THE silly season is as cyclical as the economy it goes away and it comes back advocating old, trite ways of fixing the economy when the chips are sort of down.
The arguments go something like this. Prices are going up, the inflation rate is going up. Property prices are going up, consumer credit is going up. It is time to tighten up we should raise interest rates! Thus, the rallying cry goes.
But one should be more circumspect than that. These are trying times even if we have just about emerged more or less unscathed from the worst financial crisis the world has experienced since the Great Depression of the 1930s.
That means we have to weigh our options very carefully to ensure that we do not further burden the rakyat and put an unnecessary dampener on a very nascent economic recovery by needlessly pressing the brakes.
Clear indications are that the economy is on a downtrend with growth in the fourth quarter of last year (see news report elsewhere) slowing down significantly. If anything, there is a need to ignite rather than douse the embers of the economy.
Alright, you may ask. How do we handle inflation then? Whether we raise interest rates or not to fight inflation depends on what is causing the inflation in the first place. Prices are going up mainly because of commodity prices increasing and the slowness with which the economy is responding towards a strengthened ringgit.
Raising interest rates will do nothing in terms of fighting inflation of this sort caused by rising prices which are not a direct result of increased demand within the domestic economy. If increased demand is what is causing the rising prices, then you raise interest rates to cool down an economy which is too hot for its own good.
But that's not the case right now. Costs are pushing up prices (cost-push inflation). No amount of tightening will bring it down because our economy is too small to influence global commodity prices. If demand is pulling prices up (demand-pull inflation), then raising interest rates may help that is not the case now.
What is puzzling is that despite an appreciation of the ringgit by around 15% over the past 1-2 years, there is hardly a reflection of this in our markets. Anecdotally, prices of food, even if it is from the US, do not seem to have fallen at all. If you don't believe me, take a tour of the supermarkets. And tell me, has the price of your favourite US rib eye steak dropped a sen? No!
What gives? It must be the Malaysian penchant for profiteering. When prices go up, pass it on to the customer even before it actually does. When prices of inputs go down, delay the price decrease as long as possible. The prices, they say, are “sticky downwards”.
The answer to that in the short term is better policing by the authorities to get traders to bring their prices down and in the long term to reduce inefficiencies in the economy by removing bureaucratic bottlenecks and encouraging enterprise.
What about property and consumer credit? There may be signs that things are getting too hot here because of the easy access to credit. But to fight this what is needed is a targeted approach instead of an interest rate increase which will adversely affect other sectors of the economy which need to be stimulated.
The easy way of doing this is through administrative restrictions such as 70% financing for third property purchases implemented recently. Also, the 5% downpayment and pay nothing for two years scheme currently implemented by many property developers for new properties encourages wild speculation. The authorities might want to look at it again.
The downside of interest rates remaining where they are when prices are rising is that savers effectively have their real rate of return reduced. Hopefully, this will be a one-off phenomenon and if prices stay where they are or even come down as a result of the appreciating ringgit, there will be no reason to increase rates.
So far, the authorities have displayed admirable reason and resolve when it comes to interest rates and one can expect that they will resist any unreasonable and unwarranted pressures to increase rates in future. - By P. GUNASEGARAM, p.guna@thestar.com.my
Managing editor P. Gunasegaram is wary of trite solutions to complex problems.
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