PESIT Bangalore South Campus Hosur road, 1km before Electronic City, Bengaluru -100 Department of MBA INTERNAL ASSESSMENT TEST 2

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1 USN PESIT Bangalore South Campus Hosur road, 1km before Electronic City, Bengaluru -100 Department of MBA INTERNAL ASSESSMENT TEST 2 Date: Max Marks: 40 Subject & Code: Economics For Managers -16MBA12 Section: I Sem (core) Name of faculty: Dr. Swati Bandi Time: 11:30-1:00 PM Note: Answer all questions 1 (a) Describe Price Taker and Price Maker? (2 marks) (b) Ans: A price-taker is an individual or company that must accept prevailing prices in a market, lacking the market share to influence market price on its own. While, A price maker is a monopoly or a firm within monopolistic competition that has the power to influence the price it charges as the good it produces does not have perfect substitutes. Explain Kinked Demand curve under oligopoly market? Ans: The kinked demand curve of oligopoly was developed by Paul M. Sweezy in Instead of laying emphasis on price-output determination, the model explains the behaviour of oligopolistic organizations. The model advocates that the behaviour of oligopolistic organizations remain stable when the price and output are determined. This implies that an oligopolistic market is characterized by a certain degree of price rigidity or stability, especially when there is a change in prices in downward direction. For example, if an organization under oligopoly reduces price of products, the competitor organizations would also follow it and neutralize the expected gain from the price reduction. On the other hand, if the organization increases the price, the competitor organizations would also cut down their prices. In such a case, the organization that has raised its prices would lose some part of its market share. (6 marks) The kinked demand curve model seeks to explain the reason of price rigidity

2 under oligopolistic market situations. Therefore, to understand the kinked demand curve model, it is important to note the reactions of rival organizations on the price changes made by respective oligopolistic organizations. There can be two possible reactions of rival organizations when there are changes in the price of a particular oligopolistic organization. The rival organizations would either follow price cuts, but not price hikes or they may not follow changes in prices at all. A kinked demand curve represents the behaviour pattern of oligopolistic organizations in which rival organizations lower down the prices to secure their market share, but restrict an increase in the prices. Following are the assumption of a kinked demand curve: i. Assumes that if one oligopolistic organization reduces the prices, then other organizations would also cut their prices ii. Assumes that if one oligopolistic organization increases the prices, then other organizations would not follow increase in prices iii. Assumes that there is always a prevailing price A kinked demand curve model is explained with the help of Figure-2: (c) The slope of a kinked demand curve differs in different conditions, such as price increase and price decrease. In this model, every organization faces two demand curves. Explain the price determination under pure monopoly? Ans: A monopolist is the sole seller of a commodity. The aim of a monopolist is to get maximum profits. Of course, everyone who enters business aims at getting maximum profit. But there is no scope for getting abnormal profit under competition for there are several number of sellers. But the monopolist is the (8 marks)

3 sole seller of a commodity. So he will take advantage of the situation and try to get maximum profits. For, all those who want the good should buy it only from him. They have no other way. So in determining the price of a commodity, he will be guided by only one motive, that is, to maximize his profits. We know in a market, price is determined by the interaction of supply and demand. Under monopoly too, the price of a good is determined by the interaction of supply and demand, but in a different way. Under perfect competition, there will be several numbers of sellers. But under monopoly, the monopolist is the sole seller of a commodity. So he can control the supply of his good. But he cannot control demand for there is several number of buyers as in the case of competition. The aim of a monopolist is to maximize his profits. For that, he can do one of the following two things. He can fix the price for his good and leave the market to decide what output will be required. Or he can fix the output and leave the price to be determined by the interaction of supply and demand. In other words, he can fix the price or the output; he cannot do both. The amounts he can sell at any given price depend upon the conditions of demand for his good. Just because the monopolist is the sole seller of the commodity, we should not think he can fix whatever price he likes. Of course, he can do it but he will not make profits. Benham has put it will in the following lines: The fortunate monopolist can fix what price he chooses, but if he cannot sell enough, he doesn t gain; he loses. The monopolist, therefore, has to study the conditions of supply and demand. He must carefully estimate the demand for his goods. He has to see first whether his commodity has got elastic demand or inelastic demand. If the demand for the commodity is elastic, the monopolist cannot fix a very high price because a rise in price may result in a fall of demand. So he cannot sell much and he may not get large profits. In such a case, the monopolist will fix a low price. If the good in question has inelastic demand, the monopolist may fix a high price. It is so because even if the price is high, there will not be a fall in demand. Then the monopolist will get maximum profits by fixing a high price. The monopolist should also study the conditions of supply. He must estimate the cost of production for different quantities of his goods. If his firm is producing under the conditions of the Law of Diminishing costs, cost of production per unit will fall as output increases. Then the monopolist will try to fix a low price and sell more units. Thereby he will try to get maximum profits. On the other hand, if his firm is working under conditions of increasing costs, cost of production per unit will rise as output increases. Under such circumstances, the monopolist will generally restrict his output and sell his goods at a high price. Thereby he will try to get maximum profits. Suppose his firm is working under conditions of constant costs, the price he fixes will depend largely on the conditions of

