MEASURES TO CORRECT EXCESS MEASURES TO CORRECT EXCESS AND DEFICIENT DEMANDAND DEFICIENT DEMAND

BY BY

DEEPTHI THOMASDEEPTHI THOMAS

Topic: Measures to correct excess Topic: Measures to correct excess and deficient demandand deficient demand

What is excess demand?What is excess demand? What is deficient demand?What is deficient demand? What are the measures taken?What are the measures taken? Who should take the corrective Who should take the corrective

measures?measures? How is it implemented?How is it implemented? What are the effects?What are the effects?

An Overview Of The TopicAn Overview Of The Topic

MEASURES TO CORRECT EXCESS AND MEASURES TO CORRECT EXCESS AND DEFICIENT DEMANDDEFICIENT DEMAND

There are four important ways to correct There are four important ways to correct excess and deficient demandexcess and deficient demand

Fiscal PolicyFiscal Policy

Monetary PolicyMonetary Policy

Foreign Trade PolicyForeign Trade Policy

Other MeasuresOther Measures

MEASURES TO CORRECT EXCESS AND DEFICIENT DEMAND

FISCAL POLICY

MONETARY POLICY

FOREIGN TRADE POLICY

OTHER MEASUR

ES

RESERVE RATIO

BANK RATE

OPEN MARKET OPERATION

MARGIN REQUIREMENT

MORAL SUASION

DIRECT ACTION

IMPORT SURPLUS POLICY

EXPORT SURPLUS POLICY

WAGE POLICY

FULL UTILIZATION OF EXISTING RESOURCES

TAXATION

PUBLIC BORROWING

PUBLIC EXPENDITURE

BUDGET

FISCAL POLICYFISCAL POLICY Policy of government relating to public expenditure, Policy of government relating to public expenditure,

taxation and management of public debt. taxation and management of public debt.

The policy adopted for correcting excess demand The policy adopted for correcting excess demand ((inflationary gapinflationary gap) and deficient demand () and deficient demand (deflationary deflationary gapgap) is known as ) is known as counter cyclical fiscal policy. counter cyclical fiscal policy.

Fiscal policy adopted to control inflation is called Fiscal policy adopted to control inflation is called anti-anti-inflationary fiscal policyinflationary fiscal policy. Fiscal policy adopted during . Fiscal policy adopted during deficient demand is known as deficient demand is known as anti-deflationary fiscal anti-deflationary fiscal

policypolicy..

Classified into discretionary measures and non-Classified into discretionary measures and non-discretionary measures.discretionary measures.

DISCRETIONARY MEASURESDISCRETIONARY MEASURES

The measures which are adopted by the The measures which are adopted by the government using its discretion and will.government using its discretion and will.

The policy regarding public expenditure on The policy regarding public expenditure on road construction, education, health care, road construction, education, health care, maintenance of law and order, defense of maintenance of law and order, defense of the country, rural electrification, etc.the country, rural electrification, etc.

NON DISCRETIONARY NON DISCRETIONARY MEASURESMEASURES

It refers those in-built stabilizers of income which It refers those in-built stabilizers of income which come into operation automatically. come into operation automatically.

Progressive income tax and transfer payments Progressive income tax and transfer payments like unemployment allowance, old age pension, like unemployment allowance, old age pension, etc.etc.

They are non-discretionary because they operate They are non-discretionary because they operate automatically when economic activity goes automatically when economic activity goes upwards or downwards.upwards or downwards.

TAXATIONTAXATION

Excess DemandExcess Demand: - By increasing taxes, the : - By increasing taxes, the purchasing power of people are reduced. purchasing power of people are reduced. This will reduce aggregate demand and This will reduce aggregate demand and inflationary pressure.inflationary pressure.

Deficient DemandDeficient Demand:- In order to encourage :- In order to encourage investment and consumption, taxes investment and consumption, taxes especially corporate tax and income tax especially corporate tax and income tax rates are reduced.rates are reduced.

PUBLIC BORROWINGPUBLIC BORROWING

Public borrowing or public debt is the borrowing of Public borrowing or public debt is the borrowing of the public authorities. the public authorities.

Excess DemandExcess Demand: - Government borrows money : - Government borrows money

from the public. This will reduce purchasing power from the public. This will reduce purchasing power of the public and hence aggregate demand will be of the public and hence aggregate demand will be reduced. reduced.

Deficient DemandDeficient Demand: - In order to leave more money : - In order to leave more money with the public and to increase effective demand, with the public and to increase effective demand, government will reduce size of public borrowing. It government will reduce size of public borrowing. It will also repay old public debts during this period.will also repay old public debts during this period.

