GSEB Class 12 Economics Solutions Chapter 3 Money and Inflation

 

Choose the correct option for the following questions:

 

Question 1. Who gave the definition "What is accepted universally in exchange of goods or services is money"?
(a) Marshall
(b) Keynes
(c) Pigou
(d) Robertson
Answer: (d) Robertson
In simple words: Robertson suggested that money is anything that everyone accepts widely when trading goods or services.

Exam Tip: When asked for definitions by economists, try to recall the exact wording or the core idea of each economist's contribution to economic theory.

 

Question 2. What is the type of inflation called when there is an increase in demand?
(a) Demand-pull
(b) Cost induced
(c) Salary induced
(d) Profit induced
Answer: (a) Demand-pull
In simple words: Demand-pull inflation happens when more people want to buy goods and services than are available, causing prices to go up.

Exam Tip: Remember that inflation caused by increased demand is "demand-pull," while inflation from rising production costs is "cost-push."

 

Question 3. What is the value of money during constant and steady price increase?
(a) Increases
(b) Decreases
(c) Constant
(d) Doesn't change
Answer: (b) Decreases
In simple words: As prices steadily rise, the purchasing power of money falls, meaning your money buys less than before.

Exam Tip: Understand the inverse relationship between the value of money and the general price level: as prices rise, the purchasing power (value) of money falls.

 

Question 4. What is the type of inflation when the government controls inflation via rules or laws?
(a) Suppressed
(b) Open
(c) Galloping
(d) Hidden
Answer: (a) Suppressed
In simple words: When a government tries to control inflation with strict rules and laws, it's called suppressed inflation because the underlying price pressure is still there, just not visible.

Exam Tip: Distinguish between open inflation (prices freely rising) and suppressed inflation (government intervention hiding the true extent of price increases).

 

Question 5. Which economist believes that the true inflation is caused when there is rise in prices even when there is full employment?
(a) Marshall
(b) Crowhter
(c) Keynes
(d) Pigou
Answer: (c) Keynes
In simple words: John Maynard Keynes argued that true inflation can happen even when everyone who wants a job has one, and prices still go up.

Exam Tip: Associate John Maynard Keynes with the idea that inflation can occur even at full employment, emphasizing demand-side factors.

 

Question 6. What is the economic system called that allows exchange of rice instead of clothes?
(a) Monetary system
(b) Banking system
(c) Barter system
(d) Loan system
Answer: (c) Barter system
In simple words: A barter system is an economic setup where people directly swap goods or services for other goods or services, rather than using money.

Exam Tip: Barter system involves direct exchange of goods and services, while a monetary system uses money as an intermediate medium.

 

Question 7. Which of the following can be used as the best means for storage of value?
(a) Crops
(b) Animals
(c) Stones- minerals
(d) Coins
Answer: (d) Coins
In simple words: Coins are the most effective way to store value because they are durable, easy to keep, and do not spoil or die like crops or animals.

Exam Tip: Identify the key characteristics of a good store of value, such as durability, divisibility, and portability, which coins generally possess.

 

2. Answer the following questions in one line:

 

Question 1. Write the meaning of barter system.
Answer: The barter system is a method of exchange where goods or services are directly swapped for other goods or services without needing money as a medium. This system existed in earlier times.
In simple words: The barter system means exchanging goods or services directly for other goods or services, without using money.

Exam Tip: Focus on the core idea: direct exchange without an intermediate medium like money.

 

Question 2. Write the definition of money given by Marshall.
Answer: "Money is that medium which is used as a means of exchange without any doubt or investigation regardless of time or place”.
In simple words: Marshall said money is anything used for exchange that everyone accepts without question, no matter when or where it is.

Exam Tip: When quoting definitions, strive for accuracy. For Marshall, highlight the 'medium of exchange' and 'universal acceptance' aspects.

 

Question 3. Normally what is inflation?
Answer: Inflation is an economic problem that shows an increase in the general price levels of goods or services over a period of time.
In simple words: Inflation is when the prices of most goods and services go up over a period of time.

Exam Tip: A concise definition of inflation should mention a general increase in price levels over a sustained period.

 

Question 4. What is cost-push inflation?
Answer: Cost-induced inflation happens when there is inflation due to a rise in production costs, such as increased prices for raw materials, machinery, electricity, or water rates. This type of inflation is also called supply shock inflation.
In simple words: Cost-push inflation happens when the cost of making things increases, like materials or power, making product prices rise. It's also known as supply shock inflation.

Exam Tip: Connect "cost-push" with rising production costs and "supply shock" as its alternative name.

 

3. Answer the following questions in brief:

 

Question 1. Discuss the function of money as a medium of exchange.
Answer: Money as a medium of exchange:

• The most important function of money is to act as a medium for exchange and trade.
• Money helps overcome the problem of a 'double coincidence of wants' and makes exchanges much easier.
• For instance, a farmer can sell wheat for money and then use that money to purchase clothes, shoes, or oil.
• An individual can spend money to meet their present demands for goods and supplies. They can also save money to meet their future needs for goods and supplies.

