1

INTRODUCTION TO MACRO ECONOMICS

Before 1930, Classical Economy did not give any importance to National Income
.because according to them, there is always full employment
But from 1929 to 1933, there was a depression in the world poverty , unemployment
and hunger spread all over the world then in 1936 John Keynes wrote a book "
general theory of employment , interest and money" and said that there is not full
. employment because no country is self-sufficient in natural resources
DEFINATION
According to professor pigou" The money value of all the final or finished goods and
services produce in a country during one year is called National Income"
The word macro is derived from a Greek letter 'MACROS' which means 'large' so
macro economics studies the economy as whole or studies the aggregate economic
behavior of people, such as, national income, output and employment, total
consumption, aggregate saving and investment and the general price level. According
to Boulding' Macro economics deals not with individual incomes, not with individual
prices but with the price level, not with individual outputs but the national output, In
:macro economics we generally discuss the following

Theory of Income Employment and rate of Interest: In this -1

part the concept of national income, its determination, relationship between income
and consumption, investment, rate of interest and savings are studied. Principles of
.Multiplier and acceleration are explained

Theory of Trade cycles: The problem arising due to fluctuations in price -2

level e.g. inflation, deflation, depression are discussed. It is studied how trade cycles
.are occurred and removed

Money Theory: The problem relating to determination of value of money, -3

.demand for money and supply of money are studied

Theory of International Trade: The problems relating to International -4

Trade, e.g. exchange rate, exchange control, tariffs, economic order and balance of
.payments etc. are discussed
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Various Concept of NI
1-Gross National products
The current market value of all the final goods and services produced in a
country during one year is called GNP.
Y = C + I + G + {X –M}

2. Net National Product:

The net money value of all the final goods and services produced in a country
during one year is called NNP or NNP can be found by deducting
depreciation from GNP.
NNP = GNP – Depreciation allowances

3. Gross domestic product

The money value of all the final goods and services produced inside the
country during one year in called GDP.
GDP = GNP – (X-M)

4. Net Domestic Product:

Net money value of all the goods and services produced inside country during
one year is called NDP Or
NDP = GDP – Depreciation allowances

5. Personal Income:
The money received by all the individuals during one year is called PI.

6. Disposable Personal income:

It can be found by deducting the personal taxes from PI
DPI = PI – Taxes

7. National income at factor cost: It means that the aggregate earnings of

four factors of productions (land labour capital and organization} is NI at factor Cost.
So:-
NI = Rent + wage + interest + profit
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Circular flow of Money\Income

While discussing the circular flow of money in two sectors of economy we assumed t
1. There are only two sectors of economy.
a) House hold sector b) Business sector
2. B.S is the soul producer or goods and services in the economy.
3. H.S is the soul buyer of goods and services produced by the B.S.
4. B.S does not store its output and supplied the entire stock.
5. H.S spends its entire income on the purchase of goods and services produced
by the B.S so there is no saving there are no taxes
6. the economy is closed , meant that it has no international trade relation

Measurement of National Income

National Income can be measured by the following methods:-
1. Total Outlay Method
2. Income Method
3. Expenditure Method

TOTAL OUTLAY METHOD

In this approach National Income is estimated by adding up the market values of all
the final goods and services produced in any country during a year.
Precautions
There are certain precautions which are to be taken to avoid miscalculation of
national income using this method.
1. Problem of double counting
If the value of bread is included in national income then the value of flour and
wheat used in it should not be added up.
2. Unpaid services or transfer payments
One person teaches and he takes zakat, pension and unemployment allowances are
transfer payments and should not be included in national income.
3. Depreciation charges
Depreciation charges are also to be set aside from national income .
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4. Indirect charges
The indirect taxes must be deducted from the prices of goods which have been needed
by the government on the commodities produced for sale.
NI = GNP – DEP –Indirect taxes

INCOME METHOD
According to this method the reward of four factors of production. {Land, labour,
capital, and organization} should be added up in the, interest and profit during one
year. In other words
NI = Rent + Wages + Interest + profit
Precautions:
There are following precautions.
1. Transfer payment: The transfer payment like pension, scholarship, zakat and
unemployment allowances may not be included in NI because they are already
calculated.
2. Illegal earnings: The illegal earnings like smuggling may not be included in
national income.

EXPENDITURE METHOD
In this method the final expenditure from the house hold sector,
business sector, government sector and foreign sector should be added up after one
year to get national income from expenditure method.
Y = C+I+G+{X-M}
Y = NI C = house hold sector I = business sector G = Govt sector
X-M = foreign sector
Precautions:-
There are following precautions which are as
1. Transfer payments

Transfer payments made by the Govt are not included in national income.

2. Final expenditures :

Intermediate expenditure not included but final expenditure should be counted.

