In the two-sector model, three of the following would lower equilibrium income. Which one is the odd one out?
Answer & explanation
Correct answer: option 4
The correct answer is Option (4) → A rise in autonomous consumption
Equilibrium income falls when aggregate demand falls. Three options lower AD; a rise in autonomous consumption raises it.
Option (1) A rise in the rate of interest — Lowers income. At higher interest rates firms lower investment, so AD shifts down.
Option (2) Credit becoming harder to get for firms — Lowers income. Easy credit encourages investment, so harder credit cuts investment and AD.
Option (3) A rise in the marginal propensity to save — Lowers income. A higher mps is a lower mpc. The AD line swings down and the multiplier falls.
Option (4) A rise in autonomous consumption — Odd one out. A rise in autonomous consumption shifts AD up in parallel, so income rises.
NCERT (2026-27): “4.3.2 Effect of an Autonomous Change in Aggregate Demand on Income and Output We have seen that the equilibrium level of income depends on aggregate demand. Thus, if aggregate demand changes, the equilibrium level of income changes. This can happen in any one or combination of the following situations: 1. Change in consumption: this can happen due to (i) change in C̄ (ii) change in c . 2. Change in investment: we have assumed that investment is autonomous. However, it just means that it does not depend on income. There are a number of variables other than income which can affect investment. One important factor is availability of credit: easy availability of credit encourages investment. Another factor is interest rate: interest rate is the cost of investible funds, and at higher interest rates, firms tend to lower investment.” “Paradox of Thrift … When A changes the line shifts upwards or downwards in parallel. When c changes, however, the line swings up or down. An increase in mps, or a decline in mpc, reduces the slope of the AD line and it swings downwards. We depict the situation in Fig. 4.8.” |