Theory of Money

Theory of Money

Money:

Barter system is the direct exchange of one commodity for another.

The main drawbacks of the barter system are:

1. Absence of Double Coincidence of wants: There is the necessity for double coincidence of wants for the successful working of the barter system. That is for the smooth functioning of the barter system, the two parties to an exchange must be in need of each other’s goods for instance a man desiring to exchange his cow for a goat, but is also willing to a cow.
2. Lack of common Measure of Value: The second serious defect of the barter system is the lack of a common measure of value in terms of which the values of all goods can be measured and expressed. As there is no common measure of value, the value of each commodity entering into trade has to be expressed in term of all other commodities entering into exchange.
3. Lack of Divisibility: The third main drawback of the barter system is the indivisibility …………. Commodities. There are some goods which are indivisible without loss ……. Value. For instance, when the value for pen to be cow.
4. Difficulty of Storing Wealth: Under the barter system, if a person wishes to store his wealth for his future use, he was to do so only in terms of real commodities. But real commodities perish or lose their value after sometimes.
5. Difficulties of borrowing and Lending: There is the difficulty of borrowing and lending under this system. Under the barter system borrowing and lending should take place in terms of real commodities lose their value over time.
6. Difficulty in Deciding the Value of Service: Under the barter system, there is the difficulty of deciding the value of services of persons like lawyer, doctor, engineers, teachers, etc.

Evolution of Money

First Stage:

In the early stage of the evolution of money, commodity money was introduced.

Depending upon the economic development of the communities, at different place and at different times, different place and at different times, different commodities were used as money. For instance, in the hunting stage, skins, arrows, bows, ivory, etc.

Second Stage:

Commodities money proved inconvenient in some respects. Most of the commodities that were used as money were perishable and not stable in value. Further, then storage was inconvenient and costly. Again, they were not of the same also a problem. In the second stage of the evolution of money, commodity money was replaced by metallic money. Metals, such as iron, tin, copper, bronze, silver; gold, etc. were used as money at different at different times. But, in generally, gold and silver became the most commonly used money metals because of their portability, high value, durability malleability, stability of value etc.

Even in the introduction of gold and silver coins there were two stages. In the first stage, full bodied coin (i.e., coins whose face value and intrinsic value are the same) were introduces. The use of full bodied coins involved some problems. So, in the second stage, the full bodied coins were replaced by token coins (i.e. coins whose face value is much more than their intrinsic value.

Third Stage:

As it was found very inconvenient to carry metallic coins from place to place, in the third stage of the evolution of money, paper money was introduced. In the introduction of paper money also, there were two stages.

Last Stage:

The last stage in the evolution of money is the emergence of credit money or bank money. Bank draft, cheques, bills of exchange, etc. are used as money. There credit instruments are not money by themselves. They are only claims against money. Yet, they are very popular in economically advanced countries, as they have certain benefits.

Definition and Meaning of Money

According to Prof. Walker, “Money is what money does”. According to this definition, anything which performs the functions of money is money.

According to Prof. Robertson, “Money is anything which is widely accepted in payment for goods or in discharge of other kinds of business obligations.

According to Prof. Samuelson, “Money is the medium of exchange and the standard or unit in which prices and debts dre expressed”.

G. Crowther defines money as “Anything that is generally acceptable as a means of exchange and at the same time acts as measure and as a store of value”.

Functions of Money

The various functions of money can be classified into three categories, namely:

1. Primary function
2. Secondary function
3. Contingent function

1. Primary function: The primary functions of money are:

a.    Medium of exchange: Money, acts as a medium of exchange. All economic commodities entering into exchange or trade one first exchanged for money and then, money is exchanged for (trade are first exchange) for the commodities needed. That means, money comes in between the exchange of two commodities, and becomes a medium in exchange. It is for this reason that money is considered a medium of exchange. By acting as a medium of exchange money facilitates trade and settlement of business obligations.

b.    Measure of Value: Money acts as a “Measure of value. It serves as the unit in term of which the values of all goods and services are measured and expressed. Just as a meter or kilometer is used for measuring length and gram and kilo gram is used for measuring weight and money is used for measuring the values of goods and services.

