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| Columns |
| Economic & Business Forum |
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by
Desmond Dudwa Phiri, 02 March 2007
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09:52:37
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Monetary policy and government economic objectives
Most governments these days have four economic objectives. These are control of inflation, full employment or reduction in unemployment, thirdly to maintain a current account equilibrium and fourthly, economic growth.
Governments with a socialist or egalitarian inclination also aim at redistribution of wealth which in developing countries is generally referred to as poverty reduction or eradication.
For nearly two decades governments of Malawi (MCP, UDF, DPP) have been combating inflation with varying degrees of success. Finance Minister Goodall Gondwe recently told the nation two pieces of good news. He said inflation had dropped to single-digit and that the interest rate had also been reduced. We will talk about interest rates later but first let us dilate on inflation.
Inflation is a general rise of prices. A gentle rise is not bad for the economy. Better prices induce producers to produce more and manufacturers to manufacture more. When farmers learn that during the next harvest season marketing boards will pay them higher prices for their produce they produce more.
But galloping inflation which is in double digits is a different matter. You sell your products at what you regard as better prices and go to buy food or durables only to find their prices have risen even higher than the prices you obtained for your commodities. Above galloping inflation is hyper-inflation such as wiped wealth in post World War I Germany and is just doing the same thing in Zimbabwe. While a few people may prosper in conditions of hyper-inflation the majority of the people get improverised.
Most governments are keenly interested in achieving full employment for their citizens. Full employment is one thing in a highly developed economy and another thing in a developing economy. In a developed economy like Britain most people are either employed by someone or engaged in business of their own. In developing countries most people are self-employed cultivating small plots of land, though occasionally they go out to look for employment.
For a country like Malawi full employment means finding jobs for those who look for them and encouraging smallholders to be fully occupied on their peasant farms. Furthermore, it includes taking care of school leavers and college graduates. To be educated and yet fail to find employment commensurate with one’s education is a terrible experience. Maintaining current account equilibrium means ensuring there is a reasonable balance of payments on international transactions, there must be enough exports revenue to pay for imports. If a country does not receive enough income from its exports it may be compelled to obtain imports on credit. Here is the start of the road to being highly indebted to others. To achieve a reasonable balance a government encourages exports and monitors imports in case they go out of hand.
Economic growth is an objective of both developed and developing countries. Unless a country maintains reasonable growth rates recessions may set in and cause falling standards.
When Honourable Goodall Gondwe announced that last year Malawi achieved a GDP growth rate of eight percent and plus, most people must have rejoiced. This is a rare achievement. Perhaps it is due to the bumper harvest which has been brought about by the generous farm input subsidies, good rains and “hard work in the fields” to use Dr. H. Kamuzu Banda’s favourite phrase. The bumper harvest has not only been responsible for raising the annual growth rate but also for bringing down the inflation rate. By and large there will be inflationary trends where commodities are scare and there is high demand for them.
Now about monetary policy. What is it? It is the branch of economics which attempts to achieve the objects that we have outlined above through the control of the monetary system. Monetary policy is carried out through a government central bank.
The monetary authorities, the central bank in consultation with the Ministry of Finance, seek to achieve a certain level of the money supply and a rate of interest in such a manner that they contain inflation and facilitate growth.
The rate of interest is the price of lending and borrowing money. A high rate of interest may encourage some people to save their money with banks or building societies. But at the same time high interest rates deter business people from borrowing working capital and expand their outputs. High interest rates discourage investments.
When interest rates have been reduced more people buy houses using mortgage and obtain durable goods on hire purchase terms such as refrigerators, cars and computers.
Monetary policy alone is not always effective in trying to achieve the country’s objective. It must be supplemented by fiscal policy as well as direct controls.
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