CA Cpt Economics

TUTORS CIRCLE www.TutorsCircle.com

Super Circle Summary Economics

TutorsCircle.com

www.TutorsCircle.com CPT Super Circle Summary

Thank you for downloading our CPT Super Circle Summary. The guide has been

designed and abridged to help you navigate through CPT Economics in the easiest possible way. We have used different Colours, Pictures and Visual learning methods so you remember everything the easiest possible way. Most of your dreams can be turned into reality. You just

need to dream and we PLEDGE we will do the most to make it a reality.

Nothing is Impossible, not even this exam.

We will be soon launching our guides for CWA, CS, ICSE, ISC, CBSE, AIEEE …….. The list is long...

Make sure you browse and test yourself (over and over again) on our TBANK online at

TutorsCircle.com, a state of the art web education portal. The web application

(its FREE) has been carefully engineered to get you SO familiar with the topics and

material that once you walk out of that exam you’d know you killed it. The database is regularly updated if we find newer questions. We also have a lot of questions in there which had appeared in the last exam. The basic idea is to equip you with such a strong armor that in the exam you……..

Don’t think, Just Circle it….!!!

Good Luck!

TutorsCircle.com


Chapter 1 Economics is the study of how society allocates scarce resources and goods. Resources are the inputs that society uses to produce output, called goods. Resources include inputs such as labor, capital, and land. Goods include products such as food, clothing, and housing as well as services such as those provided by barbers, doctors, and police officers. These resources and goods are considered scarce because of society's tendency to demand more resources and goods than are available. Scarcity: Resources are finite, so decisions must be made as to how to allocate those resources in the most efficient manner possible. Oil and petrol have rather become scarce and hence the prices of such commodities continuously rise. In 1995 you could get a liter of petrol of 20 Rs but the same today costs almost 80 Rs. So let’s assume, today if you have Rs 1000 would you want to go on a drive with your friends or use the money to go to a close by restaurant. The two fundamental facts of Economics is (i) Human beings have unlimited wants; and (ii) The means of satisfying these wants are relatively scarce form the subject matter of Economics. Adam Smith, the father of Economics, published “The Nature and Causes of Wealth of Nations “in 1776. He defined Economics as “An inquiry into the nature and causes of the wealth of the nations.” J B Say defined economics as “Science which deals with wealth” Alfred Marshal’s definition of economics: “Economics is a study of mankind in the ordinary business of life. It examines that part of individual and social action which is most closely connected with the attainment and with the use of the material requisites of well-being. Thus, it is on the one side a study of wealth and on the other and more important side a part of the study of the man.” A C Pigou – “The range of our inquiry becomes restricted to that part of social welfare that can be brought directly or indirectly into relation with the measuring rod of money” Prof. Lionel Robbins - book “Nature and significance of Economics” 1931 “Economics is the science which studies human behavior as a relationship between ends and scarce means which have alternative uses”.

TutorsCircle.com


Classical Economics- was the first modern style of how people perceived economics. It flourished in the 18th and 19th century. Some famous Classical economists were Adam Smith, Jean-Baptiste Say, David Ricardo, Thomas Malthus and John Stuart Mill. Neo-classical Economics -Flourished during the late 19th century where economists related supply and demand to an individual's rationality and his or her ability to maximize utility or profit. Paul A. Samuelson defined economics as - “Economics is the study of how men and society choose, with or without the use of money, to employ scarce productive resources which could have alternative uses, to produce various commodities over time and distribute them for consumption now and in the future amongst various people and groups of society”. Prof Henry Smith - Economics, is the “the study of how in a civilized society one obtains the share of what other people have produced and of how the total product of society changes and is determined”. Jacob Viner According to him, “Economics is what Economists do” Keynesian Economics J.M. Keynes An economic theory stating that active government intervention in the marketplace and monetary policy is the best method of ensuring economic growth and stability. Keynesian economists believed that the government should actively participate to smoothen out the bumps in a business cycle. 'Laissez Faire' An economic theory from the 18th century that opposes governmental regulation of or interference in commerce beyond the minimum necessary for a free-enterprise system to operate according to its own economic laws. The transactions between private parties should be free from taxes, tariffs, and government subsidies.

The phrase laissez-faire is French and literally means "let them do as they will," It has a few other assumptions:

(i) The economic market rises or falls based upon its own fluctuations with no government input to stabilize it.

(ii) Literally to let things take their own course without interfering.

TutorsCircle.com


Microeconomics- micro means small, it studies the markets on a small scale. It focuses on how a market is impacted by decisions and choices made by small economic units such as individual consumers, individual firms, or individual government agencies. It includes

(I) Product pricing (IV) Economic conditions of a section of the people (II) Consumer behavior (v) Study of firms (III) Factor pricing (VI) Location of an industry

Macro Economics– Is a term derived from the Greek work Makros – meaning large. Macroeconomics considers the aggregate performance of all markets in the market system and is concerned with the choices made by the larger subsectors of the economy—the household sector or consumers; the business sector, or firms; and the government sector or all government agencies. It includes:

(I) National income and output (IV) External value of money (ii) General Price level (v) saving and investment (iii) Balance of trade and payments (VI) employment and economic growth An economic policy is a course of action taken with an intention to influence or control the behavior of the economy. Economic policies and decisions taken by the government affect a nation's gross domestic product (GDP), the unemployment rate, its trade with other nations. Economic policies are generally implemented and administered by the government. Examples would be How much money to spend on making roads How much tax to impose on BMW’s and Audi’s How to redistribute Income from rich to the poor. How to control the supply of money in an economy.

The effectiveness of economic policies can be assessed in one of two ways, known as Positive and Normative economics. Positive Economics – Economics as positive since analyses cause & effect relationship. It states facts and uses empirical evidence. Normative Economics- Economics as normative science involves judgments. It analyses the values and then prescribes the action to be taken. Deductive Method (Abstract, analytical and priori method) –It involves deducing of laws logically. Some fundamental assumptions are made & conclusions are drawn accordingly.

TutorsCircle.com


Inductive Method –Facts are collected & analyzed & then conclusions are drawn based on them. The Four basic economic problems are

What to produce and how much to produce? How to produce? For whom to produce? How to accelerate economic growth?

Production Possibilities Curve (PPC)A PPF curve shows and determines all maximum output possibilities of two goods that can be produced simultaneously given a set of inputs (resources, labor, etc.) during a given period of time. The PPF assumes that all inputs are used efficiently.

Points A, B and C represent the points at which production of Good A and Good B is most efficient. Point X demonstrates the point at which resources are not being used efficiently in the production of both goods; point Y demonstrates an output that is not attainable with the given inputs. TYPES OF ECONOMIES - Capitalist Economy – Means of production are in private hands Characteristics Private ownership of productive factors Freedom of enterprise Freedom to choice by consumers Work on profit motive Competition among sellers & buyers Income inequalities

TutorsCircle.com


Merits Initiative to innovate by producers High standard of living Works through price mechanism Productive efficiency Liberty & freedom to act Maximum satisfaction to consumers Preserves fundamental rights Rewards initiatives Growth of business talent, research & development etc.

De-merits Income inequalities Welfare is not protected Economic instability Huge amount spent on product promotion Class conflict between employers & employees Misuse of resources Formation of monopolies Insecure employment

- Socialist Economy – Controlled, managed & regulated by the Government Characteristics – Collective ownership of resources Central planning authority No choice for consumers Less income inequalities Absence of price mechanism

Merits- Less income inequalities Better utilization of resources Strict economic planning Economic stability Better employment conditions No class war Ensures right to work Protection from exploitation & monopoly

TutorsCircle.com


De-merits Predominance of bureaucracy No freedom No right of private property No incentive to work hard Improper cost calculation Extreme form not practicable

- Mixed Economy – Public sector & private sector co-exist. It has the best features of market economy & controlled economy Characteristics – Co-existence of public & private sector Better economic planning Balanced regional development Dual system of pricing

Merits – Merits of both capitalism & socialism Protects individual freedom Price mechanism operates Reduced income inequalities Stable economy Balanced economic development for developing countries

De-merits – Difficult to operate Excessive controls and heavy taxes Red-tapism, nepotism, favoritism, officialdom exist According to Schumpeter, advantages offered are temporary

TutorsCircle.com


CHAPTER 2 Demand: Willingness & ability of consumers to purchase at various prices for a given period of time. Demand is effected by

1) Desire 2) Means to purchase 3) Willingness to purchase

Quantity demanded:

1) Always expressed for a given price 2) It is a flow

Definition of Demand: “By demand, we mean the various quantities of a given commodity or service which consumers would buy in one market in a given period of time, at various prices, or at various incomes, or at various prices of related goods”.

Determinants of demand:

1) Price of the good 2) Price of related goods 3) Level of household income 4) Tastes & preferences of consumers 5) Other factors-

- Population size - Composition of population - Income distribution

Relation between determinants of demand & demand:

1) Price of good: Other things remaining constant, there is an inverse relation between price of good and its quantity demanded.

2) Price of related goods: - Complementary goods: Inverse relation between price & demand of

complementary goods. For e.g. pen & ink. Price of pen, price of pen increases, demand for ink decreases

- Substitute goods: Direct relation between price & demand of substitute goods. For e.g. tea & coffee. Price for tea increases, demand for coffee increases.

3) Level of income: - Normal goods: Direct relation between income & demand. Income

increases, demand increases. - Inferior goods: Inverse relation between income & demand. Income

increases, demand decreases.

TutorsCircle.com


4) Taste & preferences: Taste changes in favour of good, demand increases & vice versa.

5) Other factors: - Population: Population increases, demand increases - Composition of population: Effected by the age group of people - Income distribution: Less rich people & more of poor people – Less demand

Law of demand: Prof. Alfred Marshall - “The greater the amount to be sold, the smaller must be the price at which it is offered in order that it may find purchasers or in other words the amount demanded increases with a fall in price and diminishes with a rise in price”. Law of demand states that, ceteris paribus, or other things remaining constant, people will buy more at lower price and will buy less at higher price. Demand schedule: Data stating different quantity of goods demanded by consumers at different prices

- Individual schedule: Shows the demand pattern of an individual consumer - Market schedule: Shows the demand pattern for entire market. It is

constructed by aggregating the demand schedules of many individual consumers.

Demand curve: Horizontal axis – Price Vertical axis – Quantity Curve – Negatively sloping i.e. slopes downwards to the right.

TutorsCircle.com


Rationale for law of demand: (Reason for the negative slope)

1) Law of diminishing marginal utility: As more of a good is consumed, the satisfaction derived decreases. So consumer will only buy till the price it equalizes their satisfaction.

2) Substitution effect: As the price of good increases, consumers replace the goods with the substitutes.

3) Income effect: As price increases, the real income of the consumer decreases and therefore quantity demanded falls & vice versa.

4) Arrival of new consumers: As price for a good fall, new consumers also move in to buy them. This increases the demand at lower price.

5) Different uses: If price for commodities with multiple uses rises, consumer will limit their use and this will decrease demand and vice versa.

Exceptions of Law of Demand:

1) Conspicuous goods: These are also called article of distinction or Veblen goods. These goods act as a status symbol and there is direct relation between their price and quantity demanded. For e.g. Diamonds, jewellery & gems.

2) Giffen goods: These are the goods whose demand falls even if price falls. For e.g. coarse grains like bajra, low quality rice etc.

3) Conspicuous necessities: These goods have become necessities due to their constant usage. For e.g. television, coolers etc.

4) Future expectations about prices: If price of good increases and is expected to increase even more in futures then consumers will buy them in present despite of a price increase.

5) Ignorance: Due to poor knowledge and ignorance of consumers, impulsive purchases are made without appropriate calculations.

6) Demand for necessities: The demand for necessities is not affected much by price change.

7) Speculative goods: Speculative goods like stocks and shares, demand increases with price.

Expansion & Contraction of Demand Expansion: When price falls and quantity demanded increases. There is a downward movement along the demand curve. Contraction: When price rises and quantity demanded decreases. There is an upward movement along the demand curve.

TutorsCircle.com


Increase & Decrease in Demand Increase: Price of the commodity remains the same but there is an increase in demand due to change in other factors. There is a rightward shift in the demand curve. Decrease: Price of the commodity remains the same but there is a decrease in demand due to change in other factors. There is leftward shift in the demand curve.

Movement along demand curve vs. Shift in curve Movement along curve Shift in curve

1. Indicate change in quantity demanded due to change in price.

2. There is a movement along the same curve.

3. It is termed as change in “quantity

demanded”.

1. Indicate change in demand due to change in factors other than price.

2. There is a shift in whole curve and a

new curve is formed.

3. It is termed as change in “demand”

TutorsCircle.com


Elasticity of Demand Definition: Elasticity of demand is defined as the responsiveness of the quantity demanded of a good to changes in one of the variables on which demand depends or we can say that it is the percentage change in quantity demanded divided by the percentage in one of the variables on which demand depends. Price elasticity: It measures responsiveness of quantity demanded to the

change in price when other things remain constant. Ep = % change in quantity demanded ÷ % change in price (Change in quantity/ Original quantity) x (Original price/ Change in price) Price elasticity is negative because of the inverse relationship between price and quantity demanded.

