1.

Distinguish between inflationary & deflationary gap. State 2 measure to correct it.

Answer»
Inflationary GapDeflationary gap
AD > AS at full employmentAD < AS at full employment
Aggregate Demand Increases – Supply falls short of demandAggregate demand falls – situation of over production
Price rises, so investors are motivated to investPrice falls – depressing environment for investors 
production, income & employment increasesproduction, income & employment falls

Two measures to correct it 

Fiscal policy measures; 

(i) Public Expenditure:- Government reduces public expenditure at the time of inflation , so that excess purchasing power of people can be reduced & thus excess demand can be curtailed. During deflation government incurs more expenditure so that people have extra money to increase AD. 

(ii) Policy of direct taxes: Government increases direct taxes to reduce extra purchasing power of the people to control inflation & reduces direct taxes to provide extra money to people during deflation.


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