2. Secondary Function:

1. Store of Value: Money acts as a store of value. People can save a part of their present income and hold then in terms of money for their future requirements. Similarly, peoples can sell their goods today, receive money in return and keep it with then for making purchase in future.

A person cannot store in terms of commodity conveniently. This is because some commodities are perishable.

Further, the storage of commodities is inconvenient and costly. On the contrary, money is not perishable. Further, it is comparatively stable in value. A person can hold money for any length of times without loss of value. Again in commands acceptability at all times.

2. Standard of Deferred Payments: Money acts as a standard of deferred payments or debts. In other words, credit transaction or debts are expressed in terms of money.

If credit transaction are to be conducted smoothly, they should take place in terms of some material which will keep its value get back more or less value than what he lends nor the borrower of repays more or less value than that he borrows. The value of real commodities are not stable ones times. So, if credit transactions are conducted in terms of real commodities.

3. Transfer of Value: Money acts as a means of transfer of value from one place to another. As money has general acceptability, a person can dispose of his property in one place for money, and with that money can acquire new property in another place. Thus, money facilities transfer of value from one place to another place.

3. Contingent Functions:

The Contingent Functions of Money are:

1.    Distribution of national Income: Production of goods is the result of the joint effort of various factor of production, such as land, labour, capital and organization. So, the gross national product or the national income should be distributed among the owners of various factors of production as rents, wages, interest and profit. Distribution of the national income among the owners of the various factors of production can be done more easily and equitably only in term of money.

2.    Making Capital More Productive: Money is the most liquid of all assets, as it remains stable over time and is available for use readily. So, capital in the form of money can e part to any use immediately. Again, it can be transferred from less productive uses to more productive uses. Thus the mobility and the productivity of capital can be increased with the use of money.

3.    Basis of Credits: Today, in all the civilised countries of the world, credit plays an important role. Credit instruments, such as cheques, bills, etc. are extensively used. Money is the basis of credit. This is because credit is expressed in terms of money. Further without money, credit and credit instruments cannot operate. For instance, commercial banks create credit only on the basis of some money.

4.    Equalization of Marginal Utility and Marginal Productivity: Every consumes endeavors to maximize his satisfaction only when the amounts spent by him on each commodity is equal to the marginal utility. The prices of each commodity must be known. Money plays an important role in the respects as the price of each commodity is expressed in terms of money.

5.    Help to the Government: Money helps the government to spend more than the tax receipts by reporting to borrowing from the public and deficit financing.

6.    Determination of Price Level: Money plays a significant role in determining the general price level in a countary. The volume and the velocity of money lead to arise or a fall in the general price level.

7.    Computation of Change in the General Price Level: Change in the general price level in a country are measured with the help of index numbers. The employment of index numbers implies the use of money.

Static and Dynamic Functions of Money

Of late, a new way of classifying the functions of money has been evolved Paul Einzig. He has classified the function, which are static or passive.

The Various Static Function of Money are:

a)    Medium of Exchange

b)    Measure of Value

c)    Store of Value

d)    Standard of deferred payment

e)    Means of transfer of value

Dynamic Function: All function other than the traditional or technical functions of money are called dynamic function. In other words, dynamic function are those functions which exert a powerful influence on the economic system of a country.

Some of the Dynamic Function of Money are:

1. The most important dynamic function of money is that it causes a general rise or fall in the price level and thereby, affects all the section of the society.
2. An efficient monetary system can effect better and fuller utilisation of the economic resources of a country and contribute to increased national product and higher standard of living.
3. The monetary system is of great help to the government with the help of the monetary system, the government of a country is able to borrow funds from the public. It can also resort to deficit financing.

