1. Excess Demand and Inflationary Gap:(a) When in an economy, aggregate demand exceeds “aggregate supply at full employment level”, the demand is said to be an excess demand.b) Inflationary gap is the gap showing excess of current aggregate demand over ‘aggregate supply at the level of full employment’. It is called inflationary because it leads to inflation (continuous rise in prices).(c) A simple example will further -clarify it. Let us suppose that an imaginary economy by employing all its available resources can produce 10,000 quintals of rice. If aggregate demand of rice is say 12,000 quintals, this demand will be called anexcess demand, because aggregate supply at level of full employment of resources is only 10,000 quintals and the result of the gap of 2000 quintals will be called as inflationary gap. In the above diagram Inflationary gap is AB because at Full employment Y*, Aggregate demand (BY*) is greater than Aggregate Supply(AY*).

2. Reasons or causes for excess demand: (a) Increase in household consumption demand due to rise in propensity to consume.(b) Increase in private investment demand because of rise in credit facilities.(c) Increase in public (government) expenditure.(d) Increase in export demand.(e) Increase in money supply or increase in disposable income.

1. Deficient Demand or Deflationary Gap:(a) When in an economy, aggregate demand falls short of aggregate supply at full employment level, the demand is said to be a deficient demand.

Reasons or causes for deficient demand: (a) Decrease in household consumption demand due to fall in propensity to consume.(b) Decrease in private investment demand because of fall in credit facilities.(c) Decrease in public (government) expenditure.(d) Decrease in export demand.(e) Decrease in money supply or decrease in disposable income.

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