ISC Class 12 Economics Board Exam Question Paper 2023 with Solutions

ICSE Class 12 Economics Board Exam Question Paper with Solutions

SECTION A - 16 MARKS

Question 1

(i) The aggregate utility obtained from the consumption of a specific unit of a commodity is called: [1 Mark]
(A) Marginal utility.
(B) Total utility.
(C) Maximum utility.
(D) Additional utility.

Answer: (B) Total utility.

Total utility is the sum total of utility derived from the consumption of all the units of a commodity.

Teacher's Note:
a) Total utility increases with the consumption of additional units as long as marginal utility is positive.
b) Students often confuse total utility with marginal utility, which refers to the utility derived from an additional single unit.

(ii) If the price of a commodity and total expenditure on that commodity change in the same direction, the price elasticity of demand will be: [1 Mark]
(A) greater than one.
(B) less than one.
(C) equal to zero.
(D) equal to infinity.

Answer: (B) less than one.

When price and total expenditure move in the same direction, demand is inelastic (less than one).

Teacher's Note:
a) Inverse relation between price and total expenditure indicates elastic demand (greater than one).
b) No change in total expenditure despite price changes indicates unitary elasticity (equal to one).

(iii) Which one of the following is NOT a ceteris paribus assumption of the Law of Supply? [1 Mark]
(A) Indirect taxes and subsidies on the firm's products remain constant.
(B) Technology used by the firm in production remains constant.
(C) Prices of the factors of production paid by the firm remain constant.
(D) Price of the commodity produced by the firm remains constant.

Answer: (D) Price of the commodity produced by the firm remains constant.

The Law of Supply states the direct relationship between own price and quantity supplied, assuming other factors remain constant.

Teacher's Note:
a) Own price of the commodity is the independent variable that changes to study its effect on supply.
b) All other determinants of supply like input prices, technology, and taxes are assumed to be constant (ceteris paribus).

(iv) The figure given below shows the relation between the quantity demanded for the good X and the price of the good Z. What type of goods are X and Z? [1 Mark]
(A) Unrelated goods
(B) Substitute goods
(C) Complementary goods
(D) Giffen goods

[Figure: A downward sloping demand curve labeled D on a Cartesian plane where the vertical axis (Y-axis) represents the Price of Z and the horizontal axis (X-axis) represents the Quantity of X, showing an inverse relationship between the price of good Z and the quantity demanded of good X.]

Answer: (C) Complementary goods

An inverse relationship between the price of one good and the demand for another indicates complementary goods.

Teacher's Note:
a) For substitute goods, an increase in the price of one leads to an increase in the demand for the other (positive slope).
b) For complementary goods, an increase in the price of one leads to a decrease in the demand for the other (negative slope).

(v) Which one of the following will cause a rise in the equilibrium price of rice when the demand for rice remains the same? [1 Mark]
(A) Government subsidy to rice farmers.
(B) Successful advertising campaign for rice.
(C) Improved rice farming methods.
(D) Poor weather conditions.

Answer: (D) Poor weather conditions.

Poor weather conditions reduce the supply of rice, shifting the supply curve to the left and raising the equilibrium price.

Teacher's Note:
a) A decrease in supply with constant demand leads to a higher equilibrium price and lower equilibrium quantity.
b) Options (A) and (C) increase supply, which would lower the price.

(vi) When the Marginal Product turns negative, Total Product will: [1 Mark]
(A) fall.
(B) rise.
(C) remain constant.
(D) be zero.

Answer: (A) fall.

When marginal product is negative, each additional unit of the variable factor reduces total output.

Teacher's Note:
a) Total product reaches its maximum when marginal product is zero.
b) Beyond the point of maximum total product, marginal product becomes negative and total product starts falling.

(vii) Induced investment expenditure refers to: [1 Mark]
(A) the investment made by a firm.
(B) the expenditure, made by a firm, that remains constant.
(C) the investment made in the economy that remains unaltered.
(D) total investment expenditure which şehanges with change in national income.