Evils of Money:

Money, which is a source of many blessings of mankind’s, also become a source of evil in certain circumstance. The fluctuations of in the value of money characterized by inflation and deflation, result in undesired gains to some section of the people and inflict undue closes on other. Trade cycles, which cause instability to the economy of a country, gives rise to over-capitalization and over – production and causes instability and uncertainty in the economy. Money, which is the best store of value, has been mainly responsible for the unequal distribution of wealth.

Near Money Assets

Near money assets or near money refer to cash equivalents and other assets which are easily convertible into cash.

Near money assets include cheques, bank drafts, treasury bills, credit cards.

Cheques

Meaning:

A cheques is an instrument in writing, containing an unconditional order, drawn on a specified banker signed by the charges, directing the banker, to pay, on demand, a certain sum of money only, to a certain sum of money only, to a certain person or to his order or to the bearer of the instruments.

Essential of a Cheque:

1. A cheque must be in writing. The writing may be by means of pen, type writer, printed characters, ball pen or even pencil.

But, in practice, writing of cheque in pencils is discouraged by bankers, as cheques written with pencils can be easily altered.

2. It must contain an order. This implies that the cheque must contain an order to pay, and not a request to pay. It is true that the cheque must contain an order. But that does not mean that the word ‘order’ must be used in the cheque.
3. The order relating to payment must be unconditional. This signifies that no condition should not be ordered to do anything else except to pay the money. If the order is unconditional. For instance, if an order directs the banker to pay the amount of the cheque to the payee only after obtaining a receipt for the amount from him, it becomes a conditional order.
4. It must be drawn on a banker. This implies that the cheque should be drawn only on a banker, and not on any other person. It is for this reason that an order issued to a government treasury to pay money cannot to treated as a cheque.
5. The cheque must be drawn on a specified banker. This means that the cheque should be drawn not an any bank, but only on the particular bank where the drawer has account.
6. It must be drawn only by the customs of the banks. This signifies, that the cheque must be drawn only by the account holder. A stranger cannot draw a cheque.
7. It must be signed by the drawer or his authoried agent. The drawer’s signature must be put with a pen or ball pen. Pencil or rubber stamp signature is not accepted by the bankers.
8. The order must be for the payment of money only. This implies that the order must direct the banker to pay only money and not any other thing. It is for this reason that an order directing the banker to give gold, silver or any other article be treated as a cheque.
9. The order must be for the payment of a certain sum of money. That means tha amount of money ordered to be paid must be certain.
10. the amount must not be expressed to be payable otherwise the on demand. That means, the amount must be expressed to be payable on demand and not after a specified period of time, say after 7 days or after 15 days.

Advantages of Cheques:

1. By avoiding necessity of carring hard cash, cheques serve as a very convenient means of making payments.
2. Cheques are a safe means of making payments.
3. Cheques are also a suitable method of receiving payment.
4. Payments by cheque avoid the necessity of insisting upon receipts from the payees.
5. When a person makes payments by cheques, he need not keeps a record of those payments in is books. Intimes of disputes regarding payments, the paid cheque forms with the banker and the centries made by the bankers in his books for the cheque payments can be produced as legal evidence to prove the payments.
6. When payments are made by cheques, the drawer of the cheques has the advantages of countermanding any payments made by mistake.
7. As cheques are negotiable instruments, the transferees of cheques get better tittle than that of the transferors.

Treasury Bills

Meaning:

Treasury bill are the instruments of short-term borrowing by the central government or by a state government. They are promissory notes issued at a discount for a fixed period.

Objectives of Issuing Treasury Bills:

1. To raise funds for the government for meeting its expenditure thermals
2. To provide outlet for investment of temporary surplus funds by investors.

Other Features of Treasury Bill:

1. They are highly liquid
2. They are safe investments
3. They give attractive yield
4. They are approved assets for SLR purposes in the case of bank.

Credit Card

A credit card is an instrument of payments. By using the credity card, the holder of the credit card can obtain goods and services from merchant establishments.

The outstanding amount on the use of credit card if payable by the credit card holder to the bank with in a specified period of 25 to 35 days.

Interest is charged to the account of the credit card holder by the bank for the specified period.

