase in demand is equal to increase in supply;

Effect Equilibrium price constant, quantity increases.

(ii) When both demand and supply decreases, there arises three
cases:

(a) When decrease in demand is more than decrease in supply.

252

Effect Equilibrium price fall and quantity falls.

(b) When decrease in demand is less than decrease in supply.

Effect Equilibrium price rises, quantity falls.

(iii) When decrease in demand is equal to decrease supply.

Effects Equilibrium price constant,quantity falls.

11. Simple Applications of Demand and Supply

(i) Price ceiling It means maximum price of a commodity that the

sellers can charge from the buyers. It is fixed by the government to
protect the consumers and generally fixed below the equilibrium
price.

(ii) Price floor It means the minimum price fixed by the government
for a commodity in the market at which a good can be sold. It is
fixed in order to protect the producers and generally fixed above
the equilibrium price.
253

(iii) Rationing It ensures the availability of the commodity to the

poor consumers^ who not received the commodity in free market
mechanism of the commodity.

(iv) Black marketing It is a situation in which the controlled

commodity is sold at a price higher than the price fixed by the
government illegally under the desk.

Previous Years Examination Questions

1 Mark Questions
1. State whether the following statement is true or false. Give
reason.

When equilibrium price of a good is less than its market price, there
will be competition among the sellers. (hots; Delhi 2013)

Ans. True, when equilibrium price of a good is less than its market
price, there will be competition among the sellers. At a price lower
than market price, there will be excess supply, i.e. supply will be
more than demand.

2. Give the meaning of equilibrium. (All India 2009 c)

254

Ans. Equilibrium is a situation of the market in which demand for a

commodity is equal to its supply, i.e. a situation, which is stable.

3. Define equilibrium price. (All India 2008,2006)

Ans. Equilibrium price is the price at which market demand is

equal to market supply.

3 Mark Questions
4. Market for a good is in an equilibrium. There is an increase in
demand for this good. Explain the chain of effects. (Delhi 2011)

or

At a given equilibrium in the market, explain the chain of effects, of

increase in demand for a good. (All India 2010 C)

Ans. The given diagram shows a situation of increase in demand.

The demand curve shifts to the right from DD to D1D1 An
equilibrium point shifts from E to E1 Consequently, an equilibrium
price and an equilibrium quantity rises from OP to OP, and OQ to
OQ1 respectively.

The chain effects of increase in demand When there is a increase in

demand it creates excess demand (equal to O Q2) at initial price
OP and as a result of which price will rise. With rise in price,
demand will start falling (according to Law of Demand) and supply
will start rising (according to Law of Supply), this process will
continue till the time we reach new equilibrium level at £v where
there is no excess demand.
255

5. Explain the changes that will take place when in a market the
demand for a good is greater than supply at the prevailing
price. (Delhi 2010 c)

Ans. If at a prevailing price, quantity demanded is more than

quantity supplied then supplier will motivate to increase the price
of the commodity due to which demand decreases, till it reaches at
the equilibrium price where quantity demanded is equal to quantity
supplied.

6. Explain why an equilibrium price of a commodity is determined

at that level of output at which its demand equals its supply. (Delhi
2010 c)

Ans. An equilibrium is a point where quantity demanded is equal to

quantity supplied and an equilibrium can be attained only at that
point. If at a given price, supply is more, it will show excess supply
and if demand is more, it will show excess demand. Due to excess
supply price will fall and due to excess demand price will rise.
256

Hence, price will be stable only at an equilibrium level where

demand and supply both are equal.

7. How is an equilibrium price of a commodity determined ?Explain

with the help of demand and supply schedule(Delhi 2009)

or

Explain how market price of a good is determined.Use diagram(All

India 2009 c)

or

How is price determined under perfect competition? Explain

briefly(All India 2006)

Ans.An equilibrium price is determined by the forces of market

demand and market supply Considering market demand schedule
on the one hand and market supply schedule on the other hand,
we identify an equilibrium price as the one where market demand
is equal to market supply i.e. where market demand curve and
market supply curve intersect each other.
257

8. Suppose the price of a good is higher than equilibrium price.

Explain the changes that will establish equilibrium price. (Delhi
2009 c)

Ans. When price prevailing in the market is higher than that of

equilibrium price, demand will be less than supply i.e. there is excess
supply in the market. Excess supply will force the market price to
slide down causing extension of demand and contraction of supply.
The process of an extension and contraction would continue till the
equilibrium between supply and demand is struck.

