Causes of Inflation - Inflation Homework Help

Causes of Inflation

a) Demand-Pull Inflation

As the economy is approaching full-employment, an excessive increase in aggregate demand will pull up prices.

This increase in demand will put a pressure on supply and hence, create a rise in demand for factor input.

This will force the price of factor input to increase and cause an inflationary spiral.

b) Structuralist Approach

It can be explained by the rigidities of the economic system itself whereby aggregate supply is not responsive to an increase in aggregate demand.

Factors that cause supply to be rigid are: -

i. Inflexibility of government policies.

ii. Immobility of factors of production.

c) Cost-Push Inflation

This can be explained by an increase in the cost of production which exceeds productivity increase.

To maintain real wages, trade union will further demand for a higher wage rate which will then lead to a wage price spiral.

d) Monetarist Theory

According to the Monetarist, inflation is caused by excessive money supply which can be explained using the Quantity Theory of Money (MV=PT).

e) Imported Inflation

Inflation may be brought into the local economy from other countries that are suffering from it, when we import their high price goods.

Alternatively, it can be attributed to the devaluation of a country’s currency that resulted in ‘high import prices’.

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