CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost – MCQs

CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost – MCQs

MULTIPLE CHOICE QUESTIONS

Theory of Production

1. The term production in economics means-
(a) creation of a physical product only
(b) rendering of a service only
(c) creation of economic utilities
(d) none of the above

2. Which of the following is considered production in economics?
(a) Singing a song in a birthday party
(b) Run for fun
(c) Giving tuitions
(d) Helping an old man to cross road

3. Making use of personal skill of doctors, lawyers, actors, etc. results in the creation of-
(a) form utility
(b) place utility
(c) personal/service utility
(d) time utility

4. Making available materials at times when they are normally not available is called conferring of utility of-
(a) place
(b) time
(c) form
(d) service

5. Which of the following statements incorrect?
(a) Man cannot create matter.
(b) Production is an activity of making some-thing material only.
(c) Production can be defined as addition of utility.
(d) Production is any economic utility which is directed towards the satisfaction of the wants of the people.

6. Economic utilities may be created or added
(a) By changing the form of raw materials into finished goods
(b) By transporting goods from one place to another
(c) By making things available when they are required
(d) All the above

7. Which of the following is not a feature of land
(a) Free gift
(b) Limited in quantity
(c) Mobile factor
(d) Indestructible

8. The factor of production which has no reserve price is-
(a) land
(b) labour
(c) capital
(d) all the above

9. Which of the following can be considered as labour in economics-
(a) Singing for pleasure
(b) A teacher teaching his own child at home
(c) Looking after, a sick friend
(d) A teacher teaching in school

10. The supply of land is-
(a) Unlimited
(b) Increased
(c) Decreased
(d) Limited

11. Land in economics means-
(a) Material and Non-material goods
(b) Minerals under the surface of earth
(c) All natural resources available to man for producing wealth
(d) All the above

12. Labour is-
(a) Active factor
(b) Passive factor
(c) Alternative factor
(d) None of the above

13. Which factor loses its value of it cannot find a purchaser today-
(a) Land
(b) Labour
(c) Capital
(d) All the above

14. Supply curve of labour is-
(a) upward sloping
(b) horizontal
(c) backward bending
(d) vertical

15. Income effect when wage rises means
(a) work hours rise
(b) work hours fall
(c) work hours remain constant
(d) work hours first fall and then rise

16. Which of the following statements is not true?
(a) Capital is a produced means a production.
(b) Capital is a man made instruments of production.
(c) Capital is a primary factor of production.
(d) Machine tools, factories, dams, canals, etc. are examples of capital.

17. Tools, machines, etc. are included in-
(a) circulating capital
(b) fixed capital
(c) sunk capital
(d) human capital

18. The capital which belongs to the society as a whole is called-
(a) Individual Capital
(b) Human Capital
(c) Social Capital
(d) Floating Capital

19. Raw material is an example of –
(a) Circulating Capital
(b) Fixed Capital
(c) Tangible Capital
(d) Real Capital

20. Which capital includes education, training, skill, ability?
(a) Human Capital
(b) Individual Capital
(c) Social Capital
(d) Real Capital

21. Goodwill, patent rights, etc. are examples of –
(a) Tangible Capital
(b) Real Capital
(c) Intangible Capital
(d) Human Capital

22. Which of the following statements is true?
(a) Capital Formation involves production of more capital goods.
(b) Capital Formation is also called investment.
(c) To accumulate capital goods, some current consumption is to be sacrificed.
(d) All the above

23. Surplus of production over consumption in an economy in a year is called-
(a) Capital
(b) Capital formation
(c) Stock
(d) Savings

24. The third stage of capital formation is-
(a) creation of savings
(b) mobilization of savings
(c) distribution of savings
(d) investment of savings

25. With an increase in income-
(a) the propensity to consume increases
(b) the propensity to save increases
(c) the propensity to consume remains constant
(d) the propensity to save falls

26. A ____ country has greater ability to save.
(a) poor
(b) developing
(c) rich
(d) under developed

27. An individual’s saving level depends upon-
(a) ability to save
(b) willingness to save
(c) both ‘a’ & ‘b’
(d) only ‘a’

28. The factor which mobilize land, labour and capital; combines them in the right proportion and then organizes the production activity is –
(a) Owner
(b) Labour
(c) Manger
(d) Entrepreneur

29. The reward of all factors of production is usually predetermined (pre-fixed) except-
(a) Land
(b) Labour
(c) Capital
(d) Entrepreneur

30. The reward of an entrepreneur for his efforts and risk-taking is-
(a) Interest
(b) Profit/Loss
(c) Rent
(d) Wages

31. The reward of capital is-
(a) Rent
(b) Interest
(c) Wages
(d) Profit

32. The reward of an entrepreneur i.e. profit is –
(a) predetermined income
(b) residual income
(c) constant income
(d) none of the above

33. The risks which can be anticipated and can be insured against are called-
(a) Insurable risks
(b) Non-Insurable risks
(c) Unforeseeable risks
(d) None of the above

34. The risks like change in demand for a commodity, the cost structure, fashion, technological, etc. which an entrepreneur has to bear are called-
(a) Uncertainties
(b) Insurable risks
(c) Foreseeable risks
(d) Both ‘a’ and ‘c’

35. According to _____ innovations introduced by an entrepreneur give rise to profits.
(a) Prof. F.H. Knight
(b) Prof. Joseph A. Schumpeter
(c) Prof. Paul Samuelson
(d) Dr. Alfred Marshall

36. Which of the following statement is incorrect?
(a) Mobilisation of savings is done through network of banking and other financial institutions.
(b) Land lacks geographical mobility but has occupational mobility.
(c) Entrepreneur is also called the organizer, § the manager or the risk taker.
(d) Labour can be stored.

37. Labour is ____
(a) Human factor
(b) Perishable
(c) inseparable from labour
(d) All the above

38. Leather in a shoe factory is
(a) Fixed capital
(b) Sunk capital
(c) Floating Capital
(d) Circulating capital

39. _____ Cannot be stored.
(a) Land
(b) Labour
(c) Capital
(d) Both a & b

40. Capital that can be used for several purposes or by several industries is
(a) Working capital
(b) Social capital
(c) Floating capital
(d) Human capital

41. Addition to the stock of capital goods in a country means
(a) Capital reduction
(b) Investment
(c) Capital formation
(d) Both (b) & (c)

42. Find the odd out
(a) Capital is man-made
(b) All capital is wealth
(c) Capital is durable
(d) Mobilisation of savings

43. Consider the following groups of items:
(i) Factory buildings
(ii) Plant and Machinery
(iii) Stocks of raw materials
(iv) Wage bills
Which of these are known as working capital?
(a) i and ii
(b) iii and iv
(c) i, ii and iii
(d) ii, iii and iv

44. The production function means relationship between
(a) Cost of input
(b) Cost of output
(c) Physical input to physical output
(d) Wages of profit

45. A production function is an expression of _____ relation between inputs and outputs.
(a) monetary
(b) economic
(c) quantitative
(d) qualitative

46. A short run production function is one in which-
(a) at least one factor is fixed
(b) all factors are fixed
(c) all factors are variable
(d) at least one factor is variable

47. Technically efficient combinations of inputs of those which-
(a) minimizes wastage
(b) maximizes profits
(c) minimises cost
(d) maximises reve¬nue

48. In the short period there is no change in factors.
(a) fixed
(b) variable
(c) human
(d) physical

49. In the period all factors are variable.
(a) short
(b) long
(c) market
(d) secular

50. In its original for Cobb-Douglas production function applies to-
(a) individual manufacturing firm
(b) individual firm
(c) whole of manufacturing in US
(d) None of the above

51. Cobb-Dauglas production function revealed that the increase in the manufacturing production was contributed by labour and capital respectively by-
(a) 3/4 th and l/4 th
(b) l/4 th and 3/4 th
(c) 2/3 rd and l/3 rd
(d) None of the above

52. Cobb-Douglas production-
(a) is linear
(b) is homogeneous
(c) shows constant returns to scale
(d) all the above

53. Cobb-Douglas production function exhibits returns to scale.
(a) increasing
(b) diminishing
(c) constant
(d) negative

54. The above equations shows that-
CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost - MCQs 54

(a) One factor is fixed and another variable
(b) Both factors are fixed
(c) Both factors are variable
(d) Both factors are semi-variable

55. The main difference between the short period/ run and the long period/run is that –
(a) in the short period all inputs are fixed, while in the long period all inputs are variable.
(b) in the short run at least one input is fixed
(c) in the short run firm varies the quantities of all inputs
(d) in the long run, the firm uses the existing plant capacity

56. The law of variable proportions is a law of production which takes place in the-
(a) market period
(b) short run
(c) long run
(d) very long period

57. All but one are the assumptions of the law of variable proportions. Which one is not?
(a) There is only one factor which is variable
(b) All units of variable factor are homogeneous
(c) State of technology remains constant
(d) Applies in long run

58. When there is a fixed factor and a variable factor, then the law would be-
(a) law of increasing returns to scale
(b) law of constant returns to scale
(c) law of decreasing returns to scale
(d) law of variable proportions

59. The total quantity of goods and services produced by a firm with the given inputs during a specified period of time is called-
(a) Total Product
(b) Average Product
(c) Marginal Product
(d) Labour Product

60. The amount of output produced per unit of variable factor employed is called-
(a) Total Product
(b) Average Product
(c) Marginal Product
(d) Labour Product

61. The change in TP resulting from the employment of an additional unit of a variable factor is called-
(a) Total Product
(b) Marginal Product
(c) Average Product
(d) All the above

62. The average product of a variable input can be described as-
(a) total product divided by the number of units of variable input
(b) additional output resulting from employment of additional unit of variable factor
(c) the total quantity of goods produced with all inputs
(d) None of the above

63. TP of variable factor is –
CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost - MCQs 63

(a) only i
(b) only i and iii
(c) only ii
(d) only ii and iv

64. Initially TP curve increases at an-
(a) increasing rate
(b) diminishing rate
(c) constant rate
(d) maximum rate

65. As more units of variable factor is employed it will-
(a) always increase the TP
(b) always decrease the TP
(c) not always increase the TP
(d) always result in constant TP

66. As long as TP is positive, AP is-
(a) negative
(b) constant
(c) positive
(d) falling

67. AP curve is-
(a) U-Shaped
(b) S-Shaped
(c) inverted U-Shaped
(d) inverted S-Shaped

68. MP curve is the slope of at each point.
(a) AP curve
(b) TP curve
(c) TR curve
(d) AR curve

69. When TP is maximum, MP is –
(a) rising
(b) falling
(c) zero
(d) negative

70. When TP is falling, MP is –
(a) zero
(b) rising
(c) negative
(d) falling

71. MP curve is –
(a) U – shaped
(b) S- shaped
(c) inverted U – shaped
(d) inverted S – shaped

72. When TP is maximum, the slope of TP curve is –
(a) rising
(b) falling
(c) constant
(d) zero

73. TP is the area under the –
(a) AP curve
(b) AR curve
(c) MP curve
(d) MR curve

74. MP is positive so long as TP is-
(a) increasing
(b) decreasing
(c) maximum
(d) negative

75. When TP is rising-
(a) AP and MP are rising
(b) AP and MP are falling
(c) AP and MP may be either rising or falling
(d) Only MP is either rising or falling

76. When MP is negative-
(a) TP and AP are falling
(b) TP and AP are rising
(c) TP and AP are constant
(d) Only TP is falling

77. When MP is at a maximum-
(a) AP = MP and TP is rising
(b) AP < MP and TP is rising
(c) AP > MP and TP is rising .
(d) AP and TP are falling

78. If MP goes on increasing, it should be understood that law of _____ is applying.
(a) increasing returns
(b) decreasing returns
(c) constant returns
(d) diminishing returns

79. If MP goes on decreasing it should be understood that law of _____ is in operation.
(a) decreasing cost
(b) constant cost
(c) average cost
(d) increasing cost

80. When MP is falling, TP will increase at the rate.
(a) constant
(b) increasing
(c) diminishing
(d) normal

81. When average product is maximum, marginal product is equal to-
(a) total product
(b) zero
(c) one
(d) average product

82. MP curve cuts AP curve from-
(a) its top
(b) below
(c) both ‘a’ and ‘b’
(d) neither ‘a’ nor ‘b’

83. The marginal product is maximum at the .
(a) equilibrium point
(b) inflection point
(c) focal point
(d) optimum point

84. The stage of production where the marginal product is greater than the average product is-.
(a) stage of increasing returns
(b) stage of diminishing returns
(c) stage of negative returns
(d) stage of constant returns

85. Which of the following statements reveal the diminishing returns?
(a) The MP of a factor is constant
(b) The MP of a factor is positive and rising
(c) The MP of a factor is falling and negative
(d) The MP of a factor is positive but falling

86. The MP curve is above the AP curve when the average product-
(a) is constant
(b) is falling
(c) is increasing
(d) is negative

87. The actual stage of production under the law of variable proportions is-
(a) stage of increasing returns
(b) stage of diminishing returns
(c) stage of negative returns
(d) stage of either increasing or diminishing returns

88. Reason for rise in both AP and MP curves is-
(a) under utilization of the fixed factor
(b) under utilization of the variable factor
(c) over utilization of the fixed factor
(d) over utilization of the variable factor

89. Reason for fall in both AP and MP curves is-
(a) under utilization of the fixed factor
(b) over utilization of the fixed factor
(c) under utilization of the variable factor
(d) full utilization of the variable factor

90. When AP and MP curves are rising, MP curve rises-
(a) at a faster rate
(b) at a lower rate
(c) at normal rate
(d) at constant rate

91. When AP and MP curves are falling, MP curve falls-
(a) at a faster rate
(b) at a lower rate
(c) at normal rate
(d) at constant rate

92. When AP and MP curves are rising, AP curve _____
(a) lies above the MP curve
(b) lies below the MP curve
(c) co-inside with the MP curve
(d) none of the above

93. The reason for increasing returns to factor is-
(a) Indivisibility of fixed factor
(b) Division of labour
(c) Specialisation
(d) All the above

94. When the ideal factor ratio is violated in short run-
(a) diminishing returns to a factor set in
(b) MP of the variable factor starts falling
(c) TP increases at a diminishing rate
(d) All the above

95. AP increases so long as-
(a) MP > AP
(b) MP < AP
(c) MP = AP
(d) MP is zero

96. AP may continue to even when MP starts declining.
(a) rise
(b) fall
(c) remain constant
(d) fluctuate

97. MP curve cuts AP curve from its top, this means-
(a) MP < AP
(b) MP > AP
(c) MP is rising
(d) MP is zero

98. Increasing MP implies TP is increasing at-
(a) increasing rate
(b) constant rate
(c) diminishing rate
(d) fluctuating rate

99. MP of labour becoming negative implies-
(a) excessive employment
(b) disguised unemployment
(c) over exploitation of the fixed factor
(d) all the above

100. TP starts declining only when-
(a) MP is rising
(b) MP is falling
(c) MP is negative
(d) MP is constant

101. MP of the variable factor may be zero or negative, but AP continue to be-
(a) constant
(b) positive
(c) negative
(d) zero

102. AP decreases when-
(a) MP = AP
(b) MP > AP
(c) MP < AP
(d) None of the

Use the following information of answer questions 103 to 105
CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost - MCQs 102

103. In the above equations the fixed factor is-
(a) Labour
(b) Capital
(c) Output
(d) both ‘a’ & ‘b’

104. The MP of variable factor is-
(a) 4
(b) 5
(c) 6
(d) 7

105. In the equation (i) the AP of the variable factor is-
(a) 12 units
(b) 14
(c) 10
(d) 16

Use the following data to answer questions 106 and 107
CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost - MCQs 105
TP is Zero level of employment

106. The total product when 5 units of labour are employed is-
(a) 60
(b) 76
(c) 90
(d) 96

107. The average product of 3rd unit of labour is-
(a) 21
(b) 20
(c) 19
(d) 18

Use the following data to answer questions 108 and 109
CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost - MCQs 107

108. The total product of 3 units of labour is-
(a) 30
(b) 50
(c) 90
(d) 120

109. The marginal product of 5th unit of labour is-
(a) 10
(b) 20
(c) 30
(d) 40

Use the following data to answer questions 110 and 112
CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost - MCQs 109

110. What is the total product when 2 hours of labour are employed?
(a) 160
(b) 200
(c) 360
(d) 540

111. What is the average product of the first 2 hours
(a) 250
(b) 260
(c) 270
(d) 280

112. What is the marginal product of the 3rd hour of labour?
(a) 160
(b) 180
(c) 120
(d) 200

113. Find the odd one out-
(a) law of diminishing returns to factor
(b) law of returns to scale
(c) cost function
(d) production function

114. The production process described below exhibits
CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost - MCQs 114

(a) increasing marginal product of labour
(b) increasing returns to scale
(c) diminishing marginal product of labour
(d) constant marginal product of labour

115. Diminishing marginal returns for the first four doses of inputs when all factors of production are increased in the same proportion is revealed by the total product sequence
(a) 50, 50, 50, 50
(b) 50, 100, 150, 200
(c) 50, 90, 120, 140
(d) 50, 110, 180, 260

116. The behaviour of output in response to a change in the scale is studied in the-
(a) Market Period
(b) Short Period
(c) Long Period
(d) Very Short Period

117. In the theory of production the long runs is defined as the period of time in which-
(a) All factors can be varied
(b) No factors can be varied
(c) Some factors are fixed but other can be varied.
(d) None of these

118. If all inputs are increased in the same proportion, then it is a case of-
(i) Short run production function
(ii) Long run production function
(iii) Laws of Variable Proportions
(iv) Laws of Returns to Scale
(a) i and ii only
(b) ii and iii only
(c) i and iv only
(d) ii and iv only

119. In the long run-
(a) all inputs are fixed
(b) one input is fixed and one input is variable
(c) all inputs are variable
(d) two inputs are variable and one input is fixed

120. Law of increasing returns to scale will apply if-
(a) economies exceed the diseconomies
(b) economies and diseconomies are equal
(c) diseconomies exceed the economies
(d) in all the above situations

121. Internal economies accrue when-
(a) an industry develops
(b) an economy grows
(c) foreign trade develops
(d) a firm expands production in long run

122. External economies accrue when-
(a) a firm expands
(b) an individual progress
(c) an industry expands
(d) trade expands

123. If we have constant returns to scale and we increase both labour and capital by 10% output will also increase by-
(a) 20%
(b) 30%
(c) 10%
(d) 5%

124. Find the odd one out-
(a) All factors are variable
(b) A firm can experience returns to scale
(c) Management can be reorganized
(d) Law of variable proportions

125. Economies of scale means-
(a) reduction in per unit cost of production
(b) reduction in per unit cost of distribution
(c) addition to the per unit cost of production
(d) reduction in the total cost of production

126. Linear Homogeneous Production Function is-
(a) Increasing Returns to Scale
(b) Constant Returns to Scale
(c) Diminishing Returns to Scale
(d) Negative Returns to Scale .

127. Internal economies relate to
(a) Marketing economies
(b) Financial economies
(c) Managerial economies
(d) All the above

128. In which of the following cases there is less than proportionate increase in output when all factors are increase-
(a) Constant returns to scale
(b) Diminishing returns to scale
(c) Increasing returns to scale
(d) Increasing as well as diminishing returns to scale

129. Problems like difficulties in management, lack of supervision, higher input cost, etc. due to large scale production leads to-
(a) economies of scale
(b) real economies of scale
(c) diseconomies of scale
(d) Both ‘b’ and ‘c’

130. Benefits like improved organization, division of labour and specialization, better supervision and control, etc. enjoyed by a firm when it expands production leads to-
(a) economies of scale
(b) real economies
(c) diseconomies of scale
(d) both ‘a’ and ‘b’

131. _____ economies are common to all the firms in an industry and shared by many firms or industries.
(a) internal
(b) external
(c) real
(d) all the above

132. _____ economies are related to an individual firm’s own cost reduction effort.
(a) internal
(b) external
(c) real
(d) all the above

133. means all those factors which raise the cost of production per unit when production is expanded by a firm beyond optimal capacity.
(a) External economies
(b) Internal economies
(c) External diseconomies
(d) Internal diseconomies

134. Economies of localization, cheaper inputs, growth of ancillary industries, etc. are examples of-
(a) Internal economies
(b) Internal diseconomies
(c) External economies
(d) External diseconomies

135. _____ economies can be of long term in nature
(a) nature
(b) internal
(c) production
(d) real

136. _____ shows all the input combinations that will produce the same level of output.
(a) Isoquant
(b) Isocost line
(c) Expansion Path
(d) None of the above

137. Isoquant is also called as _____
(a) production indifference curve
(b) is-product curve
(c) equal-product curve
(d) all the above

138. All of the following are the properties of isoquant except-
(a) An isoquant is downward sloping curve
(b) A higher isoquant represents a higher level of output
(c) Two isoquants can intersect each other
(d) Isoquants are convex to the origin

139. An isoquant slopes-
(a) downward to the left
(b) downward to the right
(c) upward to the left
(d) upward to the right

140. In the context of input-output relation _____ means same output produced from different combinations of inputs.
(a) law of variable proportions
(b) ridge lines
(c) law of constant returns
(d) isoquant

141. A higher isoquants denotes a –
(a) higher level of output
(b) lower level of output
(c) same level of output
(d) none of the above

142. An isoquant is _____ indifference curve
(a) buyer’s
(b) producer’s
(c) trader’s
(d) economy’s

143. The rate of which one factor of production can be substituted for the other is known as-
(a) marginal rate of substitution
(b) marginal opportunity cost
(c) marginal rate of technical substitution
(d) marginal cost

144. The slope is iso-product curve show-
(a) MRSxy
(b) MRTSxy
(c) elasticity of an iso-product curve
(d) none of the above

145. An isoquant is-
(a) downward sloping and concave to origin
(b) downward sloping and convex to origin
(c) downward sloping straight line curve
(d) horizontal straight line curve

146. The convexity of isoquants is due to the _____ MRTSxy
(a) increasing
(b) constant
(c) diminishing
(d) none of the above

147. Convexity of an isoquant implies _____ slope.
(a) diminishing
(b) increasing
(c) constant
(d) none of the above

148. MRTSxy is constant then an isoquant is _____
(a) downward sloping and convex to origin
(b) downward sloping straight line curve
(c) right angled curve
(d) downward sloping and concave to origin

149. MRTSxy is increasing then an isoquant is
(a) downward sloping and convex to origin
(b) downward sloping straight line curve
(c) right angled curve
(d) downward sloping and concave to origin

150. A right-angled isoquant denotes that the
(a) two factors are perfect substitutes of each other
(b) two factors are imperfect substitutes of each other
(c) two factors are perfect complements of each other
(d) position between perfect substitutes and perfect complements

151. The MRTSxy is constant if two factors are _____ of each other
(a) perfect substitutes
(b) perfect complements
(c) imperfect substitutes
(d) imperfect complements

152. MRTSxy =
CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost - MCQs 152

153. Increasing MRTSxy could happen only when the _____ operate.
(a) law of increasing returns
(b) law of diminishing returns
(c) law of constant returns
(d) law of negative returns

154. Which of the following isoquant indicates that the two factors ‘X’ and ‘Y’ are imperfect substitutes of each other?
CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost - MCQs 154

155. At a point near the right hand below the corner of isoquant curve, the MRTSxy of factor ‘X’ for factor ‘Y’ is –
(a) very high
(b) very low
(c) zero
(d) neither high nor low

156. Convexity of an isoquant denotes that the two factors are _____ of each other.
(a) perfect complements
(b) imperfect complements
(c) perfect substitute
(d) imperfect substitutes

157. In order to increase output, if both inputs mustbe increased in fixed proportion, it follows that both the inputs are ____ of each other.
(a) perfect substitutes
(b) perfect complements
(c) imperfect substitutes
(d) imperfect complements

158. _____ is the locus of various combinations of two inputs which a producer can buy with the given outlay and the prices of two inputs.
(a) Isocost line
(b) Opportunity cost line
(c) Production line
(d) Profit line

159. Isocost line is also known as _____
(a) outlay line
(b) price line
(c) producer’s budget line
(d) all the above

160. If the expenditure to be done on purchase of factors increases, the prices of both inputs remaining the same, the firm’s isocost line will –
(a) shift downward
(b) shift upward
(c) remain the same
(d) none of the above

161. The slope of the isocost line can change when the outlay remains the same but the price of –
(a) only one input change
(b) both the inputs change
(c) both inputs remain unchanged
(d) Both ‘a’ and ‘b’

162. The iso-cost line in production optimization is _____
(a) Vertical straight line
(b) Straight line sloping upward towards right
(c) Straight line sloping downwards towards right
(d) Horizontal straight line

163. The slope of isocost line with factor ‘Y’ on the vertical axis and factor ‘X’ on the horizontal axis is –
CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost - MCQs 163

164. At equilibrium point, a particular isoquant _____ to isocost line
(a) tangent
(b) perpendicular
(c) parallel
(d) concave

165. Where the slope of isoquant = the slope of isocost line, it is the _____ combination of inputs.
(a) maximum cost
(b) least cost
(c) balanced cost
(d) cost-production

166.
CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost - MCQs 166

(a) consumer is in equilibrium
(b) consumer is not in equilibrium
(c) producer is in equilibrium
(d) producer is not in equilibrium

167. Where the isocost line is tangent to an isoquant-
(a) equal amount of factors give equal output
(b) the prices of the factors are equal
(c) the ratio of prices of the two factors equal MRTS
(d) none of the above

168. All but one of the following statements are correct. Find the incorrect statement.
(a) The word isoquant means equal quantities.
(b) The slope of isoquant is called MRTS.
(c) The producer is at equilibrium where MRTSxy = px / py 
(d) A set of isoquant curves is called isocost map.

169. If there is perfect substitution between two factors of production the shape of isoquant is-
(a) linear
(b) non-linear
(c) positively sloped
(d) right angled

170. Condition for the producer’s equilibrium is-
(a) Isoquant should be tangent to the isocost line
(b) At tangency point, isoquant should be convex to origin
CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost - MCQs 170
(d) all the above

171. Technically efficient combinations of inputs is those which-
(a) minimizes cost
(b) minimizes loss
(c) maximizes profits
(d) maximizes revenue

172. Internal economies and diseconomies of scale occur due to _____ causes.
(i) endogenous
(ii) exogenous
(iii) internal
(iv) external
(a) i and ii
(b) iii and iv
(c) i and iii
(d) ii and iv

173. External economies and diseconomies of scale occur due to _____
(a) endogenous
(b) exogenous
(c) internal
(d) both (b) and (c)

174. When a large firm takes up advertising and grants higher margin to retailers, it is called-
(a) technical economies
(b) managerial economies
(c) marketing economies
(d) financial economies

175. When a firm’s dependence on external sources of funds increase and it finds difficulty to repay, it is a case of –
(a) financial diseconomies
(b) financial economies
(c) managerial diseconomies
(d) technical diseconomies

176. A firm uses two inputs, labour (L) and capital (K). The firm produces and sells a given output. You have the following information PL = ₹40; PK = ₹ 100; MPL = 40; MPK = 40. What would you say about the firm?
(i) That the firm is operating efficiently
(ii) That, the firm is not operating efficiently
CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost - MCQs 176
(a) Only i
(b) Only ii
(c) i and iii
(d) ii and iv

177. A firm can hire additional labour @ ₹ 50 per hour. By hiring 10 more hours of labour output will increase by 3 units. If per unit sells for ₹ 200, should the firm hire the labour? Why?
(a) No ∴ MP of labour < price of labour
(b) Yes ∴ MP of labour > price of labour
(c) Neither ‘a’ or ‘b’
(d) Only ‘a’

178. If MRTSLK,equals 2, then the MPK / MP1
(a) 1/2
(b) 2/1
(c) 1/1
(d) 0/1

179. Suppose that we are producing holes. The only way to get a hole is to use one man and one shovel. What shall be the shape of isoquants?
(a) downward sloping and convex to origin
(b) downward sloping straight line curve
(c) downward sloping and concave to origin
(d) light angled curve

180. You are doing homework. The inputs needed to produce homework is blue ink pen or black ink pen. What shall be the shape of isoquants?
(a) downward sloping and convex to origin
(b) downward sloping straight line curve
(c) downward sloping and concave to origin
(d) right angled curve

181. When 5 units of variable factor are combined with 5 units of fixed factor and MP remains constant at 10 units. Find TP
(a) 30
(b) 40
(c) 50
(d) 60

182. The production function of a firm is- Q = 5L 1/2 K 1/2 What would be the maximum possible output the firm can produce with 100 units of L and 100 units of K.
(a) 500
(b) 400
(c) 600
(d) None of the above

183. The production function of a firm is- Q = 2 L2 KFind the output the firm can produce with 5 units of L and 2 units of K.
(a) 100
(b) 200
(c) 300
(d) 150

184. What will be the output with 10 units of L and 10 units of K, if the production function is Q = 5L + 2K production
(a) 50
(b) 60
(c) 70
(d) 80

185. From the following find out AP and MP of 4th unit of Labour.
CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost - MCQs 185

(a) 15 ; 15
(b) 10 ; 15
(c) 10 ; -15
(d) 10 ; -10

Theory of Cost

186. Cost analysis refer to the study of ____ inrelation to different production criteria.
(a) production
(b) cost
(c) price
(d) inputs

187. Cost is a _____ function
(a) direct
(b) derived
(c) both direct and derived
(d) none of the above

188. Theory of costs is restatement of the theory of _____ in monetary terms
(a) demand
(b) consumer’s behaviour
(c) production
(d) all the above

189. _____ costs relate to those costs which involve cash payments by the entrepreneur of the firm.
(a) Accounting
(b) Marginal
(c) Economic
(d) Implicit

190. Accounting costs are also called _____ costs.
(a) economic
(b) implicit
(c) explicit
(d) opportunity

191. Wages paid to labourers, cost of raw-materials purchase, interest on the money borrowed, etc. are examples of _____ cost.
(i) accounting
(ii) implicit
(iii) economic
(iv) explicit
(a) i and ii
(b) iii and iv
(c) ii and iii
(d) i and iv

192. Economic costs includes-
(a) Accounting cost + Explicit cost
(b) Accounting cost + Implicit cot
(c) Fixed cost + Variable cost
(d) Accounting cost + Direct cost

193. Economic costs equals-
(a) Explicit cost + Implicit cost
(b) Fixed cost + Variable cost
(c) Accounting cost + Explicit cost
(d) none of the above

194. _____ costs are the value of foregone opportunities that do not involve any contractual obligation of cash payment.
(a) Explicit
(b) Implicit
(c) Accounting
(d) Hidden

195. _____ includes all payments made to factors of production and opportunity cost.
(a) Accounting costs
(b) Economic costs
(c) Implicit costs
(d) Explicit costs

196. An entrepreneur must recover his _____ cost if he wants to earn normal and abnormal profits.
(a) accounting
(b) implicit
(c) economic
(d) all the above

197. Which of the following are implicit costs?
(i) A shop taken on rent by entrepreneur
(ii) Savings invested to start business
(iii) An individual is both owner and manager of business
(iv) A farmer takes a farm on rent
(a) i and ii
(b) iii and iv
(c) ii and iii
(d) i and iv

198. Which of the following are explicit costs?
(i) A producer borrows money to start a factory
(ii) A producer invests his savings to start a factory
(iii) Wages paid to workers
(iv) An individual is both owner & manager of business
(a) i & ii
(b) iii & iv
(c) i & iii
(d) ii & iv

199. The difference between Economic Cost and Accounting Cost is equal to _____
(a) Implicit cost
(b) Explicit cost
(c) Marginal cost
(d) none of the above

200. All but one is not included in the books of account? Which one?
(a) Taxes
(b) Electricity charges
(c) Cost of raw-material
(d) Imputed salary of owner

201. _____ costs involve actual expenditure of funds on wages, material, rent, etc.
(a) Opportunity
(b) Outlay
(c) Economic
(d) Implicit

202. The cost that a firm incurs in purchasing or hiring, the services of various productive factors is referred to as-
(a) Explicit cost
(b) Fixed cost
(c) Implicit cost
(d) Variable cost

203. Explicit costs are also known as-
(a) Accounting costs
(b) Outlay costs
(c) Out-of-Pocket costs
(d) All the above

204. For an economist, the cost means-
(a) Accounting Costs
(b) Economic Costs
(c) Outlay Costs
(d) Sink Cost

205. Implicit costs are also known an-
(a) Opportunity costs
(b) Imputed costs
(c) Notional costs
(d) All the above

206. Opportunity cost refers to-
(a) money expenses incurred on purchasing or hiring factor, services
(b) the next best alternative
(c) involving cash payment
(d) all the above

207. Opportunity cost refers to-
(a) Cost of opportunity foregone
(b) Comparison between the policy that was chosen and the policy that was rejected
(c) Costs relating to sacrificed alternatives
(d) all the above

208. The cost of one thing in terms of the alternative given up is known as-
(a) Production cost
(b) Accounting cost
(c) Opportunity cost
(d) Real cost

209. Opportunity costs find its application in situations _____
(a) for short run and long run decision making
(b) capital expenditure budgeting
(c) when the supply of input factors is strictly limited
(d) all the above

210. Opportunity costs are a result of _____
(a) Abundance of resources
(b) Scarcity of resources
(c) Technology obsolescence
(d) Cost controls

