Tag: inflation

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Economics

[2400] Good news for the hawks

An argument goes that rate hike will not address inflationary pressure in Malaysia.

It is not as effective against cost-push inflation as it is against demand-pull inflation. And right now, the economy is experiencing cost-push inflation. More importantly, the push is coming from abroad. It is practically exogenous, discounting the liberalization exercise (which itself originates from exogenous pressure applied on government finance).

Hike the rate and price increase will not slow down by much. Local demand is not big enough to slow down the advance of the prices powered mostly by the larger foreign demand.

So, there is little need to increase the rate.

If the mysterious author at Economics Malaysia is correct, then rate hike might be more effective than proponents of the cost-push narrative are willing to accept. The author believes that the economy is already running at its full capacity. He believes the unemployment rate basically is bottoming out and is unlikely to go down any further in a significant manner.[1]

I am will not go into the numbers but the logic is sound.

Because it is sounds, it suggests that demand-push inflation making its round, thus making the exogenous cost-push story line less weight in the determination of monetary policy.

Mohd Hafiz Noor Shams. Some rights reserved Mohd Hafiz Noor Shams. Some rights reserved Mohd Hafiz Noor Shams. Some rights reserved

[1] — I’d still take this as a signal that the economy is at full capacity, as we’re looking at near historical lows in the unemployment rate. While GDP growth likely softened in 2Q 2011, there’s been little impact on jobs so far — June’s numbers however may show a different story. [Hishamh. May 2011 Employment Report: Softly, Softly. Economics Malaysia. July 25 2011]

Categories
Economics

[2385] A case of MPs subverting the independence of the Bank Negara?

The importance of central bank independence has a lot to do with inflationary concerns. By independence, it typically means independence from political pressure. That entails strict separation between the central bank and the government. The central bank is not answerable to the government in general and the government does not represent the central bank. These two different entities are of two different minds. If they ever agree with each other, then it is necessarily a coincidence, or a conclusion achieved independently of each other. In its strong form, it is not achieved through any kind of discussion between the two parties.

It is feared that without independence and with exposure to political pressure, the central bank would embark on a populist policy, just as a democratic government that is susceptible to popular sentiment would. In times of crisis and without independence, the bank could run a loose monetary policy to appease the masses, eventually causing unacceptably high inflation simply by the operation of expectations.

The relationship between inflation and the independence of the central bank is widely known and is largely accepted within the field of economics: independence is correlated is an environment of low inflation. There are ample evidence for this.[1]

This is probably not subscribed by some Members of Parliament in Malaysia. Or they are unaware of it. Or that they define it very differently from what it is unusually understood. Whatever it is, three MPs are heading in the direction of subverting the idea.

According to The Malaysian Insider, MP for Kuala Selangor, Dzulkefly Ahmad of PAS wanted the Prime Minister to justify the recent rate hike by the Bank Negara. MP for Lembah Pantai Nurul Izzah said in the same report, despite stating she “was not asking the government to intervene”, she effectively blamed the government for the rate hike.[2] In the Parliament today, MP for Rembau Khairy Jamaluddin asked the Finance Minister to explain whether the Bank Negara would change the base interest rate and the reserve requirement between now till the end of the year.[3]

Truly, the concern for the rate especially is not for the Prime Minister, the Finance Minister or any person of their choosing to explain. These questions should be directed to the Bank Negara itself.

If these elected officials do try to explain it, then it will create a perception that the government and the Bank Negara are in cahoot in managing monetary policy. A mere hint of relationship as far as monetary policy is concerned is damaging to the idea of independence. The relationship suggests that the central bank in some ways is responsive to popular demand; popular demand is a code word for loose monetary policy.

What will make it worse is the possibility of the government flip-flopping, which is not rare at all in Malaysia. For a central bank that is not independent, any u-turn is especially damaging to the the credibility of the bank. Without credibility, the bank can say goodbye to its ability to manage inflation expectations.

Because of the possible implications, the Prime Minister and his Cabinet members should be careful in answering any of such questions.

