Contents

Chapter-1 Introduction 1-2

Chapter-2 National Income Accounting 3-13

Chapter-3 Determination of Equilibrium Level of National 14-17

Income
Chapter-4 Commodity Market & Money Market 18-22
Equilibrium
Chapter-5 Money 22-30

Chapter-6 Inflation 31-32

Chapter-7 Unemployment 33-36

 Chapter - 1

Basic concepts of Economic:

Economic:
It in the study of social science that how human Work together to covert limited resource into
good & Services to satisfy their wants.

Micro v/s Macro

Micro Macro
1. Micro (Greek word) which mean tiny 1. Macro (Creek word) which mean large
2.Individual (Particular unit) 2.Ecomory as a whole
factor Pricing Inflation
Demand & supply total investment & searing
Market Equity. Employment
Elasticity, etc National Income, etc

Stock v/s Flow

Stock Glow
1. It in measured at a particular point. 1. It is measured over a period of time.
2. Not a time dimension 2. Time demeton
3. It impacts on flow (directly) 3. It impact on stock (directly)
4. it attic in nature 4. Dynamic in mature.

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Demand:
Demand refers to the quantity of the commodity that a commodity is willing & able to
Purchase at a given Price in a time period.

Open v/s Closed economy

Closed economy open Economy
1.Within the domestic territory. 1. Domestic territory + Rest of the world
2.household + firm + Govt.
C+ I = G C + I + G (X - M)
[2 Sector Closed Economy (C5)]

So, 2 Sector economy C + I

3 Sector Economy C + I + C1

Capital Goods:
Capital Goody are physical assets which in mic in the production process to manufacture
products & Services that consumers will later use.

Example= Building, machineries, Equity. Etc.

Capital goods are not finished goods, instead they are used to make finished goods.

Consumer Goods:
Consumer goods are Products bought for consumption by the average goods Consumer. Also
called final goods, Consumer. goods are the end result of Production & manufacturing.

Example = Clothing, food product etc.

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 Chapter- 2

National Income Accounting

Concepts/Definition.
National Income in the sum total of factor- income earned by normal resident of a country
during the period of one year.
It is also defined as the hum fatal of mkt value of goods & services produced by normal
resident of the economy.

Principal Method of NI:

Total output of the economy equal to total expenditure of the economy equals to total
income of the economy.

Prod = EP Income.

measurement of National Income by center statistical organisation (CSO)

Gross Domestic Product (GDP):

GDP in the monetary value of all final goods & services produced in the domestic territory of
an economy during a financial year.

Domestic territory includes:

➢ Physical boundaries / political frontier/Geographical boundaries.
➢ 12 nautical miles of Water territorial from India geographical boundaries (1 Nm = 1852
m).
➢ 188 Nm (200-12) of Oil & National gal from India a Geographical boundaries.
➢ Aircraft shipment owned & controlled by India.

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 Sectors:

Primary (Agriculture).
secondary (Industrial) Total Production X price = Money value
Territory (Service)

All money value of service + Domestic territory = GDP.

• Nominal GDP/GDPMP / Current year GDP ------ Current year Production X Current year
Price

• Real GDP / Bose year GDP/ GDP at constant year ----- Production of current year X
Base year price.

Note:

❖ It nothing NOP. In mention, then we consider Nominal GDP/ NDP.

❖ Net factor Income from Abroad (NFIA) – Income from Abroad - Income paid to Abroad
❖ Gross Domestic Product + NFSA = Gran National Product (GNP)
❖ Gross National Product - Dep = Net National Product (NNP)
❖ NN PMP – NIT (Net Indirect tax) NNPFC/N9
❖ NIT = Indirect tan- Subsides.

•Difference between final goods & Intermediate goods.

Final goods Intermediate Goods.

Two types of final goods are there. 1. These goods are used by the Producers as
1.consumer goods. These goods are used by a raw material.
the consume for there direct Satisfaction of Resale of good in possible
wants. value addition.

2.Capital goods these good, are used by the 2. Not included in National Income
producer. For further production

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 Re-Sale of goods in not possible
Not possibility of value. Addition
Including in National income.

Difference between domestic Income, Private Income Personal Income & Personal Disposable
Income

Domestic income - It include

1.Income from domestic product occurring to Private Sector

2.Income from domestic product occurring to public sector.

• Income from entrepreneurship & property of the govt. occurring to administrative

department
• Nom Departmental saving.

Private Income - It Include -

❖ income from dimictic product occurring to private sector.

❖ NFIA
❖ National debt. Interest
❖ Net Current transfers from the govt.
❖ Net Current transfers from the Rest of the world.

