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Name:Oojwal Manglik
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| Inflation - behind the jargon |
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These days we read about the rising inflationary concerns. Editorials are written, Television primetime is dedicated to it, even the government has to address it by making statements regarding what it is doing to curb it. So let me discuss the inflation phenomenon, what it is, how it impacts us, a brief historical aspect and what is going on currently. The word “inflation” refers to a general rise in prices measured against a standard level of purchasing power. It is measured by comparing the price of the same good at two different points of time. For example, the wholesale price index consists of 435 commodities data on price level. It is the only general index capturing price movements in a comprehensive way. It is an indicator of movement in prices of commodities in all trade and transactions. It is also the price index which is available on a weekly basis with the shortest possible time lag only two weeks. It is due to these attributes that it is widely used in business and industry circles and in Government, and is generally taken as an indicator of the rate of inflation in the economy. It is imperative that the index is put on as sound a footing as possible. Inflation arises out demand supply mismatch, it is as simple as that. When the demand of a particular good outweighs the supply, or vice versa, the pricing of the good adjusts to restore balance between the two. The former leads to inflation while the latter leads to deflation. Inflation is considered healthy for the economy if it is kept in reasonable bounds. The reason for this is that it is difficult to renegotiate some prices, and particularly wages, downwards. So with generally increasing prices it is easier for relative prices to adjust. Inflation is also viewed as a hidden risk pressure that provides an incentive for those with savings to invest them as money left idle will eventually have its value eroded over time. With a person earning a handsome return on his investment, he can keep at par or even beat the rising goods prices. However, unmoderated inflation can cause mayhem in the economy. For example, people on fixed incomes are the worst effected since their incomes are not adjusted upwards and hence do not account for the change in cost of living. Hence their standards of living go down. Also, inflation can lead to a demand for wage hikes. In such a scenario, a strike can lead to further tightening on the supply side leading to an increase in the inflationary pressure. It is a fact that with industries such as petroleum and essentials such as wheat, sugarcane and pulses, event the slightest supply side constraints can have a deep impact on inflation. Coming to ways of moderating inflation, this is done mainly by setting the lowest interest rate in an economy - the discount rate at which banks can borrow from the central bank. We must keep in mind that inflation is a demand supply mismatch. Increasing interest rates encourages people to save rather than spend. At the same time liquidity available for the corporate sector is sucked out as the rate of interest at which they borrow money is increased. The subsequent unemployment and the decline of production prevent price increases. Changing interest rates is however a short term measure. In the long run, inflation can be controlled only by removing supply side bottlenecks, preventing hoarding and increasing productivity. In the Indian context, the inflation had reached an alarming peak over the last few days. Inflation for the previous week was at 6.63%. However as per latest data released by the RBI on 02.03.07, the rate of inflation has dropped to 6.05% after touching a two year peak of 6.73% on week ended Feb 3. Now that the inflationary pressure is easing, it is interesting to note the measures taken that brought about this swift response. The economic survey had the following to report and recommend about the inflation on the 28.02.07 "The pressure of prices will persist during the year because of short supply of essentials, and firm international prices.On the other hand, demand is being fed by high growth, the surge in reserve money because of foreign inflows, the rise in money supply and the huge increase in credit. The impact of duty cuts and the Reserve bank's policies will be felt in the days to come. But unless supply of essentials is increased, inflation will not be fully tamed." The survey called for increase in domestic production of staples like rice, wheat, cooking oils and pulses through better technology. It says, in the short run, there will be a gap between the remunerative price paid to farmers and fair price to consumers but these should not translate into increased food subsidy. Clearly supply side was unable to satisfy the demand created by increasing liquidity in the market.   Two main steps were taken to redress these issues. Firstly the Cash Reserve Ratio(CRR) was increased by 25 basis points in two steps. This lead to an immediate curbing of liquidity in the market as the amount of funds available for the banks became less. In lieu of decreasing liquidity the rate of interest on loans went up. Secondly the finance minister, in order to provide a long term permanant solution, took several steps in the annual budget to promote agricultural growth and set a target of 4% for it. Several schemes were proposed and money allocated for spending over the agriculture sector. These steps, if properly implemented, should remove supply side problems that cause our economy to overheat during high growth periods. Already the CRR hike has tempered down the inflation rate to 6.05% according to latest figures. I hope the above discussion has been insightful. |
posted by
Oojwal Manglik @ 10:15 AM
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| 3Comments: |
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Sometimes when I read things like this, I almost cry, because it shows how badly people have been lied to and misled.
