1

BANKING
Q. #: What is Commercial Bank? Also mention its relative
functions?

 1. COMMERCIAL BANK:

A bank is a financial institute which gives money and

credit. It accepts deposits from individuals, firms and
companies at a lower rate of interest and gives at higher rate
of interest to those who need them. A bank thus is a profit
earning institute.
According to Crowther, “A bank is a firm which collects
money from those who have it spare. It lends money to
those who require it.”
In the word of Mr. Parking, “A bank is a firm that takes
deposits from households and firms and makes loans to
other households and firms.”

⇒ FUNCTIONS OF COMMERCIAL BANK:

A commercial bank performs a variety of functions. These

functions are classified under two main heads, (1) Primary
functions (2) Secondary functions

1) Primary Functions: The primary functions of commercial bank

are as under:
(a) Accepting of deposits (b) Advancing of money/Making
loans.

(a) Accepting of deposits:

The first important function of commercial bank is to
accept deposits from those who can save but can’t make
profitable use of their saving themselves. In order to attract
the saving from different persons and institutions, the bank
maintaining the three types of accounts.

(i) Current Account: A current account is one which can be

operated continuously without any restrictions. The customer
can draw cheques against the account. Therefore the bank
usually doesn’t pay the interest on the current account
deposits. The current account holder receive cheque book and
regular statement containing details of money paid in and paid
out.
(ii) Saving Account: The aim of this account is to encourage
and mobilize savings of the people. Saving account is
generally opened by persons of small income. The banks pay
interest on this type of deposits. However, the banks normally
place restrictions on their frequent withdrawal.
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(iii) Fixed Deposit Account: Fixed deposits are kept with the
banks for a specified period of time. The rate of interest on
fixed also called “term deposit” are fairly high. The longer
period of deposit, the high is the rate of interest.

(b) Advancing of money/Making loans:

The second major function of commercial bank is to make
loan to businessman, traders, exporters, householders etc.
These loans are made against documents of title of goods,
marketable securities and personal securities of the borrowers
etc. The loaning of money may be in any of the following
forms.

(i) Cash Credit: It is very common form of borrowing by

business concerns. The bank advances loan to the commercial
and industrial units against the security of goods. The
borrower if permitted to draw within the cash credit limit
sanctioned by the bank. The interest is charged only on the
amount of money withdrawn by the borrower.
(ii) Loans: The commercial bank grant short and long term loan
to individual, firms, and companies mostly against securities.
The amount of loan is credited to the borrowers’ account who
withdraws it as per his requirement.

2) Secondary Functions: Secondary functions of commercial bank

are classified as under: (a) Agency Functions (b)
Utility Functions

(a) Agency Functions:

The agency function bank act as agent of there customer
in various ways as:

(i) Collection of Cheques: It acts as agents to its customers

in the collection and payment of cheques and bills.
(ii) Collection of dividends: The bank provides a very useful
service in the collection of dividends or interest earned on
shares held by its customers.
(iii) Purchase or Sale of securities: The bank, if authorized
by customers, purchases or sells securities on his behalf and
adds another benefit to its portfolio.

(b) Utility Functions: A bank performs a number of other

general utility services to its clients which are given below:

(i) Issue of Traveler’s Cheque: The bank also issues

traveler’s cheques for the convenience of the travelers and
charges a nominal commission.
(ii) Export Promotion Cell: In order to boost (push) the
exports of the country, the banks have established export
promotion cells. These cells provide information and guidance
to the exporters at no extra cost.
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(iii) Advice on Financial Matters: Sometimes the banks give

valuable advices on various financial matters to their
customers.
(iv) Safe Custody of Valuable: The banks keep valuable
ornaments, documents etc, for safe custody.

Q. #: What are the different types of Commercial Bank?

 2. KINDS OF COMMERCIAL BANK:

Following are the main kinds of commercial bank, which

are given below.
(i) State Bank: Every civilized country now has its own
central bank or state bank. The primary functions of state
bank are to arrange the flow of money and credit in order to
promote efficiency and stability in the country. In Pakistan
State Bank of Pakistan is the country’s central bank.