Personal income-

❖ Private Income
❖ Dividend Corporate Tam
❖ Undistributed Profit
❖ Personal income.

Personal Disposable Income

❖ Personal income
❖ Personal tax
❖ Mise receipt to the govt.
❖ Personal Disposable Income

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 Nominal GDP v/s Real GDP
Nominal GDP Real GDP
Nominal GDP is the money. Value of all final Real GDP in the money. Value of all final
goods. & Services valued at a market price good & Services valved at bore year price
produced within the domestic territory produced with in the dogmatic territory
within A/C Year during 1 A/C year

It Change due to Change in output & price It Change due to Change in output.

Nominal CNP V/S Real GND

Nominal Real
Nominal CNP in the money Value of final Real CNP in the money value of final Goods
goods & service. Valued at market Price & services valued year price produced. In
Produced in the country. Inside and outside the Country (inside or outside / both)
during 1 A/C year. during. 1 A/c year.

It does not consider inflation ben It considers inflation on adjustment while

adjustment while counting Counting

GDP/Implicit deflater:
✓ It in the ratio of nominal GDP and Real GDP.
✓ It helps to measure rate of inflation
𝐍𝐨𝐦𝐢𝐧𝐚𝐥 𝐆𝐃𝐏
GDP deflator = X100
𝐑𝐞𝐚𝐥 𝐆𝐃𝐏

Methods of calculating National Income:

1. Production Method A. final product method
B. Output/value added method

2 Income Method factor income method

3 Expenditure method Costing Method

A. Value added method

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Gran Value Added in the Primary sector At Market Price + gross value added in the secondary
sector at market price + gross value added in the territory sector at market price

B. Income method
Compensation of employees + operating surplus + mixed income + NFIA

C. Expenditure Method
Private final compensation expenditure + Govt final compensation expenditure + gross
domestic final capital formation + stock + net explore

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 Circular flow of Income

In two sector economy:

✓ In simple economy if there in two sector household. And firm then transaction
between these tub sector will lead to a circular flow of income.
✓ The real flow implies the flow of goods and services. Ac ran different sector of
economy and
✓ Money flow of money in the form of experience on Goods and services.

Note:

• All economic decision is taken by how hold and firm.

• Production takes place in firm and hold to household.
• household are the suppliers of factor of product in
• household spend money to purchase goods produce by the firm.

Three Sector Model:

Calculation of Personal Income from NI & dogmatic income:

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 1.IN - Personal Income 2. Domestic income - Personal
income
NI
Public Sector Income Domestic income

Private sector income - public sector income

+ All kind of transfer Private sector income

Total Private sector income. +NFIA

(~) Profit +all kind of transferred income
Personal income Total private sector income

-profit
Personal income

Practical Problems
Illustration 1.

From the following data, calculate Net value added at factor cost.

Particulars In Crores
(i) Total Sales 1,00
(ii) Decrease in Stock 70
(iii) Production for Self-Consumption 120
(iv) Purchase of raw materials 300
(v) Exports 150
(vi) Electricity Charges 50
(vii) Income Tax 20
(viii) Goods and Services Tax (GST) 70
(ix) Subsidy 40

Solution:

Calculation of Value Added In crores

VALUE OF OUTPUT 1120
Change in Stock -70
1050
Less
VALUE OF INTERMEDIATE CONSUMPTION 350

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 VALUE ADDED 700

CALCULATION OF GROSS VALUE ADDED AT FACTOR COST

GDP MP (Gross Value Added at Market Price) 700

Less
Net Indirect Taxes 30
Gross Value Added at Factor Cost 670
Less Depreciation 0
Net Value Added at Factor Cost 670

Illustration 2.

From the following data, calculate National Income by Income and Expenditure Methods:

Particulars In Crores
Government final consumption expenditure 100
Subsidies 10
Rent 200
Wages and salaries 600
Indirect taxes 60
Private final consumption Expenditure 800
Gross domestic capital Formation 120
Social security contribution by employer 55
Royalty 25
Net factor income paid to Abroad 30
Interest 20
Consumption of fixed Capital 10
Profit 130
Net exports 70
Change in Stock 50

Solution:

Calculation of National Income

Different Factor Incomes

Rent 200
Interest 20
Royalty 25
Compensation to Employees 655
Profit 130
Mixed Income 0

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 Total (Domestic Income NDPFC) 1030
Add NFIA -30
NNP FC (National income) 1000

EXPENDTITURE METHOD

CALCULATION OF TOTAL EXPENDITURE Amount (in Crores)

Private Final Consumption Expenditure 800
Government Final Consumption Expenditure 100
Gross Domestic Capital Formation 120
Net Exports** 70
GDP MP 1090
Less
Net Indirect Taxes (Tax-Subsidy) 50
GDP FC 1040
Less
Depreciation 10
NDP FC 1030
Add
NFIA -30
NNP FC 1000

Illustration 3.