Mohd Hafiz Noor Shams. Some rights reserved Mohd Hafiz Noor Shams. Some rights reserved Mohd Hafiz Noor Shams. Some rights reserved

[1] — The degree of central bank independence varies considerably across countries. Several authors including Bade and Parkin (1982), Alesina (1988, 1989), and Grilli, Masciandaro, and Tabellini (1991) found that more independent central banks are associated with lower levels of inflation. This note investigates whether one can find a correlation between central bank independence and the level and variability of real economic variables such as growth, unemployment, and real interest rates. Our conclusion is that while central bank independence promotes price stability, it has no measureable impact on real economic performance. [Alberto Alesina. Lawrence H. Summers. Central Bank Independence and Macroeconomics Performance: Some Comparative Evidence. Journal of Money, Credit, and Banking. May 1993]

[2] — PAS MP for Kuala Selangor Dr Dzulkefly Ahmad said that the prime minister, who also holds the finance portfolio in cabinet, should explain the move, which surprised economists who were expecting Bank Negara to maintain the benchmark lending rate to preserve the country’s growth momentum in the face of dimming global economic prospects.

…

PKR MP Nurul Izzah Anwar also stressed that they are not asking the government to intervene in Bank Negara’s policies but said that it was important for the finance minister to clarify what she claimed were ”very inconsistent justifications.”

Nurul said that while the government could be trying to cool down the investment climate with an eye on keeping a lid on inflation, she was unconvinced that an interest rate hike could also drive the growth of the local domestic economy at the same time. [Melissa Chi. Justify May interest rate hike, PR MPs tell Najib. Journal of Money, Credit, and Banking. June 21 2001]

[3] — Tuan Khairy Jamaluddin [ Rembau ] minta MENTERI KEWANGAN menyatakan apakah Bank Negara Malaysia berhasrat untuk menyemak atau meminda Kadar Dasar Semalaman (Overnight Policy Rate) dan Keperluan Rizab Berkanun (Statutory Reserve Requirement) bagi bank-bank tempatan sehingga akhir tahun ini. Sila jelaskan sebab-sebabnya sekiranya ya mahupun tidak. [Order Paper. Dewan Rakyat. June 21 2001]

Categories
Economics

[2366] Does the rounding mechanism contribute to inflation?

Does the rounding mechanism in Malaysia contribute to inflation?

Malaysia implemented the rounding mechanism in 2008. All prices are now rounded to the nearest five sen. The mechanism makes the one sen coins redundant although the coins themselves are legal tenders still.[1]

To answer the question, I have an anecdote to tell.

Australia also employs the rounding mechanism. The only difference between the Australian and Malaysian systems is that the Down Under version applies to cash transactions only. In Malaysia, prices are rounded regardless of transaction types.

I am a stingy person. In the case with the Australian system, I was literally penny wise, pound foolish. Well, more penny wise and less pound foolish. Considerably less for the latter.

Really.

Anyway, whenever I went out shopping in Sydney, I would check up on the price and see if whether it would be rounded up or down. If rounded up, then I would use my card so that I would save a couple of pennies. If down, I would use cash to get penny discounts.

I did that because I thought these firms were getting too much of the good stuff. I also thought they might have purposely priced their items so that prices would always rounded up in their favor. Hey, if I were the shopkeepers, I would do that too. And some of these businesses are big. I am not anti-business or anything but I sure do think they can make do just fine by not squeezing another penny out of me. Not when I am still alive damnit!

So, I would do that. After awhile, I thought maybe, it did not matter in the end. The saving from this little exercise was really small that if the whole two years worth of saving were combined, I could probably get a candy. One candy. That would not have impressed the ex-girlfriend by much.

The point is that even if the rounding mechanism contributes to inflation, I doubt it is significant.

But that is an anecdote. Here is something more scientific.

Chande and Fisher in 2003 wrote about the effect of rounding mechanism in Canada. They concluded that the expected impact was small. In fact, the effect of rounding on inflation is expected to be zero. Why?

They assumed the last digit that matters in rounding is uniformly distributed from 0 to 9. Therefore, the probability of each digit occurring is 10%. Since four digits will be rounded up, four digits will be rounded down and another two do not need to be rounded, the expected extra cost or revenue incurred or earned from the mechanism is zero. In simpler terms, the mechanism’s expected contribution to inflation is zero. On average, the sellers and the purchasers do not enjoy or suffer extra revenue or cost due to the rounding mechanism.