Answer: (D) total investment expenditure which changes with change in national income.

Induced investment is profit-driven and positively related to the level of national income.

Teacher's Note:
a) Autonomous investment is independent of the level of national income.
b) Induced investment curve has a positive slope.

(viii) With reference to money, which one of the following statements is correct? [1 Mark]
(A) All paper currency is inconvertible money.
(B) Cheque is also a fiat money.
(C) Money cannot transfer value from one person to another.
(D) M2 = C + DD + OD

Answer: (A) All paper currency is inconvertible money.

Modern paper notes are inconvertible as they cannot be converted into gold or silver by the issuing authority.

Teacher's Note:
a) Cheques are bank money or credit money, not fiat money.
b) M2 is defined as M1 plus savings deposits with post office savings banks, whereas C + DD + OD represents M1.

(ix) Why is the AVC curve U-shaped? [1 Mark]

Answer:
The Average Variable Cost (AVC) curve is U-shaped due to the operation of the law of variable proportions (initially increasing returns followed by diminishing returns to the variable factor).

Teacher's Note:
a) Initially, increasing returns lead to a fall in AVC.
b) Eventually, diminishing returns set in, causing AVC to rise.

(x) Mention any one difference between impact of tax and incidence of tax. [1 Mark]

Answer:
Impact of tax refers to the initial burden of the tax on the person who pays it first, whereas incidence of tax refers to the ultimate or final burden of the tax on the person who finally bears it.

Teacher's Note:
a) Impact falls on the person upon whom the tax is legally imposed.
b) Incidence may be shifted to others through price mechanism (e.g., in indirect taxes).

(xi) State whether the following is True or False.
Rate of interest on savings account is more than that on recurring account. [1 Mark]

Answer:
False.

Teacher's Note:
a) Recurring deposit accounts generally offer a higher rate of interest than regular savings bank accounts because funds are locked in for a fixed term.
b) Savings accounts offer lower liquidity-linked interest rates.

(xii) Complete the following table: [1 Mark]

Answer:
APC at Income = 20 is 0.70 (or 7/10).

Working Notes:
1. Consumption (C) = Income (Y) - Saving (S) = 20 - 6 = 14.
2. APC = C / Y = 14 / 20 = 0.70.

Teacher's Note:
a) APC stands for Average Propensity to Consume, calculated as total consumption divided by total income.
b) Remember that at zero income, consumption equals the absolute value of negative savings (Autonomous Consumption = 12).

(xiii) What is meant by sinking fund? [1 Mark]

Answer:
A sinking fund is a fund created by a business or government out of its revenue to replace a capital asset or pay off a long-term debt upon its maturity.

Teacher's Note:
a) It is a provision against depreciation or liability redemption.
b) It helps in financial planning and asset replacement without sudden capital strain.

(xiv) Give the meaning of deficient demand. [1 Mark]

Answer:
Deficient demand refers to the situation when aggregate demand is short of aggregate supply corresponding to full employment in the economy.

Teacher's Note:
a) It leads to a deflationary gap.
b) It results in unemployment and a fall in output levels.

(xv) Why is effective demand also known as expost demand? [1 Mark]

Answer:
Effective demand is determined at the point where aggregate demand equals aggregate supply, representing the actual realized spending (ex-post) in the economy at equilibrium.

Teacher's Note:
a) Effective demand is actual or realized aggregate demand that equates total output with total expenditure.
b) Ensure clarity between ex-ante (planned) and ex-post (actual) economic variables.

(xvi) What is meant by accounting cost? [1 Mark]

Answer:
Accounting cost refers to the actual explicit out-of-pocket expenses incurred by a firm on purchasing inputs and hiring factors of production.

Teacher's Note:
a) It includes explicit costs like wages, raw material costs, rent, and electricity.
b) Unlike economic cost, it does not include implicit costs (opportunity cost of self-owned factors).

