Causes of inflation
Question
A rise in general level of prices may be caused by
Select the correct answer using the codes given below.
- 1.
an increase in the money supply
- 2.
a decrease in the aggregate level of output
- 3.
an increase in the effective demand
Options
1 only
1 and 2 only
2 and 3 only
1, 2 and 3
Explanation
All three factors contribute to inflation. Statement 1 is correct: increased money supply without corresponding output growth leads to demand-pull inflation (too much money chasing too few goods). Statement 2 is correct: decreased aggregate output with stable demand causes cost-push inflation and supply shocks. Statement 3 is correct: increased effective demand relative to supply drives up prices. These are the three primary mechanisms for inflation recognized in economic theory: monetary expansion, supply constraints, and demand-side pressures. > Key insight: Inflation has three drivers—Money Supply (Monetary), Output (Supply), and Demand (Demand-pull)—all three are valid causes.
Question details
Year
2013
Paper
GS Paper 1
Question
Q82
Subject
Economy
Sub-topic
Monetary economics and inflation
Type
Statement-based
Difficulty
Medium
Nature
Static
Source hint
Macroeconomics - inflation theory
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