Although inflation is still running uncomfortably high and many Pakistanis are struggling to keep up with rising prices, new data showed that price gains may be easing going forward. The vision is that if Pakistanis can somehow expect prices to drop in the coming days, not only can they make better financial plans for themselves, but in turn also help the government in taming inflation, which as we know has been painfully clocking at around 30% over the last few months. So how do policymakers actually determine whether inflation is getting better or worse? Although much attention is focused on the CPI (Consumer Price Index) report, however, in one’s opinion our central bank’s preferred measure should instead be the price index for Personal Consumption Expenditures since it covers a much broader range of spending and something that one feels in the current circumstances needs to be tabulated and released monthly by Pakistan’s Bureau of Statistics. The CPI index captures what consumers pay out-of-pocket for goods and services, while the PCE index covers spending by and on behalf of households, which includes non-profit institutions that provide services to households. For example, that means that health care costs in the PCE index reflect consumers’ out-of-pocket expenses as well as costs covered by employer-provided insurance, social security, medical covers, even philanthropic and non-government organisations, and government programs, while the CPI index only covers the direct costs to consumers. So, in effect, the PCE index, and health care have a much greater weight. Further, our central bank should also consider releasing average inflation figures that are tabulated over longer periods of time — ranging from perhaps, 6 months, to one year and up to two years — because month-to-month data can invariably bounce around or wobbly. Finally, one feels it would be beneficial for everyone’s understanding if beyond the headline inflation number, if the State Bank of Pakistan also looks at providing subcategories in the data for the markets to determine whether the price changes, if any, are temporary or longer-lasting.
One important measure is “core” inflation, which excludes volatile food and energy prices and almost all markets closely watch this benchmark. Food and energy prices can dramatically move up or down each month and might not reflect longer-term price trends, since those changes could be a result of temporary factors and could also reverse relatively quickly. If we only look at overall inflation, we may think that general prices are rising or falling more rapidly than they really are. For example, core CPI in Pakistan over the last two months has been increasing at a much slower pace than say in June & July this year. This allows us to in-turn understand specific price trends, for example, during the pandemic, consumers ramped up spending on goods that could easily be sourced online and therefore the spike in demand for such goods, along with supply chain disruptions led to the rapid run-up in prices for non-perishable food items or the ones with longer shelf-life cum extended expiry dates. At the same time, it is also important to monitor inflation for services like rents, which make up a large portion of core inflation and a significant chunk of household budgets. Private-sector data in Pakistan suggests that rent prices are already starting to cool, but reporting lags mean that it will take time for that to be reflected in the official data. However, it is good news. While easing rent prices would be welcome news for the government, however, ideally it will be good to see inflation lower particularly in essential food items.
So, in essence, while the central bank and the government should pay close attention to core inflation, they still have to primarily focus on food and energy, since this very category tends to primarily impact people’s expectations about future inflation - a relief in food and fuel prices inflation affect many consumers’ daily lives. Interestingly, categories such as new & used cars have seen price declines in recent months, which again is a good sign in the current battle against inflation. Personally, even though one thinks some of that momentum is starting to cool off, especially on the goods side, still there are too many components that are showing too much strength right now.
Finally, very importantly, your expectations about inflation matter. In modern-day strategies to fight inflation, governments also track inflation expectations, which is the rate at which people expect prices to rise in the future or if they even expect them to rise at all. This ends up affecting actual inflation because consumers, businesses, and investors could change their spending behaviour today based on what they think will happen to prices in the near term. This is where the Pakistani government needs to be very careful in not indulging in populist steps or any policy announcement that could spoke inflation, because these in-turn could actually spike inflation artificially, thereby wasting all earlier efforts in taming it. For example, a populist or an artificially jacked-up minimum wage rate would not just render domestic manufacturing uncompetitive vis-à-vis its regional neighbours, but also could become a problem for policymakers because it could lead to a “wage-price spiral”- a prolonged loop in which price increases lead to higher wages – in-turn putting even more pressure on inflation. We recently saw the Bangladeshi policymakers resist this to avoid the risk of losing Bangladesh’s export markets. If consumers are paying more for goods and services, they could demand higher wages from their employers. If businesses respond by increasing wages, they might continue to increase the prices that consumers pay to cover steeper labour costs. Once this vicious phenomenon gains ground, even the government at that stage could be too late to counteract it, thereafter making it a painful cycle for the economy. The next quarter for the country is going to be very critical in terms of tackling inflation and this government needs to tread very carefully in maintaining the hope and understanding that in Pakistan wage growth is slowing partly because the labour market is cooling off and partly because firms cannot afford significant wage growth in anticipation of the continuation of the high inflation at least for one more year – Any unreasonable measures would simply compound the current economic predicament!
Dr Kamal Monnoo
The writer is an entrepreneur and economic analyst. Email: kamal.monnoo@gmail.com