Theory #1: Demand Pull Inflation
In the economy, one of the big issues that gets a lot of press coverage is inflation. Inflation is a phenomenon in which the purchasing power of a currency decreases compared to the cost of goods. There are many different theories that aim to determine exactly what causes inflation. One of the more commonly used arguments by Keynsian’s is known as demand pull inflation. What exactly is demand pull inflation and why is it important?
John Maynard Keynes
“Keynesian economics advocates a mixed economy — predominantly private sector, but with a significant role of government and public sector — and served as the economic model during the later part of the Great Depression, World War II, and the post-war economic expansion (1945–1973), though it lost some influence following the tax surcharge in 1968 and the stagflation of the 1970s. The advent of the global financial crisis in 2008 has caused a resurgence in Keynesian thought.”
Theory #2: Cost Push Inflation
- Also known as supply side inflation.
- it means the cost of production has increased hence the price of products have increased.
What are the factors responsible?
Increase in the tax
1. Finance Minister reads the newspaper headline – Indians have more mobile phones than toilets. So he thinks, why not increase the excise duty on the mobile phones and use that Revenue to give more funds under “total sanitation campaign “ (TSC). That’ll help in building more toilets on the villages.
Reduced availability of raw material
Consider the case of onion
- A. Increase the per plate price of pau-bhaaji or
- B. Keep the per plate price same as usual but reduce the quantity of onion given, so that you’ve to pay extra for the extra ‘supply’ of onion salad.
The Supply of rice is same, the disposable income in your wallet is same, but the restaurant owner wants higher profit margin, so he decreases the size of every Idli , but your hunger remains the same, so you’ll order more idlies and end up paying higher bill.= Inflation.
1. The restaurant owner may not be the real-culprit here. Perhaps he is that daddy from the “demand pull pulsar bike” case: He had to increase the pocketmoney of his kid for that axe-perfume, SRK’s skin whitening cream and John Abraham’s sun-screen lotion.
1. Demand-pull inflation may be caused by:
An increase in costs
A reduction in interest rates.
A reduction in government spending.
An outward shift in aggregate supply
Always reduces the cost of living
Reduces the purchasing power of a rupee.
Always reduces the standard of living.
Reduces the purchasing power of a pound.
3. An increase in injections into the economy may lead to:
“An outward shift of aggregate demand and cost-push inflation”; “unilateral transfer made”
“An outward shift of aggregate supply and demand-pull inflation”; “exports”
“An outward shift of aggregate demand and demand-pull inflation”
“unilateral transfer made”; “An outward shift of aggregate supply and cost-push inflation”
4. An increase in aggregate demand is more likely to lead to demand-pull inflation if:
Aggregate supply is perfectly elastic
Aggregate supply is unit elastic
Aggregate supply is relatively elastic
Aggregate supply is perfectly inelastic.
5. An increase in costs will:
Shift aggregate supply
Shift aggregate demand
Reduce the natural rate of unemployment
Increase the productivity of employees
6.The effects of inflation on the price competitiveness of a country’s products may be offset by:
“exports of goods”
“An appreciation of the currency”
“A revaluation of the currency”
” Lower inflation abroad”
7. Menu costs in relation to inflation refer to:
Costs of finding better rates of return
Costs of money increasing its value
Costs of altering price lists
Costs of revaluing the currency
8. If we compile data in a country’s exports and imports of goods and services, its unilateral transfers, and its long-term capital account, the resulting net credit or net debit account would be called that country’s _____.
Nominal wages are equal to expected wages
Nominal wages are growing faster than inflation
Real wages are back at long-run equilibrium level
Inflation is higher than the growth of nominal wages