Posts tagged ‘inflation’

Does speculation cause inflation?

Amongst the various evils caused by loose monetary policy, one is speculation which further adds and contribute to inflation. Let us see how it happens.

Quantitative easing always causes prices to rise. Price rise encourages speculation and hoarding. Because you tend to buy it today when you know prices will go up tomorrow. What is happening today is that for a speculator, the risk of loosing is very low. Because he knows more money (demand) will be created by govt and as money (demand) will go up prices will go up always. Now if there is no money printing but sustained production, price rise will stop. As people will have to produce before they demand. A speculator in this situation is guaranteed to loose. When speculators will start loosing, the risk will become high and it will discourage people in the business of speculation.

Speculation contributes to price rise because the speculator knowing very well that prices have to rise as a result of quantitative easing, also starts hoarding. Thereby contributing to the momentum of the bubble.

I would like to quote a classic example recently given by Ron Paul in the republican presidential debate in US. “A dime of silver minted before 1960 can still buy the same gasoline today as it could buy in at that time”. What does it mean? It is not the price of commodity rising but the value of currency going down. We know that govt is printing and dumping the money in the economy. Money printing cost nothing but production of commodities is not that easy and cannot grow at the same rate as money printing. Availability of more money (demand) and less supplies are causing inflation.

A Clueless Government?

The Indian govt has decided to once again raise the price of petrol. And this followed RBI’s decisions to raise the interest rates. As previously mentioned in this blog, this was well anticipated because Government is doing nothing to improve fundamentals problems but only taking forward its failed policy of debt financed consumption.

Govt deficits are the real reasons for price rise. Deficits are high because govt spending is high and way beyond its means. Now since RBI is tightening and cost of borrowing going up they are trying to fill the gap by directly taxing people. The tax could be in various ways , raising the prices of petrol, LPG, Train fairs, etc. The bottom line is they have to get money for their deficits.

The question then is why and where they are spending so much to create such high deficits. Ideally when you borrow to open a factory that produces something, the borrower can repay to the lender. But what will happen if we start taking personal loan from bank and consume it. Once this money is over, thats it…there is no way the lender can get his money back because the debt money was never used efficiently. Govt has propped up a huge service sector of govt employee whose contribution to the economy is almost zero. Govt debt is used to finance the salaries of this service sector and several of its useless schemes which are like cash distribution to people to get votes. Recently when the petrol prices are hiked, you might also have noticed that govt has also increased the DA and pensions by 7%. It is not that I do not want people’s salary to increase at this time of inflation but from where this money is coming? When govt does not have money, they either print money (QE) or take debt. In both cases the problem of production is not solved but the crisis is only pushed forward. We are not taking debt to open factories but actually consuming on debt and thats the problem. I am wondering why the TV anchors are not calling and questioning the likes of Sudhir Bhalla, Gurcharan Das, Montek Singh Ahluwalia who all these 20 years supporting the current economic policy of Manmohan Singh.

Analysing and deciphering trends of Indian economy as well as the minds of our leadership is not very difficult…just listen to what their western fathers are saying and you will hear the echo in action. Our leadership is so hollow that they simply believe that by copying west all their problems will vanish. First they followed west like a loyal soldier without the slightest of application of mind and then when the west got into trouble, their faith and inferiority complex is so high that they are unwilling to think differently. Everything that Bernanke and Geithner or their masters like Paul Kruggman are thinking and doing, rest assured the same policy will be followed here. So if Bernanke said, “we don’t have enough tools”, Chidambaram repeated the same thing few days after. In the G8 summit in Canada in 2009 (If I remember correctly) when the Europe called for austerity fearing inflation and US was alone demanding stimulus, our much trumpeted economist PM called for more spending supporting Ben Bernanke.

Now when Pranam Mukherji called rising inflation as “sad news” … it means he is clueless and does not have a right to be in his position. If inflation is to be predicted by astrologers what is this ICRIER type instituions are doing?

Why RBI or Government can not fix inflation?

(This was also written as comments to R Jagannathan’s article in on 9th May 2011. The link is given below.)

RBI or government can not fix inflation because growth of economy is actually growth of paper money which in itself is inflation.

