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Deficit Demand can be controlled/corrected by using

Fiscal Policy

or

Monetary Policy

How to Control Correct Deficit Demand - Teachoo.JPG

Fiscal Policy

These policies are framed by Central Govt

In this case, govt decides on following

 

Increase in Govt Spending

(The govt spends more so ,demand for product increases)

 

Reduces Taxes

(Disposable income of people increases and they are able to spend more)

Different Fiscal Measures of Govt to Control Deficit Demand - Teachoo.JPG

Monetary Policy

These policies are framed by Central Bank (RBI)

Through these policy, RBI increases amt of credit in circulation

More the credit, more the amt of money in market so more will be the demand

In this case, RBI does the following

Different Monetary Measures of RBI to control Deficit Demand - Teachoo.JPG

RBI decreases Bank Rate and Repo Rate

Repo rate is the rate at which the RBI lends to commercial banks by purchasing securities 

while bank rate is the lending rate at which commercial banks can borrow from the RBI without providing any security.

When RBI decreases Bank Rate and Repo Rate

Now banks have to pay less int on loan, so they will charge less from customers

So people will take more loan (more credit)

More the credit, more the amt of money in market so more will be the demand

 

 

RBI decreases Cash Reserve Ratio/Statutory liquidity ratio

This leads to more amt available with banks to give loans

More the credit, more the amt of money in market so more will be the demand

 

 

RBI does Open Market Operations

During excess demand, RBI purchase its securities in market

Public subscribe to these securities

Hence more amt is available to them to spend

More the amt of money in market so more will be the demand

 

Decrease in Margin Requirement for Loan

As we know, banks gives loan only if we provide some security like offer some property for mortgage

Suppose Property Value is 100 lacs, bank will not give loan of 100 lacs

Suppose Margin as per Bank rule is 25%,it means Bank will give maximum 75 Lacs loan

Now if RBI decreases these margin requirement to 20%

So now if Property value is 100 lacs, Margin as per bank rule is 20%,it means maximum 80 Lacs loan is allowed

More the amt of money in market so more will be the demand

 

Moral Suasion/Withdraw Credit Rationing

RBI advices banks to grant loans for certain sectors

More the amt of money in market so more will be the demand

Effect of these Monetary Measures of RBI on Deficit Demand - Teachoo.JPG

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Transcript

How to Control /Correct Deficit Demand Fiscal Policy These Policies are framed by Central Govt to control Money Supply in economy Example Increase in Govt Spending Monetary Policy These Policies are framed by RBI to control direction of credit in economy Example Decrease in Bank Rates and Repo Rates Different Fiscal Measures of Govt to Control Deficit Demand Reason for Excess Demand Decrease in Govt Spending Increase in Taxes How to Control Excess Demand Increase in Govt Spending (The govt spends more, demand for product increases) Decreases Taxes (Disposable income of people increases and they are able to spend more) Different Monetary Measures of RBI to control Deficit Demand Decrease in Bank Rate and Repo Rate Lower Interest Rate Charged by RBI from Banks Decrease in Liquidity Ratio and SLR RBI decreases these Ratios and Bank can give less loan Open Market Operations RBI buys Govt Securities to Public Decrease in Margin Requirement of Loan Less Security Required by Bank, so more loan given Moral Suasion RBI encourages banks to give loans to different sectors More Loan taken Increase in Money Supply of Economy More Goods and Service Purchased More Consumption + Investment Expenditure increase in Aggregate Demand as AD=C+I

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CA Maninder Singh

CA Maninder Singh is a Chartered Accountant for the past 12 years. He also provides Accounts Tax GST Training in Delhi, Kerala and online.