The Inflation Horse has bolted...Take over the reins !
Ganga Prasad Rao
gprasadrao.blogspot.com
Inflation has been the cry baby of Indian politics. The more attention
it receives, the more entrenched it becomes in the economy. And for
good reasons. Does a cat ever turn its back to butter s'mores? Or a
politician to another term? So, and despite the long delay post which
Inflation-indexed bonds, IIBs, have seen the light of day, why would
we expect FIIs and our domestic financial entities to shy away from
systemic loot that inflation still is? Little surprise, then, that
inflation has galloped away at a double digit decadal average. But
while 12% inflation was deemed tolerable without the IIBs, 10%
inflation is not with them around. Is that why, and anticipating a
turnaround in the economy, the inflation-lovers have changed strategy,
and rather than seek inflationary gains against the IIB tides, chosen
to turn the control over to the victims - us voting citizens?
Read the papers lately? .....Rajan, our RBI Governor, has suggested
Parliament choose an appropriate inflation target, and PC, the Finance
Minister, has queered the pitch by further suggesting it be the Lok
Sabha. I wonder whose viewpoints they are airing? Not the FIIs caught
in the chasms of uncertainty between the inflation-friendly government
of the past decade, the 'Modi saffron wave' or the 'Hazare doldrums'
of the future? Why would they risk an inflation-tolerant RBI that
triggers violent and widespread public protests against
runaway-inflation in an already hostile political situation when the
soon-to-be elected ignoramuses are perfectly capable of ruining the
low-inflation IIB cake themselves? Why not, instead, shift the onus to
the people themselves, put FII lobbying dollars to work in the divided
Parliament as it debates an inflation target by crowding out economic
priorities of the new Government? Besides, the RBI too wouldn't mind
the diversion, attracting as it would otherwise, the flak for not
containing inflation despite the IIB regime kick-off (and the less
said of ethical conflict of interest in implicitly or otherwise
targeting a certain inflation rate despite its market-setting monetary
moves and cross-border financial interests, the better).
So.......should we move decisions on inflation from the hands of our
bureaucrats and trust them with members of Parliament who, even
otherwise, have little time for anything significant? And pray how
will they judge the issue? Burdened on one hand with the task of
sustaining growth and creating employment, and on the other, beholden
for campaign funds to the very interests that seek inflationary gains,
and not entirely oblivious to the potential for inflation-stoked
profits in the equity markets, these politicians are least likely to
take on inflation; in fact all indications are they will play along,
perhaps even worsen the situation. Why, a fractious debate on
inflation might well bring down the government! So, is Rajan playing a
master stroke in seeking to transfer the decision on target inflation
to the Parliament and its democratically-elected representatives? Of
course.....and expediently at that! Is it also a conspiracy to
leverage the economic insecurity of the masses and the ever-present
macro trade-offs to ramp inflation up without attracting political
flak for it? Possibly. Will it permit the inflation-mongers to get
away with their three-fold rise in prices from the turn of the
century, if with a slightly less steeper rise in the future (when they
should have been halved to start the new FDI-IIB regime)? In all
probability, Yes.
Quite apart from the question how much Gold and IIBs middle-classes
families should buy and with what sacrifices, is the question, who?
Who makes the decision as to what is an appropriate inflation rate to
target, and how? That is, if we don't want inflation to crowd out all
other issues worthy of the attention of, and be exclusively determined
by our Members of Parliament. The stakes being as high as they could
be, perhaps it is appropriate to consider an entirely new design. How
about one that vested control of inflation amongst a select group of
paired-institutions that were major participants in the various
sections of the market - the very short, VSR, the Short run, SR, the
Medium run, MR, the Long run, LR, and the Very Long run, VLR; a design
that permitted these institutions with vested interests to seek an
inflation rate consistent with their perspective, resources and
constraints?
Consider toward such a design, the RBI in opposition with the FIIs in
the VSR compartment, the Lok Sabha-Rajya Sabha in the SR, Households
against Banks in the MR, Insurance firms battling Pension Funds in the
LR, and Sovereign Funds engaging Realty funds in the VLR. The RBI and
FIIs seek in the VSR an inflation target that keeps the foreign
exchange rate stable and range-bound given their repo-, reverse repo,
hedging and overnight fund operations. Too low an increment to
expected inflation and the FX Futures and Forwards lurch dangerously.
