Here is Question No. 60 a part of our series on UPSC Prelims 2021.
Q60. Which one of the following is likely to be the most inflationary in its effects?
a) Repayment of public debt
b) Borrowing from the public to finance a budget deficit
c) Borrowing from the banks to finance a budget deficit
d) Creation of new money to finance a budget deficit
Answer: (d)
- Deficit financing means generating funds to finance the deficit which results from excess expenditure over revenue. The gap is being covered by borrowing from the public by the sale of bonds or by printing new money. Deficit financing is inherently inflationary. Since deficit financing raises aggregate expenditure and, hence, increases aggregate demand, the danger of inflation looms large. Printing new currency notes increases the flow of money in the economy. This leads to an increase in inflationary pressures which leads to a rise of the prices of goods and services in the country. And since inflation is revealed with a lag, it is often too late before governments realize, they have over-borrowed. Higher inflation and higher government debt provide grounds for macroeconomic instability.
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