IGCSE Economics Paper-2: Specimen Questions with Answers 1 - 2 of 100

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Passage

Inflation has dire economic consequences. Inflation is regarded as a serious social and economic problem.

Question 1 (1 of 5 Based on Passage)

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What are the causes of inflation?

Explanation

Inflation is a complex phenomenon which cannot be attributed to single factor. The major causes of inflation are:

  • Over expansion of money supply- Many a time a remarkable degree of correlation between the increase in money supply and the rise in the price level may be observed.
  • Expansion of bank credit- Rapid expansion of bank credit is also responsible for the inflationary trend in a country.
  • Deficit financing- The high doses of deficit financing which may cause reckless spending, may also contribute to the growth of inflationary spiral in a country.

Ordinary Monetary Factors

  • High non-developmental expenditure: increase in public expenditure and specially the growth of the defense and non-developmental expenditure.
  • Huge plan investment: The huge investment and its high rate of growth in every plan may lead to an excess demand in the capital good sector, so that industrial prices may rise.
  • Black money: Black money encourages lavish spending, which causes excess demand and a rise in price.

Question 2 (2 of 5 Based on Passage)

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Trace the effects of inflation.

Explanation

Inflation has socio-economic consequences. Inflation is considered as a serious social and economic problem. The effects of inflation on the economic system are categorized into three different kinds:

  • Effect on production: A moderate rise in price has a favorable effect on production when there are unutilized or underemployed resources in existence in an economy. Business person are induced to invest more and as a result, employment, and output increases. But when inflation has reached advance stage, its brighter aspect disappears and evil aspect manifests them.
  • Distribution effect: All producers, traders, and speculators gain during inflation because of the windfall profits which arise, because of prices rise at a faster and higher rate than the cost of production. But the interest, wages, and rent do not rise at a increasing rate and are more or less same. Moreover, profits increase as there is a lag between rise in prices and rise in cost of production.
  • Effect on Consumption and welfare: Inflation implies an erosion of the consumer value of money. It is a form of taxation. Because of the falling purchasing power, the real consumption of the common people also falls. Increase in the cost of living at the time of inflation implies reduction in the standard of living and lowering of economic welfare of the community. A galloping inflation is the cruelest form of taxation.
  • Social and political consequence of inflation: Continuous inflation in ac country creates a breeding ground for social and political upheavals. Inflation redistributes income and wealth in favor of the rich and widens the gap between the rich and poor, thereby aggravating social injustice.
Socio-Economic Consequences

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