Firm A Sells to firm B for Rs 50 crores and for Rs 70 crores to provide consumption.
Firm B sells for Rs 80 crores to firm C. Firm C sells for Rs 100 Crores to provide consumption.

Calculate value added by Firm A, Band C.

Solution:

CALCULATION OF VALUE ADDED A B C

Sales 50 80 0
Change in stock 0 0 0
Goods used for self-consumption 70 0 100
VALUE OF OUTPUT 120 80 100
Less
Raw Materials from domestic market 0 50 80
VALUE OF INTERMEDIATE
CONSUMPTION 0 50 80

VALUE ADDED 120 30 20

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Illustration 4.

Calculate the Operating Surplus.

Particulars In Crores
(i) Sales 4000
(ii) Compensation of Employees 800
(iii) Intermediate Consumption 600
(iv) Rent 400
(v) Interest 300
(vi) Net indirect taxes 500
(vii) Consumption of fixed Capital 200
(viii) Mixed income 400

Solution:

Operating Surplus Sales – Intermediate

Consumption- Net indirect tax - Dep - Compensation to employees - Mixed Income

Operating Surplus = 4000 – 600 – 500 – 200 -800-400

Operating Surplus = 1,500 Crores.

Illustration 5.

Calculate National Income by Income and Expenditure method.

Particulars In Crores
Final Consumption Expenditure
Private Sector 350
Government Sector 100
Mixed income of self Employed 35
Gross domestic fixed capital formation 70
Opening stock 15
Compensation of employees 250
Closing stock 25
Imports 20
Rent 75
Consumption of fixed Capital 10
Net indirect taxes 25
Interest 25
Net factor income from Abroad -5
Exports 10
Profit 100

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Solution:

Calculation of National Income

Different Factor Incomes

Rent 75
Interest 25
Compensation to Employees 250
Profit 100
Mixed Income 35
Total (Domestic Income NDPFC) 485
Add NFIA -5
NNP FC (National income) 480

EXPENDTITURE METHOD

CALCULATION OF TOTAL EXPENDITURE Amt (in Crores)

Private Final Consumption Expenditure 350
Government Final Consumption Expenditure 100
Gross domestic capital formation 70
Net Exports -10
GDP MP 510
Less
Net Indirect Taxes (Tax-Subsidy) 25
GDP FC 485
Less
Depreciation 10
NDP FC 475
Add
NFIA -5
NNP FC 480

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 Chapter- 3

Determination Of Equilibrium Level of National Income

PARADOX OF THRIFT:
According “to Prob Keynes. saving in the good habit but at a individual level, Not for the
whole of the economy in the long term.
Saving ↑ consumption ↓ AD↓ – Production - Employment ↓ capita income ↓ – National
income↓ – Pre capital income↓
 Saving As whole ↓

Introduction:
it all the people in the economy Shorts to have more on a result I’m the long-term total
Saving of the economy will reduce and economy will be in the position of deflation.

Multiplier theory:
Investment Multiplier – Introduced by Prof Keynes ·
It in the ratio of Change in income (Y) due to change in investment (I).
𝜟𝒚
𝟏𝑴 =
𝜟𝑰

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Process of investment Multiplier:
1. MPC = 80% = 0.8
2. Auto monocles Investment in done by govt. of sum of 100 c

ΔΙ ΔY ΔE ΔS

100 cr initial investment 100 cr to contractor 80 cr (100 % 80) 20 cr

80 cr to receiver 64 cr (80 x80) 16 cr

64 cr to receiver 51.2 cr (64 x80%) 12.8 cr

Limitation of investment multiplies / leakage

• Paying Of debts
• holding of ideal Cash balance / Demand for money.
• Imports
• Taxation
• MPC may not be constant always.
• Increase in Price

Government Expenditure Multiplies (GEM):

Government Expenditure Multiplier refers to ratio of Change in national income (ΔY) due to
Change in autonomous gout expenditure.

𝜟𝒚
GEM =
𝜟𝑮

Consumption in Positively sloped and corelated with Income (y) and also it in depend on
disposable. Income.
E= (yd) yd=Disposable income.
E=(y-T)

Investment in autonomous and endogenously given government exp-in autonomy and

exogenously. Given. To weaver

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Govt Exp: changes to get Govt exp. Multiplied (i.e., Govt exp in most constant)
Tax in lump sum i.e., fined / content

Economy in closed i.e. No foreign sector.

