Inflation and Deflation

C.2 Inflation and Deflation

Demand-Pull Inflation: Occurs when aggregate demand exceeds aggregate supply.
- Example: Post-WWII recovery in the US (1945–1950)
Cost-Push Inflation: Caused by increases in production costs (wages, raw materials).
- Example: Oil price shocks (1973, 1979)
Built-In Inflation: Result of adaptive expectations and wage-price spirals.
- Example: Post-1970s US inflation
Monetary Inflation: Increase in money supply leads to higher prices.
- Example: Hyperinflation in Zimbabwe (2008)
Exchange Rate Fluctuations: Depreciation of currency increases import prices.
- Example: Indian Rupee depreciation (2013)
Government Policies: Fiscal deficits and excessive money supply.
- Example: India’s fiscal deficit (2011–2012)

Demand-Side Deflation: Reduction in aggregate demand leads to falling prices.
- Example: Great Depression (1929–1933)
Supply-Side Deflation: Increase in supply without demand growth.
- Example: Post-WWII Japan (1950s–1990s)
Technological Advancements: Lower production costs and increased efficiency.
- Example: Industrial Revolution (18th–19th century)
Globalization: Increased competition and lower prices.
- Example: China’s manufacturing boom (1980s onward)
Monetary Contraction: Reduction in money supply.
- Example: US Great Depression (1930s)

Policy Tool	Description	Example
Monetary Policy	Central banks raise interest rates to reduce money supply.	RBI’s repo rate hikes (2016–2018)
Fiscal Policy	Government reduces spending or increases taxes.	India’s fiscal consolidation (2010–2015)
Supply-Side Policies	Encourage production and reduce costs.	India’s Make in India initiative (2014)
Exchange Rate Management	Intervene in foreign exchange markets to stabilize currency.	RBI’s foreign exchange intervention (2013)
Price Controls	Direct government intervention to cap prices.	India’s price controls on essential goods (1970s)

Policy Tool	Description	Example
Monetary Policy	Central banks lower interest rates to increase money supply.	RBI’s repo rate cuts (2012–2013)
Fiscal Policy	Government increases spending or reduces taxes.	India’s stimulus packages (2008–2009)
Aggregate Demand Stimulation	Boost consumer and business spending.	US New Deal (1933–1938)
Investment Incentives	Encourage private sector investment.	India’s Production Linked Incentive (PLI) scheme (2020)
Debt Relief	Reduce burden on borrowers to stimulate spending.	India’s farm loan waiver (2008)

Impact	Description	Example
Reduced Purchasing Power	Consumers can buy less with the same income.	India’s inflation (2011–2012)
Uncertainty and Instability	Businesses and investors face higher risk.	US inflation (1970s)
Income Redistribution	Fixed-income earners lose out.	India’s pensioners during high inflation
Encourages Investment	High inflation can incentivize investment.	US inflation (1950s)
Hyperinflation	Severe loss of currency value.	Zimbabwe (2008)

Impact	Description	Example
Reduced Consumer Spending	People delay purchases, leading to lower demand.	Great Depression (1929–1933)
Increased Debt Burden	Real value of debt rises, leading to defaults.	Japan’s deflation (1990s–2010s)
Lower Investment	Businesses cut back on capital expenditures.	US Great Depression (1930s)
Stagnation and Recession	Prolonged deflation can lead to economic stagnation.	Japan’s “Lost Decades” (1990s–2010s)
Encourages Saving	Consumers save more due to falling prices.	Post-WWII Japan (1950s)

Inflation: General increase in prices and fall in purchasing value of money.
Deflation: General decrease in prices and rise in purchasing value of money.
Hyperinflation: Extremely high inflation, often over 50% per month.
Stagflation: Combination of high inflation and high unemployment.
Demand-Pull Inflation: Inflation caused by excess demand.
Cost-Push Inflation: Inflation caused by rising production costs.
Built-In Inflation: Inflation due to expectations of future inflation.

1973 Oil Crisis: Triggered global inflation.
1979 Oil Crisis: Further fueled inflation in the US.
1980s US Inflation: High inflation controlled through tight monetary policy.
1990s Japan: Prolonged deflation and economic stagnation.
2008 Global Financial Crisis: Caused deflationary pressures in many economies.
2011–2012 India: High inflation due to fiscal deficits and currency depreciation.
2020–2021 India: Inflation due to supply chain disruptions and increased money supply.

Q: What is the main cause of inflation?
A: It can be due to demand-pull, cost-push, or built-in factors.
Q: What is the main cause of deflation?
A: It is often due to reduced aggregate demand or supply-side factors.
Q: What is the difference between inflation and deflation?
A: Inflation is a general rise in prices; deflation is a general fall in prices.
Q: What is hyperinflation?
A: It is extremely high inflation, often over 50% per month.
Q: Which policy tool is used to control inflation?
A: Monetary policy (raising interest rates) and fiscal policy (reducing government spending).
Q: Which policy tool is used to control deflation?
A: Monetary policy (lowering interest rates) and fiscal policy (increasing government spending).