Thus, an equilibrium price will be restored through the free play of

market forces of demand and supply.
258

9. The demand and supply of a commodity both decreases in the

same proportion. Explain its effects on an equilibrium price and
quantity with the help of a diagram.(All India 2008)

Ans. When decrease in supply is equal to decrease in demand, an

equilibrium price will remain the same but an equilibrium output
will decrease.

In the given diagram, actual demand curve DD and actual supply

curve SS intersect at point E (i.e. an equilibrium point). At this
point, OP is equilibrium price and OQ is equilibrium quantity. When
demand decreases to D1D1 and supply decreases to S1S1 The new
curves intersect each other at point E1 It shows that an equilibrium
price remains constant because both demand and supply have
decreased in the same proportion. However, an equilibrium
quantity decreases to OQ1
259

4 Mark Questions
10. Equilibrium price of an essential medicine is too high. Explain
what possible steps can be taken to bring down an equilibrium price,
but only through the market forces. Also explain the series of
changes that will occur in the market.(All India 2013)

Ans. If an equilibrium price of an essential medicine is too high,

then its price can be reduced by opting two ways:

(i) Increase the supply of the commodity.

(ii) Government should provide such an essential medicines

on subsidised rates.

But as per the question option, (i) would be more appropriate.

Changes that will occur in the market is mentioned below :

In figure, it is clearly depicted that due to an increase in supply,

the supply curve shifts to the right from SS to S1S1. The new
supply curve S1S1 intersects the demand curve at point E1. An
equilibrium price decreases from OP to OP1, and quantity increases
from OQ to OQ1 Thus, it is clear that by increasing the supply of
the medicines, its equilibrium price can be brought down as by
doing so, competition will be increased among the producers and
consequently, they would be forced to sell their output at lower
260

cost.

11. Explain the sequence of changes that will take place when there
is excess demand of the commodity.(All India 2011)

or

At a given price, there is an excess demand for a good. Explain how

the equilibrium price will be reached. (Delhi 2007)

Ans. In a situation of excess demand, consumers are willing to buy

greater amount of a commodity than what the producers are
willing to sell. Accordingly, price of the commodity will be pushed
up. This will cause expansion of supply and contraction of demand.
This process will continue till demand becomes equal to supply and
the equilibrium is struck in the market. The market will reach the
point of an equilibrium at a higher price than in a situation of $n
excess demand.

12. Explain the effects of increase in income of buyers of normal

commodity on its equilibrium price. (Delhi 2010)

Ans. For a normal commodity, increase in an income of the

consumer” means an increase in its demand. Accordingly, demand
curve shifts rightward and both an equilibrium price and an
equilibrium quantity tends to increase.
261

In the given diagram, actual demand curve DD and actual supply

curve 55 intersect at point E (i.e. equilibrium point). When income
of buyer increases, the demand of normal goods also rises and
demand curve shifts rightward DD to D,D,. As a result, an
equilibrium price and quantity both are increases OP to OP1, and
OQ to OQ1, respectively. Equilibrium point will shift to rightward
i.e. E to E1

13. How does an equilibrium price of a normal commodity change

when income of its buyers falls? Explain the chain of effects. (All
India 2010)

or

A product market is in an equilibrium. Suppose the demand for the

product decreases. What changes will take place in the market? Use
diagram. (Delhi 2006 C)

Ans. For a normal commodity, decrease in income of the buyers

means decrease in its demand. Accordingly, demand curve shifts
leftward and both an equilibrium price and an equilibrium quantity
tends to decrease.
262

In the above diagram, actual demand curve DD and actual supply

curve SS intersect at point E (i.e. equilibrium point). When an
income of buyer decreases, the demand of normal goods also
decreases and demand curve shifts leftward from DD to D,D,. As a
result, an equilibrium price and an equilibrium quantity both are
increases from OP to OP, and OQ to OQ, respectively. Equilibrium
point will shift to leftward from E to E1.

14. How is an equilibrium price of a commodity affected by a

leftward shift of the demand curve? Explain it with the help of a
diagram. (All India 2007)

Ans.Effect of decrease in demand of a commodity on an

equilibrium price and quantity is discussed below, with reference to
the figure.

