Economy Set 1 MCQs

Economy GK

Economy Set 1 MCQs

Practice Economy GK MCQs on basic economic concepts including economy, economics, microeconomics, macroeconomics, goods and services, demand and supply, factors of production, opportunity cost, economic activities, sectors of economy and other fundamental concepts frequently asked in SSC, Railway, Banking, UPSC, JKSSB, JKPSC, Police, Defence and other competitive examinations.

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Practice Questions

Page 33 of 111
Question #641
Which of the following is a characteristic of the 'Permanent Income Hypothesis' of consumption?
A. Only transitory income determines consumption
B. Consumption depends primarily on long-run average or permanent income
C. Consumption is independent of income
D. Consumption depends only on current income
Discuss
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Correct Answer: Option B

Explanation:
According to Milton Friedman's permanent income hypothesis, individuals base their consumption on permanent (expected long-run) income rather than on current measured income.
This question belongs to: Economy GK Economy Set 1
Question #642
In the context of monetary policy, the 'Zero Lower Bound' problem refers to:
A. The inability of nominal interest rates to fall significantly below zero
B. The minimum reserve requirement
C. The floor on the fiscal deficit
D. The inability of real interest rates to be positive
Discuss
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Correct Answer: Option A

Explanation:
The zero lower bound refers to the constraint that nominal interest rates cannot be reduced much below zero, limiting the effectiveness of conventional monetary policy in deep recessions.
This question belongs to: Economy GK Economy Set 1
Question #643
Which of the following is a feature of the 'Gravity Model' of international trade?
A. Only tariffs determine trade volumes
B. Bilateral trade flows are positively related to the economic sizes of the countries and negatively related to the distance between them
C. Trade is determined only by comparative advantage
D. Trade is independent of distance
Discuss
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Correct Answer: Option B

Explanation:
The gravity model predicts that the volume of trade between two countries is proportional to the product of their GDPs and inversely related to the distance (and other trade costs) between them.
This question belongs to: Economy GK Economy Set 1
Question #644
The concept of 'Time Inconsistency' in monetary policy was highlighted by:
A. Friedman and Schwartz
B. Modigliani and Miller
C. Kydland and Prescott
D. Keynes and Hicks
Discuss
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Correct Answer: Option C

Explanation:
Kydland and Prescott demonstrated that discretionary policy can be suboptimal because policymakers have an incentive to renege on previously announced optimal plans once private agents have formed expectations.
This question belongs to: Economy GK Economy Set 1
Question #645
Which of the following is a characteristic of the 'Life-Cycle Hypothesis' of consumption?
A. Saving is independent of age
B. Consumption depends only on current income
C. Only permanent income matters and age is irrelevant
D. Individuals plan consumption over their entire lifetime
Discuss
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Correct Answer: Option D

Explanation:
The life-cycle hypothesis, associated with Modigliani, posits that individuals smooth consumption over their lifetime by saving during working years and dissaving during retirement.
This question belongs to: Economy GK Economy Set 1
Question #646
In the context of development economics, the 'Kuznets Curve' suggests that:
A. Inequality rises continuously with development
B. Inequality is unrelated to the level of development
C. Inequality falls continuously with development
D. Inequality first rises and then falls with economic development
Discuss
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Correct Answer: Option D

Explanation:
The Kuznets hypothesis proposes an inverted-U relationship between income inequality and per capita income: inequality rises in the early stages of development and declines later.
This question belongs to: Economy GK Economy Set 1
Question #647
Which of the following is a feature of the 'Covered Interest Parity' condition?
A. Only uncovered interest parity holds
B. The interest differential between two countries equals the forward premium or discount on the exchange rate
C. Interest rates are always equal across countries
D. Exchange rates are fixed
Discuss
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Correct Answer: Option B

Explanation:
Covered interest parity states that the interest rate differential between two currencies equals the forward premium or discount, eliminating covered arbitrage opportunities.
This question belongs to: Economy GK Economy Set 1
Question #648
The concept of 'Seigniorage' is most closely related to:
A. Tax revenue from income tax
B. The real resources obtained by the government through the issue of base money
C. Interest payments on public debt
D. Revenue from disinvestment
Discuss
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Correct Answer: Option B

Explanation:
Seigniorage is the purchasing power that the government obtains by issuing base money; it equals the real value of the increase in base money.
This question belongs to: Economy GK Economy Set 1
Question #649
Which of the following is a characteristic of the 'New Trade Theory' associated with Paul Krugman?
A. Economies of scale and product differentiation can explain trade even between similar countries
B. Trade is explained only by differences in factor endowments
C. Trade always reduces welfare
D. Only comparative advantage based on technology differences matters
Discuss
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Correct Answer: Option A

Explanation:
New Trade Theory emphasises that increasing returns to scale and consumers’ preference for variety can generate trade and gains from trade even between countries with similar factor endowments.
This question belongs to: Economy GK Economy Set 1
Question #650
In the context of banking, the 'Net Stable Funding Ratio' under Basel III is designed to:
A. Measure only short-term liquidity over 30 days
B. Set the repo rate
C. Determine capital adequacy only
D. Ensure that banks maintain a stable funding profile over a one-year horizon
Discuss
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Correct Answer: Option D