(ii) Commercial Bank: Commercial Banks are those banks which

are engaged in performing the routing duties of banking
business. They collect surplus money from the people. They
make loans and advances in the form of O/D (overdraft) cash
credit. Commercial Banks are also providing agency service and
utility services. The banks in short are considered the life
blood of economic society. In Pakistan, the NBP, UBL, HBL,
MCB, etc. are performing the functions of commercial banks.

(iii) Foreign Exchange Bank: The Foreign Exchange Bank mainly

deals with international trade. These banks take the
responsibility of settlement of foreign exchange and arrange
the foreign business in Pakistan. All the nationalized
commercial banks have been allowed to do the business of
exchange banks.

(iv) Saving Center Bank: Saving Banks are those banks which
collect and keep small saving of people. The saving banks
invest the funds in the safe way government security. Post
offices and saving centers perform the business of saving
banks of Pakistan.
(v) Agriculture Development Bank: Agriculture Banks are setup
to provide the financial assistance to the agriculture. The
agriculture banks provide short term credit to the farmers for
the purchasing of seeds. They also make medium term advances
for buying Tracters and modern technology. ADBP (Agriculture
Development Bank of Pakistan) was setup in 1981, to meet
financial requirement of agriculture.
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(vi) Industrial Development Bank: These banks mainly provide

medium and long term credit to the industries. Since the
industrial bank have long-term deposit. They are in a position
to permit long term investment in industries. In Pakistan
Industrial Bank was setup in 1961, other institutions engaged
in providing financial assistance to industries are PICIC
commercial bank, NDFC bank etc…

Q. #: What are the different type of customer of Commercial

Bank?

 3. TYPES OF CUSTOMERS:

Every commercial bank is anxious to increase its

customers. However, every one can’t be accepted as its
customer. Only those persons who are competent in law to enter
into a contract can be considered as customers. The customers
of a bank can mainly divide into two categories (1) Ordinary
Customers and (2) Special Customers. Ordinary Customers are
those who are competent to inter into contract under the laws
of land. And individual, a body corporate, a firm can open an
account with the bank. The bank before accepting one as a
customer weighs the customer’s financial position, his
character, honesty, social standing and good will in the
society. The special customers are those who are dealt with as
special ones legally. The relationship between bank and
special type of individual customers are governed by the legal
rules enforced in the country.
The special types of individual customers of the
commercial banks are (i) Minor (ii) Lunatic (iii) Drunkard
(iv) Married Women (v) Purdah Observing Women and (vi)
Illiterate persons.

(i) Minor Customer: A person who has not attained the age of
18 years is a minor. A minor cannot enter into a contract.
Therefore, any contract with minor is void.
However, a bank can accept & open a minor’s account if it
is directed by the Guardian Court. The Court appoints a
guardian of a minor who obtains and signs the prescribed
opening form of the account himself. He gives his won specimen
signatures for the operating of the account. On attaining the
age of majority which is 21 years, the minor is allowed to
open and operate the account himself.

(ii) Lunatic Customer: A person who is incapable of

understanding, is of unsound mind, cannot enter into contract
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with the banker as customer. If an account is already

existence of a same person but his mental status is disturbed,
the bank on knowing the customer going insane will immediately
stop payment from his account and suspend all transactions
till he receives either satisfactory evidence of his recovery
or an order is received from the court.

(iii) The Drunkard Customer: If a person is in state of

intoxication & is not in senses, he cannot open an account
with a bank. The main condition of valid contract with a bank
is between persons who are of sound mind. However, if a person
is drunk, is of sound mind, he may open & operate an account
with a bank.

(iv) The Married Women Customer: Man & Woman are equal in the
eyes of law for the purpose of making a contract. A married
woman has every right to enter into contract with a bank and
open an account. A married woman is as good as a male member
of the society so far as law is concerned. She can open any
type of account including Foreign Currency Account in her
name. If may here be noted that a married woman cannot make
her husband responsible for the debt incurred by her. It is a
sole responsibility of the married woman to repay the loans
and advances made in her name by bank.

