RE: How Anti Inflation Works
This post is a response to the article published by Sanjay Kartaria on the magazine last week: How Anti Inflation Works.
I realize that is the idea, but does it really work?
This article drew my interest given what I feel is the basic policy dilemma which is based on replicating policy from one end of the world and applying it to the other, which has rarely ever worked and is ‘time-and-again’ supported through evidence from different parts of the world. In other words, the policy apparatus needs to focus on the context of application to have any desired consequence, rather than what we may perceive as an imported ‘best practice’.
There are various parts of the article which can be discussed and debated, but I would just like to draw light on a few aspects.
He notes, the importance of monetary and fiscal measures- as rightly so- however, such tools in isolation are an under nourishing application to run a domestic economy plagued with bottlenecks at various junctions (some traditional and some created) with varied tiers of economic and social classification, thoughts and outlook with different views and perception about world reality and the unfolding diagnostics (not to say that any society is homogeneous for that matter- but I hope u can understanding the startling difference- measured through social, economic and political inequality in our region of analysis).
Countries such as India or Pakistan, like any other developing nations (especially who rule from a distance- given the large population base and link to society) have much more to consider, given the bottlenecks (some identified and mostly unidentified) prevalent in their economies as a result of the social and philosophical system we live in (and I don’t mean that in a negative sense- I am emphasizing on the need for appropriate identification, causality, policy and application in context to the four mentioned factors to have any significant bearing).
For instance, the sensitivity (impact) of interest rates will be not even be close (in the developing world) to what impact such a policy may have in the developed world, given the large proportion of the population with little or without access to bank dependent facilities (less than ¼ in the developing world) and they are the ones most hurt by inflation. Further, there exists a culture in many traditional societies to hold saving in physical assets rather than bank deposits etc, hence the impact is further handicapped. In addition, interest rates may not have the associated cost of doing business or buying a new house in these countries at least not outside the urban land (not in terms of depth at least) relative to what it may have in the developed world, as most people in the given strata rely on the informal economy for such forms of funding, given their minimal access. There are further inter-relations to the dynamic- but long story short- the influence, trickle and outcome it is far more complicated than it may seem.
Further, there are societal bottlenecks, created by thinking and stereotype, the law of the land, society hierarchies, which may lead to absorption of profits at the margin etc. Corruption, rent seeking and other realities may further add to budgetary and inflationary problems.
Therefore, Yes- neoclassical economics has a lot to teach us, but more in terms of opening our mind, rather than directing an appropriated policy (in our environment) – at least in the current day reality or otherwise inflation over and above the desired level will not be controllable as obvious today. It is important to note that state policy is generally justified and targeted to curb market failures; however in most developing countries identifying specific market failures may be nearly impossible, given its lack of rarity and mostly a rampant feature of the landscape (Hausmann et al, 2007).
Inflation is a result of bottlenecks (at least the blotted version) and once those factors are addressed can other conventional demand side issues come into any significance, which if anything are aggravated by these bottlenecks (‘soft’- social, mental etc- and ‘hard’- agricultural, budgetary, foreign exchange and more).
Further, aggregate supply does not undertake a linear or quadratic shape, it has a polynomial bearing with a jittery face in the specific environment, hence would not have the outward moving consequent and hopeful result with aggregate demand as noted in the article (at least not in the simple sense) as such would only be possible in perfect or close to perfect markets, which don’t exist in the real world- at least not in the developing world. Therefore, context is important when applying and subsequently assessing the impact of policy in the real world.
Category: Columns, Economic Wheel
Stating the transition from a pure fiscal and monetary tool kit to a broader tool set, Dani Rodrik states:
‘Suppose, for example, that we identify macroeconomic instability as the binding constraint in a particular economy.
In a previous era, an economic adviser might have recommended specific fiscal and monetary policies – a reduction in fiscal expenditures or a ceiling on credit – geared at restoring macroeconomic balances.
Today, that adviser would supplement these recommendations with others that are much more institutional in nature and fundamentally about governance.
So he or she might advocate making the central bank independent in order to reduce political meddling, and changing the framework for managing fiscal policy – setting up fiscal rules, for example, or allowing only an up-or-down legislative vote on budget proposals.’