In Equilibrium:
Y= C+ I+ G
Y= e (y-r) + dI + dG
dY = e (dy-dt) + dI + dG
dY = (ed – o) + 0+ 0+ dG

dY = edy+ dG
dy (I – e) = dG = dI/dG = 1/ 1-e
GEM= 1/ 1- MPC (where e= mpc)

GEM= 1/ MPC (where MPC + MPS =1 )

We can lay that
GE in the reciprocal of MPs.

Jan Multiplies (TM):

TM refers to the ratio of 𝜟𝒚 due to 𝜟𝑻 .
𝜟𝒚
TM =
𝜟𝑻

Note:

• Same as C16 M
• govt Expenditure in autonomy us and exogenously given constant
• Some as GEM
• Same as CEM

In equilibrium
Y= C+ I+ G

Y= e (Y-T) + I + G

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dY = e (dy-dt) + dI + dG
dY = e(dy – d) + 0+ d0

dY = edy = 0- ed

dy (I – e) = dG = dI/dG = 1/ 1-e
dy/dt = e/1(1-e)
dy/dt = -MPC / 1-MPC
dy/dt = -MPC/MPS
TM = -MPC /MPS

Balanced Budget Multiplier:

In the amount of money spent by govt in exactly equal to the amount of income of the govt
balance budget.

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 Chapter:4

Money
Concept of Money:
“Money can be defined as anything that is generally acceptable as a means of exchange and
at the same me acts as a measure and as a store of values.”
So, it can be said that a material which is acceptable to all as a medium of exchange, work as
unit of measure of value, standard of deferred payment and store of value of a country in a
fixed era is called money in economics.

Concept of Money Supply:

The amount of money rotate in the economy in a fixed period of time of a country is called
supply of money.
Measures of Money Supply: Quantity of money supply can be measured with the help of four
symbols M1, M2, M3,M4, or with the help of four elements.

Money Supply M1 or Narrow Money

M1 = amount of metallic coin and paper currency with the public (c) + current deposit or
demand deposit with the bank (D.D) + other deposits with the central bank (O.D).

M1 = C+ D.D+ O.D

Money Supply M2
Aggregate of M1 and Post Office Saving Bank Deposits is called M2. ie. M2= M1, + Post Office
Saving Bank Deposits (P.O.S.B.D.)

Money Supply M3 or Broad Money

M3 = M1 +Term Deposits or Fixed Deposits of Banks (TD) = Amount of Metallic Coin and Paper
Currency with the Public (c) + Current Deposits or Demand Deposits with the Bank (D.D.) +
Other Deposits with the Central Bank (O.D.) + Term Deposits or Fixed Deposits of Banks (T.D.)

This M, is called broad money.

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Money Supply M4
M4= M1, + Post Office Saving Bank Deposits (P.O.S.B.D.) + Term Deposits or Fixed Deposits of
Bank (T.D.)

Determinants of Money Supply-High Powered Money and Money Multiplier:

1. High Powered Money:
The quantity of currency in circulation issued by the government and central bank of the
country is the high-powered money. A part of the currency issued is held by the public (Cp)
and a part is held by the banks as reserves ®. A part of the currency reserves at the bank is
held by them in their own reserves and the other part is deposited with the central bank in
the reserve accounts. So, the quantity of high-powered money (H) is the aggregate of the
currency in circulation held by the public (Cp) and the currency in circulation held by the
banks as reserves (R). Thus

H = Cp + R

2.Money Multiplier:
A degree by which total quantity of money supply is changed as a result of change in high
powered money is called money multiplier.

M=𝑴 Or M = m.H
𝑯

Thus, total quantity of money supply is determined by the value of money multiplier (m) and
the quantity of high-powered money (H).
Total quantity of money supply (M) of the economy is the aggregate of quantity of currency
in circulation held by the public (Cp) and the quantity of demand deposit of the public with
the commercial banks (D.D.).

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 Bank:

Definition of Bank:
The institution which deposits public money and creates money by giving that money as
credit to the public is called bank.

Further there exist many institutions which collect deposits from the public but those
deposits cannot be withdrawn through cheque. These financial institutions are called non-
banking financial institutions instead of treated its as bank.

Different types of banks:

➢ Central bank: Apex banking and monetary institution which controls, regulates and
stabilizes the banking and monetary system of the country is called central bank.

➢ Commercial Bank: The bank which accepts deposit from the public giving credit or for
investment and able to return that deposit as and when t depositor wants through
cheque, draft or by other means is called Commercial bank.

➢ Industrial Bank or Development Bank: The bank which mainly supply term credit to
industries is called industrial bank. In many countries this bank called development
bank.

➢ Agricultural Bank: The bank which mainly supply short term and log term credit for
different types of function related with agriculture is called agricultural bank.

