ECONOMICS (CBSE/UGC NET)

Detailed explanation-1: -The rate of inflation in the economy is determined by the supply of money. When the supply of money in the economy increases, so does inflation, and vice versa. The central bank’s currency is a liability of both the central bank and the government.

Detailed explanation-2: -Long-lasting episodes of high inflation are often the result of lax monetary policy. If the money supply grows too big relative to the size of an economy, the unit value of the currency diminishes; in other words, its purchasing power falls and prices rise.

Detailed explanation-3: -More jobs and higher wages increase household incomes and lead to a rise in consumer spending, further increasing aggregate demand and the scope for firms to increase the prices of their goods and services. When this happens across a large number of businesses and sectors, this leads to an increase in inflation.

Detailed explanation-4: -An increase in the supply of money typically lowers interest rates, which in turn, generates more investment and puts more money in the hands of consumers, thereby stimulating spending. Businesses respond by ordering more raw materials and increasing production.

Detailed explanation-5: -Effects of Money Supply on Economy A rise in the money supply will be reflected in lower interest rates and prices of commodities and service. A decrease in the money supply will result in higher interest rates and prices, with a corresponding increase in bank reserves. A similar effect occurs in the business.