Curbing inflation

Inflation in Sri Lanka and in Pakistan in sky rocketing. Let us now look at the United Kingdom and how they dealt with inflation during the time UK entered the Exchange Rate Mechanism and when they withdrew from the ERM.

Following the suspension of sterlings memberships of the exchange rate mechanism on September 9, 1992 the commitment to price stability has been embodied in an inflation target. The chancellor announced a target range for inflation of 1% to 4% a year for the 12 month change in the RPI excluding mortgage interest payments.

Later that month in his Mansion house speech the Chancellor invited the Bank of England to provide a regular report on the progress being made towards the governments inflation objective. This was the first such information report.

In accepting the invitation the governor in his London Stock exchange lecture on then November 11 said that an aim will be to produce a wholly objective and comprehensive analysis of inflationary trends and pressures.

Inflation is a monetary phenomenon and in the long run it is monetary policy which determines the rate of inflation. The less between changes in monetary policy determines changes in Inflation are known only imprecisely and will vary with the state of the economy.

That is why monetary policy is set in relation to current rate of inflation and inflationary trends over the next year or two. To assess these trends it is vital to know the starting point. Inflation is a rise in the general price level and the Retail Price Index like all price indices is limited to a particular set of transactions.

For this reason section one examines a variety of measures of inflation including underlying and core inflation measures derived from retail prices. The consistent message from a wide range of indices is that inflation has fallen sharply over the past couple of years.

The decline was particularly rapid in those sectors mostly exposed to competitive forces but there is also evidence of a substandard fall in the rate of increase of administered prices and prices within a high labour cost element.

Although short run measures of Inflation have recently begun to point upwards it is as yet under whether this is anything other than a temporary phenomenon.

In the short run the dynamics of the inflationary process mean that changes if costs are a leading indicator of changes in costs and a leading indicator of changes in prices. Section two examines the recent behaviour of both domestic and imported costs.

On the labour cost front there was a marked showdown in the rate of increases of earnings and settlements in 91-92. By contrast lost pressures arising from the recent depreciation of sterling have become evident in the past few months.

The rise in imports and raw material costs is likely to pass through into producers output prices and so into underlying Inflation unless profit margins are further squeezed.

The evidence suggests that margins have had up surprisingly well in the present recession. Producers may thus have scope in the short run to absorb cost increases and hence the import of depreciation on domestic prices may take longer to be seen on this occasion than that in the past.

The inflation outlook for the next years depend on the balance between continuing downward pressures on inflation resulting from the difference between actual and potential output reflecting in rising unemployment and the stimuli to Inflation from past sterling depreciation and fears that part of the continuing fiscal deficit will eventually be monetized.

Section three presents the Bank’s judgement on this question. Over the next two years and given the broadly unchanged policy stance the central projection underlying inflation is in the 3% to 4% range. The main risk to this prospect came from the possibility of a sustained further depreciation of sterling and a faster pass through of the depreciation.

Purpose came from the possibility of a sustained further depreciation of sterling and a faster pass through of the depreciation that has already. taken place.

There is also risk that large fiscal deficits might create expectations of Inflation did not yet adjust to levels compatible with the target range for Inflation of 1% to 4%.

Such a target range would mean that at this stage of the cycle would be expected to be nearer 1% than 4%. The reverse is the case. The demonstration that rose in the fourth quarter of 1992 it has fallen in the fourth quarter of the past seven years.

Repayments of the size are unprecedented and been concentrated in commercial sector borrowing from the Bank.

Sterling capital issues by company’s are an alternative to bulk finance. In 1992 these added amounting to 2.1 million sterling per quarter of total lending to ICC’s.

Other financial institutions are a heterogeneous group, including life assurance and pension funds. Unit and investment trusts non bank finance houses and leasing companies.

There was an increase in new non-bank short term and other borrowing.

High interest rates are depressing activities in Italy as well as Spain.

With respect to maintaining economic and price stability here in Sri Lanka it is one of the main objectives of the Central Bank. It has formulated and is now implementing a policy strategy to achieve a non inflationary high growth by maintaining monetary growth at a level appropriate for the growth in real output.

The Central Bank has also established a Monetary Policy Consultative committee at the beginning of 2007 as announced in the Road map. This comprises of seven stakehodlers and an economist representing the private sector.

- Sunethra de Silva