The credit card system works as follows:

The account holder is issued a credit card by the banker. The credit card contains the name of the account holder, his account number and his specimen signature. The credit card holder can make purchase from any of the shops. The shop-keeper or the supplies of services records the name of the credit card holder, his credit card number and the particulars of sales made or services rendered to the credit card holder in the sales voucher and obtains the signature of the credit card holder in the sales voucher. If both the signatures tally, he delivers the articles to the credit card holder. Later, he (i.e, the shop-keeper) sends the sales voucher to the concerned bank of payment, and receives the payment.

After the payment is made, the bank debits the payment made holder. The bank sends to the credit card holder a statement of debits made to his account regularly, asy, every month, for his information.

Debit Card

A debit card is also a payment. It is used to obtain cash, goods or service automatically, debiting the payments to the card holder’s bank account instantly upto the credit balance which exists in the customer’s bank account.

The    existence at debit card works as follows:

When the holder of a debit card makes a purchase from a merchant establishment, the merchant establishment inserts the debit card in an electronic data capture machine which debits the bank account of the card holder. The merchant establishment gets the payment before providing the goods or service.

The Advantages of Debit Card are:

1. There is no need to carry cash
2. Its use is less complicated than using a cheque.
3. It can be used for withdrawal of cash
4. The holder can have a record of the transactions in his bank statement, which will enable him to plan and control his expenditure.
5. It is issued to any individual without assessing credit-worthiness.
6. The merchant establishment gets the payment before providing the goods or services.

Automated Teller Machine (ATM)

Automated Teller Machine, popularly called Any time Money.

The various facilities provided by ATM are:

1. Cash withdrawals
2. Cash deposits
3. Balance enquiry or checking the balance in his bank account
4. Request for statement of acoount
5. Change of personal identification number (PIN)
6. Cheque book request
7. Transfer of funds from one account to another account.
8. Other facilities like bill payments.

Supply of Money Concept of Money Supply:

Money supply refers to the total stock of money of various kinds in existence at any particular point of time.

There are two important points about money supply. They are:

1. Money supply is a stock concept, i.e., it the stock of money and
2. It is the stock of money with the public.

Measures of Money Supply or Money Stock Measures:

In India, the Reserve Bank of India employed four measures of money stock or money supply. They are referred to as M1, M2, M3 & M4. M1 includes:

1. Coin and currency notes with the public (i.e., coins and currency notes in circulation).
2. Demand deposits with banks.
3. Other deposits with the reserve Bank of India.

M2 comprises:

M1 + post office savings banks deposits

To be elaborate, M2 comprises:

1. Coins and currency notes in circulation
2. Demand deposits with banks
3. Other deposits with the Reserve Bank of India
4. People’s deposits in post office savings bank accounts

M3 consists of M2 + time deposits with banks.

To be more explanatory, M3 includes:

1. Coin and currency notes in circulation
2. Demand deposits with banks
3. Other deposits with the Reserve Bank of India.
4. Post office savings bank deposits
5. Time deposits with banks.

M4 includes:

M3 term deposits with post offices. In other words, the components of M4 are:

1. Coin and currency notes in circulation
2. Demand deposits with banks
3. Other deposits with the Reserve Bank of India
4. Post-office savings bank deposits
5. Time deposits with banks
6. Term deposits with Post offices

Types of Money

Money may be classified in to two types. They are:

1. Narrow Money
2. Broad Money

1. Narrow Money: Narrow money represents M1 and M2. that is, narrow money represents M1 which comprises coins and currency notes in circulation, demand deposits with banks withdrawable by cheques and other deposits with the Reserve Bank of India, and M2, which comprises coins and currency notes in circulation, demand deposits with banks withdrawable by cheques.
2. Broad Money: With the narrow money, it the fixed deposits or time deposits are included, the resulting sum is called broad money. The Reserve Bank of Indai designated broad money as M3 .

