Ministry of education tashkent financial institute

Rising wages

If trades unions can present a united front then they can bargain for higher wages. Rising wages are a key cause of cost-push inflation because wages are the most significant cost for many firms.

5. 
   Expectations of inflation.
   

Once inflation sets in, it is difficult to reduce inflation. For example, higher prices will cause workers to demand higher wages causing a wage-price spiral. Therefore, expectations of inflation are important. If people expect high inflation, it tends to be self-serving.

Effects of inflation on the economy growth.

In many of the less highly developed countries, incomes are not rising as rapidly as the desires of the community. In these countries, personal savings are low, so that only limited resources are released for the expansion of the community’s capital. At the same time, the tax systems provide only enough revenue to meet part of the community’s desires for government services, with very small surpluses available to finance development. Under these circumstances, inflation may appear to be an easy method of providing finance to expand investment and hence to be an easy way of obtaining capital for a more rapid expansion of output. If a government can persuade the central bank to create money to finance a development program, or if the banking system freely makes loans to private investors for the finance of physical investment, the problem of expanding the community’s real assets may appear to be easily solvable. Consequently, it is sometimes argued that “a case could be made for making inflation an instrument of (development) policy, rather than the control of inflation an object of policy.”⁶

Inflation has two effects on the desire for liquidity, which are related to the two basic reasons why individuals and businesses wish to hold liquid assets—the speculative and precautionary motives. Inflation increases the value of effective liquidity, thereby raising the community’s desire for it, but it makes the most generally accepted store of liquidity—money and financial assets denominated in money—unacceptable sources of protection. This strengthening of the community’s wish for liquidity and weakening of the usefulness of the traditional store of liquidity will exert their greatest influence on the types of investment undertaken during periods of inflation, but they will also work to reduce the total flow of resources available for investment.

If an inflation were expected to proceed at a uniform rate, it might have little effect on the community’s desire for liquidity. In practice, the rate of any inflation is unpredictable, and the variations in this rate are likely to become more pronounced as the average rate of inflation increases. In a stable economy, price movements are reasonably predictable. In an inflationary economy, if the current rate of price rise is 20 per cent a year, the rate next year may almost equally well be approximately 10 per cent or over 40 per cent.⁷ This uncertainty regarding the future course of prices creates an incentive for liquidity. With the future uncertain, the probability of unpredictable investment opportunities arising, or business difficulties occurring, is increased. Hence the desire to hold liquid assets for speculative and precautionary purposes is strengthened.

However, during an inflation money and financial assets denominated in money cannot be depended on as stores of liquidity, since they decline in real value as prices rise. They even fail to provide acceptable liquidity to bridge the gap between transactions, because the intervals between cash receipts and disbursements may be long enough for prices to rise appreciably. In these conditions, attempts will be made to acquire assets whose value is expected to rise in the interval before the investment opportunity or other occasion for disbursement arises. This flight into nonmonetary assets is the source of many of the distortions which accompany an inflation, and is a partial cause of the decrease in the flow of resources to investment.

The control of inflation is only one of the problems facing a government wishing to encourage rapid economic development. The fight against illiteracy, the reform of bureaucratic practices, the building of basic sanitary facilities for the eradication of endemic diseases, the substitution of competitive for monopolistic trade practices, the encouragement of a widespread spirit of entrepreneurship, and the creation of an adequate amount of social capital, may be important prerequisites for rapid growth. However, attacks on these problems are likely to be more feasible in an atmosphere of financial stability: a rapid inflation will make the failure of such attacks much more likely

There is one important factor which will tend to increase government expenditure and lead to budget deficits. Even though a worker realizes that his wages are increased, he strongly resents a rise in his rent or in the prices of bread or beans, and particularly resents any increase in public utility prices. In an attempt to forestall some of the undesirable effects of inflation, the government may attempt to restrain the rise in prices of consumer goods. Farmers and other producers will expect, and will provide supplies only if they receive the benefits of, rising prices. If the price of one commodity is controlled while other prices are rising, the demand for the price-controlled commodity will increase. If the supply of a commodity is to be encouraged, its price must rise relative to other prices. Hence, government restraint of price increases will only be possible if the production of the price-controlled goods is subsidized. The cost of these subsidies may well absorb substantial amounts of government expenditure. For example, the persistent deficits of government-owned public utilities, resulting from rising costs and opposition to rate and fare increases, are a common characteristic of government accounts in countries experiencing a strong inflation.

This is exemplified by the fiscal problems of the Government of Ceylon. In the past few years, factors which might lead to rapidly rising prices have been present in that country. The Government has striven to restrain these pressures, largely by using subsidies to suppress the effects of inflation, and has met with considerable success. Because of the country’s high propensity to import (even though subject to controls, imports are equal to approximately 40 per cent of gross national product and imported goods account for over 40 per cent of consumer expenditure), the domestic price level is determined predominantly by foreign prices. The evidence of inflation has appeared primarily in a 60 per cent reduction in the country’s foreign exchange reserves in the five years ending in 1962. Government revenue rose , partly as a result of increased tax rates and new taxes, but government expenditure increased more rapidly in the six years ending in 1960 (the latest period for which data are available). Consequently, the Government’s cash accounts changed from a position of near balance to a deficit equal to approximately 7 per cent of gross national product. If the Government had been able to avoid the expenditures made to restrain the inflation, its excess of current revenue over current expenditure would have provided surpluses to finance its investment expenditure in the fiscal years 1955–58, and the 1959 and 1960 deficits would have been small. The decision to provide food subsidies and to cover the operating losses of the railways and electricity departments induced inflationary deficits in the years 1956 to 1960. Even with the investment program, there would have been inflation-repressing surpluses in the early years.⁷

3.Analyses of Philip’s curve.

The Phillips curve suggests there is an inverse relationship between inflation and unemployment.

This suggests policymakers have a choice between prioritizing inflation or unemployment. During the 1950s and 1960s, Phillips curve analysis suggested there was a trade-off, and policymakers could use demand management (fiscal and monetary policy) to try and influence the rate of economic growth and inflation. For example, if unemployment was high and inflation low, policymakers could stimulate aggregate demand. This would help to reduce unemployment, but cause a higher rate of inflation. In the 1970s, there seemed to be a breakdown in the Phillips curve as we experienced stagflation (higher unemployment and higher inflation). The Phillips Curve was criticized by monetarist economists who argued there was no trade-off between unemployment and inflation in the long run.

However, some feel that the Phillips Curve has still some relevance and policymakers still need to consider the potential trade-off between unemployment and inflation.