SECTION B - 32 MARKS

Question 2

(i) The price of a mobile handset has risen in the market. But the dealers have not been able to increase the supply proportionately.
What will be the price elasticity of supply for the mobile handset? Draw the supply curve to indicate the type of elasticity. [2 Marks]

Answer:
1. The price elasticity of supply is less than one (inelastic supply), as the proportionate change in supply is less than the proportionate change in price.
2. [Figure: A relatively steep upward sloping supply curve starting from the Y-axis or origin, showing inelastic supply where percentage change in quantity supplied is smaller than percentage change in price.]

Teacher's Note:
a) Inelastic supply implies Es < 1.
b) Label axes (Quantity and Price) and the supply curve correctly in the diagram.

(ii) The price of a good decreases from Rs. 100 to Rs. 80 per unit. If the price elasticity of demand for the good is 2 and the original quantity demanded is 30 units, calculate the new quantity demanded. [2 Marks]

Answer:
1. Given: Initial Price (\(P_1\)) = Rs. 100, New Price (\(P_2\)) = Rs. 80, Elasticity (\(e_d\)) = 2, Initial Quantity (\(Q_1\)) = 30.
2. Change in price (\(\Delta P\)) = \(P_2 - P_1 = 80 - 100 = -20\).
3. Using formula: \(e_d = \frac{\Delta Q}{\Delta P} \times \frac{P}{Q}\implies 2 = \frac{\Delta Q}{-20} \times \frac{100}{30}\implies \Delta Q = \frac{2 \times -20 \times 30}{100} = -12\).
4. New Quantity (\(Q_2\)) = \(Q_1 + \Delta Q = 30 + 12 = 42\) units (considering absolute signs or direct proportional change).

Teacher's Note:
a) Apply percentage method or proportionate method clearly.
b) Since price falls, quantity demanded must rise; hence, new quantity is 42 units.

Question 3

(i) Calculate Total variable cost and Marginal cost from the data given below. [2 Marks]

Answer:
1. TFC at zero output = 40 (Fixed cost remains 40 at all levels of output).
2. TVC = TC - TFC: At 0 unit = 0; At 1 unit = 60 - 40 = 20; At 2 units = 78 - 40 = 38; At 3 units = 97 - 40 = 57.
3. MC = \(\Delta\)TC / \(\Delta\)Q: At 1 unit = 60 - 40 = 20; At 2 units = 78 - 60 = 18; At 3 units = 97 - 78 = 19.

Teacher's Note:
a) Total fixed cost is derived from total cost when output is zero.
b) Marginal cost is the change in total cost resulting from the production of one additional unit.

(ii) Give any two differences between returns to a factor and returns to scale. [2 Marks]

Answer:
1. Returns to a factor operate in the short run where at least one factor is fixed, whereas returns to scale operate in the long run where all factors are variable.
2. Returns to a factor involve a change in factor proportion, whereas returns to scale involve no change in factor proportion as all factors are changed in the same proportion.

Teacher's Note:
a) Highlight the time horizon (short run vs long run) clearly.
b) Mention the factor proportion aspect for full credit.

Question 4

Explain Price Ceiling with the help of a diagram. [4 Marks]

Answer:
1. Price ceiling refers to the maximum legal price that a seller can charge for a product, fixed by the government below the equilibrium market price to protect consumers.
2. [Figure: Demand and supply curves intersecting at equilibrium point E with equilibrium price \(P_e\) and quantity \(Q_e\). A price ceiling line \(P_c\) is drawn below \(P_e\), showing a shortage where quantity demanded exceeds quantity supplied (\(Q_d \gt Q_s\)).]
3. Consequences: It leads to excess demand (shortage), black marketing, and rationing.

Teacher's Note:
a) Ensure the ceiling price is explicitly shown below the equilibrium price in the diagram.
b) Clearly explain the resulting shortage and government rationing measures.

Question 5

(i) Under Perfect Competition, a firm will enjoy normal profit in the long run even if it enjoys supernormal profit in the short run. Explain. [2 Marks]

Answer:
1. In the short run, supernormal profits attract new firms into the industry.
2. As new firms enter, market supply increases, driving down the market price until excess profits are eliminated, leaving firms with only normal profit (zero economic profit) in the long run.

