Question

Discuss, in brief, the meanings of deficient demand and deflationary gap with the help of a diagram. Also, discuss the effect of deficient demand on output, employment and price level.

Answer 1

In the diagram AB represents the deflationary gap or deficient demand.

Deficient demand refers to the situation when aggregate demand is short of aggregate supply corresponding to full employment level in the economy. Aggregate supply being perfectly elastic, it converges with aggregate demand at a lower level of output lower than the full employment level of output in the economy. This is a situation of underemployment equilibrium.