3. Deduction of Indirect taxes:

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The indirect taxes must be deducted from the market price

4. Depreciation allowances

These allowances should also be deducted from NI.

QUANTITY THEORY OF MONEY

Before discussing quantity theory of money’ it is necessary and important to define
-:Money
MONEY: Any thing which is generally accepted by the people and used as a
.medium of exchange is called money
Quantity theory of money
.Quantity theory of money was firstly introduced by Irving Fisher
According to Irving Fisher there is positive & proportional relationship between
.supply of money and price level
For example: If supply of money is 10% then price will also change 10%. If there is
10% increase in the supply of money, price will also increase by 10%.On the other
hand if there is 10% decrease in supply of money then price level will also decrease
by 10%.This can be explain with numerically Irving fisher shows the relationship
:between supply of money and price level with the help of following equation
MV = PT
Where, M = Total supply of money
V = Velocity of circulation of money
P = Price level
T = Transaction of goods & services
.We suppose that money circulation is 100
?= M = 100, V = 4, T = 200, P
MV = PT
P×200 =4×100
P= 2
.Now we suppose that there is increase supply of money from 100 to 200
?= M = 200, V = 4, T = 200, P
MV = PT
P×200 = 4×200
P= 4
So it is proved that there is positive and proportional relationship between supply of
.money and price level
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TRADE CYCLE
The trade cycle refers to the ups and downs in the level of economic activity which
.extend over the period of several years
The term business cycle has been defined in various ways by different economists.
Professor Haberler’s definition is very simple when he says, “The business cycle in
the general sense may be defined as alternation of periods of prosperity and
depression of good and bad trade.” Keynes’s definition in his Treatise of money is
more explicit: “a trade cycle is composed of periods of good trade characterized by
rising prices and low unemployment percentages, altering with periods of bad trade
”.characterized by failing prices and high unemployment percentages

PHASES OF A BUSINESS CYCLE

:There are four stages in trade cycle
.Depression period (1
.Recovery period (2
.Boom period (3
Recession period (4
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Sector Rotation Model:

Legend: Market Cycle

Economic Cycle

These phases are recurrent and uniform in the case of different cycles. But no phase
has definite periodicity or time interval. As pointed out by Pigou, cycles may not be
twins but they are of the same family. Like families they have common
characteristics that are capable of description. Starting at the trough or low point, a
cycle passes through a recovery and prosperity phase, rise to a peak, declines through
a recession and depression phase and reaches a through. We describe below these
characteristics of a business cycle.

1- Depression:
In the period of depression economic activity is low and there is fall in national
income, employment and production. There is considerable reduction in the
production of goods and services, employment, income, demand and prices. The
general decline in economic activity leads to a fall in bank deposits. Credit expansion
stops because the business community is not willing to borrow. Bank rate falls
considerably. In the word this phase occurred in 1710, 1837, 1873, 1893, 1907 &
1929. According to Professor Estey, “This fall in active purchasing power is the
fundamental back ground of the fall in prices. That, despite the general reduction of
output, characterizes the depression.” Thus a depression is characterized by mass
unemployment; general fall in prices, profits, wages, interest rate, consumption,
expenditure, investment, bank deposits and loans; factories closedown; and
construction of all types of capital goods buildings, etc.—comes to a standstill.

2- Recovery:
We start from a situation when depression has lasted from some time and revival
phase or the lower-turning point starts. The “originating forces” or “starters” may be
exogenous or endogenous forces. Suppose the semi-durable goods wear out which
necessitate their replacement in the economy. It leads to increased demand. To meet
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this increased demand, investment and employment increase. Industry begins to

revive. Revival also starts in related capital goods industries. The prices of revival
become cumulative. As a result, the levels of employment, income and output rise
steadily in the economy. In the early stages of the revival phase, there is considerable
excess or idle capacity in the economy so that output increases without a
proportionate increase in total costs. “But as time goes on, output becomes less
elastic; bottlenecks appear with rising costs, deliveries are more difficult and plants
may have to be expanded. Under these conditions, prices rise.” Profit increases.
Business expectations improve. Investment is encouraged which tends to raise the
demand for bank loans. It leads to credit expansion. Thus the cumulative process of
increase in investment, employment, output, income and prices will feed upon itself
and becomes self-reinforcing. Ultimately, revival enters the prosperity phase.

3- Boom period:
In this phase economic activity increases the production, prices, employment, wages,
interest rate, profit volume of credit at investment, also increases new plants and
factories are setup and old once are fully utilized, demands for labour increases and
there is a rich profit. Larger profit expectations further increase investment which is
helped by liberal bank credit. Such investments are mostly in fixed capital, plant,
equipment and machinery. They lead to considerable expansion in economic activity
by increasing the demand for consumer goods and further raising the price level. This
encourages retailers, wholesalers and manufacturers to add to inventories. In this
way, the expansionary process becomes cumulative and self-reinforcing until the
economy reaches a very high level of productions, known as the peak or boom.