Creation of Money or Creation of Credit by Commercial Banks as a Source of Money Supply

Bank are manufactures of money: commercial banks would not have become, so prominent, as they are today, if they merely borrow and lend money. They do something more than this, that is they manufacture or create money. As they manufacture money. They are called Manufactures of Money. So, “Banks are not merely purveyors of money, but also in an important sense, manufactures of money (Prof. R.S. Sayers.)

What money do commercial Banks manufacture or create?

As we all know commercial bank do not create legal tender money i.e. currency notes and coins. (Currency notes and coins are created only by the government or by the central bank of a country). They create only bank money, deposit money or cheque book money.

Money or cheque book money:

Bank money retens to bank deposits created by bank. Bank deposits are regarded as money, because they perform the same functions as money, i.e. they increase the purchasing power of the community and save as medium of exchange in the purchase of goods and services and in the settlement of debts.

What type of Bank Deposits constitutes money created by Bank?

Bank deposits arise in two ways. They are:

      I.    When a bank receives cash from a depositor, opens an account in the name of the depositor and credits the amount received to the depositors account, a bank deposits arise. Such bank deposits are called Primary deposits, passive deposits or cash deposits). They are called primary deposits, as they from the basis for the loan transactions of a bank. They are called passive deposits, because in the creation of these deposits, the role of the bank is passive they bank merely accepts the money brought by the depositors. They are also called cash deposits, as they represent the cash deposits by the depositors into the bank.

    II.    Bank deposits also arise when a bank grants financial accommodation to a customer or purchases some securities or fixed assets, opens a deposit account in the name of the borrower of advance or the deposit account with the amount of advance granted or with the price of the securities or fixed assents purchased. Such deposits are called Secondary deposits, derivative deposits or active deposits.

Ways of Creating Money:

  I.    By advancing loans

II.    By allowing overdrafts

III.    By providing cash credits

IV.    By discounting bills of exchange

1.    Creation of Money by Advancing Loans:

When a bank grants a loan to a borrower, it does not usually pay the amount to the borrower in cash. Instead, it opens a deposit account in the name of the borrower and credits the loan amount to that deposite account. The borrower can make use of the deposite in payments of goods and services are in settlement of debts through cheques.

The loan amount in the bank as a deposite and issue cheques against the deposite in settlement of business obligations.

Thus, when a loan is granted by a bank, there arise a deposite and an increase in the supply of money or purchasing power in the country. We are justified in saving that banks create money by granting loans.

2.    Creation of Money by Allowing Overdrafts:

When a bank grant an overdraft to a current account holder, there arise additional bank deposits in the name of the customer. The customer can use those deposits for meeting his obligations by issuing cheques. Thus, when an overdraft is allowed by a bank, there results in some additional supply of money or purchasing power which did not exist before. So, we can rightly say that banks create money by allowing overdrafts.

3.    Creation of Money by Providing Cash Credits:

When a bank grants a cash credit to a borrower, it does not pay the amount to the borrower in cash. It simply opens a cash credit account in the name of the borrower and credits the amounts of cash credit to the cash credit account. The borrower is allowed to issue cheques against his cash credited account and make his payments.

4.    Creation of Money by discounting Bills:

When a bank discount a bill of exchange, the net proceeds of the bill are, generally, not paid to the discounter in cash.

Of course, the discounter can make use of the deposits by issuing cheques. Thus when a bill is discounted additional supply of money arise in the country.

Multiple Expansions of Deposits:

It is important to note that banks cant not only create deposits, but can also have multiple expansion of deposits.

Multiple expansion of deposite means creation of deposits upto several time the amount of original cash reserves coming into the hands of the banking system. Alternatively it means creation of derivative deposit upto several times the amount of excess original cash reserves in the hands of the banking system.

Demand for Money

Motive to hold Money:

1.    Transaction Motive: People desire to hold or keep some ready cash with then to meet their day to day expenses. The motive to hold or keep ready cash for meeting the day to day expense is called transaction motive.

The transaction motive can be looked at

a.    From the point of view of consumer who want to hold some ready cash to meet their household expenditure.

b.    From the point of view of businessman who want to hold some ready cash to carry on their business.