In simple words: Money makes trading simple by acting as a go-between, so you don't need to find someone who wants exactly what you have and has exactly what you want. It helps you buy what you need now or save for later.

Exam Tip: Emphasize how money solves the "double coincidence of wants" problem, thereby facilitating trade and exchange.

 

Question 2. Discuss the function of money as store of value.
Answer: Money as a store of value:
Before money became the medium of exchange, it was hard to generate and save wealth for future needs of goods and supplies.

• It was not possible to keep animals as wealth because animals are living beings and eventually grow old and pass away. This makes money the most successful means of storing value over time.
• It is easy to hold money as a 'storage of value'. Furthermore, it can also be used to exchange crops or any other goods and services required now or even in the future.
• Another benefit of using money is its ability to be used in deferred payments. The credit system, loans, investment rates, and sales-purchase methods all gain from these qualities of money.

In simple words: Money lets you keep your wealth for the future because it doesn't spoil or die like other things. This means you can save it and use it whenever you need to buy things.

Exam Tip: Highlight durability and stability as key features that make money a good store of value, enabling future purchases.

 

Question 3. State the causes of inflation.
Answer: Some important minor factors that may cause inflation are discussed below:
1. Taxation policy:

• The government's taxation policy contributes to inflation.
• A significant increase in tax rates boosts the production cost of products, which then causes inflation to rise.

2. Increase in import price:

• India imports 70% of its total required petroleum products.
• When crude oil prices increase in the international market, it will lead to a rise in the price of petrol and diesel. This then also increases the price of several other products.

3. Scarcity:

• A lack of raw materials, electricity, or any other resource required for production causes price levels for goods or services to increase.
• If scarcity continues for a longer period during production or is widespread, it can lead to inflation.

In simple words: Inflation can happen due to higher taxes that increase production costs, a rise in import prices for essential goods like oil, or a shortage of raw materials or resources needed to make products.

Exam Tip: Remember the three main causes: taxation policy, import prices, and scarcity, which all contribute to higher costs and prices.

 

4. Give answers to the point for the following questions:

 

Question 1. Define money and explain its functions in brief.
Answer: Money:

• Money is something that can be used as a means of exchange without any difficulty or investigation, regardless of time or place.
• In other words, anything that performs the functions of money is called money.

Functions of money:
1. Money as a medium of exchange:

• The most important function of money is to act as a medium for exchange and trade.
• Money overcomes the limitation of the lack of 'double coincidence of wants' and makes exchanges much easier.
• For instance, a farmer can sell wheat for money and then use that money to purchase clothes, shoes, or oil.
• An individual can spend money to meet their present demands for goods and supplies. They can also save money to meet their future needs for goods and supplies.

2. Money as a store of value:
Before money became the medium of exchange, it was difficult to generate and save wealth for future needs of goods and supplies.

• It was not possible to keep animals as wealth because animals are living beings and eventually grow old and pass away. This makes money the most successful means of storing value over time.
• It is easy to hold money as a 'storage of value'. Furthermore, it can also be used to exchange crops or any other goods and services required now or even in the future.
• Another benefit of using money is its ability to be used in deferred payments. The credit system, loans, investment rates, and sales-purchase methods all gain from these qualities of money.

3. Money as a measure of value:
Money plays an important role as a measure of value.

• In the barter exchange system, it became increasingly difficult to remember the exchange rates and values of each good or service.
• A person always had to remember how many goods or services they would get for 20 kg of rice, or how much cloth they would get for 1 kg of ghee, and so on.
• Money helps overcome this limitation by making it easier to compare and assess the values of different goods or services against each other.
• Money allows the price system to work. The price system helps in deciding the price of each good and service and also allows comparing their value.
• Money also enables faster decision-making and exchanges.

In simple words: Money is widely accepted for buying things, saving, and comparing values. Its main jobs are making trade simple, keeping wealth safe for later, and helping us know how much things are worth.

Exam Tip: A comprehensive answer includes a clear definition of money and a concise explanation of its three primary functions: medium of exchange, store of value, and unit of account.

 

5. Answer the following questions in detail:

 

Question 1. Define barter system and explain limitations of barter system.
Answer: Barter system:
The system of exchange where goods or services are directly exchanged for other goods or services without using a medium of exchange, such as money, is known as the Barter System. This system was common in olden times.
Limitations of Barter system:

• As the population increased and the world developed socially and economically, people's demand for goods and services changed and grew.
• With the rise in industrialization, urbanization, division of labor, and specialization, the Barter system became limited, less practical, and difficult to implement.
• Dependence on mutual exchanges decreased, and personal needs grew, which the Barter system could not resolve.