The peak or prosperity may lead the economy to over full employment and to
inflationary rise in prices. It is symptom of the end of the prosperity phase and the
beginning of the recession.

4- Recession:
If on boom period the businessman wants to hire a new business. The cost being
increase then the prices, because the business man employed the sufficient factor of
production at higher cost. At this point profit will disappear. Recession starts when
there is a downward descends from the ‘peak’ which is of a short duration. “It marks
the turning period during which the forces that make for contraction finally win over
the forces of expansion. Its outward signs are liquidation in the stock market, strain in
the banking system and some liquidation of bank loans, and the beginning of the
decline of prices.” As a result, profit margins decline further because costs start
overtaking prices. Some firms close down. Others reduce production and try to sell
out of accumulated stocks. Investment, employment, incomes and demand decline.
This process becomes cumulative.

Recession may be mild or severe. The latter might lead to a sudden explosive
situation emanating from the banking system or the stock exchange, and a panic or
crisis occurs. “When a crisis, and more particularly a panic, does occur, it seems to be
associated with a collapse of confidence and sudden demands for liquidity. This crisis
of nerves may itself be occasioned by some spectacular and unexpected failure. A
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firm or a bank or a corporation announces its inability to meet its debts. This
announcement weakens other firms and banks at a time when ominous signs of
distress are appearing in the economic structure. Moreover, it sets off a wave of fright
that culminates in a general run on financial institutions…Such was the experience of
the United States in 1873, in 1893 and in 1907.” In the words of M.W.Lee, “A
recession, once started, tends to build upon itself much as forest fire, once under way,
tends to create its own draft and give internal impetus to its destructive ability. Then
recession period comes to on end and goes on depression period. These all phases
(Depression, Recovery, Boom and Recession) go on replacing each other with the
passage of time.

BALANCE OF TRADE
The difference in value between the total exports and total imports of a nation during
a specific period of time. Balance of trade is the difference between the value of
export and imports of visible goods of country after one year. If a value of visible
items exports exceed then the value of visible goods imports then balance of trade is
.said favorable in other vise unfavorable

BALANCE OF PAYMENT
A systematic record of a nation's total payments to foreign countries, including the
price of imports and the outflow of capital and gold, along with the total receipts from
abroad, including the price of exports and the inflow of capital and gold. Balance of
payment is difference between the value of export and import of visible and invisible
goods during a given period of time. If the values of visible and invisible items exceed
then the value of visible and invisible items of exports then balance of payment said
.to be favorable and vice versa

 Causes of Unfavorable Balance of Payment

.There are many causes of under develop country like Pakistan

(1) Import of capital goods and export of primary items.
(2) Higher payment for foreign services.
(3) Depend on agriculture
(4) Political uncertainty/ instability
(5) Domestic problem
(6) Devaluation
(7) Repayment of debts and interest
.Consumption oriental (8)
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BANKS

According to Professor Crowther bank can be define as

A bank is an institution which accept deposits from people and advancing loans to “
.”people for earning interest

According to Mr. Gilbert bank can be define as

Bank is a dealer in capital or more peculiarly in money. He is an intermediate party “
.”between borrowers and lenders

According to Mr. Kenly

.”Bank is an institution which receives deposits and advances loans“
In view of the above definitions, in simple words a bank can be defined as an
.institution dealing in money, accepting deposits and advancing loans

Kinds or Classification of banks

Banks are classified into following categories according to the functions and services
:they perform in particular field

Central Bank 2) Commercial Bank (1

Exchange Bank 4) Saving Bank (3
Industrial Bank 6) Agriculture Bank (5
Mortgage Bank 8) Co-operative Bank (7
:CENTRAL BANK

