Inflation and Deflation

Inflation and Deflation


Inflation is a quantitative measure of how quickly the prices of goods in an economy are increasing. Inflation occurs when goods and services are in high demand, thus creating a drop in availability (supply) and a consequential raising of prices. It’s sometimes referred to as too many dollars chasing too few goods.

There are two types of inflation :

Demand-Pull Inflation: Demand-pull inflation arises when aggregate demand in the economy becomes more than aggregate supply.

Causes of Demand-Pull Inflation

  • Increased liquidity in the economy.
  • Increase in income levels and purchasing power of households.
  • Growth in population and increase in demand for goods and services.
  • Changing consumer behaviour.

Cost-push inflation: when there is a decrease in the aggregate supply of goods and services results in an increase in the cost of production.

Causes of Cost-push Inflation

  • Rising nominal wages of labour 
  • Depreciation of exchange rates
  • Rising food and energy prices
  • Rising oil prices 
  • Higher production tax. 
  • Structural rigidities


Hyperinflation occurs when the increase in monthly prices exceeds 50% over some time.


Stagflation is a situation characterized by simultaneous increases in prices and stagnation of economic growth.

It is described as a situation in the economy where the growth rate slows down, the level of unemployment remains steadily high and yet the inflation or price level remains high at the same time.


Deflation occurs when too many goods are available or when there is not enough money circulating to purchase those goods. As a result, 0the price of goods and services drops

Causes of Deflation

Deflation can be caused by multiple factors:

  • Changes in capital markets structure: When companies providing identical goods or services compete, they seek to cut prices to gain a competitive advantage.
  • Higher propensity to save: People start saving instead of spending in the hope of a future fall in prices. This reduces the demand and the prices further drop.
  • Productivity gains: Innovation and technology allow for greater manufacturing efficiency, resulting in cheaper prices for goods and services.
  • Reduced currency supply: As the quantity of currency decreases, so will the prices of products and services, making them more affordable to individuals.