Correct Option
The correct option is 2 and 3 only.
Explanation
The question relates to the Keynesian theory of income determination in the short run. In this framework, the equilibrium level of output is determined by the level of Aggregate Demand (AD) relative to Aggregate Supply (AS). Unlike the Classical view, the Keynesian model posits that prices and wages are sticky in the short run, allowing for equilibrium to occur at levels other than full employment.
Statement-wise Analysis
- Statement 1 is Incorrect.
In the short run, the equilibrium level of output is determined where Aggregate Demand equals Aggregate Supply. This equilibrium does not always coincide with the full employment level. The economy can achieve equilibrium at a level less than full employment, known as under-employment equilibrium.
- Statement 2 is Correct.
Deficient demand occurs when Aggregate Demand is insufficient to purchase the output produced at the full employment level. As a result, the equilibrium output settles at a point less than the full employment output, creating a deflationary gap.
- Statement 3 is Correct.
Excess demand occurs when Aggregate Demand exceeds the full employment level of output. Since the economy cannot produce beyond its full employment capacity (resources are fully utilized), real output cannot increase further. Consequently, the pressure from excess demand leads to a rise in the general price level (inflation) in the long run (or as the price mechanism adjusts).
Key Takeaway
Short-run equilibrium is demand-determined and often occurs below full employment (Deficient Demand). Excess Demand at full employment cannot increase real output; instead, it results in an Inflationary Gap, driving prices up.