The authors ran a simulation and concluded that for purchases more than two items, the last digit of the price did distribute uniformly across the natural number line.

For purchases of less than three items, the digits did not distribute evenly. This suggests that this kind of purchases does contribute to inflation but since it is one or two purchases, its impact is likely small as suspected by Chande and Fisher.

How about strategic pricing?

Let me quote the paper I mentioned:

Thus, in order to take advantage of rounding, a retailer would need to know how frequently different combinations of items are purchased. While retailers like Tim Horton’s would have access to such data, Table 2 suggests that even if prices were strategically adjusted by firms to squeeze extra revenue from their customers, the amount per transaction would be so trivially small as to have little impact on consumer behaviour or welfare. Moreover, we have focused on price-setting by a single firm and ignored the reaction of other firms selling in the same market. It is an open question whether an oligopolistic market would lead to equilibrium prices that exploited rounding to the detriment of consumers. Indeed, anecdotal evidence from New Zealand suggests that such fears maybe unwarranted. Correspondence with the Reserve Bank of New Zealand, which in 1990 removed its 1- and 2-cent coins from circulation, revealed that some supermarkets at the time advertised they would always round in favour of the customer. [Dinu Chande. Timothy C. G. Fisher. Have a Penny? Need a Penny? Eliminating the One-Cent Coin from Circulation. Canadian Public Policy. December 2003]

Mohd Hafiz Noor Shams. Some rights reserved Mohd Hafiz Noor Shams. Some rights reserved Mohd Hafiz Noor Shams. Some rights reserved

[1] — The Rounding Mechanism is a method whereby the total bill amount (including goods and services subject to tax) is rounded upwards or downwards to the nearest multiple of 5 sen. In this regard, total bill amount that ends in 1, 2, 6 and 7 sen will be rounded down while 3, 4, 8 and 9 sen will be rounded up to the nearest multiple of 5 sen. [Frequently Asked Questions on Rounding Mechanism. Bank Negara Malaysia. Accessed May 19 2011]

Categories
Economics

[2364] Subsidy reduction and inflation expectations have to be managed more prudently

The Najib administration is committed to long-term reduction of subsidy. The Prime Minister said so.

I do support reduction and even elimination of subsidy. There are exceptions, but I do support anti-subsidy policy generally. So, I do take comfort from the Prime Minister’s statement.

Yet that does not mean I would support however the reduction is done. This is due to my concern for inflation expectations.

The Najib administration’s commitment to gradual reduction of subsidy is something that should be inspected closely. Gradual is the key word because the rate will create sustained inflation expectations. Inflation expectations itself will affect actual inflation in a big way.

It is not at all a problem if the gradual liberalization involves only small yearly increases. Such small increases will create limited inflation expectations. And a low inflation rate — as the economic wisdom goes and what goldbugs failed to understand — greases the economy.

But as I have shown earlier, sugar prices have increased by about 28% per year in the past two years. Other subsidized items like fuel that contribute to the Consumer Price Index have yet to be accounted for.

A sustained inflation expectation at that rate can be disastrous to the economy. I do not think anybody would want to see the Bank Negara playing a catch-up game with its monetary policy.

To prevent the sustaining of high inflation expectations, the rate of liberalization just has to slow down.

Alternatively, the government can eliminate all subsidies once and for all. That will create a one-off inflation. Yes, this is a crazy policy option but at least the inflation expectations will not be as bad as it is developing into right now. A one-off inflation spike is better than a sustained high inflation expectation because it will not leave a mark on the economy in the long run.

Categories
Economics

[2361] 2011 sugar price compared to those in 1989 and 2009

I wrote two years ago that between 1989 and 2009, sugar price in Malaysia had increased on average less than 1% yearly within that period. To be slightly more precise, it rose on average by about 0.8% per year. In 1989, sugar was priced at RM1.20 per kg while in 2009, RM1.45 per kg.

With the current price hike, I want to update that post.

Today, sugar is priced at RM2.30 per kg. That means that between 1989 and 2009, the price has increased on average by approximately 3.0% per year.

What is the average yearly increase rate between 2009 and 2011?

Roughly 28.2%.