Central Bank is at the head of the head of the Banking structure of the world has now
its own Central Bank. It controls monetary and banking system of a country. It is not a
profit hunting concern like other Banks. It is the note issuing authority and controller
of foreign exchange of the country. State Bank of Pakistan is the central bank of our
country. It was establish in July 1st, 1948, under the State Bank of Pakistan Ordinance
1948. The present structure, operation and authority of the State Bank are based upon
the State Bank of Pakistan Act 1956. The State bank of Pakistan has been divided in
:to three main departments as under
Issue Department: This department is responsible to issue currency notes to -1
various denomination such as Rs.5/-, 10/-, 100/-, 500/-, 1000/-, 5000/-the total amount
of notes issued by the bank is backed to the 30% by gold reserve, foreign exchange
.reserve and foreign approved securities and bills
Banking Department: This department looks after the operation of commercial -2
banks. It also makes suggestions for improvement in the banking business in the
.country
Foreign Exchange Control Department: This department is directly responsible -3
to control foreign exchange business and implement government policies relating
foreign exchange transaction
.
 FUNCTIONS OF STATE BANK:
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Monopoly of Note Issue: State Bank has the sole right of issuing of currency notes -1
of denominations of Rs.5/- to Rs.1000/-against gold and approved foreign exchange
reserve up to 33% of total notes issued. However, the Government of Pakistan has
.retained with it prerogative of issuing metallic currency and one and two rupee notes
Banker’s to State: State Bank also acts as a banker’s to Federal and Provisional -2
Governments. It maintains the cash deposits and other accounts of these governments.
It receives taxes and other revenue and makes payments on behalf of these
.governments. It gives short term loan to governments
Adviser to the Government: State Bank advices the government in monetary problem, -3
foreign exchange and also deals in the sale and purchase of securities of the
.governments
Banker’s Bank: State Bank of Pakistan also performs the duties of banker to -4
commercial banks. The member banks are directed to keep a certain percentage of their
demand and time deposits with the State bank. This ratio of cash reserve can be changed by
the State Bank to control the credit. It is lender of last resort, discounts bill of exchange and
.provides loans to member banks against securities
Clearing House: State Bank of Pakistan also provide the facility of clearing house for -5
his member banks for the settlement of mutual payments, regarding the cheques drawn on
each other. By the help of clearing house, these payments become easier without involving
.any cash
Controller of Credit: The value of money is influenced by the volume of credit. The -6
volume of credit in the country is regulated for the economic stability. This regulation of
.credit by the Central Bank is known as Credit Control

:ROLE OF STATE BANK IN ECONOMIC DEVELOPMENT OF PAKISTAN

Growth of banking system -1

Monetary and credit policy -2
Credit target for priority sector -3
Export finance scheme -4

:Commercial Banks

A Commercial bank is defined as a dealer in credit. It deals with the funds of other. It
.”takes deposits from one person and lends to other. “Bankers borrow to lend
So the primary function of commercial bank is to accepting deposits & advancing
.loans

FUNCTIONS OF COMMERCIAL BANKS

Accepting deposits: The commercial bank collects the surplus money or saving of -1
.the people of accepting deposits
Advancing loans: The commercial bank is a profit making concern. It attracts the -2
idle funds of the people and lends them to higher rate of interest to the individuals and
.businessman against securities
Agency Services: Commercial banks provide agency services to its customers. The -3
.bank purchases and sells the securities on behalf of his customers
Overdraft facility: Commercial banks provide overdraft facility to its customers. -4
.Not give the large amount but give in installment to its customers
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Custodian of precious articles: Commercial banks provide lockers to its -5

.customers for saving precious articles
Purchase & sale of securities: Commercial banks purchases and sells the -6
.securities on behalf of his customers

Discounting bill of exchange: Banks pay the holder of the bill and amount equal -7
to their face value after deducting of interest at the current market rate for the period
.the bill has to mature. Bill of exchange is very liquid asset
Transfer of money: Commercial banks provide facility to transfer of money to one -8
.bank to another bank

:IMPORTANCE OF COMMERCIAL BANK IN PAKISTAN

In modern economy, the commercial banks play a very important role in the economic
development of a country it is the growth of commercial banking which led to the
occurrence of industrial revolution in 18th and 19th century commercial banks are now-
a-days considered not merely dealers in credit but also the leaders in development.
.The economic significance of commercial banks is briefly given below
Capital formulations: Capital formation is the basic requirement of country. -1
Capital formation has three stages
Generation of savings (2) mobilization of savings and (1)
Channelization of savings in productive uses. The commercial banks play an (3)
active role in the above three stages of capital formation by stimulating savings
expanding branches to mobilize resources and making the resources available for
.productive investment
Investment in new enterprises: The commercial banks provide capital to the -2
entrepreneurs to take risks and invest in new enterprises. The commercial banks thus
.help in increasing the productive capital of the economy
Creators and distributors of money: The commercial banks are creators and -3
distributors of money. They purchase securities and allow money to play an active
.role in the economy
Influencing economic activity: The commercial banks influence economic -4
activity in two ways. First, the lowering of interest rate makes the investment more
profitable and increase in the interest rate discourages investment. Secondly, the
making of capital available to the investors increases investment, production and trade
.in the economy and vice versa
Effective implementation of monetary policy: The control and regulation of -5
credit by the central bank of the country is only possible and effective with the
.cooperation of the banking system in the country
Expansion in the trade and industry: The uses of cheques, drafts, bills of -6
exchange etc. by the banks, have led to vast expansion in trade and industry all over
.the world
Encouragement of right type of industries: The banks advance short, medium -7
and long term loans to the industrialists in accordance with the loan policies of the
.government. This helps in promoting right type of industrialization in the country
Balanced development: The banks play an active role in balanced development in -8
different regions of the country. They help in transferring funds from developed
regions to the less developed regions. The undeveloped areas of the country thus get
.adequate funds for development
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Development of agricultural and industry: The commercial banks, particularly -9

in developing countries are providing short medium and long term loans for the
.development of agriculture and industries in rural and urban areas
Reducing reliance on foreign capital: A planned banking system in the country -10
.mobilizes savings and meets credits