Let us discuss these two motive in detail:

          i.        Income Motive: Individuals hold cash in order to bridge the internal between receipts of income and payment of expenses. This motive is called Income motive.

Most of the individuals receive their incomes weekly or monthly. But they have expenditure every day. So, they keep a certain amount of ready cash to make day to day or current payments.

        ii.        Business Motive: Businessmen keep a portion of their resources in ready cash to meet the current needs to their business. This motive is called Business Motive.

Businessmen have to pay for the purchases of raw materials, wages of workers, transport charges and all other current expenses of their business. For meeting the current expenses of their business. They have to hold some ready cash.

2.    Precautionary Motive: People may like some ready cash with them to meet per foreseen or unexpected contingencies or expenses. This motive of the people to hold some cash in hand is called precautionary motive.

3.    Speculative Motive: People desire to hold some ready cash with them also to take advantages of market movements in regard to future changes in the rate of interest and bond or security prices. This motive of the people to hold some ready cash with them is called the Speculative Motive.

Inflation and Deflation

Inflation Meaning:

Johnson defines inflation as “Sustained or persistent rise in prices”.

In other words of .J. Brown, “By inflation most people understand a substantial and rapid rise in the general level of prices”.

Coulbourn defines inflation as. “Too much money chasing too few goods”.

G. Crowther defines as, “A state in which the value of money is falling, i.e., prices are rising”.

Features of Inflation:

1.    Inflation is mostly monetary phenomenon caused by an excessive supply of money.

2.    Inflation is characterized by excess demand for goods.

3.    Persistent rise in prices is the fundamental future of inflation.

4.    The price rise is moderate in the initial stage, attains momentum in the second stage and goes out of control in the final stage.

5.    The excessive rise in price is not confined to a few goods, but extends to all goods. In other words, there is a rise in the general price level.

6.    In a true inflation, there is rise only in the supply of money and prices, but there is no increases in the real output and employment.

Classification of Inflation:

On the basis of the Rate to increases in prices:

a.    Creeping Inflation: Creeping inflation refers to a situation where there is a very mild rise in prices. The rise in price level is by about 1 or 2 percent per annum. This kind of inflation is, generally considered to be beneficial to the economy as it favours trade.

b.    Walking Inflation: Walking inflation is a situation, where the rate of price is faster generally three times faster, than that in creeping inflation. It is a forerunner of running inflation.

c.    Running Inflation: Running inflation is a situation where the price level rises very fast. In this case, price level doubles up every three years. It is, generally, succeeded by galloping inflation.

d.    Galloping Inflation: Galloping inflation, jumping, running or hypes inflation refers to a situation where the price level rises very rapidly.

On the basis of Control on inflation:

1. Open inflation: Open inflation is an inflationary process in which pricer are permitted to rise without being suppressed by prices controls or other similar techniques by the government. In other words, this is a situation where there is uninterrupted rise in prices.
2. Suppressed or Repressed inflation: Suppressed inflation is a situation under which prices are prevented from rising up by prices controls and rationing by the government. In this case, the demand for goods is postponed by the imposition of price controls and rationing and rise in prices is suppressed thereby.

On the basis of Employment:

1. Semi inflation: Rise in prices before full employment is reached is called semi inflation or partial inflation. In this case, rise in prices is accompanied by increase in production and employment.
2. Full inflation: Rise in prices after full employment is reached is called full inflation or true inflation. In this case, rise in prices is not accompanied by increase in production and employment.

On the basis of number of goods covered:

1. Comprehensive inflation: Comprehensive inflation refers to a situation where the prices of most of the goods rise in all the sectors or through out the economy.
2. Sporadic inflation: Sporadic inflation refers to a situation where the prices of only some goods rise or to inflation which occurs in a particular sector say, in agricultural sector, at a time.