PUBLIC EXPENDITUREPUBLIC EXPENDITURE

Government demand is an important component of Government demand is an important component of aggregate demand.aggregate demand.

Excess demand: - Excess demand: - WhenWhen government government reduce its reduce its expenditureexpenditure during inflation, there will be reduction in during inflation, there will be reduction in aggregate demand and hence in inflationary pressure.aggregate demand and hence in inflationary pressure.

Deficient demand:Deficient demand: - During the time of deficient - During the time of deficient demand, public expenditure on roads, defense, health demand, public expenditure on roads, defense, health care, etc. will be increased. It will also increase care, etc. will be increased. It will also increase transfer payments like old-age pension, transfer payments like old-age pension, unemployment allowances, etc. to increase effective unemployment allowances, etc. to increase effective demand.demand.

SURPLUS AND DEFICIT BUDGETSURPLUS AND DEFICIT BUDGET

Excess DemandExcess Demand: - : - During inflation, to reduce During inflation, to reduce aggregate demand, government will present aggregate demand, government will present surplus budget. Surplus budget is that budget in surplus budget. Surplus budget is that budget in which government revenue is greater than which government revenue is greater than expenditure.expenditure.

Deficient Demand: - Deficient Demand: - During deficit demand During deficit demand period, government will present enlarged budget period, government will present enlarged budget with huge deficitwith huge deficit. . Deficit budget is the budget in Deficit budget is the budget in which government expenditure is greater than which government expenditure is greater than revenue. This will push up demand.revenue. This will push up demand.

MONETARY POLICYMONETARY POLICY

Any conscious action under taken by the monetary Any conscious action under taken by the monetary authority (central bank) to change the quantity, authority (central bank) to change the quantity, availability or cost of money. availability or cost of money.

To correct excess demand, the central bank follows To correct excess demand, the central bank follows anti-inflationary monetary policy or ‘anti-inflationary monetary policy or ‘Dear Money Dear Money PolicyPolicy’ which is the policy that makes money dear or ’ which is the policy that makes money dear or costly. costly.

Monetary policy adopted during deficient demand is Monetary policy adopted during deficient demand is known as anti-deflationary monetary policy or known as anti-deflationary monetary policy or ‘‘Cheap Money PolicyCheap Money Policy’ which makes money cheaper ’ which makes money cheaper by the reduction of interest rate and by the by the reduction of interest rate and by the availability of credit. availability of credit.

CASH RESERVE RATIOCASH RESERVE RATIO

Member commercial banks are required Member commercial banks are required under the law to maintain a minimum under the law to maintain a minimum percentage of their demand deposit percentage of their demand deposit liabilities in the form of cash with the liabilities in the form of cash with the Central Bank.Central Bank.

Commercial banks can lend only the Commercial banks can lend only the remaining portion of these deposits. remaining portion of these deposits.

CASH RESERVE RATIOCASH RESERVE RATIO

Excess DemandExcess Demand: - : - The Central Bank increases this The Central Bank increases this ratio, which in turn reduces the lending capacity ratio, which in turn reduces the lending capacity of the banks and availability of credit.of the banks and availability of credit.

Deficient DemandDeficient Demand: - In order to expand credit the : - In order to expand credit the cash reserve ratio, will be reduced. This will pump cash reserve ratio, will be reduced. This will pump more money into the economy which pushes up more money into the economy which pushes up the economic activity.the economic activity.

BANK RATEBANK RATE

Discount rate or bank rate is the rate at which the Discount rate or bank rate is the rate at which the Central Bank lends to the Commercial banks.Central Bank lends to the Commercial banks.

Excess DemandExcess Demand: -Central Bank raises bank rate. : -Central Bank raises bank rate. This will make credit costlier. Interest rate will This will make credit costlier. Interest rate will increase and demand for credit will fall, which increase and demand for credit will fall, which reduces the purchasing power and effective reduces the purchasing power and effective demand. demand.

Deficient DemandDeficient Demand: - Rediscounting rate or bank : - Rediscounting rate or bank rate will be lowered in order to expand credit rate will be lowered in order to expand credit capacity of commercial banks. capacity of commercial banks.

OPEN MARKET OPERATIONOPEN MARKET OPERATION

Buying and selling of government securities in the Buying and selling of government securities in the open market by the Central Bank is known as open market by the Central Bank is known as Open Market Operation. Open Market Operation.

Excess DemandExcess Demand: - Central Bank will sell these : - Central Bank will sell these securities in the open market. securities in the open market.

