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Research paper example essay prompt: Introduction Hyper Inflation Has Plagued Most Of The Worlds Developing Countries Over The Past Decades Countries In The Indus - 2083 words
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.. venue. A more significant impact of inflation arises from its effect on interest rate and the dynamic sustainability of fiscal situation. High rates of inflation signal weak resolve to control inflation and imply higher expected inflation in future." Obviously, this results in upward rigidity in nominal interest and leads to high debt service burden on the budget, thus reducing the flexibility of fiscal management. And as just noted, it is well known that the adverse implications of inflation are more intense at high rates of inflation.
A moderate inflation rate is usually more desirable, and manageable as it ordinarily does not imply severe costs. Indeed, moderate inflation rates are necessary if money is to remain a useful unit of account and if the costs of decision making are to be minimised. But, there is no consensus as to the optimum rate of moderate inflation, or even as to what the term moderate means. "International evidence suggests that the costs of uncertainty tend to rise in a non-linear fashion with the inflation rate exceeding a threshold. One important caveat in interpreting the threshold of inflation rate beyond which costs exceed benefit is the provision of inflation protection measures available in the economy, which tends to moderate the adverse implications to some extent." In other words, countries with a moderate inflation rate, but an inadequate indexation provision, may show a higher degree of sensitivity to inflation than those with lower moderate inflation.
For example, as noted above, most of the industrialised countries in recent years have inflation targets ranging between two to three per cent. But, among the developing countries, some of the fast growing East-Asian economies have not only demonstrated low inflation rates ranging between three to five per cent, but the growth rate at these inflation rates has been fairly high at around eight per cent. Empirical evidence on the relationship between the inflation and growth in cross-country framework is therefore somewhat confusing. Several studies make it clear that the negative impact of inflation on growth is more severe at unmistakably high rates of inflation, there is no consensus about the threshold inflation rate beyond which, or under which, the negative impacts of price stability become pronounced. The term moderate or low inflation is clearly relative and dependant upon a number of circumstances.
In part, this fact also obscures the analysis of policies that seek zero inflation, or virtual price stability. The effects of virtual price stability Most policy makers generally worry about inflation, however moderate, because if not held in check, a little inflation can lead to higher inflation and ultimately affect growth. Several central banks believe that the "economic benefits of reducing inflation, say, from 4 per cent to 2 per cent, are many and large and the unemployment costs are transitory and small by comparison." This perception rests on the Friedmans "classical idea that the Phillips trade-off between inflation and unemployment disappears in the long run, and even in the short run if the central banks commitment to zero inflation is made credible and has a direct downward effect on expected and actual inflation that minimises the unemployment costs of disinflation." Yet, this appears to be more plausible in theory than in practice. As a case in point, the Bank of Canada has argued that the countrys "inflation could not have been minimised without a short-term rise in unemployment and government debt." Thus, they concede that there are indeed short-term costs, although they hope that they will be outweighed by the long-term benefits. According to this view, benefits will accrue because of Canadas resultant low-inflation environment, which will promote both the stability and competitiveness of the Canadian economy.
This should result in a protracted increase in business investment. Yet, the economy continues to feel the short-term effects. It seems as though the short term is actually a very long one. Not surprisingly, this lag time has engendered a host of critics of such a narrow monetary policies. Perhaps most notably, P. Krugman has argued that while the belief that absolute price stability is a huge blessing with large benefits and few drawbacks, the concept rests entirely on faith. Empirical evidence actually indicates the opposite.
The benefits of price stability are elusive and the costs of achieving it are large. And zero inflation may not be a good thing even in the long run. Critiques focused specifically on the Bank of Canadas policy further argue that the Bank has been overly obsessed with reducing inflation to the detriment of other concerns. Bringing down inflation in the early 1990s required a harsh contractionary monetary policy, with extremely high short-term interest rates. For these observers, the Banks tight monetary policy was badly mistimed, since it was applied during the recession of the early 1990s and the precarious recovery that followed. Critics also suggest that the Bank of Canadas policy surely has important long-run costs. Their argument relates to so-called hysteresis, which refers to the case where a variable that has been shifted by some external force does not return to its original state once the external force has been lifted.
In the Canadian macroeconomy, it is argued that hysteresis took place when the recession increased the natural unemployment rate by creating new structural unemployment. As such, the economys self-stabilising tendency was hampered which damaged the economy because its potential level of real output decreased. To some degree, this explanation helps explain the stubbornly high rates of Canadian unemployment in the 1990s. Critics are also quick to point to another important cost of the Bank of Canadas contractionary policies during the early 1990s. High short-term interest rates have caused the interest bill on outstanding government debt to increase. And , by pushing down both real income and employment, the Bank has reduced government tax revenues. A vicious cycle has been the consequence, with the federal governments added interest obligations and sagging tax intake forcing it to run higher yearly deficits which have increased public debt even further.
Thus, despite the success of reaching low inflation targets, low inflation monetary policy does tend to raise unemployment, either directly or indirectly. This can occur through its effects on investment or otherwise, unless the policy generates a great increase in confidence and public expenditure cuts. As the Canadian case demonstrates, this may not be possible. The danger of a narrowly focused monetary policy, then, is that if unemployment rises more than expected, which may well happen, political pressures are likely to be generated leading to the abandonment of the experiment. In Canada, the pressure is increasing, and though virtually independent of the government, the Bank of Canada may not be able to withstand the costs of the experiment for much longer.
