INFLATION & STAGFLATION
Definition According to Sir J.M. Keynes, “The True Inflation Refers To The Rise In The Price Levels After The Point Of Full Employment.”
Features Of Inflation • Inflation is a dynamic process.• This process is not recognizing in its initial stage. A stage increase in price level is
not termed as inflation instead of continue .Increase in price is inflation.• Increase in price always takes place in broader area, means to say, inflation
generally causes increase in prices of al l commodities, not only in prices of so me special goods.
• The main characteristics of inflation is surplus of demand over supply• Inflation hits the middle and poor class of society It results in decline the
purchasing power of consumers.
PROF. D.C. ROWAN
R(i) = p(f) R(i)= the rate of inflationP = the price levelF and (1-f)=the period of calendar time of observation = the change to be observed
p(1-F) * 100
Cause Of Inflation • As inflation is a continuous rise in the general price level, it is
mainly caused by: The increase in demand, and/or. The increase in cost of production. Thus, the two important causes of inflation.
Demand-Pull Inflation Cost-Push Inflation
Demand Pull Inflation Demand-Pull Inflation is also called Excess-Demand Inflation.
Demand-Pull Implies that Demand for Goods and Services is Pulled Above the Capacity of the Economy to Produce Goods and Services in a Given Period.
It refers to that types of inflation which arises due to aggregate demand for goods and services being more than the supply of goods and services.
Diagram
Q
P2
P1
P
Y
0 X
S
E2
E1
E
D2
D1
D D2
D1
DS
PRICE
LEVEL
REAL OUPUT
Factors Responsible For The Demand Pull Inflation
Increase In Money Supply
Size Of The Population
Credit Creation
Black Money Export Trade Public Dept.
Cost Push Inflation Cost- push inflation refers to the rise in the price level due to a rise in
cost of production.
Contrary to demand pull inflation, some economists are of the opinion that a rise in cost of production is the root cause for inflation and this inflation is also termed as “ cost inflation.”
The price level rises due to the rise in the cost of production, when the factor owners tend to raise factor prices or increase their share in total output.
DiagramY
P4
P3P2
P1P
S
D2
D1
D G
F
S2
S1
S
Q Q1 Q2
D1
D2
D
XREAL OUPUT
PRICE
LEVEL
E2
E1
E
O
Factors Responsible For The Cost Push Inflation
Higher Wages
Material Costs
Profit Margin
Natural Calamities
Other Factors
Inflationary Gap:• In order to analyse the pressure of inflation, the concept of inflationary gap
was introduced by J.M. Keynes in his pamphlet “How to pay for the war.”• The inflationary gap refers to an excess of anticipated aggregate
expenditure out of the disposal income of the people over the money value of available aggregate output of goods and services at their base-year or constant prices.
• In the simple words, the inflationary gap is the difference between the aggregate money demand for the consumer goods and services and their supply.
Diagram:-
F
R
0 Y Y1 Y2
45
E2C1+I1+G1
C+I+G
C
Y=E
F1E1
E
INCOME (Y)
EXPENDITURE(E)
Y
X
• Inflation is concerned with –• 1)Rapidly rise in the prices of goods and services, and• 2)Consequently fall in the value of money
Effects Of Inflation
On Production On Distribution On Socio-Political Stability Decrease in value of money Wages and Salary earners Class-ConflictDecrease in value foreign investment Fixed income groups Political-instability Hoarding of essential goods Entrepreneurs
• Inflation is concerned with –• 1)Rapidly rise in the prices of goods and services, and• 2)Consequently fall in the value of money
Measures to Control Inflation
Money measures Fiscal measures Miscellaneous measures Bank Rate Government Expenditure Expansion on Output Government Securities Taxation Wage Policy Cash Reserve Ration Public Borrowing Price Control and Rationing
Deflation:• On the contrary to inflation, deflation is a situation occurs with a continuous fall in
the general level of prices.• A.C Pigou defines the deflation as…….• “A state of falling prices which occurs at the time when the output of goods and
services more rapidly than the volume of money income in the economy.”• After the 1930’s depression, deflation has become very rare situation to the world.
Usually, deflation may results in:1. A continuous fall in the general price level,2. An increase in the value of money, 3. An increase in the unemployment,4. A decline in effective demand, and 5. The adverse effects on the economy.
Stagflation• Stagflation refers to the situation when a high inflation
occurs along with high unemployment.• The term ‘stagflation’ was coined in the seventies (1973)
in several developed countries, when the rapid increase in oil prices lead to sharp increases in the prices of manufactured goods, and the real GNP declined while the rate of unemployment increased.
DiagramAS1
AS
AD
AD1AS1
AS
E1
E
Q1 Q
P1
P
0 X
Y
REAL OUPUT
PRICE
LEVEL