Too high, and the FII fund flows dry up causing liquidity concerns at
home. The equilibrium inflation expectation generated in this 'duel'
is a compromise between domestic and foreign monetary entities, albeit
expressed through domestic and foreign financial interests. Elsewhere,
the two Houses of the Parliament, given the short-run impact of
inflation on real employee wages & employment on one hand, and upon
firm profits on the other, seek opposing directions to inflation, and
arrive at a short-run political compromise on inflation. In the medium
outlook market, Households holding IIBs and Gold inflation lock horns
with Banks hoarding Gold and invested in equities. Should inflation
expectations spurt, risk-averse Household move away from Gold and in
to IIBs while risk-tolerant Banks, fearing rate hikes, sell equities
to buy into the security of Gold. By their reactions to inflation
expectations, they determine an appropriate inflation target that hold
Gold prices stable. This represents an inter-temporal perspective on
inflation from across the risk-spectrum. The Long section of the
market has Insurance Houses that seek zero-inflation and who are
sellers in the IIB market, taking positions opposite Pension funds
that buy IIBs and implicitly support inflation. The resulting
inflation compromise defines the extent of inflation acceptable to
these long players. Finally, and in the VLR market, the Sovereign
Fund, constituted of long bonds, engages Realty funds to determine a
mid-way 'nominal compromise' that, on one hand, permits inflation to
reduce the perceived cost of capital, and on the other, preserves the
nation's future with inflation-induced Consumption gain-cum-loss of
Savings that motivate the volatility necessary for Realty funds to
raise capital and manage their operations.
For the pedantic, the above is not unlike a set of 'Minimize
SSE-criterion' -type simultaneous equations in horizon-segmented
markets with target inflation as the decision variable. The equations
would describe inflation incentives/disincentives and trade-offs
between opposing players in markets with various horizon. Since these
markets with different horizons must eventually converge to a
multi-market equilibrium in expectations, ie, a common inflation
target, it is reasonable to use the figures from the 5 markets as
alternative estimates of optimum inflation and obtain from them, a
range, even a central tendency for target inflation. The measure would
have widespread credibility and abundant support from nearly all
sections of the society, drawing as it would upon outlooks,
information, incentives and market reactions from different sections
of the globally-integrated economy.
.....And yes, our politicians may return to slogans, brickbats,
chairs, and what not to make their non-inflationary point.
Neieieieighghgh !
--
Ganga Prasad G. Rao
Aparna 19 New, 30 Old Janakiram Colony
Arumbakkam, Chennai 600106
gangaprasad.rao@gmail.com
gprasadrao@hotmail.com
http://myprofile.cos.com/gangar
Ganga Prasad Rao
gprasadrao.blogspot.com
Inflation has been the cry baby of Indian politics. The more attention
it receives, the more entrenched it becomes in the economy. And for
good reasons. Does a cat ever turn its back to butter s'mores? Or a
politician to another term? So, and despite the long delay post which
Inflation-indexed bonds, IIBs, have seen the light of day, why would
we expect FIIs and our domestic financial entities to shy away from
systemic loot that inflation still is? Little surprise, then, that
inflation has galloped away at a double digit decadal average. But
while 12% inflation was deemed tolerable without the IIBs, 10%
inflation is not with them around. Is that why, and anticipating a
turnaround in the economy, the inflation-lovers have changed strategy,
and rather than seek inflationary gains against the IIB tides, chosen
to turn the control over to the victims - us voting citizens?
Read the papers lately? .....Rajan, our RBI Governor, has suggested
Parliament choose an appropriate inflation target, and PC, the Finance
Minister, has queered the pitch by further suggesting it be the Lok
Sabha. I wonder whose viewpoints they are airing? Not the FIIs caught
in the chasms of uncertainty between the inflation-friendly government
of the past decade, the 'Modi saffron wave' or the 'Hazare doldrums'
of the future? Why would they risk an inflation-tolerant RBI that
triggers violent and widespread public protests against
runaway-inflation in an already hostile political situation when the
soon-to-be elected ignoramuses are perfectly capable of ruining the
low-inflation IIB cake themselves? Why not, instead, shift the onus to
the people themselves, put FII lobbying dollars to work in the divided
Parliament as it debates an inflation target by crowding out economic
priorities of the new Government? Besides, the RBI too wouldn't mind
the diversion, attracting as it would otherwise, the flak for not
containing inflation despite the IIB regime kick-off (and the less
said of ethical conflict of interest in implicitly or otherwise
targeting a certain inflation rate despite its market-setting monetary
moves and cross-border financial interests, the better).