Teacher's Note:
a) Mention the free entry and exit assumption of perfect competition.
b) Price equals minimum average cost in the long run equilibrium.

(ii) What is meant by break-even point? Draw a well labelled diagram to show the break-even point. [2 Marks]

Answer:
1. Break-even point is the level of output or sales where total revenue equals total cost, resulting in zero economic profit (only normal profit).
2. [Figure: A graph with Total Cost (TC) and Total Revenue (TR) curves on a Cartesian plane where output is on X-axis and cost/revenue on Y-axis. The point of intersection between TR and TC curves is marked as the break-even point.]

Teacher's Note:
a) Profit is zero at this point.
b) Below this point, the firm incurs losses; above it, the firm earns profits.

OR

(i) Explain the short run equilibrium of a firm facing losses under Perfect Competition. [4 Marks]

Answer:
1. A competitive firm is in short-run equilibrium when two conditions are met: (a) Marginal Revenue equals Marginal Cost (MR = MC), and (b) MC is rising at the point of intersection.
2. Even while facing losses, the firm may continue production in the short run as long as price covers average variable cost (P \(\ge\) AVC).
3. [Figure: Equilibrium graph showing price line falling below the minimum Average Total Cost (ATC) curve but above AVC, with the loss rectangle indicated by the difference between ATC and price multiplied by output.]
4. If price falls below AVC (shutdown point), the firm will shut down production immediately to minimize variable losses.

Teacher's Note:
a) Emphasize the two equilibrium conditions.
b) Distinguish clearly between the shutdown point and the break-even point.

Question 6

(i) State any two secondary functions of money. [2 Marks]

Answer:
1. Standard of deferred payments: Money facilitates borrowing and lending transactions over time.
2. Store of value: Money allows individuals to save purchasing power for future use.

Teacher's Note:
a) Secondary functions derive from the primary functions of money.
b) Transfer of value is another correct secondary function.

(ii) Explain Open Market Operations as a measure to control inflation. [2 Marks]

Answer:
1. During inflation, the central bank sells government securities in the open market.
2. This absorbs purchasing power and liquidity from commercial banks and the public, reducing their lending capacity and aggregate demand to control inflation.

Teacher's Note:
a) Sale of securities reduces money supply.
b) Purchase of securities is used during deflation.

Question 7

Explain the concept of Investment Multiplier using a diagram. [4 Marks]

Answer:
1. Investment Multiplier (k) is the ratio of change in income (\(\Delta Y\)) to change in investment (\(\Delta I\)). Formula: \(k = \frac{\Delta Y}{\Delta I} = \frac{1}{1 - MPC} = \frac{1}{MPS}\).
2. [Figure: Income-expenditure diagram showing aggregate demand curve shifting upward from \(AD_1\) to \(AD_2\) due to an increase in investment (\(\Delta I\)), resulting in a magnified increase in equilibrium income (\(\Delta Y\)).]
3. The multiplier works because one person's spending becomes another person's income, generating a cumulative chain of income increases determined by the Marginal Propensity to Consume (MPC).

Teacher's Note:
a) State the relationship between multiplier and MPC (direct relation) and MPS (inverse relation).
b) Draw the income-expenditure approach graph cleanly with 45-degree line.

Question 8

(i) Per capita income is not considered a good indicator of the economic welfare. Explain this statement by giving any two reasons. [4 Marks]

Answer:
1. Distribution of income: A rise in per capita income may be concentrated in the hands of a few rich individuals, while the majority of the population may experience poverty, meaning welfare does not rise uniformly.
2. Composition of output: An increase in per capita income could be driven by a rise in the production of defense goods or harmful products rather than consumer goods that improve the standard of living.
3. Non-monetary exchanges and externalities: Per capita income ignores negative externalities (like pollution) and non-monetary transactions that affect true welfare.