Degrees of price elasticity:

Perfectly elastic E = ∞ A little change in price causes infinite change in quantity demanded.

Perfectly inelastic E = 0 Quantity demanded doesn’t change with price.

Unit elastic E = 1 Change in quantity demanded is equal to the change in price

Elastic ∞> E > 1 Proportionate change in quantity demanded is more than change in price

Inelastic 0 < E < 1 Proportionate change in quantity demanded is less than change in price

TutorsCircle.com


Point elasticity: It measures elasticity at a given point on demand curve. Point elasticity = Lower segment ÷ Upper segment It is zero at the midpoint and increase as we move from bottom to top i.e. from quantity axis to price axis.

Arc elasticity: It is used when change is price is larger. It measures price elasticity between two prices or two points in demand curve.

Elasticity by Arc method = [(q1-q2)/ (q1+q2)] x [(p1+p2)/ (p1-p2)] Total outlay method of calculating Price Elasticity: This method measure the

price elasticity of demand by analysing the changes in total expenditure or outlay. It only states whether the good is elastic or inelastic.

TutorsCircle.com


Total outlay method

ELASTICITY

PRICE

TOTAL EXPENDITURE

E > 1, Elastic demand Increases

Decreases

Decreases

Increases

E = 1, Unitary elastic

100% increase Unchanged

E < 1, Inelastic demand

Increases

Decreases

Increases

Decreases

Determinants of price elasticity:

Availability of substitutes: Goods with close or perfect substitutes have highly elastic demand & vice versa. For e.g. tea & coffee. Change in price of tea will affect the demand for coffee.

Position of commodity in consumer’s budget: If greater proportion of income is spent on a commodity then its elasticity of demand will also be high & vice versa. For e.g. needle. It has a very small proportion in consumer’s budget & any price change will not affect the demand for it.

Nature of need that a commodity satisfies: Luxury goods- elastic demand Necessities- inelastic demand

Number of uses to which a commodity can be put: The more the possible uses of a commodity the greater will be its price elasticity and vice versa. For e.g. electricity. If the price of electricity increases, its use will be restricted to important things & demand will be elastic.

The period: Longer the period, for which elasticity is measured, more elastic will be the demand & vice versa.

Consumer habits: If consumer is habitual to the commodity then its demand will be inelastic. For e.g. tobacco.

Tied demand: If demand for a good is tied to demand for another good then it will have inelastic demand.

Price range: High or low price range- inelastic demand Middle price range- elastic demand

TutorsCircle.com


Income elasticity of demand:

It measures responsiveness of quantity demanded of goods to the change in the income of the consumer.

Ey = % change in the quantity demanded ÷ % change in the income Income elasticity = 1 Proportion of income spent on a goods

remains the same as income increases

Income elasticity > 1 Proportion of income spent on a goods increases as income increases

Income elasticity < 1 Proportion of income spent on a goods decreases as income rises

Positive income elasticity: With increase in income, demand for goods increases & vice versa. It happened for normal goods. Negative income elasticity: With increase in income, demand for good falls & vice versa. It happens for inferior goods, also known as Giffen goods. Zero income elasticity: There is no change in the demand with the change in income. It happens for necessities like salt etc. Cross Elasticity of Demand:

It measures the responsiveness of change in demand of a good to the change in price of other good. Ec = % change in demand of good A ÷ % change in price of good B Positive cross elasticity: Substitute goods have positive cross elasticity. Their curve slopes upwards from left to right. Negative cross elasticity: Complementary goods have negative cross elasticity. Their curve slopes downwards from left to right. Zero cross elasticity: Goods are unrelated.

TutorsCircle.com


Demand distinctions:

1. Producer goods- Intermediate goods used for further production. Consumer goods- Used for final consumption

2. Durable goods- Consumer goods which can be used more than once over a

period of time Non-durable goods- Consumer goods which can be used just once.

3. Derived demand- Demand of these goods is consequence of purchasing

another good. Autonomous demand- Demand of these goods is independent.

4. Industry demand- Total demand of a particular industry

Company demand- Demand by a particular individual company

5. Short run demand- Demand with its immediate reaction to changes in the factors affecting demand Long run demand- Demand with changes after allowing enough time to react.

Wants: Tastes, desires & motives of human beings. Classification of wants:

1. Necessaries: Goods essential for living 2. Comforts: Not essential for living but are required for happy living 3. Luxury: Expensive goods which adds consumers’ efficiency.

Utility: Satisfaction derived from the consumption of a commodity. Total utility (Full Satiety): Sum of utility derived from consumption of different units of commodity. It is sum total of marginal utilities. Marginal utility (Marginal Satiety): Additional utility derived from the consumption of one additional unit of a commodity. MU = TUn– TUn-1 Assumptions of Marginal Utility Analysis:

1. The Cardinal Measurability of Utility- It states that utility is measurable. 2. Constancy of the Marginal Utility of Money- While consumer is spending money

on commodity, the marginal utility of money remains the same. 3. The Hypothesis of Independent Utility- It states that the total utility is just the sum

total of different utilities of goods.

TutorsCircle.com


The Law of Diminishing Marginal Utility “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.” – Marshall In simple words it states that as the more of a thing is consumed, the lesser marginal utility it has. As the consumption of a good is increased the marginal utility starts falling and after the point of saturation it becomes negative. Due to this the total utility also falls

Assumptions of Law:

1. Units consumed should be homogeneous in nature 2. Units consumed should be measured in standard units. 3. Consumption should be continuous i.e. without any time gap. 4. Prestigious goods like gold, cash etc. are exemptions. 5. Presence of related goods affects the shape of utility curve.

Consumer Surplus Consumer surplus as per Marshall-“Excess of the price which a consumer would be willing to pay rather than go without a thing over that which he actually does pay”.

Relationship between Total Utility& Marginal utility: 1. When the total utility rises the marginal utility diminishes. 2. When the total utility is at maximum then the marginal utility is zero. 3. When the total utility is diminishing then the marginal utility is negative.

TutorsCircle.com


Consumer surplus is the difference between what a consumer is willing to pay for one unit of a commodity and what he actually pays for it. Consumer surplus = Value of the product for consumer – price paid by consumer for it Consumer surplus declines as more of a commodity is consumed. This is because of the law of diminishing marginal utility, which suggests that the first unit of a good or service consumed generates much greater utility than the second, which generates greater utility than subsequent units. Consumer Equilibrium: Price = Marginal utility Graphical representation of consumer surplus: The demand curve shows the amount that consumers are willing and able to pay for a good or service. The actual amount paid by them is the market price. As consumer surplus = Amount consumer is willing to pay – Price And demand curve shows the maximum amount consumer will pay for the good. Therefore, it is the area below the demand curve and above the price line.

Limitations:

1. Cannot be measured precisely 2. In case of necessities, marginal utility varies infinitely for different units 3. It is affected by availability of substitutes. 4. Utility of prestigious goods like diamonds cannot be measured appropriately. 5. Consumer surplus assumes that marginal utility of money remains constant, which

is unrealistic. 6. It assumes utility is measurable in monetary terms.

TutorsCircle.com


Indifference Curve The indifference curve represents a set of possible consumption bundles between which the individual is indifferent i.e. the consumer derives equal satisfaction for each bundle. It is also called Iso- utility curve. Assumptions:

1. Consumer is rationale 2. Consumer has complete knowledge 3. Consumer can rank combination of goods according to the satisfaction derived

from them. 4. Consumer has consistent consumption pattern. 5. More is preferred to the less of any commodity.

In the figure below, consumer is indifferent at point A & B i.e. the combination of goods at point A & point B gives consumer equal satisfaction.

TutorsCircle.com


Indifference map: It is a collection of many indifference curves.

Marginal Rate of Substitution (MRS) The rate at which an individual must give up "good A" in order to obtain one more unit of "good B", while keeping their overall utility (satisfaction) constant is the Marginal rate of Substitution. It is calculated between two goods placed on an indifference curve. As such, the marginal rate of substitution is always changing for a given point on the indifference curve, and mathematically represents the slope of the curve at that point.

Properties of Indifference curve

1. It slopes downwards to the right.

2. They are convex to the origin 3. Two indifference curves can never intersect each other.

4. Higher indifference curve represents higher level of satisfaction as compared to a lower indifference curve.

5. It will not touch the axis.

TutorsCircle.com


Budget Line Budget line characterizes on a graph the maximum amounts of goods that the consumer can afford with the given income and prices.

Consumer Equilibrium Consumer is at equilibrium at the point where the budget line touches the highest indifference curve on an indifference map.

The budget line touches indifference curve L2, which is the highest one it touches. Therefore we can say that the optimum consumption point for these two goods would be X1 of good X and Y1 of good Y. Slope of the budget line is Px / Py and the indifference curve slope at any point is MUx / MUy. Therefore, the consumer equilibrium point is the point where (Px / Py) = (MUx / MUy).

TutorsCircle.com


SUPPLY:

Supply is willingness and ability to offer to the market at various prices during a period of time. -It is the quantity that is offered for sale and not what is successfully sold. - It is a flow Determinants of supply

1. Price of good- Direct relation between price & supply. Price of the good increases, quantity supplied increases & vice versa.

2. Price of related goods- If price for other goods increases then supply is shifted to other goods.

3. Price of factors of production-Inverse relation between price of factors of production & supply. Price of factors increases, supply decreases.

4. State of technology- If technology improves, supply increases 5. Government policy- Imposition of taxes – supply decreases

Subsidies- supply increases 6. Other factors like government’s industrial and foreign policies, goals of the firm,

infrastructural facilities, market structure, natural factors etc. also affects supply. Law of Supply

Law of supply states that other things being constant equal, higher the price, the greater is the quantity supplied & vice versa. Law of supply is based on 2 factors:

1. When price rises, firm substitutes the production of goods from one to other 2. Assuming other things remain same, higher prices implies higher profits.

Behaviour of supply depends on:

1. Phenomenon considered 2. Degree of possible adjustment in supply 3. Time

TutorsCircle.com


Shifts in supply curve- Increase or Decrease in Supply Increase in supply- Quantity supplied increases due to change in factors other than price. This shifts the supply curve rightwards. Decrease in supply- Quantity supplied decreases due to change in factors other than price. This shifts the supply curve leftwards.

Movements on the Supply Curve- Increase or Decrease in the Quantity Supplied Expansion-Increase in quantity supplied due to increase in price. This leads to an upward movement along the supply curve. Contractions-Decrease in quantity supplied due to fall in price. This leads to a downward movement along the supply curve.

TutorsCircle.com


Elasticity of Supply Elasticity of supply measures responsiveness of the quantity supplied to the changes in the price. Es = % change in quantity supplied / % change in price = (Change in quantity/ Original quantity) x (Original price/ Change in price)

Degrees of price elasticity:

Perfectly elastic E = ∞ A little change in price causes infinite change in quantity supplied.

Perfectly inelastic E = 0 Quantity supplied doesn’t change with price.

Unit elastic E = 1 Change in quantity supplied is equal to the change in price

Elastic ∞ > E > 1 Proportionate change in quantity supplied is more than change in price

Inelastic 0 < E < 1 Proportionate change in quantity supplied is less than change in price

TutorsCircle.com


Measurement of Elasticity of Supply:

1. Point elasticity: It measures the elasticity at a particular point on the supply curve. Es = (dq/dp) x (p/q)

2. Arc elasticity:

It is used to find elasticity between two points. Elasticity by Arc method = [(q1-q2)/(q1+q2)] x [(p1+p2)/(p1-p2)]

TutorsCircle.com


Equilibrium price: Price at which Quantity Demanded = Quantity Supplied It is also called market clearing price.

TutorsCircle.com


CHAPTER 3 Production Production is the act of creating output, a good or service which has value and contributes to the utility of individuals. It means creation or addition of utility.

“Production is the organized activity of transforming resources into finished products in the form of goods and services; and the objective of production is to satisfy the demand of such transformed resources”. - James Bates and J.R. Parkinson Production process:

1. Change the form of natural resources – Form utility 2. Change the place of the resources to a place where they have greater utility –

Place utility 3. Making materials available when they are required – Time utility 4. Using personal skills

Factors of Production

1. LAND Economic definition - All free gifts of nature which would include besides the land, in common parlance, natural resources, fertility of soil, water, air, natural vegetation etc.

Characteristics: Free gift of nature Supply of land is fixed i.e. it is strictly limited in quantity Land is fixed and cannot be shifted from one place to another Properties of land cannot be destroyed Land yields results only after human efforts

2. LABOUR

In economics labour means expenditure of physical or mental efforts for production of goods & services. Anything done out of love & affection or for pleasure is not a part of economic activity. Characteristics:

Connected with human efforts It is highly perishable Labour cannot be separated from the labourer Labour power & skills differ from labourer to labourer All labours are not productive Labour has poor bargaining power Labourer has to choose between hours of leisure & hours of labour Labour is a mobile factor

TutorsCircle.com


3. CAPITAL It is a part of wealth which is used for further production of wealth. It is also termed as produced means of production as they are already produced goods which are used in production of goods & services. Types of capital:

Fixed capital – Exists in a durable shape and is available for a long period Circulating capital – Available for a single use Real capital – physical goods Human capital – human ability & skills Tangible capital – can be touched Individual capital – personal property Social capital – belongs to society

Capital formation: It is a term used to describe net capital accumulation during an accounting period. Capital formation refers to net additions of capital stock such as equipment, buildings and other intermediate goods. It is also known as investment. Stages of capital formation-

Savings – The ability and willingness to save forms the base of the capital formation. It is more for the higher income group or richer country.

