Inflation is a consistent and appreciable rise in the general price level. In other words, inflation is the rate at which the general level of prices for goods and services is rising and consequently the purchasing power of currency is falling.

Also refer:

Terminologies associated with inflation https://fotisedu.com/terminologies-associated-with-inflation/

Inflation – its effects https://fotisedu.com/inflation-its-effects/

Inflation – Measures of control https://fotisedu.com/inflation-measures-of-control/

What is Demand-Pull Inflation?

Demand-pull inflation occurs when demand for goods and services exceeds supply in the economy. While demand increases, the supply of goods and services available for purchase may remain the same or drop.

Demand-pull inflation causes upward pressure on prices due to shortages in supply, a condition that economists describe as too many dollars chasing too few goods. An increase in aggregate demand can also lead to this type of inflation.

A low unemployment rate is unquestionably good in general, but it can cause inflation because more people have more disposable income.

Although increased government spending is good for the economy, it may lead to a scarcity of certain goods followed by inflation.

What is Cost-Push Inflation?

Cost-push inflation (also known as wage-push inflation) occurs when overall prices increase (inflation) due to increases in the cost of wages and raw materials. Higher costs of production can decrease the aggregate supply (the amount of total production) in the economy. Since the demand for goods hasn’t changed, the price increases from production are passed onto consumers creating cost-push inflation.

Causes of inflation

The main causes of inflation are as follows:

i) Increase in Money Supply:

Inflation is caused by an increase in the supply of money which leads to increase in aggregate demand. The higher the growth rate of the nominal money supply, the higher is the rate of inflation.

ii) Increase in Disposable Income:

When the disposable income of the people increases, it raises their demand for goods and services. Disposable income may increase with the rise in national income or reduction in taxes or reduction in the saving of the people.

iii) Increase in Public Expenditure:

Government activities have been expanding due to developmental activities and social welfare programmes. This is also a cause for price rise.

iv) Increase in Consumer Spending:

The demand for goods and services increases when they are given credit to buy goods on hire-purchase and installment basis.

v) Cheap Money Policy:

Cheap money policy or the policy of credit expansion also leads to increase in the money supply which raises the demand for goods and services in the economy.

vi) Deficit Financing:

In order to meet its mounting expenses, the government resorts to deficit financing by borrowing from the public and even by printing more notes. This raises aggregate demand in relation to aggregate supply, thereby leading to inflationary rise in prices. (Deficit induced inflation)

vii) Black Assests, Activities and Money:

The existence of black money and black assests due to corruption, tax evasion etc., increase the aggregate demand. People spend such money, lavishly.

Black marketing and hoarding reduces the supply of goods. These trends tend to raise the price level further.

viii) Repayment of Public Debt:

Whenever the government repays its past internal debt to the public, it leads to increase in the money supply with the public. This tends to raise the aggregate demand for goods and services. (Currency inflation)

ix) Increase in Exports:

When exports are encouraged, domestic supply of goods decline. So prices rise. (Scarcity induced inflation).

For more information https://hbr.org/2022/12/what-causes-inflation

PRACTICE QUESTIONS

QUES 1 . A rise in general level of prices may be caused by: UPSC 2013

(1) an increase in the money supply

(2) a decrease in the aggregate level of output

(3) an increase in the effective demand

Select the correct answer using the codes given below.

(a) 1 only

(b) 1 and 2 only

(c) 2 and 3 only

(d) 1, 2 and 3

Show Answer

QUES 2 . Which one of the following is likely to be the most inflationary in its effect? UPSC 2013

(a) Repayment of public debt

(b) Borrowing from the public to finance a budget deficit

(c) Borrowing from banks to finance a budget deficit

(d) Creating new money to finance a budget deficit

Show Answer

QUES 3 . With reference to the Indian economy, demand-pull inflation can be caused/increased by which of the following? UPSC 2021

1 . Expansionary policies

2 . Fiscal stimulus

3 . Inflation-indexing wages

4 . Higher purchasing power

5 . Rising interest rates

Select the correct answer using the code given below.

(a) 1, 2 and 4 only

(b) 3, 4 and 5 only

(c) 1, 2, 3 and 5 only

(d) 1, 2, 3, 4 and 5

Show Answer