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critic.gif (527 bytes)Economist’s Column

By Ratan Khasnobis

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usm-red.gif (844 bytes)Economist Column
Open Economy and Inflation.. synonimous, so the doc would say
usm-red.gif (836 bytes)Ringside View
It's other way round now, the states elections are having its impact on centre


During the days when India was not in that sense 'open' and not exposed to New Economic Policy World Bank in its report named 'An Industrialising economy in transition' made the claim that without opening up India will be bound to suffer from chronic inflation. People of the country will not be able to buy the cheap foreign products and instead be forced to buy the expensive domestic products produced with inefficient technology. Hence reducing import controlls, and more exports can only check the rising rate of inflation.

The New Economic Policy was introduced in the country in 1991. The country has been pursuing till then policies according to the will of IMF. Import duties have been slashed down and more and more commodities have been added to the list of import decontrol. But experiences have been otherwise. Prices have been rising till the introduction of the New Policy. In 1990-91, the cost of living index for industrial workers was 193 on the basis of 1982 prices. In 1996-97 this shot up to 342, implying an increase by 77%. In the beginning of 1998, the figure was 380. The prices of all essential items have been rising very fast. In 1990-91 WPI of food grains stood at 171.5. In April 1998 this has become 362.5. During the same time period WPI of pulses have increased from 227.5 to 487.5. WPI of vegetables went up from 234.6 to 426.9. WPI of meat-fish- eggs have increased from 194.5 to 463.6. Spices and salt have doubled their prices. Clothes worth 172.20 rupees now cost 314 rupees. Medicines costing 149 rupees now cost 266.90.

The list need not be multiplied. This has been the experience in all the countries that have been victims of the globalisation prescriptions of IMF. This has been the experience in Mexico, Tanzania, Mozambique, and Uruguay. The reason is that the fact that the structural adjustment programmes imply and inherent possibility of inflation.

The process works in the following way. Government has to print notes to increase the supply of money to meet the expanding budget deficit. As an alternative to the practice IMF suggested that budget deficit can be reduced through reduction in the amount of subsidies. Subsidy reduction immediately implies an increase in prices of foodgrains in the country. Prices of essentials distributed through ration shops increases immediately. Prices of rice and wheat increased by 86% and 72% in a series of price increases being effected in December 1991, January 1993 and February 1994. This was translated in general inflation.

Instead of cutting back subsidies in order to reduce government expenditure, there also exists the alternative of reducing black money and reduction in the rate of interest for reduction in government expenditure. But this did not take place in any of the countries that have been under structural adjustment programme. The crux of expenditure reduction policy of the government falls on the poor people of the country. The rise in prices of foodgrains has pushed 3 crores of people down the poverty line in India.

The second reason for inflation lies in the policy of globalisation itself. The policy gas forced the third world countries to sign the GATTT Treaty and liberalise their imports. The countries are forced to accept a strategy of export led growth process without much success. While U.S can easily violate the Treaty and impose more import subsidies on their imports to protect their own industries, the third world counties are forced reduce import controls. Clinton himself put restrictions upon Sino-American and Jap-American trades in 1995.

The claim of the proponents of structural adjustment is the fact that opening up of trade in the third world countries would increase their reserves of foreign exchange and this would enable the country to buy foreign technology. With this technology, the country would be able to increase productivity and hence production. Thus inflation would fall. This policy would thus be beneficial to the common people of the country. This can only be possible if the domestic currency is fully convertible in the international market. Hence immediately the prescription of full convertibility of current and capital account comes from the IMF. This change is called the change of the exchange rate to realistic terms. To meet this demand India increased the price of rupee from 26 to 36 US dollars through the policy of devaluation. Again in a second drive this was increased to 45 US dollars. It was told that if domestic commodities were made cheaper in the world market, the sales or exports would increase. However this also means that imported commodities will be dearer in the domestic market which again means inflation. Thus devaluation would increase the prices of the commodities in the Indian market and adds to the inflationary trend. Even if it is true that increased foreign exchange earnings would increase the imports of foreign technology, this means an increase in cost of production. The increase in price of rupee will imply an increase in the interest in rupee terms. This will be further translated in rise in prices if final goods.

India is not the first country who has followed this line. The effect is that the commodities exported to the developed countries by the developing ones suffer from a price reduction due to the competition faced by competing buyers from the developed world. Since the export basket of the developing countries consist of more or less similar types of commodities, as soon as Indian basket becomes cheaper through devaluation Indian rupee, Pakistan too devalues its own currency to make the Pakistani basket even cheaper in the world market. This competition effectively reduces the prices of exportable from the developing countries. This is the reason why the developing countries continually devaluate their currencies to capture the world market. This only benefits the developed countries.

The effect of this export war has been realised in economies of Thailand and Sub-Saharan countries. Thailand economy collapsed after crash in the export market. The Sub-Saharan economies increased the production of exportable food crops and reduced production of cheap food crops, which are meant for the consumption of the people of the country. This has brought severe malnutrition, starvation and death in these countries during the last few years. In India too there has been drastic reduction in area under foodcrops from 1991 to 1997. During these six years, 4 % of the agricultural land has been transferred to cultivation of cash crops. The buyer of these crops is undoubtedly the first world who holds 81% of the world purchasing power.

The problem of inflation thus cannot be tackled without a change in the state policy. Those who prescribe a check in inflation through the process of globalisation think in terms of dollars and not in terms of Indian rupee.

Writer is Professor of Calcutta University

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