Consider the following statements :
1. An additional spending by the Government of ₹ X is likely to have less impact on income than an additional transfer of ₹ X to households.
2. An additional spending by the Government of ₹ X is likely to have less impact on income if it is not accompanied by an expansion in money supply.
Which of the statements given above is/are correct?
Analyzing Statement 1: Government Spending vs. Transfer Payments
Statement 1 compares the impact of direct government spending with transfer payments on national income. Let's consider an additional amount of money, denoted as '\( \X \)'.
- Direct Government Spending: When the government spends '\( \X \)' (e.g., on infrastructure projects, public services), this amount is directly injected into the economy as demand for goods and services.
- Transfer Payments: When the government gives '\( \X \)' as a transfer (e.g., subsidies, welfare payments) to households, households receive this money. However, they will typically spend only a fraction of it, based on their Marginal Propensity to Consume (MPC), and save the rest. The initial spending generated from the transfer is '\( \X \times \text{MPC} \)'.
Since the MPC is always less than 1, the initial increase in aggregate demand from a transfer payment of '\( \X \)' is less than the initial increase in aggregate demand from direct government spending of '\( \X \)'. Therefore, direct government spending is generally considered to have a larger, not lesser, impact on income than an equivalent amount in transfer payments.
Conclusion for Statement 1: The statement claims government spending has *less* impact, which contradicts standard economic principles. Thus, Statement 1 is incorrect.
Analyzing Statement 2: Government Spending and Money Supply
Statement 2 relates the impact of government spending on income to the expansion of the money supply.
- Government spending is a form of fiscal policy. Its effectiveness in boosting income (aggregate demand) can be influenced by monetary policy.
- Scenario: Spending without Money Supply Expansion: If government spending increases without a corresponding increase in the money supply, it might lead to higher demand for money. This could potentially increase interest rates. Higher interest rates can discourage private investment (a phenomenon called "crowding out"), thereby reducing the overall positive impact on national income. The impact relies heavily on the fiscal multiplier, influenced by factors like taxes and savings.
- Scenario: Spending with Money Supply Expansion: If the government spending is accompanied by an expansion of the money supply (e.g., the central bank buys government bonds), it can help keep interest rates lower or even decrease them. This accommodates the fiscal expansion, potentially mitigating the crowding-out effect and allowing for a larger increase in aggregate demand and national income.
The statement argues that the impact on income is *less* if spending is *not* accompanied by money supply expansion. This aligns with the understanding that accommodating monetary policy generally enhances the effectiveness of fiscal policy.
Conclusion for Statement 2: The impact of government spending is generally considered to be less pronounced when it is not supported by an expansion in the money supply, due to potential interest rate hikes and crowding out effects. Thus, Statement 2 is correct.
Final Conclusion
Based on the analysis of both statements:
- Statement 1 is incorrect.
- Statement 2 is correct.
Therefore, only Statement 2 is correct.
Similar Questions
- With reference to the continent of 'Antarctica' which of the following statements are correct?
1. It is larger than Europe in terms of area.
2. It has the highest average elevation as compared to all other continents.
3. Mt. Ross is the highest peak of this continent.
4. Waters of the Southern Ocean (West Wind Drift) move in an anticlockwise direction around it.
Select the answer using the code given below :
Important Questions from Economic Planning-India
Which of the following has/have occurred in India after its liberalization of economic policies in 1991?
1. Share of agriculture in GDP increased enormously.
2. Share of India's exports in world trade increased.
3. FDI inflows increased.
4. India's foreign exchange reserves increased enormously.
Select the correct answer using the codes given below:
The main objective of the 12th Five-Year Plan is
Which of the following are associated with ‘Planning’ in India?
(1) The Finance Commission
(2) The National Development Council
(3) The Union Ministry of Rural Development
(4) The Union Ministry of Urban Development
(5) The Parliament
Select the correct answer using the code given below.
Economic growth is usually coupled with:
Consider the following statements:
1. National Development Council is an organ of the Planning Commission.
2. The Economic and Social Planning is kept in the Concurrent List in the Constitution of India.
3. The Constitution of India prescribes that Panchayats should be assigned the task of preparation of plans for economic development and social justice.
Which of the statements given above is/are correct?