211. All but one are true about opportunity cost. Which one is not true?
(a) Opportunity costs are recorded in the books of account.
(b) Opportunity costs are applicable to those factors which have alternative uses.
(c) Opportunity cost is also known as ‘alternative cost’
(d) Opportunity cost is also known as ‘displacement cost’

212. If no sacrifice is involved, then the opportunity cost is
(a) very high
(b) very low
(c) zero
(d) both ‘b’ & ‘c’

213. The concept of opportunity cost helps us to know that-
(a) resources are scarce,
(b) resources have alternative uses,
(c) how scarce resources get allocated in different production activities
(d) all the above

214. If you give up a full-time job to go to college, the major cost is –
(a) tuition fees
(b) room and board
(c) the income you could have earned from job
(d) social expenses

215. If a firm’s machinery, has no possible alternative use, its opportunity cost is –
(a) high
(b) low
(c) zero
(d) none of the above

216. If you own a cottage in Shimla which you could rent for August and September to some family for a net gain of ₹ 20,000/- after all expenses and taxes, the opportunity cost of living in it yourself for summer is _____
(a) ₹ 10,000
(b) ₹ 20,000
(c) ₹ 30,000
(d) ₹ 40,000

217. Cost of getting something involves losing something else means –
(i) accounting costs
(ii) opportunity costs
(iii) explicit costs
(iv) implicit costs
(a) Only i
(b) ii and iii
(c) i and iii
(d) ii and iv

218. The costs which can be identified easily and indisputably with a unit of operation, a product, a department, a plant or a process are called-
(i) direct cost
(ii) indirect cost
(iii) traceable cost
(iv) non-traceable cost
(a) Only i
(b) ii and iii
(c) i and iii
(d) ii and iv

219. _____ costs are not identified readily and indisputably to specific product, process, department, plant, operations, etc.
(a) Indirect costs
(b) Traceable costs
(c) Non-traceable costs
(d) Both ‘a’ & ‘c’

220. Accounting process recognizes-
(a) direct costs
(b) indirect cost
(c) only direct costs
(d) both direct and indirect costs

221. The function which gives least cost combinations of inputs corresponding to different levels of output is called-
(a) Production function
(b) Demand function
(c) Cost function
(d) Supply function

222. Cost functions are derived from _____
(a) Demand function
(b) Supply function
(c) Isoquant function
(d) Production function

223. _____ refers to the functional relationship between cost of a product and the various determinants of cost.
(a) Cost function
(b) Isoquant function
(c) Production function
(d) Supply function

224. In a cost function, the total cost or cost per unit is a/an _____
(a) Dependent Variable
(b) Independent Variable
(c) Either ‘a’ or ‘b’
(d) Neither ‘a’ nor ‘b’

225. In a cost function, the prices of factors of production is a/an _____
(a) Dependent Variable
(b) Independent Variable
(c) Either ‘a’ or ‘b’
(d) Neither ‘a’ nor ‘b’

226. Which one of the following is the dependent variable in a cost function?
(a) Level of capacity utilization
(b) Lot size of output
(c) Scale of operations
(d) Total Cost

227. Which one of the following is an independent variable in a cost function?
(a) Cost per unit
(b) Total cost
(c) Managerial efficiency
(d) None of the above

228. All but one are independent variables. Which one is not independent variable?
(a) Quantity of output
(b) Prices of factors of production
(c) Per unit cost of production
(d) Time Period under study

229. Which one of the following is not a determinant of the firm’s cost function?
(a) Price of firm’s output
(b) Production function
(c) Price of labour
(d) Rent paid for use of building

230. The functional relationship between output and the long-run cost of production is called _____
(a) Cost function
(b) Production function
(c) Long-run Cost function
(d) Long-run Production function

231. Law of Returns to Scale forms the basis of _____ cost function
(a) Long-run
(b) Short-run
(c) Fixed
(d) all the above

232. A cost function determines the behaviour of cost with change in _____
(a) Output
(b) Input
(c) Technology
(d) Wages

233. Increase in the size of a firm and its production capacity determines _____
(a) Short-run production function
(b) Long-run production function
(c) Fixed production function
(d) None of the above

234. When a firm operates with a given scale of production it affects the _____
(a) Long-run production function
(b) Fixed production function
(c) Short run production function
(d) All the above

235. Find the odd one-
(a) Output
(b) Price of raw-materials
(c) Time period
(d) Total cost

236. The costs which do not change with the level of output are called :
(i) Supplementary Costs
(ii) Money Costs
(iii) Overhead Costs
(iv) Prime Cost
(a) i & ii
(b) ii & iii
(c) i & iii
(d) i, ii, iii & iv

237. The costs which change with the level of output are called _____
(a) Prime cost
(b) Direct cost
(c) Variable cost
(d) All the above

238. The costs which remain constant at all the levels of output are called _____
(a) Supplementary Costs
(b) Fixed Costs
(c) Overhead Costs
(d) All the above

239. Fixed costs includes-
(a) Historical costs
(b) Explicit costs
(c) Implicit costs
(d) Both ‘b’ and ‘c’

240. At zero level of output _____ cost can never be zero.
(a) Variable
(b) Fixed
(c) Direct
(d) Real

241. At zero level of output cost _____ is zero.
(a) Fixed
(b) Overhead
(c) Variable
(d) Real

242. _____ costs are incurred even before production starts
(a) Fixed
(b) Variable
(c) Real
(d) Marginal

243. _____ costs are incurred after the production actually starts.
(a) Fixed
(b) Variable
(c) Marginal
(d) Real

244. At zero level of output Fixed Cost must be greater than Variable Cost.
(a) False
(b) Partially True
(c) True
(d) None of the above

245. Fixed Costs are a function of _____
(a) Time
(b) Output
(c) Both time and output
(d) All the above

246. Variable Costs are a function of _____
(a) Time
(b) Output
(c) Both time and output
(d) All the above

247. _____ costs are directly or positively related to output.
(a) Fixed
(b) Stair-step
(c) Semi-Variable
(d) Variable

248. When production level is zero, then fixed cost is-
(a) zero
(b) negative
(c) positive
(d) equal to variable cost

249. Which of the following indicates fixed costs?
(a) Electricity Bill
(b) Wages to daily labourers
(c) Expenses on transportation
(d) Interest on fixed capital

250. Variable costs include costs of-
(a) Hiring the building for the factory
(b) Purchase of heavy machines
(c) Pay wages to factory manager
(d) Paying for power and fuel

251. Which one of the following is correct?
(a) TC = TFC × TVC
(b) TC = TFC ÷ TVC
(c) TC = TFC + TVC
(d) TC = TFC – TVC

252. Which cost increases continuously with the increase in production?
(a) Average cost
(b) Marginal cost
(c) Fixed cost
(d) Variable cost

253. When output is increased variable cost also rises initially at _____ rate and later at _____ rate.
(a) diminishing; constant
(b) increasing; constant
(c) diminishing; increasing
(d) constant; increasing

254. The costs which are neither perfectly variable, nor absolutely fixed when output level are changed are _____
(a) Variable costs
(b) Semi Variable costs
(c) Stair Step costs
(d) Prime costs

255. _____ costs are independent of the level of output.
(a) Fixed
(b) Variable
(c) Marginal
(d) Semi Variable costs

256. TVC can be calculated as-
CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost - MCQs 256

257. TC reflect the behaviour of-
(a) TFC
(b) TVC
(c) AFC
(d) None of the above

258. At zero level of output Total Cost of Production is equal to-
(a) Total Fixed Cost
(b) TotalVariableCost
(c) Marginal Cost
(d) Explicit Cost

259. Total Fixed Cost Curve is indicated by a-
(a) Positively sloped Curve
(b) Vertical Straight Line Curve
(c) Horizontal Straight Line Curve
(d) Negatively sloped Curve

260. Total cost curve shoots from a point on Y-axis means-
(a) we are referring to the short period
(b) we are referring to the long period
(c) we are referring to the market period
(d) we are referring to the secular period

261. In the short period, TC = ∑ MC Is it correct ?
(a) Yes
(b) No, as TC = TFC + ∑ MC
(c) Partially correct
(d) none of the above

262. Total Variable Cost initially rises at a diminishing rate due to-
(a) increasing returns to factor
(b) increasing returns to scale
(c) diminishing returns to factor
(d) diminishing returns to scale

263. Total Variable Cost curve shoots upwards from-
(a) a certain point on quantity axis
(b) a certain point on cost axis
(c) origin
(d) Any of the above

264. TFC curve will be a straight line –
(a) Parallel to X-axis
(b) Parallel to Y-axis
(c) Sloping upward from left to right
(d) Sloping downward from left to right

265. Total Variable Cost curve originate from the point of origin means-
(a) Variable cost is zero at zero output
(b) Variable cost has to be incurred at zero output
(c) Variable cost is diminishing
(d) All the above

266. The total cost curve and total variable cost curve are parallel because-
(a) Vertical distance between the two is total fixed cost which is constant
(b) behaviour of total cost depends upon total variable cost
(c) change in total cost is only due to change in variable cost
(d) all the above

267. The vertical distance between TVC and TC is equal to –
(a) Marginal Cost
(b) Total Fixed Cost
(c) Average Variable Cost
(d) None of the above

268. The fixed cost per unit of output is called-
(a) Average Fixed Cost (b) Total Fixed Cost
(c) Marginal Cost (d) None of the above

269. In the short run, when output of a firm increases, its average fixed cost-
(a) rises continuously
(b) falls continuously
(c) remain constant
(d) first rises and then falls

270. Average Fixed Cost curve _____
(a) slope upwards
(b) slope downwards
(c) is TJ’ shaped
(d) is ‘S’ shaped

271. Total Variable Curve is _____ shaped
(a) ‘U’ shaped
(b) Inverted’U’shaped
(c) Inverted ‘S’ shaped
(d) ‘C’ shaped

272. Average Fixed Cost curve is indicated by-
(a) a rectangular hyperbola
(b) a straight line parallel to X-axis
(c) a straight line parallel to Y-axis
(d) a ‘U’ shaped curve

273. Average Fixed Cost curve will never touch-
(a) X-axis
(b) Y-axis
(c) both ‘a’ and ‘b’
(d) none of the above

274. Average Variable Cost equals-
CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost - MCQs 274

275. Which of the following falls continuously?
(a) Marginal Cost
(b) Average Fixed Cost
(c) Average Variable Cost
(d) Total Fixed Cost

276. Average Variable Cost falls as output is expanded-
(a) upto normal capacity output
(b) beyond normal capacity output
(c) all the levels of output
(d) Nothing can be said

277. Beyond normal capacity output, as output in-creases AVC will-
(a) remain constant
(b) decrease
(c) increase
(d) nothing can be said

278. Average variable cost is inversely related to _____
(a) MP of variable factor
(b) AP of variable factor
(c) TP
(d) nothing can be said

279. AVC falls as output increases upto normal ca-pacity due to-
(a) constant returns to scale
(b) diminishing returns to factor
(c) increasing returns to factor
(d) negative returns to factor

280. AVC curve is-
(a) ‘S’ shaped
(b) ‘U’ shaped
(c) Inverted ‘S’ shaped
(d) Inverted’U’shaped

281. _____ and _____ curves start from the same point on Y-axis which is above the origin.
(a) TFC and TVC
(b) TVC and TC
(c) TFC and TC
(d) None of the above

282. Two curves which are inverted ‘S’ shaped are –
(a) TFC and TVC
(b) TVC and TC
(c) TC and AVC
(d) AFC and AVC

283. Average Cost curve is-
(a) Horizontal Line parallel to x-axis
(b) Inverted ‘S’ shaped
(c) Inverted ‘U’ shaped
(d) ‘U’ shaped

284. When output is increased Average Cost at all the levels of output includes both AVC and AFC means that-
(a) AC curve will always lie above the AVC curve
(b) AC curve will always lie below the AVC curve
(c) AC and AVC are parallel to each other with same vertical distance throughout
(d) None of the above

285. The vertical gap between AC and AVC curves as the output increases.
(a) increases
(b) decreases
(c) remain constant
(d) None of the above

286. Since AFC can never be zero, _____ and _____ curves never intersect each other
(a) AC and MC
(b) AC and AFC
(c) AC and AVC
(d) None of the above

287. The two inverted ‘S’ shaped short run cost curves are parallel to each other and maintain a constant distance of ₹ 100. Which cost is indicated by ₹100?
(a) Total Variable Cost
(b) Total Cost
(c) total Fixed Cost
(d) Average Fixed Cost

288. Find the odd one out-
(a) Salary to manager of the company
(b) Payment of insurance premium for insurance of factory
(c) Interest on loan taken from Union Bank
(d) Payment of excise duty

289. Average Fixed Cost falls as the output rises because-
(a) AFC and output are inversely related
(b) AFC and output are positively related
(c) AFC and output are not related
(d) All the above

290. Production at the loss of _____ may continue in short run.
(a) Variable Cost
(b) Fixed Cost
(c) Marginal Cost
(d) Direct Cost

291. Production at the loss of _____ cannot be continued in short run.
(a) Direct Cost
(b) Fixed Cost
(c) Marginal Cost
(d) Variable Cost

292. Which of the following statements is correct of the relationship among the short run costs?
(a) ATC = AFC – AVC
(b) AVC = AFC + ATC
(c) AFC = ATC + AVC
(d) AFC = ATC -AVC

293. Average Total Cost equals-
CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost - MCQs 293

294. Average Total Cost means-
(a) The general average cost
(b) The average cost of producing one unit
(c) The cost of producing the last unit
(d) None of the above

295. Average Cost curve contains in it-
(a) Normal Profits
(b) No Normal Profits
(c) Both ‘a’ and ‘b’
(d) None of the above

296. Average Cost curve is a _____
(a) ‘S’ shaped curve
(b) T shaped curve
(c) ‘U’ shaped curve
(d) Straight Line

297. When expressed as an average, it shows a continuous fall with increase in output-
(a) the average cost of a firm
(b) the fixed cost of a firm
(c) marginal cost
(d) variable cost

298. An addition to the total cost caused by producing one more unit of output is called _____
(a) average cost
(b) marginal cost
(c) fixed cost
(d) variable cost

299. Marginal Cost varies inversely with _____ in short run
(a) average product of variable factor
(b) total product
(c) marginal product of variable factor
(d) both ‘a’ and ‘b’

300. Marginal Curve is _____
(a) ‘U’ shaped
(b) ‘L’ shaped
(c) ‘S’ shaped
(d) downward sloping continuously

301. At the minimum average cost, a firm can produce the _____
(a) maximum output
(b) optimum profit
(c) optimum output
(d) marginal output

302. Any change in Marginal Cost will lead to a change in firm’s _____
(a) total fixed cost
(b) total variable cost
(c) average fixed cost
(d) both ‘a’ and ‘c’

303. With increase in output, the average fixed cost will fall in _____
(a) very long period
(b) long period
(c) market period
(d) short period

304. Marginal Cost is the slope of _____ curve.
(a) total variable cost
(b) total fixed cost
(c) average cost
(d) all the above

305. When total variable cost rises at a diminishing rate, marginal cost _____
(a) rises
(b) remain constant
(c) falls
(d) none of the above

306. When TVC rises at an increasing rate, MC _____
(a) rises
(b) falls
(c) remain constant
(d) none of the above

307. Graphically, the area under the Marginal Cost curve is _____
(a) TFC
(b) TVC
(c) TC
(d) AC

308. Marginal Cost Curve cuts the Average Cost Curve at its _____
(a) falling part
(b) rising part
(c) minimum point
(d) both ‘a’ and ‘b’

309. Marginal Cost is independent of
(a) fixed cost
(b) variable cost
(c) opportunity cost
(d) output

310. All but one are ‘U’ shaped
(a) The AVC curve
(b) The AC curve
(c) The MC curve
(d) The AFC curve

311. Find the Odd One out of the following
(a) TCn – TCn-1
(b) TFCn – TFCn-1
(c) TVCn-TVC-1
(d) TCn-(TVCn-1+TFCn-1) .

312. The point at which marginal cost equate average cost shows-
(a) The maximum Profit
(b) The equilibrium point of the consumer
(c) The plant capacity
(d) The minimum price of the product

313. Which of the following is incorrectly matched?
(a) MC – ‘U’ shaped
(b) AFC – Rectangular Hyperbola
(c) TC – ‘J’ shaped
(d) AVC – ‘U’ shaped

314. If a table shows number of units produced and average cost of each unit, one can calculate-
(a) AVC
(b) MC
(c) TC
(d) All the above

315. Consider the following statements and point the correct one-
(a) If MC curve is below the AC curve, then the AC curve must be rising
(b) When MC curve is above the AC curve, then the AC curve must be falling
(c) MC cost curve cuts the AC curve at the minimum point of AC curve
(d) AC pulls up or down the MC Sp

316. When AC is at its minimum, then-
(a) AC >MC
(b) AC < MC
(c) AC = MC
(d) All the above

317. Per unit cost of a commodity is called-
(a) fixed cost
(b) variable cost
(c) average cost
(d) marginal cost

318. When MC curve cuts AC curve-
(a) AC = MC
(b) AC > MC
(c) AC < MC
(d) both AC and MC are falling

319. What happens to Average Cost when MC > AC?
(a) AC will fall
(b) AC will rise
(c) AC will remain constant
(d) None of the above

320. Marginal cost includes-
(a) fixed cost and variable cost
(b) only fixed cost
(c) only variable cost
(d) None of the above

321. If the marginal cost of production is less than the average cost then-
(a) MC curve lies under the AC curve
(b) AC would be falling
(c) MC cost pulls down AC
(d) All the above

322. MC is greater than AC when production is in a state of _____
(a) increasing returns
(b) diminishing returns
(c) constant returns
(d) None of the above

323. AC is greater than MC, so long as –
(a) AC is falling
(b) AC is rising
(c) AC is constant
(d) All the above

324. MC = AC when –
(a) AC is falling
(b) AC is rising
(c) AC tends to stabilize
(d) None of the above

325. The distance between AC and AVC curves tends to _____ at higher level of output
(a) increase
(b) remain constant
(c) reduce
(d) None of the above

326. ATC and AVC curves tend to intersect at some level of output
(a) Statement is Incorrect
(b) Statement of Correct
(c) Statement is Partially Correct
(d) None of the above

327. The difference between ATC and AVC:
(a) is constant
(b) is total fixed cost
(c) gets narrow as output falls
(d) is the average fixed cost

328. Can AC fall, when MC is rising?
(a) No
(b) Yes
(c) Can’t say
(d) None of the above

329. When MC < AVC, _____ with increase in the output
(a) AVC rises
(b) AV C falls
(c) AVC remain constant
(d) AVC curve cut MC curve

330. When MC becomes equal to AC and AVC, they _____
(a) begin to rise
(b) begin to fall
(c) become constant
(d) Any of the above

331. There will be productive efficiency when-
(a) MC = AC
(b) firm is producing at the minimum point of Average Cost Curve
(c) MC curve cuts the AC curve
(d) All the above

332. Marginal Cost is _____
(a) Always less than the Average Cost
(b) Always more than the Average Cost
(c) Equal to the Average Cost at its minimum point
(d) Never equal to Average Cost

333. The slope of the TVC or total cost curve indicates the-
(a) marginal revenue
(b) average cost
(c) variable cost
(d) marginal cost

334. Falling average cost means-
(a) increasing returns
(b) diminishing returns
(c) constant returns
(d) negative returns

335. _____ costs are important in short run to de¬termine optimum level of output
(a) Fixed
(b) Marginal
(c) Opportunity
(d) Sunk

336. Short run average costs eventually rise because of _____
(a) rising overhead costs
(b) rising factor prices
(c) falling marginal and average productivity
(d) None of these

337. Decreasing average costs for a firm, as it expands plant size and output-
(a) results from decreasing returns to scale
(b) results usually from the effects of increased mechanism and specialization
(c) results from increased complexity of rapid expansion
(d) None of the above

338. MC curve passes through the minimum point of _____
(a) AC curve
(b) TC curve
(c) AVC curve
(d) both ‘a’ and ‘c’

339. Which of the following statements about the relationship between marginal cost and average cost is correct? –
(a) When MC is falling AC is falling
(b) AC equals MC at MC’s lowest point
(c) When MC exceeds AC, AC must be rising
(d) When AC exceeds MC, MC must be rising

340. Salesmen’s commission is an example of –
(a) Fixed cost
(b) Variable cost
(c) Semi-Variable cost Le. fixed over some range and then increase
(d) Stair-Step cost

341. The Long Run Average Curve shows the average cost of production when _____ in supply
(a) all factors are fixed
(b) all factor are variable
(c) some factors are fixed while some are variable
(d) one factor is fixed while all others are variable

342. Which one of the following is called planning curve?
(a) Long Run Average Cost Curve
(b) Short Run Average Cost Curve
(c) Average Variable Cost Curve
(d) Average Total Cost Curve

343. Falling portion Le. negatively sloped portion of the long run average cost curve is because of-
(a) economies of scale
(b) diseconomies of scale
(c) diminishing returns
(d) law of variable proportions

344. Each point on LAC curve is a point of tangency with the corresponding-
(a) short run AC curves
(b) short run AVC curves
(c) short run MC curves
(d) none of the above

345. Which one of the following is also known as PLANT CURVE?
(a) LAC curve
(b) SAC curve
(c) AVC curve
(d) ATC curve

346. The LAC curve helps the firm to make choice about size of plant for producing a particular output at _____
(a) Optimum Cost
(b) Minimum Cost
(c) Maximum Cost
(d) Nothing can be said

347. Which of the following is correct regarding Long Run Average Cost curve?
(i) It shows least cost of producing each level of output
(ii) LAC curve is envelope of SAC curves
(iii) LAC is U-shaped
(iv) LAC curve is U-shaped due to economies and diseconomies
(a) (i) and (ii) only
(b) (ii) and (iii) only
(c) (i), (ii), (iii) and (iv)
(d) (iii) and (iv) only

348. When the long run average cost curve is falling, it is tangent to _____
(a) the falling portion of SAC curve
(b) the rising portion of SAC curve
(c) the minimum point of SAC curve
(d) the minimum point of MC curve

349. When LAC curve is _____ it will be tangent to rising portions of the SAC curves
(a) sloping downward
(b) sloping upwards
(c) constant
(d) none of the above

350. When the LAC curve slopes upward, the firm is experiencing _____
(a) economies of scale
(b) external economies
(c) diseconomies
(d) none of these

351. Larger outputs can be economically produced ie. at the lowest cost with the _____
(a) smaller plant
(b) medium size plant
(c) bigger plant
(d) none of these

352. The LAC is –
(a) U-shaped
(b) Inverted U-shaped
(c) V-shaped
(d) S-shaped

353. In the long run, when a firm faces infinite SAC curves, the LAC curve will be-
(a) perpendicular to each SAC curve
(b) connect the lowest point of each SAC curve
(c) smooth curve, so as to be tangent to each of the SAC curves
(d) all the above

354. The LAC curve envelopes many SAC curves, it is therefore also called _____
(a) planning curve
(b) envelope curve
(c) family curve
(d) none of these

355. The LAC curve is flattened U-shaped because-
(a) some factors are fixed
(b) some factors are variable
(c) of change in technology
(d) technology remains constant

356. Modern firms face _____ shaped LAC curves
(a) L
(b) U
(c) S
(d) C

357. L-shaped LAC curve over a range shows that all sizes of plant have the _____
(a) different minimum cost of production
(b) falling cost of production
(c) same minimum cost of production
(d) rising cost of production

358. In the short period the firm can control only the _____ cost and not the _____ Cost and therefore must recover at least _____ Cost
(a) fixed ; variable ; fixed
(b) variable ; fixed ; variable
(c) average ; marginal; average
(d) accounting ; opportunity ; accounting

359. In short run the producer can control only _____ cost
(a) fixed
(b) semi-fixed
(c) variable
(d) stair step

360. In the long period _____ costs are under the control of the producer
(a) fixed
(b) variable
(c) all
(d) none

361. What does the shaded area show in the figure below?
CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost - MCQs 361

(a) TFC
(b) TVC
(c) TC
(d) ATC

362. Consider the figure and answer which region represents diseconomies
CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost - MCQs 362

(a) Region ‘c’ to ‘d’
(b) Region ‘a’ to ‘b’
(c) Region ‘d’ to ‘e’
(d) Region ‘b’ to ‘d’

Consider the following diagram to answer questions 363 to 369.
CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost - MCQs 362.1

363. In the above diagram curve numbers 1, 2 and 3 are _____ respectively
(a) AVC ; AFC ; AC
(b) AFC ;AVC ; AC
(c) AC ; AFC ; AVC
(d) AC ; AVC ; AFC

364. In the above diagram at OK level of output, the average cost equals-
(a) KN
(b) KM
(c) KL
(d) MN

365. In the diagram above at OK level of output, KL denotes-
(a) AFC
(b) MC
(c) AVC
(d) AC

366. In the diagram above at OK level of output, KM denotes-
(a) AC
(b) AVC
(c) MC
(d) AFC

367. In the diagram above at OK level of output, the vertical distance shaded between LN denotes-
(a) AFC
(b) AVC
(c) AC
(d) None of these

368. In the above diagram, on the right side curve 3 becomes closer to curve 2 means-
(i) component of AFC shrinks
(ii) component of AFC increases
(iii) component of AVC increases
(iv) component of AVC shrinks
(a) i and iii
(b) ii and iv
(c) ii and iii
(d) none of the above

369. In the above diagram on the right side curve 1 gets away from curve 3 means-
(a) component of AFC increases but component of AVC shrinks
(b) component of both AFC and AVC increases
(c) component of AFC shrinks but component of AVC increases
(d) None of the above

370. Marginal Cost reflects change in either _____ or _____
(a) total cost; total variable cost
(b) total cost; average variable cost
(c) fixed cost; total variable cost
(d) none of the above

Use the following data to answer questions 371 to 376 :
CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost - MCQs 370

371. The total variable cost of the 3rd unit is-
(a) 216
(b) 84
(c) 126
(d) 174

372. The marginal cost of the 2nd unit is-
(a) 0
(b) 45
(c) 39
(d) 42

373. The average cost of producing the 4th unit is-
(a) 66
(b) 48
(c) 67
(d) 49

374. The total fixed cost at the 3rd unit of output is-
(a) 180
(b) 42
(c) 66
(d) 90

375. The average fixed cost at the 4th unit of output , is-
(a) 42
(b) 32
(c) 22.5
(d) 20

376. The average variable cost at the 3rd unit of output is-
(a) 42
(b) 32
(c) 22
(d) none of these

Use the following data to answer questions 377 to 379:
Suppose that the Total Fixed Cost is ₹ 120
CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost - MCQs 376

377. The total variable cost of the 3rd unit is-
(d) 120
(b) 200
(c) 300
(d) 520

378. The marginal cost of the 2nd unit of output is-
(a) 120
(b) 80
(c) 100
(d) 220

379. The total cost of 4th units of output is-
(a) 320
(b) 420
(c) 640
(d) 900

Use the following data to answer questions 380 to 382:
Fixed cost of a firm is ₹ 30.
CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost - MCQs 379

380. Total Cost of 4th unit is-
(d) 68
(b) 116
(c) 50
(d) 90

381. The Average Cost of 2nd unit is-
(a) 50
(b) 34
(c) 29
(d) None of the above

382. The Marginal Cost of 3rd unit is-
(a) 18
(b) 22
(c) -26
(d) 50

Use the following data to answer questions 383 to 386:
CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost - MCQs 382

383. The Total Fixed Cost of the 5th unit is-
(a) 80
(b) 40
(c) 120
(d) 240

384. The Average Fixed Cost of 2nd unit is-
(a) 40
(b) 20
(c) 10
(d) 05

385. The Average Variable Cost of 3rd unit is-
(a) 65
(b) 46.67
(c) 42.5
(d) 44

386. The Average Total Cost of 2nd unit is-
(a) 120
(b) 85
(c) 52.5
(d) 52

387. Table for the production of a firm.
CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost - MCQs 387

One the basis of the above table match the following
(i) Prime Cost
(ii) Direct Cost
(iii) Fixed Cost
(iv) Variable Cost
(v) Total Cost
(a) (A, i) (B, ii) (C, iii)
(&) (A, ii) (B, iii) (C, iv)
(c) (A, iii) (B, iii) (C, iv)
(d) (A, v) (B, iii) (C, iv)

388. Considering the following information of firm’s production department for a week, the TVC, AVC and ATC would be-
CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost - MCQs 388

(a) ₹ 11,9000 ; ₹ 119 and ₹ 123 respectively
(b) ₹ 11,600 ; ₹ 116 and ₹ 123 respectively
(c) ₹ 11,900 ; ₹ 119 and ₹ 119 respectively
(d) None of these

389. The average cost is ₹ 40 and it is minimum when 8 units are produced. The marginal cost of producing 4 unit is-
(a) 40
(b) 160
(c) 48
(d) 10

390. If the marginal cost of producing 1 unit of a commodity is ₹ 15 and that of producing 2 units is 10, which of the following is correct?
(a) Total cost = ₹ 25
(b) Variable cost = ₹ 25
(c) Average cost = ₹ 25
(d) None of the above

391. The total cost at 10 units of output is ₹ 55. The fixed cost is ₹ 5. The average variable cost at 10 units of output is-
(a) ₹ 25
(b) ₹ 6
(c) ₹ 5
(d) ₹ 1

392. The total cost of producing 5 units of a commodity is ? 20 and that of producing 4 units is? 15, what will be the marginal cost?
(a) ₹ 2.5
(b) ₹ 5
(c) ₹ 7.5
(d) ₹ 10

393. A firm produces 100 units of a commodity. Actual money expenditure incurred on producing this commodity is ₹ 1500. The owner supplies inputs worth ₹ 500 for which he does not get any payment. The economic cost turned out to be ₹ 2,100. The difference is-
(a) Normal Profit
(b) Loss
(c) Abnormal Profit
(d) None of these

394. What would be the economic cost considering the following-
Purchase of raw materials ₹ 200
Payment of wages and salaries ₹ 500
Payment of rent ₹ 50
Estimated value of owner’s services ₹ 300
Expected minimum profit ₹ 40
Estimated super normal profit ₹ 240
(a) 1000
(b) 1,180
(c) 1,090
(d) 2000

395. The total cost curve makes an intercept of ₹ 50 on y-axis, Calculate total fixed cost and total variable cost of 3rd unit of output :
CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost - MCQs 395

(a) 50 ; 15
(b) 40 ; 50
(c) 50 ; 70
(d) 110 ; 50

396. A firm is producing 20 units. At this level of output, ATC and AVC are equal to ₹40 and ₹37 respectively. What is the total fixed cost of the firm?
(a) ₹ 3
(b) ₹ 60
(c) ₹ 40
(d) ₹ 20

397. The total cost of producing 9 units of output is ₹85. If the ATC of producing 10 units is ₹10, then what will be the marginal cost of producing the 10th unit?
(a) ₹ 10
(b) ₹ 05
(c) ₹ 15
(d) ₹ 20

398. The AC of producing 5 units is ₹ 6 and AC of producing 6 units is ₹5. What is the MC of the 6th unit?
(a) ₹ 0
(b) ₹ 15
(c) ₹ 20
(d) ₹ 30

399. The TC of a firm increased by ₹450, when production increased from 12 units to 14 units. What is the MC of the firm?
(a) ₹ 150
(b) ₹ 175
(c) ₹ 200
(d) ₹ 225

400. Find the AC and AVC if entire output is sold at ₹ 60 per unit from the following :
Wage Bill ₹ 20,000
Raw-material Bill ₹ 60,000
Interest ₹ 6,000
Fuel consumption ₹ 10,000
Rent ₹ 4,000
(a) ₹ 50 ; ₹ 50
(b) ₹ 50 ; ₹ 45
(c) ₹ 45 ; ₹ 45
(d) ₹ 45 ; ₹ 50

401. A firm’s average fixed cost is ₹ 40 at 12 units of output. What will it be at 8 units of output.
(a) ₹ 120
(b) ₹ 60
(c) ₹ 80
(d) ₹ 40

402. A firm producing 5 units of output has AC of ₹ 150 and it pays ₹ 200 to its fixed factors of production. What is the AVC?
(a) ₹ 100
(b) ₹ 50
(c) ₹ 110
(d) ₹ 150

403. What is the Average Cost of producing 20 units if the Total Fixed Cost is ₹ 5,000 and AVC is ₹ 2?
(a) ₹ 250
(b) ₹ 260
(c) ₹ 258
(d) ₹ 252

404. The ATC of producing 50 units is ₹ 250 and TFC is ₹ 1,000. What is the AFC of producing 100 units?
(a) ₹10
(b) ₹ 30
(c) ₹ 20
(d) ₹ 5

405. When a bus with a seating capacity of 50 passengers is carrying on 40 passengers. The cost of passenger ticket is ₹ 100. What would be the Marginal Cost of carrying one additional passenger?
(a) ₹ 100
(b) zero
(c) ₹ 4,100
(d) ₹ 4,000

406. Electricity charges are increased for the commercial use from ₹ 3 per unit to ₹ 5 per unit. This would affect-
(a) Fixed Cost
(b) Variable Cost
(c) Both Fixed and Variable Cost
(d) Neither Fixed Cost nor Variable Cost