So.......should we move decisions on inflation from the hands of our
bureaucrats and trust them with members of Parliament who, even
otherwise, have little time for anything significant? And pray how
will they judge the issue? Burdened on one hand with the task of
sustaining growth and creating employment, and on the other, beholden
for campaign funds to the very interests that seek inflationary gains,
and not entirely oblivious to the potential for inflation-stoked
profits in the equity markets, these politicians are least likely to
take on inflation; in fact all indications are they will play along,
perhaps even worsen the situation. Why, a fractious debate on
inflation might well bring down the government! So, is Rajan playing a
master stroke in seeking to transfer the decision on target inflation
to the Parliament and its democratically-elected representatives? Of
course.....and expediently at that! Is it also a conspiracy to
leverage the economic insecurity of the masses and the ever-present
macro trade-offs to ramp inflation up without attracting political
flak for it? Possibly. Will it permit the inflation-mongers to get
away with their three-fold rise in prices from the turn of the
century, if with a slightly less steeper rise in the future (when they
should have been halved to start the new FDI-IIB regime)? In all
probability, Yes.
Quite apart from the question how much Gold and IIBs middle-classes
families should buy and with what sacrifices, is the question, who?
Who makes the decision as to what is an appropriate inflation rate to
target, and how? That is, if we don't want inflation to crowd out all
other issues worthy of the attention of, and be exclusively determined
by our Members of Parliament. The stakes being as high as they could
be, perhaps it is appropriate to consider an entirely new design. How
about one that vested control of inflation amongst a select group of
paired-institutions that were major participants in the various
sections of the market - the very short, VSR, the Short run, SR, the
Medium run, MR, the Long run, LR, and the Very Long run, VLR; a design
that permitted these institutions with vested interests to seek an
inflation rate consistent with their perspective, resources and
constraints?
Consider toward such a design, the RBI in opposition with the FIIs in
the VSR compartment, the Lok Sabha-Rajya Sabha in the SR, Households
against Banks in the MR, Insurance firms battling Pension Funds in the
LR, and Sovereign Funds engaging Realty funds in the VLR. The RBI and
FIIs seek in the VSR an inflation target that keeps the foreign
exchange rate stable and range-bound given their repo-, reverse repo,
hedging and overnight fund operations. Too low an increment to
expected inflation and the FX Futures and Forwards lurch dangerously.
Too high, and the FII fund flows dry up causing liquidity concerns at
home. The equilibrium inflation expectation generated in this 'duel'
is a compromise between domestic and foreign monetary entities, albeit
expressed through domestic and foreign financial interests. Elsewhere,
the two Houses of the Parliament, given the short-run impact of
inflation on real employee wages & employment on one hand, and upon
firm profits on the other, seek opposing directions to inflation, and
arrive at a short-run political compromise on inflation. In the medium
outlook market, Households holding IIBs and Gold inflation lock horns
with Banks hoarding Gold and invested in equities. Should inflation
expectations spurt, risk-averse Household move away from Gold and in
to IIBs while risk-tolerant Banks, fearing rate hikes, sell equities
to buy into the security of Gold. By their reactions to inflation
expectations, they determine an appropriate inflation target that hold
Gold prices stable. This represents an inter-temporal perspective on
inflation from across the risk-spectrum. The Long section of the
market has Insurance Houses that seek zero-inflation and who are
sellers in the IIB market, taking positions opposite Pension funds
that buy IIBs and implicitly support inflation. The resulting
inflation compromise defines the extent of inflation acceptable to
these long players. Finally, and in the VLR market, the Sovereign
Fund, constituted of long bonds, engages Realty funds to determine a
mid-way 'nominal compromise' that, on one hand, permits inflation to
reduce the perceived cost of capital, and on the other, preserves the
nation's future with inflation-induced Consumption gain-cum-loss of
Savings that motivate the volatility necessary for Realty funds to
raise capital and manage their operations.
For the pedantic, the above is not unlike a set of 'Minimize
SSE-criterion' -type simultaneous equations in horizon-segmented
markets with target inflation as the decision variable. The equations
would describe inflation incentives/disincentives and trade-offs
between opposing players in markets with various horizon. Since these
markets with different horizons must eventually converge to a
multi-market equilibrium in expectations, ie, a common inflation
target, it is reasonable to use the figures from the 5 markets as
alternative estimates of optimum inflation and obtain from them, a
range, even a central tendency for target inflation. The measure would
have widespread credibility and abundant support from nearly all
sections of the society, drawing as it would upon outlooks,
information, incentives and market reactions from different sections
of the globally-integrated economy.
.....And yes, our politicians may return to slogans, brickbats,
chairs, and what not to make their non-inflationary point.
Neieieieighghgh !
--
Ganga Prasad G. Rao
Aparna 19 New, 30 Old Janakiram Colony
Arumbakkam, Chennai 600106
gangaprasad.rao@gmail.com
gprasadrao@hotmail.com
http://myprofile.cos.com/gangar