Mobilization of savings – It involves circulating the saved money to facilitate the process of capital formation. It is done through banks & financial institutions.

Investment – It involves converting the real savings into the real capital assets. This is the final stage of capital formation.

4. ENTREPRENEUR

Entrepreneur mobilizes all the factors of production, combines them in right proportion, initiates the process of production & bears the risk involved in it. They are also called organiser, manager or risk taker.

Functions: Initiating a business enterprise and resource co-ordination Risk bearing or uncertainty bearing Introduce innovations

TutorsCircle.com


Production Function “The term production function is applied to the physical relationship between a firm’s input of resources and its output of goods or services per unit of time leaving prices aside” -Richard H. Leftwich Production function states the relationship between inputs and output i.e., the maximum amount of output that can be produced with given quantities of inputs under a given state of technical knowledge. Equation of production function: q = f (a, b, c, d …….n) ‘Q’ = rate of output of given commodity a,b,c,d…….n, are different factors (inputs) and services used per unit of time. Short run production function: Capital remains constant where as other factors vary during short run. It applies law of variable proportion. Q = T (K, L) Long run production function: All factors of production can be varied. It applies law of returns to scale. Assumptions:

It is related to a particular unit of time. The technical knowledge during that period of time remains constant. The factors of production are divisible into most viable units. Best available technique is used.

Total product - Total quantity of output produced with the given quantity on inputs. If one factor is kept constant then total product will vary with the quantity of variable factor. Average product -Output of each unit of variable input employed

AP = Total product / Units of variable input Marginal product- Change in total output due to a one unit change in the variable input.

MP = TPn – TPn-1

TutorsCircle.com


Law of variable proportions or Law of diminishing returns “The law of diminishing return is the marginal product of each unit of input will decline as the amount of that output increases, holding all other inputs constant”- Samuelson If the variable factor of production is increased, there will come a point where extra unit of input become less productive than previous ones. Therefore, these extra inputs will have a lower marginal product. Assumptions:

Technology remains same One input is variable and others are fixed Factors of production can be used in different proportions Only physical inputs & outputs are considered

Relationship between Average Product & Marginal Product

1. Both are derived from total Product 2. When AP rises with the increase in quantity of variable input

then MP>AP 3. When AP is maximum the AP and MP curve intersect AP curve

at its maximum 4. When AP falls with decrease in quantity of variable input then

MP<AP

TutorsCircle.com


STAGES TOTAL PRODUCT MARGINAL

PRODUCT AVERAGE PRODUCT

1ST stage (MP > AP) Law of increasing returns

Initially increases at an increasing rate. Later at diminishing rate

Initially reaches the maximum point & then starts falling.

Increases & reaches its maximum point. Here, AP = MP

2nd stage (MP < AP) Law of diminishing returns

Increases at a diminishing rate & reaches its maximum point

Decreases & become zero at point M

After reaching its maximum point, begins to fall

3rd stage (Beyond H) Law of negative returns

Begins to fall Becomes negative Continues to fall but remains positive

Stage of operation: Inappropriate stages of production-

1. Stage 1 – As MP is negative 2. Stage 2 – Resources are underutilized and AP can be increased by increasing

variable factor

TutorsCircle.com


Efficient stage of production- A rationale produced will produce in Stage 2 where MP & AP are falling. Resources are efficiently utilized. Returns to Scale It studies the production in long run where all factors are variable. It studies the change in output with the change in scale i.e. all the factors are increased (decreased) in same proportion.

1. Constant Returns to Scale – It states that with increase in the scale in some proportion, output increases in same proportion. It is also called “Linear Homogenous Production Function”.

2. Increasing Returns to Scale – It states that with increase in the scale in some proportion, output increases in higher proportion.

3. Decreasing Returns to Scale – It states that with increase in the scale in some proportion, output increases in lower proportion.

Economies & Diseconomies of Scale The Scale of Production Economies of scale are the advantages arising because of large scale production. Economies of scale are experienced till a point after that diseconomies follow i.e. there are increasing returns to scale initially till a point and after that limit firm experiences decreasing returns to scale.

1. Internal economies & diseconomies – These economies or diseconomies are related to a single firm due to its individual operations.

TYPES ECONOMIES

(Reduces cost) DISECONOMIES (Increases cost)

Technical

As production in increased better utilization of capital & machinery is possible. Also there is greater degree of division of labour or specialisation

After the maximum point of efficient utilization of resources further increase will make things unmanageable

Managerial

With increase in scale, application of division of labour to management enables managers to look after their own sections more efficiently

Increase in scale beyond a limit lead to improper coordination & complex structure

TutorsCircle.com


Commercial

Requirement of large amount of materials enables to place bulk orders & enjoy discounts. Sales can be increased with little extra cost

After the optimum scale economies converts into diseconomies

Financial

Finance can be raised easily for large firms as it provides security to financers.

Financial cost increases after optimum scale due to over dependence on external finance

Risk bearing

Large business with diversified & multi- production capabilities have better risk bearing

After a point diversification can increase exposure to economic disturbances

2. External economies & diseconomies

These accrue to firms as a result of expansion in the output of whole industry and not just one firm. External economies-

Cheaper raw materials & capital equipment – Expansion helps in exploring new & cheaper sources of raw material, machinery & other capital equipment.

Technological external economies – New technical knowledge can be discovered which will improve overall productivity of the industry.

Development of skilled labour – Labour becomes for skilled & specialized in their areas of production.

Growth of ancillary industries – Ancillary industries become more specialised & developed and provide raw material, tools & machinery at lower prices.

Better transportation & marketing facilities - Marketing & transportation networks develops with industry expansion & reduces costs.

External diseconomies –

Some factor prices may rise due to increased demand High pollution cost Government policies may restrict expansion in particular area

TutorsCircle.com


Cost Analysis It is the study of the behaviour of in relation to or more production criteria like size of output scale of operations, price of production factors.

1. Accounting costs – Payments made to suppliers of various productive factors. For e.g. wages paid to the workers. These are also called explicit costs & are recorded in the books of accounts.

2. Economic costs– Economic costs = Accounting costs + Implicit costs. It includes - Implicit cost i.e. the normal return on money capital invested by the

entrepreneur himself in his own business. - The wages or salary not paid to the entrepreneur but could have been

earned if the services had been sold somewhere else. Abnormal profits = Revenues – Explicit costs – implicit costs

3. Outlay costs– Includes actual expenditure of funds. For e.g. wages, rent, interest etc. it involves financial expenditure & is recorded in books of accounts.

4. Opportunity cost - Opportunity cost is the sacrifice related to the second best choice available to someone who has picked among several choices. These are not recorded in books of accounts.

5. Direct or traceable cost– These costs can be directly traced to a cost object such as a product or a department. For e.g. cost of woods for a furniture manufacturing firm.

6. Indirect or non-traceable cost - These costs cannot be traced to a specific product or department. For e.g. Rent for the building that houses production unit, warehouse & office.

7. Fixed costs– Fixed costs do not vary with output and remains the same irrespective of the level of output. These cannot be avoided. They are also called inescapable or uncontrollable costs.

8. Variable costs- These costs vary with the level of output. These are a function of output in the production period.

TutorsCircle.com


Cost Function It is the mathematical relationship between cost of a product and factors affecting the cost. C= f(Q, T, Pf, K) C = total cost Q = Output T = Technology Pf = factor price K = Capital Short Run Total Cost Fixed Costs – These costs do not vary with output. Variable Costs – These costs vary with the level of output Semi-variable costs – These costs are neither completely variable nor completely fixed. For e.g. electricity charges. Stair-step variable cost – Remains fixed till a level of output and suddenly increases majorly beyond that limit of output. Fixed factors – Factors of production which cannot be easily varied like building Variable Factors – Factors which can be easily adjusted like workers Short run - Period of time in which output can be increased or decreased by changing only the amount of variable factors. This period is too short to vary fixed factors. Long run – This is the period in which all factors are variable Total costs – it is the sum total of variable cost & fixed costs. TC = TVC + TFC

TutorsCircle.com


Short run average cost Average Fixed costs – Fixed cost per unit of output AFC = TFC / Output It decreases as the output increases but is never zero and is therefore negatively sloping. Average Variable Costs – Variable costs per unit of output AVC = TVC / Output It normally falls as output increases from zero to normal capacity. Beyond normal capacity it increases due to diminishing returns. Therefore, it first falls and reaches its minimum and then starts rising. Average Total Cost – Total cost per unit of output ATC = AFC + AVC or TC / Output Marginal cost – Increase in total cost when one additional unit of output is produced. MC = TCn – TCn-1

It first declines, reaches its minimum & then begins to increase.

In beginning AFC & AVC falls, so ATC falls When AVC rises but AFC falls, ATC continues to fall as AFC > AVC After a point AVC begin to increase and becomes more than AFC & hence ATC rises. Due to this ATC is “U” shaped.

TutorsCircle.com


Long Run Average Cost Curve In long run firm can vary plant size and move to bigger plant to increase output & vice versa. During long run the cost of production is least possible cost at which a given level of output can be produced when all factors are variable. Long run cost curve shows the relation between output & long run cost of production. The minimum point on this curve is called “Minimum Efficient Scale”.

Relation between MC & AC

1. Average costs falls with increase in output, MC < AC

2. AC rises with increase in output, MC > AC 3. AC minimum, MC = AC i.e. MC curve cuts AC

curve at its minimum point.

TutorsCircle.com


In order to derive a long run average cost curve short run average cost curves for different periods are considered and then long run cost curve is drawn as tangent to all these short run average cost curves. It is NOT tangent to them at their minimum points. Long run cost curve is “Planning curve” as firm produces any output in long run by choosing a plant on the long run average cost curve corresponding to the given output. It is also called “Envelope curve” because it envelopes short run average cost curves from below. Reason for “U” shape Initially when firm expands there are economies of scale (increasing returns to scale) & cost falls. Then after the minimum point further expansion leads to diseconomies of scale (decreasing returns to scale) & cost increases.

TutorsCircle.com


CHAPTER 4 Elements of Market (i) Buyers and sellers; (ii) A product or service; (iii) Bargaining for a price; (iv) Knowledge about market conditions; and (v) One price for a product or service at a given time. Classification of Market On basis of area

1. Local markets – perishable goods are traded 2. Regional markets –semi-durable goods are traded 3. National markets –durable goods & industrial items are traded 4. International markets –precious goods are traded

On basis of time

1. Very short period market – perishable goods, fixed supply 2. Short period market – supply can be increased by increasing variable factors 3. Long- period market – supply can be increased by changing fixed factors 4. Very long period or secular period – very long period in which there is

movement in factors like population size, supply of capital & raw material etc. On basis of nature of transactions

1. Spot market – goods are physically transacted on the spot 2. Future market – involves future contracts

On basis of regulation

1. Regulated market - transactions are statutorily regulated 2. Unregulated market – no restrictions

On basis of volume of business

1. Wholesale market – commodities are bought & sold in bulk 2. Retail market – commodities are sold in small quantities

On basis of competitions

1. Perfectly competitive market 2. Imperfect competition

TutorsCircle.com


Types of Market Structure Criteria

Perfect Comp. Monopolistic Oligopoly Monopoly

No. of sellers

Many Many A few One

Nature of product

Homogeneous Differentiated Differentiated Unique

Freedom of entry & exit

Complete freedom

Complete freedom

Barriers to entry Barriers to entry

Price elasticity of demand

Infinite Large Small Small

Degree of price control

None Some Some Very considerable

Total revenue, Average revenue & Marginal revenue Total revenue- Money realised by the sale of commodity TR = P x Q P = Price Q = Quantity of the commodity Average revenue – Revenue per unit & is equal to price of the commodity AR = TR / Q TR = Total revenue Q = Quantity sold Marginal revenue – Increase in revenue due to sale of an extra unit MR = TRn – TRn-1

AR, MR, TR & Elasticity of demand MR = AR [(e – 1) / e] Where, e = elasticity of demand MR = 0, e = 1 MR > 0, e > 1 MR < 0, e < 1

TutorsCircle.com


Behavioural Principles

1. Firm should produce till TR = TC or TR > TC 2. Production should be expanded if MR > MC till MR = MC

Determination of Prices Price is fixed at the point where demand = supply I.e. demand curve intersects supply curve

Changes in Demand

1. Increase in demand- Demand increases – demand curve shift rightwards – price & quantity increases

2. Decrease in demand-

Demand decreases – demand curve shift leftwards – price & quantity falls

TutorsCircle.com


3. Increase in supply Supply increases – supply curve shift rightwards – quantity increases, price decreases

4. Decrease in supply

Supply decreases – supply curve shift leftwards – quantity falls, price rises

Simultaneous changes in demand & supply 1. Equal increase in demand & supply – quantity increases,

price remain same 2. Increase in demand > increase in supply – quantity

increases, price increases 3. Increase in demand < increase in supply – quantity

increases, price decreases 4. Equal decrease in demand & supply – quantity falls, price

remains same 5. Decrease in demand > decrease in supply – quantity

decreases, price decreases 6. Decrease in demand < decrease in supply – quantity

decreases, price increases

TutorsCircle.com


Perfect competition Also called pure competition

1. Large no. of buyers & sellers 2. Homogenous commodity 3. Free entry & exit 4. Perfect market knowledge 5. Buyers & sellers are indifferent 6. Firms are price takers & there is a uniform price Industry equilibrium: Total output = Total demand Firm equilibrium: Price line is the demand curve. Produces where profit is maximum i.e.