Deficient DemandDeficient Demand: - The Central Bank will : - The Central Bank will purchase back the securities from the market.purchase back the securities from the market.

MARGIN REQUIREMENTMARGIN REQUIREMENT

Margin requirement refers to the percentage of Margin requirement refers to the percentage of down payment on borrowing to finance purchases down payment on borrowing to finance purchases of stock by firms. of stock by firms.

Excess DemandExcess Demand: -Margin requirements are fixed : -Margin requirements are fixed high. This will discourage speculation on high. This will discourage speculation on borrowed credit. It will reduce inflationary borrowed credit. It will reduce inflationary pressure in the economy. pressure in the economy.

Deficient DemandDeficient Demand: - Margin requirements are : - Margin requirements are fixed low during depression. This helps to pump fixed low during depression. This helps to pump more credit to the economy.more credit to the economy.

MORAL SUASIONMORAL SUASION

The Central Bank may issue advice, request and The Central Bank may issue advice, request and appeals to member banks to co-operate with the appeals to member banks to co-operate with the credit policy of the Central Bank. credit policy of the Central Bank.

Excess DemandExcess Demand: - Member banks are requested to : - Member banks are requested to reduce the supply of credit. reduce the supply of credit.

Deficient DemandDeficient Demand: - The Central Bank may issue : - The Central Bank may issue advice, request and appeals to member banks to advice, request and appeals to member banks to expand credit.expand credit.

DIRECT ACTIONDIRECT ACTION

As the last resort the Central Bank may take direct As the last resort the Central Bank may take direct action against member banks that are not action against member banks that are not fulfilling its credit policy. fulfilling its credit policy.

Excess DemandExcess Demand: - Direct action may be in the : - Direct action may be in the form of refusing rediscounting facilities, charge in form of refusing rediscounting facilities, charge in penal rate of interest on loan issued, etc.penal rate of interest on loan issued, etc.

Deficient DemandDeficient Demand: - The member banks that are : - The member banks that are not fulfilling the credit expansion policy will be not fulfilling the credit expansion policy will be forced to expand credit. forced to expand credit.

FOREIGN TRADE POLICYFOREIGN TRADE POLICY

The policy connected with import and export. The policy connected with import and export.

Excess DemandExcess Demand: -Import surplus policy may be : -Import surplus policy may be adopted. When import increases, the excess adopted. When import increases, the excess domestic purchasing power may flow out to other domestic purchasing power may flow out to other countries which reduces the intensity of domestic countries which reduces the intensity of domestic demand.demand.

Deficient DemandDeficient Demand:-Export surplus trade policy will :-Export surplus trade policy will be followed. Export of more commodities will be followed. Export of more commodities will boost up the demand for goods in country. boost up the demand for goods in country.

OTHER MEASURESOTHER MEASURES

These are anti-inflationary measuresThese are anti-inflationary measures

WAGE POLICYWAGE POLICY

During inflation, wage increase without During inflation, wage increase without improvement in productivity may be avoided. improvement in productivity may be avoided. During inflation, trade unions will demand for During inflation, trade unions will demand for wage increase. If wages are increased without wage increase. If wages are increased without increase in productivity, it will cause further increase in productivity, it will cause further increase in prices.increase in prices.

FULL UTILIZATION OF EXISTING FULL UTILIZATION OF EXISTING IDLE RESOURCESIDLE RESOURCES

During inflation, measures may be During inflation, measures may be adopted to utilize the existing resources to adopted to utilize the existing resources to its full capacity.its full capacity.

This measure is more useful to less This measure is more useful to less developed countries, where there are developed countries, where there are large amount of under utilized resources.large amount of under utilized resources.

CONCLUSIONCONCLUSION

These are the measures taken to control inflation and These are the measures taken to control inflation and

deflation in India. Success of anti-inflationary and deflation in India. Success of anti-inflationary and anti-deflationary policies depends on several factors. anti-deflationary policies depends on several factors. It may not produce the expected result always. It may not produce the expected result always. However, earlier adoption of such policies is However, earlier adoption of such policies is necessary to prevent an economic crashnecessary to prevent an economic crash..

ReferencesReferences

www.investopedia.com/articles/www.investopedia.com/articles/04/051904.asp04/051904.asp

www.economicswebinstitute.org/glossary/pubexp.htm

www.rbi.org.in/home.aspx

Systematic Approach To EconomicsSystematic Approach To Economics Dr. Thomas kutty, Dr. AnithaDr. Thomas kutty, Dr. Anitha