In the figure, DD and SS are an initial demand curve and supply

curve respectively. £ is initial equilibrium point, OQ is an
equilibrium quantity and OP is an equilibrium price. Decrease in
demand implies a shift in demand curve to the left. It is indicated
by D1D1. This sets the following chain of effects:

Decrease in demand implies that less is demanded at the existing

price causing excess supply. Price of the commodity will tend to
263

decrease from OP to OP1 due to which there will be expansion in

demand and contraction in supply. This will bring to an equilibrium
price again.

15. Explain the changes that take place when at a given price of a
commodity, there is excess supply of it. Use diagram. (Delhi 2006 C)

Ans. When price prevailing in the market is higher than that of

equilibrium price, demand will be less than supply i.e. there is excess
supply in the market. Excess supply will force the market price to
slide down causing extension of demand and contraction of supply.
The process of an extension and contraction would continue till the
equilibrium between supply and demand is struck.

Thus, an equilibrium price will be restored through the free play of

market forces of demand and supply.
264

6 Mark Questions
16. What is excess demand for a good in a market? Explain its chain
of effects on the market for that good use diagram.(Foreign, 2014)

Ans. Excess demand refers to the situation in which market

demand excess market supply corresponding to a particular
price. By definition, equilibrium price refers to the price at which
market demand equals market supply, excess demand in the
market will create competition among the buyer, which will push
price upwards, causing contraction in demand (by Law of Demand)
and extension in supply (by Law of Supply).

This process will continue till the equilibrium is achieved, where

again market demand equals market supply. Thus, an equilibrium
price will be restored through the free play of market forces. As
shown in the diagram below:

In the above diagram DD and SS are demand and supply curves

respectively and equilibrium is at point e where demand equals
supply with equilibrium price OP and quantity OQ. Any price below
OP will create excess demand S of OP1 where demand equals
OQd and supply is OQs, creating excess demand equal to Qd – Qs,
causing price to rise to reach at OP
265

17. Market for a product is in equilibrium. Demand for the product

decreases. Explain the chain of effects of this change till the market
again reaches equilibrium. Use diagram.(Delhi 2014, All India 2014)

Ans. Effects of decrease in demand of a commodity on equilibrium

price and quantity is discussed below with reference to the given
figure.

In the given figure, DD and SS are the initial demand curve and
supply curve respectively. £ is the initial equilibrium point, OQ is
the equilibrium quantity and OP is the equilibrium price. Decrease
in demand implies a shift in demand curve to the left. It is
indicated by This sets in the following chain of effects.

Decrease in demand implies that less is supplied at the existing

price. Given the supply, price of the commodity will tend to
decrease from OP to OP1 Fall in price will cause tend to decrease
from OP to OP1 Fall in price will cause extension of demand and
contraction of supply. Here, equilibrium quantity also decreases
from OQ to OQ1.

18. Market for a good is in an equilibrium. Suppose supply decreases.

Giving reasons,

explain its effects on equilibrium price and quantity. Use

diagram.(Foreign 2014; Delhi 2009 C)
266

Ans. A fall in supply will shift the supply curve to the left. These
causes a situation of deficiency of supply (or a situation of excess
demand). Accordingly, price tends to rise. In response to rise in
price,demand tends to contract and supply tends to extend.This
process (of contraction of demand and extension of supply) will
continue till, price is reached where quantity demanded is equal
to quantity supplied. This occurs at new equilibrium point E1.

19. Market of a commodity is in

equilibrium. Demand for the commodity ‘increases.’ Explain the
chain of effects of this change till the market again reaches
equilibrium. Use diagram. (Delhi 2014; All India 2014)

Ans. Effects of increase in demand of a commodity on equilibrium

price and quantity is discussed below with reference to the
given figure.

In the above figure, DD and SS are the initial demand curve and
supply curve respectively. E is the initial equilibrium point, OQ is
the equilibrium quantity and OP is the equilibrium price. Increase in
demand implies a shift in demand curve to the right. It is indicated
by D1D1 This sets in the following chain of effects.

Increase in demand implies that more supplied at the existing price.

Given supply, price of the commodity will tend to increase from OP
267

to OP1 Rise in price will cause contraction of demand and

extension of supply. Here, equilibrium quantity also increases from
OQ to OQ1

20. At a given price of a commodity, there is an excess supply. Is it

an equilibrium price? If not, how will an equilibrium price be
reached? Use diagram.(Compartment 2014; All India 2006)

or

What is ‘excess supply of a good in a market? Explain its chain of

effects on the market for that good. Use diagram. (Foreign, 2014)

Ans. By the definition, an equilibrium price refers to the price at

which market demand is equal to market supply (i.e. there is no
excess demand or excess supply).