(v) The Purdah Observing Woman Customer: The bank has to be

very cautions in opening an account of Purdah observing lady.
She cannot be treated at par as with other women. Before
accepting a Purdah observing woman as customer, the banker
must carry out a thorough scrutiny (inspection) about the
identity of woman. A very close referee of introducer, from
the point of view of the parties, the customer and banker
should confirm the identity of the Purdah observing lady.

(vi) The Illiterate Person Customer: An illiterate person from

the banker’s point of view is the person who cannot put his
signatures. He uses his thumb impressions in place of
signatures for identification. The banker has, therefore, to
be very cautions in honoring the cheques of illiterate person.
The banker usually takes the following precautions in this
regard.
⇒ A Certified photograph of an illiterate person is pasted
on the signature card for identification.
⇒ At least two left hand thumb impressions are placed in
place of specimen signatures for identification.
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Q. #: What precautions are usually undertaken by bank, before

cash advances?

 4.PRECAUTIONS OF CASH ADVANCES:

The following are the precautions are usually undertaken

by bank, these are given below.
(i) The customer to be Honest, Responsible and Trustworthy:
Before advancing loans against goods or documents of title of
goods, the banker must be thoroughly satisfy himself about the
honesty, trustworthy and experience of the borrower in the
trade or business.

(ii) Familiarity with different markets: The banker must be

familiar with the up & down of the price in the commodities,
against which he gives to advance loan earlier. The up-to-date
knowledge of the different market enables the banker to
regulate the margin for loans against produce goods.

(iii) Readily saleable commodities: The banker should advance

loan against those commodities which are of seasonal nature &
are readily saleable in the market.

(iv) Possession of Goods: In order to secure the loan the

banker should take passions actual or constructive of the
goods. He should also have a direct contract with the owner or
the agent who is in possession of commodities.

(v) Storing of goods in the bank’s Godown: The banker should

not allow the goods to remain in the godown of the customer
unless the key of the godown and the services of the watchman
transferred to the bank.

(vi) Commodities having Stable Market: The banker should

prefer to advance loans against those commodities whose demand
is less inelastic. The goods with stable markets are less
liable to market fluctuations.

(vii) Proper Evaluation: The banker should accurately

ascertain the prices of commodities pledge for loan. He can
get information about the prices from commodities broker,
journals and daily news papers.

(viii) Insurance of Goods Pledged: The banker must also insure

the goods of the customer pledged with the bank against loss
of fire, theft, etc. up to their full value.
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Q. #: What is State Bank of Pakistan? Also mention its

relative functions.

 5. STATE BANK OF PAKISTAN:

The State Bank of Pakistan was established on 1st July

1948, it is the central bank of Pakistan. The head office of
SBP is at Karachi & branches are at Lahore, Peshawar, Quetta,
Faisalabad, Rawalpindi, Islamabad, Multan, Sialkoat, Sukkur,
and Hyderabad. The state bank is the leader of all the other
banks. It doesn’t compete for profit. It has right t issue
notes (currency). It is bank of Govt. and commercial bank. It
controls the operation of other banks for monetary and
economic stability in the country.
The state bank is managed by a central board of
directors. It includes one Governor, one more deputy Governor,
and nine directors nominated by the Federal Government. There
is also an executive committee which is empowered to transit
business on behalf of the central board of directors. The
Chief Executive of the bank is the governor, who controls and
directs the affairs of the bank on behalf of the central
board. The central directorate of SBP has the department over
5,000 employees the departments are:
(i) Administrative Department (ii) Accounts Department (iii)
Agriculture Credit Department (iv) Audit Department (v)
Banking Control Department (vi) Banking Inspection Department
(vii) Engineering Department (viii) Exchange Department
(ix) Legal Division Department (x) Public Relation Department
(xi) Research Department (xii) Statistical Department(xii)
Security Department (xiv) Training Department.

