As an economist, I have seen struggles between the theoretical and practical implications of economic theories. Particularly, when a government tries to control public inflation rates. Inflation, broadly speaking, results from an increase in an economy’s money supply. More money to spend, relative to demand and availability, is a primary cause. In America, rising Optimum internet price along with other ISP subscription costs is a case in point.
Brushing Up on the Basics
Inflation causes prices to rise, because of which a currency loses its former purchasing power. As a result, the same amount of money buys fewer products and services. This further causes the currency’s exchange rate to fall when compared with others.
Five state and central bank strategies can be used to check this macroeconomic problem.
If you’re an economist, you’re probably aware of many other (more hybrid) methods. And if you’re an economics major, you may be able to add several other pointers to this account.
Like a wise sage once said, it ‘never hurts to brush over the basics every now & then’. Because who knows, you may be able to stumble over some piece of wisdom that you may have missed. I know I did recently, in my work on improving Cox internet prices. So as to make them more affordable for the average consumer.
Five Ways to Beat Inflation
In reality, a combination approach towards solving the problem of inflation works best.
On the Monetary Policy (central bank) side, high inflation is controllable by:
- Increasing Interest Rates
- Increasing Bank Reserve Requirements
- Directly/Indirectly Reducing the Money Supply
All three of these strategies aim to lessen the amount of money available for popular consumption (spending).
On the Fiscal Policy front, governments can play their part by:
- Imposing Higher Taxes
- Ensuring Central Bank Independence
Let’s look at each of these methods in a little detail.
Increase Interest Rates
Increased central bank interest rates force banks to lend money to their clients (borrowers) at even higher rates. This is because they want to make money themselves.
This discourages people from taking more loans. Because otherwise, they’d have to pay more in interest payments. As a result, they have less ready money to spend. That causes a decrease in the number of notes in circulation. Market prices drop, along with inflation.
However, keeping interest rates high for long can lead to unemployment. Because when companies have less money to spend, they can lay off some of their workers. A problem which is manageable with intelligent government policies. At least, to prevent the matter from escalating much further.
Increase Bank Reserve Requirements
Bank reserves are the cash sums that banks have to legally maintain at all times. This backup is important because it helps them to cover any withdrawal/lending costs. A larger reserve requirement forces banks to retain more cash at hand. This lessens the amount they have available to lend to borrowers. Less money to borrow means less money to spend, which again causes prices to drop. And inflation rates to fall.
Directly Reducing the Money Supply
This works in one of two ways. Governments can choose to call in the debts owed to them. This instantly reduces the amount of money circulating in the economy. A second way may be to increase the interest rates on bonds. This makes them attractive options for investors looking to profit. As a result, the currency’s exchange rate rises – causing imports to increase. Overall, both of these methods reduce the amount of money available to banks and individuals. In the hands of the government, this ‘stored money’ reduces inflation.
One of the most common ways in which governments do this is by raising income and VAT taxes. People, as a result, have less disposable income available to them, which means that they can spend less. This causes market demand for all goods and services to fall. Inflation soon follows in a downward trend as well.
Normally, such tax-related measures come as part of the government’s fiscal policy. Many local businesses note down every word of a new tax policy. Because it has the potential to affect their operations in both positive and negative ways.
Ensuring that the Central Bank is Independent
In many countries, the central bank is not independent. This means that its movements are controlled by the government of the day. That can force such policies on it that help to keep it in power. This is particularly evident in several developing countries.
A ‘dependent’ central bank, in this way, can lower interest rates before an election. This move helps to keep the population (and businesses) happy. Because they have an easier time paying back their loans. But in the long run, such tactics are very harmful to the economy. And especially because they raise inflation rates.
An independent central bank does not need to satisfy the ulterior whims of politicians. It can enforce policies that are in the best interests of the local economy. And this is particularly true in the case of inflation. Which needs restrictions through higher interest rates.
Learning from the Experience of Others
Most countries around the world have a mixed economy setup. This means that they have a certain level of government interference in their markets. And for the most part, these frameworks serve them well.
Sometimes, it helps to learn from the experience of other countries running on a similar economic model. In a recent conversation with a Spectrum customer service number executive, I learned something interesting. In the U.S, entire ISP companies, apparently, had set up small economies of their own. Complete with their own borrowing and spending concerns.