When price prevailing in the market is higher than an equilibrium

price, demand will be less than supply i.e. there is excess an supply
in the market. Excess supply will force the market price to slide
down causing an extension of demand and contraction of supply.
The process of an extension and contraction would continue till the
equilibrium between supply and demand is struck. Thus, an
equilibrium price will be restored through the free play of market
forces.
268

No, the price with excess supply is not an equilibrium price. This
can be illustrated with the help of the given diagram.

21. If an equilibrium, price of a good is

greater than its market price, explain all the changes that will take
place in the market. Use diagram. (hots; All India 2013)

Ans. If the price prevailing in the market is above an equilibrium

price then the firms will supply more quantity of the commodity
and the consumer will demand less quantity of the commodity.
Thus, it will distort the situation of an equilibrium in the market.
There will be situation of an excess supply, this situation is shown in
the following schedule and diagram.

In such a case, competition among the sellers will pull down the
market price to equilibrium price, by the way of expansion in
demand and contraction in supply.As it can be seen from the
schedule that at prices Rs 4 and Rs 5, supply exceeds demand.

As shown in the diagram DD is the demand curve and SS is

supply.Equilibrium is attained at point E, where demand equals
supply with OP equilibrium price and OQ quantity. Now supply is
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market price is greater than equilibrium price at OP1. In this case

a fall in price ,hence expension in demand and contraction in
supply will continue till the time equilibrium is not achieved.

22. Market for a good is m

equilibrium. There is simultaneous increase both in demand
and supply of the good. Explain its effects on market price.(Delhi
2012; All India 2008)

Ans. There can be three situations in this respect which are as

follows:

(i) Increase in demand is greater than increase in supply If

the increase in demand is more than the increase in supply, both
an equilibrium price and quantity will increase.

From the figure, it is clear that the (rightward) shift in demand

curve from DD to D1D1 is proportionately more than the
(rightward) shift in supply curve from SS to SS1. The new
equilibrium point is E1 Equilibrium price rises from OP to and an
equilibrium quantity rises from OQ to OQ1 Increase in quantity is
greater than increase in price.
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(ii)Increase in demand is equal to increase in supply When increase

in demand is equal to an increase in supply, the price will remain
the same and an equilibrium output will increase.

From the figure, it is clear that the (rightward) shift in demand

curve from DD to D1D1, is proportionately equal to the (rightward)
shift in supply curve from SS to SS1. The new equilibrium point is
E1 Equilibrium price remains the same, but an equilibrium
quantity rises from OQ toOQ1.

(iii)Increase in demand is lesser than increase in supply If an

increase in demand is less than an increase in supply, an
equilibrium price falls and an equilibrium quantity goes up.

From the figure, it is clear that the (rightward) shift in demand

curve from DD to Dp: is
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proportionately less than the (rightward) shift in supply curve from

SS to S1S1. The new equilibrium point is E1 Equilibrium price falls
from OP to OP1 and an equilibrium quantity rises from OQ to
OQ1 Increase in quantity is greater than decrease in price.

23. Market for a good is an equilibrium. There is simultaneous

decrease both in demand and supply of the good. Explain its effects
on market price. (Delhi 2012)

Ans. There can be three situations in this respect, which are as

follows:

(i) Decrease in demand is greater than decrease in supply If

decrease in demand is greater than the decrease in supply, an
equilibrium price and quantity will fall.
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From the figure, it is clear that the (leftward) shift in demand

curve from DD to D1D1 is proportionately more than the
(leftward) shift in supply curve from SS to S1S1 The new
equilibrium point is £,. Equilibrium price falls from OP to OP1 and
an equilibrium quantity falls from OQ to OQ1 Decrease in quantity
is greater than decrease in price.

(ii) Decrease in demand is equal to decrease in supply When

decrease in demand is equal to decrease in supply, an equilibrium
price will remain the same and an equilibrium quantity will
increase.

