Saturday, February 19, 2011

India inflation explained

In this crisis ridden world, economies around the world are experiencing high bouts of inflation (see here), and India is no exception in that. Indian economy is facing the effects of severe inflation in the form of rising food and energy prices (see here, here, and here). Indian government is either clueless about the cause of this inflation or is pretending to be clueless to fox the people from seeing the true cause of this rise in prices. Moreover it is trying to shift everyone's attention from the true cause of inflation by creating scapegoats like consumers (high demand), hoarders, speculators, food drought etc. This is an age old trick which all governments use to fool its populace when it embarks on the inflationary path in full speed.

In this blog I will expose Indian government's lies and will explain the true cause of inflation.

Why inflation?
Inflation is increase in the supply of money due to government's money printing process through its central bank (RBI in case of India). It's primary effect is rise in prices across the economy, although initially in an uneven manner, and then generalized once full inflationary effect sets in. The reason there is double digit inflation in India (and around the world) is this same government money printing world wide through central banks, especially printing by US federal reserve i.e., the so-called 'quantitative easing' program (QE1, QE2 and soon to be announced QE3, QE4 and so on).

Since the beginning of recent financial crisis in 2008, Indian government is printing gargantuan amount of money. Here are the evidences:
  1. Stumulus package 1, Package 2 and this, Package 3
  2. More money printing from RBI in 2010 (Here, here, and here)
  3. Since November 2010 Indian banks are borrowing on an average 1 trillion rupees daily from RBI!!! (read this)
  4. Indian government is bailing out bankrupt PSUs e.g., recent Air India bailout of 12 billion rupees.
Not only this, USA is also exporting inflation around the globe through its QE programs. How? Here's how:

The US dollar is an international reserve currency. That means every country citizens need it for trade transactions with other country citizens (although many countries have started to dump the dollar because of its falling purchasing power as a reserve currency e.g., recently China and Russia decided to carry out the mutual trade in their respective currencies. And now India and China has also decided to dump the dollar). Thus the demand for dollar is universal due to its international reserve currency status.

After the financial crash of 2007, US economy is in recession. To take the economy out of recession US central bank Federal Reserve and the Federal government is following Monetarists and Keynesian policies. In nutshell these policies are nothing but 'printing massive amount of money' and thus increasing the money supply. These people (falsely) believe that spending huge amount of paper currency will spur the aggregate demand and that will lift the economy out of recession. Following this reasoning US Fed is conducting its QE programs, and Potomac is accumulating massive amount of debt.

These deliberate policies of debasing the dollar is resulting into two things:
  1. Commodity (crude oil, food items like wheat, rice etc., base metals like copper, aluminum etc.) prices are rising because they are traded in dollars in international market (see here, here, and here). These are all important items in India's import bill. Because of these costly imports Indian domestic prices are going higher e.g., petrol/gas prices.
  2. International Investors are pouring the newly created supply of dollars into emerging market economies to protect their returns which is loosing value because of weak dollar and ultra low interest rates in the developed world markets. This hot money is pouring in the Indian capital market (BSE, NSE etc.) lifting the rupee:dollar exchange rate resulting into rupee appreciation against the dollar. Strong rupee is creating troubles for the exporters. They are finding it difficult to sell their now dearer products in the international market. Because of this, they are lobbying the government for protection. Today's mercantalist governments believe that export is good for the economy and import is bad so they all try to boost their export sectors by artificially keeping their currency cheap in the international market (beggar thy neighbor policy). To stop rupee from appreciating, RBI is intervening into Forex market to buy dollars to make rupee cheap again (for example see here and here). For that they are printing more rupees. This increases the rupee money supply, which is INFLATION.
Once inflation is created by the Indian government, RBI, and USA its evil effects slowly spreads into economy in the form of higher prices. As the printed rupee gets into people's hand (in form of wages, loans etc.) they go and spend that money in the market for consumption raising demand for goods and services compared to its available supply at that given point of time, which bids the prices of those goods and services higher.

Supply shock in the form of political manoeuvrings by the politicians and resource misallocation by the government central planning (subsidies, import/export ban etc.) exacerbates this situation. On one side rupee is loosing its purchasing power because of Indian government's money printing programs and on other side already scarce supply becomes more scarce due to various supply shocks. This results into astronomically higher prices of various products.

Conclusion
Inflation in India and all around the world is a result of government & central bank's crazy Keynesian Monetarists policies of printing money to get economies out of recession. They don't understand that by printing money they are only going to create more havoc in people's life by creating inflation or possible hyperinflation. Printing money is not wealth creation. It actually destroys wealth. It results in capital consumption which reduces the possibilities of higher economic growth in future. Governments around the world are blowing another big economic bubble which surely will bust in future taking all economies with it in the great depression.

4 comments:

  1. This is very true, moreover I think one more reason for inflation in India is creation of Black Money in the economy whcih causes the prices go up an up....Mobin Shaikh - Sumandeep Vidyapeeth, Vadodara

    ReplyDelete
  2. This comment has been removed by the author.