407. The development of Special Economic Zone will-
(a) generate internal economies and lower per unit cost
(b) generate external economies and lower per unit cost
(c) generate internal diseconomies and increase per unit cost
(d) generate external diseconomies and in-crease per unit cost

408. The following is the marginal cost schedule. Find the avarage cost of production of 4 unit of output
CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost - MCQs 408

(a) ₹ 4
(b) ₹ 6
(c) ₹ 5
(d) ₹ 7

409. If the total cost of production of Good ‘X’ is ₹ 1,25,000; out of it implicit cost is ₹ 35,000 and normal profit is ₹ 25,000. What will be the explicit cost of Good ‘X?
(a) ₹ 60,000
(b) ₹ 90,000
(c) ₹ 1,00,000
(d) ₹ 65,000

410. When output increased from 40 units to 55 units, TC increased from ₹ 2,500 to ₹ 3,250. The MC is-
(a) ₹ 150
(b) ₹ 50
(c) ₹ 100
(d) ₹ 200

Answers

CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost - MCQs answers

CA Foundation Business Economics Study Material Chapter 3 Theory Of Production and Cost - MCQs answers1

CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply – MCQs

CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply – MCQs

MULTIPLE CHOICE QUESTIONS

Law of Demand and Elasticity of Demand

1. Demand in economic sense means-
(a) mere desire for a commodity
(b) mere ability to pay price of the commodity
(c) mere wiling to pay the price of the commodity
(d) desire backed by ability and willingness to pay for the commodity desired

2. In economics, demand refers to-
(a) quantity demanded at a particular time
(b) quantity demanded backed by ability to pay
(c) quantity demanded of all goods
(d) quantity demanded at a particular price in a given period of time

3. The concept of demand demonstrates that-
(a) demand is always with reference to price
(b) demand is referred to in a given period of time
(c) buyer’s ability and willingness to pay
(d) all the above

4. Demand is a
(a) flow concept Le. quantity per unit of time
(b) stock concept
(c) wealth concept
(d) none of the above

5. Demand concept explains the ________ behaviour in response to change in price of a good.
(a) producer’s
(b) seller’s
(c) consumer’s
(d) none of the above

6. Individual Demand is also called-
(a) industrial demand
(b) market demand
(c) household’s demand
(d) all the above

7. ________ means quantity demanded of a good by a single consumer at various prices per unit of time.
(a) Market Demand
(b) Individual Demand
(c) Industrial Demand
(d) None of the above

8. _______ means the aggregates of the quantities
demanded by all consumers in the market at different prices per unit of time.
(a) Market Demand
(b) Individual Demand
(c) Industrial Demand
(d) Household Demand

9. All but one are the factors which affect individual demand. Find the odd one out.
(a) Price of related good
(b) Income of the consumer
(c) Tastes and preferences of consumer
(d) Number of consumers in the market

10. _________ is a tabular presentation showing different quantities demanded by buyers at different levels of prices in a given period.
(a) Supply Schedule
(b) Demand Schedule
(c) Production Schedule
(d) Cost Schedule

11. A demand schedule is shown as-
(a) a result of increase in the size of the family
(b) a result of change in tastes and preferences
(c) a function of price
(d) all the above

12. Market Demand is the sum total of-
(a) all quantities that producer’s can produce
(b) all quantities actually sold in the market
(c) all quantities demanded by individual households and consumers
(d) all the above

13. Demand of a good of several consumers when added together is called _______ demand.
(a) individual
(b) market
(c) joint
(d) independent

14. When a good can be used to satisfy two or more wants, it is said to have _______ demand.
(a) composite
(b) competitive
(c) joint
(d) market

15. Indirect demand of a good is also known as _______ demand.
(a) direct
(b) derived
(c) joint
(d) competitive

16. Which of the following is a determinant of Individual Demand?
(a) Cost of production
(b) Nature of commodity
(c) Economic Policies of the Government
(d) Tastes and Preferences of consumers

17. Which of the following is NOT the determinant of demand?
(a) Price of the commodity
(b) Price of related commodities
(c) Income of consumer
(d) None of the above

18. How are APPLES and ORANGES related when as a result of rise in price of Apples, demand for Oranges increases?
(a) Substitute goods
(b) Complementary goods
(c) Normal goods
(d) Inferior goods

19. If two goods are complementary then rise in the price of one results in-
(a) rise in demand for the other
(b) fall in demand for the other
(c) rise in demand for both
(d) none of these

20. If the demand for CNG increases as price of petrol increases, the two goods are-
(a) Normal goods
(b) Complementary goods
(c) Substitute goods
(d) Superior goods

21. Comforts lies between-
(a) inferior goods and necessaries
(b) luxuries and inferior goods
(c) necessaries and luxuries
(d) none of the above

22. When price of commodity rises, the demand for it _______ .
(a) rises
(b) contracts
(c) remain constant
(d) becomes negative

23. When the price of petrol goes up, demand for two-wheelers will-
(a) rise
(b) fall
(c) remain same
(d) none of these

24. An increase in the income of a consumer has effect on demand in general.
(a) no
(b) negative
(c) opposite
(d) positive

25. The demand for Scooter and petrol is an example of _______ demand.
(a) joint
(b) composite
(c) competitive
(d) market

26. _______ goods are those goods which are used for the production of other goods.
(a) Durable
(b) Producer’s
(c) Non-Durable
(d) Consumer’s

27. _______ goods are those which are used for final consumption.
(a) Durable
(b) Producer’s
(c) Non-Durable
(d) Consumer’s

28. Bread, Milk, Readymade clothes, T.V., etc. are examples of _______ goods
(a) perishable
(b) producer’s
(c) consumer’s
(d) inferior

29. The goods which cannot be consumed more than once, like milk are known as _______ goods.
(a) non-durable consumer goods
(b) producer’s
(c) inferior
(d) durable consumer goods

30. _______ goods meets only our current demand.
(a) producers
(b) durable consumer goods
(c) non-durable consumer goods
(d) inferior

31. The goods which can be consumed more than once over a period of time are known as _______ goods.
(a) non-durable consumer goods
(b) producer’s
(c) durable consumer goods
(d) inferior

32. When demand of any good depends upon the demand of another good, it is said to have _______ demand.
(a) joint
(b) derived
(c) competitive
(d) direct

33. The total demand for steel in the country denotes _______ demand.
(a) industry
(b) company
(c) both ‘a’ and ‘b’
(d) autonomous

34. If the demand for a product is independent of the demand for other goods, it is called as _______ demand.
(a) company
(b) industry
(c) autonomous
(d) derived

35. If the construction activity in housing sector, infrastructure, etc. rises, the demand for cement will _______ as it has _______ demand.
(a) rise ; autonomous
(b) fall; autonomous
(c) rise ; derived
(d) none of these

36. Demand for steel produced by Tata Iron and Steel Company is an example of _______ demand.
(a) industry
(b) company
(c) autonomous
(d) joint

37. When demand of any good reacts immediately to price changes, income changes, etc. it is said to have _______ demand.
(a) short-run
(b) long-run
(c) very short run
(d) very long run

38. A relative price is-
(a) price expressed in terms of money
(b) what you get paid for babysitting your cousin
(c) the ratio of one price to another
(d) equal to a money price

39. The quantity demanded of a good or service is the amount that-
(a) consumer plan to buy during a given period at a given price.
(b) firms are willing to sell during a given time period at a given price.
(c) a consumer would like to buy but may not be able to afford.
(d) is actually bought during a given period at a given price.

40. Coca-Cola and Thumbs-Up are substitutes. A rise in the price of Coca-Cola will _______ the demand of Thumbs-Up and the quantity demanded of Thumbs-Up will _______ .
(a) increase ; increase
(b) increase;decrease
(c) decrease ; decrease
(d) decrease;increase

41. If the price of Orange Juice falls, the demand for Apple Juice will _______ .
(a) increase
(b) decrease
(c) remain the same
(d) become negative

42. The demand for consumer goods is a _______ demand.
(a) direct
(b) indirect
(c) constant
(d) company

43. If the price of inferior goods fall, the demand for them will _______.
(a) rise
(b) fall
(c) remain constant
(d) become zero

44. The Law of Demand states _______ relation between demand and price of a commodity.
(a) a direct
(b) positive
(c) an indirect
(d) no

45. When total demand for a commodity whose price has fallen increases, it is due to
(a) income effect
(b) substitution effect
(c) complementary effect
(d) price effect

46. With a fall in the price of a commodity
(a) Consumer’s real income increases
(b) Consumer’s money income increases
(c) Consumer’s real income falls
(d) Consumer’s money income falls

47. When we draw a market demand curve, we _______.
(a) do not consider tastes, incomes and all prices
(b) assume that tastes, incomes and all other prices change in the same way price changes
(c) assume that tastes, incomes and all other prices are irrelevant
(d) assume that tastes, incomes and all other prices remain the same

48. All but one of the following are assumed to remain the same while drawing individual’s demand curve for a commodity. Which are is it?
(a) The tastes and preferences of the consumer
(b) Income of consumer
(c) The price of the commodity
(d) The prices of related commodities

49. A fall in price of a commodity leads to _______.
(a) a shift in demand curve
(b) a rise in consumer’s real income
(c) a fall in demand
(d) none of the above

50. If a fall in price of ‘y’ results in a decrease in the sale of ‘x’, the two good appear to be-
(a) substitute goods
(b) complementary goods
(c) inferior goods
(d) neutral goods

51. Which of the following is not a complementary good for pen?
(a) refills
(b) paper
(c) notebook
(d) rice

52. _______ goods are the goods which can be used with equal case in place of each other.
(a) Neutral
(b) Normal
(c) Complementary
(d) Substitute

53. Which of the following pairs of goods are an example of substitutes?
(a) Tea and Sugar
(b) Tea and Coffee
(c) Pen and Ink
(d) Shirt and Trouser

54. When the price of a substitute of good ‘X’ falls, the demand for good ‘X’
(a) rises
(b) falls
(c) remains unchanged
(d) None of these

55. If the demand rises with the rise in consumer’s real income, such a good is called _______.
(a) Normal goods
(b) Neutral goods
(c) Inferior goods
(d) Luxury goods

56. Giffen goods are-
(a) Normal goods
(b) Inferior goods
(c) Luxury goods
(d) Neutral goods

57. As the consumer’s income increases, the demand for necessaries of life will increase _______ to the increase in income.
(a) Less than proportionate
(b) More than proportionate
(c) Proportionate
(d) Nothing can be said

58. As the consumer’s income increases, the demand for comforts and luxuries will increase _______ to the increase in income.
(a) Less than proportionate
(b) More than proportionate
(c) Proportionate
(d) Nothing can be said

59. During boom period in economy, the demand for goods in general _______.
(a) rises
(b) falls
(c) remains same
(d) none of these

60. Larger the size of population of a country _______ is the demand for goods and services in general.
(a) lower
(b) ineffective
(c) neutral
(d) higher

61. In case the consumer expects a steep rise in price of Potatoes in future, his current demand for it will _______.
(a) remain same
(b) fall
(c) rise
(d) none of the above

62. All but one of the good’s demand is not affected by changes in weather conditions-
(a) Ice-cream
(b) Woollen clothes
(c) Cold drinks
(d) Wheat

63. If the government increase the rate of indirect taxes on goods and services, the demand for then will _______ in general.
(a) rise
(b) fall
(c) remain neutral
(d) be ineffective

64. If the government reduces the tax on any pro-duct, the demand for the product _______ in the short run.
(a) rises
(b) falls
(c) remain unchanged
(d) tax has nothing to do with the demand of any product

65. If the demand for petrol remains unchanged with rise in its price, it means petrol is a _______
(a) Normal good
(b) Necessity
(c) Luxury good
(d) Inferior good

66. If quantity demanded of good ‘X’ is plotted against the price of its substitute good ‘Y’, the demand curve will be-
(a) Vertical Straight line
(b) Positively sloped
(c) Horizontal Straight line
(d) Negatively sloped

67. Consider the following figure:
ca-foundation-business-economics-study-material-chapter-2-theory-of-demand-and-supply-mcqs-67

In the above figure, RS part of the demand curve represents-
(a) Superior good
(b) Inferior good
(c) Normal good
(d) Giffen’s good

68. In case of normal goods the income effect is _______
(a) zero
(b) negative
(c) positive
(d) constant

69. Income effect on demand of a good is _______.
(a) positive for normal goods
(b) always positive
(c) negative for normal goods
(d) always negative

70. The Law of Demand is explained by-
(a) Cardinal approach
(b) Ordinal approach
(c) Both ‘a’ and ‘b’
(d) Neither ‘a’ nor ‘b’

71. The Law of Demand refers to functional relation between-
(a) Price & Supply
(b) Price & Cost
(c) Price & Income
(d) Price & Demand

72. The term “Ceteris Paribus” in the Law of Demand means-
(a) All factors except one remain constant
(b) All factors remain constant
(c) All factors are variable
(d) None of the above

73. Which of the following is a variable and influencing factor in the Law of Demand?
(a) Consumer’s Income
(b) Consumer’s Tastes and Preferences
(c) Price of related goods
(d) Price of the good

74. The phrase “Other things being equal” in the Law of Demand means-
(a) Income of the consumer remain unchanged
(b) Price of related goods remain unchanged
(c) Tastes and Preferences of consumer remain unchanged
(d) All the above

75. The total effect of price change of a good is-
(a) Substitution Effect + Income Effect
(b) Substitution Effect + Price Effect
(c) Substitution Effect + Demonstration Effect
(d) Demonstration Effect + Veblen Effect

76. Substitution Effect subscribe to the inverse relation between Px and Qx in case of-
(a) normal goods only
(b) inferior goods only
(c) normal and inferior goods both
(d) none of the above

77. Income Effect does not subscribe to the inverse relation between Px and Qx in case of-
(a) both normal and inferior goods
(b) inferior goods
(c) normal goods
(d) none of the above

78. The Law of Demand will fail in case of inferior goods only if-
(a) Substitution Effect is greater than Income Effect
(b) Income Effect is greater than’Substitution Effect
(c) Both ‘a’ and ‘b’
(d) Neither ‘a’ nor ‘b’

79. The Law of Demand is a _______ statement.
(a) Positive
(b) Normative
(c) Descriptive
(d) Both ‘a’ and ‘c’

80. _______ refers to the effect of change in the price of a product on the consumer’s purchasing power.
(a) Real Income Effect
(b) Substitution Effect
(c) Consumer’s Surplus
(d) None of the above

81. When the price of Thumbs-up falls, other things being constant, buyers substitute Thumbs-up for Coca-Cola. This is called-
(a) Price Effect
(b) Substitution Effect
(c) Income Effect
(d) Veblen Effect

82. _______ refers to the buyer’s reaction to a change in the relative prices of two products, keeping the total utility constant.
(a) Consumer’s Surplus
(b) Income Effect
(c) Substitution Effect
(d) None of the above

83. The Law of Demand can be explained by-
(a) The Law of Diminishing Marginal Utility
(b) Indifference Curves
(c) Both ‘a’ and ‘b’
(d) Neither ‘a’ nor ‘b’

84. Consumers buy a good till Px = MUx. If the price falls, the consumer will reach equilibrium-
(a) at a lower quantity
(b) at a higher quantity
(c) at zero quantity level
(d) all the above

85. “Petrol is becoming cheaper, yet the demand for cars is not rising”. This statement indicates that-
(a) The Law of Demand is not operative for cars
(b) The Law of Demand is operative for petrol
(c) The Demand Curve for cars will shift
(d) All the above

86. Downward slope of the demand curve shows-
(a) positive relationship between price and quantity demanded
(b) inverse relationship between price and quantity demanded
(c) no relationship between price and quantity demanded
(d) none of the above

87. In case of NORMAL GOODS, demand curve shows:
(a) a negative slope
(b) a positive slope
(c) zero slope
(d) none of these

88. Law of Demand fails in case of –
(a) normal goods
(b) Giffen goods
(c) inferior goods
(d) both ‘b’ and ‘c’

89. In case of Giffen’s Paradox, the slope of the demand curve is-
(a) parallel to X-axis
(b) positive
(c) negative
(d) parallel to Y-axis

90. A Giffen good is one for which a small change in price results in-
(a) zero income effect out weighted by a positive substitution effect
(b) zero income effect being equal to zero substitution effect
(c) negative income effect out weighed by a positive substitution effect
(d) none of these

91. The Law of Demand indicates the
(a) direction of change in demand of a commodity
(b) magnitude/amount of change in demand of a commodity
(c) both ‘a’ and ‘b’
(d) elasticity of demand

92. In case of Giffen goods, demand varies _______ with the price.
(a) inversely
(b) directly
(c) proportionately
(d) none of these

93. Analysis of the relationship between demand of a commodity and prices of related commodities is-
(a) Price Demand analysis
(b) Income Demand analysis
(c) Cross Demand analysis
(d) Market Demand analysis

94. _______ observed that when the price of inferior goods fall, the demand for such goods also fall.
(a) Adam Smith
(b) Dr. Alfred Marshall
(c) Ragnar Frisch
(d) Sir Robert Giffens

95. The Law of Demand was propounded by _______ in his book ‘Principles of Economics’.
(a) Lord Keyens
(b) Adam Smith
(c) Dr. Alfred Marshall
(d) Ragnar

96. The tendency of low income group to imitate the consumption pattern of high income group is known as _______ effect.
(a) Demonstration
(b) Copy
(c) Prestige
(d) Veblen

97. The Law of Demand is applicable for _______.
(a) Giffen’s Goods
(b) Prestige Goods
(c) Necessary Goods
(d) Normal Goods

98. When price changes and proportionate change in market demand is more than proportionate change in individual demand implies that the market demand curve is _______ than the individual demand curves.
(a) Steeper
(b) Flatter
(c) Vertical
(d) None of the above

99. A positively sloped demand curve implies
(a) Violation of the law of demand
(b) Giffen good
(c) Income effect is negative and greater than substitution effect
(d) All the above

100. An increase in consumer’s income will increase demand for a _______ but decrease demand for a _______.
(a) substitute good; inferior good
(b) normal good ; inferior good
(c) substitute good ; complementary good
(d) inferior good ; normal good

101. When the quantity of a good that a buyer demands rises when there is growth of purchases by other individuals, such an effect is called _______
(a) Bandwagon Effect
(b) Snob Effect
(c) Veblen Effect
(d) None of the above

102. When the quantity of a commodity that an individual buyer demand falls in response to the growth of purchases by other buyers, such an effect is called _______
(a) Bandwagon Effect
(b) Snob Effect
(c) Veblen Effect
(d) None of the above

103. Some buyer’s demand more of certain commodities at a higher price, such an effect is called _______.
(a) Bandwagon Effect
(b) Snob Effect
(c) Veblen Effect
(d) None of the above

104. The market demand curve in case of Veblen Effect is _______.
(a) steeper
(b) flatter
(c) vertical
(d) horizontal

105. The market demand curve in case of Bandwagon Effect is _______.
(a) less elastic
(b) steeper
(c) flatter
(d) horizontal

106. The market demand curve in case of Snob Effect is _______.
(a) flatter
(b) steeper
(c) less elastic
(d) both ‘b’ and ‘c’

107. A downward sloping Engel Curve shows –
(a) Normal goods
(b) Inferior goods
(c) Substitute goods
(d) Complementary goods

108. Assume that the market demand curve for Dinshaw Ice cream is known and given to us. With summer setting in, price remaining the same the consumers would –
(a) shift to a lower demand curve leftward
(b) move upward along the same demand curve
(c) shift to a higher demand curve rightward
(d) move downward along the same demand curve

109. An exceptional demand curve is one that slopes-
(a) upward to the right
(b) downward to the right
(c) upward to the left
(d) horizontal

110. What will be the impact on the demand curve of CARS when the price of petrol rises?
(a) There will be downward movement on demand curve
(b) Demand curve will shift to left
(c) There will be an upward movement on demand curve
(d) Demand curve will shift to right

111. What will be the impact on the demand curve of DESKTOP COMPUTERS when the price of LAPTOPS increase?
(a) There will be downward movement on demand curve
(b) Demand curve will shift to left
(c) There will be an upward movement on demand curve
(d) Demand curve will shift to right

112. What will be the impact on the demand curve of SUGAR with increase in its price?
(a) Downward movement along the demand curve
(b) Leftward shift of the demand curve
(c) An upward movement along the demand curve
(d) Rightward shift of the demand curve

113. The demand for TROUSERS will lead to _______ due to change in the preference in favour of JEANS.
(a) Extension in Demand of trousers
(b) Increase in Demand of trousers
(c) Contraction in Demand of trousers
(d) Decrease in Demand in trousers

114. The demand curve for BAJRA will when a poor person’s income rises.
(a) shift to the right
(b) shift to the left
(c) be downward sloping
(d) none of the above

115. Match the following—
ca-foundation-business-economics-study-material-chapter-2-theory-of-demand-and-supply-mcqs-115
ca-foundation-business-economics-study-material-chapter-2-theory-of-demand-and-supply-mcqs-115.1

116. If more is demanded at the same price or the same quantity is demanded at a higher price, it is known as-
(a) Extension of Demand
(b) Contraction of Demand
(c) Increase in Demand
(d) Decrease in Demand

117. A downward movement along the same demand curve means –
(a) more is demanded when the price of good falls
(b) more is demanded at the same price
(c) less is demanded at the same price
(d) less is demanded when the price of good rises

118. A leftward shift of the demand curve shows-
(a) more is demanded at the same price
(b) less is demanded when the price of good rises
(c) less is demanded at the same price
(d) more is demanded when the price of good falls

119. When same quantity of a good is demanded at a lower price, it is known as-
(a) Extension of Demand
(b) Increase in Demand
(c) Contraction of Demand
(d) Decrease in Demand

120. When less quantity is demanded as the price of good rises, there is ________.
(a) Downward movement along the demand curve
(b) Leftward shift of the demand curve
(c) An upward movement along the demand curve
(d) Rightward shift of the demand curve

For Q. Nos. 121 to 124 refer the following demand equation Q = 180 – 6p

121. At what price no one would be willing to buy the commodity?
(a) Rs. 20
(b) Rs. 30
(c) Rs. 40
(d) Rs. 15

122. If the commodity is given free Le. if the demand is autonomous, what is the quantity demanded?
(a) 180
(b) 160
(c) 140
(d) 120

123. If the price of the commodity falls down to Rs. 1, by how much will the quantity demanded change?
(a) 6
(b) 5
(c) 12
(d) 10

124. The total quantity demanded when the price is Rs. 1 p.u. is-
(a) 180
(b) 174
(c) 190
(d) 186

For Q. Nos. 125 to 127 refer the following demand equation
Qx = 12 – 2 Px

125. What would be the quantity demanded at a price of Rs. 3?
(a) 4 units
(b) 5 units
(c) 6 units
(d) 8 units

126. What would be the price when quantity demanded is zero?
(a) Rs. 8
(b) Rs. 4
(c) Rs. 5
(d) Rs. 6

127. What would be the quantity demanded when the price is zero?
(a) 12 units
(b) 10 units
(c) 22 units
(d) 20 units

128. The demand function of a commodity ‘X’ is given by Qx = 20 – 3 Px. What would be he value of Px when the corresponding value of Qx = 14.
(a) Rs. 5
(b) Rs. 4
(c) Rs. 3
(d) Rs. 2

129. At a price of Rs. 10 p.u. the market demand of a commodity is 58 units, out of which consumer ‘A’ has purchased 20 units and consumer ‘B’ has purchased 10 units. How much quantity consumer ‘C’ has purchased?
(a) 28 units
(b) 26 units
(c) 24 units
(d) 22 units

130. The linear demand function is given as- Q = 80 – 20 P. Derive the market demand function when there are 100 consumers in the market.
(a) Q = 8000 – 20 P
(b) Q = 80 – 2000 P
(c) Q = 8000 – 2000 P
(d) None of the above

131. All but one can be referred as Variations in Demand. Which one is not variation in demand?
(a) Movement along the same demand curve
(b) Shifting of demand curve
(c) Changes in the Quantity Demanded
(d) Expansion and Contraction of Demand

132. In case of Expansion and Contraction of Demand, the demand curve-
(a) shifts to the right
(b) shifts to the left
(c) remains the same
(d) none of the above

133. A movement along the demand curve means-
(a) expansion of demand
(b) contraction of demand
(c) changes in the quantity demanded
(d) all the above

134. Change in the demand of a commodity due to the factors other than price is known as-
(a) Increase and Decrease in Demand
(b) Changes in Demand
(c) Shift in Demand
(d) All the above

135. Increase in demand leads to-
(a) Leftward shift of the demand curve
(b) Rightward shift of the demand curve
(c) Upward movement on the same demand curve
(d) Downward movement on the same demand curve

136. Which of the following would result in the shifting of the demand curve?
(a) Increase in the tax on shoes
(b) Growth in the size of population
(c) Changes in weather conditions
(d) All the above

137. Shift in demand does not take place due to-
(a) Change in consumer’s tastes and preferences
(b) Advertisement
(c) Trade conditions
(d) Change in the price of the commodity

138. A rightward shift in the demand curve for Bread would be predicted from-
(a) A decrease in the number of breakfast eaters
(b) A change in tastes
(c) A fall in the price of Bread
(d) A rise in the price of Corn Flakes

139. Consider the following demand curve-
ca-foundation-business-economics-study-material-chapter-2-theory-of-demand-and-supply-mcqs-139

State whether-
(a) The two goods are complementary
(b) The two goods are substitutes
(c) The two goods are not related
(d) None of the above

140. Consider the following figure-
ca-foundation-business-economics-study-material-chapter-2-theory-of-demand-and-supply-mcqs-140

It shows-
(a) Inferior goods
(b) Giffen goods
(c) Normal or Superior goods
(d) All the above

141. Consider the following figure-
ca-foundation-business-economics-study-material-chapter-2-theory-of-demand-and-supply-mcqs-141

Demand
It shows demand curve for-
(a) Necessities
(b) Comforts and Luxuries
(c) Inferior Goods
(d) None of the above

142. Consider the following figure-
ca-foundation-business-economics-study-material-chapter-2-theory-of-demand-and-supply-mcqs-142

It shows demand curve for-
(a) Necessities
(b) Comforts and Luxuries
(c) Inferior Goods
(d) None of the above

143. Consider the following figure-
ca-foundation-business-economics-study-material-chapter-2-theory-of-demand-and-supply-mcqs-143

It shows demand curve for-
(a) Necessities
(b) Comforts and Luxuries
(c) Inferior Goods
(d) None of the above

144. Which of the following is shown in the figure?
ca-foundation-business-economics-study-material-chapter-2-theory-of-demand-and-supply-mcqs-144

(a) An increase in demand
(b) Indifference Curve
(c) Supply Curve
(d) None of the above

145. Other things being equal a decrease in demand can be caused by-
(a) A rise in the price of the commodity
(b) A rise in the income of the commodity
(c) A fall in the price of the commodity
(d) A fall in the income of the consumer

146. A rational consumer is a person who
(a) behaves judiciously all the time
(b) is not influenced by the advertisement
(c) knows the prices of goods in different markets and buy the cheapest
(d) has perfect knowledge of the market

147. A normal demand curve of a commodity-
(a) is vertical straight line curve
(b) has a negative slope
(c) is horizontal straight line curve
(d) has a positive slope

148. If the quantity demanded of a commodity is plotted against the price of a substitute goods ceteris paribus the curve is expected to be-
(a) Vertical
(b) Negatively sloped
(c) Horizontal
(d) Positively sloped

149. Income effect operates when there is an-
(a) increase in real income due to fall in price of the commodity
(b) increase in real income due to rise in price of the commodity
(c) increase in real income due to rise in demand of the commodity
(d) increase in money income due to fall in the price of the commodity

150. Who explained the abnormal shape of demand curve for diamonds through the doctrine of conspicuous consumption?
(a) Thorstein Veblen
(b) Robert Giffen
(c) David Ricardo
(d) Alfred Marshall

151. Conspicuous good are also known as-
(a) prestige goods
(b) snob goods
(c) Veblen goods
(d) all the above

152. Elasticity of demand is defined as the responsiveness of the quantity demanded of a good to changes in
(a) price of the commodity
(b) price of related goods
(c) income of the consumer
(d) all the above

153. ________ was the economist to formulate the concept of price elasticity of demand.
(a) Alfred Marshall
(b) Adam Smith
(c) Paul Samuelson
(d) Edwin Cannon

154. The concept of Elasticity of Demand whenever referred unless otherwise specified always means-
(a) Price Elasticity of Demand
(b) Income Elasticity of Demand
(c) Cross Elasticity of Demand
(d) All the above

155. The concept of price elasticity of demand analyses-
(a) direction of change in response to change in price of the commodity
(b) degree of change in response to change in price of the commodity
(c) absolute change in response to change in price of the commodity
(d) none of these

156. When there is no change in quantity demanded in response to any change in price, it is a situation of-
(a) infinite price elasticity
(b) unitary price elasticity
(c) zero price elasticity
(d) high price elasticity

157. Price Elasticity of Demand is defined as-
(a) Change in quantity demanded ÷ Change in Price
(b) % Change in quantity demanded ÷ % Change in Price
(c) Change in quantity demanded ÷ % Change in Price
(d) % Change in quantity demanded ÷ Change in Price

158. Price Elasticity of Demand is given by-
ca-foundation-business-economics-study-material-chapter-2-theory-of-demand-and-supply-mcqs-158

159. When percentage change demand is less than percentage change in price, demand is-
(a) perfectly elastic
(b) perfectly inelastic
(c) less than unitary elastic
(d) more than unitary elastic

160. When percentage change in demand is equal to percentage change in price, demand is-
(a) perfectly elastic
(b) unitary elastic
(c) perfectly inelastic
(d) more elastic

161. Price Elasticity of demand is always because of relationship between price and quantity demanded
(a) negative ; inverse
(b) positive ; direct
(c) negative ; positive
(d) positive ; inverse

162. Coefficient of price elasticity of demand ranges from to
(a) one ; infinity
(b) zero ; infinity
(c) zero ; one
(d) none of the above

163. When there is an infinite demand at a particular price and demand becomes zero with a slight rise in the price then
(a) demand by commodity is perfectly elastic
(b) Ed = ∞
(c) demand curve is horizontal straight line parallel to X-axis
(d) all the above

164. When percentage in quantity demanded is more than percentage change in price then
(a) demand of commodity is highly elastic
(b) Ed > 1 and demand curve is flatter
(c) Ed < 1 and demand curve is steeper
(d) Only ‘a’ and ‘b’ 1

165. When demand curve is parallel to X-axis, elasticity of demand is-
(a) unity
(b) zero
(c) greater than unity
(d) infinity

166. Which curve is called rectangular hyperbola?
(a) Highly Elastic Demand Curve
(b) Less Elastic Demand Curve
(c) Unitary Elastic Demand Curve
(d) None of the above

167. When demand curve is parallel to Y-axis, elasticity of demand is-
(a) unity
(b) zero
(c) less than unity
(d) more than unity

168. As the demand curve becomes flatter and flatter, the elasticity of demand becomes-
(a) higher
(b) lower
(c) equal to infinity
(d) equal to zero

169. When the demand for a commodity does not change with the increase in its price from Rs. 2 to Rs. 5, then elasticity of demand is
(a) E = ∞
(b) Ed = 0
(c) Ed < 1
(d) Ed > 1

170. Slope of perfectly elastic demand curve is equal to ________
(a) 0
(b) 1
(c) 2
(d) 3

171. On all points of a rectangular hyperbola demand curve, elasticity of demand is –
(a) equal to one
(b) zero
(c) more than one
(d) less than one

172. When slope of demand curve = 0, the elasticity of demand is-
(a) 0
(b) 1
(c) oo
(d) none of the above

173. To say that the demand for a commodity is elastic means-
(a) That the demand curve slopes downward to the right
(b) That more is sold at a lower price
(c) That a rise in price will increase total revenue
(d) That the change in quantity sold is proportionately greater than the change in price

174. A demand curve is perfectly inelastic if-
(a) a rise in price causes a fall in quantity demanded
(b) a fall in price causes rise in sellers total receipts
(c) the commodity in question is very perishable
(d) a change in price does not change quantity demanded

175. When the demand curve is vertical straight line, demapd is-
(a) perfectly elastic
(b) perfectly inelastic
(c) relatively elastic
(d) relatively inelastic

176. For goods with perfectly inelastic demand-
(a) ∆q = 0
(b) ∆q < ∆p
(c) ∆q = ∆p
(d) ∆p = 0

177. For goods with less elastic demand-
(a) ∆q > ∆p
( b) ∆q = ∆p
(c) ∆q < ∆p
(d) none of the above

178. If the demand of a commodity is less elastic the demand curve will be-
(a) Horizontal line
(b) Vertical line
(c) Downward sloping to the right, flatter
(d) Downward sloping to the right, steeper

179. Rectangular hyperbola is also called-
(a) Equilateral Hyperbola
(b) Vertical Line
(c) Square
(d) Horizontal Line

180. The factor which generally keeps the price elasticity of demand for a good low is-
(a) Variety of uses of that good
(b) Its low price
(c) Close – substitutes for that good
(d) High proportion of the consumer’s income spent on it