From the figure, it is clear that the (leftward) shift in demand

curve from DD to D1D1 is proportionately equal to the (leftward)
shift in supply curve from SS to S1S1 The new equilibrium point is
Ev Equilibrium price remains the same, but an equilibrium quantity
falls from OQ to OQ1

(iii) Decrease in demand is lesser than decrease in supply If decrease

in demand is lesser than decrease in supply, an equilibrium price
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will rise and an equilibrium quantity will fall.

From the figure, it is clear that (leftward) shift in demand curve

from DD to D1D1, is proportionately less than the (leftward) shift
in supply curve from SStoS1S1. New equilibrium point
isE1 Equilibrium price increases from OP to OP1 and an
equilibrium quantity decreases from OQ to OQ1 Decrease in
quantity is greater than increase in price.

24. Market for a good is in an equilibrium. There is simultaneous

decrease both in demand and supply, but there is no change in
market price. Explain with the help of a schedule, how is it
possible.(All India 2012)

Ans. Decrease in demand is greater than decrease in supply If

decrease in demand is greater than the decrease in supply, an
equilibrium price and quantity will fall.
274

From the figure, it is clear that the (leftward) shift in demand

curve from DD to D1D1 is proportionately more than the
(leftward) shift in supply curve from SS to S1S1 The new
equilibrium point is £,. Equilibrium price falls from OP to OP1 and
an equilibrium quantity falls from OQ to OQ1 Decrease in quantity
is greater than decrease in price.

25. Market for good is an equilibrium.Explain the chain of reactions

in the market if the price is(i) Higher than an equilibrium price (ii)
Lower than an equilibrium price (All India 2012)

Ans.(i) Higher than an equilibrium price:

When price prevailing in the market is higher than that of

equilibrium price, demand will be less than supply i.e. there is excess
supply in the market. Excess supply will force the market price to
slide down causing extension of demand and contraction of supply.
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The process of an extension and contraction would continue till the

equilibrium between supply and demand is struck.

Thus, an equilibrium price will be restored through the free play of

market forces of demand and supply.

(ii) Lower than an equilibrium price:In a situation of excess demand,

consumers are willing to buy greater amount of a commanty than
what the producers are willing to sell. Accordingly, price of the
commodity will be pushed up. This will cause expansion of supply
and contraction of demand. This process will continue till demand
becomes equal to supply and the equilibrium is struck in the market.
The market will reach the point of an equilibrium at a higher price
than in a situation of $n excess demand.

26. Market for a good is an equilibrium. There is an increase in

supply for this good.

Explain the chain of effects of this change. Use diagram(All India

2011)

Ans. If there is increase in supply and demand remains unchanged

as a results that equilibrium price will decrease but equilibrium
quantity will increase.The figure shows a situation of increase in
supply. The supply curve shifts to the right. Consequently,
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equilibrium price decreases from OP to OP1 Equilibrium quantity

increases from OQ to OQ1.

Due to increase in supply at the equilibrium price ‘P’ now there will
be excess supply. Excess supply will force prices to came down and
hence there will be contraction in supply and expansion in demand,
this process will continue till the time we reach new equilibrium at
E, with lower price and greater quantity.

27. X and Y are complementary goods. Explain the sequence of

effects of a fall in the price of X on an equilibrium price and
quantity of Y.(All India 2011)

Ans.In case of complementary goods, when the price of X falls,

demand for commodity V increases. Asa result, demand curve of
commodity Y will shift towards right, but supply curve remains
constant. Due to increase in demand of commodity Y due to
competition amongst the buyers there will be an excess demand.

Therefore, supplier will motivate to increase the price of

commodity Y due to competition amongst the buyers. An
equilibrium price and quantity would tend to increase.
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The above figure shows a situation of increase in demand. The

demand curve shifts to rightward. Consequently, equilibrium price
and quantity both are increasing from OP to OP1, and OQ to OQ1

Effects of increase in demand :

The given diagram shows a situation of increase in demand. The

demand curve shifts to the right from DD to D1D1 An equilibrium
point shifts from E to Ey1Consequently, an equilibrium price and an
equilibrium quantity rises from OP to OP, and OQ to OQ1
respectively.

The chain effects of increase in demand When there is a increase in

demand it creates excess demand (equal to O Q2) at initial price
OP and as a result of which price will rise. With rise in price,
demand will start falling (according to Law of Demand) and supply
will start rising (according to Law of Supply), this process will
continue till the time we reach new equilibrium level at £v where
there is no excess demand.
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28. How will a fall in the price of tea affects an equilibrium price of
coffee? Explain the chain of effects (Delhi 2011 c)

Ans. With a fall in the price of tea, the demand of coffee (substitute
of tea) decreases. As a result, demand curve of coffee shifts to the
left. Accordingly, an equilibrium price would tend to decrease and
also an equilibrium quantity tends to decrease.