Teacher's Note:
a) Any two well-explained points are sufficient for full credit.
b) Income inequality is the most critical limitation of per capita income as a welfare measure.

OR

(ii) With the help of appropriate examples, briefly discuss Real GDP and Nominal GDP. [4 Marks]

Answer:
1. Nominal GDP: The market value of final goods and services produced in an economy within a year, measured at current year prices. Example: Valuing 100 units of output at current year price of Rs. 10 each gives Nominal GDP = Rs. 1,000.
2. Real GDP: The market value of final goods and services produced in an economy within a year, measured at constant base year prices. Example: Valuing the same 100 units of output at base year price of Rs. 5 each gives Real GDP = Rs. 500.
3. Real GDP is a better index of economic growth as it reflects changes in physical output rather than price fluctuations.

Teacher's Note:
a) Differentiate clearly between current prices and base year prices.
b) Mention GDP deflator formula: Nominal GDP / Real GDP \(\times\) 100.

Question 9

(i) How are revenue receipts different from capital receipts in a budget? Give one example of each receipt. [2 Marks]

Answer:
1. Revenue receipts neither create any liability nor cause any reduction in assets of the government (e.g., tax revenue, income tax), whereas capital receipts create liabilities or reduce government assets (e.g., borrowings, recovery of loans).

Teacher's Note:
a) Focus on asset-liability status for the distinction.
b) Provide correct examples for each category.

(ii) What is public expenditure? How does public expenditure on social security schemes enhance production in an economy? [2 Marks]

Answer:
1. Public expenditure refers to the expenditure incurred by public authorities (government) for the maintenance of government and the socio-economic welfare of the citizens.
2. Social security expenditure (like pensions, health benefits, and unemployment relief) increases human capital, health, and productivity of workers, thereby enhancing production capacity and aggregate supply in the economy.

Teacher's Note:
a) Connect social security spending directly to human resource development.
b) Highlight its impact on both efficiency and aggregate demand.

SECTION C - 32 MARKS

Question 10

(i) State any two features of Oligopoly. [2 Marks]

Answer:
1. Few large firms: The industry is dominated by a small number of large firms that control a major share of the market.
2. Interdependence: Firms are mutually interdependent, meaning any change in price or output by one firm prompts reactions from rival firms.

Teacher's Note:
a) Mention barriers to entry as another key feature.
b) Emphasize strategic price and output decision-making under oligopoly.

(ii) Discuss any four differences between Monopoly and Monopolistic Competition. [6 Marks]

Answer:
1. Number of sellers: Monopoly has a single seller, whereas monopolistic competition has a large number of sellers.
2. Nature of product: Monopoly produces a unique product without close substitutes, whereas monopolistic competition features differentiated products that are close substitutes.
3. Entry barriers: Monopoly has strict barriers preventing new firm entry, whereas monopolistic competition has free entry and exit of firms.
4. Price control and elasticity: A monopolist has considerable control over price (price maker with inelastic demand), whereas a firm under monopolistic competition has limited control over price due to high elasticity resulting from product differentiation.

Teacher's Note:
a) Structure the answer point-by-point covering number of sellers, product differentiation, entry, and price control.
b) Selling costs (advertising) are significant in monopolistic competition but absent in pure monopoly.

Question 11

(i) Define income elasticity of demand. When can it be negative? [2 Marks]

Answer:
1. Income elasticity of demand measures the degree of responsiveness of quantity demanded of a commodity to a change in the income of the consumer.
2. It can be negative in the case of inferior goods, where an increase in consumer income leads to a decrease in the quantity demanded.

Teacher's Note:
a) Formula: \(E_y = \frac{\% \text{ change in demand}}{\% \text{ change in income}}\).
b) Inferior goods have negative income elasticity.

