Worked Examples · Example 4
Q.Classify each of the following situations as an example of demand-pull inflation or cost-push inflation, with a brief reason:
(i) The government sharply increases defence spending, financed by borrowing directly from the RBI, without any corresponding increase in taxes.
(ii) A steep rise in international crude oil prices raises transport and production costs across the economy.
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Start your 14-day free trial to unlock the full solution →(i) Government defence spending financed by borrowing from the RBI. Borrowing directly from the RBI (deficit financing) effectively creates new money that is then spent into the economy, raising aggregate demand for goods and services without any matching increase in the economy's output or productive capacity. Since prices are being pulled up by a rise in demand relative to supply, this is a clear case of demand-pull inflation. …
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