⇒ FUNCTIONS OF STATE BANK OF PAKISTAN:

(a) The Bank of note issue: The State Bank has the soul right
for the issuance of notes. The bank has issued currency notes
of rupees 10,20,50,100,500,1000,5000, the notes are issued
under fixed minimum reserve system. The bank keeps 30% in
goals or foreign exchange, & 70% in form of securities;
therefore notes issued by the bank are fully convertible.
(b) Banker to Government: The State Bank deal as a bank to the
central and provincial government. It accepts deposits of the
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government. It pays cheques on behalf of the government. It

pays cash for payment of salaries & wages. It provides loan to
the Govt. for ninety days. It transfers fund from one account
to another account & from one place to another place. The bank
pays no interest on govt. accounts.
(c) Agent to the Government: The State Bank of Pakistan as an
agent receives loan for government payments, interest on debts
and discount on treasury bills as control the foreign
exchange.
(d) Advisor to Government: The State Bank also acts as advisor
to the govt. in all financial matters. Since the State Bank is
directly involve in the money and foreign exchange markets. It
also provides advice to commercial bank & other financial
institution & to commerce & industries in general.
(e) Exchange Control: The State Bank is authorized to control
foreign exchange. It has control over the foreign receipts and
payments. The bank has exchange control department for control
on the foreign exchange operations.
(f) Controller of Credit: The bank controls the volume of
credit it is necessary for the economic development of the
country. The credit is controlled by the bank rate, policy
open market operation. It is the most important function of
the bank.
(g) Custodian of Foreign Exchange: The State Bank of Pakistan
acts as a custodian of forex. It gives gold, silver, foreign
currency, foreign bills at other securities. Such reserves are
necessary for making payments to the other countries. The bank
controls the movement of capital.
(h) Remittance Facilities: The State Bank of Pakistan provides
facilities for transfer of money from one to another place to
the members’ bank. The bank doesn’t receive any commission for
it.

Q. #: What is World Bank? Also discuss its relative functions

and criticism.

 6. WORLD BANK:

The name World Bank has too different financial real

existence. It’s also called International Bank for
Reconstruction & Development (IBRD) & International
Development Association (IDA). The World Bank is international
bank for reconstruction and development was established in 27th
December 1945. The bank started operation on 25th June 1946.
The IBRD has it is head office at Washington DC, USA.
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The management is vested with the board of governors,

consist one governor from each member country and 22 full time
executive directors. The board normally meets ones a year. The
governor of the bank have delegated their many powers to a
board of Executive Directors, 5 directors appointed by five
members like, USA, Japan, Germany, France, UK, being a largest
stock holders and 17 are elected by the governor representing
the other member countries. The Board of Directors performs
its duties on a full time basis. The president of the bank is
the Chairman of the Board.
The world bank provide assistance for many projects like,
electricity power, transport, agriculture, rural and urban
developments, water and sewerage development, population,
health, education, housing development, about 75% of the
landing is for roads plans, power station, agriculture and
industries. The IRBD loans are for 20 years or less with a
gress period of 5 years. The loans are made to government or
entities which can sure government guaranties of repayment.
The World Bank on the whole has help increasing the pare of
economic development of different countries of the world.

⇒ FUNCTION OF WORLD BANK:

Principal functions of World Bank are as under:

i) To assist in the reconstruction and development of member

countries by facilitating the investment of capital for
productive purpose.
ii) To promote and supplement private foreign investment.
iii) To give performance more useful and urgent projects.
iv) To assist in bringing about a smooth transaction for war
time to peace time economy.
v) To ensuring that it is loan help in the raising the
standard of living of the people in the borrowing member
countries.
vi) World Bank helps now the poorer countries of the world it
provides recovery of advice & information besides the making
loans.

⇒ CRITICISM ON WORLD BANK:

The working of World Bank is criticized on the following

grounds.

i) The World Bank charges a very high rate of interest on its

loan.
ii) There is discrimination in advancing loan to member Europe
& Western countries of smaller both in area and population,
they have received large amount of loans where Asia and Africa
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both is rich in natural resources are being given up stamp

motherly treatment.
iii) The loan given by World Bank to the developing countries
is too small to play an effective role in developing their
economy.

