Macro-Economics Inflation &unemployment



Inflation is a sustained, rapid increase in prices, as measured by some broad index (such as Consumer Price Index) over months or years, and mirrored in the correspondingly decreasing purchasing power of the currency.

Causes of Inflation

1. The Money Supply

Inflation is primarily caused by an increase in the money supply that outpaces economic growth.

2. Demand & Pull Effect

The demand-pull effect states that as wages increase within an economic system (often the case in a growing economy with low unemployment), people will have more money to spend on consumer goods. This increase in liquidity and demand for consumer goods results in an increase in demand for products. As a result of the increased demand, companies will raise prices to the level the consumer will bear in order to balance supply and demand.

3. Cost-Push Effect

Cost -Push Effect theory states that when companies are faced with increased input costs like raw goods and materials or wages, they will preserve their profitability by passing this increased cost of production onto the consumer in the form of higher prices.

A simple example would be an increase in milk prices, which would undoubtedly drive up the price of a cappuccino at your local Starbucks since each cup of coffee is now more expensive for Starbucks to make.

4. Population Explosion

Rapid increase in population is also an important cause of inflation. With increase in population the demand of goods & services also increases but the supply of goods & services doesn't increase at the same rate. Due to imbalance between demand and supply of goods & services, Price start to rise and causes inflation.

How to combat Inflation ?

  • Spend money on long-term investments.
  • Invest in gold and precious metals.
  • Invest in real estate.
  • Save More.



Unemployment is defined as a situation where someone of working age is not able to get a job but would like to be in full time employment.

Causes of unemployment

(i) Caste System:

In India caste system is prevalent. The work is prohibited for specific castes in some areas.

In many cases, the work is not given to the deserving candidates but given to the person belonging to a particular community. So this gives rise to unemployment.

(ii) Slow Economic Growth:

Indian economy is underdeveloped and role of economic growth is very slow. This slow growth fails to provide enough unemployment opportunities to the increasing population.

(iii) Increase in Population:

Constant increase in population has been a big problem in India. It is one of the main causes of unemployment. The rate of unemployment is 11.1% in 10th Plan.

(iv) Agriculture is a Seasonal Occupation:

Agriculture is underdeveloped in India. It provides seasonal employment. Large part of population is dependent on agriculture. But agriculture being seasonal provides work for a few months. So this gives rise to unemployment.

(v) Joint Family System:

In big families having big business, many such persons will be available who do not do any work and depend on the joint income of the family.

Many of them seem to be working but they do not add anything to production. So they encourage disguised unemployment.

(vi) Fall of Cottage and Small industries:

The industrial development had adverse effect on cottage and small industries. The production of cottage industries began to fall and many artisans became unemployed.

Types of Unemployment

  • Cyclical Unemployment

Over time, the economy experiences many ups and downs. That's what we call cyclical unemployment because it goes in cycles. Cyclical unemployment occurs because of these cycles. When the economy enters a recession, many of the jobs lost are considered cyclical unemployment.

  • Structural Unemployment

Structural unemployment occurs because of an absence of demand for a certain type of worker. This typically happens when there are mismatches between the skills employers want and the skills workers have. Major advances in technology, as well as finding lower costs of labor overseas, lead to this type of unemployment.

  • Frictional unemplyment

Frictional unemployment refers to the portion of the unemployment rate that results from labor market turnovers. This unemployment is ongoing and includes job transitions and communication lags between employers and potential employees, people entering and exiting the labor force and from the constant creation and destruction of jobs.

Unemployment & Inflation Relationship

The inverse correlation between inflation and unemployment should be intuitively easy to grasp. Based on the fundamental principles of supply and demand, inflation ought to be low when unemployment is high, and vice versa. This is because:

  • Higher unemployment will make it harder for unions and workers to bargain for higher wages. This is because if they ask for higher wages, employers can turn round and say there are 3 million unemployed people willing to work at lower wages. Therefore, wage inflation is likely to be muted during the period of rising unemployment.
  • The higher unemployment is also a reflection of the decline in economic output. Therefore, firms are seeing an increase in spare capacity and increase in volume goods not sold. In a recession, there will be greater price competition. Therefore, the lower output will definitely reduce demand pull inflation in the economy.

Phillips Curve

A.W. Phillips was one of the first economists to present compelling evidence of the inverse relationship between unemployment and wage inflation.

Phillips hypothesized that when demand for labor is high and there are few unemployed workers, employers can be expected to bid wages up quite rapidly. However, when demand for labor is low and unemployment is high, workers are reluctant to accept lower wages than the prevailing rate, and as a result, wage rates fall very slowly.

Done By:- Divij Garg -IBM20162057
Sagar Chauhan -IBM20162062
Jagrit Luthra - IBM20162074
Harsh Saraf - IBM20162079

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