The Sunday Times Economic Analysis

The Sunday Times Economic Analysis By the Economist

Inflationary pressures and economic growth
When economists describe the state of the economy as "one coming to a grinding halt" or in terms that denote we are about to be a prosperous nation without poverty and unemployment, their views are most suspect.

Their political inclinations have got the better of their economic judgements. Viewed through such tinted glasses, they tend to misinterpret what is going on. This has been happening recently. There is on the one hand a view that a galloping inflation is about to take place and on the other hand that despite any setback owing to the tsunami, that the economy is on a path of rapid economic growth.

The real sectors of the economy appear to be faring well. Agricultural production, especially tea and paddy production are likely to increase this year. The good performance in paddy production could contribute to reducing price inflation on the one hand, and on the other, reduce import costs.

The expected increased export earnings from tea and industrial exports would be beneficial to the trade balance and the balance of payments. In January this year these two important exports have risen giving hope to higher export earnings this year. Earnings from tea have improved owing to larger volume of exports and improved prices. Industrial exports are poised to continue the upward trend of a 12 per cent growth of last year. In January they grew by 12 per cent. Tourism's setback we are told is over and tourist arrivals are expected to rise further this year.

The Tourist Board expectation of arrivals reaching 600,000. appears quite optimistic. So far there has been a decline and unless the coastal areas are cleared of the debris and made pleasing again, we may fail to attract even 500,000 tourists.

The spectre of inflation however haunts us this year. The reasons for a higher rate of inflation this year are the inflow of funds as a result of the tsunami relief and the continuing rise in international prices of petroleum that have not been allowed to have their full impact on domestic prices.

Both these are potent forces of inflation and only a prudent management of the economy could ensure the taming of these inflationary pressures. The inflow of large doses of funds from abroad are a useful contribution to the balance of payments. Their use however in the country increases the demand for goods and services in the country and thereby results in an imbalance between the demand and supply for goods and services. This is the fundamental reason for the inflationary pressures.

Paradoxically if the funds are used to import materials then their inflationary impact is lessened, as it is only the locally expended sums that have an inflationary impact. This is sometimes difficult to understand. Many economic phenomena that have beneficial impacts on certain facets of the economy have adverse effects on others.

It is also an economic fact that attempts to circumvent and avoid adverse consequences by postponing their impacts often result in much greater harm in the long run.

The current pricing policy of the government though abating the upward movement for the present would have an adverse impact in the course of time. The fact that the government is not passing on the price increases of petroleum products and of electricity to consumers means that these institutions would incur losses that have to be borne by the government. This in turn would result in a higher budget deficit and increased inflationary pressure. There has been a growing criticism that the losses of both the CEB and the CPC are due to their inefficiencies.

This is partly correct, but not the whole truth. Both the inefficiencies of these giant state corporations and the rise in import and input costs not being passed on but borne by them reasons for their losses. Privatisation may hardly be the panacea for this problem.

One reason why the current economic performance is hardly affected by the political confusion in the country is that we are no longer in the situation of the 1970s when the commanding heights of the economy was in the hands of the state. Very significant sections of the economy are now free of state ownership and management and therefore they are able to perform irrespective of government actions. This does not mean that they are totally free from the impact of government policies. The large private sector - both large and small- makes it possible for the economy to box on whatever way the government may be functioning. The call for further privatisation is being argued on these grounds, but for ideological and political reasons of sections of the coalition, the government has decided not to privatise any more enterprises.

The definition of privatisation is a matter of dispute however among the coalition partners. The government appears to interpret it as selling state owned enterprises, not that of allowing private sector to begin new enterprises.

The economy is not about to come to a grinding halt nor are we on the edge of a galloping inflation. Yet the oil price hike and inflow of foreign funds could exert significant inflationary pressures that require professional economic management.

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