Growth is measured in currency. When we say growth, it actually means growth of paper money. Quantitative Easing (15-19% per annum) + fractional reserve system is creating a flood of money in the economy which is bound to create inflation. Money is not based on gold anymore after 1971 when United States defaulted on its debt and brought down the Brettonwoods system, thereby breaking the last thread of gold standard. Reckless printing of money without any discipline of gold standard devalues currency and it is not the price of commodities going up but the value of currency going down. While the currency can be printed easily commodity can not, and instead, is a result of hard work and time. The resultant inflation as a result of currency devaluation can be temporarily controlled by increasing debt and thereby increasing supply. Since debt is not considered in GDP and discounting a low inflation which is temporarily pulled down by raising debt, shows a mirage of rising GDP. This gives an incorrect impression that economy is growing. 

When debt can not be increased at the same pace as growth of paper money, then, suppressed inflation is bound to re-surge. Today, that is what is happening as due to soveriegn debt crisis there is enormous pressure on countries to contain debt. The total money supply is almost doubling in every 4-5 years and so as our national debt and GDP.

RBI is raising interest rates but at the same time pumping money into the economy, thus neutralizing any measure taken to suck liquidity from the system and therefore we are not getting much relief from inflation despite of series of interest rate hikes in last 1 year.

Growth and inflation are synonym as growth of paper money (which is not based on gold after 1971 when Richard Nixon brought the Brettonwood system down unilaterally) devalues currency and there is no resultant automatic rise in commodity production as is assumed by keynesian philosophers. Instead, growth of paper money with negative real interest rates encourages speculative investment by way of financial markets thereby turning the whole economy into a casino economy where wealth is not created but only redistributed. This is the cause of rich becoming richer and poor becoming poorer.

Currency devaluation by way of Quantitative easing and fractional reserve system is a day light robbery of buying power of real wealth generator such as a farmer who, after great deal of pain and hard work, earns this buying power stored in a paper currency. However more cheaply printed money takes away store of value function of money and reduces its buying power. Why do you think counterfeit is bad? because counterfeit works like adding water to milk thereby reducing milk’s potency. In the same way when new cheaply printed money is added to already existing money than it reduces the buying power of existing money because more money is now available to chase same supply.