➢ Co-operative Bank: The bank which is formed on the basis of co-operative is called Co-
operative Bank.

➢ International Bank: After the second world war few international banks are
established for the purpose of financial transaction at international level and to give
credit and aid to the member countries. These banks are called international bank.

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Importance of Commercial Banking System:
❖ Help to increases savings: propensity to save of the people ingresses as the
commercial bank keep the saved money of the people with full security.

❖ Help to Create Investment and Capital: Commercial banking system helps to increase
saving in one side and on the other side it also arranges for investment with hat
savings.

❖ Help in Transaction: Depositors of the commercial bank perform transaction activities

by using cheque through the clearing house which is regulated by the central bank
without any cash transaction.

❖ Help Import-Export Trade: Commercial banking system of the country helps in foreign
currency exchange activities of the importer and exporter.

❖ Help through Other Functions of Central Bank: Central bank, the apex banking of the
country helps economic development through controlling credit of Commercial banks.

Different types of banks:

Central Bank:
Apex banking and monetary institution which controls, regulates and stabilizes the banking
and monetary system of the country is called central bank. Actually, it controls the banking
system and money market of the country by staying at the highest level of the banking
pyramid of the country.

Functions of the Central Bank:

Monopoly Power Regarding Note Issue: At present, the monopoly power regarding note issue
is at the hands of central bank. Central bank determines the mount of note issue after deeply

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reviewing the speed of economic activities of the country. For example, Reserve Bank of
India.

Function as a Banker of the Government:

An important function of the central bank is to act as a banker of the government. Major
portion of government revenues are collected through central bank and major portion of
government expenditures are also disbursed through central bank.

Function as Banker of the Commercial Banks:

Central bank performs three functions as banker of the commercial banks.

Lender of the Last Resort: Central Bank gives credit to the commercial banks according to
necessity. Commercial banks need money all on a sudden due to many reasons. In this
situation if the commercial banks cannot collect liquid money from any other sources, then
central bank gives credit to the commercial banks by depositing short term securities.

Credit Control:
In credit base modern economy amount of commercial bank credit is a major part of money
supply of the country. Sometime the commercial banks create excess credit through the
objective of profits maximization principle.

Difference between the Central Bank and Commercial Banks:

Central bank enjoys monopoly power regarding note issue. But the commercial banks
have no such power.
Central bank is the apex banking and monetary institution which controls the money
market totally. In this respect, commercial banks work under the central bank.
Central bank generally does not accept deposit from the public. On the other hand,
commercial banks directly accept deposit from the public.
Central bank performs function as a banker of the government. Commercial Banks
generally cannot do this type of function.
Central bank is the banker of the different commercial banks. On the other hand,
commercial banks are the banker of the public.
Central bank does not directly issue credit to the public. But the commercial Banks
directly issue credit to the public.

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 Chapter:5

Inflation
Concept of Inflation
Inflationary situation is that economic situation in which supply of money is greater than the
supply of commodities.

Or
Inflation is that economic situation in which too much money chasing on too few goods.

Different Types of Inflation:

(a) Currency Inflation:
If the price level of the country rises continuously as a result of increase in circulated paper
currency of the economy, then that situation is called currency inflation.

(b) Credit Inflation:

If the price level of the country rises continuously as a result of excess quantity of bank credit
or bank deposit then that situation is called credit inflation.

(c) demand inflection:

If the price level of the country raises continuously as a result of increase in demands for
commodities but supply remain constant then that situation is called demand inflection.

(d) Cost Inflation or sellers’ inflection:

If the price level of country raises continuously as a result of increasing cost of production due
to increases in the price of the factors of production (lands, labours, etc.) then that situation
is called cost inflation or seller inflection.

(e) creeping inflection:

If the price level of the country raised at very slow rate, then situation is called mild or
creeping inflection.

(f) Hyper inflection:

If the price level of the country raises continuously at a rapid rate, then that situation is called
hyper inflection.

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(g) walking inflection:
If the price level of the country raised continuously and that become acuate then that
situation is called walking inflection.

Excess demand in the market may create for many reasons. Important reasons
are:
(1) Supply of Money:
Supply of money of the country may increase as a result of increase in the quantity liquid
money or as a result of increase in the amount of bank credit. Purchasing power of the
people increases due to increase in money supply of the country. As a cult amount of total
demand of the country also increases.

(2)Increase in Government Expenditure Nowadays government of all the developed and

developing countries play an important role in economic activities. As a result, sphere of
government activities creases and the expenditure of the government increases. Amount of
total demand of e country also increases due to increase in government expenditure. Price
level of the country may increase continuously or inflation may occur due to the effect of this
excess demand.