(ii) With the help of a diagram, explain how the consumer will attain equilibrium on consumption of a single commodity at a given price. [6 Marks]

Answer:
1. Assumptions: Consumer is rational, has given money income, prices are constant, and utility is measurable in cardinal terms.
2. Condition for single commodity equilibrium: Marginal Utility of the commodity in terms of money (\(MU_m\)) must equal its price (\(P\)), i.e., \(MU_x / P_x = MU_m\), or \(MU_x = P_x\).
3. If \(MU_x \gt P_x\), the consumer gets more satisfaction than price paid, so they buy more until \(MU_x = P_x\).
4. If \(MU_x \lt P_x\), satisfaction is less than price, so consumption is reduced until equality is restored.
5. [Figure: Utility curve showing downward sloping Marginal Utility curve intersecting the horizontal market price line at equilibrium quantity.]

Teacher's Note:
a) State both consumer equilibrium conditions clearly.
b) Explain the adjustment mechanism when MU is greater than or less than Price.

OR

(i) Briefly explain any two exceptions to the Law of Supply. [2 Marks]

Answer:
1. Agricultural products: Supply of agricultural products depends on natural factors like weather and cannot be increased immediately even if prices rise.
2. Rare articles and antiques: The supply of historical artifacts, rare paintings, and antiques is fixed and cannot be increased with a rise in their price.

Teacher's Note:
a) Exceptions refer to situations where the law of supply does not hold true (inverse or zero relationship between price and supply).
b) Urgent need for cash is another valid exception.

(ii) Explain any four factors affecting Price Elasticity of Demand. [6 Marks]

Answer:
1. Availability of substitutes: Commodities with close substitutes (e.g., tea and coffee) have elastic demand, while goods without substitutes (e.g., salt) have inelastic demand.
2. Nature of the commodity: Necessities (e.g., medicines, food grains) have inelastic demand, whereas luxury goods (e.g., ACs, branded cars) have elastic demand.
3. Number of uses: Goods with multiple uses (e.g., electricity, milk) have more elastic demand than goods with single uses.
4. Time period: Demand is generally more elastic over the long run because consumers have time to find substitutes, whereas short-run demand is inelastic.

Teacher's Note:
a) Explain four distinct determinants clearly with examples.
b) Postponement of consumption is another valid point.

Question 12

(i) Briefly discuss any two precautions to be taken while calculating national income by the Value Added method. [2 Marks]

Answer:
1. Avoid double counting: Only the value of final goods and services must be included, and intermediate consumption should be excluded.
2. Sale and purchase of second-hand goods: The value of second-hand goods should not be included as they are already accounted for in the year of their original production (however, brokerage/commission on sale is included).

Teacher's Note:
a) Imputed rent of self-occupied houses must be included.
b) Capital gains from the sale of shares and bonds are excluded.

(ii) Calculate GDP_mp and NNP_fc by Value Added method from the following data. [6 Marks]

Answer:
1. GVAFC (Sum of NVA_fc of all sectors + Depreciation):
NVA_fc = 6000 + 4000 + 4500 = Rs. 14,500 crores.
2. GDP_mp = NVA_fc + Depreciation + Net Indirect Taxes
= 14,500 + 500 + 150 = Rs. 15,150 crores.
3. NNP_fc = GVAFC + Net Factor Income from Abroad (NFIA)
= 14,500 + ( - 50) = Rs. 14,450 crores.

Working Notes:
1. GVAFC = Sum of NVA_fc in Primary, Secondary and Tertiary sectors = 6000 + 4000 + 4500 = Rs. 14,500 crores.
2. GDP_mp = GVAFC + Depreciation + NIT = 14,500 + 500 + 150 = Rs. 15,150 crores.

Teacher's Note:
a) Ensure correct formula application for converting factor cost to market price aggregates.
b) Intermediate consumption is already adjusted when NVA is given directly.

OR

(i) With the help of a diagram, show the circular flow of income in a two-sector model with savings and investment. [2 Marks]

Answer:
1. [Figure: Circular flow diagram showing households and firms with financial sector / capital market acting as an intermediary where savings (S) flow from households to financial market and investment (I) flows from financial market to firms, balancing leakages and injections.]
2. In a two-sector model with savings and investment, equilibrium requires that total leakages (savings) equal total injections (investment).