Q. #: What is money? Also define its functions.

 7. MONEY:

Money is difficult concept to define. The term money

means purchasing power, something which buys things. In other
words money is purchasing power that can exercise and
immediate demand on goods and services. Obviously such
purchasing power must be generally accept as means of
payments, medium of exchange, historically in remember able
things have served, as money in the modern world. However, in
the most countries money the supply of consists of (i)
Currency Money (ii) Deposit Money.
(i) Currency Money: It is in the form of coins & paper notes.
It is legal tender money. It is the money which must by law is
accepted in payments of money obligation. In very backward
countries currency money is the main item of money.
(ii) Deposit Money: Demand Deposit or accounts in the bank
fulfill charging all the conditions necessary to be designated
as money, cheques which present demand deposit inspite are
purchasing power they buy goods & services.

⇒ FUNCTIONS OF MONEY:

1) Money as a medium of exchange:

In all market transactions, money is used to pay for
goods and services. The sale or purchase of goods is done
through money. Money, in other words, acts as a medium of
exchange and helps in overcoming the difficulty of double
coincidence of wants of the barter economy.
The use of money as a medium of exchange has helped in
promoting efficiency in the economy. It has reduced much of
the time spent in exchanging goods and services. It has also
promoted efficiency by allowing people to specialize in any
area in which they have comparative advantage and receive
money payments for labour. The use of money as medium of
exchange has permitted more specialization by lowering
transaction cost and encouraging division labour.

2) Money as standard of deferred payments:

Another function of money is that it is used as a mean of
settling debts maturing in the future. In modern economy, most
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of the business is done on credit. Goods are brought and sold

on the promise to pay money on a certain date in future. Debts
are stated and paid terms of units of account.
3) Influence on income and consumption:
The use of money has a direct bearing on the levels of
income and consumption n the country. All production takes
place for the market and the factor payments (rent, wages,
interest and profit) are made in money. The higher the
production, the higher are the remuneration to the factors and
vice versa.
4) Money is an instrument of making loans:
People save money and deposit it in banks. The banks
advance these savings to businessmen and industrialists. Money
is thus the instrument by which saving are transferred into
saving.
5) Money is a tool of monetary management:
Money is important tool of monetary management. If the
money is effectively used, it helps in increasing output and
employment. Money is also an important factor in determining
the distribution of income and wealth among the members of the
society.
6) Instrument of economic policy:
Money is an important instrument of economic policy of
the government. In order to achieve growth, reduce
unemployment and maintain regular expansion of economic
activity; money is the most powerful factor.

Q. #: What is inflation? Also mention its relative causes,

remedies and kinds.

 INFLATION:

Inflation is a process in which the price is rising at a

rapid rate and the money is losing its value. In the words of
Gardner Ackley, “Inflation may be defined as a persistent and
appreciable rise in general level of average of prices.” It
may here denote that rising general level of price doesn’t
mean that all prices are necessarily rising. Even during
inflation, the prices of some goods may remain relatively
constant and a few others actually falling. Inflation also
does not mean that prices of goods rise evenly or
proportionately. Inflation is an upward movement in the
general (average) level of prices. In Pakistan, the general
price level is persistently rising since Partition of the
Subcontinent. Prices remained volatile during the decade of
1990’s ranging form 5.7% to 13% mainly because of declining
economic growth, expansionary policies, output set backs,
higher taxes and a depreciation of Pakistani rupee. The
inflation rate started declining form 1998 on ward due to
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improved supply position of goods, strict budgetary measures.

The inflation rate was 5.7% in 1998-99. It was brought down to
3.6% in 1992-2000 and further to 3.1% in 2002-03. The
inflation rate based on the CPI (Consumer Price Index) has
averaged 4.6% during 2003-04. The slight rise in prices was
the year 2004-05 mainly due to rise in the price of wheat and
an increase in the international oil price.

