The Three Causes Of Inflation And Fiscal Deficit

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Inflation and Fiscal Deficit There are a number of factors which affect the growth of an economy. One such factor is Inflation. Inflation, in simple words, refers to the gradual increase in the general price level of a bunch of goods in the economy. A moderate level of inflation is good for every economy (what is moderate is a separate issue) as it induces firms to produce more goods that can be sold at higher prices, leading to increase in employment and wages. However, when increase in money in hands of people is not accompanied by the proportionate increase in supply of goods, inflation becomes a cause of worry. The modern theory of economics gives three reasons for inflation. 1. Cost-push inflation, which is due to increase in income…show more content…
The government provides subsidies to support the economically weaker section. It also spends on development of public infrastructure and for its offices and officials. It is appropriate to have a deficit budget when it is for increasing the country’s capital assets. However, a country having a revenue deficit is in a bigger trouble. In order to run these deficits, the country has to borrow either from its own citizens or from abroad, by issuing various securities. Securities when purchased by central banks, means that the central bank will have to print currency and this lowers the value of country’s currency due to easier…show more content…
Also, there is a limit to which the government can borrow to fund its deficit and reduce the impact of inflation through subsidies. A high level of government borrowing has a negative impact on investor sentiments because then the government may itself default. This implies that the government needs to cut down the inflation. There are 2 ways to reduce inflation. One way is through fiscal consolidation whereby the government reduces its expenses to match its income (or reduce the deficit) and other is monetary contraction whereby the supply of money is restricted to reduce the demand for good. Under fiscal consolidation, the government reduces its expenditure which in turn leads to a decrease in demand for goods from the government. It is possible for government to hold back new expenditure initiatives but may not always be politically feasible to reduce certain expenditures. However, some consolidation on that front is also

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