On the Relationship of Inflation with Jobs, Equitable Wealth Distribution and Economic Growth

India’s Finance Minister Nirmala Sitharaman at the US-India Business Council’s India Ideas Summit said,

Instead of inflation, red-lettered priorities for the country would of course be jobs, equitable wealth distribution and making sure India is moving on the path of growth. 

In this essay I am going to discuss the relationship of inflation with jobs, equitable wealth distribution (whatever it means for the government), and economic growth. The statement made by the Indian finance minster suggests that she doesn’t see any relationship between above cited three red lettered priorities of the government and inflation. But is it so? Let us see. 

Before I go and discuss the relationship of inflation with those three red-lettered priorities let me set forth my proposition: Inflation will negatively affect all three red-lettered priorities of the government i.e., the presence of inflation in the economy – whether low or high – will lower jobs, increase wealth inequality, and retard future growth. Now let me give the proof of my propositions. 

First of all, before we embark on the discussion of the relationships, we must clearly define what inflation is. As Henry Hazlitt said, 

Inflation is an increase in the quantity of money and credit. Its chief consequence is soaring prices. Therefore inflation—if we misuse the term to mean the rising prices themselves—is caused solely by printing more money. For this the government’s monetary policies are entirely responsible. 

This inflation has three major consequences: 1) Rising prices 2) widening wealth and income gap, and 3) creation of business cycles in the economy. 

Inflation and Jobs 

As the Austrian Business Cycle theory tells us, one of the chief effects of inflation is the creation of the boom and bust cycles. As government’s central bank manipulates the monetary interest rate it creates an illusion of abundant resources (savings) available for the entrepreneurs to invest and they embark upon big lengthy capital projects. During this phase of artificial boom jobs will be created but these jobs are not sustainable because they are created by manipulating the interest rate and not by natural saving and investment by society. As the inflation process continues it starts to raise prices of producer and consumer goods which creates political crisis for the government, as higher prices can lose elections for the politicians, so they order their central banks to suddenly increase the rates, which catches entrepreneurs by surprise. These risen rates bring recession and ensuing high levels of unemployment. Business cycles also misallocate resources and wastes them thus lowering future growth and employment opportunities too. 

And, as Murray Rothbard said, if the objective of the Keynesian policy of inflation is to lower the real wages and stimulate employment then this only works as long as it fools the workers into accepting higher nominal real wages (but lower real wages). But workers are not stupid. Their unions have long realized this Keynesian game of manipulating real wage rates. Unions will successfully keep on increasing the nominal wages thus by putting the producer in trouble as his production cost keeps on rising and profit keeps on falling. In this case producers will be forced to fire workers which will create unemployment in the end.

Inflation and Wealth Distribution 

Inflation affects every individual in society differently. As the Cantillon Effect suggests, the group of people who receive freshly printed money first benefit from it because at that time prices of goods have not yet increased. In this way the borrowers who receive inflation money via loans from central banks, via commercial banks, can corner the economic goods market for themselves. As the freshly printed money enters the economy slowly from one sector to another, it goes on increasing the prices of various goods. Those people who receive money in the end face higher prices of everything and they can’t buy anything as the purchasing power of their money has already gone down. This way inflation creates and exacerbates the wealth inequality. We just need to inquire who are these people who receive this freshly printed money from the banks first and who receives them in the end. The answer is clear: rich people who are well connected with the government and its central banking system, people like businessman and corporate tycoons like Adani or Ambani etc., receive inflation money first so they benefit immensely (becoming billionaires) while people with low income, the very people whom the government is promising to help, face high prices and reduced purchasing power. This way government and its central bank created inflation makes the rich more richer and the poor more poorer. Zoran Balac in his research work Monetary Inflation’s Effect on Wealth Inequality: An Austrian Analysis concluded, 

From an economic standpoint, these results indicate that monetary policy must be revisited to account for its direct effect on wealth redistribution. However, the political implications are just as significant. If the government is to pursue a policy of social welfare and income equality, it must reconcile this conflict between monetary and social policy. Monetary inflation clearly leads to a coercive redistribution of wealth. That this redistribution tends to penalize lower-income individuals is even more outrageous from a social welfare point of view. The limitations of effecting an egalitarian social order through manipulation of the money supply should be apparent.

Even if we (mis)define inflation as a rise in general price level, as mainstream economists are doing since the 1980s, the results are the same. Adewale Maye in his research concludes,  

Inflation is defined as the increase in prices of goods and services over time. People with higher incomes can offset rising inflation with rising incomes. Sadly, though, income inequality and rising inflation can entrap lower-income households in poverty. In addition, research has shown that prices may rise more quickly for those who have lower incomes, a phenomenon called inflation inequality.

Inflation and Growth

As I have mentioned above, government and its central bank’s inflationary policy generates boom-bust cycles in the economy and these boom-bust cycles lower future growth by misallocating and wasting society’s precious scarce resources. Inflation also lowers growth by forcing people to consume their resources now instead of saving and investing them for future higher growth. Rising prices lowers peoples’ real income and forces them to spend their income today rather than tomorrow, which lowers economic growth. Even mainstream economists are clear about the negative relationship between inflation and economic growth. As Robert Barrow said,

Data for around 100 countries from 1960 to 1990 are used to assess the effects of inflation on economic performance. If a number of country characteristics are held constant, then regression results indicate that the impact effects from an increase in average inflation by 10 percentage points per year are a reduction of the growth rate of real per capita GDP by 0.2-0.3 percentage points per year and a decrease in the ratio of investment to GDP by 0.4-0.6 percentage points. Since the statistical procedures use plausible instruments for inflation, there is some reason to believe that these relations reflect causal influences from inflation to growth and investment. However, statistically significant results emerge only when high- inflation experiences are included in the sample. Although the adverse influence of inflation on growth looks small, the long-term effects on standards of living are substantial. For example, a shift in monetary policy that raises the long-term average inflation rate by 10 percentage points per year is estimated to lower the level of real GDP after 30 years by 4-7%, more than enough to justify a strong interest in price stability.

Conclusion

As we have seen above, inflation retards jobs and economic growth and widens the gap between rich and poor. This has serious implications for the Narendra Modi government’s economic policies whose red-letter priorities are jobs, equitable wealth distribution, and growth. If Modi government’s red-lettered priorities are jobs, equitable wealth distribution, and growth then they better make inflation their number one red-lettered priority instead of ignoring it or brushing it aside by saying it is not their red-lettered priority! Their immediate goal should be zero percent inflation and as time goes by negative inflation – I.e., falling prices –  in the economy. Managing inflation isn’t going to help achieve those three red-lettered priorities. If inflation is not a red-lettered priority of Modi government then they surely won’t be able to achieve their other red-lettered three priorities of jobs, equitable wealth distribution, and growth. Their inflationary policies are just going to exacerbate unemployment problem, lower future economic growth, and increase the already wide wealth gap between rich and poor. Modi government’s policies are only going to help the billionaires of India who are also, not surprisingly, the major funders of the ruling BJP party. This ugly nexus between billionaire tycoons and the government is going to destroy the Indian nation state in the end, and no amount of propaganda from the finance minister and this government can stop that destruction. 

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