The limitations of the Barter system are explained below:
1. Issue of 'double coincidence of wants' and mutual adjustment of wants:
As the world grew socially and economically, people's needs constantly grew and changed. This made the economic system more complex. For example, someone who had rice to exchange for wheat might not need wheat but clothes instead. Meanwhile, the person with clothes might not want rice but oil for their clothes. The Barter system assumes that 'coincidence of wants' happens continuously. This may not always be true, and traders looking to exchange might not need the item the other trader wants to offer. This was a major limitation of the Barter system. Such needs made bartering difficult. The growing needs also proved challenging for establishing barter between indivisible and divisible goods.
2. Difficulty in storing wealth:
The Barter system created problems with storing exchanged and acquired goods or wealth. For instance, a farmer had to store a large amount of crop for a very long period to meet even basic needs like shoes or clothes in the future. This became practically impossible. A person producing goods in large volumes, like a farmer, had to immediately exchange their goods for other goods or services. If they failed to do this, storing a large volume of production for an extended time was not possible.
3. Problem of measurement of value:
When the world moved towards the division of labor and specialization, problems arose in measuring the value of products, goods, or services on an equal basis. For example, it was easy to exchange wheat for rice and maintain their rates. However, as economic development occurred, several goods and services began to be exchanged. This made exchanging products like wheat for other goods and services difficult. Problems arose, such as determining how much cloth one could get for 1 kg of ghee if 20 kg of wheat could be exchanged for 40 kg of rice, 10 meters of cloth, and 1 kg of ghee. These issues created a need for a common measure of value for goods to compare and assess all goods' values against each other. These difficulties led to the origin of money. Money became a standard measure of value and a common unit for trade.
In simple words: The barter system is when people swap goods directly. But it was hard because both people had to want what the other had, it was hard to save things that spoiled, and it was tough to figure out how much different items were worth compared to each other.

Exam Tip: When defining the barter system, clearly state that it involves direct exchange without money. For its limitations, focus on the "double coincidence of wants," difficulty in storing wealth, and the absence of a common measure of value.

 

Question 2. Define inflation and explain the causes of inflation.
Answer: Inflation:

• An increase in the price level of goods or services over a period of time is called inflation.
• The two main factors that affect the price of goods and services are demand and supply.

Based on these two factors, we can say that inflation is affected by two main causes:
(A) Increase in demand and
(B) Increase in production cost.
(A) Increase in demand:

• If the demand for a product rises, its price increases. Similarly, when demand increases and supply is less than demand, prices also rise.
• In economics, if inflation occurs due to an increase in demand compared to supply, such inflation is called 'Demand-pull inflation'. The main reasons for an increase in demand are discussed below.

1. Increase in supply of money:

• Monetarists view inflation as a purely monetary phenomenon.
• According to them, if the quantity of money in an economy increases, people's income also rises.
• When income increases, people's ability to buy more goods and services also increases. This boosts the demand for goods and services. Since supply doesn't increase much to match this growing demand, it leads to inflation.
• According to Machlup, "Too much money chasing too few goods causes inflation". In other words, increased demand means more money is seeking fewer goods, whose supply is quite limited.

2. Increase in public expenses (Government expenses):

• The government of developing countries like India is involved in the country's economic development.
• To achieve economic development, it invests large amounts of money through various projects related to employment, meeting basic requirements, improving infrastructure, and strengthening financial infrastructure. The money invested in these projects increases the supply of money in the economy.
• Due to these investments, people's income grows, and their purchasing power increases. They then demand more goods and services. This increases the demand for goods and services, which leads to inflation.
• Inflation rises even faster when the government expands public spending and provides more money for economic development compared to the production of goods and services in the market.

3. Over-population:

• In India, the population increases by 2% every year. The growing population demands more goods and services. Prices rise when the supply cannot keep up with this increasing population.
• Alternatively, if the population remains stable but people's purchasing power increases, this can also lead to price rises.

(B) Increase in cost of production:

• Supply is the second major factor that affects the price of goods. Economists who support 'supply-side economics' believe that when production costs increase, the price of the goods also increases.
• If there is a rise in the cost of raw materials, machinery, electricity, water rates, workers' wages, or transportation, it will lead to an increase in the price of goods or services.
• Inflation caused by an increase in production cost is called 'Cost-push inflation' or 'Supply shock inflation'.

(C) Other reasons:

• Several other factors can influence inflation. Some factors might seem minor and may affect for a short time, but they can still cause price levels to increase.
• For example, in industries dependent on foreign imports, an increase in import taxes or an unexpected shortage of certain items can also lead to price rises.

Some important minor factors that may cause inflation are discussed below:
1. Taxation policy:

• The government's taxation policy contributes to inflation.
• A significant increase in tax rates boosts the production cost of products, which then causes inflation to rise.

2. Increase in import price:

• India imports 70% of its total required petroleum products.
• When crude oil prices increase in the international market, it will lead to a rise in the price of petrol and diesel. This then also increases the price of several other products.

3. Scarcity:

• A lack of raw materials, electricity, or any other resource required for production causes price levels for goods or services to increase.
• If scarcity continues for a longer period during production or is widespread, it can lead to inflation.

In simple words: Inflation is when prices generally go up over time. It happens mainly when people want to buy more than what's available (demand-pull) or when the cost of making things rises (cost-push). Other causes include government spending, population growth, higher taxes, and expensive imports.

Exam Tip: For detailed answers on inflation, define it first, then systematically explain both demand-side (e.g., increased money supply, government spending, population) and supply-side (e.g., production costs, scarcity, import prices) causes, providing examples for each.