Association of Chartered Certified Accountants (ACCA) Certification Practice Test

What type of inflation is caused by a persistent excess of aggregate demand over aggregate supply?

1. Cost-push inflation

2. Demand-pull inflation

3. Expectational inflation

4. Import cost push inflation

The correct answer is: Demand-pull inflation

Demand-pull inflation arises when overall demand in an economy exceeds the available supply of goods and services. This situation often occurs in a growing economy where consumer and business spending is high, resulting in increased competition for limited resources. As demand escalates, businesses respond by raising prices because they are unable to produce more goods or services to meet the heightened demand immediately. In this context, the sustained pressure from excess demand drives prices upward, which is characteristic of demand-pull inflation. This type of inflation typically occurs when the economy is near full capacity, and labor and materials are fully utilized, leading to inflationary pressures. In contrast, other forms of inflation, such as cost-push inflation, primarily arise from increases in production costs, rather than demand dynamics. Thus, understanding the fundamental concept of how demand impact price levels is crucial in grasping the nature of demand-pull inflation.