The Rise & Rise of Prices

Many people tend to blame commodities markets for the rising food prices but they fail to recognise that high leverage based commodity market is just a resultant contributing factor and not the root cause. Infact, by selectively putting a bar or “max retail price” on food prices alone or artificially manipulating the rules of the game by selective intervention in the commodity markets, while ignoring the inflation in other sectors e.g., services sector (in form of salaries), will only discourage food production. This is because farmers will always get less money forcing them to quit their current occupation and move to better paying avenues. Why not, for example, ever increasing pay packets of the service class is considered to put under check? If we play by fair rules then while every one has a right to choose the price for the product of his labour, then why a farmer has to work under controled price regime? Why not a bar on the fat-salaries of CEOs, politicians, Film Stars, crickters, Journalists, bureaucrates etc? If the prices of commodities goes up, it is the producer of commodity who gets benefitted (though a major share is still looted by the middlemen).  How can a farmer from the rural area pay for rising education or medical expenses or rising prices of industrial commodities without getting a raise in their earnings too?
This ever increasing pay packets for unproductive people which is a result of massive money printing or stimulus economics, is causing prices to rise. There are two types of workers in an economy. Producers and service sector. Producers produce for themselves and for the service sector. In return service sector exist to service the producers. If producers are not satisfied and do not see a value in the service, in an ideal world such jobs should cease to exist and people from service sector should return to production. But that is not happening. Instead it is the service sector that is playing the shots and getting benefitted from the currency devaluation while the producer’s are loosing. Phony and unproductive service sector jobs are being created with huge salaries that a hard working honest farmer can not even dream off.
Further to that a farmer, as all savers in the economy, suffers from the theft of purchasing power. Infact it is this theft of purchasing power that enables sustainence of this huge unproductive service sector. This day light theft by inflation is invisible and therefore simple common man can’t see it. Let us try to understand it with an example. After a full day of toiling in the field, a farmer gets Rs 100 note which he tries to save in the bank. At the same time govt creates many more such notes without enough production in the economy. This devalues or dilutes the purchasing power stored in Rs 100 note owned by the farmer and the same purchasing power is now shared by new money that has come into the economy. Due to this currency devaluation, money is loosing one of its key function “store of value” (Functions of money: Unit of account, Measure of value, Medium of exchange, Store of value). PRODUCTIVE CLASS HAS TO COMPETE WITH UNPRODUCTIVE CLASS FOR THE SAME AMOUNT OF SUPPLIES. THIS CREATES INFLATION.
It is the Fiat money system that is the root cause of price rise where in, it is believed that causing inflation by raising the salary of people results in high production because the pain of price rise will force people to produce more. This however completely ignores that production is a function of hard work and natural resources are constrained. So while it is always easy and cheap to print money exponentially, it is not the same for production.
Price rise is often blamed on hoarders, speculators, weather etc. But Hoarding happens when you know prices are going to rise. Why would somebody do hoarding when prices are falling? And why prices will fall when there is “too much money (which is also increasing) available to chase too few goods”? Prices will fall WHEN THERE IS MORE PRODUCTION. But why would somebody choose the hard work of production when money can be gained through easy routes i.e., by phony service sector jobs sustained by loose monetary policy. In Oct 2008, when TARP stimulus (which is massive money printing to prevent bank default) was first rejected by US congress, all prices including that of Gold fell down and markets crashed. Why no one was interested in hoarding then? Because the bubble was busted and all the money percieved to exist in the economy was gone. Money creates demand; and in the absence of demand, prices fell down. Commodity traders makes money by betting on inflation. They know that more money is coming to the economy which will increase demand and prices will go up. So by hoarding they will win and make money. An example is the recent spike in Gold and Silver prices when Federal Reserve Chairman Ben Bernanke announced that a QE3 (3rd round of massive and unprecedented money printing since 2008 crisis to avoid a financial collapse) is being contemplated. The moment this news came, prices shot up across the countries. We can’t say that hoarders are acting suddenly in an organised fashion across the world in all economies. Prices are rising as a result of central banks’ money printing.
Inflation is the increase of money supply and price rise is its impact. As people become aware of the fraud that inflation is the creation of none other than govts, more and more people will buy commodities as a hedge against inflation. I love this line from Peter Schiff, “It is not prices of commodity going up but the value of currency going down”. Root cause of price rise and resultant social evils, including the casino economy, is Fiat money system.
In 1971 when Richard Nixon brought down the brettonwoods system and decoupled dollar with gold, he used the same excuse “threat of speculators”. An excuse was made to hide the fact that US had defaulted since it has printed massive money and was not having Gold to back it. In the bretten woods conference 1946, US has pursuaded the world that it will only print money according to the gold it has and other countries will peg their currency to dollar. US dollar was accepted as a reserve currency or internationally accepted medium of exchange. So a fixed exchange rate was decided and it was the order until 1971. Now since US was spending recklessley to meet the expenditures from its space mission, korean, vietnemese wars, cold war etc. It started printing massively than the gold it had. This started creating inflation in countries that were exporting to US because they had to print currencies in line with falling dollar to maintain the exchange rate as promised in the Brettonwoods system. This resulted in countries like France getting suspicious and they in 1970 started reducing dollar reserves for gold thereby threatning US economy because it was not having enough gold to pay back. Result was “Nixon shock” when on 15th Aug 1971 Richard Nixon unilaterally announced cessation of direct convertability of dollar to gold thereby breaking the promise it had done to world. The reason cited was “threat from speculators”. Since 1971 we are living in a world with Fiat money system. Fiat money is that money which is not backed by anything and it just need the consent of government to print money as much as they like.
Result of this reckless money printing was runaway inflation in the decade of 70. Later what came to the rescue of US economy were lenders of America, primarily Japan and later China. Goods worth trillions of dollars were loaned to America in the last few decades which temporarily solved the supply side problem while money printing continues to grow at exponential rate thereby creating an impression of growth. GDP growth is measured in terms of growing money while discounting inflation but does not take into consideration the debt which helps to control the inflation. Growth was basically the exponential growth of paper money while inflation was temporarily checked in by raising debt levels.
It was important to discuss United States, because it was US that created this system of Fiat money and the world leadership including that of India emulated it because it saw United States flourishing, prospering, though little did they realise that debt financed prosperity is always at the cost of future pains.
The situation today, however is different. The payback time started in 2008. Exponentially growing Debt requirement has gone up so high that its lenders can not afford it. Lenders like China are supplying goods to America in return for cheaply printed paper that is not backed by anything, most of which they are investing again in buying US treasuries (govt debt). As a result, while the trade surplus of China is growing, inflation is sky rocketing due to shortage of goods as goods that could have otherwise been available for local consumption are being exported.