- MC = MR - MC curve cuts MR curve from below

Supply curve: MC curve above AVC depicts firm’s supply curve AVC > Price – firm’s supply is zero AVC > Price – firm’s supply at point where MC = Price Breakeven: AVC = Price Normal profits: AR = ATC Super normal profits: AR > ATC Losses: In case of losses firm will try to produce where loss is minimized i.e. where it covers its variable cost & a part of fixed cost. Long run equilibrium of firm: Where, long run marginal cost = Long run average cost = Price At this point Short run average costs = Long run average costs

TutorsCircle.com


Short run marginal costs = Long run marginal costs Long run equilibrium of industry:

1. All firms are in equilibrium, & 2. There is no further entry or exit from market

Monopoly Features:

1. Single seller 2. Strong barriers to entry 3. No close substitutes for the products sold 4. Price discrimination can be adopted 5. Firms are price maker & not price taker

As there is only one seller, the firm’s supply curve is also the market’s supply curve & firm’s demand curve is also the market demand curve. Revenue curves:

1. AR & MR are negatively sloped 2. MR curve lies half-way between the AR curve and the Y axis 3. AR can never be zero but MR can be zero or even negative

Profit maximization or Equilibrium Short run equilibrium:

1. MC = MR, & 2. MC curve cuts MR curve from below

At long run equilibrium industry satisfies following conditions: 1. Output is produced at least possible cost 2. MC = AR = Price 3. MC = AC i.e. there is no wastage 4. AC = AR, firms earn normal profits 5. MC = MR i.e. profits are maximised but are normal.

TutorsCircle.com


Profit: When firm charges price which is more than the equilibrium price of the firm. Losses: Firm will suffer losses if ATC > AR. However, production is continued if firm can cover AVC & a part of fixed cost. Shutdown: Price < AVC Long run equilibrium: Produces at any point where profits are maximum. It need not be the minimum point on LAC curve.

Price discrimination Price discrimination occurs when same commodity is sold at different prices to different buyers by the same producer. It is possible only if following conditions are satisfied-

1. Seller should have some control over supply 2. Market should be divisible into two or more sub markets 3. Price elasticity should be different in different markets –

Price elasticity < 1, charge higher price 4. Buyers should not be able to resell the product at higher price.

Objectives of price discrimination- 1. To earn maximum profit 2. To dispose of surplus stock 3. To enjoy the economies of scale 4. To capture foreign markets 5. To secure equity through pricing

TutorsCircle.com


Degrees of price control-

1. 1st degree – when the fixed price eliminates the entire consumer surplus 2. 2nd degree – price takes away a part of consumer surplus 3. 3rd degree – price vary according to location or customer segment

Equilibrium under price discrimination –

- The discriminating monopolist will maximize his profits by producing the level of output at which marginal cost curve MC intersects the aggregate marginal revenue curve AMR.

- This output will be divided between the sub markets in such a way that the marginal revenues of the markets are equal.

- The MC of the markets should also be equal - Prices will be decided according to the quantity that can be sold in the

different markets. Imperfect competition – Monopolistic market Features:

1. There is a large no. of sellers 2. Products are differentiated on the basis of brands 3. Firms are free to enter or exit 4. Non- price competition exist i.e. seller compete on basis of factors other than

price. 5. Demand is not perfectly elastic 6. Firms are price makers

Equilibrium of firm Conditions to be satisfied

1. MC = MR 2. MC cuts MR curve from below

Firms earn super normal profits during short run. During long run, due to entry of new firms, firm earns only normal profits.

TutorsCircle.com


Loss: If AC > Price then firm suffer loss. Firms which suffer losses during short run will exit till the remaining firms earn just normal profits. During long run, firms have excess capacity at equilibrium but the output will not be increased as it will reduce the AR more than it will reduce the AC. Oligopoly Features:

1. Few sellers 2. Homogeneous or differentiated products

Types:

1. Open oligopoly – free entry in market 2. Closed oligopoly – entry is restricted 3. Collusive oligopoly – firms act in collusion with each other i.e. on basis of

understanding 4. Competitive oligopoly – there is no understanding & firms compete with each

other 5. Partial oligopoly - one large firm dominate the market 6. Full oligopoly – there is no leadership 7. Syndicated oligopoly – products are sold through centralised syndicate 8. Organized oligopoly – firms organise themselves into central association

Characteristics:

1. Firms’ policies are interdependent on each other 2. Major advertising & selling cost exist 3. As firms are interdependent there exist group behaviour i.e. firms act as a group 4. They compete on terms other than price i.e. there is a non- price competition

TutorsCircle.com


Price & output decisions: Change in price by any firm will result in reaction by other firms by changing prices. Due to this the demand curve keep shifting & there is no specific demand curve, price or output

Kinked demand curve It is known as “Sweezy’s model” as it is proposed by economist Paul M. Sweezy. Kinked demand curve explains the price stickiness or rigidity in an oligopoly market. According to the kinked-demand theory, each firm will face two market demand curves for its product. At high prices, the firm faces the relatively elastic market demand curve. At low prices, the firm faces the relatively inelastic market demand curve.

TutorsCircle.com


CHAPTER 5

Features of Underdeveloped economy 1. Agriculture is the main occupation 2. Wide spread poverty 3. High rate of population growth 4. Low standard of living 5. Low productivity of labour 6. Backward production techniques 7. High unemployment & underemployment 8. Low level of human well being 9. Widespread income inequalities 10. Low rate of capital formation 11. Low participation in foreign trade 12. Traditional social life 13. Weak infrastructure

India’s case:

1. Agriculture main occupation- population involved at the time of independence 72% and currently nearly 50%

2. 1/3rd of world’s poor live in India. Population in India below poverty line – 1993-94 – 36% 1999-2000 – 26% 2004-05 – 22%

3. High population growth rate of 2% 4. The dependency rate i.e. percentage of people in non-working age group is

nearly 40% 5. Low per capita income - $1410 (2011) 6. Low gross capital formation –

Gross domestic savings: - 1990-91 – 23% - 2010-11 – 32.3% Domestic capital formation: - 1990-91 – 26% - 2010-11 – 35.1%

7. Backward techniques of production 8. High unemployment& underemployment – Currently 6.6%

- 1999-2000: 7.31% - 2004-05: 8.2%

TutorsCircle.com


9. Low level of human well-being – Measured by Human Development Index (HDI) on the basis of longevity, knowledge and standard of living. 2000 – 0.44 2010 – 0.519 2011 – 0.547 Relative global ranking (2010) – 119 among 169 countries Ranking in 2011 – 134 out of 187 countries

10. Highly unequal income distribution –

Income inequalities are measured by GINI index: - Zero index – perfect equality - One index – perfect inequality As per HDI, India’s GINI index 1994 – 0.297 2000-10 – 0.368

India – A developing country

1. National income (NNP at factor cost) has increased fromRs.2,20,000 crore (1950-51) Rs.42,60,000crore (2010-11).

2. Per capita income has increased 5 times from Rs.6,122 (1950-51) to Rs.35,917 (2010-11)

3. There are significant changes in the occupational distribution of people Occupation 1951 (%) 2009-10 (%) Primary sector 72.1 49.3 Secondary sector 10.6 21.9 Tertiary sector 17.3 28.8 Total 100 100

4. Sectoral distribution of domestic product has changed i.e. the share of agricultural sector in GDP has reduced. 1950-51 (%) 2011-12 (%) Agriculture 53.1 13.9 Industry 16.6 27.0 Service 30.3 59.0

5. There is a growth in the capital base of the economy 6. Social overhead capital has improved i.e. transport facilities, irrigation facilities,

energy, education system, health and medical facilities. - Asia’s largest & world’s second largest rail network - World’s 2nd largest road network - Increase in installed capacity

TutorsCircle.com


- Increase in area under irrigation from 22.6 million hectares (1950-51) to 87.2 million-hectares (2007-08)

- Increase in literacy rate from 18.33% (1951) to 74% (2011). - Improvement in medical field. No. of doctors has increased by more than 12

times & bed population ratio has increased to 1.03 per 1000 7. Development in banking & financial sector

India – A Mixed Economy

1. Private ownership of most of the sectors 2. Market forces freely determine prices. Government regulations have reduced. 3. Growth of monopoly houses 4. Development of public sector 5. Economic planning is an integrated part of Indian economy

Agriculture Contribution Detail

1. Provide employment 50% of population (2010-11) is engaged in agriculture sector

2. Share in National Income It contributes 12.3% of GDP (2010-11) & 13.9% of national income (2011-12)

3. Support industries Provide inputs for many industries. Demand of industrial products depends on income of farmers.

4. Share in foreign trade Agricultural exports forms 10% of national exports (2010-11) Agricultural imports constitute 3% of national imports (2010-11)

5. Supplier of food & fodder It meets food needs of people & fodder needs of livestock.

6. Savings of capital It requires lesser capital per unit of output produced compared with the industries.

7. Contribution to government’s revenue

Indirectly influences revenues of state & central government.

8. Solving problems of urban congestion and brain drain

Progress in agricultural sector helps in solving the problem of migration from rural areas to urban areas

Growth of agriculture sector:

1. Increase in production – - Agricultural production has increased by more than 3 times in last 6 decades. - Food grains production increased from 51 million tonnes (1950-51) to 245

million tonnes (2010-11) - Green revolution –

TutorsCircle.com


Also called wheat revolution or High Yielding Varieties Programmes (HYVP)

Programme started in 1966 Significant breakthrough in production of food grains from 81 million

tonnes to 245 million tonnes in 2010-11 Restricted to 5 crops i.e. wheat, bajra, jowar, maize & rice Wheat production increased from 827kg per hectares (1965-67) to

2938kg per hectare in 2010-11.

2. Increase in productivity – - Productivity increased at a rate of around 2.06% per annum during 1967-2003 - Productivity of food grains increased from 2.74% (1980-1990) to 2.91% (2000-

12)

3. Diversified agriculture – - Share of non-crop sectors in agricultural output is increasing. - Area under commercial crops & superior cereals is increasing

4. Modern agriculture –

- Increased use of high yielding varieties of seeds, fertilizers, pesticides etc. - Use of intensive cultivation, multiple cropping, scientific water management is

increasing - Adoption of modern techniques by farmers which is resulting in improved

agricultural capacity. - Better marketing of agricultural products

5. Improved agrarian system –

- Abolition of zamindari system, the ryotwari system and the mahalwari system & of exploitation of cultivators

- Introduction of tenancy reforms – Rents were fixed between 25-50% for different states Legislations disallowing the ejectments of tenants were passed Ceilings were imposed on agricultural holdings 2.18 million hectares of land has been distributed as surplus area

- Land holdings were reorganised

6. Other developments – - Inputs are provided at subsidised rates - Provision of credit at low interest rate - Minimum wage level is fixed - Government’s support in marketing & selling - Special programmes to provide employment to rural people - Special schemes passed to support production of various product

TutorsCircle.com


Problems of agriculture sector Problems

Details

Slow & uneven growth

1. Targeted growth rate is not met 2. Certain crops have higher growth rate than others 3. Low yield per unit area 4. Regional imbalances

Backward techniques

1. Only 44% of the gross cropped area is covered by HYVP

2. Old methods are used 3. 60% of net sown area in rain fed 4. 40 per cent of the gross cropped area has irrigation

facilities

Flaws in land reforms

1. All states are not covered 2. There are snags in legislation

Finance related problems

Steps: 1. 14 banks were nationalised in 1969 & 6 in 1980 2. Regional Rural Banks (RRBs) were set up in 1975 3. National Bank for Agriculture and Rural Development

(NABARD) was set up in 1982 as apex bank 4. Kisan Credit Card scheme was started in 1998 5. Agricultural Debt Waiver and Debt Relief Scheme in

2008 6. Rehabilitation package was initiated

Problems: 1. Loans concentrated to limited regions 2. Nearly 40% of amount financed does not come back

to the society 3. Large & medium farmers enjoyed major benefits 4. Lack of proper staff in financial institutions

Warehousing & marketing problems

1. Improper storage facilities 2. Lack of organization among farmers 3. Existence of agents between farmers & buyers who

charge heave fees 4. Produces have to be sold in nearby markets at low

prices due to improper transport facilities 5. Existence of several malpractices 6. Improper knowledge of market 7. Low level grading & standardization

TutorsCircle.com


Warehousing & marketing problems

Steps for improvement: 1. Agricultural Produce Market Committee (APMC) Act

has been amended 2. Initiatives have been taken to transfer agricultural

technologies and information to the farming sector 3. National Policy for Farmers, 2007 is being adopted

providing many facilities to farmers 4. Schemes insuring the farmers against crop loss are

introduced Agriculture under XI Plan Targeted growth – 4% (double of X year plan’s growth rate) Urgent requirement of 2nd Green Revolution Industry Role of Industry

1. Modernises & improves agricultural productivity 2. Generate employment opportunities. Currently employs 22% of labour force

(2009-10) 3. Share in GDP increased from 12% (1950-51) to 27% (2011-12) 4. Contributes to more than 2/3rd of export earnings. 5. Industrial development increases GNP per capita 6. Industrialization enhances self-sustaining economic growth 7. Industries helps in meeting high-income demands 8. It strengthens the economy

- Produce capital goods at low cost - Helps in production of economic infrastructure - Supports agricultural sector - Makes country self-reliant in defence materials

Growth of Industrial Sector in India

1. Industries on basis of size: - Large industries - Medium industries - Small industries

2. On basis of end use: - Basic good industries - Capital goods industries - Intermediates goods - Consumer goods

Annual average rate - 6.9 % per annum

TutorsCircle.com


Pattern of Industrial Development 1. It is lopsided i.e. dominated by large or small industries 2. Low capital employed per worker 3. More focus on consumer goods 4. Steady growth of 8% during 1951-65 5. Growth fell down to 4.1% during 1965-80 6. Growth rate was 7.8% during 1980-91 7. Annual growth rate of production 1990-91 to 1999-2000: 5.7% 8. X Plan (2002-2007) –

- Aim- 10% growth rate - Actual- Average growth rate of 8.7% p.a.