Abandoning the policy, however, would also be very costly in that, by undermining confidence in the authorities capability and determination, it would make it almost impossible for the Banks future policies to have beneficial direct effects on expectations. The alternative strategy of defining a target path for unemployment, though liable to be condemned by the public as cold-blooded, might minimise this risk and thus lower the expected unemployment cost of the ultimate reduction of inflation. But, this too may prove to be different in practice. Empirical studies have shown that, contrary to the prevailing beliefs of many economists and central bankers, in the "long run, a moderate steady rate of inflation permits maximum employment and output. Maintenance of zero inflation measurably increases the sustainable unemployment rate and correspondingly reduces the level of output." Zero inflation inflicts permanent real costs that are much larger than envisaged by present-day policy makers.
Following Canadas path to zero inflation, empirical modelling demonstrates that the instigation of a policy of zero inflation immediately reduces employment, and it continues to decrease until the third year of the zero inflation experiment. "The effects of wage rigidity mount as inflation approaches zero, increasing the incremental unemployment cost of reducing inflation further. The zero inflation rate target is not reached until the 6th year, at which point unemployment has reached 10.8 percent. Unemployment declines gradually from that point, nearing its steady state rate of 8.4 percent after a decade." Without much surprise, this does very closely reflect the effects of the zero inflation monetary policy pursued in Canada. Policy makers should not be satisfied with an ultimate unemployment rate of 8.4%. Not only is this rate of unemployment still high, but the costs involved in securing the target are certainly not worth it. Observations and Conclusions Inflation, both high and low, clearly poses great problems on the macro and micro economy.
In higher doses, inflation erodes peoples savings, endangers economic growth and propagates social instability. So, it has been argued, "why not in these more disciplined times try to eradicate the disease altogether, just as the world has gotten rid of smallpox? Why not, some central bankers and economists are asking, aim for zero inflation - at least in the industrial countries?" Only in recent years has this question even been feasible. Previously, if inflation was single digit, it was quite acceptable. "Now, however, the world is entering an era of low inflation that brings more ambitious targets within reach. According to the International Monetary Fund, average inflation in the industrial countries is running at only just over 2 percent a year, and although the rate is much higher in the developing countries, it is falling quickly." As shown in this study, the proliferation of low inflation monetary policies to pursue virtual price stability is at the root of this phenomenon.
However, as shown in this paper, zero inflation objectives are not wise: Central banks and governments may be trying to kill something that is not capable of being made extinct. This is particularly true in the era of globalisation. "Fiercer global competition and freer world trade, low oil and commodity prices, the declining power of labour unions, the growing resistance of consumers to price increases, and the heavy penalties imposed by financial markets on undisciplined governments" are working to complicate monetary policies, and further make zero inflation impractical. Thus, even if zero or low inflation is readily achievable, as it seems to be, it does so in the face of very powerful variables. But, there are several additional reasons to end zero inflation policies.
Above all, this paper has demonstrated that the macroeconomics of low inflation is a delicate science. Macroeconomic performance is very different when inflation falls lower half of the 1-3 percent range than in the upper-half of the 2-4 per cent range, particularly in the long run. Numerically small, but effectively huge, differences arise from the sharp non-linearity of the long-run Phillips curve at low inflation rates. "Wringing the last drops of inflation out of the system has painful consequences for growth, jobs and investment that are neither politically acceptable nor economically desirable." Though central banks are reluctant to see the logic of this argument at the moment, the time may soon come when the credibility of giving up zero inflation experiments will be greater than their continued pursuit. A prerequisite to this, in all likelihood, is that the least unemployment costly path for stabilising prices must be found. And, unfortunately, this is a difficult, if not impossible, pursuit.
From all of the confusion, what is clear is that a little inflation, perhaps 1 to 3 percent, is a far more efficient policy choice than zero inflation. Such a moderate inflation target would allow real wages to decline where necessary without firms having to impose wage cuts or fire workers. Thus, "rather than misusing their energy pursuing zero inflation, governments should be exploring the other policy options now available. In todays low-inflation environment, central banks can afford to be less restrictive than they have learned to be over the past two decades and allow greater room for growth. Exchange rates can, if necessary, be nudged downward without automatically provoking the wage and price spirals they did in the past." Such examples are not necessarily a panacea for the damage caused by zero inflation experiments so far, but they are certainly less harmful.
As argued by Pierre Fortin, public opinion is starting to reflect the reality that "promised large benefits from zero inflation are actually a mirage and that the small unemployment costs are actually huge." This opinion has been voiced particularly loudly by Japan and France. And unless the elusive benefits of zero inflation soon manifest themselves, it is only a matter of time before the rest of the no inflation pack realises they are barking up the wrong tree.
Research paper topics, free essay prompts, sample research papers on Introduction Hyper Inflation Has Plagued Most Of The Worlds Developing Countries Over The Past Decades Countries In The Indus