ROLE OF COMMERCIAL BANK IN THE ECONOMIC

:DEVELOPMENT OF PAKISTAN

Commercial bank plays very important role in economic development of our country.
Following points tells us about role of commercial bank in economic development of
:our country

:Mobilization of saving -1
Financing development project -2
Facilitate trade activities -3
Help State Bank in achieving monetary policy -4
Create climate for capital formation -5
Transfer savings in to investment -6

Commercial bank transfer the savings collected from the people in to investment and
thus increase the amount of effective capital, which helps the process of economic
.growth

INFLATION

INTRODUCTION: Inflation and Deflation, in economics, terms used to describe,

respectively, a decline or an increase in the value of money, in relation to the goods
and services it will buy. Prof. Gregory a former adviser to the undivided Govt. of
indo-pak in his article on inflation defined it as “An abnormal increase in the quantity
of purchasing power”. In the words of Gardner Ackley “Inflation may be defined as a
persistent and appreciable rise in general level or average of prices.” Haw trey in 1928
.”define inflation as "The issue of too much currency
Inflation is the pervasive and sustained rise in the aggregate level of prices
measured by an index of the cost of various goods and services. Sustained price
increases were historically directly linked to wars, poor harvests, political upheavals,
.or other unique events

DEFINITION OF INFLATION
Spontaneous increase in general price level is called
inflation
Or

.The rise in general price level is called inflation

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1. Economics higher prices: an increase in the supply of currency or credit

relative to the availability of goods and services, resulting in higher prices and
a decrease in the purchasing power of money
2. Being inflated: the act of inflating something, or the condition of being
inflated
3. Proud condition: the condition of being puffed up with pride
4. Cosmology early expansion of universe: a period of rapidly accelerating
expansion of the early universe after the big bang.

When there is a rise in general price level for all goods and services it is known as
inflation. An inflationary movement could be because of the rise in any single price or
.a group of prices of related goods and services

Types of Inflation

There are four main types of Inflation. The various types of inflation are briefed
.below

Wage Inflation: Wage inflation is also called as demand-pull or excess demand

inflation. This type of inflation occurs when total demand for goods and services in an
economy exceeds the supply of the same. When the supply is less, the prices of these
goods and services would rise, leading to a situation called as demand-pull inflation.
.This type of inflation affects the market economy adversely during the wartime

Cost-push Inflation: As the name suggests, if there is increase in the cost of

production of goods and services, there is likely to be a forceful increase in the prices
of finished goods and services. For instance, a rise in the wages of laborers would
raise the unit costs of production and this would lead to rise in prices for the related
end product. This type of inflation may or may not occur in conjunction with demand-
.pull inflation

Pricing Power Inflation: Pricing power inflation is more often called as administered
price inflation. This type of inflation occurs when the business houses and industries
decide to increase the price of their respective goods and services to increase their
profit margins. A point noteworthy is pricing power inflation does not occur at the
time of financial crises and economic depression, or when there is a downturn in the
economy. This type of inflation is also called as oligopolistic inflation because
.oligopolies have the power of pricing their goods and services

Sectoral Inflation: This is the fourth major type of inflation. The sectoral inflation
takes place when there is an increase in the price of the goods and services produced
by a certain sector of industries. For instance, an increase in the cost of crude oil
would directly affect all the other sectors, which are directly related to the oil industry.
Thus, the ever-increasing price of fuel has become an important issue related to the
.economy all over the world

Other Types of Inflation

Fiscal Inflation: Fiscal Inflation occurs when there is excess government spending.
This occurs when there is a deficit budget. For instance, Fiscal inflation originated in
 15

the US in 1960s at the time President Lydon Baines Johnson. America is also facing
fiscal type of inflation under the presidentship of George W. Bush due to excess
.spending in the defense sector

Hyperinflation: Hyperinflation is also known as runaway inflation or galloping

inflation. This type of inflation occurs during or soon after a war. This can usually
lead to the complete breakdown of a country’s monetary system. However, this type
of inflation is short-lived. In 1923, in Germany, inflation rate touched approximately
.322 percent per month with October being the month of highest inflation