⇒ CAUSES OF INFLATION:

The causes of inflation are generally grouped under two main

heads (a) Demand Pull Inflation (b) Cost Push Inflation.

A. Demand Pull Inflation:

Demand pull inflation occurs when aggregate demand for

goods exceeds aggregate supply of goods at current prices,
thus leading to an increase in the price level. The factors of
which bring about increase in aggregate demand for goods or
rise in the general level of prices are grouped under two
separate heads; (i) Factors operating on demand side (ii)
Factors operating on the supply side.

(a) Factors operating on the demand side: These are the

factors which bring continuous rise in the general price
level.

(1) Increase in money supply: An increase in money supply

leads to an increase in money income. The increase in money
income raises the aggregate demand for goods and services in
the country. The supply of money increases when the govt.
resorts to deficit financing or the commercial banks expand
credit. When too much money chases too few goods, the result
is an increase in general price level.

(2) Increase in Government expenditure: If there is increase

in govt. expenditure due to adoption of development and
welfare activities of the country has to flight a war, it
causes as increase in govt. expenditure which leads to
increase in aggregate demand for goods and services and hence
the price level goes up.

(3) Increase in private expenditure: A continuous increase in

consumption and investment expenditure in the private sector
raises the demand for goods and services and leads to
inflationary rise in prices.

(4) Increase in population: The rapid rising population exerts

pressure on the demand for goods and services. If the supply
of goods and services fail to match with the demand, the
general price level moves upward.
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(5) Black money: The money generated through smuggling, tax

evasion etc. raises the demand for luxury and other goods.
Hence black money is also one of the causes in raising the
aggregate demand for goods and a rise in general price level.

(b) Factors causing decrease in supply of goods: If the

increase in aggregate demand for goods and services is matched
by an increase in the supply of goods, it will not cause
inflationary situation. When the aggregate supply of goods is
at a slower pace than the growth in aggregate demand, it then
causes inflationary rise in prices. The following factors are
identified for relatively slower growth in the supply of
goods.

(i) Lagging agricultural & industrial production: The increase

in population, incomes, employment and urbanization exert
pressure on the demand for goods and services. However, the
agricultural and industrial production grows at a slower pace,
due to shortage of essential inputs like fertilizers, water,
cement, iron etc. When aggregate demand for goods and
services exceeds the aggregate supply of it, it causes a rise
in the prices of agricultural and industrial goods.

(ii) Inadequate infrastructure facilities: If, in a country

there is shortage of power, transport and communication
facilities are slow and inefficient, it results in the slowing
down of overall production of goods. When the supply of goods
falls short of demand, the prices go up in the country.

(iii) Long gestation period: If the time lag between

investment and the production of goods is long, the shortage
of goods will arise. This will also contribute to inflationary
pressure in the economy.

B. Cost Push Inflation:

Cost push inflation occurs when there is an increase in

the cost of production of goods and is not associated with
excess demand. The main causes of cost push inflation are:

(1) Increase in money wage rate: The wage push inflation

occurs when strong labour unions manage to press for wage
increases in excess of labour productivity. Unit cost of
production is thereby raised. The rise in cost of production
exerts pressure on sellers to increase prices of goods so as
to get profit margin.

(2) Profit push inflation: If the producers of certain

commodities have monopoly or near monopoly power in the
market, they fix up higher profit margins arbitrarily without
any increase in other elements of cost. When a few powerful
firms increase the profit margins, the smaller firms also tend
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to mark up their profit margins. The higher profit margins,

thus, inflate the price level.

(3) Material push inflation: If there is increase in the

prices of some basic materials such as gas, steel, chemicals,
oil etc which are used directly or indirectly in almost all
industries, it causes an increase in the cost of production
and hence in the general price level.

(4) Higher taxes: If the government levies new taxes and

raises the rates of old taxes the producers generally shift
the burden of taxes on to the consumers. The increases in the
selling prices of the commodities push up the inflationary
trend in the economy.

(5) Import prices: If prices of imported goods increase, it

also results in the contribution of inflation.

