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Excess Demand and Deficient Demand
1. Excess Demand and Deficient Demand:-
Excess Demand -The situation when
aggregate demand is more than
aggregate supply.corresponding to full
employment level of output in the
economy.
Inflationary Gap -The gap by which
actual aggregate demand . :_':. <. ...
· · ex~eedsthe
aggregate demand required-to
establish full emp·loyment equilibrium.
Diagram -
~ '{ lP.S)
¢
~ (\O.P,
P,. -1". 1 Jll.\io-nru'J U
j.'T\,- F -- -- --
.! -\- -
E (f~I\
Reasons:-
a) Rise in Propensity to Consume -It ·
arises because of increase in
consumption expenditure due to rise in
propensity to consume.
b) Reduction in Taxes -It may occur
due to increase in disposable income
and consumption demand.
c) Increase in Government
expenditure- Rise in government
demand for goods and services due to
increase in public expenditure.
d) Increase in Investment-It is due to
decrease in rate of interest or increase
in expected. returns.
e) Fall in Import -It is due to higher
international price in comparison to
domestic price.
f) Rise in Export -It is due to
comparatively lower prices of domestic higher prices of domestic goods or due to
goous or due to decrease in the
exchange rate of domestic currency.
Deficient Demand -The situation when
aggregate demand is less than aggregate
supply corresponding to full employment
level of output in the economy.
Oeiflationary Gap -The gap by which actual
aggregate demand' .. -::.. . .
,_: .- .:. , -' fall short of aggregate demand
required to establish full employment
equilibrium.
Diagram-
I
AO =C+'f+Ot
AP-;: C...\ :t
E:.""'p \~ rr, cnt)
Reasons:-
a) Fall in Propensity to Consume -It arises
because of decrease in·consumption
expenditure due to fall in propensity to
consume.
b) Increase in Taxes -It may occur due to
decrease in disposable income and
consump_ t ion demand.
c) Decrease in Government expenditure-
Fall in government qer:nand for goods arid
services du2 to decrease in public
expenditure.
.d) Decrease in Investment -It is due to
increase in rate of interest or decrease in
expected returns.
e) Rise in Import-It 1s due to lesser
international price in comparison to
. domestic price.
f) Fali in Export-It is due to comparatively
increase in the exchange rate of dumestic
currency.
I
ri;;pact:- - - - -- -- -
1 a) Effect on Output -It does not affect
: the level of ?utput because economy is Due to lack of sufficient aggregate
already at full employme nt level and . there will be an increase in the inventory
there is no idle cap~city in the
economy.
b) Effect on Employme nt- It does not
affect the employme nt because
economy is already at full employmen t due to fall in the planned output.
level and there is no involunta_ry
unemployment.
c) Effect on General Price Level -It
leads to rise in general price level as
aggregate demand is more than
aggregate supply.
Fiscal Measure:-
a) Government Spending- Governme nt
will decrease the spending to maximum
possible extent on defense and
unproductive works.
b) Tax Rate -Governm ent will increase
the tax rate that will reduce the
purchasing power and hence the
aggregate demand. ,
Monetary Measures :-
a) Bank Rate/Repo Rate -Increase the
bank rate/repo rate, which discourages
borrowers from taking loan. It reduces
the availability of credit in the
economy.
b) CRR/SLR -Increase the CRR/SLR
which reduces the amount of effective
cash resources of commercial bank and
limits their credit creating power.
c) Margin Requireme nt-Increas e the
rnargin requir:ement which restricts the
credit creating power of the bank.
d) Open Market Operation -Central
bank offers security for sale which
reduces the reserves of the commercial
bank and its ability to create credit.
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I
·
lmpact:- 1
a) Effect on Output -
demand,
stock .It will force the firms_ to plan for lesser
production for the subsequent period. As a
result planned output will fall.
b) Effect on Employme nt- It causes
fTuvoluntary unemploym ent/in the economy
c) Effect on General Price Level -It leads to
fall in general price level as aggregate
demand is less than aggregate supply.
Fiscal Measure:-
a) Government Spending-Government will
increase the spending to maximum possible
extent on public works with a view to
provide additional income to people.
b) Tax Rate -Governm ent will decrease the
tax rate that will increase the purchasing
power and hence the aggregate demand.
Monetary Measures :-
a) Banlc Rate/Repo Rate -Decrease the
bank rate/repo rate, which encourages
borrowers from taking loan. It increases the
availability of credit in the economy.
b) CRR/SLR-Decrease the CRR/SLR which
increases the amount of effective cash
resources of commercia l bank and enhances
their credit creating power.
c) Margin Requireme nt -Decrease the
margin requiremen t V1hich enhances the
credit creating power of the bank.
d) Open Market Operation -Central bank
offers to buy security which increases the
reserves of the commercia l bank and its
ability to create credit.