181. If you spend more on rent than on soap, your price elasticity of demand for housing is likely to be-
(a) greater than your price elasticity of demand for soap
(b) less than your price elasticity of demand for soap
(c) equal to your price elasticity of demand for soap
(d) none of the above

182. The demand for common salt has low price elasticity because-
(a) it has no close substitute
(b) it is necessity
(c) it constitutes only a small proportion of consumer’s expenditure
(d) all the above

183. The devaluation of currency would increase the export earnings only when demand for the nation’s exports in foreign market is-
(a) Elastic
(b) Inelastic
(c) Perfectly Inelastic
(d) Unitary Elastic

184. The demand for sugar and tea is usually:
(a) Elastic
(b) Inelastic
(c) Perfectly elastic
(d) Perfectly inelastic

185. Availability of close substitutes makes the demand-
(a) Less elastic
(b) More elastic
(c) Perfectly elastic
(d) Perfectly inelastic

186. Elasticity is greater than unity for-
(a) necessaries
(b) luxuries
(c) complementary goods
(d) inferior goods

187. Complementary goods exhibit ________ elasticity of demand.
(a) low
(b) high
(c) unitary
(d) none of the above

188. All but one of the following commodities has elastic demand. Which one has inelastic demand?
(a) Coca-Cola
(b) Butter for poor person
(c) Cigarettes
(d) Electricity

189. Demand is ________ in the long period than in the short period.
(a) less elastic
(b) perfectly elastic
(c) perfectly inelastic
(d) more elastic

190. The demand for necessities is ________
(a) Highly elastic
(b) Highly inelastic
(c) Slightly elastic
(d) Slightly inelastic

191. If the demand for a commodity is ________, the entire burden of indirect tax will fall on the consumer.
(a) Relatively inelastic
(b) Perfectly inelastic
(c) Relatively elastic
(d) Perfectly elastic

192. Which of the following helps the manager to estimate the demand of a commodity?
(a) Price of the commodity
(b) Price of the substitute commodities
(c) Elasticity of the commodity
(d) All the above

193. The price elasticity of demand for a face cream is estimated to be ONE, no matter what the price or quantity demanded. In this case-
(a) a 1096 increase in price will result in 1096 increase in quantity demanded
(b) a 1096 increase in price will result in 1096 fall in quantity demanded
(c) an increase in price will increase the seller’s revenue
(d) none of the above

194. If demand is ________ then price cuts will ________ spending.
(a) perfectly inelastic ; increase
(b) elastic; increase
(c) elastic; decrease
(d) none of the above

195. Suppose the demand for Dosa at Dosa Plaza is elastic. If the owner of the restaurant is consid¬ering raising the price, it can expect relatively-
(a) large fall in quantity demanded
(b) large fall in demand
(c) small fall in quantity demanded
(d) small fall in demand

196. If a 1096 rise in the price of a commodity causes the demand to fall by 2096
(a) demand was inelastic
(b) demand was infinitely elastic
(c) demand was elastic
(d) none of the above

197. On typical straight line demand curve, the elasticity of demand at a point where it meets the price axis is-
(a) 2
(b) 0.75
(c) 1
(d) infinite

198. On a straight line demand curve the elasticity of demand at the mid-point of the curve is-
(a) 1/2
(b) 2
(c) 0
(d) 1

199. To measure price elasticity over large changes in price we use ________
(a) point elasticity method
(b) arc elasticity method
(c) income elasticity method
(d) none of the above

200. If the demand for a good is elastic, an increase in its price will cause the total expenditure of the consumers of the good to
(a) Remain the same
(b) Increase
(c) Decrease
(d) None of these

201. When the price of Good ‘X’ goes up by 1096 its demand falls from 800 units to 600 units. What is the price elasticity of Good ‘X?
(a) – 2.5 with flatter demand curve
(b) 2.5 with flatter demand curve
(c) – 1.5 with steeper demand curve
(d) 1.5 with steeper demand curve

202. The demand by a consumer for a commodity falls by 1096 when its price increases from ₹ 5 to ₹ 6 per unit. What is the price elasticity of demand?
(a) unitary elastic
(b) 0.5
(c) .8
(d) 1.5

203. 30 units of a commodity is purchased by a consumer at the price of ₹ 46 per unit. When the price rises to ₹ 50 per unit, he buy 15 units only. The co-efficient of elasticity do demand is –
(a) 4.75
(b) 5
(c) 5.75
(d) 6

204. A consumer spends ₹ 40 on a good at a price of ₹ 1 per unit and ₹ 60 at a price of ₹ 2 per unit. The elasticity of demand is-
(a) 0.25
(b) 2.5
(c) .35
(d) 3.5

205. A consumer buy 20 units of a good at ? ₹ 10 p.u. The price elasticity of demand of this good is -1. How much quantity would be demanded by the consumer when the PRICE FALLS to ₹8 p.u.?
(a) 21 units
(b) 22 units
(c) 23 units
(d) 24 units

206. A consumer buy 40 units of a commodity at ₹ 5 per unit. Its Ed = -3. How much demand of quantity he will buy at ₹ 6 per unit?
(a) 15 units
(b) 16 units
(c) 17 units
(d) 18 units

207. The market demand of a commodity at ₹ 4 per unit is 100 units. The price RISES and as a result its market demand falls to 75 units. If Ed = -1, find out its new price.
(a) ₹ 5
(b) ₹ 6
(c) ₹ 7
(d) ₹ 8

208. A consumer buy 80 units of a commodity at ₹ 4 per unit. When the price FALLS, he buy 100 units. If Ed = -1, the new price will be-
(a) ₹ 3.5
(b) ₹ 3
(c) ₹ 2.5
(d) ₹ 2

209. Demand for good ‘X’ is perfectly inelastic. What will be the change in demand if price falls from ₹ 10 per unit to ₹ 5 per unit?
(a) No change in demand
(b) Large change in demand
(c) Medium change in demand
(d) None of the above

210. What happens to total expenditure on a commodity when its price falls and its demand is price elastic?
(a) Total expenditure will remain constant
(b) Total expenditure will fall
(c) Total expenditure will increase
(d) None of the above

211. As the price of a product falls by 7%, the total expenditure on it has gone up by 3.5%. The elasticity of demand of this product is-
(a) Ed = 0
(b) Ed > l
(c) Ed < 1
(d) Ed = 1

212. Let Qx = 1400/p Find, total expenditure on good ‘X’ when Px falls from ₹ 6 to ₹ 1 ; derive the value of Ed and what shape the demand curve will take?
(a) ₹ 1400 ; Ed = 1 and rectangular hyperbola
(b) ₹ 1400 ; Ed < 1 and steep demand curve
(c) ₹ 1400 ; Ed > 1 and flatter demand curve
(d) ₹ 2800 ; Ed = 1 and rectangular hyperbola

213. The demand of a commodity was 100 units initially. With the rise in price by ₹ 5, the quantity demanded falls by 5 units. Elasticity of demand is 1.2. Find out the price BEFORE the change in demand.
(a) ₹ 100
(b) ₹ 140
(c) ₹ 120
(d) ₹ 160

214. Regardless of changes in its price, if the quantity demanded of a good remains constant, then the demand curve for the good will be-
(a) horizontal
(b) vertical
(c) positively sloped
(d) negatively sloped

215. The total revenue of the seller will increase with a fall in price if-
(a) demand is unitary
(b) the percentage change in quantity demand¬ed is less than percentage in price
(c) demand is inelastic
(d) the percentage in quantity demanded is greater than the percentage change in price

216. Point elasticity is useful for which of the following situations?
(a) A restaurant is considering increasing the price of dosa from ₹ 100 to ₹ 200
(b) Lakme is considering lowering the price of its lipsticks by 50%
(c) Maruti Car Ltd. lower the price of Alto 800 by ₹ 1,000
(d) None of the above

217. If there are finite change in price and quantity demanded over a stretch on the demand curve, it is called-
(a) Arc elasticity
(b) Point elasticity
(c) Average elasticity
(d) Both ‘a’ and ‘c’

218. The formula used in the Arc Elasticity method is-
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 218
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 218.1

219. When price elasticity at a single point on a demand curve is measured, we use ____
(a) Proportionate Method
(b) Geometric Method
(c) Total Expenditure Method
(d) Arc Elasticity

220. The exact and precise co-efficient of elasticity cannot be found by _____ method.
(a) Proportionate Method
(b) Geometric Method
(c) Total Expenditure Method
(d) Arc Elasticity

221. ____ method only classifies elasticity into elastic, inelastic or unitary elastic.
(a) Proportionate Method
(b) Geometric Method
(c) Total Expenditure Method
(d) Arc Elasticity

222. Slope of a demand curve may remain constant but elasticity still can does change. This is-
(a) Absolutely correct as slope of a curve and its elasticity are not the same thing
(b) Absolutely incorrect as slope of a curve and its elasticity are same thing
(c) Partly correct and partly incorrect
(d) None of the above

223. Let slope of demand curve = -0.5. The elasticity of demand will be ____ if initial price is ₹ 20 per unit and initial quantity is 50 units of the commodity
(a) – 0.6
(b) – 0.7
(c) – 0.8
(d) – 0.9
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 223

For Q. Nos. 224 to 226 refer the following information. Given –
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 224

224. What is the price of the commodity when Quantity Demanded is 20 units ?
(a) ₹ 4
(b) ₹ 5
(c) ₹ 6
(d) ₹ 7

225. What is the price of the commodity when the Quantity Demanded is 30 units?
(a) ₹ 4
(b) ₹ 5
(c) ₹ 6
(d) ₹ 7

226. Using percentage method, the price elasticity of demand is-
(a) 1.5
(b) 2.0
(c) 2.5
(d) 3.0

227. Life saving drugs has ____ demand.
(a) inelastic
(b) elastic
(c) perfectly elastic
(d) perfectly inelastic

228. The price elasticity of demand is 0.5. The percentage change in quantity is 4. What is the percentage in price?
(a) 6
(b) 8
(c) 10
(d) 12

229. When price of a commodity gets doubled, its quantity demanded is reduced to half. The coefficient of price elasticity of demand will be-
(a) – 1
(b) – 0.5
(c) – 1.5
(d) – 2

230. Calculate the price elasticity of demand-
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 230

(a) – 1
(b) – 2
(c) – 2.5
(d) – 1.5

231. The price elasticity of demand for good ‘X’ is twice that of good ‘Y’. Price of ‘X’ falls by 5% while that of good ‘Y’ rises by 5%. The percentage change in the quantities demanded of X and Y will be
(a) 10% and 5%
(b) 5% and 10%
(c) 10% and 15%
(d) 15% and 20%

232. A consumer buys a certain quantity of a good at a price of ₹ 10 per unit. When the price falls to ₹ 8 per unit, he buys 40% more quantity. The price elasticity of demand will be-
(a) 8
(b) 6
(c) 4
(d) 2
Consider the following diagram to answer questions from 233 to 234
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 232

233. At a price of OP the total expenditure of the consumer is-
(a) OC RP1
(b) OBTP
(c) BCRT
(d) None of the above

234. At a price of OP1 the total expenditure of the consumer is-
(d) OC RP1
(b) OBTP
(c) BCRT
(d) None of the above

235. All demand curves but one indicate same elasticity of demand at all their points-
(a) Horizontal Straight Line Demand Curve
(b) Vertical Straight Line Demand Curve
(c) Relatively Elastic Demand Curve
(d) Rectangular Hyperbola

236. The point where the downward sloping straight line demand curve intercept the horizontal axis, price elasticity of demand is ____ because price at the point is ____
(a) zero ; zero
(b) = 1; zero
(c) > 1 ; zero
(d) < 1 ; zero

237. If the price elasticity of demand is ZERO, it means expenditure on the commodity may ____ with the change in price of the commodity.
(a) increase
(b) decrease
(c) increase or decrease
(d) remain constant

238. The price elasticity of demand is higher, when the price of the commodity is-
(a) higher
(b) lower
(c) constant
(d) zero

239. If 10% increase in price of good ‘X’ causes a 10% increase in expenditure on good ‘X’, elasticity of demand is equal to ____
(a) 2
(b) 3
(c) 1
(d) zero

240. Price of the commodity increases from ₹ 10 to ₹ 12 per unit and expenditure on the commodity increases by 20%, elasticity of demand would be-
(a) 3
(b) zero
(c) 2
(d) 1

241. The income elasticity of demand in case of an inferior good is-
(a) positive
(b) zero
(c) negative
(d) infinite

242. If a good is a luxury, its income elasticity of demand is-
(a) positive & less than one
(b) negative but greater than one
(c) positive and greater than one
(d) zero

243. When a given change in income does not lead to any change in the quantity demanded, it is called as-
(a) negative income elasticity of demand
(b) income elasticity of demand less than one
(c) zero income elasticity of demand
(d) income elasticity of demand is greater than one

244. The goods having zero income elasticity of demand are called goods.
(a) luxury
(b) comfort
(c) necessity
(d) neutral

245. Salt, Match Box, etc. are ____ goods as Σy = 0
(a) neutral
(b) necessary
(c) luxury
(d) none of the above

246. As income rises, the consumer will go in for superior goods and as a result the demand for inferior goods will fall. This implies-
(a) income elasticity of demand less than one
(b) negative income elasticity of demand
(c) zero income elasticity of demand
(d) unitary income elasticity of demand

247. Firms that supply products with higher income elasticity of demand can expect ____ as the economy grows.
(a) rise in sales
(b) fall in sales
(c) constant sales
(d) first rise then

248. Firms that supply products with relatively low income elasticity of demand experience in an economic downturn.
(a) rise in sales
(b) fall in sales
(c) stable sales
(d) none of the above

249. Which one of the following is income inelastic product/service?
(a) Air travel
(b) Visit to water park
(c) Life Saving Drugs
(d) Dinner at a five star hotel

250. The responsiveness of demand of a commodity to the change in income is known as-
(a) price elasticity of
(b) income elasticity demand of demand
(c) cross-elasticity
(d) none of the above of demand

251. The responsiveness of the change in quantity demanded of one commodity due to a change in the price of another commodity is known as-
(a) price elasticity of demand
(b) income elasticity of demand
(c) cross elasticity of demand
(d) none of the above

252. Cross elasticity of demand between two perfect substitutes will be-
(a) low
(b) very high
(c) infinity
(d) very low

253. Complementary goods like tea and sugar have a ____ cross elasticity of demand.
(a) Negative
(b) Positive
(c) Zero
(d) Infinite

Consider the following information to answer Q. Nos. 254 to 256
The following elasticities relating to demand for CORN are given-

  • Price Elasticity EP = 1.50
  • Cross Elasticity between the demand for CORN and price of WHEAT = 0.75
  • Income Elasticity, Ey = 0.50

254. If the price of corn rises, other things being the same, the consumers will spend ____ on corn.
(a) more
(b) less
(c) same amount
(d) none of the above

255. The above information shows that wheat and corn are ____
(a) neutral goods
(b) necessity
(c) complementary goods
(d) substitute goods

256. If income rises, the share of income spent on corn will-
(a) remain same
(b) increase
(c) fall
(d) none of the above

257. Given – Qx = 500 – 4 Px
Find elasticity demand when price = ₹ 25
(a) .50
(b) .25
(c) 1
(d) .75

258. Give – Qx = 20 – 2 Px, what is the price elasticity of demand when price is ₹ 5?
(a) 0.50
(b) .25
(c) 1
(d) .75

259. If the amounts of two goods purchased increase or decrease simultaneously when the price of one changes, then the cross elasticity of demand between then is-
(a) one
(b) negative
(c) positive
(d) zero

260. Of the following commodities, which has the lowest elasticity of demand?
(a) Car
(b) Tea
(c) Houses
(d) Salt

261. Suppose your income increases by 20% and demand for a commodity increases by 10%, then the income elasticity of demand is-
(a) infinity
(b) negative
(c) zero
(d) positive

262. Which of the following does not have uniform elasticity of demand at all points?
(a) A downward sloping demand curve
(b) A vertical demand curve
(c) A rectangular hyperbola demand curve
(d) A horizontal demand curve

263. A negative income elasticity of demand for a commodity indicates that as income falls the amount of commodity purchased-
(a) remains unchanged
(b) falls
(c) rises
(d) none of these

264. In which case the elasticity shown by different points of a curve is the same?
(a) A rectangular hyperbola curve
(b) A straight line curve
(c) A downward sloping curve
(d) None of these

265. “The proportional change in quantity purchased divided by the proportional change in price”. The quotation is given by-
(a) Alfred Marshall
(b) Cobb – Douglas
(c) Joan Robionson
(d) Adam Smith

266. If the quantity demanded of a commodity is plotted against the price of a substitute goods, the curve is expected to be-
(a) Vertical
(b) Positively sloped
(c) Horizontal
(d) Negatively sloped

267. Cross elasticity of demand between petrol and automobiles is-
(a) infinite
(b) high
(c) zero
(d) low

268. There are two goods ‘X’ and ‘Y’. The cross elas¬ticity of demand for ‘X’ with respect to price of ‘Y’ is greater than zero, they are-
(a) complementary to each other
(b) complementary goods
(c) substitutes
(d) close substitutes

269. If two demand curves are shooting downward from the same point, then-
(a) flatter curve have greater elasticity of demand
(b) steeper curve have greater elasticity of demand
(c) both curves show same elasticity of demand since they shoot down from the same point
(d) none of the above

270. If income elasticity for the household for good A is 2, then the good is-
(a) necessity item
(b) inferior good
(c) luxury item
(d) neutral good
Consider the following figure to answer Q. Nos. 271 to 273
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 270

271. In the figure above elasticity of demand at point ‘D’ is-
(a) < elasticity of demand at point ‘C’
(b) > elasticity of demand at point ‘C’
(c) = elasticity of demand at point ‘C’
(d) None of the above

272. Price at point ‘B’ price is ____ and therefore elasticity of demand is ____
(a) high ; high
(b) low; low
(c) zero ; zero
(d) zero ; high/low

273. The elasticity of demand at point ‘A’ is-
(a) low
(b) infinite
(c) high
(d) zero
Consider the following figure to answer Q. Nos. 274 to 276
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 273

274. In the figure above, for a given fall in price to P1 the change in quantity is highest in case of-
(a) d1
(b) d2
(c) d3
(d) None of the above as all curves shoot from same point

275. Demand curve d2 is-
(a) more elastic than d1
(b) less elastic than d1
(c) more elastic than d2
(d) none of the above

276. Of the three demand curves highest elasticity is denoted by-
(a) d1
(b) d2
(c) d3
(d) all show same elasticity

277. If the quantity demanded of a commodity is plotted against the price of a complementary good, the demand curve will be-
(a) Negatively sloped
(b) Positively sloped
(c) Vertical
(d) Horizontal

278. Income of a household rises by 10% and its demand for jawar falls by 4%. In this case jawar is ____ good.
(a) Normal
(b) Luxurious
(c) Inferior
(d) Neutral

279. If Cross Elasticity of Demand is equal to Zero, it means that the goods are-
(a) Perfect Substitute goods
(b) Complementary goods
(c) Unrelated goods
(d) Substitutes

280. If the quantity demanded of Tea rises by 5% when the price of Coffee increase by 20%, the Cross Elasticity of demand between Tea and Coffee is-
(a) – 0.25
(b) 0.25
(c) – 4
(d) 4

Theory of Consumer Behaviour

281. Want satisfying power of a commodity is called-
(a) consumption
(b) utility
(c) production
(d) value addition

282. Utility depends on the ____ of a want.
(a) intensity
(b) quality
(c) novelty
(d) uniformity

283. All but one are the commodities that have both utility and usefulness except-
(a) pencil
(b) notebook
(c) tobacco
(d) clothes

284. Utility is-
(a) a subjective and relative concept
(b) morally or ethically colourless
(c) different from pleasure
(d) all the above

285. Utility may be defined as-
(a) power of a commodity to satisfy wants
(b) usefulness of a commodity
(c) desire for a commodity
(d) none of the above

286. The utility of a commodity is ____
(a) its accepted social value
(b) the extent to which it is of practical use
(c) the fact that it is wanted by some people
(d) its relative scarcity

287. Utility is measured in terms of-
(a) Grams
(b) Seconds
(c) Centimeter
(d) Utils

288. Utility is-
(a) usefulness
(b) moral implications
(c) legal implications
(d) none of the above

289. The cardinal approach postulates that utility can be ____
(a) compared
(b) measured
(c) ranked
(d) all the above

290. Cardinal Utility Theory is associated with-
(a) W.S. Jevons
(b) Dr. A. Marshall
(c) H.H. Gossen and Walras
(d) All the above

291. Cardinal Utility approach is also known as-
(a) Indifference Curve Analysis
(b) Hicks and Allen Approach
(c) Marginal Utility Analysis
(d) All the above

292. Marginal Utility Approach is also called-
(a) Ordinal Utility Analysis
(b) Hicks and Allen Approach
(c) Cardinal Utility Analysis
(d) All the above

293. According to marginal utility analysis, utility can be measured as-
(a) 1st, 2nd, 3rd ……
(b) 1,2,3, ……
(c) Nominal numbers
(d) All the above

294. Cardinal measure of utility is required in-
(a) Marginal Utility Theory
(b) Indifference Curve Theory
(c) Revealed Preference Theory
(d) None of the above

295. Which of the following approaches uses MONEY as a measuring rod of utility-
(a) Ordinal
(b) Cardinal
(c) Both ‘a’ and ‘b’
(d) Neither ‘a’ nor ‘b’

296. Which of the theories is applicable under Cardinal Approach to Utility?
(a) Law of Diminishing Marginal Utility
(b) Law of Equi-Marginal Utility
(c) Consumer Surplus Theory
(d) All the above

297. All but one are the assumptions of the Cardinal Utility Theory. Which one is not the assumption?
(a) Rational Consumer
(b) Constant Marginal Utility of money
(c) Perfectly Competitive Market
(d) Independent Utilities

298. Which of the following assumptions ignores the presence of complementary and substitute goods in Cardinal Utility Theory?
(a) Rational Consumer
(b) Constant Marginal Utility of money
(c) Independent Utilities
(d) None of the above

299. The price that a consumer is ready to pay for a commodity represents the utility he is expecting from the commodity means-
(a) Utility is measurable
(b) Utility is not measurable
(c) Money is the measuring rod of utility
(d) Both ‘a’ and ‘c’

300. Consumer makes all calculations carefully and then purchase the commodities in order to maximize his utility means consumer is-
(a) careless
(b) rational
(c) irrational
(d) unpredictable

301. Which of the following statements regarding ordinal utility is true?
(a) Utility can be measured, but cannot be ranked in order of preferences
(b) Utility can be measured only
(c) Utility can neither be measured nor be ranked in order or preferences
(d) Utility cannot be measured, but can be ranked in order of preferences

302. The cardinal approach to utility assumes marginal utility of money is-
(a) Zero
(b) Constant
(c) Increasing Trend
(d) Decreasing Trend

303. ____ is the sum total of the utility derived from additional units of a commodity
(a) Average utility
(b) Marginal utility
(c) Total utility
(d) Ordinal utility

304. _____ is the addition made to the total utility by the consumption of additional unit of a commodity
(a) Marginal Utility
(b) Total Utility
(c) Average Utility
(d) Ordinal Utility

305. Marginal Utility can be stated by-
(a)
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 305
(b) Additional utility derived from additional unit of a commodity
(c) TUn – TUn-1
(d) All the above

306. Utility of a good can be termed as the ____
(a) Monetary value a consumer gains from consuming a particular good
(b) The difference between what a consumer is willing to pay and actually pays
(c) The satisfaction a consumer derives from the consumption of a particular good
(d) The desire to consume a good

307. Marginal Utility-
(a) is always positive
(b) is always negative
(c) can be positive or negative but not zero
(d) can be positive or negative or zero

308. Total Utility can be calculated as-
(a) TU = Σ MU
(b) TU = MU1 + MU2 + MU3 + MUn
(c) Both ‘a’ and ‘b’
(d) none of the above

309. When only ONE unit of the commodity is consumed-
(a) MU = TU
(b) MU > TU
(c) MU < TU
(d) none of these

310. When marginal utility is negative, total utility is-
(a) zero
(b) diminishing
(c) maximum
(d) minimum

311. When total utility is maximum, marginal utility becomes-
(a) zero
(b) unity
(c) positive
(d) negative

312. Total Utility is ____ when marginal utility is positive
(a) maximum
(b) diminishing
(c) increasing
(d) minimum

313. When TU is increasing at a diminishing rate, MU must be-
(a) increasing
(b) decreasing
(c) constant
(d) negative

314. MU of a particular commodity at the point of saturation is-
(a) zero
(b) unity
(c) greater than unity
(d) less than unity

315. Which of the following equation is incorrect?

CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 315

316. The rate of which TU changes is indicated by-
(a) MU
(b) TU
(c) both ‘a’ and ‘b’
(d) none of these

317. With the increase in consumption by ONE unit of the commodity, TU increases from 120 to 150, then marginal utility is-
(a) 50
(b) 1.25
(c) 0.88
(d) 30

318. The shape of MU curve is-
(a) upward sloping
(b) Concave to origin
(c) downward sloping
(d) straight line

319. TU starts diminishing when-
(a) MU is positive
(b) MU is increasing
(c) MU is negative
(d) MU is constant

320. TU curve-
(a) always rises
(b) always falls
(c) first falls and then rises
(d) first rises at a diminishing rate, reaches maximum point and then falls

321. MU curve will be below X-axis when-
(a) MU is positive
(b) MU is negative
(c) MU is zero
(d) MU is constant

322. What is called the point of satiety?
(a) The point where MU >0
(b) The point where MU < 0
(c) The point where MU = 0
(d) None of these

323. ____ states that marginal utility of a good diminishes as the consumer consumers additional units of a good.
(a) The Law of Equi-Marginal Utility
(b) The Law of Diminishing Marginal Utility
(c) Revealed Preference theory
(d) None of the above

324. MU curve of a consumer is also his ____
(a) indifference curve
(b) total utility curve
(c) supply curve
(d) demand curve

325. ____ curve is the slope of the TU curve.
(a) MU Curve
(b) Average Utility Curve
(b) Supply Curve
(d) Indifference Curve

326. At saturation point the slope of total utility curve is ____
(a) rising
(b) falling
(c) zero
(d) none of these

327. Constant Marginal Utility of Money means ___
(a) quantity
(b) importance
(c) composition
(d) Both ‘a’ and ‘c’

328. A curve which first move upwards then down wards is naturally ____
(a) Marginal Utility Curve
(b) Average Utility Curve
(c) Total Utility Curve
(d) Demand Curve

329. The peradox of value means that-
(a) people are irrational in consumption choices
(b) the total utilities yielded by commodities do not necessarily have relationship to their prices
(c) value has no relationship to utility schedule
(d) free goods are goods that are essential to life

330. The value paradox (diamond and water paradox) arises because-
(a) Water has too low price
(b) Value in use differs from utility
(c) Diamonds are too high priced
(d) Value-in-use differs from value-in-exchange

331. In ONE COMMODITY, case, the consumer is at equilibrium when-
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 331

332. The second samosa consumed gives lesser satisfaction to Mohan. This is a case of-
(a) Law of Demand
(b) Law of Diminishing Returns
(c) Law of Diminishing Marginal Utility
(d) Law of Supply

333. Marginal Utility of a commodity depends on its quantity and is –
(a) inversely proportional to its quantity
(b) not proportional to its quantity
(c) independent of its quantity
(d) none of the above

334. Which of the following is NOT an assumption of Law of Diminishing Marginal Utility?
(a) Homogenity
(b) Continuity
(c) Standard Unit
(d) None of the above

335. MU of one commodity has no relation with MU of another commodity implies-
(a) assumption of uniform quality
(b) assumption of rational consumer
(c) assumption of independent utilities
(d) assumption of reasonable quantity

336. Consumer in consumption of single commodity ‘X’ will be at equilibrium when-
(a) MUx = Px
(b) Mux >Px
(c) Mux < Px
(d) all the above

337. if Mux >Px then consumer-
(a) is not at equilibrium
(b) he will buy more of X good
(c) he will buy less of X good
(d) both ‘a’ and ‘b’

338. Suppose the price of good X is given as ₹ 8 and the MU in terms of money for 4 units is given as-
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 338

How many units should a consumer purchase to maximize satisfaction?
(a) 4 units
(b) 3 units
(c) 2 units
(d) 1 unit

339. Following is the utility schedule of a person-
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 339

If the commodity is sold for ₹ 4 and MU of one rupee is 5 utils, how many units will the consumer buy to maximize satisfaction?
(a) 1 unit
(b) 2 units
(c) 3 units
(d) 4 units
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 339.1

340. Suppose that an ice-cream is sold for ₹ 30. Ritu has already eaten 3 ice-creams. Her MU from eating the 3rd ice-cream is 90 utils. MU of ₹ 1 is 3 utils. Should she eat more ice-creams or stop?
(a) Stop eating more ice-creams
(b) Continue eating more ice-creams
(c) Stop after eating one more ice-cream
(d) Eat 2 more ice-creams

341. If one burger give you satisfaction of 15 utils and two burgers give total satisfaction of 25 utils, then the marginal utility of second burger is-
(a) 10 utils
(b) 11 utils
(c) 12 utils
(d) 13 utils

342. ____ refers to a situation when a consumer maximizes his satisfaction with his limited income.
(a) Producer’s Equilibrium
(b) General Equilibrium
(c) Consumer’s Equilibrium
(d) None of these

343. The general condition of consumer’s equilibrium with respect to any particular product is-
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 343

344. The consumer is in equilibrium and is consuming good-X only. The MU from last unit of good X consumed is 50 utils and Mum =10. What is the price of good X?
(a) ₹ 5
(b) ₹ 40
(c) ₹ 10
(d) ₹ 4

345. The principal limitation of utility analysis re¬lates to the basic assumption that utility can be expressed in terms of-
(a) cardinal numbers
(b) ordinal numbers
(c) both ‘a’ and ‘b’
(d) none of these

346. Marginal Utility theory is based on ____ from a good.
(a) actual satisfaction
(b) anticipated satisfaction
(c) realised satisfaction
(d) none of these

347. Which one of the following is the ODD one?
(a) Law of Substitution
(b) Law of Diminishing Marginal Utility
(c) Indifference curve analysis
(d) Law of Variable Proportions

348. Which statement is correct in connection with utility?
1. It is same for all consumer
2. It is a subjective concept
3. It is different for all its consumers
4. It’s a want satisfying power
5. It decreases uniformly for all its consumers
(a) 1, 2 and 3 only
(b) 2, 3 and 4 only
(c) 3, 4 and 5 only
(d) 1, 3 and 5 only

349. The excess of the price which a person would be willing to pay rather than go without the thing over that he actually does pay is called-
(a) extra satisfaction
(b) surplus satisfaction
(c) consumer’s surplus
(d) all the above

350. The doctrine of consumer’s surplus is based on ____
(a) Elasticity of Demand
(b) Indifference Curve Analysis
(c) Law of Substitution
(d) Law of Diminishing Marginal Utility

351. The term optimum allocation of consumer’s expenditure on different goods and services is used in-
(a) Law of Demand
(b) Giffens Paradox
(c) Law of Equi-Marginal Utility
(d) Law of Diminishing Marginal Utility

352. Buyer’s surplus is highest in the case of _____
(a) Luxuries
(b) Comforts
(c) Necessaries
(d) All the above
For Q – Nos. 353 to 355, refer the following figure :
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 352

353. In the above figure, the total utility is represented by the area ____
(a) DPR
(b) OQRP
(e) OQRD
(d) none of these

354. In the above figure, the given price is _____ and the consumer for OQ amount of commodity spends a total amount of money equal to the area _____
(a) OP ; POOR
(b) OD ; POOR
(c) OP ; DPR
(d) OD ; DPR

355. In the above figure, the consumer’s surplus is shown by the area-
(a) POOR
(b) DPR
(c) OQRD
(d) none of these
For Q. Nos. 356 and 359 refer the following figure
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 355

356. In the above diagram, the consumer’s surplus at the price of P1 is equal to the area-
(a) P1CA
(b) P1OQ1
(c) Both ‘a’ and ‘b’
(d) none of these

357. In the above diagram when price of the commodity decreases from P1 to P2, the gain in consumer’s surplus is equal to ____
(a) AP3C
(b) AP2D
(c) P1P2DC
(d) AP3B

358. In the above diagram, when price of the commodity rises from P1 to P3, the loss in consumer’s surplus is equal to ___
(a) AP3B
(b) AP1C
(c) AP2D
(d) P1P3 BC

359. The consumer’s surplus at the price P1 is ____ than the consumer’s surplus at the price of P3 but ____ at the price of P2.
(a) greater; less
(b) less ; greater
(c) same at all the prices
(d) none of these

360. The area of consumer’s surplus is correctly shaded in ____
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 360
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 360.1

361. The concept of consumer’s surplus is useful in ____
(a) Distinguishing between value-in-use and value-in-exchange
(b) Comparing the advantages of different places
(c) Useful in cost benefit analysis of projects
(d) All the above

362. Amit divides his income entirely between Good X and Good Y. He allocates his income between these two goods is such a way that he maximizes his satisfaction. His MU from extra unit of Y is 4 Utils and the price of Y is ₹ 40. If the price of X is ₹ 80, how much of X good he consumes per day?
(a) 4
(b) 6
(c) 8
(d) 10

