Macro Economics

Capital formation and savings are critical indicators of economic health as they reflect investment potential and economic stability. The other options are not standard measures.

The Keynesian consumption function explains the relationship between disposable income and consumption expenditure. It describes how much households plan to consume at various income levels. Keynes argued that as income increases, consumption also increases but at a decreasing rate. This relationship is foundational to understanding aggregate demand in Keynesian economics.

GDP is divided into four main components:
Consumption (A): Spending by households on goods and services.
Investment (B): Spending on capital goods to produce future outputs.
Government Purchases and Net Exports (C): Expenditures by the government and the net difference between exports and imports.
Government consumption and net imports (D) is not a standard component of GDP.

The IS-LM model explains the interaction of the goods market (IS curve) and the money market (LM curve).
- (A) IS-LM Model (III): Shows equilibrium in the money market.
- (B) IS Curve (IV): Shows equilibrium in both markets.
- (C) Intersection of IS and LM (II): Combines the Keynesian cross and liquidity preference theory.
- (D) LM Curve (I): Represents equilibrium in the goods market.

Step 1: Identify definitions.
- Balance of Payments (BOP) records all international transactions (goods, services, capital, transfers) over time

Step 1: Recall historical order.
- Mercantilist Doctrine (16th–18th century) → oldest trade theory
- Absolute Advantage → Adam Smith, 1776
- Comparative Advantage → David Ricardo, 1817
- Factor Proportions → Heckscher-Ohlin, 20th century

Step 1: Recall closed economy circular flow.
- Participants: Households, Firms, Government
- Foreign entities are part of open economy flow, not closed economy

Step 1: Recall macroeconomic curves.
- Phillips Curve shows the inverse relationship between wage inflation and unemployment

Step 1: Check each statement.
- (A) True → Proportional tax stabilises income automatically
- (B) True → Increase in autonomous spending increases equilibrium income
- (C) False → Higher MPC → higher multiplier, not lower
- (D) True → Lower transfer payments reduce aggregate output

Step 2: Select correct combination.
(A), (B) and (D) are correct

Step 1: Understand exchange rate determination.
- Major factors = interest rate, inflation differential, and purchasing power parity.

Step 2: Conclude.
- Option 4 (Interest-Inflation rate differential) explains exchange rate differences.