(3) Black Money:

Black money exist almost all countries of the world due to corruption, tax evasion Total
amount of demand of the country increases due to reckless spending of the people who
acquire black money. Price level of the country may also increase Continuously or inflation
may occur due to the effect of this excess demand.

(8) Expectation of the People:

Investor will increase the amount of investment if the people of the country expect that
future trade and business will developed. Expenditure on consumer goods and capital goods
of the country will increase from different angles due to increase in the amount of
investment. As a result, total amount of demand of the country also increases Price level of
the country may increase continuously or inflation may occur due to the effect of this excess
demand.

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(9) Increase in Exports:
(i)Income level of the country increases due to increase in the amount of exports. As a result
total amount of demand of the country also increases due to increase in purchasing power of
the people. Price level of the country may increase continuously or inflation may occur due to
the effect of this excess demand.

(ii) Supply Side:

1. Shortage of Factors of Production:

Production of commodity of the country may decrease due to shortage of important factors
of production e.g. labour, raw materials, energy supply, capital etc. Price level of the country
may increase continuously or inflation may occur as a result of shortage of commodity due to
decrease in production of commodity.

2. Labour Dispute:

Labour dispute is created in the country where trade union is very strong. In those countries
labour dispute is created for the realization of higher wages and other benefits. For this
sometimes labourer are being compelled to decide strike and the owners are also being
compelled to declare lockout. Due to this production of the country decreases. Price level of
the country may increase continuously or inflation may occur as a result of shortage of
commodity due to decrease in production of commodity,

3. Increase in Exports:

As a result of increase in the amount of export the opportunity of earning foreign exchange
increases in one side and on the other side supply within the country trend to decrease. But if
the demand for exportable commodity within the country exist then price level of the
country may increase continuously or inflation may occur due to deficit in supply within the
country.

4. Unbalanced Production:
If the country gives more importance on the production of comfortable and luxury
commodity and neglecting the production of very much essential consumption goods for

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livelihood then price level of the country may increase continuously or inflation may occur
due to deficit in the supply of essential consumption goods.

Keynesian Theory of Demand-Pull Inflation: Inflationary Gap:

Price of majority commodities of any country when increases continuously then that situation
is called inflation i.e., when general price level rises continuously then the situation which is
created is called inflation.
According to Prof. Keynes under condition of full employment if the demand for commodity
increases then the price level increases continuously i.e. inflation occurs due to the effect of
excess demand. Keynesian proposition regarding inflation can be explained with the help of
inflationary gap.

What is Inflationary Gap?

According to Prof. Keynes, at full employment level of income, if the total demand for
commodity is greater than the total supply of commodity then that excess demand for
commodity is called inflationary gap key. Inflationary gap is the difference between total
demand for commodity and total supply of commodity at full employment level of income.

How Inflationary Gap Arises?

According to Prof. Keynes inflationary gap is the difference between total demand for
commodity and total supply of commodity at full employment level of income. Production
and supply of commodities of the country remain constant at full employment level and total
income also remain constant at full employment level. So the causes of inflationary gap
creation are:

1.Consumption Expenditure:
Total demand of the country is increased if the total consumption expenditure curve © shifts
to the upward direction as a result of increase in consumption expenditure. Inflationary gap
is created as a result of increase in total demand at full employment level. Total consumption
expenditure of the society may increase due to increase in population of the country, due to
change in habits and liking of the people, due to increase in average propensity to consume,
due to innovation of new products, due to increase in standard of living of the people etc.

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2. Investment Expenditure:

3. Government Expenditure:

Total demand in the country is increased if the government expenditure curve (G) shifts to
the upward direction as a result of increase in government expenditure. Inflationary gap is
created as a result of increase in total demand at full employment level.

How Inflationary Gap be Removed?

Inflationary gap can be removed by two ways. One is through direct method and the other is
through indirect method.
Central bank or government of the country may try to remove inflationary gap directly
through monetary policy or through fiscal policy. For example, central bank of the country
may reduce the inflationary gap by reducing the amount of credit through its different
methods of credit control. Again, the government of the country may reduce inflationary gap
by reducing consumption expenditure and investment expenditure of the country by
changing the tax rate through fiscal policy.

Inflationary gap may be reduced or may be eliminated indirectly.

1. If supply of money of the country remains constant then rate of interest in the money
market increases as a result of increase in price of the commodity. Total investment
expenditure of the country reduces due to increase in rate of interest and total
demand is also reduced. As a result, inflationary gap is also reduced.
2. Domestic price level increases due to inflationary gap in the country. But if the rate of
increase in domestic price level is greater than the rate of increase in international
price level then price of the exportable item is high and the foreigner gets high price
for importable items.
3. Distribution of income is changed as a result of increase in price level due to
inflationary gap. In reality it is seen that profit increases relatively at high rate but
wage increases relatively at a low rate. As a result, total consumption expenditure of
the society is reduced because even though profit increases at a high rate but small
part of the profit goes for consumption expenditure. As a result, total demand of the
society reduces and inflationary gap is also reduced.