On the basis of time:

1. Wartime inflation: Inflation caused during ear due to excessive expenditure on war is called Wartime inflation.
2. Post war inflation: Inflation occurring during the post war period is called post war inflation.
3. Peace-time inflation: Inflation occurring during peace-time owing to the excess government expenditure over its revenue is called peace inflation.

Cause of inflation

1.    Increase in Money Supply: Expansion of the supply of money beyond the normal requirements of trade sand industry is one of the causes, responsible for inflation. When the supply of money increases prices rise.

2.    Wars: Wars are responsible for inflation. During wars, the needs of the military are required to be met first. Consequently the supply of goods for the civilians is required. This causes rise in prices.

3.    Excessive Investments by the Government: When the govt. of a country spends enormous amount of money on projects, which will take a long time to yield results, there will be rise in the income of the people without corresponding increases in the supply of goods.

4.    Deficit Financing: Deficit financing by the govt. is one of the causes responsible for inflation, when the govt. adopts deficit financing there results in printing of more currency notes.

5.    Taxes: Taxes like excise duties levied by the goal will result in rise in prices.

6.    Devaluation of currency: When the currency of a country is devalued, exports are encouraged and imports are discouraged. As a result, the supply of goods within the country is reduced.

7.    Dehoarding of Money: When there is dehoarding of money by the public there will be increases in the supply of money.

8.    Increase in wage costs: Some times, trade unions succeed in getting higher wages for their members, if there is increase in the wages of labourers without corresponding increase in the productivity of the labour, the costs of goods go up the prices. The rise in prices again increase the cost of living.

9.    Hoarding of goods: Hoarding of goods by products and traders will create artificial scarcity of goods. The artificial scarcity of goods will push up the prices.

10.  Bottlenecks in Production: Sometimes, production may suffer on account of non-availability of raw materials, shortage of power or strikes or lockouts. This will cause the prices of goods to go up.

11.  Price Rise in Other Countries: When price rise in other countries more goods may be exported to other countries to get higher prices. More exports to other countries will result in reduced supply within the country.

Effects of Inflation

1. Effect on Debtors: Inflation benefits the debtors, in the sense that, when there is inflation, the debtors are actually paying back to the creditors less than what they have borrowed.
2. Effect on Creditors: The creditors lose during inflation as they get back from the debtors less than what they have lent.
3. Effect on Producers:  The producers of goods benefit from inflation, as they get higher prices for their finished goods. No doubt, they may have to pay higher prices for the various factors of production. But the rise in the price of factors of production is, generally, less than the rise in the price of finished goods. As such, there will be some net gain for the producers.
4. Effect on Farmers: Farmers gain from inflation in many ways. First, they get higher prices for their products, especially for essential foodstuff. Secondly, they can hoard farm product and gain from speculative rise in prices. Thirdly, when they repay their loans they actually repay less than, what they have borrowed because of the fall in the value of money.
5. Effects on Wage Earners: Inflation is both disadvantages & advantages to the wage-earners. It is disadvantageous to the wage earners, as the rise in their wages in less than the rise in prices.
6. Effects on Speculators: Inflation is beneficial to speculators. Speculators can hoard stocks of goods, create artificial scarcity of goods, cause rise in prices and gain from the rise in prices.
7. Effect on wage & fixed income group: Fixed income group are hot very hard by inflation, because while their money incomes remain fixed, their real incomes fall on accounts of the fall in value of money.
8. Effect on Investors: Investors on the shares of companies gain from inflation, as they get higher rate of dividend thanks to the higher profit earned by their companies during inflation. But, those who have invested on fixed interest yielding securities like bonds and debentures lose.
9. Effect on Small Savers: Small savers, generally, keep their savings in bank either in fixed deposits accounts or in savings bank accounts. The incomes they get from fixed deposite or saving bank deposite remains same or fixed.