9. The Eleventh Plan aims at 8.5 per cent per annum growth in the GDP

Important points

1. Based on Mahalanobis model, during 2nd plan, focus was shifted on basic & capital goods & Three Steel Plants were set up in the public sector at Bhilai, Rourkela and Durgapur. 1st 5 year plan in India started in 1951.

2. Industrial sector has become broad-based and modernised 3. Massive increase in the size and diversification of public sector from 5

units (1951) to 242 units (2008) 4. Emergence of many big industries in Private Sector from 2 units (1951)

to 80 in present 5. Major expansion of infrastructural facilities

- Emergence of public financial institutions - Improvement power generation, railway transport facilities,

telecommunications etc. 6. India ranks high in the world in respect of technological talent and

manpower and in development of information and communication etc.

7. Since 1951 there has been the mammoth growth of small-scale industrial units. They employ nearly 312 lakh people.

8. Classification of industries as per Micro, Small and Medium Enterprises Development (MSMED) Act, 2006

In Manufacturing Sector- - Investment up to Rs.25 lakh - micro enterprises - Investment between Rs.25 lakh and Rs.5 crore – small enterprises - Investment between Rs.5 crore and Rs.10 crore – medium

enterprises In Service Sector

- Investment up to Rs.10 lakh - micro units - Investment between Rs.10 lakh and Rs. 2 crore - small enterprises - Investment between Rs. 2 crore and Rs.5 crore - medium

enterprises

TutorsCircle.com


Reasons behind deceleration and retrogression during 1965-80 (a) Unsatisfactory performance of agriculture. (b) Slackening of real investment especially in public sector. (c) Slow-down in import substitution. (d) Regulation and control over private sector (e) Narrow market for industrial goods Problems of Industrial Development in India

1. Failure to achieve targets 2. Underutilization of capacity 3. Absence of world class infrastructure 4. Increase in capital – output ratio 5. Cost of production in India is higher as compared to international market 6. Inadequate employment generation in relation to investment made 7. Performance of public sector is quite poor 8. Sectoral imbalances 9. Regional imbalances 10. Industrial sickness – Around 96% of sick units are small units and 4% are big units.

Services Service sector includes:

1. Business & professional services 2. Communication services 3. Real estate & related services 4. Distributive services 5. Education services 6. Energy & environmental services 7. Financial services 8. Health services 9. Tourism 10. Transport

Role of Service Sector in India 1. Increase in GDP –

1950-51 – 1/3rd of GDP 2011-12 – 59% of GDP

2. Provide employment –

1951 – 17.3% of work force

TutorsCircle.com


2009-10 – 29%

3. Providing support to other sectors – Support agriculture & industries 4. Contribution to exports –

- Services accounted for about one third of total exports in India (2010-11) - In 2006, India's share in world's total commercial services export was 2.7% - There is a growth of 20% in India’s service exports (2004-11)

Growth of service sector during planning period

1. 7.54% per annum in the Eighth Plan 2. 8.1 per cent per annum in the Ninth Plan 3. 9% p.a. during Tenth plan 4. Eleventh plan – Aim: 9.4% - Actual growth till now: 10% 5. Transport, storage and communication are fastest growing – Avg. growth 15.3%

per annum during the Tenth plans. 6. Tourism – 6.7% p.a. during 2009-10 7. Financial – 9.2% during 2009-10 8. Community & social services – 12% during 2009-10 9. Third largest scientific and technical manpower in the world

Reasons for service sector growth

1. Income elasticity of demand for services is greater than one 2. Outsourcing has become more efficient 3. It has become possible to deliver services over long distances at a reasonable

cost 4. Economic reforms worked in favour of service sector

Problems of service sector

1. Inadequate infrastructure facilities 2. High contribution in GDP but low in providing employment 3. Inadequate financial structure 4. Inappropriate behaviour 5. Inappropriate maintenance

NATIONAL INCOME National income is the money value of all the final goods and services produced by a country during a period of one year.

Basic Concepts 1. Gross Domestic Product (GDP):Goods & services produced within the

domestic territory of a country during an accounting year

TutorsCircle.com


2. GDP at Constant Prices & Current Prices: - Current prices - estimated on the basis of the prevailing prices - Constant prices - measured on the basis of some fixed prices i.e. some base

year prices

3. GDP at Factor Cost & at Market Price: - At factor cost - estimated as the sum of net value added by the different

producing units and the consumption of fixed capital. - At market price – at price paid by consumers. - GDPF.C = GDPM.P - IT + S.

IT = Indirect Tax S = Subsidies

4. Net Domestic Product: GDP – depreciation

5. Gross National Product (GNP):GDP + Net Factor Income from Abroad (NFIA)

NFIA = Difference between income received from abroad & income paid to non-residents within domestic territory.

6. Net National Product (NNP):GNP – Depreciation

NNP = NDP + NFIA

7. NNP at Factor Cost or National Income: Volume of commodities and services produced during an accounting year, counted without duplication. NNP at FC = National Income = FID + NFIA FID = factor income earned in the domestic territory of a country

8. Personal Income: Sum of all incomes actually received by individuals during a

given year PI = National income - social security contribution - corporate income taxes - undistributed corporate profits + personal payments

9. Personal Disposable Income: Personal income – personal taxes

Or Consumption + Saving

Methods of measuring National Income

1. Value Added Method or Product Method: GDP at market price = value of output in an economy in the particular year - intermediate consumption NNP at factor cost = GDP at market price - depreciation + NFIA - net indirect taxes

TutorsCircle.com


Care to be taken – - Sale of second hand items is to be excluded - Non-monetary activities excluded - Production for self-consumption included - Commission of dealer of 2nd hand goods included

2. Income Method:

Factor income of all the factors of production is added. NI = Compensation of employees + Net interest + Rental & royalty income + Profit Care to be taken – - Income of primary factors only is to be included - Transfer incomes excluded - Labour income included - Non-labour income excluded - Illegal incomes, windfall incomes, death duties etc. excluded - Sale proceeds of 2nd hand goods excluded - Income of self-employed included Note: - If NI is calculated from data regarding incomes paid out by producers then

add NFIA - If NI is calculated from incomes received by people then NFIA is not added

3. Expenditure Method:

It focuses on finding the total output of a nation by finding the total amount of money spent. NI = Expenditure on final goods & services + Net foreign investment

Items Included Items Excluded

1.Fees paid to educational institutions by students (payment for a service received)

1.Expenditure on the repair of fixed capital asset (intermediate consumption)

2.Expenditure on electricity by a household (final consumption).

2.Expenditure on electricity by some enterprise (intermediate expenditure).

3.Expenditure on final goods and services.

3.Expenditure on transfer payments like scholarship, etc.

4.Expenses of foreign visitors in India (it is a part of net exports).

4.Expenditure on a purchase of an old house.

5.Expenditure on street lighting (it is final consumption expenditure by the government).

5.Expenditure incurred by way of grants during natural calamities, e.g. earthquake, floods, etc. (it is a transfer payment).

TutorsCircle.com


Gross national expenditure = Consumption expenditure + net domestic investment + net foreign investment + replacement expenditure (i.e., expenditure on replacement investment). Net national expenditure= Consumption expenditure + net domestic investment + net foreign investment. Net domestic expenditure= Consumption expenditure + net domestic investment. Important Points:

1. All measures of NI should give same result 2. Methods used by different sectors:

- Agricultural sector – Net value added - Small scale sector & service sector – Income method - Construction sector – Expenditure method

3. Developed economies – use income method Problems in calculation NI (1) Presence of a large non-monetized sector (2) Lack of appropriate and reliable data (3) Problem of double counting (4) Problem of transfer payments (5) Difficulties in classification of working population (6) Unreported illegal income Trend in India’s National Income Growth & Structure

1. Trends in NNP: 1950-51 to 1980-81 - growth in GDP was 3.2% 1980-81 to 2009-10 - growth in GDP was 6.6% 2009-10 to 2010-11 – growth in GDP was 8.4%

Growth rate on real NI – 4.9% (1950-51 to 2009-10) Per capita income growth rate – 3% p.a. in last 60 years

TAX SYSTEM IN INDIA

- Direct tax: Taxes which are not shifted. Income tax & Wealth tax are

examples of Direct taxes - Indirect tax: The burden is shifted through a change in price. For e.g. sales

tax, custom duty, excise duty etc.

TutorsCircle.com


Merits of Direct Taxes: Demerits of Direct Taxes:

Imposed according to person’s ability to pay Ability to pay cannot be determined appropriately

Revenue is income elastic Actual payment depends on honesty of tax payer

Create better civic consciousness Require proper maintenance of accounts Helps in transferring the income from rich to poor Cumbersome assessment procedure

Merits of Indirect Taxes: Demerits of Indirect taxes: Convenient to assess Criticised regressive character Consumer doesn’t feel much burdened May not create social consciousness

Difficult to evade Government is uncertain about proceeds of these taxes

May not be regressive if levied on ad valorem basis Burden can be shifted forward or backward Indirect taxes on drinks, narcotics and tobacco discourage their consumption

Can be evaded by methods like smuggling, falsification of accounts etc.

Direct taxes in India

1. Income tax – - Introduced in 1860, discontinued in 1873, reintroduced in 1886. - Important types - Personal income tax and Corporate income tax - Personal income tax - levied on individuals, Hindu Undivided Families,

unregistered firms and other association of people - Corporate tax – Charged on registered companies & corporations - Income tax is Progressive in nature i.e. tax rate increases with income - Corporates are taxed at flat rate

2. Taxes on Wealth and Capital-

- Estate duty, annual tax on wealth and gift tax - Estate duty was first introduced in 1953 - Wealth tax was introduced in 1957 - Gift tax was first introduced in 1958 & was abolished in 1998 & was

reintroduced in April 2005 - Tax on agricultural land and funds in Provident Account were exempt

Indirect Taxes in India

1. Custom Duties- - Levied on exports and imports - Before tax reform periods, India has highest custom duties tariffs - Custom duty on non-agricultural products – 10% (2007-08)

TutorsCircle.com


2. Excise Duties-

- Levied on production - No connection with actual sale - Modified Value Added Tax (MODVAT) introduced in 1986-87 to remove

cascading problem - Under MODVAT a manufacturer got full reimbursement of excise duty paid on

the raw materials or components - Central Value-Added Tax (CENVAT) was introduced in 2000-01 which

consisted of only one basic excise duty.

3. Sales tax- - Charged on the sale or purchase of a particular commodity within the

country - It is more in the case of luxury items and less or almost nil in the case of

necessities - Sales tax was in two forms – state sales tax and central sales tax, which is

replaced by Value Added Tax (VAT)

4. Value Added Tax (VAT)- - Multistage sales tax with credit for taxes paid on business purchases - Introduced in 1999 - Implemented in April 2005 (only in some states) - At present, implemented in all states/ union territories.