The figure shows a situation of decrease in demand. The demand

curve shifts to left side. Consequently, equilibrium price and
quantity, both are decreasing from OP to OP1 and OQ to OQ1.
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29. Explain the term market equilibrium. Explain the series of

changes that will take place if market price is higher than an
equilibrium price. (Delhi 2011 c)

Ans. Equilibrium is a situation of the market in which demand for a

commodity is equal to its supply, i.e. a situation, which is stable.

When price prevailing in the market is higher than that of

equilibrium price, demand will be less than supply i.e. there is excess
supply in the market. Excess supply will force the market price to
slide down causing extension of demand and contraction of supply.
The process of an extension and contraction would continue till the
equilibrium between supply and demand is struck.

Thus, an equilibrium price will be restored through the free play of

market forces of demand and supply.

30. With the help of diagram,

explain the effects of decrease in demand of a commodity

on its equilibrium price and quantity. (Delhi 2009)

Ans.Effect of decrease in demand of a commodity on an

equilibrium price and quantity is discussed below, with reference to
the figure.
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In the figure, DD and SS are an initial demand curve and supply

curve respectively. £ is initial equilibrium point, OQ is an
equilibrium quantity and OP is an equilibrium price. Decrease in
demand implies a shift in demand curve to the left. It is indicated
by D1D1. This sets the following chain of effects:

Decrease in demand implies that less is demanded at the existing

price causing excess supply. Price of the commodity will tend to
decrease from OP to OP1 due to which there will be expansion in
demand and contraction in supply. This will bring to an equilibrium
price again.

31. With the help of demand and supply schedule, explain the
meaning of excess demand and its effects on price of a commodity.
(All India 2009)

Ans. In a situation of excess demand, consumers are willing to buy

greater amount of a commocmy than what the producers are
willing to sell. Accordingly, price of the commodity will be pushed
up. This will cause expansion of supply and contraction of demand.
This process will continue till demand becomes equal to supply and
the equilibrium is struck in the market. The market will reach the
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point of an equilibrium at a higher price than in a situation of $n

excess demand.

32. Define an equilibrium price of a commodity. How is it

determined? Explain with the help of a schedule.(All India 2009)
Ans. Equilibrium price is the price at which market demand is
equal to market supply.

An equilibrium price is determined by the forces of market demand

and market supply Considering market demand schedule on the
one hand and market supply schedule on the other hand, we
identify an equilibrium price as the one where market demand is
equal to market supply i.e. where market demand curve and
market supply curve intersect each other.
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33. How is an equilibrium price and an equilibrium quantity of a

normal commodity is affected by an increase in an income of the
buyers? Explain with the help of a diagram. (Delhi 2006)

Ans. When an income of the consumers rises, demand curve for

normal good would shift to the right. Supply curve remains
unaffected. However, when consumers are willing to pay higher
price for the same quantity (because of increase in their income),
price would tend to rise. Consequently, quantity supplied by the
producers would tend to rise.

Thus, increase in demand and the consequent shift in demand

curve to the right impacts producer’s decisions by way of extension
of supply in response to increase in price. Finally, you would end up
in a situation when an equilibrium price as well as an equilibrium
quantity tend to rise, in response to an increase in demand.
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OP = Initial equilibrium price

OQ = Initial equilibrium quantity

OP1 = New equilibrium price

OQ1 = New equilibrium quantity

34. How will an increase in an income of the buyers of an inferior

good, affect its equilibrium price and equilibrium quantity? Explain
with the help of a diagram.(All India 2006)

Ans. When income rises, demand for an inferior good falls. Hence,
demand curve shifts to the left. Decrease in demand will disturb
the market equilibrium.
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The given equilibrium price and quantity are OP and OQ

respectively. Increase in an income results a downward shift of
demand curve (D1D1). At price OP now, quantity demanded is
OQ1 which is less than the quantity supplied (OQ). This will result
in competition among suppliers leading to a fall in price. The price
now settle at an new equilibrium. It is lower than it was before. As
well as a new equilibrium quantity is also less than an old
equilibrium quantity.