Beating inflation

I got a call from a radio station just after the news of a 5.7-percent inflation in July was released. The anchor asked me what is the effect of the 5.7-percent inflation to ordinary people. I was not able to answer immediately. As I organized my thoughts, I realized that the general understanding of inflation is fueling it further. Inflation is the impact not the cause of price increases. Under such an environment, the government is faced with a huge challenge in fighting a wildfire that people themselves are unfortunately fanning through unfounded fears called inflation expectations. How do we beat inflation then?

There is no single policy that can bring inflation down immediately. As prices are generally determined by supply and demand of products and services and inflation reflects the rise in prices, inflation, therefore, is also affected by supply and demand. Our current situation of rising prices is therefore not caused by a single factor but by a confluence of supply and demand factors. It means that there is not one solution that can bring it down. It is generally believed that the high inflation environment was due to the implementation of the TRAIN (Tax Reform for Acceleration and Inclusion) law. This is not fully accurate because while the TRAIN law anticipated an increase in prices, it was not to be this high as the affected products are not those that have large shares in the consumer basket such as food products. The tax on oil products was seen passing through at best a 1-percent increase in base inflation. However, as oil is an imported product and is subject to geopolitical tension globally, it is difficult to predict its price. By the time the TRAIN law took effect, the estimated oil prices have risen more than 50 percent of its assumed value in the new law. Furthermore, as an imported product, it requires foreign exchange to buy it. Similarly, the peso-dollar exchange rate weakened faster than anticipated. Hence, the pass-through effect of the TRAIN law broke through the maximum expected increase in inflation of about 1 percent.

The higher oil prices and weaker foreign exchange are only part contributors. Rice, which is about 10 percent of the inflation basket, suffered a significant decline in supply as the National Food Authority was not able to bring in enough imported buffer stocks. This lack of supply pushed prices higher, leading to a domino effect to prices of basic commodities. The TRAIN also released into the system an additional P12 billion monthly due to the personal income- tax cut and the subsidies on cash and fuel transfers. This gave people more money to increase their demand for goods and services. While in theory the increase in cash on hand would have allowed people to afford the rise in prices, the rise in prices was higher. We are now faced with high inflation expectations.

What needs to be immediately done to cushion the high price expectations? The government needs to have a single communication plan explaining to the people why prices are rising and that they are addressing the supply constraints on basic commodities, particularly rice. The tariffication of rice is a good policy option but its impact will not be immediate within a month. There are administrative processes that need to be addressed even if the law is passed soonest. Besides, the supply will come from other countries and there is considerable logistical considerations before it will reach the consumer markets. This is something that the government needs to explain to the people. The proposal of Congress through Speaker Gloria Macapagal-Arroyo on cutting tariffs on meat and fish are also welcome, but like rice, they will not come immediately. Plus, there are attendant issues that require again a competent bureaucratic handle beginning from the Bureau of Customs to the Department of Agriculture to importers to local governments and traders, which, sadly, we still are unable to manage well regardless of circumstance. These must be well-defined and well-executed in a timely and time-bound manner.

As we are all affected by high prices, there is a need for a concerted effort by all sectors to work together to beat inflation. This is not the challenge for the government alone. The private sector, media and consumers alike must also pitch in. Expectations can only be calmed by a prospective view that this condition is temporary. The immediate and short-term government response is to raise interest rates, which does not directly affect the ordinary people but whose effect will slow down a currently robust economic momentum. As of today, the Bangko Sentral ng Pilipinas has probably raised interest rates by another 0.5-percent increasing the cost of doing business while the Philippine Statistics Authority has announced a still high second- quarter GDP growth of 6.7 percent. We are still growing fast. Let us not allow our own worries of higher prices to worry us down. Instead of blaming the TRAIN law, the better way to beat high prices is for all of us to work together to understand and respond to the current situation and not just insist on a single solution.

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Alvin P. Ang, PhD, is a professor of economics at the Ateneo de Manila University and a senior fellow of Eagle Watch, the school’s macroeconomic research and forecasting unit.