Spiralling inflation and its dangerous social consequences and political repercussions

By the Economist

The current inflationary trend is potentially more dangerous than it seems. The continued price increases are not likely to subside as the main causes are beyond the control of the government and not confined to the economy.

No doubt the main cause for an inflationary spiral is the import induced price increases of vital petrol. File photo shows crowds gathered at a petrol shed during the recent strike

There are dangerous social consequences and political repercussions in spiralling inflation. These could in turn damage the economy while its growth potential could be seriously hampered. This is particularly so as the inflationary spiral is amidst a worsening security situation that itself has a serious impact on the economy.

The economic consequences of inflation are fairly clear. Rising prices have an impact on both producers of goods and services and on consumers. In an export-dependant economy inflation could be crippling as costs of export items rise.

The increase in prices could raise production costs and reduce the competitiveness of Sri Lankan exports. Increase in prices arise from many sources. The prices of intermediate goods, such as petroleum, chemicals and other inputs could raise costs of production of industrial goods that depend heavily on these imports.

The impact could also come from several other indirect effects of petroleum price increases. The rising costs of electricity are about the most significant. The increase in consumer prices would lead to demands for wage increases.

This is inevitable though there may be a lag between the cost of living increases and the demand for higher wages and their increase. The demands for higher wages would more than compensate for the consumer price increases. In a general inflationary situation and in the Sri Lankan political context, it would indeed be near impossible to deny wage increases.

All this adds to the costs of production that would require a rise in export prices. Some of the adverse impacts on production costs may be offset by the depreciation of the currency that would compensate for the rupee increase by making dollar prices more stable. However this has its downside as the depreciation too would raise import costs and the cost of living of workers.

There is also another consideration that some of the country's exports would face-competition from countries that would themselves be facing similar inflationary pressures arising from the rise in international oil prices. Yet some newly industrialised countries have some advantages over us in that there economies are capable of greater control of wages and are partial producers of petroleum.

The social and political repercussions are no less potent. In fact they have a direct impact on economic conditions. Consumers have been facing continuing price hikes of basic items of their consumption and the costs of utilities have risen sharply in recent months. Social and political discontent is inevitable. Trade unions and political parties find such conditions conducive to political and trade union actions that are disruptive of economic activity.

Macro economic management becomes exceedingly difficult in such a context and political pressures lead to further mismanagement of the economy.

These in turn lead, among others, to further inflationary pressures, high interest rates, depreciation of the currency, larger budget deficits and further dislocation of the economy. Such economic conditions are not conducive to competitiveness, increased production and foreign investment.

There is no doubt that the main cause for the inflationary spiral is the import induced price increases of vital petrol.

Nevertheless there are other factors that have aggravated the situation. The high budget deficit is an important factor that politicians may not understand. Increased government expenditure on the war, public service recruitment, welfare measures, high increases on state expenditure like a large cabinet with high transport, security and other expenditure, are among the factors aggravating these trends.

Besides these, the wasteful nature of these expenditures make the public less tolerant and accepting of their own economic difficulties. In fact one could say that the government and people are behaving as if there were no financial and economic difficulties and living beyond their means.

Although the inflationary conditions have been brought about by factors beyond the government's control, there are no responses worthy of a responsible government to the emerging crisis.

The euphoria of the cricket team's success in the recent English tour and in the record breaking first test may be short-lived distractions that would fade away soon for people to face the difficult conditions of living being imposed by inflation. Unless the government itself shows a willingness to respond appropriately by cutting public expenditure, the people at large can hardly be expected to bear the burdens willingly.

It is time for the President to show statesmanship by cutting down the size of the cabinet to around twenty and doing away with other unnecessary political appointments. Instead we witness a continuous increase in ministers, deputy ministers, and advisors etc.

These are additional and unnecessary costs to the public. The curtailment of such appointments would not solve the problem but could generate the much-needed public response to the crisis. Is this too much to expect from a Sri Lankan President and government?