Economists take turns solving what has now turned into a mind-boggling condition. Maybe now is the time to think about the loopholes and return to the fundamentals of economics.
Recessions, pandemics, wars, or any unprecedented events have one thing in common; a positive or negative impact on inflation. Their economic impacts are wild or may be slightly swayed. Though, financial analysts or monetary policymakers heed to control the inflation caused by these events or by the natural law of demand and supply. The law of demand and supply’s graphical illustration was given by Alfred Marshal, and in classical economics, this law had been discussed in various ways by Malthus. The linkage between inflation and the law of demand and supply is obvious, but cruel arrogance arrives when profiteers try to take advantage of the unprecedented economic events, or when banks play with interest rates to control inflation or to give the GDP an artificial blow. They actually indulge the economy in an infinite inflation loop.
Initially, banks grant loans at cheaper interest rates adhering to the directions of the International Bank for Reconstruction and Development. When cheaper loans are available, it urges individuals to take more loans, and resultantly due to an increase in money supply, the demand for things increases; and when the demand increases the price increases automatically. This causes inflation. The economies having good governance, capacities, skills, and resources increase their supply to achieve equilibrium and control the impact of inflation. But in developing economies, when there is an increase in demand and subsequently in inflation, equilibrium cannot be established as supply cannot be increased due to a lack of good governance, capacity, skill, and resources combined.
Resultantly, inflation continues to soar in these economies. And when the experts try to intercede by adjusting the policy rates to discourage loans and encourage saving to control the money supply and hence inflation, they are really indulging the economy into an abyss and infinite inflation loop. When the policy rate is increased, the previous loans have to be returned on costlier new rates. How could businesses be sustained with increased interest rates? Without a doubt, the increased interest rates pass on to the cost of the product or services. Hence, increased cost definitely increases the selling price. Banks increase policy rates to control inflation, but businesses that have taken cheaper loans are not permitting it to occur as their liabilities have expanded with the increase in interest payments.
Moreover, in lieu of lessening inflation, the policymakers are reducing the demand and when the demand is reduced; the businesses that increase their supplies—i.e. production or services availing cheaper policy rates—will be forced to cut down their production or services resulting in downsizing. Hence, this will lead to unemployment and lower gross domestic product growth overall. So, when the policy rate decreases then inflation increases; and the cycle continues as it is evident that even when the policy rate decreases, inflation soars again. These underdeveloped economies indulge themselves in an endless cycle. And, to run their financial obligations, they take loans, and to pay those loans they take further loans. Adding insult to injury, most of these countries do have the most extreme extravagances. People are enjoying their luxuries and that too on loans.
Impulse spending is the new standard. In underdeveloped economies, utilising credit cards or loans to buy luxuries may seem easy but this practice indulges the economy into an unpremeditated debt trap. These economies should prioritise essential, non-essential, and semi-essential items.