.To sum up, any type of inflation could affect the economy of a country badly

:KINDS OF INFLATION
:INFLATION ON THE BASIS OF RATE OF INFLATION
.CREEPING INFLATION. 2-WALKING INFLATION -1
.RUNNING INFLATION. 4- HYPER-INFLATION -3
Creeping inflation-1
When the rate of inflation
is up to 3 percent is called creeping inflation

Walking inflation-2
When the rate of inflation is 7 to 10 percent is called walking inflation
Running inflation-3
When the rate of inflation is 10 to 20 percent is called running inflation.
This type of inflation put very bad impact on the middle and poor class
Hyper Inflation-4
When the rate of inflation is 20 to 100 percent in period of less then one
year is called
.hyper inflation
EFFECTS OF INFLATION: There are different effects of inflation on the particular
country which include: An increase in the inflation implies a decrease in the
purchasing power of the currency. High or unpredictable inflation rates are regarded
as harmful to an overall economy. Inflation adds inefficiencies in the market. Inflation
.make it difficult for companies to budget or plan long-term goals or achievements

EFFECTS OF INFLATION: There are different effects of inflation on the particular

country which include: Inflation can impose hidden tax increases. Inflation can act as
a drag on productivity as companies are forced to shift resources away from products
and services in order to focus on profit and losses from currency inflation. Uncertainty
. about the future purchasing power of money discourages investment and saving

CAUSES OF INFLATION
.There are many causes of Inflation in under develop country like Pakistan
1- Demand pull Inflation
2- Cost push Inflation
Demand pull Inflation-1
 Increase in supply of money
Government takes loan for foreign countries to fulfill the gape of Expenditures and
.Income
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 Foreign remittances
 Foreign Aid
 Consumption habit
 Consumption of houses
 Nationalization of industries
 Increase in Wages
 Increase in Taxes
Cost push Inflation-2
 Increase in the price of import
 Increase in taxes

REMEDIES OF INFLATION
-:Inflation can be controlled by adopting following measures

Monetary measures: Monetary measures relate to the control in the supply and .(A)
.circulation of money in the country
Bank rate policy: In case of inflation, the bank rate is increased; the supply of .1
.money is controlled
Open market operation: During inflation, the central bank sells govt. securities and .2
.price bonds in the open market in order to contract the supply of money
Variable reserve ratio: In order to control inflation, the central bank increases the .3
.reservation
Credit Rationing: When there is inflationary pressure, the state bank adopts the .4
.policy of credit rationing
Fiscal Measures: Measures in connection with public borrowing, public .(B)
.expenditures and public revenues are called fiscal measures
Public Borrowing: During inflation, increase the public borrowing, during .1
.deflation, decrease in public borrowing
Public Revenues: In order to control inflation, the increase in public revenues by .2
.the Govt
Public expenditures: Inflation is also controlled by decreasing the public .3
.expenditures by the Govt
:Realistic Measures .(C)
Increase the supply of goods and services: When the supply of goods and services .1
.is increased, the prices will come down
Population planning: Control on population by adopting different measures of .2
.family planning will reduce the demand and finally prices will be controlled
Price control policy: The govt. should adopt strict price control policy against the .3
.profiteers and hoarders
Economic Planning: Effective economic planning is necessary to control the .4
.inflation in the country
:Compulsory saving
The Government may start schemes of compulsory savings to take from each person
some portion of his earnings. The purpose is to decrease the purchasing power of each
person. The accounts in the banks may encourage the people through attractive rate of
.interest
:Check on Exports
The surplus goods may be exported. But the items which are short at home market
should not be exported at any cost. The maintenance of stable price level is a
 17

challenge for the Government. The essential items cannot be allowed to cross the
border of the country to combat inflation. The goods in excess supply can be allowed
to go abroad for maintaining price level.
:Price control
The Government can introduce the price control of various commodities. It is a tool in
the hands of Government to control inflation. The sellers have no option but to sell the
Goods and Services at the fixed prices. The Supply of goods may be short. The goods
may be used by poor sections of society. The Government for this purpose
 Increase in Production:-
Helpful to increase the supply.
Regulate the price level.