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Demand Pull Theory of Inflation and Cost Push Theory of Inflation:
Price of majority commodities of any country when increases continuously then that situation
is called inflation i.e. when general price level rises continuously then the situation which is
created is called inflation.
According to modern economist inflation may occurs from two sides. One is from demand
side and the other is from supply side or from cost of production side. Inflation which is
occurred from demand side is called demand pull inflation and the inflation which is occurred
from supply side or cost of production side is called cost push inflation.

Demand Pull Theory of Inflation:

If the price level of the country rises continuously as a result of increase in demand for
commodities but supply remain constant then that situation is called demand pull inflation.

Cost Push Theory of Inflation:

If the price level of the country rises continuously as a result of increase in cost of production
due to increase in the prices of the factors of production, then that situation is called cost
push inflation. Though cost of production increases due to increase in the prices of factors of
production but according to the modern economist price of labor i.e. wage rate is most
important among the prices of factors at production.

Comparison between demands pull theory of inflection and cost push theory of inflection or
distinction between demand pull theory of inflation and cost push theory of inflation.

Main differences are discussed here:

(1)In case of Demand-Pull Inflation price level of the country increases continuously due to
the existence of excess demand in the commodity market. On the other hand, in case of cost
push inflation price level of the country increases continuously as a result of increase in cost
of production due to increase in wage rate or increase in price of other factors or as a result
of decrease in supply.
(2)Demand pull inflation occurs at full employment level or after full employment Level. But
cost push inflation occurs before full employment level.
(3)In case of demand-pull inflation supply of commodity remain constant so as the supply
curve also remain constant. But due to shift in demand curve as a result of increase in
demand, price level of the country increases continuously. On the other hand, in case of cost

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push inflation demand curve remain constant but due to shift of supply curve as a result of
increase in cost of production, price level of the country increases continuously.
(4)In cash of demand-pull inflation excess demand in the market pulls price from above. On
the other hand, in case of cost push inflation cost of production push price from below to the
above.
(5)In case of demand-pull inflation price of the commodity first increases. As a result,
producer increases the demand for labour (or other factors) to increase the production of
commodity. On the other hand, in case of cost push inflation wage rate (or price of other
factors) first increases and as a result price of the commodity increases continuously i.e.
inflation occurs.

Deflation
Concept of Deflation:
Price of majority commodities of any country when decreases continuously then that
situation is called deflation i.e. when general price level decreases continuously then the
situation which is created is called deflation. Actually, deflation is a process by which price
level decreases continuously.

Effects of Deflation:
(a) Effects on Production
During the period of deflation supply of commodities is greater than demand. As a result the
amount of commodities the sellers bring into the market are not totally sold. The producers
reduce the price of the commodity to increase sale. Price level trends to decrease as a result
of decrease price and at the same time amount of profit of the producers trend to reduce or
the amount of loss trend to increase.

(b) Effect on Distribution of Income and Wealth

The effects of deflation on the distribution of income and wealth are different on different
groups of people. A group of people gain while the other group lose as a result of deflation.
The effects of deflation on different groups of society are discussed below:

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✓ Debtors and Creditors: During the period of deflation creditors gain because
when the creditors get back the money which they lent they receive more in
real terms because the purchasing Power of money increases as a result of
deflation

✓ Producers and labourers:

During the period of deflation producers are adversely affected because the
amount of profit of the producer continuously decreases along with the
continuous decrease in price. But during the period of deflation labourers are
benefited because during the period of deflation though the wage rate falls but
the rate of wage fall is less than the rate of price fall i.e. the real income or
purchasing power of the labourer trend to increase.

✓ Agriculturists:
During the period of deflation agriculturists are adversely affected if the rate of
decrease in price of agricultural products is greater that the rate of decrease in
price of industrial products.
Thus it is seen that structure of income and wealth distribution are changed
significantly as a result of deflation i.e. as a result of deflation a group of
people gain while the other group lose.

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 Chapter:6

Unemployment
Unemployment:
Unemployment is a major social and economic problem as well as a great challenge to the
government. In this part different aspects of unemployment are discussed.

Concept of Unemployment and Different Types of Unemployment in India:

Voluntary Unemployment and Involuntary Unemployment:
Generally, there are two types of unemployment in every economy. One is voluntary
unemployment and the other is involuntary unemployment. A person is said to be voluntarily
unemployed if he is not willing to work at the existing wage rate even if he gets the job. On
the other hand, a person is said to be involuntarily unemployed if he fails to get a job at the
prevailing wage rates.

