Concept of Deflation

Deflation is the opposite of inflation. It is the

situation of continuous, persistent and
appreciable fall in price level over a period of
time. It is caused by action, reaction and
contraction of macroeconomic variables.
Deflation is associate with falling price, but
every fall in price is not a deflation. Only the
fall in price which creates unemployment,
overproduction and fall in the economic
activity are deflationary.
 Deflation and disinflation
• Deflation refers to the continuous fall in price
due to deficiency of effective demand. It
creates widespread unemployment.
• Disinflation is a process of reversing inflation
without creating unemployment or reducing
output. Disinflation is an attempt to reduce
the prices when they are abnormally high.
 Causes of deflation
• Less aggregate demand
• Less investment expenditure
• less consumption expenditure
• Low MEC
• High rate of interest
• High liquidity preference
• Less supply of money.
 Con……….
2. Contractionary monetary policy
3. Reduction in government expenditure.
4.Heavy taxes
5. Increasing economic inequalities
 Measures to control deflation
• Reduction in taxation
• Redistribution of income
• Repayment of public debt
• Subsidies
• Deficit financing
• Reduction in interest rate
• Credit expansion.
 Concept of stagflation

• Stagflation refers to a situation when high rate

of inflation occurs simultaneously with high
rate of unemployment. The existence of high
unemployment means reduction of GDP in
economy.
 Causes of stagflation
1) Keynesian view:
• The main causes of stagflation is upward shift
in Philips curve. The upward shift in Philips
curve is caused mainly by various cost push
factors such as (I) Increase in the world price
of crude oil, (II) Increase in wages with out
increase in productivity, (III) Wages increase
due to higher cost of living during inflationary
period and (IV) change in composition of
demand for labour in the dynamic condition.
2) Supply side:
Government regulation and action, which raise
cost of production and restrict aggregate
supply of goods and services are responsible
for the phenomenon of stagflation. High tax
rate, minimum wage legislation, social security
measures are the action.
 Monetary view
• Stagflation is the result of changes in
inflationary expectation. The expansionary
monetary policy lead to rise in both price level
and unemployment.
 Cost of unemployment
• Unemployment is to the unemployed
themselves. There is a direct financial cost of
the loss in their earnings, measured as the
difference between their previous wage and
their unemployment benefit. Then there are
the personal costs of being unemployment.
Traditionally, the costs of unemployment have

been thought of in terms of the output or

national income directly foregone. The most

notable of these approaches is Okun’s Law,

which states that a one-percentage point
increase in the unemployment rate translates
roughly into a three percent shortfall in output.
• Loss of human resources
• Increase in poverty
• Social problems
• Political instability
• Exploitation of labour.