SUCCESSIVE governments and State Bank of Pakistan (SBP) governors have spectacularly failed in taming inflation over the last three decades. The lack of coordinated fiscal and monetary policy responses, coupled with the complete inability of the central bank to keep inflation within the target range, has led to a scenario where the country is on the verge of a hyperinflationary cycle.
The inflation rate for March was 35 per cent, which is amongst the highest levels ever. For the more vulnerable segments, inflation is close to 50pc. A lame excuse by policymakers both on the fiscal and monetary side is blaming a commodity super cycle for any price increases while completely ignoring the catastrophic decisions that fuelled inflation.
Some of these decisions include incessant obsession with disrupting supply chains and racking up debt to bridge fiscal deficits that are a function of bad governance and inability to expand the taxation net.
As tax collection cannot even keep pace with inflation, the deficit is only bound to increase further. This means the state is going to borrow more to bridge the ever-increasing deficit.
The evolution of inflation during the last few quarters can be traced back to the surge in commodity prices globally, which led to a completely absurd decision to subsidise fuel prices, effectively encouraging consumption when prices are increasing.
Precious foreign exchange reserves were spent without taking into consideration strong signals indicating a global monetary contraction, which would not just increase the cost of funding for Pakistan, but also make access to debt more difficult.
Since we are not the type of people who learn from mistakes, we doubled down on maintaining an overvalued rupee and wasting more precious foreign exchange reserves to maintain an arbitrarily low value of the rupee against the American dollar.
As foreign exchange reserves dropped significantly, the policymakers, trying to outdo their earlier not-so-smart manoeuvres, started rationing the reserves, thereby restricting the availability of foreign exchange for the import of raw material or intermediate goods. This had a snowball effect as that disrupted supply chains across all industries.
While industries lost access to imports, they started reducing production and eventually shutting down, resulting in an increase in unemployment.
The inability to import animal feed, seeds, or other critical inputs led to a cascading effect on the food supply chain. Even though the global commodity surge cooled down, disruption of the local supply chain resulted in shortages, which fuelled inflation.
Instead of fixing supply chain mecha- nisms, the government further reallo-cated capital towards subsidised food and handouts, leading to depravity and, more recently, loss of human lives due to ill-planned and often selfish manoeuvres.
The central bank continues to print more money without realising that printing more money does not fix supply chains. The fiscal policy managers refuse to expand the tax net and continue to further squeeze the already taxed population, resulting in the emergence of a scenario wherein there is a disincentive to invest or operate in the formal economy.
As food inflation continues to increase unabated and may stay elevated given the complete breakdown of supply chains, another round of inflation due to an increase in wages will follow.
The upcoming budget may potentially (and justifiably) increase salaries and pensions, thereby further expanding the fiscal deficit.
The inability to expand the revenue base will eventually lead to the state borrowing more to bridge the deficit, further fuelling the debt spiral. The failure to expand the tax net eventually means that the most vulnerable segments bear the burden of those same taxes through inflation, which makes inflation the worst kind of tax.
The road to disaster is paved with good intentions and incompetence. We can have the best intentions, but a bad policy or a never-ending string of bad policy decisions cannot rectify incompetence.
If things continue on a status-quo basis, we cannot rule out hyperinflation that may lead to further erosion of purchasing power of the most vulnerable segments, and further push them deeper into poverty.
Published in Dawn, May 26th, 2023
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