Inflation is caused by one thing, and one thing alone. The central bank increasing the amount of money in circulation. In theory, this money is not inflationary because it is loaned out rather than just printed up, but in practice they are always loaning out more and more and more. Some times, when people catch on, they may cut back credit sharply and nail lots of people who owe debt, but they will never change their game.
In a healthy society prices should usually trend downard because peoples productivity usually trends upward. But because the central bank waters down the value of peoples money even faster - that never happens. Sadly, their games with debt and money always hurt the poor the most.
However, they found that in India it was a lot harder to "squeese" the poor, because India's poor have a tradition of holding onto gold (which can't be watered down) and in a gold based system it is harder to lie to people about the value of their money. At first, they tried "micro-loans" for the poor to try and get them hooked on the credit system, but that ended up a miserable failure. So now they are trying "education" programs to "teach" India's youth about modern finance.
Please don't fall for it. The great financial success of the US happened because we had freedoms and liberties that existed in-spite of our central banking system, not because of it. If you want an honest education in economics visit www.mises.org and tell your friends about it too.
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Its interesting for you to say that the misinformation about the causes behind inflation are part of deliberate propaganda. I do agree that "the central bank increasing the amount of money in circulation" is one of the reasons for rising inflation. Though i think inflation is bound to happen whenever excess liquidity comes into the picture with an improper supply structure in place.
Money in circulation can be increased in many ways. As you pointed out, it can be through central bank loans, it can also be through FII's, government initiated funding of schemes, investment by multinationals, etc. In the end, this excess liquidity percolates down to the pockets of people in the form of wages and increases spending and raises demand.
So you are right, central bank increasing money circulation does lead to inflation. It is a precurser to the demand supply mismatch i have talked about.
I did go through the website you reccommended and found the following insightful note
"Inflation, as this term was always used everywhere and especially in this country, means increasing the quantity of money and bank notes in circulation and the quantity of bank deposits subject to check. But people today use the term `inflation' to refer to the phenomenon that is an inevitable consequence of inflation, that is the tendency of all prices and wage rates to rise. The result of this deplorable confusion is that there is no term left to signify the cause of this rise in prices and wages. There is no longer any word available to signify the phenomenon that has been, up to now, called inflation. . . . As you cannot talk about something that has no name, you cannot fight it. Those who pretend to fight inflation are in fact only fighting what is the inevitable consequence of inflation, rising prices. Their ventures are doomed to failure because they do not attack the root of the evil. They try to keep prices low while firmly committed to a policy of increasing the quantity of money that must necessarily make them soar. As long as this terminological confusion is not entirely wiped out, there cannot be any question of stopping inflation."
This is something that i missed out in my post and i find to be a very relevant addition.
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During the 1920's (not today) the US dollar was backed by gold. But, the Federal Reserve (the US central bank) decided to print and loan out more money than there was gold to back it up. This caused a great economic boom during the 1920's, but a great depression during the 1930's. Some people in my family who understood this took all their money out of the sotck market and bought gold before the crash. (everybody thought they were foolish idiots) When the crash did happen, millions of people went bankrupt. My family was able to buy up many many properties for a very very low price.
My point is that if you understand the way central banking works, you can become very wealthy. If you don't then you will become poor. I have no kind words to say about the central banking cartel. They make intelligent sounding theories and justifications for their existence, but it is just a clever fraud that enables them to become wealthy and powerfull by lying to people about the value of their money.
Their days are numbered in the US so there eyes are on India and China. Watch out !
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Sometimes when I read things like this, I almost cry, because it shows how badly people have been lied to and misled.
Inflation is caused by one thing, and one thing alone. The central bank increasing the amount of money in circulation. In theory, this money is not inflationary because it is loaned out rather than just printed up, but in practice they are always loaning out more and more and more. Some times, when people catch on, they may cut back credit sharply and nail lots of people who owe debt, but they will never change their game.
In a healthy society prices should usually trend downard because peoples productivity usually trends upward. But because the central bank waters down the value of peoples money even faster - that never happens. Sadly, their games with debt and money always hurt the poor the most.
However, they found that in India it was a lot harder to "squeese" the poor, because India's poor have a tradition of holding onto gold (which can't be watered down) and in a gold based system it is harder to lie to people about the value of their money. At first, they tried "micro-loans" for the poor to try and get them hooked on the credit system, but that ended up a miserable failure. So now they are trying "education" programs to "teach" India's youth about modern finance.
Please don't fall for it. The great financial success of the US happened because we had freedoms and liberties that existed in-spite of our central banking system, not because of it. If you want an honest education in economics visit www.mises.org and tell your friends about it too.