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Wednesday, October 5, 2022

Between inflation and growth

By N.V.P.

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The Saigon Times interviewed Tran Ngoc Tho, Ph.D, professor at HCMC University of Economics

The Saigon Times: Economists have not reached common ground on measures to contain inflation, like Joseph Stiglitz, who says raising interest rates cannot fix inflation because “it’s not going to create more food,” while Lawrence Summers urges Fed to raise interest rates to a higher level than the inflation. Why is there such stark difference, and what is your thought?

Prof. Tran Ngoc Tho: The world has entered a new era within a new, abnormal macroeconomic and geopolitical context, with short supplies fueling inflation. The undersupply has fired up inflation in the past year which may continue further. This is a profound change from decades-old dominance of demand-related factors. The new background has radically changed our thinking about the macroeconomic environment and market forces.

A new world taking shape as influenced by the persistent undersupply will result in unforeseeable macro uncertainties, against the traditional mindset that supply shocks are “momentary”. The monetary policy, therefore, cannot safeguard both goals of inflation control and growth: we must choose one of the two. Central banks have to either accept higher inflation, or curb demand to harness inflation. Given the historical correlation between unemployment and inflation, if Fed seeks to stick to its target inflation rate of 2% amidst reduced supply, such a stance will spur unemployment stateside to almost a double-digit rate.

When inflation is stimulated by demand, then stabilizing inflation means stabilizing growth, without any sacrifice. Now, however, inflation will rise even when economies do not overheat. In my opinion, both Stiglitz and Summers are aware of the problem. They are at odds over data leading to decisions. Summers acknowledges supply disruptions, especially in relation to Covid-19, the conflict in Ukraine, and the anti-globalism which have all pushed up prices. But the real culprit is the demand factor. Summers has put forth multiple convincing data to attribute high inflation in the U.S. to the overheated demand, mainly due to excessive expansionary fiscal and monetary programs of the government over the past decade. Therefore, it is no wonder when he suggests raising interest rates to contain inflation. It is probable that data used by Stiglitz point to a contradictory view that supply disruptions give momentum to inflation, which explains why he says raising interest rates is not going to create more food.

For me, the stance or reasoning supported by Summers’ data is more convincing.

Supposed that Vietnam will face the inflation problem, then what lessons of the past, at home and abroad, can help formulate a right approach to fighting inflation?

– An interesting point is that, to back up his view on raising interest rates, Summers did mention Vietnam as a case study, stating that the hyper-expansionary fiscal policy spanning four years spurred the inflation rate from 1% to 6% (he did not say when, but probably in 2008). I fully approve of his view. Under any circumstances, even when stimulus programs are needed to rev up the economic recovery, we must always adhere to fiscal and monetary disciplines for inflation control and macroeconomic stability.

We possibly may face greater macroeconomic uncertainties in terms of both growth and inflation in the coming time. To minimize growth uncertainties, we need to live with constant inflation triggered by supply shocks. This situation is unprecedented. No historical lessons can apply to the current, new context, but no matter what happens, we must never let the inflation target be unanchored.

For Vietnam, inflation risks do not stem from higher prices caused by the short supply, nor from rescue packages to hand out money to the people, but rather, such risks are imported. So, what is the right way to deal with imported inflation?

– If inflation is really imported, we should not overly rely on administrative measures like tax reduction, price control or forex rate management, because such measures would distort the market, as it may be “penny wise but pound foolish”. The global supply shocks also provide an opportunity for enterprises and the people to adjust their business strategies and consumption behaviors, rather than an excuse to resort to administrative intervention.

Moreover, Summers’ reasoning gives us a more rational perception of imported inflation. There should be more reliable data to ascertain that the current inflation does not – or mostly does not – stem from higher prices caused by the scarcity of commodities, or whether it is triggered by monetary factors. Years ago, many people also alerted the risks of imported inflation, but finally, the culprit turned out to be the excessive aggregate demand stimulus.

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