5. Service Tax –

- Imposed on specified services - Introduced in 1994-95 - Covers more than 120 services - Current rate – 10%

Features of Indian Tax Structure

1. Tax revenues form about 16% (2010-11)of the total national income 2. Tax revenue is more than Rs.11,60,000crore (2010-11) 3. During 2009-10, the share of direct taxes in the gross tax revenue was 41% while

that of indirect taxes was 59% 4. Indian tax structure relies on a very narrow population base. 5. Insufficient tax revenue to meet the requirements of economy 6. Direct taxes are progressive & indirect taxes are differential in nature 7. Agricultural income is tax exempt

Evaluation of Indian Tax System

1. Current share of direct taxes in GDP/ GNP – 7% (2010-11) 2. Tax system majorly depends on urban income 3. Tax structure is modified time to time 4. Simplification of tax system has been attempted

TutorsCircle.com


5. Cost of tax collection - more than Rs.6,500 crore (2010-11) 6. High evasion and tax avoidance

TutorsCircle.com


CHAPTER 6 Population All the inhabitants of a particular town, area, or country Or Total no. of people residing in a place

Population growth as an asset: Population growth as a burden: Provide work force Lead to increased unemployment Provides market for produced goods Pressure on social overheads Promote innovations Pressure on means of subsistence Promote labor specialization Slow capital formation Increase dependency

Demographic Trends in India

1. Size of population: - In 1901 was 23.84 crores - In 2010 was more than 117crores - In 2011 more than 121.02 crore - In population size, India ranks second in the world after China - Every sixth person in the world is an Indian

2. Rate of growth:

- 1901-11, the population growth rate 5.74% per decade & 0.56% per annum - 1991-2001, the growth rate was 1.97% per annum. - 2001-2011: 1.64% p.a. - 1921 – Year of Great Divide

3. Birth rate & Death rate:

- Death rate – 1951- 27.4 2010 – 7.2

- Birth rate – 1951- 39.9 2010- 22.1

- Lowest birth rate – Kerala - Highest birth rate – Uttar Pradesh - Lowest death rate – West Bengal - Highest death rate – Orissa

TutorsCircle.com


4. Density of Population: - Number of persons per square kilometre - In 1951: 117 - In 2001: 325 - In 2011: 382 - It is not same for all states - Most densely populated state: Bihar (1102 ) - 2nd most densely populated state: West Bengal (880) - Considering all states & union territories:

Most densely populated – Delhi with density 11297 2nd – Chandigarh with density 9252

5. Sex Ratio:

- Number of females per 1000 males - Highly favourable to males than females - Sex ratio in 1991: 927 - Sex ratio in 2001: 933 - Sex ratio in 2011: 940 - Sex ratio is favourable to males in all the States except Kerala: 1084 (2001) - Haryana has the lowest female sex ratio of 877 (2011)

6. Life expectancy at birth:

- Expectation of life at birth - 1901-11: 23 years - 2011: 63.5 years - Kerala has highest life expectancy: 71.4 years (2006) - Madhya Pradesh has lowest life expectancy: 58 years (2006)

7. Literacy ratio:

- Number of literates as a percentage of total population - 1951:

Males: 27.2% Females: 8.9% Total: 18.3%

- 2011: Males: 82.1% Females: 65.5% Total: 74%

- Highest literacy: Kerala – 92% - Lowest literacy: Bihar –53%

TutorsCircle.com


Causes of rapid growth of population

Growth of population in India & its effects on Economic Development Theory of Demographic Transition: 3 stages – 1st stage: High birth & death rate & stable population. 2nd stage: Stage of population explosion - Minor fall in birth rate & major fall in death rate. 3rd stage: Low birth & death rate & moderate population growth India is passing through 2nd stage i.e. Population explosion Effects of Growth in Population

1. Growth in national income: Due to high growth rate of population the increase in per capita income is low as compared to National income

2. Food supply: As compared to increasing demand for food, per capita availability of food grains is insufficient.

3. Unproductive consumers: High ratio of children and old persons - Higher burden of unproductive consumers on the total population

4. Problem of unemployment: Increase in labour force is more than the increase in employment opportunities

5. Capital Formation: Huge capital formation in needed to maintain the standard of living of this large population.

6. Ecological degradation: Ecological imbalance is caused

Government Measures for Solving Population Problem

1. Increased emphasis on family planning for which Family Planning Department was established in 1966.

2. Marriageable age was increased under National Population Policy

High Birth Rate: Fall in Death Rate: India being agrarian economy considers children as assets Reduction in famines Small urbanization Control of some diseases High incidence of poverty Spread of education Marriages are almost compulsory Improved medical facilities Most Indians want more children Improved food & water supply etc. Lack of education Joint family system encourages big families

TutorsCircle.com


3. Spread of education 4. Provision of Old age pension & Social security 5. Reduction in infant mortality through improved medical facilities 6. Introduction of incentives for people with small families 7. Encouragement of urbanization

Tenth Plan Targets

1. Reduction in Infant Mortality Rate to 1 per 1000 live births by 2012 2. Reduction in decadal growth rate of the population between 2001-2011 to 16.2%

Population Census 2011 (Provisional)

1. India’s population as on March 1st 2011 was 1,210.2 million. 2. The male population is 623.7 million 3. Female population is 586.5 million 4. The density of population is 382 in 2011 5. Sex ratio now is 940 6. Literacy rate has increased to 74%

POVERTY Absolute Poverty:

- Level of poverty as defined in terms of the minimal requirements necessary to afford minimal standards of food, clothing, health care and shelter.

- More relevant for less developed countries - Measured in terms of income/ consumption expenditure

Relative Poverty:

- A measure of relative poverty defines "poverty" as being below some relative poverty threshold.

- More relevant of developed countries Poverty in India

1. Use concept of absolute poverty 2. “Expert Group” poverty lines are used in India which defines separate poverty

line for rural & urban thresholds. 3. Poverty ratio as per URP data 2004-05:

- Rural: 28.3 - Urban: 25.7 - Total: 27.5

4. Poverty ratio as per MRP data 2004-05: - Rural: 21.8 - Urban: 21.7 - Total: 21.8

5. Per capita consumption expenditure reduced to 60.5 of population in 2004-05. 6. India has a poverty index of 0.296 with a rank of 119 (among 169) countries

TutorsCircle.com


Causes of Poverty Economic causes: Political & Social causes: Other causes: Rapidly growing population Improper policies Large family sizes

Agriculture is main occupation Discrimination on basis of caste & religion Poor education

Low productivity Bonded labour Underdeveloped economy Income inequalities Large level of unemployment Inflation

Government Measures to Reduce Poverty

1. Pradhan Mantri Gram SadakYojana (PMGSY): - Launched in December 2000 - Aimed to improve road connectivity

2. Indira AwasYojana (IAY):

- Launched in 1985 - Aimed to provide assistance for construction of houses

3. SwaranJayanti Gram SwarozgarYojana (SGSY):

- Introduced in April,1999 - Self – employment programme for rural poor

4. Sampoorna Grameen Rojgar Yojana (SGRY):

- Launched in 2001 - Aims at

Providing wage employment in rural areas Food security Creation of durable community, social and economic assets.

5. The Mahatma Gandhi National Rural Employment Guarantee Scheme

(MGNREGS): - Notified in 2006 & extended to whole country in 2008 - Aimed at enhancing livelihood security of households in rural areas of the

country by providing at least 100 days of guaranteed wage employment

6. The Swarna Jayanti Shahkari Rozgar Yojana (SJSRY): - Came into operation from December, 1997 - Aims to provide gainful employment to the urban unemployed or

underemployed UNEMPLOYMENT

TutorsCircle.com


Types of Unemployment:

1. Voluntary: People who are willingly unemployed

2. Frictional: Temporary unemployment due to change of jobs, strikes or lockouts

3. Casual: Occurs due to short term contracts

4. Seasonal: Occurs in seasonal industries as people remain unemployed during off-season

5. Structural: Occurs due to structural changes in the economy

6. Technological: Occurs due to introduction of new machinery

7. Cyclical: Temporary unemployment occurring due to change in the trade cycle

8. Chronic: Long term unemployment

9. Disguised: Underemployment of labour where more than required people are employed for same job

Nature of Unemployment in India Indian economy basically suffers from problem of Structural unemployment Rural unemployment –

- Chronic, Seasonal & Disguised Urban unemployment –

- Industrial unemployment - Educated unemployment - Technological unemployment

Over one-third of India’s work force is disguisedly unemployed. Causes of Unemployment in India

1. Growth without adequate employment opportunities 2. High population growth rate

TutorsCircle.com


3. Inappropriate technology 4. Inappropriate education system 5. Large scale rural-urban migration

Extent of Unemployment in India

- At the beginning of FYP-1 : 3.3 million - At the beginning of FYP-9 : 34-35 million - 47 million people were provided employment during 2000-2005 - Unemployment rate 2011: 10%

Labour force: Total no. of people employed or seeking employment. Work force: Part of labour force that is employed Unemployed rate: Number of persons unemployed per thousand persons in the labour-force Measurement of Unemployment:

1. Usual Status (US): Estimates the no. of people to are chronically unemployed 2. Current Weekly Status (CWS): Person is said to be unemployed even if he is

unemployed only for a day during the analysed week 3. Current Daily Status (CDS): Anyone who works for an hour or more during the day

is considered to be employed for half day. (6.6% during 2009-10)

(Number of persons per thousand of population 2009-10) WPR PU LFPR PU/ LFPR x 100 US 392 8 400 2.0% CWS 370 14 384 3.6% CDS 341 24 365 6.6% WPR = Work Force Participation Rate PU = Persons Unemployed LFPR = Labour Force Participation Rate UR = Unemployed rate = Unemployed people / Labour force LFPR = WPR + UR Demographic Dividend: Properly utilised big labour force is “Demographic Dividend” Eleventh planned aimed at utilizing demographic dividend I

TutorsCircle.com


NFRATRUCTURAL CHALLENGES ENERGY

- Economic growth is positively correlated with demand for energy - India is world’s 5th largest energy producer - India accounts for 4% of world’s total energy production - India is world’s 3rd largest energy consumer - India accounts for 6% of world’s total energy consumption - 23% of energy in India is obtained from traditional sources - Use of electricity

Industry: 37% Domestic: 25% Agriculture: 21% Commercial establishment: 10%

Electricity

- Installed power generating capacity 1950-51: 2300MW - Installed power generating capacity 2011-12: 2,06,000MW - Sources of electricity:

Water (Hydro-electricity) Coal, oil and gas (Thermal electricity) Radio-active elements (Atomic energy)

- Capacity: Thermal- 66% Hydro- 19% Renewable sources (wind, bio-gas etc.)- 12%

- Contribution to power generation: Thermal + Non-conventional source- 74% Hydel- 12% Nuclear- 2% Others- 12%

- Central government operates through National Thermal Power Corporation (NTPC) National Hydroelectric Power Corporation (NHPC) Nuclear Power Corporation of India Ltd. (NPCIL)

- State government operates through State Electricity Boards (SEBs) Central Electricity Authority Central Electric Regulatory Commission

Difficulties & problems related to energy-

- Demand for commercial energy has increased more than the supply. - Increase in oil prices has led to rising general prices in India - India’s oil import bills has increased from Rs.1100 crore (1973-74) to Rs.4,80,000

crore (2010-11) - High transmission and distribution losses - Many SEBs have been declared sick

TutorsCircle.com


- High operational inefficiency of thermal plants - Rural areas are yet to be electrified

Steps taken to solve the problems

- To improve production, Electricity Act was passed in 2003 and amended in 2007

- To improve power generation, ‘Partnership in excellence’ programme has been launched by Ministry of Power

- Electricity- generating capacity is being improved - Use of hydel & wind energy sources is encouraged - Steps have been taken to improve SEBs - Accelerated Power Development and Reforms Programme (APDRP) was

initiated in 2002-03 to overcome distribution problems - Private sector in encourages to invest in power - In order to even out supply-demand mismatches, All India Power Grid has

been developed - 9 sites were identified for the development of Ultra-Mega Power Plants

(UMPPs) - Schemes have been launched to electrify all areas including villages - Energy conservation is encouraged

TRANSPORTATION Railways

- Asia’s largest and world’s second largest rail network - Freight railways accounts for 70% of railway revenues - Passenger railways accounts for 30% of railway revenues - Total route length – 64,000 km - Problems faced:

Old technology Inadequate network as per economy’s requirement Financial crunch Suffer heavy losses because of social responsibilities Over crowding Low safety measures

- Steps taken for improvement: Better resource management Rational price policy Increased wagon load Faster turnaround time Public-Private Partnerships Double line freight corridor

TutorsCircle.com


Roads - Second largest network in the world - 4.2 million km of total road length out of which almost 50% is surfaced - National highways encompass a road length of 66,800 kms and carry more

than 40% of traffic - Rural areas have 65 per cent all weather roads. - Roads, in India, carry nearly 60% of freight and 87% of passenger traffic. - Problems:

Inadequate road length compared to the country size Some areas not yet linked with roads Large percentage of rural roads are mud roads Poorly maintained urban roads Most of the State Road Transport Corporations are running on heavy

losses - Steps taken:

National Highways Development Project (NHDP) has been taken up Public Private Partnership (PPP) in roads developments Taxes have been rationalised

Water Transport

- Water transport: Inland water transport & Shipping - Shipping: Coastal shipping and overseas shipping - 14500 km of navigable waterways - 50 million tonnes of cargo is being annually moved by inland water transport - 5 waterways have been declared as National Waterways (NWs). - Eleventh plan aims: making existing waterways fully operational & adding 3

more NWs - India has a long coastline of 7,517 kms - India has 12 major ports and 200 minor ports - The Gross Tonnage (GT) increased from 0.31 million in 1961 to 1.02 million in