Different types of unemployment exist. Among them following are the most
significant.
(1) Structural or Technological Unemployment: Unemployment occurs due to changes in
the techniques or methods of production is called structural unemployment. Thus if
technology dismisses labour from jobs then that unemployment is called structural or
technological unemployment.

(2) Secular Unemployment; The portion of the population who are not directly or
indirectly engaged in any production or service sector and became unemployed for a
long period of time due to rapid increase in population, lack of capital, lack of
agricultural and industrial development is called secular unemployment

(3) Seasonal Unemployment: There are some economic activities where same Volume of
employment cannot be maintained throughout the year e.g. agriculture. Sugar mills
etc. As a result some people get jobs only for a part of the year and remained
unemployed during the rest of the year.

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(4) Disguised Unemployment: The persons who appear to be employed, but make no
contribution or minimum contribution to total output are called disguised
unemployment.

(5) Frictional Unemployment: If some people are temporarily unemployed due to

imperfection in the labor market, then it is called frictional unemployment.

(6) Educated Unemployment: The persons of the society whose economic condition is not
smooth, who has the necessity to earn money for survival, who acquire some higher
education, who do not like physical labour and like non-occupational work without
physical labour but they do not get work are called educated unemployed and this
type of unemployment is called educated unemployment.

(7) Natural Rate of Unemployment: According to Milton Friedman and Edmund Phelps,
unemployment rate could not be sustained below a certain level, a level which they
called natural rate of unemployment. The natural rate of unemployment is also
known as non-accepting inflation rate or NAIRU.

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 Chapter:7

Commodity Market and Money Market Equilibrium

Commodity and Money market

Concept of demand for money:

According to prof Keynes demands for money doesn’t arise for transition motive.
According to him demands for money also arise for reserve or for stock.
According to him the desire to hold liquid coil at hand is the liquidity preference.

There are three motive to hold coil according to Keynes.

a) Transition motive: person or family or ram holds some liquid coil at hand for daily
transition.
b) Precautionary Motion: person or family or ram holds some liquid coil at hand to
meet an uncertain emergency.
c) Speculative motive: person or family or ram holds some liquid coil at hand for doing
something on the expansion of the occupation

Curve Demand of Money:

Liquidity Preferences approach of Derivation Of IS:

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Derivation of Is Curve:
Commodity market will be in equibrium when AD will be equal to AS (national income
and national expenditure equal).

AD =AS

Anumption:
1. Consumption in Positive scope of disposable income i.e., C= 𝝋 (yd)
2. Investment in inversely inoculated with rate of interest
3. Saving in positive co-related with level of income.
4. Both govt expenditure and taxes are erogenous given. i.e., constant.
5. There is a closed economy i.e., no foreign sector.

Scope Of the IS Curve:

In equilibrium,
C + I+ G +(X-M)

= C +S+ T+R
=C+I(r) + G = C+ S(r) +T
= I (r) + G = 5(4) +T
THIS IS THE REQUIRED EQUATION FOR THE PRODUCT EQUILIBRUM OR IS
Curve.

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Note: I (r) + G = in section. (I)
S (%) +T = withdrawal (W)
When injection in equal to withdrawal the product/ goods will in equal.

IA curve explain investment relation between Roll and Level of Y.

Mathematic derivation of IS curve:

I(r) + G = C+ S(r) +T
Difference between both sides W. R. T and Y.
̅ ⋅ 𝑑𝑮 = 𝒔(𝒚) ⋅ 𝑑(𝒚) + 𝑻 ⋅ 𝑑 𝑻
𝑰(𝒓) ⋅ 𝑑 𝜸 + 𝑮
𝑰(𝒓) ⋅ 𝑑𝜸 + 𝟎 = 𝒔(𝒚) ⋅ 𝑑(𝒚) + 𝟎
𝑑𝒓 𝒔 ⋅ (𝒚) +
=
𝑑𝒚 𝑰(𝒓) − 𝒗𝑒
= Ey +𝒔 = -1
−𝑮

So, 𝑑 𝒓 𝖺 𝟎 ,
𝑑
−𝒗𝑒
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Shift of IS curve:
Is Curve will shift only

• Change in government exp.

• Change in investment.
• Change in tax.
• Change in saving. /Change in autonomy spending.

e.g., Govt expeditive:

While other factor remains unchanged due to govt. expenditure multiplier, income will be
increase or an equal AD Curve shift upload.

Conclusion: when government increase his expenditure IS curve will shift rightward.

Scope of IS curve:

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