Inflation, government and the people

The current phase of inflation seems to have undone much of the good that the UPA government created for itself through a “revolutionary budget” as Sonia Gandhi put it. The ‘Times of India’ describes this whole process as ‘pollonomics’. The government obviously wanted to showcase itself as a magnanimous organizing body which was compassionate enough to call of all the money which was due from the farmers, which was actually anyway lost, but calling it of at the most propitious time when elections are due would have resulted in electoral and political gain for the government. But now all that ‘good work’ (of a few weeks!!) may not ultimately give the government the edge that it needed for the next election. The BJP and CPI (M) are already threatening a nation wide agitation in second week of April if prices are not under control by then.

Whether the government will still win the election or not is a different matter, let us look at the phenomena of inflation that we are facing at the moment. First of all it is a global phenomenon; there is a jump in the food prices in the world market. Let us compare our inflation rate with the country we always like getting compared with for every reason, China. Currently China is growing at 11.4% and the inflation has hit a 12 year high of 8.7%, now that’s something to scream about, “inflation nearing 9%” almost sounds like “I have put on 20 kgs in one month and I have to lose the same in 15 days!” There is no doubt that bringing down the inflation rate from such a high rate not only takes a little time but it also affects the growth rate. We have already seen a drop in our economic growth rate to 8.7% from the high of 9.4% in 2007. Basically there is a clash between these two objectives of growth and maintaining price stability, but with both these figures going to their worse end we might have to face stagflation. Stagflation was a term employed by the supply side economists in the 70s, to describe the then existing economic crisis, and moreover they(supply side economists) held that these crisis had resulted because of neglecting aggregate supply in the economy and only focusing and framing demand managed polices which were advocated by Keynes. However, stagflation is not a properly defined term in economics, we know that when there is negative growth in two quarters continuously it is called recession, but there is no so such barometer which you plan plug in an economy and determine whether stagflation exists or not.

Now let’s look at the measures taken by the government to tackle the problem of inflation. First and foremost it must be mentioned that this problem will not be short-lived, as the latest report of the Asian Development Bank says that inflation will be a regular problem with the Asian countries. But the government undoubtedly has to do something for two reasons:

a) To ensure the welfare of the people

b) To win the next election (I can’t stop talking about it!)

So lets see what the government has done, first it has banned the exports of various commodities including rice, next it has abolished import duties to increase imports and increase supply of goods in the domestic market, then it has banned forward trading and recently it was reported that it is also taking measures to control prices of cement along with food articles by importing cement from Pakistan at Rs150-175 for a bag of 50 kg (it is sold at 225-240 in the northern states). Now all of these measures consist the supply side polices, along with that there are some monetary and fiscal polices also that he government might undertake, like increasing interest rates (it’s actually done by the RBI) tight money supply to prevent demand pull inflation and appropriate fiscal management. Apart from this the government also considers increasing food subsidies to bring about temporary stability in prices. However, while all these policies are being implement it is interesting to note that currently many countries are facing the problem of inflation, therefore they are also implementing similar such policies if not identical, what happens then?? If our government decides to ban exports and abolish import duties to increase supply, it can happen that other countries are doing a similar thing; Saudi Arabia is already implementing these policies. So how then does the government proceed with this problem? Im not saying this is happening per se at the moment, but currently with many countries facing a similar problem this is a theoretical possibility.

It is needless to say that the above policies will affect growth and in turn the stock market but this is inevitable, controlling inflation at the moment is of utmost importance, all the national newspapers can wait for a few months to write their favorite headline “Growth back on track” and “Sensex like never before”.

 

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6 comments on “Inflation, government and the people

  1. Amol Agrawal says:

    Assem,

    You are mixing the two – Keynes and Friedman. Keynes emphasised on fiscal policies and Friedman on monetary policies. Friedman would have never been happy about the supply side interventions by government. He was anti government and advocated free markets in a big way. He always said inflation is always and everywhere a monetary phenomenon and would have been happy with the Central Bank intervention.

    Keynes time was different and inflation was never a concern but growth was. So he relied on fiscal policies for pushing growth. And Keynes has been misinterpreted many a times.

    For fixing inflation we need number of reforms in the rural economy. Otherwise all these measures are short term and inflation would keep revisiting.

  2. Amol Agrawal says:

    Another point is on stagflation. Well you can’t say India might face stagflation. An 8% growth can’t in anyways be termed as a slow growth given the world economic conditions. Stagflation is more like having a recession and hyper inflation at sametime.

  3. I see, i was under the assumption, that most of Keynes contribution was refuted by Friedman, anyways thanks for your comments, i have made the necessary changes in the article, as far as stagflation is concerned, yes thats actually an extreme case, it may not really happen. India will definitely continue to have a a satisfactory if not good growth rate, due to many factors one of them being the huge demand of goods and services from ever increasing the population. However we have in recent times experienced jobless growth as this article also reveals http://timesofindia.indiatimes.com/articleshow/1930668.cms, therefore merely maintaining 8% growth may not be enough, it has to create jobs and at the same time economic inequalities have to be minimized(but i doubt whether thats a function of growth).

  4. Meenu says:

    good one!! another vote to hold politicians responsible for inflation!

  5. swagata says:

    Thank You for your well-thought article.However,as an economics student I was under the impression that Stagflation occurs when Growth rate falls and at the same time price rises,and I think that has already occurred in India in the first quarter of 2008.Just tell me,am I right?

    Friedman was all for Central Bank intervention and India now is applying that policy also,with RBI raising CRR and intervening with interest rate,so I think Government is on right track.But we must understand that it is NOT a short term problem so there is no chance of getting an instant solution.We will have to wait for the policy measures to work properly before starting political agitation.

  6. Yes it is definitely true that the current problem is not short term in nature at all. The price rise is inevitable because it is global phenomena, currently inflation is at 11.05% and India doesn’t have a strong Public Distribution system (PDS) either. In China the rate of inflation is perhaps more than India but they have a strong PDS system, therefore the burden on the common people is reduced considerably.

    Yes your definition of stagflation is perfectly correct. It was a term used by the monetarists of the 70s. Strangely the monetarists have fiscal and monetary prescriptions for every problem. Which in my humble view is not enough, fiscal and monetary policies can enhance a particular program or policy, it cannot be the source of the solution. Economics is basically developmental in nature.

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