Question

Given below are two statements
Statement I: In relative income theory of consumption, APC will be constant.
Statement II: Immaturing growth theory refers to a country, where gains of growth are more than terms of trade.
In the light of above statements, choose the correct answer from the options given below:

• A. Both Statement I and Statement II are correct
• B. Both Statement I and Statement II are incorrect
• C. Statement I is correct but Statement II is incorrect
• D. Statement I is incorrect but Statement II is correct

Hint:

Duesenberry's relative income theory explains that APC fluctuates in the short run due to the ratchet effect. "Immiserizing growth" describes a situation where a country's economic growth is offset by a decline in its terms of trade, making it worse off overall.

Answer 1

The Correct Option is B

Step 1: Understanding the Concept:
To evaluate these statements, we must analyze the macroeconomic theories of consumption and international trade.
This includes James Duesenberry's Relative Income Hypothesis and Jagdish Bhagwati's theory of Immiserizing Growth.

Step 2: Detailed Explanation:
Let us analyze each statement:
1. Statement I describes the Relative Income Hypothesis.
Duesenberry's Relative Income Hypothesis states that an individual's consumption behavior depends on their income relative to their neighbors (demonstration effect) and their own past peak income (ratchet effect).
According to this theory, the Average Propensity to Consume (APC) is constant in the long run.
However, in the short run during economic cycles, the APC is not constant; it fluctuates as individuals try to maintain their consumption standards when income falls.
Therefore, stating simply that the "APC will be constant" without qualification is incorrect.
2. Statement II contains a terminology error and conceptual error.
The theory described is actually "Immiserizing Growth" (misspelled as "Immaturing Growth" in the question), developed by Jagdish Bhagwati.
Immiserizing growth occurs when economic growth in a country leads to a significant increase in the supply of its export goods, which worsens the country's terms of trade.
If the loss from the decline in the terms of trade exceeds the gains from the economic growth, the country becomes worse off after growth.
Therefore, the statement claiming gains of growth are more than terms of trade is conceptually incorrect.
Thus, both statements are incorrect.

Step 3: Final Answer
Both Statement I and Statement II are incorrect.