⇒ KINDS OF INFLLATION:

Inflation is of different types. It is generally classified on

the following basis.

• On the Basis of Rate of Inflation:

(i) Creeping Inflation: It is a situation in which the rise in

general price level is at a very slow rate over a period of
time. Under creeping inflation, the price level raises upto a
rate of 2% per annum. A mild inflation is generally considered
a necessary condition of economic growth.

(ii) Walking Inflation: Walking inflation is a marked increase

in the rate of inflation as compared to creeping inflation.
The price rise is around 5% annually.

(iii) Running Inflation: Under running inflation, the price

increases is about 8% to 10% per annum.

(iv) Galloping or Hyper Inflation: Galloping inflation is a

full inflation. Keynes calls it as the final stage of
inflation. It is a stage of inflation which starts after the
level of full employment is reached. Here price level rises
very rapidly within a short period.

• On the Basis of Degree of Control:

(i) Open Inflation: It is a stage when the rise in price level

gets out of control. Milton Friedman describes it as
“inflationary process in which prices are permitted to rise
without being suppressed by government price control or
similar measures.
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(ii) Suppressed Inflation: Under this type of inflation, the

government makes efforts to check and control the rise in
price level through price and rationing. When price level is
suppressed by the above short term measures, it results in
many evils such black marketing, hoarding, corruption &
profiteering.

• Inflation on the Basis of Causes:

(i) Demand Pull Inflation: Inflation caused by increase in

aggregate demand, not matched by aggregate supply of goods,
resulting in rise of general price level is called demand pull
inflation. Demand pull inflation to be simpler, occurs when
the demand for goods and services in the country is more than
their supply. The effective demand for goods increases due to
many factors such as increase in money supply, increase in the
demand for goods by the government, increase in the income of
various factors of production etc. In short, the excessive
increase in the money supply causes inflationary conditions.
Demand pull inflation is generally characterized by shortage
of goods and shortage of workers.

(ii) Cost Push Inflation: Cost push inflation occurs when the
increasing cost of production pushes up the general price
level. Cost pull inflation occurs when the economy is below
full employment with prices rising even though there is no
shortage of goods. Cost push inflation is the result of
increase in wage costs unaccompanied by corresponding increase
in productivity, rise in import prices of goods, depreciation
in the external value of the currency, higher mark up etc,
etc.

(iii) Profit Induced Inflation: Profit inflation is in fact

categorized under cost push inflation. When entrepreneur, due
to their monopoly position raise the profit margin on goods.
It may cause profit push inflation.

(iv) Budgetary Inflation: When the government of a country

occurs the deficits in the budgets through bank borrowing and
creating new money (Deficit Financing), the purchasing power
of commodity increases without a simultaneous increase in the
production of goods. This leads to rise in the general price
level.

(v) Monetary Inflation: Milton Friedman is of the firm view

that inflation is always and anywhere a monetary phenomenon.
According to him, inflation is caused by a too rapid increase
in the money supply and by nothing else.

(vi) Multi Casual Inflation: Inflation has a number of causes.

It may be caused by increase in money supply, excessive wage
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demands, excess aggregate demand for goods, shortage of goods

etc. The chief cause of inflation in one year may not be in
the next year. Since inflation is multi causal, therefore a
variety of policy measures are needed to deal with it.

• On the Basis of Employment:

(i) Partial Inflation: According to J.M. Keynes, takes place

when the general price level rises partly due to an increase
in the cost of production of goods and partly due to rise in
supply of money before the full employment stage is reached.

(ii) Full Inflation: Full inflation prevails when the economy

has reached the level of full employment. Any increase in
money supply beyond full employment. It is also called as real
inflation.

• Anticipated versus Unanticipated Inflation:

(i) Anticipated inflation is the rate of inflation which

majority of the individual believes will occur. When the rate
of inflation (say 6%) turns out to be same (6%) we are then in
a situation of fully anticipated inflation.

(ii) Unanticipated inflation is that which comes as a surprise

to majority of individuals. It can be higher or lower than the
rate of anticipated inflation.