2011 - Reasons for poor growth of coastal shipping:

high transportation costs port delays over-aged vessels lack of mechanical handling facilities imbalance in coastal traffic movement slow handling of the cargo

- Sea route carries 95% of India’s global merchandise trade - Shipping tonnage: 10.4 million in 2011 - Problems faced by Indian ports:

Low productivity Poor competitiveness Operational constraints Inadequate port facilities Inefficient deployment of port equipment Improper coordination

TutorsCircle.com


Indian containers are costlier than other ports Air Transport

- 10 scheduled passenger operators - Public sector passenger operators: NACIL, Air India Charters Ltd. and Alliance

Air - There are 7 passenger operators in private sector - India has two cargo operators - Total fleet size: 397 aircrafts - Airline’s share in domestic traffic during 2010 reached 82% - Airport Authority of India manages 126 airports, including 16 international

airports and 26 civil enclaves - Domestic passenger traffic: 108 million during January – November 2011 - International passenger traffic: 33.5 million during January – November 2011

COMMUNICATION Postal Services

- Largest postal network in the world - India has 1.55 lakh post offices - One post office serves 7814 persons and 21.23 sq. km area - Weaknesses:

Inadequate number of post offices Use of outdated techniques Delays in reaching of posted material

- Steps taken: Introduction of speed post, express parcel post, media post etc. Introduction of e-enabled services Mechanization and computerization of postal operations Automatic mail processing centers (AMPC) have been set up E-post services have been started Introduction of financial products by post offices Introduction of “Project Arrow” with the aim of providing fast and

reliable postal services Telecommunications

- India had more than 943 million connections (Feb 2011) - India’s telephone network is the second largest in the world (after China) - Tele density: (Nov, 2010)

Total- 76.86% Rural- 37.5% Urban- 167.4%

- Increase in internet connections from 0.01million in 1995 to around 21 million in 2011

- Telecom Regulatory Authority of India (TRAI) is the regulatory authority - National Internet Exchange of India (NIXI) is set up to handle internet traffic - FDI ceiling has been raised to 74% from 49%

TutorsCircle.com


- National Telecom Policy (NTP) was announced in 2012 to attract additional investment

HEALTH

- Good health comes from (1) balanced and nutritional diet and (2) medical care

- Low health standard in India because 37% of population lives below poverty line

- Various health development programmes have been integrated with family welfare and nutritional programmes

- Focus is now on providing better health and medical care services to the poor people

- Efforts to provide hygienic conditions - There is a fall in the incidence of certain diseases like T.B, leprosy and polio - There is a rise in the incidence of certain diseases like AIDS, blindness, cancer

etc. EDUCATION

- India has the one of the largest education systems in the world - The National Policy on Education (NPE) was introduced in 1986 & modified in

1992 which emphasized on: universal access and enrolment; universal retention of children up to 14 years of age and a substantial improvement in the quality of education.

- Target expenditure on NPE: 6% of GDP - Actual expenditure on NPE: 3.13% of GDP (2009-10) - Right of Children to Free and Compulsory Education Act (RTE Act) 2009 gave

children between age 6 to 14years a right to free education - Gross enrolment ration for age group 6 – 14 years increased to 96.7 in 2011 - Sarva Shiksha Abhiyan (SSA) launched in 2001-02. - National Programme for Education of Girls at Elementary Level (NPEGEL) &

Education Guarantee Scheme and Alternative and Innovative Education (EGS + AIE) are important parts of SSA

- The number of secondary and higher education school has increased from 7416 in 1950-51 to about 1,72,000 in 2007-08

- Rashtriya Madhyamik Shiksha Abhiyan was launched in 2009 to enhance the access to secondary education

- Technical education has improved significantly - National Literacy Mission (NLM) was launched in 1998 to impart functional

literacy to non-literates - Problems:

Deterioration of academic standards Inadequate number of institutions Large number of unemployed educated people Large-scale migration of educated people Lack of infrastructure Neglect of primary education

TutorsCircle.com


Regional disparities Large number of dropouts

- Steps to be taken: Restrictions should be imposed on higher education Education should be made job-oriented Expansion should be properly planned There should be emphasis on rural areas Brain drain should be stopped The standard of education should be raised Drop out ratio should be controlled

INFLATION Persistent upward movement in the general price level which results in fall in purchasing power Demand-pull inflation – Occurs when the aggregate demand in the economy is more than the aggregate supply. This pushes up the overall price level. Cost Push inflation - Caused by substantial increases in the cost of important goods or services where no suitable alternative is available. As the cost of production increases, the market prices of goods and services are increased. Stagflation - Situation where an inflation rate is high, the economic growth rate slows down, and unemployment remains steadily high. Deflation – Prices falls & purchasing power increases PRICE TRENDS IN INDIA Wholesale Price Index - Price of a representative basket of wholesale goods which comprises 676 items which carry different weights. Consumer Price Index – It measures changes in the price level of consumer goods and services purchased by households

- Inflation was highest in 1966-76 i.e. 14% - Inflation was lowest in 1950s - Current rate of inflation is 9% (2011-12) - Food inflation is almost 9%

CAUSES FOR INFLATION IN INDIA

- Public expenditure has risen from 18.6% of GDP (1961) to around 27% (2011-12)

- Deficit financing - Erratic agricultural growth - Price support to the agriculturists

TutorsCircle.com


- Inadequate rise in industrial production - Upward revision of administered prices - Failure of the government to properly tax the income - Large scale tax evasion - Black marketing - Underutilization of industrial capacity - High capital-output ratio - Raw material shortage

MEASURES TO CHECK INFLATION Monetary measures-

- Increase repo rate - Sell government securities in open market - Increase Cash Reserve Ratio (CRR)

Fiscal measures-

- Increase tax rates - Introduce new types of taxes - Improve profits of public sector units - Control over public expenditure

Control over investment-

- Resources should be employed in a way that it does not increase inflation Other measures-

- Short term measures: Distribution of commodities through fair price shops, control over movement of commodities

- Long term measures: Accelerating economic growth, restriction on present consumption

BUDGET AND FISCAL DEFICITS IN INDIA Budget Deficit is the difference between government’s total receipts and total expenditure (revenue + capital) during a fiscal year. Fiscal Deficit = Budget deficit + Borrowings and other liabilities TRENDS IN INDIA’S BUDGET AND FISCAL DEFICITS

- Budget deficit is no more shown in budgetary statement - Fiscal deficit concept is still in use - Fiscal deficit was 5.6% in 2000-01 - Fiscal Responsibility and Budget Management (FRBM) Bill was introduced in

2000 and was passed in 2003 - Fiscal deficit as a proportion of GDP

2003-04: 4.5%

TutorsCircle.com


2006-07: 3.3% 2007-08: 2.5% 2008-09: 6% 2009-10: 6.5% 2010-11: 4.8%

- Reasons for increase in budget deficit during 2008 to 2010 Increase in the plan expenditure Reduction in indirect taxes Sector specific measures Debt relief package for farmers

BALANCE OF PAYMENTS Balance of payments is systematic record of all economic transactions between the residents of one country and the residents of the rest of the world in a year. Balance of Trade = Value of goods sold to foreigners by the residents of country - value of goods purchased by them from foreigners Balance of trade equilibrium: Exports of goods = Import of goods Balance of trade deficit: Exports < Imports Surplus balance of trade: Exports > Imports Balance of Current Account Balance of trade + Balance of services + Balance of unilateral transfers It could be positive, negative or zero depending upon the values of these balances Balance of Payment on capital account includes balances of private direct investments, private portfolio investments and government loans to foreign governments Balance of Payments = Balance of current account + Balance of capital account TRENDS IN BALANCE OF PAYMENT OF INDIA

- Deficit in balance of payments sharply increased after the Fifth Plan - Growth in exports:

1980 to 1992: 7.6% p.a. 1992-93 to 2000-2001: 10% p.a.

- Growth in imports: 1992-93 to 2000-2001: 13.7%

- During 10th plan: Growth in exports: 24% p.a.

Growth in imports: 30% p.a. - There has been a current account surplus for three successive years (2001-04) - 2010-11:

Exports increased by 37% and imports by 27% Trade deficit 5.7% of GDP (one of the highest in world) Current account deficit as percentage of GDP- 2.7%

TutorsCircle.com


EXTERNAL DEBT

- External assistance to India has been in two forms Grants: No obligation to repay Loans: Obligation to repay

- 90% assistance in form of loans - External debt:

March 1981: Rs. 13,470 crore March 2011: Rs. 13,50,000 crore

- External debt as % of GDP: March 1991: 11.7% March 2011: Around 18%

- Debt Service Ratio: 1990-91: 35.3 2010-11: 4.2

- India was the fifth (among top 15 debtors) most indebted country in 2010

TutorsCircle.com


- CHAPTER 7 Background:

- After Independence: Conservative policies Public sector was dominant Private sector’s funds were mobilized for development programme &

infrastructural development Protective foreign trade policies were formed

- Conditions during 1980s

Excess consumption & expenditure Inefficient use of resources Over protection Mismanagement Public sectors losses

- Crisis in 1991

Low foreign exchange rates Large fiscal deficits National Debt constituted 60% of the GNP High inflation Wholesale price index increased by 12%

Reforms in Industrial Sector

1. Abolition on Industrial licensing: - Abolished for all except 18 industries - Presently only 6 industries under licensing –

Alcoholic drinks Cigar, cigarettes & tobacco Defence equipment Industrial explosives Hazardous chemicals Drugs and Pharmaceuticals

2. Privatization of industries:

- Only 8 industries were reserved for public sector - Currently only 3 industries are reserved for public sector –

atomic energy substances as per government of India’s notification rail transport

- In 2001, defence sector was opened for private participation with minimum capital Rs.100 crores

TutorsCircle.com


3. Automatic clearance for import of capital goods was given if - foreign exchange availability was ensured through foreign equity - value of imported capital goods required was less than 25% of the total value

of plant and machinery up to maximum of Rs.2 crore

4. Government approval was not required for industries in area with population more than 1 million

5. Mandatory convertibility clause was removed for term loans for new projects 6. Phased manufacturing programmes were approved 7. New broad banding facility was provided 8. Exemption from licensing 9. Abolition of existing schemes 10. Information memorandum on new projects and subsequent expansions was

required Foreign Investment

- Allowed FDI up to 51% for high priority industries (34 industries) - Allowed foreign equity holding up to 51% for industries involved in exports - Current FDI limits –

26% - defence, insurance & print media 74% - private sector bank 49% - air transport services 74% - telecom 100% - potable alcohol, manufacture of industrial explosives,

manufacture of hazardous chemicals, laying down of natural gas lines / LNG lines, etc.

MRTP Act MRTP act was abolished under New Economic Policy,1991 Financial Sector Reforms Banking Sector Reforms

- Pre reform period: Administered interest rate structure Quantitative restrictions on credit flows High reserves requirements under CRR & SLR

- Measures: CRR & SLR requirements were lowered Prime Lending rates were decided by banks instead of RBI Bank rates were reduced to 6% Interest rate on saving deposits reduced Fresh guidelines for licensing of new banks

TutorsCircle.com


Encouragement of Public Sector banks Special Recovery Tribunals were set Credit risk management system improved The Securitisation and Reconstruction of Financial Assets and

Enforcement of Security Interest Act was passed Introduction of derivative products Emphasis on transparency, diversification of ownership and strong

corporate governance practices The Basel II framework, has been operationalized guidelines for the merger/amalgamation for private sector banks

External Sector Reforms 1960s: - Import of food grain was allowed - Import of capital equipment was allowed 1970s: few relaxations were given 1980s: - Liberalization of imports - Promotion of exports Measures to reform external sector - Exchange rate stabilization: Rupee was devalued - Foreign Investment: Liberalisation of FDI and foreign technology agreements - Import Licensing: Introduction of EXIM policy which freed trade of many items

& no. of import license has been reduced - Quantitative restrictions: Restrictions were removed from all items except

defence goods, environmentally hazardous goods and some other sensitive goods

- Tariff: Import tariff was reduced to 10% - Export subsidies:

Indirect export subsidies are provided Cash Compensatory Scheme was abolished The EXIM Scrip scheme was abolished Value-based duty exempt import license was introduced Export Promotion Capital Goods (EPCG) scheme was introduced &

liberalised Special Economic Zones (SEZs) Policy was announced which aimed to

generate additional economic activities, promote exports

TutorsCircle.com


&investments, generate employment opportunities & develop infrastructure

- Foreign Exchange Reserves: These reserves have been build up to US $279 billion at end March 2010

- From FERA to FEMA: Foreign Exchange Regulation Act was replaced by Foreign Exchange Management Act which facilitated & promoted foreign exchange

- Other measures: ‘Vishesh KrishiUpaj Yojana’ was started to promote agricultural exports “Served from India” scheme was started Import duties were reduced Simplification of licensing requirements

Fiscal Reforms Policy relating to public revenue and public expenditure Tax Reforms: 1. Income tax reforms: - Income tax slabs were reduced - Taxation of partnership firms was drastically modified - Tax rate for domestic companies reduced to 30% & on foreign companied to

50% & to 40% on other income - Exemption limits on taxes have been increased - TDS certificates have been dematerialised - Special tax benefits to many industries - Simplification of tax structure 2. Indirect tax reforms: - Reduction in custom duties - Rectifying anomalies - Rationalising of excise duties - Introduction of state-level VAT - Increasing productivity of expenditure - Introduction of innovative financing mechanism - Introduction of service tax - CENVAT is rationalised - Plan of introducing GST - Direct Tax Code (DTC) is being introduced.