363. A free good is plentiful so as to have no price, will be used upto the point where its marginal utility is ____
(a) zero
(b) highest
(c) lowest
(d) none of these

364. The more rapidly the marginal utility of additional units of a good falls, the will be the elasticity of demand.
(a) more
(b) less
(c) zero
(d) infinite

365. According to utility theory, for a consumer who is maximizing total utility, Mu/ Mub
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 365

366. In which of the following fields the concept of consumer’s surplus is useful?
(a) Monetary policy
(b) Tax policy
(c) Investment policy
(d) Fixing remuneration on factors

367. An example of a commodity having consumers surplus is ____
(a) Salt
(b) Branded Shirt
(c) Machinery
(d) Pen

368. Consumer’s surplus means-
(a) difference between market price and individual price
(b) difference between actual and potential price
(c) low price is prevailing
(d) happiness of the consumer

369. Consumer’s surplus is measured with the help of ____
(a) market demand curve
(b) marginal productivity curve
(c) marginal utility curve
(d) none of these

Consider the following details to answer Q. Nos. 370 to 372
Given Px = ₹ 2 and Py = ₹ 1 and income = ₹ 12.
Also given is the utility schedule of good X & Y.
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 369

370. How many units of X and Y the consumer will buy in order to maximize utility?
(a) 2 units of X & 6 units of Y
(b) 3 units of X & 5 units of Y
(c) 4 units of X & 4 units of Y
(d) 3 units of X & 6 units of Y

371. What will be the total utility received by the Consumer from the two commoddities
(a) 90
(b) 92
(c) 93
(d) 95

372. How much of total income will the consumer spend on good X and good Y?
(a) ₹ 3 & ₹ 6
(b) ₹ 6 & ₹ 6
(c) ₹ 6 & ₹ 3
(d) ₹ 3 & ₹ 3

373. When the price of both the commodities is same, the consumer attains maximum satisfaction where

CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 373

374. A consumer will purchase more of Good-x than Good-Y, only when :
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 374

375. A locus of constant utility is called the ____
(a) expansion path
(b) utility function
(c) indifference curve
(d) demand function

376. An indifference curve is ____
(a) downward sloping and convex to origin
(b) downward sloping and concave to origin
(c) upward sloping and convex to origin
(d) vertical and parallel to y-axis

377. The slope of indifference curve show-
(a) marginal rate of substitution
(b) level of satisfaction to the consumer
(c) elasticity of indifference curve
(d) none of the above

378. At a point near the right hand below corner of a indifference curve, the MRS of commodity ‘X’ for commodity ‘Y’ is-
(a) very high
(b) very low
(c) zero
(d) neither high nor low

379. As one moves upward towards left along an indifference curve, the MRS of commodity ‘X’ for commodity ‘Y’-
(a) increases
(b) decreases
(c) is constant
(d) fluctuates

380. A higher IC denotes-
(a) a higher level of satisfaction
(b) a lower level of satisfaction
(c) same level of satisfaction
(d) none of the above

381. Which of the following is not a characteristics of the indifference curve-
(a) downward sloping to the right
(b) convex to the origin
(c) intersecting at one point
(d) none of the above

382. IC theory assumes that-
(a) buyers can measure satisfaction
(b) buyers can identify preferred combinations of goods
(c) the prices of the goods are equal
(d) none of the above

383. An IC shows all combinations of two commodities which-
(a) give the same level of satisfaction to the consumer
(b) represent the highest level of satisfaction to the consumer
(c) give the different level of satisfaction to the consumer
(d) none of the above

384. The slope of IC tends to diminish as we move down the curve means-
(a) MRS is constant
(b) MRS is increasing
(c) MRS is decreasing
(d) none of the above

385. Marginal rate of substitution of ‘X’ for ‘Y’ is calculated as-
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 385

386. In an indifference map, higher IC indicates :
(a) lower level of satisfaction
(b) same level of satisfaction
(c) higher level of satisfaction
(d) either same or higher level of satisfaction

387. MRS is determined by-
(a) satisfaction level of the consumer
(b) income of the consumer
(c) tastes of the consumer
(d) preferences of the consumer

388. A set of ICs drawn in a graph is called-
(a) indifference curve
(b) indifference map
(c) budget line
(d) budget set

389. An IC is convex to origin because of-
(a) diminishing marginal utility
(b) diminishing marginal productivity
(c) diminishing marginal cost
(d) diminishing marginal rate of substitution

390. Marginal Rate of Substitution indicates the slope of-
(a) budget line
(b) indifference curve
(c) total utility curve
(d) demand curve

391. The slope of IC is different at different points of the curve
(a) Correct
(b) Incorrect
(c) ∴ slope of IC is measured by MRS which falls
(d) Both ‘a’ & ‘c’

392. Only one IC will pass through a given point on an indifference map implies that-
(a) One combination can lie only on one IC
(b) One combination can lie on two ICs.
(c) One combination can lie on as many ICs.
(d) none of the above

393. Considering the map, the satisfaction derived from the combination is _____
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 393

(а) A > B, B > C but A > C
(b) A>B>C
(c) A < B > C
(d) C > B > A

394. A consumer may not be in equilibrium at point C or D because _____
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 394

(a) MRSxy = Px / Py
(b) The whole income is not spent
(c) Point E gives higher level of Satisfaction with the same expenditure as on point C and D
(d) Of sufficiency of income

395. On an indifference curve, the MRS falls when-
(a) moving upwards
(b) moving downwards
(c) at the middle
(d) none of these

396. Should a consumer move upward along an IC, his total utility-
(a) First increases and then decreases
(b) First decreases and then increases
(c) Remains constant
(d) Increases

397. Which of the following is not an assumption of ordinal utility analysis?
(a) Consumers are consistent in their preference
(b) Consumers can measure the total utility
(c) Consumers are non-satiated with respect of two goods
(d) None of the above

398. All points on the same IC represent-
(a) Equal satisfaction
(b) Higher satisfaction
(c) Lower satisfaction
(d) All the above

399. IC approach deals with-
(a) One commodity only
(b) Two commodities
(c) Many commodities
(d) No commodities at all

400. If two goods were perfect substitutes of each other, the IC will be-
(a) Curvilinear
(b) linear
(c) right angled
(d) convex to origin

401. A downward sloping linear IC indicates that the rate of MRSxy is-
(a) diminishing
(b) increasing
(c) constant
(d) zero

402. In the case of two perfect substitute goods, the IC will be-
(a) L – shaped
(b) U – shaped
(c) S – shaped
(d) Straight line

403. If a consumer has monotonic preferences, which bundle will he choose?
(a) (10,8)
(b) (8,6)
(c) (10,7)
(d) (8,8)

404. If a consumer has monotonic preferences how would he rank his preference over the bundles (10,9); (9,9) (10,10)-
(a) (10,9) (10,10) ; (9,9)
(b) (10,10) (10,9) ; (9,9)
(c) (9,9) (10,10) ; (10,9)
(d) None of the above

405. When an IC is L shaped, then two goods will be-
(a) Perfect Substitute Goods
(b) Perfect Substitute
(c) Perfect Complementary Goods
(d) Complementary Goods

406. The Other name associated with ordinal approach apart from R.G.D. Allen and J.R. Hicks is-
(a) Edgeworth
(b) Vilfredo Pareto
(c) Slutsky
(d) All the above

407. _____ depicts complete scale of consumer’s tastes and preferences.
(a) Budget Line
(b) MU curve
(c) Indifference curve map
(d) One indifference curve

408. One combination can lie only on one IC means-
(a) Only one IC will pass through the point
(b) Two ICs will pass through the point
(c) As many ICs can pass through the point
(d) None of the above

409. When the quantity of one good is increased in the combination, the quantity of other is reduced to maintain same level of satisfaction. This means that IC is ____
(a) positively sloped
(b) vertical straight line
(c) horizontal straight line
(d) negatively sloped

410. When the combinations on a IC do not represent same level of satisfaction, it means IC is _____
(a) positively sloped
(b) horizontal straight line
(c) vertical straight line
(d) all the above

411. is a graphical representation of all possible combination of two goods which can be purchased given income and prices.
(a) Budget Line
(b) Price Opportunity Line
(c) Consumption Possibility Line
(d) All the above

412. If a combination is below the Budget Line, it indicates that there is-
(a) Underspending by a consumer
(b) Overspending by a consumer
(c) Full spending by a consumer
(d) None of the above

413. All combinations that lie on the budget line are _____
(a) unaffordable by consumer
(b) affordable by consumer
(c) attainable by consumer
(d) Both ‘b’ and ‘c’

414. Each point on the budget line shows-
(a) the ratio of change in MU
(b) the ratio of prices of two goods
(c) Marginal Rate of Substitution .
(d) Both ‘b’ and ‘c’

415. A shift of the budget line, when prices are constant, is due to-
(a) change in demand
(b) change in income
(c) change in preference
(d) change in utility

416. Slope of budget line is indicated by-
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 416

417. The budget line of a consumer in the analysis of IC is-
(a) Vertical straight line
(b) Horizontal straight line
(c) Straight line sloping down towards right
(d) Straight line sloping upwards towards right

418. The budget line is not known as-
(a) consumption possibility curve
(b) price line
(c) price opportunity line
(d) isoutility line

419. Refer the following figure-
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 419

Figure denotes-
(a) Change in income
(b) Change in price of Good-X
(c) Change in price of Good-Y
(d) Change in the prices of both Good X & Y

420. When the prices of both Good-X and Good-Y change by same percentage, a rise in price will-
(a) shift the budget line upwards
(b) shift the budget line downwards
(c) no shift in budget line
(d) all the above

421. If the budget line does not shift it means-
(a) prices of both goods X & Y has changed by same percentage
(b) there is no change in the prices of both goods X & Y
(c) money income of consumer has changed
(d) income of the consumer and prices of both goods X & Y change by same percentage

422. If price of Goods-X falls and price of Good-Y rises then budget line will-
(a) shift upward
(b) shift downward
(c) rotate
(d) remain same

423. Refer the following figure, what change budget line shows –
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 423

(a) Px fails and Py rises
(b) Px rise and Pv falls
(c) Px=Py
(d) none of the above

Refer the following to answer question nos. 424 to 426

A consumer wants to buy two good X and Y. The prices of the two goods are ₹ 4 and ₹ 5 respectively. The consumers income is ₹ 20.

424. If the consumer spends the entire money income to buy only Good-X, how much quantity he can buy of it?
(a) 5 units
(b) 6 units
(c) 4 units
(d) 3 units

425. If the consumer spends the full income only to buy Good-Y, how much quantity he would be able to buy of it-
(a) 5 units
(b) 6 units
(c) 4 units
(d) 3 units

426. The slope of the budget line is-
(a) 0.9
(b) 0.8
(c) 0.7
(d) 0.5

427. A consumer can buy 6 units Good-X and 8 units of Good-Y if he spends his entire income. The prices of the two goods are ₹ 6 and ₹ 8 respectively. What is the consumer’s income.
(a) ₹ 100
(b) ₹ 150
(c) ₹ 200
(d) ₹ 250

428. Ravi consumes Apples and Bananas whose price are ₹ 6 and ₹ 3 p.u. respectively. If he is in the state of equilibrium, the value of marginal rate of substitution is-
(a) 4
(b) 3
(c) 2
(d) 1

429. A budget constraint line is a result of
(a) market price of good X
(b) market price of good Y
(c) income of the consumer
(d) all the above

430. The budget line equation is-
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 430

431. The consumer will maximize his satisfaction and will be at equilibrium where-
(a) budget line is tangent to IC
(b) price line crosses on IC
(c) price line does not touch the IC
(d) none of the above

432. How many indifference curves can touch the price line-
(a) Two
(b) One
(c) As many as possible
(d) No IC will touch

433. MRSxy = px / py where-
(a) consumer is in equilibrium
(b) consumer is not at equilibrium
(c) producer is at equilibrium
(d) none of the above

434. The point where the budget line is tangent to an IC-
(a) equal amounts of goods give equal satisfaction
(b) the ratio of prices of the two goods equals MRS
(c) the prices of the goods are equal
(d) none of the above

435. Maximisation of total utility is an assumption of a consumer in an analysis that is-
(a) Indifference curve approach
(b) Demand analysis
(c) Utility analysis
(d) All the above

436. A consumer is in equilibrium at the point of tangency of his IC and the price line, because-
(a) He cannot go below
(b) He cannot go beyond
(c) He cannot go along
(d) None of the above

437. Which of the following conditions is necessary for utility to be maximum?
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 437

Consider the following figure and answer question Nos. 438 and 439
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 437.1

438. The consumer is not at equilibrium at point C, since-
(a) MRSxy > Px / Py
(b) MRSxy = Px / Py
(c) MRSxy < Px / Py (d) None of the above

439. The consumer is at equilibrium at point E, since-
(a) MRSxy > Px / Py
(b) MRSxy = Px / Py
(c) MRSxy < Px / Py
(d) MUx = MUy

440. In a situation where MRSxy > px / py , the consumer would react by-
(a) reducing the consumption of Good – X
(b) increasing the consumption of Good – Y
(c) increasing the consumption of Good – X
(d) none of these

441. When MRSxy < px / py , in order to reach equilibrium, the consumption of-
(a) Good-Y should increase
(b) Good-X should increase
(c) Good-Y should decrease
(d) None of these

442. The situation of a consumer is better when-
(a) MRSxy >Px / Py
(b) MRSxy < Px / Py
(c) MRSxy = Px / Py
(d) none of these

Read the following to answer question Nos. 443 and 444
A consumer wants to buy two goods X and Y. He has ₹ 24 to spend. The prices of two goods X and Y are ₹ 4 and ₹ 2 respectively.

443. Which of the following bundles a consumer would be able to buy-
(a) 4X and 5Y
(b) 2X and 7Y
(c) 3Xand6Y
(d) None of the above

444. What will be the MRSxy when the consumer is at equilibrium-
(a) 1:2
(b) 2:1
(c) 1:1
(d) 2:2

445. At the point of equilibrium on Indifference Curve-
(a) Slope of budget line = slope of IC
(b) Slope of budget line > slope of IC
(c) Slope of budget line < slope of IC
(d) None of the above

446. In case of IC approach, an income effect means-
(a) a movement towards X-axis
(b) a movement towards the right
(c) a movement towards another indifference curve
(d) a movement along the indifference curve

447. In the case of substitution effect in IC approach, the consumer moves-
(a) along the same IC from left to right
(b) up and down along the same IC
(c) from a point on IC to a point on budget line
(d) none of these

448. IC is downward sloping from left to right since more X and less Y gives-
(a) less satisfaction
(b) more satisfaction
(c) equal satisfaction
(d) maximum satisfaction

Supply

449. In economics, supply means-
(a) quantity of a commodity which is actually offered for sale at a given price in a given period of time
(b) quantity of a commodity which is offered for sale at a particular price
(c) stock of commodity which is sold at a give price
(d) none of the above

450. Which of the following is not true in case of supply?
(a) Supply is a flow concept
(b) Supply is a stock concept
(c) Supply is directly related to price
(d) Market supply is horizontal summation of the individual supply curves

451. When price rises, quantity supplied-
(a) expand
(b) falls
(c) increases
(d) is unchanged

452. Which of the following statement is correct?
(a) Supply does not depends on Govts, tax policy
(b) Stock is the quantity brought to market for sale
(c) There is difference between stock and supply
(d) Stock and supply are always equal

453. The supply of good refers to-
(a) actual production of a good
(b) total stock of the good
(c) stock available for sale
(d) amount of the good offered for sale at a particular price per unit of time

454. According to law of Supply-
(a) there is positive relation between supply and price
(b) there is negative relation between supply and price
(c) there is constant relation between supply and price
(d) there is no relation between supply and price

455. ______ shows the quantity of goods a producer or seller wishes to sell at a given price level
(a) Average Product Curve
(b) Marginal Product Curve
(c) Supply Curve
(d) Total Product Curve

456. The supply curve slopes-
(a) Slopes downward from left to right
(b) Slopes upwards from left to right
(c) Slopes upward from right to left
(d) None of the above

457. Graphical presentation of supply curve of an individual firm in the market is called-
(a) producer’s demand curve
(b) consumers demand curve
(c) individual supply curve
(d) market supply curve

458. When the state of technology improves, supply
(a) fall
(b) contract
(c) increase
(d) expand

459. When government imposes taxes, supply will
(a) expand
(b) increase
(c) contract
(d) decrease

460. Movement along the supply curve occurs due to-
(a) rise in price of the commodity
(b) fall in price of the commodity
(c) factors other than own price of the commodity
(d) both ‘a’ and ‘b’

461. Supply curve shifts rightward due to-
(a) increase in the number of firms
(b) fall in the price of factors of production
(c) new and better technology
(d) all the above

462. Expansion of supply takes place due to-
(a) change in goal of the firm
(b) rise in price of the commodity
(c) number of firms
(d) technique of production

463. If producer expects an increase in price of goods in the near future, then current supply will:
(a) fall
(b) rise
(c) remain constant
(d) become zero

464. When more units of the good are supplied at a higher price, it is called-
(a) Contraction of supply
(b) Change in supply
(c) Extension in supply
(d) Increase in supply

465. When supply price increases in the short run, the profit of the producer-
(a) Increases
(b) Decreases
(c) Remains constant
(d) Decreases a bit

466. The long-run supply curve of a diminishing cost industry is-
(a) downward sloping to right
(b) upward sloping to left
(c) horizontal
(d) vertical

467. The law of supply does not apply to-
(a) agriculture goods
(b) industrial goods
(c) perishable goods
(d) both ‘a’ and ‘c’

468. When supply falls due to factors other than own price of the commodity, it means-
(a) contraction of supply
(b) decrease in supply
(c) extension of supply
(d) none of these

469. In case of contraction of supply, there is-
(a) an upward movement on supply curve
(b) shift of supply curve to the right
(c) downward movement on supply curve
(d) shift to supply curve to the left

470. In case of increase in supply, there is –
(a) an upward movement on supply curve
(b) shift of supply curve to the right
(c) downward movement on supply curve
(d) shift to supply curve to the left

471. Imposition of a unit tax, shifts the supply curve-
(a) to the right
(b) to the left
(c) to the right as well
(d) none of these as to the left

472. Due to incentives like tax holiday, subsidies which reduces the cost of production, the supply quantity will-
(a) Increase
(b) Decrease
(c) Remain Constant
(d) Become zero

473. In case of failure of rains, floods, etc. the supply of agricultural goods will-
(a) Increase
(b) Decrease
(c) Remain constant
(d) Become zero

474. The percentage change in quantity supplied due to percentage in price is called-
(a) Expansion of supply
(b) inelastic supply
(c) elasticity of supply
(d) changes in supply

475. Elasticity of supply refers to the responsiveness of quantity supplied to changes in its-
(a) Demand
(b) Price
(c) Cost of production
(d) State of technology

476. When supply curve is a vertical straight line, it indicates _____ supply
(a) unitary elastic
(b) perfectly elastic
(c) perfectly inelastic
(d) relatively elastic

477. A straight line supply curve passing through origin forming 50° indicates-
(a) E =0
(b) Es= 1
(c) Es > 1
(d) Es < 1

478. Elasticity of supply for a positively sloped supply cure that starts from price axis is –
(a) zero
(b) greater than one
(c) less than one
(d) equal to one

479. In case of perfectly elastic supply the supply curve is-
(a) rising
(b) vertical
(c) falling
(d) horizontal

480. Supply is relatively elastic in-
(a) very short period
(b) short period
(c) long period
(d) both ‘b’ and ‘c’

481. When supply curve is parallel to X-axis, elasticity of supply is-
(a) zero
(b) infinity
(c) unity
(d) negative

482. If the co-efficient of elasticity of supply is 0.6, the supply is-
(a) perfectly inelastic
(b) inelastic
(c) perfectly elastic
(d) elastic

483. When upward sloping straight line curve shoots up from quantity axis, it implies-
(a) Es < 1
(b) Es > 1
(c) Es = 1
(d) Es = 0

484. Which of the above curves unitary elastic demand?
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs 484

(a) Curve A
(b) Curve B
(c) Curve C
(d) all the above

485. Elasticity of supply for a positively sloped supply that shoots from origin
(a) Es < 1
(b) Es > 1
(c) Es = 1
(d) Es = ∞

486. The supply of perishable goods is-
(a) relatively elastic
(b) relatively inelastic
(c) perfectly elastic
(d) none of the above

487. The supply function of a commodity is given by – Q = 20 + 3 Px. If the price is ₹ 6, the quantity supplied is-
(a) 35 units
(b) 38 units
(c) 40 units
(d) 42 units

Refer the following supply function to answer 0. Nos. 488 to 490
Qs = -10 + 2p

488. How much quantity is supplied at a price of ₹ 10?
(a) 10 units
(b) 8 units
(c) 12 units
(d) 6 units

489. At which price, the supply would be zero?
(a) ₹ 1
(b) ₹ 3
(c) ₹ 4
(d) ₹ 5

490. Calculate the price at which, the firm is willing to supply 100 units
(a) ₹ 55
(b) ₹ 50
(c) ₹ 45
(d) ₹ 40

491. When price of a commodity falls by 20%, the quantity supplied falls by 25%, the price elasticity of supply is-
(a) 0.75
(b) 1.25
(c) 1.50
(d) 1.75

492. A vegetable vendor sells 80 quintals of potatoes at a price of ₹ 4 p. kg. The elasticity of supply of potatoes is known to be 2. How much quantity will he sell at ₹ 5 p. kg.?
(a) 100 quintals
(b) 110 quintals
(c) 120 quintals
(d) 130 quintals

493. When the price of a good rises from ₹ 15pu to ₹ 19pu, its quantity supplied increases from 75 units to 95 units. The price elasticity of supply is-
(a) 1
(b) 2
(c) 3
(d) 4

494. Total revenue of a firm rises from ₹ 50 to ₹ 100 when the price rises from ₹ 5 pu to ₹ 10 pu. The co-efficient of Es =
(a) 0
(b) 0.8
(c) 1
(d) 1.2

495. The price of a commodity doubles, to its response the quantity supplied increases 4 times of orig¬inal quantity supplied. The co-efficient of price elasticity of supply is-
(a) 1
(b) 2
(c) 3
(d) 4

496. A price of ₹ 10 p.u. the quantity supplied is 500 units. If the price falls by 10% and quantity supplied falls to 400 units, the co-efficient of price elasticity of supply is-
(a) 1
(b) 2
(c) 3
(d) 4

497. Market forces refer to-
(a) Demand
(b) Supply
(c) Both ‘a’ and ‘b’
(d) Neither ‘a’ nor ‘b’

498. Supply is the-
(a) limited resources that are available with the seller
(b) cost of producing a good
(c) entire relationship between the quantity supplied and the price of good
(d) willingness to produce

499. In a very short period the supply-
(a) can be changed
(b) cannot be changed
(c) can be increased
(d) none of the above

500. If the demand is more than supply, then the pressure on price will be-
(a) upward
(b) downward
(c) constant
(d) none of the above

501. A perfectly inelastic supply curve shooting up from X-axis shows-
(a) constant supply at higher price
(b) constant supply at lower price
(c) constant supply at zero price
(d) all the above

502. What is incorrect about advertisement elasticity?
(a) It is the responsiveness of good’s demand to changes in firm’s expenditure on advertising
(b) It is also called promotional elasticity of demand
(c) Advertising elasticity of demand is typically positive
(d) all the above

503. All but one are correct about demand forecasting. Which one is not correct?
(a) Demand forecasting is the art and science of predicting probable demand of a product in future
(b) Demand forecasting is a simple guesses
(c) It considers past behaviour pattern and prevailing trends in the present
(d) Demand forecasting plays an important role in planning and decision making

504. The burden of forecasting is put on customers in _____ method of demand forecasting
(a) Survey of buyers intentions
(b) collective opinion
(c) Expert opinion
(d) Controlled experiments

505. Delphi technique was developed by-
(a) Schumpeter
(b) Nicholas Kaldor
(c) Olaf Helmer
(d) Hawtrey

506. Collective opinion method of demand forecasting is useful for _____ forecasting.
(a) short run
(b) long run
(c) secular period
(d) none of the above

507. _____ method of forecasting is useful in use of capital goods.
(a) Collective opinion
(b) Expert Opinion
(c) Barometric
(d) Survey of buyer’s intention

508. Which of the following affect the demand for non-durable consumer goods?
(a) Disposable Income
(b) Price
(c) Demography
(d) All the above

509. What would be the shape of the supply curve of T-shirts, if the seller offers to sell any number of T-shirts at ₹ 250?
(a) Vertical
(b) Horizontal
(c) Upward sloping
(d) Downward sloping

510. All the following factors affect the demand for durable consumer goods except-
(a) special facilities for use
(b) credit facilities
(c) disposable income
(d) social status

511. ____ is considered as a ‘naive’ approach to demand forecasting.
(a) Trend Projection Method
(b) Expert Opinion Method
(c) Collective Opinion Method
(d) Regression Analysis

512. Short-term demand forecasting is useful for-
(a) current production scheduling
(b) purchases of. raw materials
(c) inventory of stocks
(d) all the above

513. A firm planning capacity expansion and diversification will go in for-
(a) Short term demand forecasting
(b) Medium term demand forecasting
(c) Long term demand forecasting
(d) Current demand forecasting

Answers

CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs answer
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs answer1
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs answer2
CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply - MCQs answer3

CA Foundation Business Economics Study Material – Supply

CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply – Supply

MEANING

Supply of a commodity refers to the quantity of commodity offered for sale at a particular price during a given period of time. Thus, the supply of a commodity may be defined as the amount of commodity which the sellers or producers are able and willing to offer for sale at a particular price, during a given period of time.

Thus, defined, the term supply shows the following features:

  1. Supply of a commodity is always with reference to a PRICE,
  2. Supply of a commodity is to be referred to IN A GIVEN PERIOD OF TIME.
  3. Supply of a commodity depends on the ABILITY OF SELLER TO SUPPLY A COMMODITY. However, ability of a seller to supply a commodity depends ON THE STOCK available with him.
  4. Supply of a commodity also depends on the WILLINGNESS OF SELLER TO SUPPLY A COMMODITY. A seller’s willingness to supply a commodity depends ON THE DIFFERENCE BETWEEN THE RESERVATION PRICE and the PREVAILING MARKET PRICE.
  5. E.g. A dairy farm’s daily supply of milk at the price of Rs. 12 per litre is 600 litres

Determinants of Supply

Supply of a commodity depends on many factors like price of the commodity, price of related goods, prices of factors of production, technology, etc. All determinants of supply can be expressed in the form of supply function as follows-
S= f(Px, Pr, Pf, T, O …….. )
Where – Sx = Quantity supplied of commodity x
f = function of (depends on)
Px = Price of commodity x
Pr = Price of related commodities
Pf = Prices of factors of production.
T = Technology
O = Objectives/Goals of the firm

Price of the commodity:

  • Other things being equal the supply of a commodity is DIRECTLY related with its price.
  • It means that, larger quantity of a commodity is offered for sale at higher price and vice versa.
  • This is because the profits of the firm increases if the price of its product increases.

Price of the related commodities:

  • The supply of a commodity also depends on the prices of related commodities i.e. substitute goods and complementary goods.
  • Other things being equal, if the price of a substitute goes up, the firms will be tempted to produce that substitute to get higher profits. E.g. – If the price of coffee rises, the firm would reduce the quantity supplied of tea.
  • On the other hand, other things being equal/if price of a complementary good goes up, the supply of the product in question also rises. E.g.- If the prices of fountain pens rise, it may cause an increase in the supply of ink.

Prices of factors of production:

  • Supply of a commodity depends on the cost of production. The cost of production itself depends upon the prices of various factors of production.
  • So, if the price of any factor of production rises, the production costs would be higher for the same level of output (and vice versa), Hence the supply will tend to decrease.
  • Conversely, a fall in the cost of production tends to increase the supply.

State of technology:

  • A change in technology affects the supply of commodity.
  • A technological progress and improvement in the methods of production increases productivity, reduce the cost of production and increases the profits. As a result more is produced and supplied.
  • Also discoveries and innovations bring new variety of goods.

Objectives of the firm:

  • The objectives of the firm and business policy pursued by it also affect the supply of the product produced by it.
  • Some firms believes in higher margin of profits and lower turnover while others believe in lower margin of profit and higher turnover (i.e. sales) to capture the market or to improve status, goodwill and prestige in the market.

Government Policy:

  • The supply of a commodity is also affected by the economic policies followed by the Government.
  • The Government may impose taxes on commodities in the form of excise duty, sales tax and import duties or may give subsidies.
  • Any increase in such taxes will raise the cost of production and so the quantity supplied will fall. Under such conditions supply will increase only when its price in the market rises.
  • Subsidies reduce the cost of production and thus encourages firms to produce and sell more.

Time:

  • Supply is a function of time also.
  • In a short period, it is not possible to adjust supply to the conditions of demand.
  • If the time period is sufficiently long, all possible adjustments can be made in the production apparatus and the supply can be fully adjusted to demand.

Number of firms:
If the number of firms producing a product increases, the market supply of the product will also increase and vice-versa.

Other factors:
Supply of a commodity also depends upon Natural conditions like rainfall, temperature, etc.; industrial and foreign policies, infrastructural facilities; War; market structure; etc.

Law of Supply

  • The Law of Supply express the nature of functional relationship between the price of a commodity and its quantity supplied.
  • It simply states that supply varies DIRECTLY to the changes in price i.e. supply of a commodity expands when price rises and contracts when price falls.
  • “The Law of Supply states that the higher the price, the greater the quantity supplied or the lower the price the smaller the quantity supplied, other things remaining the same.” (Dooley)
  • Thus, there is DIRECT RELATIONSHIP between supply and price.
  • It is assumed that other determinants of supply are constant and ONLY PRICE IS THE VARIABLE AND INFLUENCING FACTOR.

Thus, the law of supply is based on the following main assumptions:-

  • Cost of production remains unchanged even though the price of the commodity changes.
  • The technique of production remains unchanged.
  • Government policies like taxation policy, trade policy, etc. remains unchanged.
  • The prices of related goods remains unchanged.
  • The scale of production remains unchanged etc.

The law can be explained with the help of supply schedule and a corresponding supply curve.

ca-foundation-business-economics-study-material-supply-1

  • The supply schedule shows that when price rises from Rs.10 per unit to Rs. 20 per unit, the supply also rises from 20 units per week to 30 units per week and so on.
  • Thus, it shows a direct relationship between price and quantity supplied other things being equal.
  • A supply curve is the supply schedule depicted on the graph. The supply curve shows the same information as the supply schedule.

ca-foundation-business-economics-study-material-supply-2

  • In the diagram, the supply curve is sloping upwards from left to right showing a direct relationship between the price and quantity supplied.
  • A single point on supply curve show a single price supply relationship E.g. – Point ‘C’ show that if price is Rs. 30, quantity supplied is 40 units.
  • The law of supply states that, supply of a commodity varies directly with its price.

But, in some cases, this may not hold true. Hence, the law of supply has the following EXCEPTIONS.

  1. When the seller expects a further rise in the prices in future, he may hoard stock of commodity. So the supply at present will fall and vice versa.
  2. At higher wage rates, there is tendency among labourers to prefer more leisure than work. As a result when wages rise, labour supply falls.
  3. In the case of rare commodities like paintings, coins, etc. the supply is fixed. Whatever the price, it cannot change.
  4. In an auction or in all those cases where the seller wants to get rid of his goods, he will sell the goods at whatever price they fetch.

Changes in Quantity Supplied OR Expansion & Contraction of supply OR Movement along a supply curve

  • When supply of a commodity changes only due to change in the price of commodity other determinants remaining unchanged, it is called changes in quantity supplied.
  • Changes in quantity supplied thus means -expansion of supply & contraction of supply
  • When price of a commodity rises, quantity supplied also rises. This is called expansion of supply.
  • When price of a commodity falls, quantity supplied also falls. This is called contraction of supply.

As other determinants of supply like price of related commodities, prices of factors of production, state of technology, etc. are assumed to be constant, the position of the supply curve remains the same. The seller will move upwards or downwards on the same supply curve.

ca-foundation-business-economics-study-material-supply-3
In the figure above –

  • At price OP quantity supplied is OQ
  • With a rise in price to OPthe quantity supplied rises from OQ to OQ1 The co-ordinate point moves up from E to E1 This is called ‘a rise in quantity supplied’.
  • With a fall in price to OPthe quantity supplied falls from OQ to OQ2 The co-ordinate point moves down from E to E2 This is called ‘a fall in quantity supplied’.

Changes in supply OR Increase and decrease in Supply OR Shift in Supply curve

  • When there is change in supply due to change ‘ in factors other than price of the commodity, it is called changes in supply.
  • It is the result of change in technology, govt, policies, prices of related goods etc.
  • Change in supply means- increase in supply & decrease in supply.
  • Price remaining the same when supply rises due to change in factors other than price, it is called increase in supply.
  • Likewise, price remaining the same when supply falls due to change in factors other than price, it is called decrease in supply.

