INFLATION IS HERE TO STAY

SHAMSUL GHANI
(feedback@pgeconomist.com)

May 2 - 15, 2011

Fiat money and interest-based economy stoke inflation. Inflation, in turn, induces central bankers to up the interest rate. A higher interest rate, for a while, seems to check inflation, as does any antibiotic when administered to control fever. The physician, who doesn't bother to further investigate the cause of fever, relaxes and allows the patient to slip into a condition that is very difficult, if not impossible, to treat.

The bookish prescription of a high interest rate to control inflation is the nemesis of a potential laden economy. The static central bank policies are as damaging to the economy as the irresponsible physicians are to the patients. Milton Friedman once said: "One of the great mistakes is to judge policies and programs by their intentions rather than their results." In case of Pakistan, the results of a rigid monetary policy have spoken louder than the intentions.

We have the highest interest and inflation rates in the region. The experimentation with an 'out of this world' interest rate should now be put to an end. The economy should be allowed to flourish. The private investment that has been forced to shift to foreign lands - courtesy a high interest rate and crowding out of private sector credit - needs to be wooed back through 'low interest and ample credit' policies.

Inflation in Pakistan is more attributable to the malfunctioning of the political economy than to the global economic trends, particularly the rising international food and commodity prices. We were having a double-digit inflation when global economies, in the aftermath of a financial crisis, were having inflation in the range of 1-3 percent. With the food and commodity markets now having gone into bullish mode once again, the global economies are experiencing an upsurge in the rate of inflation. Unless we take some forward-looking economic measures, we are going to face a situation of hyperinflation.

INDICES COMPARISON ON ANNUAL & MONTHLY BASIS

INDEX MONTH OF APRIL-2011 AS COMPARED TO PREVIOUS YEARS MONTH OF APRIL-2011 AS COMPARED TO THE MONTH OF MARCH THIS YEAR AND PREVIOUS YEARS

FY-11

FY-10

FY-09

FY-11

FY-10

FY-09

CPI

13.04

13.26

17.19

2.62

1.73

1.41

SPI

16.97

16.72

15.78

0.55

0.43

1.68

WPI

25.92

21.99

8.30

2.26

1.84

1.68

The precipitating hyperinflation has started to show its signs in food prices which went up by 17.23 percent in the month of April. The Asian Development Bank (ADB) has predicted that inflation in Pakistan may go up to 16 percent by the end of June that is less than two months from now. Further, the increase of 25.92 percent in wholesale price index shows that substantial price increase on retail level is also in the pipeline. The frequent bouts of increase in domestic prices of petroleum products and government apathy to the problems of economic importance also substantiate the possibility of an impending hyperinflation. Niall Ferguson writes in his book The Ascent Of Money: "Inflation is an monetary phenomenon, as Milton Friedman said. But hyperinflation is always and everywhere a political phenomenon, in the sense that it cannot occur without a fundamental malfunction of a country's political economy."

On international front, rising oil, precious metals, and food prices do not augur well for poor, inefficient and corrupt economies like Pakistan. The diminished world food crops - resulting from fires in Russia and floods in Australia - and rising food demand in giant economies of India and China give rise to the fears of global food insecurity. The speculative forces have decided to hedge against food-fears by overinvesting in precious metals. The rising prices of gold and silver will give further push to food and oil prices and world will soon find itself in the grip of ever-rising and never-dying inflation. The situation may flare up military showdowns the world over and the much feared 'global war for food' may erupt.

A Financial Times report says: "Fish stocks - though replenishable - can be exhausted. Yoichi Funabashi, a Japanese foreign policy expert, says the underlying cause of last year's diplomatic clash between China and Japan over disputed islands, was a struggle for marine protein." Another section of the same report says: "Beyond the immediate inflationary anxieties, the real question is whether high food prices are here to stay. Many investors are betting that rising living standards across the emerging world particularly in China and India - with 2.5 billion people between them - will exert long-term upward pressure on the cost of food."

Aaron Smith, the managing director of Superfund Financial (Hong Kong) Limited, who correctly predicted copper prices in November and rightly anticipated that silver will outperform gold, has said, according to a Financial Times report: There is a tremendous shortage of food, there is a tremendous shortage of arable land. Any kind of food products are going to increase... It is an incredibly difficult humanitarian story because the poorest countries would be hit the hardest. The average person is going to be swamped by food inflation. The new arms race is food and energy." How to get out of this food-gold-oil 'trilemma'? Hiroyuki Konuma, the UN Food and Agriculture Organization's regional representative in Asia, recently said that world food productions will have to increase by 70 percent by 2050 to meet increasing demand from an expanding global population projected to rise to 9.1 billion from 6.9 billion now.

We have great potential in our agro economy. By managing it on scientific lines, we can ward off the potential threat of global food crisis. Our per-hectare yield is one of the lowest in the world. To feed the ever-increasing population, we must keep on increasing cultivable area but limited availability of arable land prevents us from doing so. Poor infrastructure, century-old irrigation system, lack of technological advancement, use of substandard farm inputs, and on and off shortage of water affect our agriculture production giving rise to food price inflation. The production and marketing systems of our agriculture and horticulture sectors are defective. Unless we correct these systemic faults, we cannot expect to attain food security goals

On administrative side, hoarding, smuggling and absence of price control mechanism act as deterrents to our food security efforts. Our feudal elite that rules us in alternation, under the garbs of democracy and autocracy, also controls the agriculture of this country. Being the large landholders, they decide what to produce and how much to produce. They manipulate prices through hoarding, unethical marketing, and distribution practices. If able to get higher prices, they never hesitate to export out or even smuggle out their agriculture produce leaving the national consumers high and dry. They openly resist any price control mechanism. They did everything to take the sting out of the Competition Commission of Pakistan. Because of the global financial melt down, the commodity prices came down world over, but not in Pakistan. With the rise in demand and reactivation of speculative forces, the global prices have picked up again and our economy is struggling in the grip of stagflation.

Fiat money, interest, and free market economy have blown the inflationary balloon out of proportion. Trapped inside the balloon is the world economy. Now, if the balloon bursts, what will happen is anybody's guess. So, there is no downward journey at all. We must keep the balloon puffing up by stoking the fire of inflation. Whenever efforts to stop it from going further up are made, events like the Great Depressions, Black Mondays and Global Financial Meltdowns take place. Inflation is the essential byproduct of the economic system the world has chosen for itself. It cannot be eliminated. It is here to stay. We can only minimize its effects through prudent economic and financial management.