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CLOSED ECONOMY: An economy with little or no foreign trade. A country with a closed economy can usually tend to it's problems without worrying about other countries. During the 1950s and 1960s, the good old U. S. of A. had relatively little foreign trade, and was very nearly a closed economy. But that was a unique period in the United States unmatched before or since. In fact, it's very difficult to find a real-life closed economy anywhere in the world today. Because of this, you should take a close look at the entry open economy.
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                           DEMAND-PULL INFLATION: Inflation that results from increases in aggregate demand that exceed any increases in aggregate supply. This type of inflation results when the four macroeconomic sectors (household, business, government, and foreign) collectively try to purchase more output than the economy is capable of producing. The alternative type of inflation is cost-push inflation. Demand-pull inflation places responsibility for inflation squarely on the shoulders of increases in aggregate demand. In general, increasing aggregate demand means buyers want more production than the economy is able to provide. The end result is that buyers bid up the price of available production. The extra demand "pulls" the price level higher.- In terms of the simple production possibilities analysis, demand-pull inflation results when the economy bumps against, and tries to go beyond, the production possibilities frontier. The end result is inflation.
- In the more elaborate aggregate market analysis, demand-pull inflation results when aggregate demand increases beyond aggregate supply creating economy-wide shortages. As with market shortages, the price (or price level) rises. The end result is inflation.
Demand-pull inflation can be triggered by any of the aggregate demand determinants.- It could be the result of an increase in consumption, perhaps brought about by a boost in consumer confidence or (strange is it might seem) expectations of future inflation.
- It could be the result of an increase in investment caused by falling interest rates or expectations of a booming economy.
- It could be the result of an increase in government spending or a decrease in taxes, either of which would boost deficit spending.
- It could be an increase in exports to other nations or a decline in imports from other nations.
While any of these aggregate demand determinants can and have caused increases in aggregate demand, creating shortages in the aggregate market and higher price levels, the resulting inflation tends to be short-lived UNLESS the money supply also increases. The reason is that expenditures require money. If the money supply is fixed, then one sector can increase expenditures on aggregate supply ONLY if another sector reduces expenditures on aggregate supply.Suppose, for example, that households decide to increase consumption expenditures because they expect inflation to increase and future prices will be higher. As such, they devote a larger share of their income to consumption and a smaller share to saving. But, if households save less, then the flow of funds used by business for investment expenditures and government for deficit financing is less. These sectors have less money to spend. An increase in aggregate demand caused by an increase in consumption expenditures can temporarily trigger a higher price level, but eventually it will be countered by decreases in aggregate demand caused by decreases in investment expenditures and government purchases. The only way to sustain demand-pull inflation is if the increase in the MONEY spent by one sector does NOT reduce the amount of MONEY available for spending by other sectors. And this can only happen if the economy has more MONEY. In fact, one of the best documented relations in economics is that between money and inflation. Inflation simply CANNOT persist for any extended period of time (that is, a year or more) without increases in the amount of money available to the economy.
Recommended Citation:DEMAND-PULL INFLATION, AmosWEB Encyclonomic WEB*pedia, http://www.AmosWEB.com, AmosWEB LLC, 2000-2021. [Accessed: September 22, 2021].
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