Remedial Measures for the Control of Inflation

1. Monetary Measures: Monetary measures refers to measures undertaken by the central bank of the country.

Monetary Measures Include the Following:

a)    Credit Control: One of the important monetary measures is the adoption of credit control methods by the Central Bank of the country. The Central Bank can adopt both quantitative and qualitative credit control methods to control the quantity and quality of credit. This measures is helpful in controlling inflation due to demand – pull factors. It may not be effective in controlling inflation due to cost-purt factors.

b)    Demonetisations of Currency: Demonetisations of currency of higher denominations is one of the measure to control inflation. This measure is usually adopted when there is abundance of black money in the country.

c)    Issue of New Currency Notes: Issue of new currency notes in place of the existing currency notes is the most extreme monetary measure. Under this measure, one new currency note is exchanged for a number of old currency notes.

d)    Rationing: Rationing refers to controlled distribution of goods. It is concerned with the distribution of scare goods so as to make them available to a large number of consumer.

e)    Selection of Proper Projects: Investments of funds on project, which have a low gestation period, will contribute to the quick supply of goods to meet the demand for goods and thereby, help to reduce the prices.

f)     Import: Large import of goods may improve the supply position within the country and there by, contribute to reduction in prices. However, such a steps is possible only if the balance of payment position permits.]

g)    Higher Output: Higher output in the public as well as in the private sector will increase the supply of goods and contribute to fall in prices.

Deflation

Meaning of Deflation:

Prof. Samuelson says, “ Deflation we mean a time when most prices and costs are falling”.

In other words of Crowther, “Deflation is that state of the economy where the value of money is rising or the prices are falling”.

It is clear that deflation is a state of affairs or situation in which there is marked and sustained fall in the general price level accompanied by a fall in production and employment and Persistent rise.

Features of Deflation:

1.    Deflation is a monetary phenomenon caused by a fall in the supply of money.

2.    The fall in prices level is marked and persistent.

3.    The fall in prices is not confined to any specific goods, but extends to all goods. In other words, there is a fall in the general price level during deflation.

4.    During deflation, the fall in the general price level is accompanied by a fall in rise in the value of money.

5.    Deflation is man-made. It arises out of the government, the Central Bank, Commercial Banks, Businessmen, etc.

Effects of Deflation:

1.    Effects son Output and Employment: When there is deflation prices fall the fall in prices will result in fall in profit for the producers. This in turn will laid to fall in out put and development.

2.    Effects on Traders & Producers: Traders and Producers lose on account of fall in price of .

3.    Effect on farmers: During deflation, farmers loses they cannot get good prices for produce.

Fiscal Measures: Monetary measures alone are incapable of controlling inflation.

Fiscal measures refer to measures undertaken by the government.

The Important Fiscal Measures are:

a)    Reduction in Government Expenditure: This measures means reduction in unnecessary government expenditure on non-development activities to curb inflation. The reduction in government expenditure will also put a check on public expenditure, which is dependent on government demand for goods and services.

b)    Increase in tax: Increase in taxes refers to increase in the rate of personal, corporate and commodity taxes. This measure means not only increase in the rates of existing taxes, but also levying of new taxes.

c)    Increase in savings: Another fiscal measures is increase in saving on the part of the people. Increase in savings on the part of the people will tend to reduce disposable income with the people and hence personal consumption expenditure.

d)    Surplus Budgets: Another important fiscal measure to control inflation is the adoption of anti-inflationary budgets. The government should give up deficit financing and should have surplus budget adoption of surplus ------------- less.

e)    Public Debt Management: Public debt management, to control inflation, means that the government should stop repayment to some future data till inflationary pressure are controlled.

Other Measures:

a)    Increased Production: Increased production is an important measure to control inflation. Increased production means increasing the production of essential consumer goods like food, sugar, cloth, etc.

b)    Rational Wage Policy: Rational wages policy and income policy is an important measure to control inflation. To ensure rational wages and income policy the government should freeze wages, increments, bonus, etc.

c)    Price Controls: Price control refers to fixation of ceiling prices on essential commodities.

First through price controls, scarcity of goods cannot be solved.

Secondly, where there is price control there is the danger of resources being diverted from goods subject to price controls to goods, which are free from price control.

Thirdly, a large and efficient organisation is required for the enforcement of price controls.