Inflation led Growth
By Muzhar Javed Malik

SECOND quarterly report issued by the State Bank of Pakistan for the year 2004-05 declassified assorted trends in the economy of Pakistan. According to report, agriculture will achieve laid down mark of 4%. Manufacturing sector will also cross the barrier of pre-planned target. Foreign investment is predictable to increase by big edge.

Enhancement in foreign investment is also one probable. GDP growth rate is also being anticipated above 7%. This will be the consecutively second year to supersede the figure of 6% of GDP growth rate and country is likely to get out of underdevelopment crisis if she maintains the growth rate above 6% for more three years, a condition set by World Bank Experts. But inflation is mounting to irritating level that has touched 7 years high figure of 9.95% increase in the month of February.

Now Pakistan will be tagged as high inflationary country according to Latin America standards because inflation will range between 7-10%. And inter-related events are also not cheering like exports are anticipated to fall short of target, trade deficit is widening as well.

Growth is characteristically multifarious like investment led growth, credit led growth, consumption led growth but growth of year in progress is apparently and seemingly inflation led growth because inflation is crossing predetermined figure of 5% very comfortably. Economic immorality of inflation is making the growth anti-poor.

Inflation is multidimensional phenomenon. Different schools of thought have diverse outlook of the cause and effect of inflation. The monetarist model asserted that the prime factor explaining the current rate of secular price is change in the past behaviour of money to out put ratio. This is also dictum of the popular quantity theory of money, which purports that inflation everywhere is a monetary phenomenon.

But this notion is not accorded much and more importance in contemporary times and is also being neglected by practical manifestation. Subsequent table crystallizes the situation more clearly. Philips curve model postulated that there exists a trade off between price inflation and unemployment in the economy at least in the short to medium run.

In other words an economy cannot achieve lower inflation and employment rates simultaneously. Structural approach to inflation argues that it is differential rates in productivity, growth, wages and elasticity of income and prices between industrial sector and services sector that determines the long run trend of rising prices. Recent developments also suggest that there is close relationship between key monetary aggregates and non-price food inflation. The cyclical position of the economy also affects inflation.

If the growth is in excess of the economy potential, factors of production would have to be utilized intensively putting pressure on wages and prices. In addition it has been argued that third world economies with rapidly growing manufacturing sector when encountered with supply rigidities especially from agriculture sector can produce incessant rise in relative prices in the absence of corresponding increase in agriculture products. Such sectoral increase in relative prices due to resulting structural rigidities may easily be translated into a rising general price level, thus producing high inflation.

Developing countries in their bid to raise the standard of living of their people through development plans have often found themselves in the grip of inflation. In developed countries inflation usually occurs after full employment level and in developing countries generally unemployment and inflation exists together. However, with special reference to recent pace of inflation, increase in the prices of petroleum products and food items pushed up month-on-month inflation and both food and fuel inflation are likely to move further up in the remaining part of the year.

Food prices that account for 40 per cent of CPI inflation also escalating despite import of more than a million tons of wheat, the shortage of which had pushed up food prices earlier. In January, sugar prices also shot up forcing the government to allow import of raw and refined sugar.

This is sure to push up food inflation for February 2005.Another cause of demand pull inflation in the current year is that strong economic growth (5.1 and 6.4 per cent) in the last two years have given rise to the improved income levels of various segments of the society.

The State Bank is equally responsible for allowing inflation to rise so sharply because it continued with a lax monetary policy for too long and started tightening it too late and too slowly.

About the effects of the inflation there are also varied judgment. In some cases, inflation seems to have been justified as a lubricant to economic growth. In other it appears that rampant inflation has disrupted the economy and retarded economic development. The record suggests that inflation may be either a good or a bad thing, depending on the way in which inflation is generated and what other things are happening at the similar time.

Inflation that is the price of successful execution of a large volume of development investment may be worthwhile. But inflation produced by deficit financing of current expenditures or careless extension of bank credit is likely to hamper economic growth. The whole experience gives rise to considerable controversy about the relationship between inflation and economic growth.

The present surge in inflation cautioned the government to the urgency to take effective countervailing measures to bring the inflation rate down for upholding the rapidity of development.

The appropriate policy for developing countries will be the same as that pursued by the belligerent countries during war, to undertake public investment and encourage private investment, needed to achieve the major objective and to use every possible means to mop up excess purchasing power when it appeared that price increases were impeding rather than facilitating the achievement of these objectives. Further the following points can be instructive in this concern.

In a developing economy like Pakistan, prices of essential commodities are the main determinants of inflation. Prices of essential commodities are determined in the market on the basis of supply and demand. Supply situation is influenced by factors like production and availability of the consumer food items, the seasonality factor, failure of crop etc, so Government must bring about revolution in agriculture to reach at the stage of self-sufficiency at least in food crops.

The economic managers must expose tight fiscal and monetary discipline especially with respect to bank credit. Because increase in credit to the private sector is really alarming and close monitoring should be in place for ensuring the productive use of credit.

Economic tribulations like smuggling, hoarding and black-marketing should be cured at the earliest possible time through, strict and violent measures in order to avoid supply shocks. In the nutshell, government must take notice of this abrupt surge in general price level otherwise this economic evil will overshadow all other achievements in the macro-economic sector.●

© 2005 Muzhar Javed Malik