In an economy, autonomous consumption and investment expenditure (A)…

In an economy, autonomous consumption and investment expenditure (A) is Rs 60 crore, the MPS is 0.25 and the level of income is Rs 2,000 crore. Which of the following is correct?

Answer & explanation

Correct answer: option 3

The correct answer is Option (3) → Ex ante aggregate demand is Rs 1,560 crore; unsold stocks pile up, and output will fall towards Rs 240 crore.

Given:

A = Rs 60 crore

MPS = 0.25

Y = Rs 2,000 crore

MPS = 0.25, so MPC = 0.75. Planned demand at the present income is:

\( AD = 60 + 0.75 \times 2{,}000 = 1{,}560 \)

AD is less than output, so unsold stocks pile up and producers cut output. The equilibrium is where Y = A / (1 − c):

\( \displaystyle Y^* = \frac{60}{1 - 0.75} = 240 \)

At any output above 240, AD is still below output, so output keeps falling towards Rs 240 crore.

Option (1) Ex ante aggregate demand is Rs 1,560 crore; unsold stocks pile up, and output will fall to Rs 1,560 crore and stay there. — Incorrect. At output 1,560, AD = 60 + 0.75 × 1,560 = 1,230, still below output. So output does not stay at 1,560.

Option (2) Ex ante aggregate demand is Rs 1,560 crore; stocks run down, and output will rise above Rs 2,000 crore. — Incorrect. With AD below output, stocks pile up, and output falls.

Option (3) Ex ante aggregate demand is Rs 1,560 crore; unsold stocks pile up, and output will fall towards Rs 240 crore. — Correct. AD is 1,560, stocks pile up, and output falls to the equilibrium of 240.

Option (4) Ex ante aggregate demand is Rs 560 crore; unsold stocks pile up, and output will fall towards Rs 240 crore. — Incorrect. AD is 60 + 1,500 = 1,560; 560 uses the MPS by mistake (60 + 0.25 × 2,000).

NCERT (2026-27): “4.2 Determination of Income in Two-sector Model … If ex ante demand for final goods falls short of the output of final goods that the producers have planned to produce in a given year, equation (4.3) will not hold. Stocks will be piling up in the warehouses which we may consider as unintended accumulation of inventories. …”

“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.”