Inflation refers to the rate at which the overall prices of goods and services rises resulting in the decrease in the purchasing power of the common man, which can be measured through Consumer Price Index. Modern analysis of inflation revealed that it is mainly caused either by demand side or supply side or both the factors. Demand side factors result in demand-pull inflation while supply side factors lead to cost-push inflation.
The demand-pull inflation is when the aggregate demand is more than the aggregate supply in an economy, whereas cost push inflation is when the aggregate demand is same and the fall in aggregate supply due to external factors will result in increased price level. This article explains clearly the significant difference between demand-pull and cost-push inflation.
Content: Demand-Pull Inflation Vs Cost-Push Inflation
|Basis for Comparison||Demand-Pull Inflation||Cost-Push Inflation|
|Meaning||When the aggregate demand increases at a faster rate than aggregate supply, it is known as demand-pull inflation.||When there is an increase in the price of inputs, resulting in decrease in the supply of outputs, is is known as cost-push inflation.|
|Represents||How price inflation begins?||Why inflation is so difficult to stop, once started?|
|Caused by||Monetary and real factors.||Monopolistic groups of the society.|
|Policy recommendations||Monetary and fiscal measures||Administrative control on price rise and income policy.|
Definition of Demand-Pull Inflation
Demand Pull Inflation arises when the aggregate demand goes up rapidly than the aggregate supply in an economy. In simple terms, it is a type of inflation which occurs when aggregate demand for products and services outruns aggregate supply due to monetary factors and/or real factors.
- Demand-Pull Inflation due to monetary factors: One of the major cause of inflation is; increase in money supply than the increase in the level of output. The German inflation, in the year 1922-23 is the example of Demand-Pull Inflation caused by monetary expansion.
- Demand-Pull Inflation due to real factors: When the inflation is due to any one or more of the following reasons, it is said to be caused by real factors:
- The increase in government spending without the change in tax revenue.
- Fall in tax rates, with no change in government spending
- Increase in investments
- Decrease in savings
- Increase in exports
- Decrease in imports
Out of these six factors, the first four factors, will result in the rise in the level of disposable income. The increase in aggregate income result in the increase in aggregate demand for goods and services, causing demand-pull inflation.
Definition of Cost-Push Inflation
Cost push inflation means the increase in the general price level caused by the rise in prices of the factors of production, due to the shortage of inputs i.e. labour, raw material, capital, etc. It results in the decrease in the supply of outputs which mainly use these inputs. So, the rise in prices of the goods emerges from the supply side.
Moreover, cost-push inflation may also be caused by depletion of natural resources, monopoly and so on. There are three kinds of cost-push inflation:
- Wage-push inflation: When the monopolistic groups of the society like labour union exercise their monopoly power, to enhance their money wages above the competitive level, which cause an increase in the cost of production.
- Profit-push inflation: When the monopoly power is used by the firms operating in the monopolistic and oligopolistic market to increase their profit margin, leading to rise in the price of goods and services.
- Supply shock inflation: A type of inflation arising due to unexpected fall in the supply of necessary consumer goods or major industrial inputs.
Key Differences Between Demand-Pull and Cost-Push Inflation
The differences between dDemand-pull and cost-push inflation can be drawn clearly on the following grounds:
- Demand-pull inflation arises when the aggregate demand increases at a faster rate than aggregate supply. Cost-Push Inflation is a result of an increase in the price of inputs due to the shortage of cost of production, leading to decrease in the supply of outputs.
- Demand-pull inflation describes, how price inflation begins? On the other hand, cost-push inflation explains Why inflation is so difficult to stop, once started?
- The reason for demand-pull inflation is the increase in money supply, government spending and foreign exchange rates. Conversely, cost-push inflation is mainly caused by the monopolistic groups of the society.
- The policy recommendation on demand-pull inflation is associated with the monetary and fiscal measure which amounts to the high level of unemployment. Unlike, cost push inflation, where policy recommendation is related to administrative control on price rise and income policy, whose objective is to control inflation without increasing unemployment.
Therefore, you can conclude with the above discussion the main reason for causing inflation in the economy is either by demand-pull or cost-push factors. It is often argued that which is the supreme factor for inflation, which one of the two-factor causes rise in the general price level for the first time. Experts hold that demand-pull factor the leading factor for inflation in any economy.