In this case the supply curve shifts from its original position to rightward when supply increases and to leftward when supply decreases. Thus, change in supply curve as a result of increase and decrease in supply, is technically called shift in supply curve.

ca-foundation-business-economics-study-material-supply-4
In the figure above-

  • Original supply curve is SS. At OP price, OQ quantity is being supplied.
  • As the supply changes, the supply curve shifts either to the right (S1S1)or to the left (S2S2)
  • At S1S1, OQ1, quantity is being supplied at the price OP. This shows increase in supply. More quantity is being supplied at same price. It is denoted by rightward shift in supply curve.
  • At S2S2, OQ2 quantity is being supplied at the price OP. This shows decrease in supply. Less quantity is being supplied at same price. It is denoted by leftward shift in supply curve.

Elasticity of supply

  • Price elasticity of supply measures the degree of responsiveness of quantity supplied of a commodity to a change in its own price.
  • In other words, the elasticity of supply shows the degree of change in the quantity supplied in response to change in the price of the commodity.
  • Elasticity of supply can be defined “as a ratio of the percentage change in the quantity supplied of a commodity to the percentage change in its own price”.
  • It may be expressed as follows –
    ca-foundation-business-economics-study-material-supply-5
  • Since the law of supply establishes positive relationship between price and quantity supplied, the elasticity of supply would be positive.
  • However, in case of decreasing cost industry elasticity of supply is negative.
  • The value of elasticity co-efficient will vary from zero to infinity.

The elasticity of supply, according to its degree, may be of following types:-

1. Perfectly Inelastic Supply: Es = 0:
When a change in the price of a commodity has no effect on its quantity supplied, then supply is perfectly inelastic.
E.g. – If price rises by 20% and the quantity supplied remains unchanged then Es = 0/20 = 0. In this case, the supply curve is a vertical straight line curve parallel to Y-axis as shown in the figure.
ca-foundation-business-economics-study-material-supply-6
The figure shows that, whatever the price quantity supplied of the commodity remains unchanged at OQ.

2. Perfectly Elastic Supply: (Es = ∞):
When with no change in price or with very little change in price, the supply of a commodity expands or contracts to any extent, the supply is said to be perfectly elastic. In this case, the supply is a horizontal straight line and parallel to X-axis.
ca-foundation-business-economics-study-material-supply-7
The figure shows (Es = ∞) that, at given price supply is ever increasing.

3. Unit Elastic Supply : (Es =1):
When the percentage change in price is equal to percentage change in quantity supplied, then the supply is said to be unit elastic.
E.g. – If price rises by 10% and the supply also rises by 10% then, E= 10/10=1
ca-foundation-business-economics-study-material-supply-8
In this case the straight line supply curve SS when extended will pass through origin.

4. Relatively/More Elastic Supply: (E>1):
When a small change in price leads to big change in quantity supplied, then the supply is said to be relatively or more elastic. E.g. – If price rises by 10% and supply rises by 30% then,
E= 30/10 = 3>1. The coefficient of elasticity would be somewhere between ONE and INFINITY. The elastic supply curve is flatter as shown below-
ca-foundation-business-economics-study-material-supply-9
Supply curve SS is flat suggesting that the supply is more elastic. In this case the supply curve SS when extended will pass through Y-axis.

5. Relatively Inelastic Or Less Elastic Supply: (Es<1).
When a big change in price leads to small change in quantity supplied, then supply is said to relatively inelastic or less elastic.
E.g. – If price rises by 30% and supply rises by 10% then, Es = 10/30 = 1/3 < 1. The coefficient of elasticity would be somewhere between ZERO and ONE. The supply curve in this case has steep slope as shown below –
ca-foundation-business-economics-study-material-supply-10
Supply curve SS is steeply sloped suggesting that supply is less elastic. In this case the supply curve SS when extended will pass through X-axis.

Measurement of Elasticity of Supply

The different methods of measuring price elasticity of supply are:

  1. The Percentage or Ratio or Proportional Method,
  2. The Point or Geometric Method, and
  3. The Arc Method

1. The Percentage Method:
Thus method is based on the definition of elasticity of supply. The coefficient of price elasticity of supply is measured by taking ratio of percentage change in supply to the percentage change in price. Thus, we measure the elasticity by using the following formula-
ca-foundation-business-economics-study-material-supply-11

  • If the coefficient of above ratio is equal to ONE, the supply will be unitary.
  • If the coefficient of above ratio is MORE THAN ONE, the supply is relatively elastic.
  • If the coefficient of above ratio is LESS THAN ONE, the supply is relatively inelastic.

2. The Point Or Geometric Method:
In point elasticity method, we measure elasticity at a given point on a supply curve.
We can measure E at point ‘R’ in the following manner

  • Extend the supply curve ‘S’ towards the extension of X-axis so that it cuts X-axis at T.
  • Draw a perpendicular from ‘R’ cutting X-axis at ‘M’
  • Take the ratio of intercepts MT and OM.
    Es = MT/OM

ca-foundation-business-economics-study-material-supply-12
In the figure MT > OM, elasticity is GREATER THAN ONE.

ca-foundation-business-economics-study-material-supply-13
In the adjoining figure, supply curve when extended meets X-axis to the right of the point of origin so that
Es = MT/OM < 1
i.e. MT<OM and so elasticity is LESS THAN UNITY

ca-foundation-business-economics-study-material-supply-14
In the adjoining figure, supply curve when extended meets X-axis exactly at the point of origin so that
Es = MT/OM = 1,
i.e. MT = OM and so elasticity of supply is EQUAL TO UNITY/ONE.

3. The Arc Elasticity Method:
Under this method we measure elasticity of supply over an ARC of the supply curve. The arc elasticity is a measured of the “average elasticity” i.e. elasticity at MID-POINT that connects the two points on the supply curve. Thus, an arc is a portion of a curved line, hence a portion of supply curve. The formula used is
ca-foundation-business-economics-study-material-supply-15

Equilibrium Price

  • Equilibrium means a market situation where the quantity demanded is equal to quantity supplied. Thus, the two factors determining equilibrium price are market demand and market supply.
  • Equilibrium price is the price at which the sellers of a good are willing to sell the quantity which buyers want to buy. Thus, equilibrium price (also called market clearing price) is the price at which demand and supply are equal.
  • At equilibrium price both sellers and buyers are satisfied.
  • At equilibrium price, there is neither SHORTAGE nor SURPLUS. So at equilibrium price, market is said to be CLEARED.

The following table and figure explains the equilibrium price.
ca-foundation-business-economics-study-material-supply-16
ca-foundation-business-economics-study-material-supply-17

  • Equilibrium is struck a point E where the demand and supply curve intersect each other.
  • At E, equilibrium price is OP i.e. Rs. 3 and equilibrium quantity is OQ ie. 300 units.
  • When the price is Rs. 5 per unit, the quantity demanded is 100 units and quantity supplies is 500 units. It is situation where market demand < market supply and there is excess supply i.e., surplus supply. At a given price, sellers are willing to sell more than what buyers are ready to buy. As a result of pressure of excess supply the market price falls to Rs. 4.
  • At a price of Rs. 4, the pressure of excess supply still continues and hence the price falls further to Rs. 3.
  • At a price of Rs. 3, the market is CLEARED as the quantity demanded and supplied are equal to each other. There, is no SURPLUS.
  • Thus, we can conclude that pressure of excess supply (surplus) reduces the price.
  • Similarly, if the price is Rs. 1, the quantity demanded is 500 units and quantity supplied is 100 units. It is a situation where market demand > market supply and there is excess demand or SHORTAGE of supply. As a result of excess demand or SHORTAGE of supply the market price will rise. So long as pressure of excess demand continues price will rise i.e. till point E. At point E, excess demand is eliminated and quantity demand and supplied are equal to each other. The market has CLEARED.
  • Thus, we can conclude that pressure of excess demand (shortage of supply) increases the price.
  • The equilibrium price is determined by the intersection between demand and supply therefore, it is also called as the MARKET EQUILIBRIUM.

 

CA Foundation Business Economics Study Material – Theory of Consumer Behaviour

CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply – Theory of Consumer Behaviour

Theory of Consumer Behaviour

NATURE OF HUMAN WANTS

All wish, desires, tastes and motives of human beings are called wants in Economics. Human wants show some well marked characteristics as follows-

  • Wants are unlimited
  • Particular want is satiable
  • Wants are complementary
  • Wants are competitive
  • Some wants are both complementary and competitive
  • Wants are alternative
  • Wants vary with time, place, and person
  • Wants vary in urgency and intensity
  • Wants recur
  • Wants are influenced by advertisement
  • Wants become habits and customs
  • Present wants appear to be more important than future wants

Classification of wants:

1. Necessaries:

  • Necessaries of existence – These are the things without which we cannot exist. E.g. minimum of food, clothing and shelter.
  • Necessaries of Efficiency – These are the things which are not necessary to enable us to live, but are necessary to make us efficient workers and to take up any productive activities.
  • Conventional Necessaries – These are the things which are needed either because of social custom or traditions and because the people around us expect us to so.

2. Comforts:
Those goods and services which make for a fuller life and happy life are called comforts. E.g. for a student book is a necessity, a table and a chair are necessaries of efficiency, but cushioned chair is comfort.

3. Luxuries:
Luxuries are those wants which are superfluous and expensive. They are something we could easily do without. E.g. jewellery, big house, luxurious car, dining in a five star hotel etc.

What is Utility?

  • The demand of a commodity depends on the utility of that commodity to a consumer.
  • The want satisfying capacity or power of a commodity is called utility. It is anticipated satisfaction by a consumer.
  • It is a subjective and relative term and varies from person to person, place to place and time
    to time.
  • Utility does not mean the same things as usefulness. E.g. Liquor, Cigarettes, etc. have utility as people are ready to buy them but they are harmful for the health.
  • Therefore, utility has no moral or ethical significance.
  • To study the consumer behaviour, the two important theories are –
    – Marginal utility analysis, given by Dr. Alfred Marshall, and
    – Indifference curve analysis given by Hicks and Allen.

Marginal Utility Analysis

  • The theory of Marginal utility Analysis of demand was given by Alfred Marshall, a British economist.
  • He explained how a consumer spends his money income on different goods and services in order to get maximum satisfaction ie. how a consumer reaches equilibrium.
  • Dr. Alfred Marshall assumes that the utility derived from the consumption of a commodity is measurable. Hence, this approach is called CARDINAL APPROACH.

Marginal utility Analysis is based on the following assumptions:-

  • The Cardinal Measurability of utility: According to this theory, utility is a cardinal concept, ie. it is possible to measure and quantify satisfaction derived from the consumption of various commodities. According to Marshall, money is the measuring rod of marginal utility. E.g. – If a person is ready to pay Rs. 10 for pastry and Rs. 6 for burger, we can say that price represents the utility which he is expecting from these commodities.
  • Constancy of the Marginal Utility of Money: The marginal utility of money remain constant during the time when the consumer is spending money on a good and as a result of which the amount of money is reducing. This is so because money is used as a measuring rod of utility. If the money which is a unit of measurement itself varies, it cannot give correct measurement of the marginal utility of a good.
  • Independent Utilities: According to this assumption, the amount of utility which a consumer gets from one commodity, does not depend upon the quantity of other commodities consumed. E.g. – If a person is consuming Rooh Hafza Sharbat, its utility is not affected by the availability of sugar or Rose Sharbat. It just depends upon the availability of Rooh Hafza Sharbat only. This assumption, in other words, totally ignores the presence of complementary and substitute goods.
  • Rationality: The consumer is assumed to be rational whose aim is to maximise his utility subject to the constraint imposed by his given income. He makes all calculations
    carefully and then purchases the commodities.

The Law of Diminishing Marginal Utility

The Law of Diminishing Marginal Utility is based on two important facts, namely:
(a) Human wants are unlimited
(b) Each separate human want is limited. The amount of any commodity which a man can consume, in a given period of time is limited and hence each single want is satiable.

The law describes that, as the consumer has more and more of a commodity, the additional utility which he derives from an additional unit of commodity goes on falling. Marshall stated the law as follows

“The additional benefit which a person derives from a given increase in stock of a thing diminishes with every increase in the stock that he already has.” The law can be explained with the help of following table:

ca-foundation-business-economics-study-material-theory-of-consumer-behaviour-1

  • The above table shows that as the consumer goes on consuming rossgullas, the additional or marginal utility goes on diminishing.
  • The consumption of 3rd unit of rossgulla gives no additional utility and the 4th unit is giving negative utility.
  • The 4th unit instead of giving satisfaction causes dissatisfaction.
  • Total utility goes on increasing as long as MU is positive, but at diminishing rate.
  • When total utility is highest, marginal utility is zero. This is the point of full satisfaction.
  • When marginal utility becomes negative, total utility starts falling.
  • MU is the rate of change in TU or slope of TU curve.
  • MU can be positive, zero or negative.

We can show the information given in the table on a graph as follows:-
The figure shows that marginal utility curve goes on declining as the consumption increases. It even crosses the X-axis and suggest negative marginal utility. Total utility curve rises upto a point and then starts falling.ca-foundation-business-economics-study-material-theory-of-consumer-behaviour-2

The Law of Diminishing Marginal Utility helps us to understand how a consumer reaches equilibrium in ONE COMMODITY CASE.

  • A consumer tries to equalize marginal utility of a commodity with its price in order to maximize the satisfaction. A consumer thus compares the price with the marginal utility of a commodity.
  • He keep on purchasing a commodity till MU > P. In other words, so long as price is less, he buys more which is also the basis of the law of demand.
  • The consumer is at equilibrium where:
    Marginal Utility of the commodity = Price of the commodity
    ca-foundation-business-economics-study-material-theory-of-consumer-behaviour-3

In reality, a consumer spends his money income to buy different commodities. In case of many commodities, consumer equilibrium is explained with the Law of Equi-Marginal Utility.

  • The law states that a consumer will allocate his expenditure in a way that the utility gained from the last rupee spent on each commodity is equal or the marginal utility each commodity is proportional to its price.
  • The consumer is said to be equilibrium when the following condition is met-
    ca-foundation-business-economics-study-material-theory-of-consumer-behaviour-4

The Law of Diminishing Marginal Utility is based on the following assumptions:-

  1. Homogeneous Units:
    It is assumed that all the units of the commodity are homogeneous ie. identical in every respect like size, taste, colour, quality, blend, etc.
    E.g. – If a consumer is consuming CADBURY DAIRY MILK CHOCOLATE (40 gms.), then all bars of chocolate must be of Dairy Milk Chocolates and not of any other type.
  2. Continuous Consumption:
    There should not be any time gap or interval between the consumption of one unit and another unit.
  3. Rationality:
    The consumer is assumed to be rational.
  4. Cardinal Measurement:
    The utility is measurable and quantifiable.
  5. Constancy of Marginal Utility of Money:
    The marginal utility of money remain unchanged throughout when the consumer is spending on a commodity.
  6. The tastes of consumers should remain constant.

Exceptions to and limitations of the Law of Diminishing Marginal Utility:
In some cases a consumer gets increasing marginal utility with the increase in consumption.
Such cases are called as exception which are as follows-

  1. Hobbies and Rare Collections: The law does not hold good in case of hobbies and rare collections like reading, collection of stamps, coins, etc. Every additional unit gives more satisfaction ie. the marginal utility tends to increase.
  2. Abnormal Persons: The law does not apply to abnormal persons like misers, drunkards, musicians, drug addicts, etc. who want more and more of the commodity they are in love with.
  3. Indivisible Goods: The law cannot be applied in case of indivisible bulky goods like T. V. set, house, scooter, etc. No one purchases more than one unit of such goods at a time.

The limitations of the Law of Diminishing Marginal Utility are as follows –

  1. Cardinal Measurement Unrealistic: The law assumes cardinal measurement of utility. This is unrealistic, because, utility being a subjective or psychological phenomenon, cannot be measured numerically. The feeling experienced by a consumer cannot be quantified.
  2. Unrealistic Conditions: The law is based on unrealistic assumptions. It is not possible to meet all conditions like homogeneous goods, continuous consumption, rationality, etc. at the same time.
  3. Constant Marginal Utility of Money: The law assumes that marginal utility of money remains constant. Therefore, the utility of the commodity depends on its quantity alone. But, the marginal utility of money never remains constant.
  4. Inapplicable to Indivisible Goods: The assumptions of the Law of DMU cannot be made applicable to indivisible bulky goods like T. V. Sets, scooter, house, etc. because no one purchases more than one unit of such goods at a time.
  5. Single Commodity Model: The Law of DMU is a single commodity model. Marginal utility of each commodity is measured independently. But, a consumer may purchase more than one commodity. Also, utilities of goods such as complementary or substitutes are interdependent.

Consumer’s surplus

Consumers Surplus is one of the important concept in economic theory and in economic policy making. It was given by Dr. Alfred Marshall. Marshall’s concept of consumer surplus is based on the following assumptions:

  • Utility can be cardinally measured in monetary units.
  • Marginal utility of money remains constant.
  • Income, fashion and taste of consumer remains constant.
  • Independent marginal utility of each unit of the commodity. .
  • The law of diminishing marginal utility holds good.

EXPLANATION-

  • In our daily expenditure, we often find that the price we pay for a commodity is less than the satisfaction derived from its consumption.
  • Therefore, we are ready to pay much higher price for a commodity than we actually have to pay.
    E.g. Commodities like salt, newspaper, match box, etc. are very useful, but they are also very cheap.
  • From the purchase of such commodities we derive a good deal of extra satisfaction or surplus over and above the price that we pay for them. This is consumer’s surplus.
  • Marshall defined consumer surplus “as the excess of the price which a person would be willing to pay rather than go without the thing over that which he actually does pay”.
  • Thus, it is the difference between what a consumer is ready to pay and what he actually pays.
    Consumer Surplus = What a consumer is ready to pay – What he actually pays = Sum of Marginal Utilities – (Price X Units Purchased)
    = Total Utility – Total amount spent.

We can illustrate the concept of consumer’s surplus with the help of following table-

ca-foundation-business-economics-study-material-theory-of-consumer-behaviour-5

When the consumer buy first unit of commodity he is ready to pay Rs. 25 for it as he expects satisfaction worth Rs. 25 from it and thus gets a surplus worth Rs. 15. For second unit he is ready to pay only Rs. 20 for it as he expects lesser satisfaction from it and thus gets surplus worth Rs. 10 only. The consumer will go on buying the commodity till Marginal Utility = Price & consumer surplus is Zero i.e. upto 4th unit.
Here, Consumer Surplus = Total Utility – Total Amt. Spent = Rs. 70 – Rs. 40 = Rs. 30.
We can represent consumers surplus with the following diagram.

ca-foundation-business-economics-study-material-theory-of-consumer-behaviour-6
In the diagram MU is the marginal utility curve. OP (Rs. 10) is the market price. In equilibrium, consumer would buy OQ (4) units (at this MU = P). For OQ (4) units he is required to pay OQ (4 units) X OP (Rs. 10) = OQSP(Rs. 40). The consumer was ready to pay (by MU curve) OQ SA(Rs. 70). Thus, he derives surplus of satisfaction. OQSA(Rs. 70) – OQSP(Rs. 40) = PSA(Rs. 30)

The uses/importance of the consumer surplus concept are as follows:-

1. Distinction between Value-in-Useand Value-in-exchange: Consumer’s surplus draws a clear distinction between value-in-use and value-in-exchange. E.g. – SALT have great value -in-use but much less value-in-exchange. Being necessity and cheap thing, it yield a large consumer surplus. The consumer’s surplus depends on total utility, whereas price depends on marginal utility. The total utility of salt consumed is much greater but its marginal utility (and price) is low due to its excess supply.

2. Comparing Advantages of Different Places: The concept of consumer’s surplus is useful when we compare the advantages of living in two different places. A place with greater amenities available at cheaper rates give large surplus of satisfaction to consumers than backward place or region. Consumer’s surplus thus indicates conjunctural advantages, Le. the advantages of environment arid opportunities.

3. To the Businessman and Monopolist: A businessman can raise prices of those goods in which there is a large consumer’s surplus. The seller will be able raise price especially if he is a monopolist and controls the supply of the commodity.

4. Useful to the government in determining taxes: The concept is very useful to Finance Minister in imposing taxes on various goods and fixing their rates. He will tax those goods in which the consumers enjoy large surplus. The consumers thus will have to pay more and their consumer’s surplus will fall. But at the same time it will raise the revenue of the government. The loss of consumers must be compared with the gains to the government. If the loss of consumers is greater than the gains to government, then, the tax is not proper and vice versa.

5. Measuring Benefits from International Trade: Through international trade, a country can import goods cheaply le. a country can get goods at lower price than they are prepared to pay for them. The imports, therefore give larger surplus of satisfaction to people. The larger this surplus, the more beneficial is the international trade.

6. Useful in cost-benefits analysis of projects: While undertaking any project the government
usually compare the cost of project and flow of benefits from project both in economic and in non-economic terms. E.g. For FLYOVER BRIDGE PROJECT the government will consider the consumers surplus Le. benefits in terms of time saving, fuel saving, etc. expected from flyover bridge project.

The CRITICISMS of the consumer’s surplus concept are as follows:-

  1. Imaginary: The concept of consumer’s surplus is quite imaginary idea. One has to imagine what you are prepared to pay and you proceed to deduct from that what you actually pay. It is all hypothetical and unreal.
  2. Cardinal measurement is not possible: Consumer’s surplus cannot be measured precisely because it is difficult to measure the total utilities and marginal utilities of the commodities consumed in quantitative terms.
  3. Ignores the interdependence between goods: The concept of consumer’s surplus does not consider the effect of availability and non-availability of substitutes and complementary goods on the consumption of a particular commodity. Actually consumer surplus derived from a commodity is affected by substitutes and complementary goods.
  4. Cannot be measured in terms of money: This is because the marginal utility of money changes as purchases are made and the consumer’s stock of money diminishes. But, Marshall assumed that-the marginal utility of money to be constant.
  5. Not applicable to Necessaries: It does not apply to the necessaries of life. In such cases the surplus is immeasurable e.g. – Food and Water. Consumer surplus is infinite because a consumer will stake whole of his income rather than go without them.
  6. Not applicable to prestige: e.g. – Diamonds jewellery, etc. fall in their prices lead to a fall in consumer’s surplus.

Indifference Curve Analysis

  • An indifference curve is a curve which represents combinations of two commodities that gives same level of satisfaction to the consumer.
  • As all the combinations give same level of satisfaction, the consumer becomes indifferent (Le. neutral) as to which combination he gets.
  • In other words, all the combinations lying on indifference curve are equally desirable and equally preferred by the consumer.

To Understand consider the following indifference schedule.

ca-foundation-business-economics-study-material-theory-of-consumer-behaviour-7

In the schedule I above, the consumer is indifferent whether he gets combination A, B, C or D. This is because all combinations give him same amount of satisfaction and therefore equally preferable to him. He gets as much satisfaction from 1 burger and 10 sandwiches as from 3 burgers and 3 sandwiches.

By plotting the above combinations on a graph, we can derive an indifference curve as shown in the following figure:

ca-foundation-business-economics-study-material-theory-of-consumer-behaviour-8

In the diagram, quantity of burger is measured on X-axis and quantity of sandwiches on Y-axis. The various combinations A, B, C, D are plotted and on joining them, we get a curve known as indifference curve. All combinations lying on the indifference curve give the same level of satisfaction to the consumer. Hence, the consumer is indifferent among them.

If the indifference schedule II is also plotted on the graph, we will get IC2. This will lie above the IC1 as all of IC2 combinations contain greater quantities of burgers and sandwiches. Similarly, we can draw IC3, IC4, etc… to make a complete indifference map as follows. Indifference map represents a full description of consumer’s tastes and preferences.

ca-foundation-business-economics-study-material-theory-of-consumer-behaviour-9

In the diagram, the various combinations E, F, G, H on IC2 give consumer same level of satisfaction and hence equally preferable to the consumer. The consumer is indifferent whether he gets combination E or F or any other combination.

The consumer however will prefer any combination lying on IC2 as it will give him more satisfaction than any combination lying on IC1.

This is because combinations lying on IC2 have larger quantity of burgers and sandwiches.

Thus, a higher indifference curve represents a higher level of satisfaction than lower indifference curve but HOW MUCH HIGHER cannot be indicated.

It is so because IC system is based on ORDINAL APPROACH according to which utility cannot be quantified but can only be compared.

Assumptions of indifference curve

  • Non-satiety: This assumption means that the consumer has not reached the point of full satisfaction in the consumption of any commodity. Therefore, a larger quantity of both commodities are preferred by the consumer. Larger the quantities of commodities, higher would be the total utility.
  • Rationality: Consumer is assumed to be rational. He aims at the maximisation of his total utility, given the market prices and money income. He is also assumed to have all relevant information like prices of goods, the markets where they are available, etc.
  • Consistency: The consumer is consistent in his choice Le. the preferences of consumers are consistent. If he prefers combination ‘A’ over combination ‘B’ in one period of time he will NOT prefer ‘B’ over ‘A’ in another period of time.
  • Transitivity: If combination A is preferred to B and ‘B’ is preferred to C, then, A is preferred to C. Symbolically, if A>B, and B>C, then A>C.
  • Ordinal Utility: It is assumed that consumer cannot measure precisely utility or satisfaction in absolute units Le. cardinally, but he can express utility ordinally. In other words, consumer is capable of comparing and ranking satisfaction derived from various goods and their combinations.
  • Diminishing Marginal Rate of Substitution: It means that as more and more units of ‘A’ are substituted for ‘B’ consumer will sacrifice lesser and lesser units of ‘B’ for each additional unit of ‘A’.

Marginal Rate of Substitution

  • The concept of marginal rate of substitution is the basis of Indifference Curves in the Theory of Consumer’s Behaviour.
  • IT MAY BE DEFINED AS THE RATE AT WHICH A CONSUMER WILL EXCHANGE SUCCESSIVE UNITS OF ONE GOOD (COMMODITY) FOR ANOTHER.

Consider the following schedule-

ca-foundation-business-economics-study-material-theory-of-consumer-behaviour-10

  • The above schedule shows the combinations of two goods ‘X’ and ‘Y’. Suppose the consumer wants more of ‘X’. To do so he must sacrifice some units of ‘Y’. in order to maintain same level of satisfaction.
  • Initially, the consumer sacrifices 4Y to get 1X, to obtain second unit of ‘X’ he sacrifices 2Y and so on.
  • This rate of sacrifice is technically called Marginal Rate of Substitution (MRS).
  • Thus, for any goods X and Y, the MRS is the loss of Y which can just be compensated by a gain of X. MRSxy goes on diminishing.

We can also measure MRS on an indifference curve. Consider the following diagram-

ca-foundation-business-economics-study-material-theory-of-consumer-behaviour-11

In the diagram, when the consumer moves from combination A to combination B, he gives up AC of Y and takes up CB of X and gets the same level of satisfaction.

ca-foundation-business-economics-study-material-theory-of-consumer-behaviour-12
MRSxy between two points is also the slope of the indifference curve between these two points. As the consumer moves from combination B to C, C to D, the MRSxy goes on diminishing.

The MRS goes on diminishing due to following reasons-

  1. The want for a particular commodity is satiable. So, as the consumer has more and more
    of that commodity, he is willing to take less and less of it. Thus, in the above example, when the consumer has more and more of ‘X’, his intensity of want for X’ diminishes but for ‘Y’ increases. Therefore, he does not want more of ‘X’ now and is not ready to H sacrifice more number of ‘Y’ for ‘X’.
  2. The second reason is that, the goods are not perfect substitutes of each other in the satisfaction of particular want. If they are perfect substitutes, the MRS would not fall and remain constant.

Properties of Indifference Curves

(Refer to Schedule I and above diagram)

Indifference curves always slope downwards from left to right:

  1. This means that an indifference curve has a negative slope.
  2. REASON – In order to maintain same level of satisfaction, as the quantity of burgers is increased in the combination, the quantity of sandwiches is reduced.
  3. Thus, this property follows from the definition of an IC and non-satiety assumption ie. more is preferred to less.
  4. Indifference curve cannot be horizontal straight line or vertical straight line or positively sloped.

Indifference Curves are convex to the origin:

  1. This means that IC is relatively steeper first in its left hand portion and tends to become relatively flatter in its right hand portion.
  2. REASON: Diminishing Marginal Rate of Substitution.
  3. The schedule and diagram shows that the consumer sacrifices less and less of sandwiches for every additional unit of burger.
  4. The convexity of an IC means that the two commodities can substitute each other but are not perfect substitute.
  5. If IC were concave to origin, it would mean increasing MRS. This is against the assumption of diminishing MRS.
    Similarly, IC cannot be straight lines as it would mean that MRS remains constant (for perfect substitute.)

Higher Indifference Curves Represents Higher Level of Satisfaction:

  1. In an indifference map, combinations lying on a higher IC gives higher level of satisfaction than the combinations lying on a lower IC. But how much higher cannot be indicated.
  2. REASON: This is because combinations on higher IC contains more quantity of either sandwiches or burger without having less of other as shown in the following diagram.
    ca-foundation-business-economics-study-material-theory-of-consumer-behaviour-13
  3. Combinations B and C on IC2 will be preferred by the consumer than the combination A on IC1.
  4. Combination B on IC2 contains more quantity of sandwiches without having less of burgers compared to combination A on IC1.
  5. Hence, all combinations on IC2 gives more satisfaction to consumer. Thus, higher IC represents higher satisfaction.

Indifference curves cannot intersect each other:

  1. It means that only one IC will pass through a point in the indifference map.
  2. In other words, ONE combination can lie only on one IC.
  3. Higher IC represents higher level of satisfaction and lower IC represents lower level of satisfaction. If they intersect each other, it would lead to illogical result.
  4. It can be proved with the help of following diagram –
    ca-foundation-business-economics-study-material-theory-of-consumer-behaviour-14

In the diagram two IC intersect each other at point A. On IC1; combinations A = B and on IC2, Combinations A = C. Therefore, by assumption of transitivity if, A = B and A = C. ∴ B = C. But C>B as it lie on higher IC giving higher satisfaction due to more quantity of sandwiches. So two IC cannot intersect.

Indifference curve will not touch either X-axis or Y-axis

ca-foundation-business-economics-study-material-theory-of-consumer-behaviour-15

  1. The indifference curve will not touch either X-axis or Y-axis because we have assumed that consumer is considering the different combinations of TWO commodities.
  2. If IC touches either of the axis, it would mean that consumer is interested in one commodity only.
  3. In the diagram IC touches X-axis at point B and Y-axis at point A.
  4. At point B the consumer is satisfied with OB quantity of X-commodity and zero quantity of A. This is against the definition of IC. Therefore, IC curve will not touch either axis.

Budget Line Or Price Line (Or Price Opportunity Line Or Expenditure Line Or Budget Constraint or Consumption Possibility Line)

  • A higher indifference curve shows a higher level of satisfaction than lower one.
  • Therefore, to maximize satisfaction consumer will try to reach the highest possible indifference curve.
  • He will try to buy more and more goods to get more and more satisfaction. But, what and how much a consumer can actually buy depends on –
    1. The money income of consumer,
    2. Prices of goods he wants to buy. They are the two objective factors which form the budgetary constraint of the consumer.

The budgetary position of the consumer can be graphically shown by BUDGET LINE. A budget line or price line shows maximum quantity of the different combinations of TWO GOODS that the consumer can purchase with his given money income and given market prices of goods.
Example:
The consumer’s money income is Rs. 100 to spend on X and Y.
Price of X is Rs. 5 per unit Price of Y is Rs. 2 per unit
Therefore, the consumer can get either 20 units of X and no Y.
OR
50 units of Y and no X.
OR
Combination of X and Y
Hence, 20 X and 50 Y form the two extreme limits of his expenditure. But the consumer can buy any ONE of the many combinations of X and Y within these limits. Graphically it can be shown as followsca-foundation-business-economics-study-material-theory-of-consumer-behaviour-16
This budget line corresponds to the following equation, called Budget Line Equation
Px. X + Py. Y = M
Where-
M = Total Money Income
Px = Price of commodity ‘X’
X = Quantity of X commodity
Py = Price of commodity
Y = Quantity of ‘Y’ commodity

It can be seen in the diagram that the consumer can buy a maximum of 20 units of X as denoted by points ‘L’ or buy a maximum of 50 units of Y as denoted by point ‘P’. On joining points P &L, we get a line PL called as budget line. It determines the limit or boundary of purchase.

The consumer can choose any combination of X and Y lying on budget line like combinations ‘a’ (8 X & 30 Y) or ‘b’ (12 X & 20 Y) or any other combination. However, the consumer cannot choose combination ‘Z’ as it is beyond his means i.e. budget. Any combination like ‘S’ lying within the budget line, shows under spending by consumer.

The slope of budget line is equal to the ratio of the prices of two goods Le. ratio of the prices of X to the price of Y. Thus, the slope of the budget line PL is Px/Py

Consumer’s equilibrium

  • The consumer is said to be in equilibrium when he maximizes his satisfaction (i.e. utility).
  • To explain the consumer’s equilibrium under ordinal approach, we have to make use of TWO TOOLS of indifference curve analysis namely-
    1. the consumer’s INDIFFERENCE MAP, and
    2. his PRICE/BUDGET LINE.

Assumptions:

  • The consumer has a fixed amount of money income to spend.
  • The consumer intends to buy TWO GOODS.
  • The Consumer is RATIONAL and tries to maximise his satisfaction.
  • The prices of two goods are GIVEN and are CONSTANT. Therefore, budget line has constant slope.
  • Goods are HOMOGENEOUS and DIVISIBLE.
  • The scale of preference of consumer Le. his taste & preferences remains unchanged. Scale of preference is expressed through indifference map.