    ReplyDelete
  3. With deepest respect to your views, I would like to put some points here. I hope you give me an opportunity to learn from your deep knowledge of such a wide Ocean called Economics. Yes, it is a matter of deep concern that Governments around the World are facing some very serious & structural deficiencies in their "Economic" role. The term 'Government' has expanded in its scope to include 'Economic functions' in it, today's Governments aren't just Police or Justice Bodies, they are actively participating in the Economy too. Everything occurs when need is there, similarly Governments started intervening in Economies due to such needs. Agree that our Government isn’t able to fully remove the Inflationary pressure, but its just a matter temporary/short-term resetting & that’s all.

    Let me give a rough example. Germany in 1923 faced Hyperinflation when a pound of bread cost approx. 3 billion Mark! The then Government made severe mistakes in every means possible, but does that mean that the Government there was a failure? After the 2nd World War, things changed dramatically, capitalism was adopted, monetary arrangements were refreshed, Governments matured & today German Economy’s the 4th largest.

    Similarly we too are at a point where the “Keynesian Macro Economic theory” needs refreshment, upgradation & more Research. It is the Keynesian Economic theory that brought the World out of the Great Depression, It is this theory that again helped Monetary Authorities around the world come out of a Second Recession, not to forget the regular crisis in between these(for e.g. Asian Crisis of 1997). Thus, rejecting the theory of this stature & its effectiveness is an injustice to the ideas propagated Keynes.
    Coming to Food inflation, yes it is a matter of gravest concern as it is pushing the not-so-poor below the Poverty line. The major reason for this is Government’s Food subsidy that’s always at surprisingly high levels. PDS too is a major contributor to this as huge chunk of released food grains are wiped away by hoarders. For this, we Direct Cash Subsidy (DCS) has been introduced, though it may not be fully effective in the beginning.

    I do agree that Governments have become public money eaters & are failing in their execution of the Orthodox Economic theories & that heterodox theories provide a different perspective but there are good examples too. Japan, U.S., E.U., U.K., etc. are all the leading examples of successful Keynesian principles & their execution. Followers of Heterodox principles such as Russia & China too resorted to Monetary Economies accepting the paper & coin denomination as Money. Today they are developing at good rates & serving their people well, though Russia may not qualify for this.

    I have attempted to express my views so as to learn more from your in-depth grasp of this subject, am a novice learner in Economics & want to pursue it throughout my life. Getting to know your views & reading your articles add a lot to my perspective. Do express your views. Have a great day sir.

    ReplyDelete
  4. With deepest respect to your views, I would like to put some points here. I hope you give me an opportunity to learn from your deep knowledge of such a wide Ocean called Economics. Yes, it is a matter of deep concern that Governments around the World are facing some very serious & structural deficiencies in their "Economic" role. The term 'Government' has expanded in its scope to include 'Economic functions' in it, today's Governments aren't just Police or Justice Bodies, they are actively participating in the Economy too. Everything occurs when need is there, similarly Governments started intervening in Economies due to such needs. Agree that our Government isn’t able to fully remove the Inflationary pressure, but its just a matter temporary/short-term resetting & that’s all.

    Let me give a rough example. Germany in 1923 faced Hyperinflation when a pound of bread cost approx. 3 billion Mark! The then Government made severe mistakes in every means possible, but does that mean that the Government there was a failure? After the 2nd World War, things changed dramatically, capitalism was adopted, monetary arrangements were refreshed, Governments matured & today German Economy’s the 4th largest.

    Similarly we too are at a point where the “Keynesian Macro Economic theory” needs refreshment, upgradation & more Research. It is the Keynesian Economic theory that brought the World out of the Great Depression, It is this theory that again helped Monetary Authorities around the world come out of a Second Recession, not to forget the regular crisis in between these(for e.g. Asian Crisis of 1997). Thus, rejecting the theory of this stature & this effectiveness is an injustice to the ideas propagated Keynes.
    Coming to Food inflation, yes it is a matter of gravest concern as it is pushing the not-so-poor below the Poverty line. The major reason for this is Government’s Food subsidy that’s always at surprisingly high levels. PDS too is a major contributor to this as huge chunk of released food grains are wiped away by hoarders. For this, Direct Cash Subsidy (DCS) has been introduced, though it may not be fully effective in the beginning.

    I do agree that Governments have become public money eaters & are failing in their execution of the Orthodox Economic theories & that heterodox theories provide a different perspective but there are good examples too. Japan, U.S., E.U., U.K., etc. are all the leading examples of successful Keynesian principles & their execution. Followers of Heterodox principles such as Russia & China too resorted to Monetary Economies accepting the paper & coin denomination as Money. Today they are developing at good rates & serving their people well, though Russia may not qualify for this.

    I have attempted to express my views so as to learn more from your in-depth grasp of this subject, am a novice learner in Economics & want to pursue it throughout my life. Getting to know your views & reading your articles add a lot to my perspective. Do express your views. Have a great day sir.

    ReplyDelete

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