India is different case since it has been following same path as the US did. While the money supply has been growing exponentially, it is the trade deficit which is increasing unlike the trade surplus of China. This clearly shows that we are importing to meet our growing demands (money). And this import is consumption which is financned by debt. India’s external debt is almost similar to foreign exchange reserve.
In context to India, while the money printing is growing at exponential rate of 15% to 22%, debt levels are rising almost at the same rate. Please see the chart showing GDP, M3 (Broad money supply) and National debt and notice how they all are growing together. More availability of goods helps in controlling prices but if goods are financed by debt then this period of prosperity is only temporary as debt has to be repaid with interest. So more debt is taken to pay for the previous debt and this creates a debt trap. When debt becomes difficult and cost of borrowing (interest rates) increases, govt is forced to control imports. Imports can be controlled by raising the prices of imported commodities (such as crude oil), which is what currently happening in the economy. (Note: Please notice in the chart that how in 2008, M3 crossed over national debt, thus marking a period where debt is becoming difficult and M3 has to be increased to meet fiscal deficit targets.)
Another problem that India has is that a major share of our exports comes from service sector such as IT. We are exporting to countries like US and Euro zone where the trade deficits are enormously high and who are struggling to prevent a default by a series of Quantitative easing or stimulus or in other words money printing. When our customers will go bankrupt, our service sector will be in deep trouble, thereby widening the gap between our income (exports) and expenditutre (imports). Even today our trade deficit is a matter of concern but with financial crisis deepening in west, the situation will be even worse.
The times ahead are extraordinary. From east to west (Japan to US), a threat of debt crisis is looming large. Growth of debt is becoming impossible as the lenders are suffering from their own problems e.g., earthquake in already debt ridden Japan and massive runaway inflation in China. In the absence of debt, supplies are becoming difficult. But money printing (QE1 -Oct & Mar2008, QE2-Nov2010, QE3-an inevitable reality) has to be continued to sustain the unproductive service sector jobs. If the QE (quantiative easing or money printing) is not done then to prevent the default and to run the govt massive austerity is required. This means massive cut in service sector jobs, resulting in a series of defaults, causing a domino effect and bringing the liquidity crisis of 2008 back to life. But if the QE is done, it will further create inflation or price rise, eventually, some day, leading to hyperinflation as happened in Zimbabwe, Yugoslavia, Weimar republic etc. It was the debt that was supressing inflation and creating a mirage of growth but as debt becomes difficult, inflation will explode with an accelerating frequency.
RBI is continuing to raise interest rates but at the same time pumping money into the system to prevent default by government (to bridge the fiscal deficits). While raising the interest rates sucks the money from the system thereby reducing demand, increasing money supply does just the opposite i.e., helps in creating demand. Therefore there is high probability that there will be no respite from inflation because no government will have the guts to embrace a bust and prices will continue to rise until money dies or currency collapses. But even if a bust is embraced it will mean total revolution and as Gerald Celente says “when people loose everything and they have nothing left to loose, they loose it”. The double dip recession or a depression, however is inevitable either by way of hyperinflation (currency collapse) or a liquidity crisis

Why the prices are rising?

One is surprised that how clueless the government is in controlling the price rise in India. Equally clueless are those who are reluctant to look beyond the conventional arguments of hoarders, traders and weather, to blame for price rise, as if these are responsible for the across the boundary inflation in all emerging economies. One wonders, if the hoarders are such an organized group with excellent cold storage facilities and where they can keep significantly large perishable goods for a long period of time and in a coordinated way across the country or globe? A recent sting operation by a news channel even failed to find any hoarders or groups who can be held responsible for a general price rise across the country. While hoarders and speculators take advantage of a situation and add salt to the wounds, they are not the prime reason of price rise which is happening in all emerging economies as a result of inflationary economic policy.