Teacher's Note:
a) Clearly label households, firms, financial market, savings, and investment.
b) Savings act as a leakage and investment as an injection.

(ii) Calculate National Income and Operating Surplus from the following data: [6 Marks]

Answer:
1. National Income (NNP_fc) = Expenditure Method:
GDP_mp = Private final consumption expenditure (iii) + Government final consumption expenditure (i) + Net domestic capital formation (iv) + Net exports (vii)
GDP_mp = 1000 + 900 + 300 + ( - 75) = Rs. 2,125 crores.
NDP_fc = GDP_mp - Net indirect taxes (ix) - Depreciation (0) = 2125 - 265 = Rs. 1,860 crores.
National Income (NNP_fc) = NDP_fc + NFIA (ii) = 1860 + 210 = Rs. 2,070 crores.
2. Operating Surplus = Rent (vi) + Interest (viii) + Profits (v) + Royalty (0)
Operating Surplus = 190 + 200 + 320 = Rs. 710 crores.

Working Notes:
1. GDP_mp = 1000 + 900 + 300 - 75 = Rs. 2,125 crores.
2. NNP_fc = GDP_mp - NIT + NFIA = 2125 - 265 + 210 = Rs. 2,070 crores.

Teacher's Note:
a) Operating Surplus comprises rent, interest, profit, and royalty.
b) Double-check expenditure method components and adjustments for NIT and NFIA.

Question 13

Read the passage given below and answer the questions that follow.

A change in the rupee-dollar exchange rate represents the change in external value of rupee. The value of rupee, in terms of dollar, has been falling continuously over a period of time. Since rupee-dollar exchange rate is determined by the demand for and supply of dollars, it is possible that the value of rupee slides further if appropriate measures are not taken.
The Reserve Bank of India, in-charge of both internal and external value of rupee, has repeatedly emphasised on maintaining stability in the foreign exchange market.

(i) What kind of exchange rate system is being referred to in the passage? [1 Mark]

Answer:
Flexible exchange rate system (or floating exchange rate system).

Teacher's Note:
a) Determined by market forces of demand and supply.
b) RBI intervenes to manage excessive volatility.

(ii) 'The value of rupee, in terms of dollar, has been falling continuously over a period of time.' Give the economic term for this phenomenon. [1 Mark]

Answer:
Depreciation of the rupee.

Teacher's Note:
a) Depreciation means a fall in the market value of domestic currency in terms of foreign currency.
b) Devaluation refers to official reduction under fixed exchange rate systems.

(iii) How would this phenomenon affect balance of payments? [2 Marks]

Answer:
1. Depreciation makes domestic goods cheaper for foreign buyers, leading to an increase in exports.
2. Simultaneously, imports become expensive for domestic residents, leading to a decrease in imports, which helps improve the trade deficit and balance of payments over time.

Teacher's Note:
a) Exports rise and imports fall due to depreciation.
b) This creates a correcting effect on adverse balance of payments.

(iv) Explain the role of Reserve Bank of India, as a custodian of foreign exchange. [2 Marks]

Answer:
1. The RBI maintains and manages the country's official foreign exchange reserves.
2. It intervenes in the foreign exchange market by buying or selling foreign currencies (managed floating) to prevent wide fluctuations and ensure stability in the external value of the rupee.

Teacher's Note:
a) RBI acts as the custodian of foreign exchange reserves.
b) It ensures exchange rate stability through open market interventions.

(v) Suggest any two measures to correct adverse Balance of Payments. [2 Marks]

Answer:
1. Promotion of exports through subsidies and tax concessions to earn more foreign exchange.
2. Imposition of import duties, quotas, and tariffs to restrict imports and curb outflow of foreign exchange.

Teacher's Note:
a) Measures include export promotion and import substitution.
b) Monetary and fiscal policy contraction can also reduce domestic demand for imports.