Which one of the following is likely to be the most inflationary in its effect?
[UPSC Civil Services Exam – 2013 Prelims]
(a) Repayment of public debt
(b) Borrowing from the public to finance a budget deficit
(c) Borrowing from banks to finance a budget deficit
(d) Creating new money to finance a budget deficit
Answer: (d)
Explanation:
- When the government addresses its budget deficit by generating new high-powered money, it can lead to inflation, resulting in a decline in the purchasing power of existing money held by the public.
- The monetary base encompasses the overall quantity of currency available in circulation among the public, as well as the commercial bank deposits held in reserves at the central bank.
- The creation of new money contributes to an expansion of the monetary base, subsequently increasing the money supply. This, in turn, can lead to inflationary pressures.