The CONSUMER’S INDIFFERENCE MAP shows all indifference curves which rank the consumer’s preferences between various possible combinations of TWO commodities.

  • To maximises his satisfaction consumer would like to reach highest possible indifference curve.
  • The slope of IC at any one point shows the MARGINAL RATE OF SUBSTITUTION (which diminishes).
    ca-foundation-business-economics-study-material-theory-of-consumer-behaviour-17
  • To maximise satisfaction consumer will try to reach the highest possible IC and so will try to buy more and more of the two commodities.
  • But there are limits to which he can go on and on.
  • These limits are imposed (i) his money income, & (ii) prices of the commodities. These limits are described by PRICE/BUDGET LINE which shows the various combinations of two commodities the consumer can afford to buy.
  • All the combinations lying on the budget line are affordable by the consumer. Any, combination lying beyond budget line is unaffordable.
  • The slope of budget/price line shows the ratio of the prices of two commodities ie. Px/Py
  • Now we can show how a consumer reaches equilibrium ie., how he allocates his money expenditure between commodities X and Y and gets maximum satisfaction.

For showing this, we will have to superimpose the price line on the indifference map as follows-

ca-foundation-business-economics-study-material-theory-of-consumer-behaviour-18

  • In order to maximise his satisfaction, the consumer will try to reach highest IC ie. IC4.
  • But the budget constraint forces him to remain ON THE BUDGET LINE.
  • In the diagram, budget line PL shows all the combinations of X & Y that the consumer can buy. In diagram, we find combinations a, b, c, d, e lie on budget line PL and hence are affordable.
  • Points a,b,d and e lie on lower ICs and so are not the points of equilibrium as the consumer can get more satisfaction with the same amount of money.
  • Point ‘C’is the point of equilibrium as it lies on budget line and also on highest possible indifference curve IC3 giving maximum satisfaction.
  • At ‘point’ ‘C’, the budget line PL is TANGENT to indifference curve IC3.
  • At the point of tangency, Slope of indifference Curve = Slope of Budget Line
    ca-foundation-business-economics-study-material-theory-of-consumer-behaviour-19
  • Thus, the consumer is at equilibrium when
    ca-foundation-business-economics-study-material-theory-of-consumer-behaviour-20

 

CA Foundation Business Economics Study Material – Demand Forecasting

CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply – Demand Forecasting

Demand Forecasting

Meaning:

  • Demand forecasting is an estimate of the future market demand for a product. The process of forecasting is based on reliable statistical data of past and present behaviour, trends, etc.
  • Demand forecasting cannot be hundred per cent correct. But, it gives a reliable estimates of the possible outcome with a reasonable accuracy.
  • Demand forecasting may be at international level or local level depending upon area of operation, cost, time, etc.

Usefulness:

Demand forecasting is an important function, of managers as it reduces uncertainty of environment in which DECISIONS are made. Further, it helps in PLANNING for future level of production. Its significance can be stated as follows:

  1. Production Planning: Demand forecasting is a pre-requisite for planning of production in a firm. Expansion of production capacity depends upon likely demand for its output. Otherwise, there may be overproduction or underproduction leading to losses.
  2. Sales Forecasting: Sales forecasting depends upon demand forecasting. Promotional efforts of the firm like advertisements, suitable pricing etc. should be based on demand forecasting.
  3. Control of Business: Demand forecast provide information for budgetary planning and cost control in functional area of finance and accounting.
  4. Inventory Control: Demand forecasting helps in exercising satisfactory control of business inventories like raw-materials, intermediate goods, semi-finished goods, spare parts, etc. Estimates of future requirement of inventories is to be done regularly and it can be known from demand forecasts.
  5. Capital Investments: Capital investments yield returns over many years in future. Decision about investment is to be taken by comparing rate of return on capital investment and current rate of interest. Demand forecasting helps in taking investment decisions.

Types of forecasts:

Macro-level forecasting deals with the general economic environment prevailing in the economy as measured by the Index of Industrial Production (IIP), national income and general level of employment, government expenditure, consumption level, consumers spending habits, etc.

  1. Industry-level forecasting refers to forecasting the demand of a good of a particular industry as a whole.
    E.g.- Demand for two-wheelers in India.
  2. Firm-level forecasting refers to forecasting the demand of a good of a particular firm.
    E.g.- Bajaj motor cycle.

Based on time period, demand forecasting may be-

  1. Short-term demand forecasting normally relates to a period not exceeding a year. It is also called as ‘operating forecast’. It is useful for estimating stock requirement, providing working capital, etc.
  2. Long-term demand forecasting may cover one to five years, depending on the nature of the firm. It provides information for taking decisions like expansion of plant capacity, man-power planning, long-term financial planning, etc.

Demand Distinctions

1. Producer’s goods and Consumer’s Goods

  • The goods which are used for the production of other goods are called producer’s goods. E.g. Machines
  • The goods which are used for final consumption are called consumer’s goods. E.g. readymade clothes, toothpaste, soap, house etc.

2. Durable goods and Non-durable goods

  • Goods can be further divided into durable and non-durable goods.
  • Durable goods are those which can be consumed more than once and yield utility over a period of time.
    – Producer’s Durable Goods – E.g.- Building, Plant, Machinery etc.
    – Consumer’s Durable Goods – E.g.- Cars, TV, Refrigerators, etc.
  • Non-durable goods are those which cannot be consumed more than once. These will meet only the current demand.
    – Producer’s Non-durable Goods – E.g.- raw material, fuel, power, etc.
    – Consumer’s Non-durable Goods – E.g.- milk, bread, etc.

3. Derived demand and Autonomous demand

  • The demand for a commodity is said to be derived when its demand depends on the demand for some other commodity. In other words, it is the demand which has been derived from the demand for some other commodity called “parent product”.
    E.g. The demand for bricks, cement, steel, sand, etc. is derived demand because their demand depends on the demand for houses. Producer goods and complementary goods have derived demand.
  • When the demand of a commodity is independent of the demand for other commodity, then it is called autonomous demand.

4. Industry demand and Company demand

  • The total demand of a commodity of a particular industry is called industry demand.
    E.g. the total demand for shoes in the country.
  • The demand for the commodity of a particular company is called company demand.
    E.g. shoes produced by BATA.

5. Short-run demand and long-run demand

  • When the demand respond immediately to price changes, income changes etc. is referred as short-run demand.
  • When the demand still exist as a result of changes in pricing, sales promotion, quality improvement etc. after enough time is allowed to let the market adjust to the new situation is called long-run demand.

Factors affecting demands for non-durable goods
The factors which affects the demand of NON-DURABLE CONSUMER GOODS are as follows:-

  • Disposable Income: The income left with a person after paying direct taxes and other deductions is called as disposable income. Other things being equal, more the disposable income of the household, more is its demand for goods and vice versa.
  • Price: The demand for a commodity depends upon its price and the prices of its substitutes y and complements. The demand for a commodity is inversely related to its own price and the price of its complements. The demand for a commodity is positively related to its substitutes.
  • Demography: This involves the characteristics of the populations, human as well as non human which use the given product. E.g. – If forecast about the demand for toys is to be made, we will have to estimate the number and characteristics of children whose parents can afford toys.

Factors affecting the demand for consumer durable goods

  • Long time use or replacement: For how long a consumer can use a good depends on the factors like his status, prestige attached to good, his level of money income, etc. Replacement of a good depends upon the factors like the wear and tear rate, the rate of obsolescence, etc.
  • Special Facilities: Some goods need special facilities for their use. E.g. Roads for cars, electricity for T.V., refrigerators etc. The expansion of such facilities expands the demand for such goods.
  • Joint use of a good by household: As consumer durables are used by more than one person, the decision to purchase may be influenced by family characteristics like size of family, age and sex consumption.
  • Price and Credit facilities: Demand for consumer durables is very much influenced by their prices and credit facilities like hire purchase, low interest rates, etc. available to buy them. More the easy credit facilities higher is the demand for goods like two wheelers, cars TVs. etc.

Factors affecting the demand for producer goods

  • The demand for producer or capital goods is a derived demand. It is derived from the demand of consumer goods they produce.
  • The forecasting of a capital good depends upon the following factors:
    – Increase in the price of substitutable factor increases the demand for capital goods.
    – The existing stock of the capital goods.
    – Technology advancement leading to reduced cost of production.
    – Prevailing rates of interest etc.

Methods of Demand Forecasting

There is no easy method to predict the future with certainty. The firm has to apply a proper mix of methods of forecasting to predict the future demand for a product. The various methods of demand forecasting are as follows:

1. Survey of Buyer’s intentions: In this method, customers are asked what they are planning to buy for the forthcoming time period usually a year.

This method involve use of conducting direct interviews or mailing questionnaire asking customers about their intentions or plans to buy the product.

The survey may be conducted by any of the following methods:

  • Complete Enumeration where all potential customers of a product are interviewed about what they are planning or intending to buy in future. It is cumbersome, costly and time consuming method.
  • Sample Survey where only a few customers are selected and interviewed about their future plans. It is less cumbersome and less costly method.
  • End-use method or Input-output method where the bulk of good is made for industrial manufactures who usually have definite future plans.

This method is useful for short-term forecasts.
In this method burden of forecasting is put on the customers.

2. Collective opinion Method: The method is also known as sales force opinion method or grass roots approach.

  • Under this method, salesmen are asked to estimate expectations of sales in their territories. Salesmen are considered to be the nearest persons to the customers retailers and wholesalers and have good knowledge and information about the future demand trend.
  • The estimates of all the sales-force is collected are examined in the light of proposed changes in selling price, product design, expected competition, etc. and also factors like purchasing power, employment, population, etc.
  • This method is based on first hand knowledge of the salesmen. However, its main drawback is that it is subjective. Its accuracy depends on the intelligence, vision and his ability to foresee the influence of many unknown factors.

3. Expert Opinion Method (Delphi Method): Under this method of demand forecasting views of specialists/experts and consultants are sought to estimate the demand in future. These experts may be of the firm itself like the executives and sales managers or consultant firms who are professionally trained for forecasting demand.

  • The Delphi technique, developed by OLAF HEMLER at the Rand Corporation of the
    U.S.A. is used to get the opinion of a number of experts about future demand.
  • Experts are provided with information and opinion feedbacks of other experts at different rounds and are repeatedly questioned for their opinion and comments till consensus emerges.
  • It is a time saving method.

4. Statistical Method: Statistical method have proved to be very useful in demand forecasting. Statistical methods are superior, more scientific, reliable and free from subjectively. The important statistical methods of demand forecasting are:

  • Trend Projection Method: The method is also known as Classical Method. It is considered as a ‘naive’ approach to demand forecasting.
    • Under this, data on sales over a period of time is chronologically arranged to get a ‘time series’. The time series shows the past sales pattern. It is assumed that the past sales pattern will continue in the future also. The techniques of trend projection based on, time series data are Graphical Method and Fitting trend equation or Least Square Method.
  • Graphical Method: This is the simplest technique to determine the trend.
    • Under this method, all values of sales for different years are plotted and free hand curve is drawn passing through as many points as possible. The direction of the free hand curve shows the trend.
    • The main drawback of this method is that it may show trend but not measure it.
  • Fitting Trend Equation/Least Square Method: This method is based on the assumption that the past rate of change will continue in the future.
    • It is a mathematical procedure for fitting a time to a set of observed data points in such a way that the sum of the squared deviation between the calculated and observed values is minimized.
    • This method is popular because it is simple and inexpensive.
  • Regression Analysis: This is a very common method of forecasting demand.
  • Under this method, a quantitative relationship is established between quantity demanded (dependent variable) and the independent variables like income, price of good, price of related goods, etc. Based on this relationship, an estimate is made for future demand.
  • It can be expressed as follows-
    Y = a + b X
    Where
    X, Y are variables a, b are constants

5. Controlled Experiments: Under this method, an effort is made to vary certain determinants of demand like price, advertising, etc. and conduct the experiments assuming that the other factors remain constant.

  • The effect of demand determinants on sales can be assessed either by varying then in different markets or by varying over a period of time in the same market.
  • The responses of demand to such changes over a period of time are recorded and are used for estimating the future demand for the product.
  • This method is used less as it is expensive and time consuming.
  • This method is also called as market experiment method.

6. Barometric Method of forecasting: This method is based on the assumption that future can be predicted from certain events occurring in the present. We need not depend upon the past observations for demand forecasting.

There are economic ups and downs in an economy which indicate the turning points. There are many economic indicators like income, population, expenditure, investment, etc. which can be used to forecast demand. There are three types of economic indicators, viz.

  • Coincidental Indicators are those which move up and down simultaneously with aggregate economy. It measures the current economic activity. E.g.- rate of unemployment.
  • Leading Indicators reflect future change in the trend of aggregate economy.
  • Lagging Indicators reflect future changes in the trend of aggregate economic activities.

 

CA Foundation Business Economics Study Material – Elasticity of Demand

CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply – Elasticity of Demand

Elasticity of Demand

  • Elasticity of demand is defined as the responsiveness or sensitiveness of the quantity demanded of a commodity to the changes in any one of the variables on which demand depends.
  • These variables are price of the commodity, prices of the related commodities, income of the consumers and many other factors on which demand depends.
  • Accordingly, we have price elasticity, cross elasticity, elasticity of substitution, income elasticity and advertisement elasticity.
  • Unless mentioned otherwise, it is price elasticity of demand which is generally referred.

Price Elasticity of Demand

  • Price elasticity measures the degree of responsiveness of quantity demanded of a commodity to a change in its price, given the consumer’s income, his tastes and prices of all other goods.
  • It reflects how sensitive buyers are to change in price.
  • Price elasticity of demand can be defined “as a ratio of the percentage change in the quantity demanded of a commodity to the percentage change in its own price”.
  • It may be expressed as follows:
    ca-foundation-business-economics-study-material-elasticity-of-demand-1
  • Rearranging the above expression we get:
    ca-foundation-business-economics-study-material-elasticity-of-demand-2
  • Since price and quantity demanded are inversely related, the value of price elasticity coefficient will always be negative. But for the value of elasticity coefficients we ignore the negative sign and consider the numerical value only. .

The value of elasticity coefficients will vary from zero to infinity.

  • When the coefficient is zero, demand is said to be perfectly inelastic.
  • When the coefficient lies between zero and unity, demand is said to be inelastic.
  • When coefficient is equal to unity, demand has unit elasticity.
  • When coefficient is greater than one, demand is said to elastic.
  • In extreme cases co-efficient could be infinite.

The degrees (types) of price elasticity of demand

Price elasticity measures the degree of responsiveness of quantity demanded of a commodity to a change in its price. Depending upon the degree of responsiveness of the quantity demanded to the price changes, we can have the following kinds of price elasticity of demand.

1. Perfectly Inelastic Demand: (Ep = 0):
ca-foundation-business-economics-study-material-elasticity-of-demand-3

When change in price has no effect on quantity demanded, then demand is perfectly inelastic. E.g. – If price falls by 20% and the quantity demanded remains unchanged then,
Ep = 0/20 = 0. In this case, the demand curve is a vertical straight line curve parallel to y-axis as shown in the figure.
The figure shows that, whatever the price, quantity demanded of the commodity remains unchanged at OQ.

2. Perfectly Elastic Demand: (Ep = ∞):
ca-foundation-business-economics-study-material-elasticity-of-demand-4
When with no change in price or with very little change in price, the demand for a commodity expands or contracts to any extent, the demand is said to be perfectly elastic. In this case, the demand curve is a horizontal and parallel to X-axis.
The figure shows that demand curve DD is parallel to X-axis which means that at given price, demand is ever increasing.

3. Unit Elastic Demand: (Ep = 1):
ca-foundation-business-economics-study-material-elasticity-of-demand-5

When the percentage or proportionate change in price is equal to the percentage or proportionate change in quantity demanded, then the demand is said to be unit elastic. E.g. If price falls by 10% and the demand rises by 10% then, Demand Curve DD is a rectangular hyperbola curve suggesting unitary elastic demand.
E= 10/10 = 1

4. Relatively Elastic Demand: ( E> 1):
ca-foundation-business-economics-study-material-elasticity-of-demand-6
When a small change in price leads to more than proportionate change in quantity demanded then the demand is said to be relatively elastic E.g. If price falls by 10% and demand rises by 30% then, E = 30/10 = 3 > 1. The coefficient of price elasticity would be somewhere between ONE and INFINITY. The elastic demand curve is flatter as shown in figure.

Demand curve DD is flat suggesting that the demand is relatively elastic or highly elastic. Relatively elastic demand occurs in case of less urgent wants or if the expenditure on commodity is large or if close substitutes are available.

5. Relatively Inelastic Demand: (E< 1):
ca-foundation-business-economics-study-material-elasticity-of-demand-7

When a big change in price leads to less than proportionate change in quantity demanded, then the demand is said to be relatively inelastic. E.g. If price falls by 20% and demand rises by 5% then, E = 5/20 = 5 < 1 The coefficient of price
elasticity is somewhere between ZERO and ONE. The demand curve in this case has steep slope.

Demand curve DD is steeper suggesting that demand is less elastic or relatively inelastic. Relatively inelastic demand occurs in case compulsory goods ie. necessities of life.

Measurement of price elasticity of demand

The different methods of measuring price elasticity of demand are:

  1. The Percentage or Ratio or Proportional Method,
  2. The Total Outlay Method,
  3. The Point or Geometrical Method, and
  4. The Arc Method.

1. The Percentage Method
This method is based on the definition of elasticity of demand. The coefficient of price elasticity of demand is measured by taking ratio of percentage change in demand to the percentage change in price. Thus, we measure the price elasticity by using the following formula
ca-foundation-business-economics-study-material-elasticity-of-demand-8

  • If the coefficient of above ratio is equal to ONE or UNITY, the demand will be unitary.
  • If the coefficient of above ratio is MORE THAN ONE, the demand is relatively elastic.
  • If the coefficient of above ratio is LESS THAN ONE, the demand is relatively inelastic.

2. The Total Outlay or Expenditure Method or Seller’s Total Revenue Method

The total outlay refers to the total expenditure done by a consumer on the purchase of a commodity. It is obtained by multiplying the price with the quantity demanded. Thus,
Total Outlay (TO) = Price (P) × Quantity (Q)
TO = P × Q
In this method, we measure price elasticity by examining the change in total outlay due to change in price.
Dr. Alfred Marshall laid the following propositions:

  • When with the change in price, the TO remains unchanged, Ep = 1.
  • When with a rise in price, the TO falls or with a fall in price, the TO rises, Ep > 1.
  • When with a rise in price, the TO also rises and with a fall in price, the TO also falls, E> 1

ca-foundation-business-economics-study-material-elasticity-of-demand-9

However, total outlay method of measuring price elasticity is less exact. This method only classifies elasticity into elastic, inelastic and unit elastic.
The exact and precise coefficient of elasticity cannot be found out with this method.

3. The Point Method or Geometric Method

  • The point elasticity method, we measure elasticity at a given point on a demand curve.
  • This method is useful when changes in price and quantity demanded are very small so that they can be considered one and the same point only.
  • E.g. If price of X commodity was Rs. 5,000 per unit and now it changes to Rs. 5002 per unit which is very small change. In such a situation we measure elasticity at a point on
    ca-foundation-business-economics-study-material-elasticity-of-demand-10
  • Diagrammatically also we can find elasticity at a point by using the formula—
    ca-foundation-business-economics-study-material-elasticity-of-demand-11

Figure:

  • The figure shows that even though the shape of the demand curve is constant, the elasticity is different at different points on the curve.
  • If the demand curve is not a straight line curve, then in order to measure elasticity at a point on demand curve we have to draw tangent at the given point and then measure elasticity using the above formula.
  • We can also find out numerical elasticities on different points.

4. The Arc Elasticity Method

  • When there is large change in the price or we have to measure elasticity over an arc of the demand curve, we use the “arc method” to measure price elasticity of demand.
  • The arc elasticity is a measure of the “average elasticity” ie. elasticity at MID-POINT that connects the two points on the demand curve.
  • Thus, an arc is a portion of a curved line, hence a portion of a demand curve. Here instead of using original or new data as the basis of measurement, we use average of the two.
    ca-foundation-business-economics-study-material-elasticity-of-demand-12
  • The formula used is
    ca-foundation-business-economics-study-material-elasticity-of-demand-13

Determinants of price elasticity of demand

Price elasticity of demand which measures the degree of responsiveness of quantity demanded of a commodity to a change in price (other things remaining unchanged) depends on the following factors:—

1. Nature of commodity:

  • The demand for necessities of life like food, clothing, housing etc. is less elastic or inelastic because people have to buy them whatever be the price.
  • Whereas, demand for luxury goods like cars, air-conditioners, cellular phone, etc. is elastic.

2. Availability of Substitutes:

  • If for a commodity wide range of close substitutes are available ie. if a commodity is easily replaceable by others, its demand is relatively elastic. E.g. Demand for cold drinks like Thumbs-up, Coca-cola, Limca, etc.
  • Conversely, a commodity having no close substitute has inelastic demand. E.g. Salt (but demand for TATA BRAND SALT is elastic.)

3. Number of uses of a commodity:

  • A commodity which has many uses will have relatively elastic demand.
    E.g. Electricity can be put to many uses like lighting, cooking, motive-power, etc. If the price of electricity falls, its consumption for various purposes will rise and vice versa.
  • On the other hand if a commodity has limited uses will have inelastic demand.

4. Price range:

  • If price of a commodity is either too high or too low, its demand is inelastic but those which are in middle price range have elastic demand.

5. Position of a commodity in the budget of consumer:

  • If a consumer spends a small proportion of his income to purchase a commodity, the demand is inelastic. E.g. Newspaper, match box, salt, buttons, needles.
  • But if consumer spends a large proportion of his income to purchase a commodity, the demand is elastic E.g. Clothes, milk, etc.

6. Time period:

  • The longer any price change remains the greater is the price elasticity of demand.
    On the other hand, shorter any price change remains, the lesser is the price elasticity of demand. .

7. Habits:

  • Habits makes the demand for a commodity relatively inelastic. E.g. A smoker’s demand for cigarettes tend to be relatively inelastic even at higher price.

8. Tied Demand (Joint Demand):

  • Some goods are demanded because they are used jointly with other goods. Such goods normally have inelastic demand as against goods having autonomous demand.
    E.g. Printers & Cartridges.

Knowledge of the concept of elasticity of demand and the factors that may change it is of great IMPORTANCE in practical life. The concept of elasticity of demand is helpful to-

  1. Business Managers as it helps then to recognise the effect of price change on their total sales and revenues. The objective of a firm is profit maximization. If demand is ELASTIC for the product, the managers can fix a lower price in order to expand the volume of sales and vice versa.
  2. Government for determining the prices of goods and services provided by them. E.g.- transport, electricity, water, cooking gas, etc. It also helps governments to understand the nature of response of demand when taxes are raised and its effect on the tax revenues. E.g.- Higher taxes are imposed on the goods having INELASTIC DEMAND like cigarettes, liquor, etc.

Income Elasticity of Demand

  • The income elasticity of demand measures the degree of responsiveness of quantity demanded to changes in income of the consumers.
  • The income elasticity is defined as a ratio of percentage change in the quantity demanded to the percentage change in income.
    ca-foundation-business-economics-study-material-elasticity-of-demand-14
    ca-foundation-business-economics-study-material-elasticity-of-demand-15

The income elasticity of demand is POSITIVE for all normal or luxury goods and the income elasticity of demand is NEGATIVE for inferior goods. Income elasticity can be classified under five heads:-

ca-foundation-business-economics-study-material-elasticity-of-demand-16

  1. Zero Income Elasticity:
    • It means that a given increase in income does not at all lead to any increase in quantity demanded of the commodity.
    • In other words, demand for the commodity is completely income inelastic or Ey = 0
    • Commodities having zero income elasticity are called NEUTRAL GOODS.
    • E.g. – Demand in case of SALT, MATCH BOX, KEROSENE OIL, POST CARDS, etc.
  2. Negative Income Elasticity:
    • It means that an increase in income results in fall in the quantity demanded of the commodity or Ey < 0.
    • Commodities having negative income elasticity are called INFERIOR GOODS.
    • E.g. – Jawar, Bajra, etc.
  3. Unitary Income Elasticity:
    • It means that the proportion of consumer’s income spent on the commodity remains unchanged before and after the increase in income or Ey = 1. This represents a useful dividing line.
  4. Income Elasticity Greater Than Unity:
    • It refers to a situation where the consumers spends GREATER proportion of his income on a commodity when he becomes richer. Ey > 1,
    • E.g. In the case of LUXURIES like cars, T.V. sets, music system, etc.
  5. Income Elasticity Less Than Unity:
    • It refers to a situation where the consumer spends a SMALLER proportion of his income on a commodity when he becomes richer. Ey < 1,
    • E.g. In the case of NECESSITIES like rice, wheat, etc.

Cross elasticity of demand

  • Many times demand for two goods are related to each other.
  • Therefore, when the price of a particular commodity changes, the demand for other commodities changes, even though their own prices have not changed.
  • We measures this change under cross elasticity.

The cross elasticity of demand can be defined “as the degree of responsiveness of demand for a commodity to a given change in the price of some RELATED commodity” OR “as the ratio of percentage change in quantity demanded of commodity X to a given percentage change in the price of the related commodity Y”. Symbolically:
ca-foundation-business-economics-study-material-elasticity-of-demand-17

Cross elasticity of demand can be used to classify goods as follows:-

  1. Substitute Goods: E.g.: Tea and Coffee. The cross elasticity between two substitutes is always POSITIVE. If cross elasticity is infinite, the two goods are perfect substitute and if it is greater than zero but less than infinity, the goods are substitutes.
    ca-foundation-business-economics-study-material-elasticity-of-demand-18
  2. Independent Goods: E.g.: Pastry and Scooter. The two commodities are not related. The cross elasticity in such cases is ZERO.
  3. Complementary Goods: E.g.: Petrol and Car. If the price of petrol rise, its demand falls and along with it demand for cars also falls. The cross elasticity in such cases is NEGATIVE
    ca-foundation-business-economics-study-material-elasticity-of-demand-19

Advertisement or Promotional Elasticity of Demand

  • Demand of many goods is also influenced by advertisement or promotional efforts.
  • It means that the demand for a good is responsive to the advertisement expenditure incurred by a firm.
  • The measurement of the degree of responsiveness of demand of a good to a given change in advertisement expenditure is called advertisement or promotional elasticity of demand.
  • It measures the percentage change in demand to a give ONE PERCENTAGE change in advertising expenditure. It helps a firm to know the effectiveness of its advertisement campaign.
  • Advertisement elasticity of demand is POSITIVE. Higher the value, higher is change in demand to change in advertisement expenditure.
    ca-foundation-business-economics-study-material-elasticity-of-demand-20

The value of advertisement elasticity varies between zero and infinity. If-

  • Ea = 0, no change in demand to increase in advertisement expenditure
  • Ea > 0 but < 1, less than proportionate change in demand to a change in advertisement expenditure
  • Ea = 1, change in demand is equal to change in advertisement expenditure
  • Ea > 1, higher rate of change in demand than change in advertisement expenditure

CA Foundation Business Economics Study Material – Law of Demand

CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply – Law of Demand

The Law of Demand

  • The Law of Demand expresses the nature of functional relationship between the price of a commodity and its quantity demanded.
  • It simply states that demand varies inversely to the changes in price i.e. demand for a commodity expands when price falls and contracts when price rises.
  • “Law of Demand states that people will buy more at lower prices and buy less at higher prices, other things remaining the same.” (Prof. Samuelson)
  • It is assumed that other determinants of demand are constant and ONLY PRICE IS THE VARIABLE AND INFLUENCING FACTOR.
  • Thus, the law of demand is based on the following main assumptions:—
    1. Consumers income remain unchanged.
    2. Tastes and preferences of consumers remain unchanged.
    3. Price of substitute goods and complement goods remain unchanged.
    4. There are no expectations of future changes in the price of the commodity.
    5. There is no change in the fashion of the commodity etc.
  • The law can be explained with the help of a demand schedule and a corresponding demand curve.
  • Demand schedule is a table or a chart which shows the different quantities of commodity demanded at different prices in a given period of time.
  • Demand schedule can be Individual Demand Schedule or Market Demand Schedule.

Individual Demand Schedule is a table showing different quantities of commodity that ONE PARTICULAR CONSUMER is willing to buy at different level of prices, during a given period of time.

ca-foundation-business-economics-study-material-law-of-demand

Market Demand Schedule is a table showing different quantities of a commodity that ALL THE CONSUMERS are willing to buy at different prices, during a given period of time.

ca-foundation-business-economics-study-material-law-of-demand-1
(Assumption: There are only 2 buyers in the market)

Both individual and market schedules denotes an INVERSE functional relationship between price and quantity demanded. In other words, when price rises demand tends to fall and vice versa.

A demand curve is a graphical representation of a demand schedule or demand function.

  • A demand curve for any commodity can be drawn by plotting each combination of price and demand on a graph.
  • Price (independent variable) is taken on the Y-axis and quantity demanded (dependent variable) on the X-axis.

ca-foundation-business-economics-study-material-law-of-demand-2

  • Individual Demand Curve as well as Market Demand Curve slope downward from left to right indicating an inverse relationship between own price of the commodity and its quantity demanded.
  • Market Demand Curve is flatter than individual Demand Curve.

Reasons for the law of demand and downward slope of a demand curve are as follows:—

1. The Law of Diminishing Marginal Utility:

  • According to this law, other things being equal as we consume a commodity, the marginal utility derived from its successive units go on falling.
  • Hence, the consumer purchases more units only at a lower price.
  • A consumer goes on purchasing a commodity till the marginal utility of the commodity is greater than its market price and stops when MU = Price ie. when consumer is at equilibrium.
  • When the price of the commodity falls, MU of the commodity becomes greater than price and so consumer start purchasing more till again MU = Price.
  • It therefore, follows that the diminishing marginal utility implies downward sloping demand curve and the law of demand operates.

2. Change in the number of consumers:

  • Many consumers who were unable to buy a commodity at higher price also start buying when the price of the commodity falls.
  • Old customers starts buying more when price falls.

3. Various uses of a commodity:

  • Commodity may have many uses. The number of uses to which the commodity can be put will increase at a lower price and vice versa.

4. Income effect:

  • When price of a commodity falls, the purchasing power (ie. the real income) of the consumer increases.
  • Thus he can purchase the same quantity with lesser money or he can get more quantity for the same money.
  • This is called income effect of the change in price of the commodity.

5. Substitution effect:

  • When price of a commodity falls it becomes relatively cheaper than other commodities.
  • As a result the consumer would like to substitute it for other commodities which have now become more expensive.
    E.g. With the fall in price of tea, coffee’s price remaining the same, tea will be substituted for coffee.
  • This is called substitution effect of the change in price of the commodity.
  • Thus, PRICE EFFECT = INCOME EFFECT + SUBSTITUTION EFFECT as explained by Hicks and Allen.

Exceptions to the Law of Demand

  • Law of Demand expresses the inverse relationship between price and quantity demanded of a commodity. It is generally valid in most of the situations.
  • But, there are some situations under which there may be direct relationship between price and quantity demanded of a commodity.

These are known as exceptions to the law of demand and are as follows:—

1. Giffen Goods:

  • In some cases, demand for a commodity falls when its price fall and vice versa.
  • In case of inferior goods like jawar, bajra, cheap bread, etc. also called “Giffen Goods” (known after its discoverer Sir Robert Giffens) demand is of this nature.
  • When the price of such inferior goods fall, less quantity is purchased due consumer’s increased preference for superior commodity with the rise in their “real income” (Le. purchasing power).
  • Hence, other things being equal, if price of a Giffen good fall its demand also falls.
  • There is positive price effect in this case.

2. Conspicuous goods:

  • Some consumers measure utility of a commodity by its price i.e. if the commodity is expensive they think it has got more utility and vice versa.
  • Therefore, they buy less at lower price and more of it at higher price.
    E.g. Diamonds, fancy cars, dinning at 5 stars, high priced shoes, ties, etc….
  • Higher prices are indicators of higher utilities.
  • A higher price means higher prestige value and higher appeal and vice versa.
  • Thus a fall in their price would lead to fall in their quantities demanded. This is against the law of demand.
  • This was found out by Veblen in his doctrine of “Conspicuous Consumption” and hence this effect is called Vebleri effect or prestige effect.

3. Conspicuous necessities:

  • The demand for some goods is guided by the demonstration effect of the consumption pattern of a social group to which the person belongs.
    E.g. Television sets, refrigerators, music systems, cars, fancy clothes, washing machines etc.
  • Such goods are used just to demonstrate that the person is not inferior to others in group.
  • Hence, inspite of the fact that prices have been continuously rising, their demand does not show tendency to fall.

4. Future changes in prices:

  • When the prices are rising, households tend to purchase larger quantities of the commodity, out of fear that prices may go up further and vice versa.
    E.g. – Shares of a good company, etc.

5. Irrational behaviour of the consumers:

  • At times consumers make IMPULSIVE PURCHASES without any calculation about price and usefulness of the product. In such cases the law of demand fails.