The price rise is due to the systemic issues in ours and global economy which are coming to the fore everyday. When loads of money is printed and distributed to the unproductive service sector, people who are feeding the society starts turning away from production. The decreasing productive class has to compete with increasing unproductive class who have got almost all the share of this cheaply printed money to make a claim on the same amount of supplies. This results in prices to rise. It is not the prices of commodities going up but the value of currency going down because more cheaply printed money is being pumped into the economy and which is devaluing the currency. When this is being done globally, thanks to the the economic policy of globalization, we have to devalue our currency in line with dollars to keep our exports competitive. Debt based consumption combined with reckless printing of money and the fractional reserve system is the real cause of price rise.

Let us first understand what a fractional reserve system is. Owing to what is called as fractional reserve system, when government creates money, the total money that is created in the system is increased many times more. To understand, Let us say initially there is a 100 unit of new money deposited in the bank. The bank is allowed to loan all except a certain minimum percent which is called as cash reserve ratio. In India this ratio is currently 6% but for convenience let us assume this ratio is 10%. The bank will then keep 10% and loan 90 to other customer. The borrower will then make a payment to avail goods and services at the cost of this loaned amount which is a “promise to pay”. The person whom the borrower has made the payment deposits this Rs 90 to some bank thereby returning this money to the banking system. The banking system will then loan 81, and keep 9 with it. So 100 unit of new money by way of loans can create a money of 1000 unit in the economy. While the actual money is 100, the money created in the economy is all loans or promise to pay. The money was created from thin air and banks have been loaning what was actually not there, with them.

For more clarity please visit fractional reserve system video else where in my blog.

Quantitative easing or printing of money coupled with fractional reserve system creates a flood of money in the economy. Increase of money if not in proportion to supply of commodities will create prices to rise. When the supply side is taken care of, by increasing debt and importing goods from outside, inflation is controlled but trade deficit and external debt rises. Since the cheaply printed money can now buy loads of goods available in the market with low prices, it results in people believe “Wow! What a prosperous economy?”. But what we forget is that this prosperous life is at the cost of future consumption since the debt can not grow indefinitely and has to be repaid with interest. The bubble has to burst. When the continuous debt becomes difficult, supply of commodities is affected and inflation goes up. It is precisely happening in ours and many other economies now. Due to the sovereign debt crisis that we are seeing in Europe, many economies like India have become conscious of their increasing debt levels. Since they are now trying to contain the debt, the supply is affected, resulting in price rise. Note that recently our imports growth rate has reduced and was overtaken by exports growth rate. While many cheerleader journalists considered their job done by applauding the trend, few have attempted to understand the impact on supply because the government is now conscious of the debt levels and is trying to contain the imports. This will inevitably have an upward pressure on the prices as while the demand is being sustained by the availability of money, the supply is reducing.

Due to our dependence on high imports and debt, foreign exchange becomes extremely necessary. The dollars we get from our exports have been the result of same economic policy of stimulus or quantitative easing coupled with fractional reserve system. This leads to devaluation of currency. Due to devaluation of dollars, our currency appreciates and therefore exports suffers. Therefore the country need to devalue the rupee in line with the devaluation of dollars so that exports remain competitive. This is done by printing of money and increasing liquidity. So next time when we hear something like “government is injecting capital in the economy through xyz bank.”, we will know that this is devaluing the currency. The contradiction is evident in the government policy when on one hand they increase the money supply, on the other hand raises the interest rates to absorb the liquidity.