TutorsCircle.com


Impact of Economic Reforms on Indian Economy - Import of new technology - Sustainable growth rate - Facilitated value added exports - Restructuring, merging and acquisitions made easy - Improvement in work culture - Emphasis on quality & R&D - Better awareness - Aggressive brand building

Hurdles:

1. Failure to achieve fiscal discipline to the targeted level 2. Failure to implement fully industrial deregulation 3. Not fully opening the economy to trade 4. Ad hoc and unplanned disinvestment 5. Slow financial sector reforms 6. Inadequate infrastructural development 7. Need to extend reforms to the States 8. Amendment in labour laws required 9. Need to strengthen the legal system

Liberalisation Relaxation of previous government restrictions Privatisation Transfer of assets or service functions from public to private ownership Ways: franchising, leasing, contracting and divesture Preconditions required-

- Liberalisation and de-regulation of the economy - Sufficiently developed capital market

Arguments for privatisation

- helps reducing the burden on exchequer - helps the public sector units to modernise and diversify & make them more

competitive - improves decision making - help in reviving sick units

TutorsCircle.com


Arguments against privatisation

- encourage growth of monopoly power - shares of loss-making and sick enterprises are not bought - result in lop-sided development - private sector focus on profit making & not on economy - GOI cannot avoid foreign competition nor can favour particular firms in

private sector - Better results not guaranteed

Disinvestment Disposal of public sector’s unit’s equity in the market Privatisation & Disinvestment in India 100% privatisation has not taken place Methods of Disinvestment

1. Issue of equity 2. Issuance of the Global Depository Receipts (GDRs) 3. Crossholding - government sells part of its shares in one PSU to other PSUs 4. Warehousing - government’s own financial institutions buy government’s stake &

holds them till 3rd buyer emerges 5. Retaining golden share - retaining government’s stake up to 26% in the PSU 6. Strategic Sale method - government sells a major portion of its stake to a

strategic buyer & also transfers management Progress of Disinvestment

- Unplanned disinvestment procedure - Pre-conditions were not created - Link was not created between public enterprises and the capital market - Narrowly focused only on disinvestment of shareholdings - Only profit making enterprises were privatised - Loss making enterprises were nationalised - Public equity has been under-priced

TutorsCircle.com


GLOBALISATION Integrating the domestic economy with the world economy Cases for Globalisation

- Improve economic efficiency of a country - Improves technology - Attracts foreign capital - Domestic industry reduces price & improves quality - Generates employment - Improves efficiency of banking & financial sector

Cases against Globalisation - Redistribution of economic & political power - Economies of world are moving away - Increased pressure on economies - Lot of structural adjustment - Helps developed countries more than developing countries

Measures towards globalisation

1. Convertibility of Rupee: allow it to determine its own exchange rate in the international market without any official intervention

2. Import liberalisation: free trade of all items except negative list of imports and exports has been allowed & custom duties have been reduced

3. Opening the economy to foreign capital: FDI up to 100% have been allowed in some industries

4. Foreign companies are allowed to use their trademark

Effects of Globalisation on Indian Economy

1. Increase in India’s share in the world exports to 1.3% (2009) 2. Increase in foreign currency reserves to U.S. $ 279 billion at end March 2010 3. Exports now finance nearly 90% of imports 4. Current account surplus during 2001-04 but deficit (-2.8) during 2009-10 5. Increase in external debt to Rs.12,00,000 crore (June,2010) 6. Steady exchange rate for rupee 7. International confidence in India has been restored 8. Larger & better variety of goods at lower prices 9. Market response to movements abroad 10. Up gradation of India’s rating 11. Focus on quality management & R&D 12. More Indian companies are operating abroad

TutorsCircle.com


Main Organisations for facilitating globalisation

1. International Monetary Fund - - Organised in 1946 and commenced its operation in March, 1947 - Objectives –

elimination or reduction of existing exchange controls establishment and maintenance of currency convertibility widest extension of multilateral trade and payments solving of short-term balance of payments problems

- 187 member countries (July,2010) - Financed by participation countries - Functions –

Short-term credit institution Helps in exchange rate adjustment Act as reservoir of currencies Lending institution in foreign exchange Provide international consultations Monitors economic & financial development of member countries

2. World Bank–

- The International Bank for Reconstruction and Development (IBRD) - Formed at Bretton Woods in 1945 - 187 member countries - Objectives –

Investing for people’s basic health & education Focus on social development Protect environment Support and encourage private business development Create a stable macro-economic environment

- Functions – Provide long term loans for reconstruction and development Encourage private foreign investment Promote long- term balanced growth

TutorsCircle.com


3. World Trade Organization – - Came into existence on 1st January, 1995 - Aims –

Turn whole world in big village Free flow of goods & services No barriers to trade

- Features – main organ of implementing the Multilateral Trade Agreements 157 member countries in 2011 forum for negotiations among its member wider scope that GATT full-fledged international organisation administers a unified package of agreements better decision making has legal personality members enjoy international privileges & immunity

- Functions – facilitates the implementation, administration and operation of world

trade agreements forum for trade negotiations handle trade disputes monitors national trade policies provide technical assistance co-operates with IMF & IBRD

TutorsCircle.com


CHAPTER 8 Money: 1. Served as medium of exchange 2. Served as common measure of value 3. Served as store of value Pure money: Cash and chequable deposits with commercial banks Near money: Financial assets such as bonds, government securities, time deposits with banks and equity shares

Functions of Money

1. Act as medium of exchange

2. Common measure of value

3. Standard of deferred payments

4. Store of value

Dynamic functions:

1. Directs economic trends

2. Encourage division of labour

3. Smoothens transformation of savings into investments

Money Stock in India In 1979, by RBI:

M1 = Currency with the public i.e., coins and currency notes + Demand deposits of the public known as narrow money.

M2 = M1 + Post office saving deposits. M3 = M1 + Time deposits of the pubic with banks called broad money. M4 = M3 + Total post office deposits

TutorsCircle.com


After it has been redefined: M1 = Currency + Demand deposits + Other deposits with RBI. M2 = M1 + Time liabilities portion of saving deposits with banks +

Certificates of deposits issued by banks + Term deposits maturing within a year excluding FCNR (B) Deposits.

M3 = M2 + Term deposits with banks with maturity over one year + Call / term borrowings of the banking system.

M4 has been excluded from the scheme of monetary aggregates. COMMERCIAL BANKS Role of Commercial Banks

1. Encourage saving habits 2. Mobilises savings 3. Better allocation of funds 4. Increases aggregate rate of investment in economy

Functions of a Bank

1. Receive deposits: Current deposits, Saving deposits, Time deposits 2. Lend money: Cash credits, overdrafts, loans and advances, or discounting of bills

of exchange 3. Agency services: Collection of bills, dividends, interest, premiums etc. 4. General services:

- Issue of letters of credit, travellers cheques, bank drafts, circular notes; etc - Safe deposit vaults service - Supply trade information &surveys - Underwriting share issues

Commercial Banking in India At the time of independence: 645 banks with more than 4800 branches July 1969, nationalisation of 14 major commercial banks 1980, 6 more banks nationalised At present, 19 nationalised banks Nationalisation of Commercial Banks Reasons for nationalisation

1. Private ownership of banks resulted in concentration of wealth &power 2. Commercial banks were biased towards urban areas & rural areas were

neglected 3. Agricultural sector was neglected & accounted for only 2.2% of total advances

TutorsCircle.com


4. Commercial banks violated norms 5. Private banks earned large profits by indulging in speculative activities 6. Export, small-scale industries etc. were also completely neglected

Objectives:

1. Removal of control by few 2. Providing facilities to agricultural sector 3. Better management 4. Encourage new entrepreneurs 5. Better staff service

Progress of Commercial Banks after Nationalisation

1. Expansion of branches: 85636 in 2010 & population per bank office reduced to 12,500 (2012)

2. Branch opening in rural and unbanked areas : 37% rural bank branches (June,2012)

3. Deposit mobilisation : - Aggregate deposits increased to Rs.33,63,600 crore (2010). - Maharashtra leads with 22% of aggregate deposits

4. Bank lending: Increased to Rs.25,00,000 crore in June, 2010 5. Introduction of schemes to promote entrepreneurship

Shortcomings of Commercial Banks in India

1. Insufficient growth as compared to population 2. Regional imbalances 3. Problems of bad debts, doubtful debts and over dues 4. Deterioration of quality of services 5. No improvement in profitability ratio due to

- Lower interest on Government borrowings - Subsidisation of credit - Rapid branch expansion - Increase in overheads - Lack of competition - Increased expenditure

6. Lack of expertise Measures required

1. Expansion of services to remote areas 2. Keep up profitability 3. Catch up with growing needs 4. Improve performance 5. Improve loan- portfolio quality

TutorsCircle.com


Meaning & Functions of Central Bank It constitutes the apex of the monetary and banking structure of a country Central Bank of India: Reserve Bank of India (RBI) Functions of Central Bank

1. Regulation of currency 2. Perform general banking & agency services for state 3. Custody of cash reserve 4. Manages international currency reserve 5. Grants collateral advances to commercial banks, bill brokers & dealers 6. Clearance arrangements amongst banks 7. Control of credit as per monetary policy

Central Bank VS Commercial Bank CENTRAL BANK COMMERCIAL BANK

Main objective is not profit making Main objective is profit making

Deals with state governments, central & state banks& other financial institutions

Deals with public

Monitors other banks Mobilises savings

Does not allow interest on deposits Allows interest on deposits

Role of RBI

1. Apex monetary institution of India 2. Strengthens, develop and diversify the country’s economic and financial

structure 3. Maintain economic stability 4. Assist economic growth 5. Control monetary policy 6. Advisor to government 7. Represent country in International economic forums 8. Guide commercial banks 9. Develop adequate & sound banking system 10. Control inflation 11. Protect market for government securities 12. Channelize credit in desired direction

TutorsCircle.com


Functions of RBI

1. Issue of currency 2. Banker to government

- transacts all the general banking business of government - manages public debt - sells T-bills on behalf of government - makes advances to government - act as adviser to government

3. Banker’s bank - Commercial banks maintain CRR with RBI - Provides financial assistance - Inspect commercial banks

4. Custodian of Foreign Exchange Reserves 5. Control credit through quantitative & qualitative methods 6. Promote banking habits & mobilises savings 7. Collection & compilation of statistical data

Indian Monetary Policy Concerns of monetary policy

1. Regulate monetary growth 2. Ensure adequate expansion in credit 3. Encourage proper flow of credit 4. Strengthen banking system

Quantitative or General Measures Have a general effect on credit regulation

1. Bank Rate policy: - Bank rate – Rate of discounting of commercial banks’ bills by Central bank - To control credit & inflation Increase bank ratePrice credit increases

Borrowings decreases - To expand credit Decrease Bank rate

2. Open market operations:

- Direct sale & purchase of securities by Central bank - To control inflation Sell securities - To control deflation Buy securities

TutorsCircle.com


3. Variable Reserve Requirements: - Cash Reserve Ratio (CRR) – proportion of total deposits to be kept with

central bank by commercial banks - Statutory Liquidity Ratio (SLR) – proportion of total deposits to be maintained

as liquid assets by commercial banks - To control inflation Increase Reserve Ratios - To control deflation Decrease reserve Ratios - Current CRR is 6% & SLR is 24% (May,2011)

4. Repo rate & Reserve rate:

- Repo rate – Rate of borrowing rupees from RBI - Reserve Repo rate – rate at which RBI borrows money from banks - To control inflation Increase repo rate & reserve repo rate - To control deflation Decrease repo rate & reserve repo rate

Qualitative or Selective Measures Regulate credit for specific purposes

1. Securing loan regulation by fixation of margin requirements: - To control inflation – Increase margin requirement - To control deflation – Decrease margin requirement - This checks inflation in specific sectors

2. Consumer credit regulation: - To control inflation Increase down payments & Decrease no. of instalments - To control deflation Decrease down payments & Increase no. of

instalments 3. Issue of directives:

Oral or written statements, appeals or warnings to control individual credit structure

4. Rationing of credit: Regulates & control purpose of granting credit

5. Moral suasion: - Informal & milder form of credit control - Central Bank persuades & request commercial banks to co-operate with the

general monetary policy 6. Direct action:

- Refusal to rediscount commercial banks’ papers - Refusal to give excess credit - Charge penal rate of interest over & above bank rate

TutorsCircle.com


Documents

CA Cpt Economics