Explanation:
The Net Stable Funding Ratio (NSFR) requires banks to maintain a stable funding profile in relation to their on- and off-balance-sheet activities over a one-year time horizon.
This question belongs to: Economy GK Economy Set 1
Question #651
Which of the following is a feature of the 'Ricardian Equivalence Theorem'?
A. Tax cuts financed by debt increase private consumption
B. Government debt is always neutral regardless of agents’ behaviour
C. Tax cuts financed by debt do not affect private consumption because agents anticipate future tax liabilities
D. Only liquidity-constrained agents matter
Discuss
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Correct Answer: Option C

Explanation:
Ricardian equivalence asserts that, under certain conditions, debt-financed tax cuts do not stimulate consumption because forward-looking agents save the tax cut to pay the future taxes needed to service the debt.
This question belongs to: Economy GK Economy Set 1
Question #652
The concept of 'Feldstein-Horioka Puzzle' refers to:
A. The observation that saving and investment are completely uncorrelated
B. The puzzle of why interest rates are equalised
C. The puzzle of purchasing power parity deviations only
D. The observation that domestic saving and domestic investment are highly correlated despite capital mobility
Discuss
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Correct Answer: Option D

Explanation:
The Feldstein-Horioka puzzle is the empirical finding of a high correlation between domestic saving and domestic investment rates, which appears inconsistent with perfect international capital mobility.
This question belongs to: Economy GK Economy Set 1
Question #653
Which of the following is a characteristic of the 'Menu Costs' argument in New Keynesian economics?
A. Only wages are sticky
B. Prices are always flexible
C. Costs of changing prices can lead to price stickiness even if the costs are small
D. Menu costs are irrelevant for aggregate fluctuations
Discuss
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Correct Answer: Option C

Explanation:
Menu costs are the small costs of changing prices. New Keynesian models show that even small menu costs can generate substantial nominal rigidity and real effects of monetary policy.
This question belongs to: Economy GK Economy Set 1
Question #654
In the context of public debt, the 'Domar Condition' for debt sustainability relates to:
A. The relationship between the interest rate, growth rate and primary balance
B. Only the maturity structure of debt
C. Only the level of absolute debt
D. Only external debt
Discuss
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Correct Answer: Option A

Explanation:
The Domar condition indicates that the debt-to-GDP ratio will stabilise or decline if the primary surplus is sufficient relative to the difference between the interest rate and the growth rate of GDP.
This question belongs to: Economy GK Economy Set 1
Question #655
Which of the following is a feature of the 'Uncovered Interest Parity' condition?
A. The interest differential equals the expected change in the exchange rate
B. The interest differential equals the forward premium
C. Interest rates are always equal
D. Only covered arbitrage matters
Discuss
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Correct Answer: Option A

Explanation:
Uncovered interest parity states that the interest rate differential between two currencies equals the expected rate of depreciation of the high-interest currency.
This question belongs to: Economy GK Economy Set 1
Question #656
The concept of 'Tragedy of the Commons' illustrates:
A. The efficient use of private goods
B. The overuse of a common-pool resource when property rights are not well defined
C. The under-provision of public goods only
D. The benefits of free access to all resources
Discuss
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Correct Answer: Option B

Explanation:
The tragedy of the commons describes the tendency for a shared, non-excludable but rivalrous resource to be over-exploited when individual users do not bear the full social cost of their actions.
This question belongs to: Economy GK Economy Set 1
Question #657
Which of the following is a characteristic of the 'Adaptive Expectations' hypothesis?
A. Only future information matters
B. Agents form expectations solely on the basis of past values of the variable
C. Expectations are always correct
D. Agents use all available information efficiently
Discuss
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Correct Answer: Option B

Explanation:
Under adaptive expectations, agents revise their expectations gradually on the basis of past forecast errors, so that expectations are a weighted average of past observations.
This question belongs to: Economy GK Economy Set 1
Question #658
In the context of industrial organisation, the 'Structure-Conduct-Performance' paradigm suggests that:
A. Only performance matters
B. Market structure determines firm conduct which in turn determines performance
C. Conduct is independent of structure
D. Performance determines structure
Discuss
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Correct Answer: Option B

Explanation:
The traditional SCP paradigm posits a causal chain from market structure (concentration, entry barriers) to firm conduct (pricing, advertising) to market performance (profits, efficiency).
This question belongs to: Economy GK Economy Set 1
Question #659
Which of the following is a feature of the 'Permanent Income' versus 'Current Income' debate in consumption theory?
A. Empirical evidence shows that consumption is more sensitive to current income than pure permanent-income theory predicts
B. The debate has been fully resolved in favour of pure permanent-income theory
C. Only permanent income matters and liquidity constraints are irrelevant
D. Consumption is completely independent of current income
Discuss
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Correct Answer: Option A

Explanation:
Empirical studies often find 'excess sensitivity' of consumption to current income, suggesting that liquidity constraints, myopia or other factors cause departures from pure permanent-income behaviour.
This question belongs to: Economy GK Economy Set 1
Question #660
The concept of 'Original Sin' in international finance refers to:
A. The original accumulation of capital
B. Only the problem of domestic debt
C. The sin of high fiscal deficits
D. The inability of many emerging-market countries to borrow abroad in their own currency
Discuss
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Correct Answer: Option D

Explanation:
Original sin describes the situation in which most countries cannot borrow abroad in their own currency, forcing them to denominate external debt in foreign currency and exposing them to currency mismatches.
This question belongs to: Economy GK Economy Set 1
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