 Wages control
 Restriction on the import of luxuries items
 Sick industrial problems
 Effective Administration
 Control on Population
 Cut on unproductive expenditure
;There are two types of inflation
:Demand pulls inflation (1
:Cost pushes inflation (2
:Demand pull inflation (1
This inflation occurs due to increase in the demand of the product.
When there is increase in demand it will lead to increase prices, which is called
Demand-pull inflation.
:Cost push inflation (2
.This type of inflation occurs due to increase in the cost of production of the product
:Causes of inflation
.There are many causes of inflation in underdeveloped countries like Pakistan
:Demand pull inflation (1
:increase in supply of money 1
When there is increase in supply of money the demand for goods will increase and
due to increase in demand price will increase will also so increase in prices is
inflation.
:Foreign remittance (2
The people who are living in out side from the country they send foreign currency to
their country that’s why the flow of money in the country increased and demand
increased and there is inflation.
:Foreign aids (3
Due to foreign aids the makes less amount of goods in the country and gain maximum
.price so the rising price is inflation
:Consumption habit (4
If the consumer have consumption habit than he have to purchase whether the prices
raise to the sky, due to this habit the demands for goods increases and due to increase
in demand there is inflation.
:Construction of house (5
This is the nonproductive investment so for construction of house the people spent a
lot of money, and buy the material for construction so there is increase in demand for
.material then inflation created
:Nationalization of industries (6
 18

If the law tells us that the industries must be nationalize then no one wants to make an
investment so as a result buy goods from other countries and pay the huge amount for
.that goods and the prices of that goods automatically increased and inflation created
:Increase in population (7
Increase in population may increase the demand for goods and when demand
increases the price also increases as the result of this increasement there is inflation.

:Cost push inflation (2

1) Increase in the price of raw material:

The increasement in prices of raw material increased the prices of final goods,
.increased in prices is called inflation
:Increase in tax (2
If the industrial pay the maximum tax and this tax he will charge to customer by
.increasing prices of goods so by increasing price inflation created
:Rise in the price of import of machinery etc (3
Under developed countries purchased machinery from outside of the country and they
paid huge amount for purchasing of these machinery’s it will increases there cost of
.production and prices of that goods also increases. This is called inflation

:Measures to control inflation

:Restriction on the import of luxuries (1

.Government restricts rich peoples of the economy to import the luxury items
:Sick industry problems (2
If the management of the industry is high qualified and they will obedient from their
.work. The sick problems of industries will solve
:Affective administration (3

BARTER SYSTEM
The system under which “Goods were exchanged for goods” is known as “Barter”
.system
With the passage of time and increase in human wants, it become impossible to satisfy
all wants through direct exchange. Barter system, in some kind of trade also exists
.today, but as a medium of exchange, is not in practice

:Difficulties of Barter system

.There are following difficulties of Barter System
LACK OF DOUBLE COINCIDENCE OF WANTS -1
The Barter system simply meant the act of exchanging the goods with another and the
.main problem that arose was finding the right person for exchange to take place
:DIFFICULTY OF A COMMON MEASURE OF VALUE -2
Now the problem is, supposing A and B have found the right persons; the ultimate
problem would be how much cloth should be given in exchange for milk? It may very
well be that either party would have to give more or less but the question is, how
?much more and how much less
:INDIVISIBILITY OF CERTAIN GOODS -3
 19

Another problem which was likely to occur was that when A had only one good but
needed to; and that A and C had the required goods and both needed A’s good. Thus,
?.how would A divide his good equally between B & C
:DIFFICULTY OF STORING VALUE -4
Another major problem was that many of the items put up for exchange had to be
exchanged immediately as they were perishable commodities such as agriculture
.products

:DIFFICULTIES IN FUTURE PAYMENTS -5

Now-a-days people may borrow from the banks (loans), and pay back the borrow
amount plus its interest. However, before there was no such thing as ‘loan’ and
‘interest’ thus, supposing a needed to borrow 100 cattle, he would have guarantee that
the 100 cattle would be returned in as good shape as loaned, something not possible
.for him to determine
EVALUATION OF MONEY
Evaluation of money has past through following 5 stages depending upon the progress
.of human civilization at different time and different places
:COMMODITY MONEY -1
Various types of commodity have be used as a money from the beginning of human
civilization, stones, skins, bows and arrows and axis were used as a money in the
hunting society. The agricultural society use grain for money. The Roman’s used
cattle’s and salt as money at different time. The Mongolian’s used skins as money.
Precious stones, tobacco, tee shells and many others commodities serve as money
.depending upon time, place and economic standard a society

:METALLIC MONEY -2
With the spread of civilization and trade relations by land and sea. Metallic money
took the place of commodity money. Many nations started using Silver, Gold, Copper,
.Tin etc as a money

:PAPER MONEY -3
The development of money started with Goldsmith who kept strong safe to store there
Gold as Goldsmith were thought honest merchant, peoples started keeping there Gold
with them for safe custody. In return the Goldsmith gives the depositor receipts
promising to return the Gold on demand. These receipts of the Goldsmith were given
seller by the buyer. Thus the receipts of Goldsmith were a substitute by money. Such
paper money back by Gold, and was convertible on demand in to Gold. This
.ultimately let the development of bank notes

