Checking inflation

It seems that the government has finally woken up to the situation and decided to do something about the problem of rising prices of food items in the country. According to official sources, the Prime Minister is so concerned about this phenomenon that he has constituted a committee to analyse the reasons for food inflation and formulate both short-term and long-term measures in this regard.
The committee will be headed by the Prime Minister himself, who is also the Finance Minister. Members of the committee will be Ministers of Industries, Commerce, Agriculture, Advisor on Finance Salman Shah, the State Bank Governor and the Planning Commission Deputy Chairman. The terms of reference will be finalised by the committee members but the main focus is expected to be on the behaviour of prices of wheat and pulses.
According to certain sources, the government had received reports that 40 percent of petrol pumps were also stocked with wheat instead of fuel and the provincial governments had failed to check illegal movement of the commodity. Some of the traders, who had taken loans for procuring wheat for export purposes, had also stocked it in their godowns to sell it later in the local market.
The rise in the prices of pulses is also a big issue. Minfal was stated to be of the view that middlemen would continue to fleece the general public until a proper marketing system was adopted while Minister of Railways had opined that the prices of pulses could come down within days if four big fish of the Jodia Bazar were arrested.
The concern of the Prime Minister about the rising food prices is understandable. The Consumer Price Index (CPI) rose by 7.77 percent during 2006-07 as against the target of 6.5 percent and the main factor behind this rise was a hefty increase of about 10 percent in food inflation. The increase in food prices is undoubtedly a very sensitive issue because of its social and political implications.
The present government has all along been propagating about its economic achievements like rapid growth, a healthy rise in per capita income, better investment rate and comfortable foreign exchange reserves, but, honestly speaking, these kinds of aggregates don't matter much to ordinary people of the country.
What they care about most is the year round availability of various food items at reasonable prices for their families. At the prices now prevailing in the country, it is difficult to ensure easy availability of food items and their purchasing power is eroding fast because a large percentage of their incomes is spent on food and if this trend continues, there is every likelihood of a social unrest and mass resentment in the country with the result that the present government may have to bear a heavy political cost in the forthcoming elections.
Seen against this background, the emphasis on containing food inflation by the government appears to be appropriate to the situation, but the policy response discussed casually by the authorities concerned shows a lack of real understanding of the problem.
Administrative measures like punishing the stockists of a commodity or rationing could backfire most of the time and may even be counter-productive. Pure economic logic would suggest that hoarders are performing a vital function of smoothing out price fluctuations, while punishment or rationing would not only create shortages and induce the stockists and also the shopkeepers to sell under the counter at inflated prices to known consumers.
Besides, artificial suppression of prices would force the entrepreneurs to divert their resources for the production of commodities whose prices are unregulated.
Similarly, subsidies are usually a huge drain on the budget and should, at best, be adopted as a temporary measure. In our view, the task of controlling inflation should mainly be handled by the State Bank because prices are essentially determined by the level of aggregate demand and availability in the economy.
While availabilities could be supplemented by import or banning export of a particular commodity by the government, the management of aggregate demand falls exclusively within the domain of the State Bank which has all the necessary instruments at its disposal to manage overall credit and liquidity in the economy.
If there is a need, it could also resort to selective credit control measures, including total ban on advances for certain commodities like wheat and pulses in order to force the stockists to unload them in the market and provide relief to the common man. In a free market economy, measures adopted to check the rising inflation should be in accordance with the letter and spirit of its true principles otherwise economic system will not run smoothly and faultlessly.