Cost push and Demand pull Inflation

This post may help for the ones who are really behind from others..... (and for the ones who are not able to watch the video for aggregate demand)

Inflation is caused by combination of 4 factors. Those factors are:

* Supply of money goes up .
* Supply of goods goes down.
* Demand for money goes down.
* Demand for goods goes up.

Now we'll see the Definition of cost-Push inflation and Demand-pull Inflation and we'll try understand them by using those factors.

Definition of Cost-Push Inflation

If aggregate supply decreases it may cause inflation. Aggregate supply is decreased by those two main sources:

* An increase in wage rates
* An increase in the prices of raw materials

The decrease in aggregate supply engage(carry on) by increasing costs, and this inflation is called cost-push inflation.
Other things remaining the same, the higher the cost of production, the smaller is the amount produced. Because of the price level, rising wage rates or rising prices of raw materials such as oil causes firms to decrease the amount of labor employed and to shorten production.

Aggregate supply is the the total value of the goods and services produced in a country or simply factor 2 , "The supply of goods". The supply of goods can be shaped by factors other than an increase in the price of inputs , so not all factor 2 inflation is cost-push inflation.

What caused the price of inputs to rise?. Any combinations of the four factors could cause that, but the two most likely are factor 2 (Raw materials such as oil have become more scarce, which means quantity is less.), or factor 4 (The demand for raw materials and labor have risen). This is how we understand cost push inflation and demand-pull inflation by using 4 factors.

And this is the diagram: it shows that the price of the supply has increased(because supply has decreased, and demand has contracted.

Definition of Demand-Pull Inflation

The inflation caused from an increase in aggregate demand is called demand-pull inflation. Such an inflation may rise from any single factor that increases aggregate demand, but the main ones that increases the aggregate demand are:

1. Increases in the money supply(factor 1)
2. Increases in government purchases(more goods, supply increases)
3. Increases in the price level of the rest of the world.

Inflation caused by an increase in aggregate demand, is inflation caused by factor 4 ( which is an increase in the demand for goods, (which means Supply extends)). The three factors listed above, which increases the aggregate demand will also tend to increase inflation, for example:

1. Increases in the money supply, factor 1 inflation.

2. Increases in government purchases, The increased demand for goods by the government causes factor 4 inflation.

3. Increases in the price level in the rest of the world, Suppose you are living in the UK. If the price of chocolate rises in Ireland, we should expect to see less English people buying chocolates from Irish and more Irish purchase the cheaper chocolate from UK sources. From the UK's view the demand for chocolate has risen causing a price for chocolate to rise (factor 4 inflation)
Inflation in Summary
Cost-push inflation and demand-pull inflation can be explained using four inflation factors. Cost-push inflation is inflation caused by rising prices of inputs ,that causes factor 2 . Demand-pull inflation is factor 4 inflation, which can have many causes.

This is the diagram for Demand-pull inflation: Here we can see that Real National income has increased and the prices are going up, so the demand for goods is rising, more goods needs to produced, supply is extending.





Now on this graph: Demand-pull inflation caused the demand for goods to contract and supply to decrease. And the point LRAS is Full unemployment. When aggregate demand increases from AD1 to AD2 this will lead the economy to full employment, many firms will widen their profit, they'll increases the prices, the production will be more. As employment in the economy will rise, the demand for goods and services will be more inelastic. And this will allow firms to increase their prices(p1 to p2)


Thats all i think it's quite helpful))