4 demand for his goods. The monopolist will get maximum profit at the output at which his marginal cost and marginal revenue are equal to one another. In the earlier stages of production, marginal cost may be much less than the marginal revenue and the monopolist may make huge profits. But after a certain stage is reached the marginal cost will rise and it may tend to be higher than the marginal revenue. The monopolist will stop producing additional units at that point. So price is fixed by the monopolist at that point where his marginal costs and marginal revenue are equal to one another. There is one more thing we should note. Under perfect competition too, marginal revenue = marginal cost = price. In other words, marginal revenue is equal to price. Under monopoly, it is true that marginal cost is equal to marginal revenue. But marginal revenue is not equal to price. Marginal revenue is always less than price. This is so because in order to expand his sales, the monopolist must reduce his price. This will result in a fall in his marginal revenue. So marginal revenue is less than price. Since marginal cost is equal to marginal revenue, marginal cost is also less than price. In other words, price is higher than marginal cost. We may summarize it as follows: Under monopoly, marginal cost = marginal revenue; but marginal revenue is less than price, therefore marginal cost is less than price. In other words, price is greater than marginal cost. 2 (a) Draw the circular flow of two sector model. (2 marks) Ans:

5 (b) Describe the problem faced while measuring the National Income? Ans:1. Exclusion of the real Transaction. 2. Value of Leisure 3. Cost of environmental Damage 4. The underground economy. 5. Transfer payment in capital gains. 6. Valuation of inventories. 7. Self Consumption. 8. Lack of official records. 9. Imputed Income. 10. Valuation of government services. (6 marks)

6 (c) Write short on: Ans: New Industrial policy 1991 (8marks) De-Reservation of industries in the public sector Privatization of government share in public sector Abolishing of industrial licensing Abolition of phased manufacturing plans Removal of mandatory convertibility clause Removal of investment control on large business houses Liberalization of Foreign Investments WTO (World Trade Organisation): The WTO was born out of the General Agreement on Tariffs and Trade (GATT), which was established in A series of trade negotiations, GATT rounds began at the end of World War II and were aimed at reducing tariffs for the facilitation of global trade on goods. The rationale for GATT was based on the Most Favoured Nation (MFN) clause, which, when assigned to one country by another, gives the selected country privileged trading rights. As such, GATT aimed to help all countries obtain MFN-like status so that no single country would be at a trading advantage over others. The WTO replaced GATT as the world's global trading body in 1995, and the current set of governing rules stems from the Uruguay Round of GATT negotiations, which took place throughout GATT trading regulations established between 1947 and 1994 (and in particular those negotiated during the Uruguay Round) remain the primary rule book for multilateral trade in goods. Specific sectors such as agriculture have been addressed, as well as issues dealing with anti-dumping. The Uruguay Round also laid the foundations for regulating trade in services. The General Agreement on Trade in Services (GATS) is the guideline directing multilateral trade in services. Intellectual property rights were also addressed in the establishment of regulations protecting the trade and investment of ideas, concepts, designs, patents, and so forth. The purpose of the WTO is to ensure that global trade commences smoothly, freely and predictably. The WTO creates and embodies the legal ground rules for global trade among member nations and thus offers a system for international commerce. The WTO aims to create economic peace and stability in the world through a multilateral system based on consenting member states (currently there are slightly more than 140 members) that have ratified the rules of the WTO in their individual countries as well. This means that WTO rules become a part of a country's domestic legal system. The rules, therefore, apply to local companies and nationals in the conduct of business in the international arena. If

7 a company decides to invest in a foreign country, by, for example, setting up an office in that country, the rules of the WTO (and hence, a country's local laws) will govern how that can be done. Theoretically, if a country is a member to the WTO, its local laws cannot contradict WTO rules and regulations, which currently govern approximately 97% of all world trade. 3 Ans: a) Fiscal policy involves the decisions that a government makes regarding collection of revenue, through taxation and about spending that revenue. (8 marks) To mobilize resources for financing the development programmes in the public sector To promote development in the private sector To bring about an optimum utilization of resources. To restrain inflationary pressures in the economy to ensure economic stability. To improve distribution of income and wealth in the community for lessening economic inequalities. To obtain full employment and economic growth. Fiscal policy and capital formation b) Explain briefly the reasons for fiscal deficit. Size of fiscal measures Fiscal policy as ineffective anti-cyclical measure Administrative delay c) Suggest remedies for the new fiscal policy to combat fiscal crisis. To look upon the revenue functions. To look upon the regulatory functions. * * * * * * * *