:CREDIT MONEY -4
Another stage in the evaluation of money in the modern world is the use of on cheque
as money. The cheque is like a bank note. In that it performs same function. It is mean
of transferring money from one place to another. But a cheque is different from bank
note. A cheque is made for a specific sum and it is expire single transaction. A cheque
is not money it is simply written order to transfer money. However large transactions
are made through cheques these days and bank notes are used only for small
.transaction

:NEAR MONEY -5
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The next stage in evaluation of money has use the bill of exchange, Treasury bill,
bonds, debentures, saving certificate etc. They are known as near money. They are
.close substitute for money or liquid asset

:PLASTIC MONEY -6
The final stage evaluations of money have been the use of ATM cards, and Credit
cards as money. These make the transactions very easy for the clients of the bank and
.you can make the transaction anywhere, from any when from any time

MONEY
According to professor Crowther
Any thing which is generally accepted as a medium of exchange and also perform “
”the functions of measure of value and store of value, is money
:MONEY AS MEDIUM OF EXCHANGE -1
There is no necessity for a double coincidence of wants in a money economy. The
man with the cow, who wants to purchase a horse, need hot hunt for, a horse seller,
who wants a cow. He can sell his cow in the market for money and then purchase a
.horse with the money thus obtained
:MONEY AS A STANDARD MEASURE OF VALUE -2
One inconvenience of barter, as noted, was the lack of common measure or a common
denominator of value. In terms of which other values could be expressed and added
and accounts kept. Money removes this difficulty too. Money serves as a unit of
account. In the economy, it is easy to compare the relative values of commodities and
.services which are dissimilar and entirely different from one another
:MONEY AS A STANDARD OF DEFERRED PAYMENTS -3
Lending and borrowing, therefore, must take place in terms of a commodity which
will, reasonably speaking keep its value stable over time. Most commodities
deteriorate with his passage of time. But if the money material is properly selected
.and managed, its value can be kept more stable than that of other articles
:MONEY AS A STORE OF VALUE -4
.We also store money in long period
:MEASUREMENT OF NATIONAL INCOME-5
It is necessary for to get the correct figures of National income, the value must be in
.money term

:DISTRIBUTION OF NATIONAL INCOME -6

We know that we MEASURE National income in money term. So the distribution of
.National income will also in money term

:MONEY IS THE MOST LIQUID OF ALL LIQUID ASSETS -7

Money is kept at liquid assets, for instance, because it serves as a medium of
.exchange, because it has comparatively stable value
 21

TAX
:According to Professor Thomas
A tax is a compulsory contribution made to the government under stated condition “
”.and not a return for a specific service rendered
So you can also say that the compulsory payment by individuals and companies to the
.state is called taxation

Principles of Taxation: (Adam smith)

There are following of the principles of Taxation:

1. Canon of Equality: It is most important cannon of taxation which embodies the

principle of equity or justice. It provides the concept of the equality of sacrifice. By
equality is meant that the rate of %age of taxation should increase with the rise in
income. And decrease with the fall in income. According to this principle every
person sacrifices according to his ability.

Canon of Certainly: The tax paid by each individual should be certain but not .2
arbitrary. The time of payment, the manner of payment, the quantity to pay, should all
.to be clear and plain to the contributor
Adam Smith regards this canon as the most fundamental canon. It is not to be left to
the sweet will of the income tax department. It causes the least disturbance in the
economic arrangements of the tax-payer. Certainty is needed not only from the point
.of view of the tax payer but also from that of the state

Canon of convenience: 1st the amount of tax should be such that it can be easily -3
payable by the taxpayer. Secondly the amount of tax can be received in installment.
Thirdly if the tax is receive at that time when taxpayer finally feels better. For
Example: If the tax is collected from formers when they have harvested, it will be
.very convenient for them

Canon of economy: The expense of collection of taxes should be minimum. If the -4

Government pays the minimum portion of tax revenue to the staff appointed for tax
.collection, it will be uneconomical

Canon of simplicity: If the tax system is complicated and difficult to understand -5

then it will lead to corruption. The tax system should by very simple and plane for
.taxpayers
 22

Canon of productivity: The tax should be produce sufficient revenue to the -6

Government. A few taxes should be preferred on large numbers small taxes, which
.produce less revenue and are expensive in collection

Canon of Elasticity: The tax should be fairly elastic so that the rate of taxes may -7
be increase or decrease according to the changing condition of the country. Income
.tax, railway fares and postal rates are very good examples of elastic tax

Canon of diversity: According to this principle the system of income should -8

include a large numbers of taxes which are economical. The Government should
collect revenue from its citizen by imposing direct and indirect taxes. Variety in
.taxation is desirable from the equity of yield and stability point of view