6. Ignorance effect:

  • Many times households may demand larger quantity of a commodity even at a higher price because of ignorance about the ruling price of the commodity in the market.

7. Consumer’s illusion:

  • Many consumers have a wrong illusion that the quality of the commodity also changes with the price change.
  • A consumer may contract his demand with a fall in price and vice versa.

8. Demand for necessaries:

  • The law of demand does not hold true in case of commodities which are necessities of life. Whatever may be the price changes, people have to consume the minimum quantities of necessary commodities. E.g.- rice, wheat, clothes, medicines, etc.

DEMAND CURVE FOR ABOVE EXCEPTIONS IS POSITIVELY SLOPED

Expansion and Contraction of Demand

(changes in quantity demanded. Or movement along a demand curve)

  • The law of demand, the demand schedule and the demand curve all show that
    – when the price of a commodity falls its quantity demanded rises or expansion takes place and
    – when the price of a commodity rises its quantity demanded fall or contraction takes place.
  • Thus, expansion and contraction of demand means changes in quantity demanded due to change in the price of the commodity other determinants like income, tastes, etc. remaining constant or unchanged.
  • When price of a commodity falls, its quantity demanded rises. This is called expansion of demand.
  • When price of a commodity rises, its quantity demanded falls. This is called contraction of demand.
  • As other determinants of price like income, tastes, price of related goods etc. are constant, the position of the demand curve remains the same. The consumer will move upwards or downwards on the same demand curve.

ca-foundation-business-economics-study-material-law-of-demand-3
Figure : Expansion and Contraction of Demand

In the figure

  • At price OP quantity demanded is OQ.
  • With a fall in price to OP1, the quantity demanded rises from OQ toOQ1,. The coordinate point moves down from E to E1This is called ‘expansion of demand’ or ‘a rise in quantity demanded’ or ‘downward movement on the same demand curve’.
  • At price OP quantity demanded is OQ.
  • With a rise in price to P2, the quantity demanded falls from OQ to OQ2. The coordinate point moves up from E to E2. This is called ‘contraction of demand’ or ‘a fall in quantity demanded’ or ‘upward movement on the same demand curve’.
  • Thus, the downward movement on demand curve is known as expansion in demand and an upward movement on demand curve is known as contraction of demand.

Increase and Decrease in demand (changes in demand OR shift in demand curve)

  • When there is change in demand due to change in factors other than price of the commodity, it is called increase or decrease in demand.
  • It is the result of change in consumer’s income, tastes and preferences, changes in population, changes in the distribution of income, etc.
  • Thus, price remaining the same when demand rises due to change in factors other than price, it is called increase in demand. Here, more quantity is purchased at same price or same quantity is purchased at higher price.
  • Likewise price remaining the same when demand falls due to change in factors other than price, it is called decrease in demand. Here, less quantity is purchased at same price or same quantity is purchased at lower price.
  • In above cases demand curve shifts from its original position to rightward when demand increases and to leftward when demand decreases. Thus, change in demand curve as a result of increase or decrease in demand, is technically called shift in demand curve.

ca-foundation-business-economics-study-material-law-of-demand-4
Figure : Increase and Decrease in Demand

In the figure

  • Original demand curve is DD. At OP price OQ quantity is being demanded.
  • As the demand changes, the demand curve shifts either to the right (D1D1) or to the left (D2D2)
  • At D1D1, OQ1, quantity is being demanded at the price OP. This shows increase in demand (rightward shifts in demand curve) due to factor other than price.
  • At D2D2, QO2 quantity is being demanded at the price OP. This shows decrease in demand (leftward shift in demand curve) due to a factor other than price.
  • When demand of a commodity INCREASES due to factors other than price, firms can sell a larger quantity at the prevailing price and earn higher revenue.
  • The aim of a advertisement and sales promotion activities is to shift the demand curve to the right and to reduce the elasticity of demand.

 

CA Foundation Business Economics Study Material – Introduction to Demand

CA Foundation Business Economics Study Material Chapter 2 Theory of Demand and Supply – Introduction to Demand

Meaning of Demand

  • In ordinary speech, the term demand is many times confused with ‘desire’ or ‘want’.
  • Desire is only a wish to have any thing.
  • In economics demand means more than mere desire.
  • Demand in economics means an effective desire for a commodity ie. desire backed by the ‘ability to pay’ and ‘willingness to pay’ for it.
  • Thus, demand refers to the quantity of a good or service that consumers are willing and able to purchase at different prices during a period of time.
  • Thus, defined, the term demand shows the following features:
    1. Demand is always with reference to a PRICE.
    2. Demand is to be referred to IN A GIVEN PERIOD OF TIME.
    3. Consumer must have the necessary purchasing power to back his desire for the commodity.
    4. Consumer must also be ready to exchange his money for the commodity he desires.
  • E.g. Mr. A’s demand for sugar at Rs. 15 per kg. is 4 kgs. per week.

Determinants of Demand

For estimating market demand for its products, a firm must have knowledge about—
(a) the determinants of demand for its product, and
(b) the nature of relationship between demand and is determinants.

The various factors on which the demand for a product/commodity depends are as follows:—

Price of the commodity:

  1. Other things being equal, the demand for a commodity is inversely related with its price.
  2. It means that a rise in price of a commodity brings about fall in its demand and vice versa.
  3. This happens because of income and substitution effects.

Price of the related commodities:

  1. The demand for a commodity also depends on the prices of related commodities.
  2. Related commodities are of two types namely—
    • Substitutes or competitive goods, &
    • Complementary goods.
  3. Substitute goods are those goods which can be used with equal ease in place of one another.
  4. E.g. Essar Speed Card and Airtel Magic Card; Coke and Pepsi; ball pen and ink pen; tea and coffee; etc.
  5. Demand for a particular commodity is affected if the price of its substitute falls or rises.
  6. E.g. If the price of Airtel Magic card falls, its demand will increase and demand for Essar Speed Card would fall and vice versa.
  7. Thus, there is a POSITIVE RELATIONSHIP between price of a commodity and demand for its substitutes.
  8. Complementary good are those goods whose utility depends upon the availability of both the goods as both are to be used together.
  9. E.g. a ball pen and refill; car and petrol; a hand set and phone connection; a tonga and horse, etc.
  10. The demand for complementary goods have an INVERSE RELATIONSHIP with the price of related goods.
  11. E.g. If the price of Scooters falls, its demand will increase leading to increase in demand for petrol.

Income of the consumers

  1. Other things being equal, generally the quantity demanded of a commodity bear a DIRECT RELATIONSHIP to the income of the consumer ie. with an increase in income, the demand for a commodity rises.
  2. However, this may not always hold true. It depends upon the class to which commodity belongs ie. necessaries or comforts and luxuries or inferior goods:
    • Necessaries (E.g. Food, clothing and shelter). Initially, with an increase in the in-come, the demand for necessaries also rises upto some limit. Beyond that limit, an increase in income will leave the demand unaffected.
    • Comforts and Luxurious (E.g. Car; Air-Conditioners; etc.) Quantity demanded of these group of commodities have a DIRECT RELATIONSHIP with the income of the consumers. As the income increases, the demand for comforts and luxuries also increases.
    • Inferior goods (E.g. Coarse grain; rough cloth; skimmed milk; etc.). Inferior goods are those goods for which superior substitutes are available Quantity demanded of this group of commodities Have an INVERSE RELATIONSHIP with the income of the consumer. E.g. A consumer starts consuming full cream milk (normal good) in place of toned milk (inferior good) with an increase in income.

Therefore, it is essential that business managers must know—

  • the nature of good they produce,
  • the nature of relationship between the quantities demanded and changes in consumer’s income, and
  • the factors that could bring about changes in the incomes of the consumers.

Tastes and Preferences of the consumers

  • Tastes and preferences of consumers generally change over time due to fashion, advertisements, habits, age, family composition, etc. Demand for a commodity bears a direct relationship to those determinants.
  • Modern goods or fashionable goods have more demand than the goods which are of old design and out of fashion.
    E.g. People are discarding Bajaj Scooter for say Activa Scooter.
  • The demand of certain goods is determined by ‘bandwagon effect’ or ‘demonstration effect’. It means a buyer wants to have a good because others have it. It means that an individual consumer’s demand is conditioned by the consumption of others.
  • Taste and preferences may also undergo a change when consumer discover that consumption of a good increases his PRESTIGE. E.g. Diamonds, fancy cars, etc.
  • A good loses its prestige when it becomes a commonly used good. This is called ‘snob effect’.
  • Status seeking rich people buy highly priced goods only. This form of ‘conspicuous consumption’ or ‘ostentatius consumption’ is called ‘VEBLEN EFFECT’ (named after American economist THORSTEIN VEBLEN)
  • Tastes and preferences of people change either due to external causes or internal causes.
  • Therefore, knowledge about tastes and preferences is important in production planning, designing new products and services to suit the changing tastes and preferences of the consumers.

Other Factors. Other things being equal demand for a commodity is also determined by the following factors:—

  1. Size and composition of Population:
    • Generally, larger the size of population of a country, more will be the demand of the commodities.
    • The composition of the population also determines the demand for various commodities.
      E.g. If the number of teenagers is large, the demand for trendy clothes, shoes, movies, etc. will be high.
  2. The level of National Income and its Distribution:
    • National Income is an important determinant of market demand. Higher the national income, higher will be the demand for normal goods and services.
    • If the income in a country is unevenly distributed, the demand for consumer goods will be less.
    • If the income is evenly distributed, there is higher demand for consumer goods.
  3. Sociological factors:
    • The household’s demand for goods also depends upon sociological factors like class, family background, education, marital status, age, locality, etc.
  4. Weather conditions:
    • Changes in weather conditions also influence household’s demand.
      E.g. – Extraordinary hot summer push up the demand for ice-creams, cold drinks, coolers etc.
  5. Advertisement:
    • A clever and continuous campaign and advertisement create a new type of demand.
      E.g. Toilet products like soaps, tooth pastes, creams etc.
  6. Government Policy:
    • The government’s taxation policy also affects the demand for commodities.
    • High tax on a commodity will lead to fall in the demand of the commodity.
  7. Expectation about future prices:
    • If consumers expect rise in the price of a commodity in near future, the current demand for the commodity will increase and vice versa,
  8. Trade Conditions:
    • If the country is passing through boom conditions, demand for most goods is more.
    • But during depression condition, the level of demand falls.
  9. Consumer-credit facility and interest rates:
    • If ample credit facilities with low rates of interest is available, there will be more demand specially of consumer durable goods like scooters, LCD /LED televisions, refrigerators, home theatre, etc.

Demand Function

Mathematical/symbolic statement of functional relationship between the demand for a product (the dependent variable) its determinants (the independent variables) is called demand function

Dx = f (Px, M, P; Pc, T, A)

Where—
Dx= quantity demanded of product
Px = the price of the product
M = money income of the consumer
Ps = the price of its substitute
Pc = the price of its complementary goods
T = consumer’s tastes and preferences
A = advertising effect measured through the level of advertisement expenditure.

CA Foundation Business Economics Study Material Chapter 1 Nature and Scope of Business Economics – MCQs

CA Foundation Business Economics Study Material Chapter 1 Nature and Scope of Business Economics – MCQs

MULTIPLE CHOICE QUESTIONS

1. Economics is a science because
(a) Systematised study
(b) Scientific laws
(c) Has its own methodology
(d) All the above

2. Positive statements concern what is; normative statements concern—
(a) What was
(b) What is the normal situation
(c) What will be
(d) What ought to be

3. Which of the following statements are positive statements?
(i) India is overpopulated.
(ii) Agricultural income should be taxed.
(iii) Service-class people should be exempted from income tax
(vi) There is tremendous tax evasion in India.
(a) i and ii
(b) i and iii
(c) i and iv
(d) iii and iv

4. The central problems of an economy arises because of—
(a) Unlimited wants
(b) Scarce resources having alternative uses
(c) Limited wants and unlimited resources
(d) Both (a) and (b)

5. The central problems relating to allocation of resources are—
(a) What to produce?
(b) How to produce?
(c) For whom to produce?
(d) All the above.

6. The problem of ‘What to produce’ relates to—
(a) The distribution of produced goods and services
(b) The technique of production to produce good
(c) The distribution of income among factor owners
(d) None of these

7. Micro economics deals with—
(a) Inflation in the country
(b) The economic behaviour of an individual unit
(c) The per capita income
(d) The problems of poverty and unemployment in the country

8. The objective of macro-economics is to study about—
(a) Problems, principles and policies relating to full employment of available resources
(b) Problems, Principles and policies relating to optimum allocation of resources
(c) Growth of resources
(d) Both a and c

9. Micro economics covers the study of—
(i) Consumer’s behaviour
(ii) Producer’s equilibrium
(iii) Fiscal system of an economy
(iv) Factor pricing
(a) i and iii (b) ii and iv
(c) i, ii and iii (d) i, ii and iv

10. Macro-economics is also known as—
(i) Method of Lumping
(ii) Price Theory
(iii) General equilibrium analysis
(iv) Aggregative Economics
(a) i and ii only
(b) iii and iv only
(c) i, iii and iv only
(d) ii, iii and iv only

11. Which of the following is not correct?
(a) Micro and Macro economics are complementary to each other
(b) Every macro-economic problem requires micro-economic analysis for its proper understanding
(c) Micro-economic behaviour can be added-up to derive macro-economic behaviour.
(d) What is macro from the national angle is micro from world angle

12. A theory may contain all but one of the following—
(a) An unorganised collection of facts about the real world!
(b) A set of definitions of the terms used.
(c) A set of assumptions
(d) One or more hypotheses

13. Positive economics deals with—
(a) What is
(b) What ought to be
(c) Both ‘a’ ‘b’
(d) None of these

14. Micro economics does not cover—
(a) Consumer behaviour
(b) Factor Pricing
(c) General price level
(d) Product Pricing

15. Find the odd—
(a) Normative economics is concerned with welfare propositions.
(b) Normative economics is prescriptive in nature.
(c) Normative economics is regulatory in nature.
(d) Economic laws are hypothetical.

16. A mixed economy to solve its central problems relies on—
(a) Economic planning
(b) Price mechanism
(c) Price fixing
(d) Both ‘a’ and ‘b’

17. In a socialist economy, the basic force of economic activity is profit. This statement is—
(a) Correct
(b) Incorrect
(c) Partially correct
(d) None of these

18. The interference of the government is very limited in—
(a) Socialist economy
(b) Capitalist economy
(c) Mixed economy
(d) All the above.

19. Both private and public sectors exist side by side in—
(a) China
(b) U.S.A.
(c) India
(d) Russia

20. In a competitive economy, the uncrowned king is—
(a) Government
(b) Producer
(c) Consumer
(d) Seller

21. Wastes of competition are found in—
(a) Capitalist economy
(b) Socialist economy
(c) Mixed economy
(d) None of these

22. A dual system of pricing exists in—
(a) Capitalist economy
(b) Socialist economy
(c) Mixed economy
(d) None of these

23. One of the important features of capitalist economy is—
(a) Economic planning
(b) Price mechanism
(c) Economic equalities
(d) Social welfare

24. ‘A government deficit will reduce unemployment and cause an increase in prices.’ This statement is—
(a) Positive
(b) Normative
(c) Incomplete
(d) None of these

25. Positive economics remains strictly neutral towards ends. This means that—
(a) Positive economics study the facts as they are
(b) Positive economics is prescriptive in nature
(c) Positive economics is based on ethical, philosophical and religious beliefs
(d) Only (a) and (b)

26. “During the boom periods when aggregate demand, national income and prices are high, entrepreneurs tend to make high profits”. This statement shows—
(a) Effect of micro-economic variables on macro variables
(b) Effect of macro-economic variables on micro variables
(c) Inter-dependence of micro and macro-economics
(d) Both (b) and (c)

27. Social insurance, sickness benefits, old age pension, etc are some social benefits provided by—
(a) State in capitalist economy
(b) State in socialist economy
(c) State in mixed economy
(d) Both (b) and (c)

28. In a capitalistic economy what to produce depends on—
(a) governments is policy
(b) consumer’s preference
(c) profits of firm
(d) none of these

29. The economy in which the government allows freedom of action of all economic units is essentially—
(a) a socialist economy
(b) a mixed economy
(c) a capitalistic
(d) none of the these

30. Which of the following is not correct about capitalistic system—
(a) Too much of waste due to cut throat competition
(b) There is right of private property.
(c) Conditions are not favourable for equitable distribution of wealth.
(d) There is central planning authority.

31. Which of the following is not the feature of socialist economy ?
(a) Economic planning
(b) Social welfare
(c) Private ownership of productive resources
(d) Economic equalities

32. Micro economics is also known as—
(a) Price theory
(b) Slicing method
(c) Product theory
(d) Both (a) and (b)

33. Economics is an art as—
(a) it teaches us to do
(b) it provides practical solutions to various economic problems.
(c) it is practice of knowledge
(d) all the above

34. Study of the problem of poverty denotes that economics is—
(a) a science
(b) an art
(c) both a science and an art
(d) neither a science nor an art

35. Framing suitable policies to solve inequalities of income denotes that economics is—
(a) a science
(b) an art
(c) both a science and an art
(d) neither science nor an art

36. Study of unemployment problem and then framing suitable policies to reduce the extent of unemployment shows that economics is—
(i) Both a science and an art
(ii) Neither a science nor an art
(iii) Positive science
(iv) Normative science
(a) i and iii only
(b) ii and iv only
(c) i, iii and iv
(d) ii, iii and iv

37. _____ economics explains cause and effect relationship between economic phenomena
(a) Positive
(b) Normative
(c) Empirical
(d) Applied

38. Positive economics concerns .
(a) what should be
(b) what is
(c) both (a) and (b)
(d) what ought to be

39. Normative economics is in nature
(a) modern
(b) descriptive
(c) prescriptive
(d) none of the above

Q. 40 to Q. 43 are based on the following conversation
Ram : “Rise in prices of goods have made it difficult to make two ends meet”
Shy am : “Yes, the cost of cultivation too has increased very much”.
Raghu : “Government should take steps to curb the price rise and provide relief to common man”.
Bhola : “Yes, he government should deal strictly on hoarders and black marketers”.

40. In the above conversation whose statements shows positive aspect of Economics?
(a) Ram
(b) Shyam
(c) Both (a) and (b)
(d) Bhola

41. In the above conversation whose statements shows normative side of economics
(a) Shyam
(b) Raghu
(c) Bhola
(d) Both (b) and (c)

42. Shyam’s statement in the above conversation shows—
(a) What is
(b) What can be
(c) What ought to be
(d) What will be

43. Bhola’s statement in the above conversation shows—
(a) What is
(b) What should be the things
(c) What was
(d) None of the above

44. As compared to other economic systems, inequalities of incomes is relatively less in economic system
(a) Capitalist
(b) Socialist
(c) Mixed
(d) None of the above

45. Price-mechanism is an important feature of –
(i) Market economy
(ii) Regulated economy
(iii) Mixed economy
(iv) Capitalist economy
(a) i and ii only
(b) iii and iv only
(c) i and iii only
(d) i and iv only

46. Consumers and produces make their choices based on the market forces of demand and supply in—
(a) Socialist (Command) Economy
(b) Mixed Economy
(c) Capitalist Economy
(d) Closed Economy

47. The problem of what goods and services are produced and how much, is covered by the general term—
(a) resource allocation
(b) choice of technique of production
(c) distribution
(d) macro-economics

48. Business Economics is generally in nature.
(a) normative
(b) positive
(c) neutral
(d) descriptive

49. Capital intensive technique would be chosen in a
(a) labour surplus economy where the relative price of capital is lower
(b) capital surplus economy where the relative price of capital is lower
(c) developed economy where technology is better
(d) developing economy where technology is poor

50. Which of the following statement is incorrect?
(a) Business economics is a normative in nature
(b) Business economics is closely related with statistics
(c) Business economics only considers micro variables
(d) Business economics is also called Managerial economics

51. All of the following are within the scope of Business Economics except
(a) Capital Budgeting
(b) Risk Analysis
(c) Business Cycles
(d) Accounting Standards

52. Which of the following is considered as a disadvantage of allocating resources in a capitalist economy?
(a) Income will tend to be unevenly distributed
(b) People do not get goods of their choice
(c) Men of initiative and enterprise are not rewarded
(d) Profits will tend to be low

ANSWERS

ca-foundation-business-economics-study-material-chapter-1-nature-and-scope-of-business-economics-mcqs

CA Foundation Business Economics Study Material – Basic Problems of an Economy and Role of Price Mechanism

CA Foundation Business Economics Study Material Chapter 1 Nature and Scope of Business Economics – Basic Problems of an Economy and Role of Price Mechanism

Basic Problems of an Economy

  • We know that human wants are unlimited and resources are scarce.
  • The problem of scarcity of resources is not only faced by individuals but also by the society at large.
  • This gives rise to the problem of how to use scare resources so as to serve best the needs of the society.
  • This economic problem is to be dealt with in all the economic systems whether capitalist or socialist or mixed.
  • The central problems relating to allocation of resources are:
    • What to produce and how much to produce?
    • How to produce?
    • For whom to produce?
    • What provision should be made for economic growth?

What to produce and how much to produce?

  • An economy has millions commodities to produce.
  • It has to decide what commodities are to be produced and how much.
  • E.g. – To produce luxury goods or consumer goods, etc.
  • Here, the guiding principle is to allocate the resources in the production of goods in such a way that maximizes aggregate utility.

How to produce ?

  • There are many alternative techniques to produce a commodity. ‘
  • Choice has to be made between capital intensive technique or labour intensive technique of production.
  • The choice of technique will depend upon —
    • availability of various factors of production, &
    • the prices of factors of production.
  • Such techniques of production has to be adopted that makes best use of available resources.

For whom to produce?

  • Who will consume the goods and services that are produced in the economy?
  • Whether a few rich or many poor will consume?
  • Goods and services are produced for those people who can purchase them or pay for them.
  • Paying capacity depends upon income or purchasing power.

What provisions should be made for economic growth?

  • A society cannot afford to use all its scarce resources for current consumption only.
  • It has to provide for the future as well so that high economic growth can be achieved.

Therefore, an economy has to take decisions about rate of savings, investment, capital formation, etc.

Meaning of Economic System

An economic system comprises the totality of forms through which the day to day economic process is at work. It refers to the mode of production, exchange, distributions and the role which government play in economic activity. There are three types of economic systems Capitalism, Socialism and Mixed Economy ‘

CAPITALIST ECONOMY

  • Capitalistic economic systems is one in which all the means of production are privately owned.
  • The owners of property, wealth and capital are free to use them as they like in order to earn profits.
  • The central problems about what, how and for whom to produce are solved by the free play of market forces.

Characteristics of Capitalist Economy:

  • There is right to own and keep private property by individuals. People have a right to acquire, use, control, enjoy or dispose off it as they like.
  • There is right of inheritance ie. transfer of property of a person to his legal heirs after his death.
  • There is freedom of enterprise ie. everybody is free to engage in any type of economic activity he likes.
  • There is freedom of choice by consumers ie. consumer is free to spend his income on whatever goods or services he wants to buy and consume.
  • Entrepreneurs or producers in their productive activity are guided by their profit motive. Thus profit motive is the guiding force behind all the productive activity.
  • There is stiff competition among sellers or producers of similar goods. There is competition among all the participants in the market.
  • Price mechanism is an important feature of capitalist economy were the price is determined through the interaction of market forces of demand and supply.

Merits of Capitalist Economy:

  • Capitalism works through price mechanism and hence self regulating
  • In capitalism there is greater efficiency and incentive to work due to two motivating force namely private property and profit motive.
  • Faster economic growth is possible.
  • There is optimum allocation of productive resources of the economy.
  • There is high degree of operative efficiency.
  • Cost effective methods are employed in order to maximise profits.
  • Consumers are benefited as large range of quality goods at reasonable prices are available from which they makes the choice. This also results in higher standard of living.
  • In capitalism there is more innovations and technological progress and country benefits from research and development, growth of business talent, etc.
  • Fundamental rights like right to private property and right to freedom are preserved.
  • It leads to emergence of new entrepreneurial class who is willing to take risks.

Demerits of Capitalist Economy:

  • In capitalism there is vast economic inequality and social injustice which reduces the welfare of the society.
  • There is precedence of property rights over human rights.
  • Cut-throat competition and profit motive work against consumer welfare leading to exploitation of consumers.
  • There are wastage of resources due to duplication of work and cut-throat competition.
  • Income inequalities lead to differences in economic opportunities. This lead to rich becoming richer and poor becoming poorer.
  • There is exploitation of labour.
  • More of luxury goods and less of wage goods are produced leading to misallocation of resources. .
  • Unplanned production, economic instability in terms of over production, depression, unemployment, etc. are common in a capitalist economy.
  • Leads to creation of monopolies.
  • Ignores human welfare because main aim is profit.

SOCIALIST ECONOMY

The concept of socialism was given by Karl Marx and Frederic Engels in their work ‘The Communist Manifesto’ published is 1848. A socialist economy is also called as “Command Economy” or a “Centrally Planned Economy.”

  • In a socialist economy, all the property, wealth and capital is owned by State. There is no private property.
  • State organises all economic activities. It owns, controls and manages the production units; it distributes the goods among the consumers; it decides the size and direction of investment.
  • The state works for the welfare of the people and not for profit.

Characteristics of Socialist Economy:

  • There is collective ownership of means of production Le. all the important means of production are state owned.
  • It is a centrally planned economy. All the basic decisions relating to the working and the regulation of the economy are taken by central authority called planning commission.
    • Production and distribution of goods is ensured through planning on preferences deter-mined by the state. So freedom from hunger is guaranteed but, consumer’s sovereignty is restricted.
  • There is social welfare in place of profit motive. Those goods and services are given top priority which is in the interest of largest number of people.
    • Price policy is guided by the aims of social welfare than profit motive.
  • There is lack of competition because it avoid duplication of efforts and wastage of resources. Hence, competition is done away.
  • Socialism tries to ensure equitable distribution of income through equality of opportunities. Thus, right to work is guaranteed but choice of occupation is restricted.

Merits of Socialist Economy:

  • Social justice is maintained by equitable distribution of income and wealth and by providing equal opportunities to all.
  • Balanced economic development is possible. Central planning authority allocate resources according to the plans and priorities.
  • There are no class conflict and community develops a co-operative mentality.
  • Unemployment is minimized, business fluctuations are eliminated resulting in stability.
  • Right to work is ensured and minimum standard of living is maintained.
  • There is no exploitation of consumers and workers.
  • Wastage of resources are avoided due to planning resulting in better utilization of resources and maximum production.
  • Citizens feel secure as there is social security cover for them.
  • Demerits of Socialist Economy:
  • There is predominance of bureaucracy resulting in inefficiency and delays.
  • There is no freedom of individuals as it takes away basic rights also like right of private property.
  • Workers are not paid according to their personal efficiency and productivity. This acts as disincentive to work hard.
  • Prices are administered by the state.
  • State monopolies may be created and may become uncontrollable. This will be more dan¬gerous than monopolies under capitalism.
  • The consumers have no freedom of choice.

MIXED ECONOMY

Mixed economy combines the features of both capitalism and socialism. The concept is designed to incorporate best of both. The main characteristics/features are:—

  • There is co-existence of both private and public sector ie. economic resources are owned by individuals and state.
    • State open those enterprises which are in the interest of the’society as a whole.
    • Private sector moves to those enterprises which produce higher profit.
  • There is co-existence of free price mechanism and economic planning.
    • Price mechanism is however curtailed through measures like price control, administered prices etc.
    • Planning is done through incentives like concessions, subsidies, etc. and disincentives like high rate of taxes, strict licensing etc.
  • In mixed economy social welfare motive gets due importance particularly in case of poor and backward classes.
    Eg. Subsidised hospital, food articles, education etc.; social security schemes like old age pension, reservation of jobs, laws in the interest of workers, consumers, human, children etc.
  • There is freedom to joint any occupation, trade or service according to the education, training, skills and ability.
  • There is freedom of consumption. People are free to consume goods and services of their choice and in the quantity they can afford.

Merits of Mixed Economy:

  • Merits of capitalist economy and socialist economy are found in mixed economy.
  • There is right of private property and economic freedom. This results in incentive to work hard and capital formation.
  • Price mechanism and competition induces the private sector in efficient decision making and better resource allocation.
  • There is freedom of occupation and consumption.
  • Encourages enterprise and risk taking.
  • Leads to development of technologies through research and development.
  • Economic and social equality is more.

However, mixed economy suffers from uncertainties, excess control by state, poor implementation of plans, high taxes, corruption, wastage of resources, slow growth, lack of efficiency, etc. There are possibilities of private sector growing, disproportionately if state does not maintain a proper balance between public and private sectors.

CA Foundation Business Economics Study Material – Nature and Scope of Business Economics

CA Foundation Business Economics Study Material – Nature and Scope of Business Economics

Nature of Business Economics

The subject matter of Economics is broadly divided into two major parts namely:—
Micro-Economics, and Macro-Economics
Before dealing with nature of Business Economics, it is necessary to understand the difference between the two.

1. Micro-Economics – Micro means a ‘small part’. Therefore, Micro-economics study the behaviour of small part or a small component or different individuals and organisations of a national economy. It examines how the individual units take decision about rational allocation of their scarce resources.

Micro-Economics covers the following:

  • Theory of Product Pricing;
  • Theory of Consumer Behaviour,
  • Theory of Factor Pricing;
  • The economic conditions of a section of people;
  • Behaviour of firms; and
  • Location of industry.

2. Macro-Economics – Macro means ‘large’. Therefore, macro-economics deals with the large economic activity. It study the economic system of a country as a whole ie. overall condition of an economy. It is a study of large aggregates like total employment, the general price level. Total output, total consumption, total saving and total investments. It also analyses how these aggregates change over time.

Macro-Economics covers the following:

  • National Income and National Output;
  • The General Price Level and interest rates;
  • Balance of Trade and Balance of Payments;
  • External value of currency ie. exchange rate;
  • Overall level of savings and investments ie. capital formation; and
  • The level of employment and rate of economic growth.

Business Economics is primarily concerned with Micro-Economics. However, knowledge and understanding of Macro-economic environment is also necessary. This is because macro-economic environment influence individual firm’s performance and decisions.

As already seen Business Economics enables application of economic knowledge, logic, theories and analytical tools. It is Applied Economics that fills the gap between economic theory and business practice. The following will describe the nature of Business Economics:

  1. Business Economics is a Science: Science is a systematised body of knowledge which trace the cause and effect relationships. Business Economics uses the tools of Mathematics, Statistics and Econometrics with economic theory to take decisions and frame strategies. Thus, it makes use of scientific methods.
  2. Based on Micro-Economics: As Business Economics is concerned more with the decision making problems of a particular business establishment. Micro level approach suits is more. Thus, Business Economics largely depends on the techniques of Micro-Economics.
  3. Incorporates elements of Macro Analysis: A business unit is affected by external environment of the economy in which it operates. A business units is affected by general price level, level of employment, govt, policies related to taxes, interest rates, industries, exchange rates, etc. A business manager should consider such macro-economic variables which may affect present or future business environment.
  4. Business Economics is an Art: It is related with practical application of laws and principles to achieve the objectives.
  5. Use of Theory of Markets & Private Enterprise: It uses the theory of markets and resource allocation in a capitalist economy.
  6. Pragmatic Approach: Micro-Economics is purely theoretical while, Business Economics is practical in its approach.
  7. Inter-disciplinary in nature: It incorporates tools from other disciplines like Mathematics, Statistics, Econometrics, Management Theory, Accounting, etc.
  8. Normative in Nature: Economic theory has been developed along two lines – POSITIVE and NORMATIVE.

A positive science or pure science deals with the things as they are and their CAUSE and EFFECTS only. It states ‘what is’? It is DESCRIPTIVE in nature. It does not pass any moral or value judgments.

A normative science deals with ‘what ought to be’ or ‘what should be’. It passes value judgments and states what is right and what is wrong. It is PRESCRIPTIVE in nature as it offers suggestions to solve problems. Normative science is more practical, realistic and useful science.

Business Economics is normative in nature because it suggests application of economic principles to solve problems of an enterprise, However, firms should have clear understanding of their environment and therefore, it has to study positive theory.

Scope of Business Economics

The scope of Business Economics is wide. Economic theories can be directly applied to two types of business issues namely—

  1. Micro-economics is applied to operational or internal issues off a firm.
  2. Macro-economics is applied to environment or external issues on which the firm has no control.

1. Micro-economics applied to operational or internal issues
Issues like choice of business size of business, plant layout, technology, product decisions, pricing, sales promotion, etc. are dealt by Micro-economic theories. It covers—

  • Demand analysis and forecasting
  • Production and Cost Analysis
  • Inventory Management
  • Market Structure and Pricing Analysis
  • Resource Allocation
  • Theory of Capital and Investment Decisions
  • Profitability Analysis
  • Risk and Uncertainty Analysis.

2. Macro-economics applied to environmental or external issues
The major economic factors relate to—

  • the type of economic system
  • stage of business cycles
  • the general trends in national income, employment, prices, saving and investment.
  • government’s economic policies
  • working of financial sector and capital market
  • socio-economic organisations
  • social and political environment.

These external issues has to be considered by a firm in business decisions and frame its policies accordingly to minimize their adverse effects.