Arresting spiraling inflation

Inflation or popularly known as price inflation-consumer price index-has assumed high proportions after the misbalance appeared in endogenous and exogenous causative factors and monetary management. Variable from country to country internal motivation occurs in Pakistan when money supply crosses over the target fixed at the time of annual budget designing, that’s why often monetary tightening is used by the State Bank of Pakistan as an anchor to tam the inflation as if it weaned on such a stance since long; while price rise of importing commodities in conjunction with exchange rate disparity pushes external pressure on domestic inflation.

One still can long for effectiveness of tool activated to control broad money supply despite that past attempt of change in rate has abysmally failed to yield any desirable result. The high inflation is somehow justified at the time when unanticipated fluctuation (upward trend) in prices of [importing] commodities dilutes the impact of interest rate surge-what was earlier excused by the central bank-but the current downward move in prices of non-food i.e. oil and food items like edible oil in international market has question mark hanging over the non-transmission of price decline on domestic rate of inflation which remained throughout July-November 2008 average 24.7 percent-a level startling to many who would think that downward trend in prices of commodities in international market should have reflected on the consumer and sensitive price indices. Rupee devaluation against basket of currencies made import cost dearly nonetheless.

Also this rate is unprecedented when compared to historical periods and exposing likelihood that annual target for FY09 of 11 percent will be unachievable. During the first five month of current fiscal year food inflation alone reached to 31.9 percent in a wide contrast to 11.5 percent in the similar duration of the last fiscal year. With almost same proportion non-food inflation in this period soared to 19.1 percent as opposed to 5.2 percent earlier in which overall inflation was recorded 7.8 percent.

Adviser to Prime Minister on Finance Shaukat Tarin has reassured in a press report that government is conversant of inflation spike and taking compatible courses of actions accordingly. Whatever actions that may be inexorable is a fact that government has no other option to arrest inflation than to increase interest rate-given the inherent structural weaknesses in Pakistan according to SBP-that brings alongside fear of growth slowdown and unemployment as repercussions and that in recurrence didn’t succeed to control spiraling inflation as well previously.

Governor State bank in a paper said that historical evidence showed Pakistan been high interest and high inflation economy and conceded ineffectiveness of policy rate for inflation control, attributing government borrowing as one of the causative factors offsetting impact of monetary measure over inflation. “Borrowing from central bank injects liquidity in the system through increased currency in circulation and deposits of the government with the banks without notice,” she noted and thus impact of tight monetary stance is weakened.

Interest rate rise discourages advances from banks by private and public sector borrowers, but is ensued a spell of slowdown in economic productivity, decelerating growth in industrial outputs. The affects vary industry to industry howsoever. Government has not other option also because of the IMF structural adjustment program that dictates inter alia removal of subsidies, trade-off to price instability; tax network expansion that government already did by increasing GST and PDL; and removal of energy subsidies. With synergy these all have stimulated CPI graph and deteriorated poverty situation in the country. According to Planning Commission poverty peaked to 40 percent, though Tarin calculated it around 28 percent.

Before civil war in America, inflation was popularly defined as excessive supply of currency in the market, but later on it was equally ascribed to rise in prices as currency devaluation or fluctuations in purchasing power of money caused by higher money supply directly raised shelf price of products.

Assuming the updated version that befits the prevailing nature of skyrocketing headline and core inflations in the country since foreign wave has gotten composure following the decline in prices of commodities and apparent restriction on government for taking administrative steps money supply management may have pacified intrusive inflation. Monetary tightening is inevitable for regaining macro economic and price stability, said governor in the paper and added it also has propensity towards pro-growth. Therefore, State bank has increased policy rate from 13.5 to 15 percent to restore macro economic stability and suppress demand pressure.

She said central bank required coordination with other policy making institutions as it didn’t operate in vacuum and sought amendments in fiscal responsibility and debt limitation act 2005. After 2005, external debts and liabilities and stress on fiscal position had State bank started nudging monetary policy rate. The debt service obligations, budgetary deficit and fiscal gap, and trade deficit triggered needs of government borrowing from banks, which is believed highly inflationary. Recording 20 percent change over the July-Nov FY08, trade deficit has swelled to $8.7 billion in the same period FY09 from $7.2 billion.
During the aforementioned period net government sector borrowing for budgetary support, commodity operations, and others was around 2.70 trillion rupees. From SBP only, it was Rs. 3.56 trillion. Out of that Rs. 2.63 trillion was alone for budgetary support whereas in whole 1HFY08 this support acquired Rs.1.81 trillion. There a significant difference between revenue collection and expenditures was evident in the period. Total revenue to GDP ratio was 2.9 percent as opposed to 3.9 percent total expenditures. This difference musters prudence of government in targeting expenditures. Non development expenditures should be reduced to cut short fiscal gap and avoid bank borrowing. One can accept government’s incapacity to hold back freefall of currency value, but can not overlook its authority over expenditures. So, administratively government can rein in inflation by rationalizing them. It must remove flaws from food supply system.