The reason for the contradiction I explained above is the shortsightedness in the leadership. When Friedrich Hayek asked John Maynard Keynes that his theory is dead in long run, he said “In the long run we all are dead”. Well that explains the chosen shortsightedness that prevailed over the world leadership after the 2nd world war. Shift in fundamental values do not necessarily show its result within a span of a few months or years but may be in decades or centuries. And this is what precisely happened here. The shift from fundamental principal such as Say’s law “supply creates demand” to Keynes’s principals of inflation or quantitative easing creates demand, helped to create a prosperous society in the west which thrived for decades, on debt based consumption until recently when their growth on debt became unsustainable. We have been simply following the west who adopted keynesian principals during and after 2nd world war. Inflation does not create demand but does a smart theft of purchasing power of common masses without them realising that they are being looted everyday thus making them poor and increase disparity in the economy. Inflation is devaluation of currency. It is printing of money and increase of money supply. Its not the price of commodities going up but the value of currency going down simply because too much cheaply created money is chasing too few available goods.

Says law of supply creates demand puts a descipline in place. It tell us that before one make a claim on goods produced by others one must meet his obligations of producing goods to pay back in return. In vedic principals this can be translated as “Ten tyakten bhunjitha” which means one should only consume after making a sacrifice. An example of supply creates demand is that if a shoe-maker wants to earn more money, he needs to produce more shoes to earn it. Money eventually is a claim to others labours by ways of commodities. We can’t just print money out of thin air and give it to a person who does not produce and spend, thus competing with those who produce. For the limited set of goods if unproductive people are made to compete with productive people, prices will rise. Today we see around us all the service sector based jobs who are getting a large share of this cheaply printed money while the poor farmers who bear the burden of this phony service sector are made to live a life of abject poverty.

In near future, I expect that eventually whether willingly or due to global events such as dollar crash, it will be difficult for the government to increase the debt to import and increase the supply. Government will put the burden of national debt on tax payers and to reduce imports bill will increase the prices of fuel. Increase in the prices of fuel has a direct bearing on prices of all commodities as transportation prices increases. At this situation, I expect that the government will try to absorb the liquidity, by exorbitant rise in taxes and interest rates. This will cause economy shrinking and GDP growth will be affected and go down significantly.

The timing may be debatable though I strongly expect it to happen in 2011 but the downward pressure of the GDP will require a stimulus to prevent a 2008 style bust. This is because a series of job losses caused by austerity or savings will result in defaults causing a crisis in the banking system. A quantitative easing on the other hand will cause massive inflation and if continued then eventually end up in zimbabwean style hyper inflation. The government will have to adopt one of the two evil choices, either to default which means liquisity crisis or to choose hyperinflation which means the paper money will loose its value. It is not just a problem limited to India but many countries including Europe and US who have been doing the same will face the same problem. Europe is still facing the same problems and many countries like PIIGS (Portugal, Ireland, Italy, Greece and spain) have been facing the same debt crisis and looking for one round of quantitative easing after another to bail them out. They have been bailed out in May 2010 by a round of quantitative easing and they are now again requiring another stimulus. Uncle sam though with unique advantage of reserve currency is leading this road but surely will be the first to fall from the cliff as it has unsustainable levels of debt. The inevitable crash of US dollar will result in the collapse of global financial system.

Quantitative easing explained

This is an excellent video on you tube that explains quantitative easing.

Greed, Inflation, Debt and Nirvana?

Even though I see much sense in the arguments forwarded by free market supporting classical economists in the diagnosis of current economic crisis, I have not yet made any opinion that it is always right and a general solution available for economic prosperity. However I am convinced that the current economic path of producing little and consuming more on borrowed money and then punishing the real wealth generators by printing currency and raising inflation is nothing but a daylight robbery of those who are producing for the economy and enabling its sustenance.

It reminds me the story of that farmer who was having a hen that used to lay golden eggs. One day he thought, why not take all the eggs together: and he ripped apart the stomach of the hen thus loosing what he had. Much in the same way, we should understand that the hen in our economy are our farmers and producers who are producing essential commodities for us, so that others can invest labour, in either producing goods for them or providing welfare to them, through services. We must not forget that these farmers and producers, invest their hard earned wealth and bear the burden of service sector and deserves in return the fruits of services, such as research and development, education, supporting administration etc or goods produced by secondary sector like car, TV, furniture etc. But if you look at our society in India, what is that we have done for the people employed in primary sector? What is their standard of living? What incentives our system provides one to work in rural areas, agriculture or primary sector.

Due to availability of supplies in villages, people living in the rural areas undertake employment in agriculture and related industries. They require better irrigation facilities, electricity to produce etc but they are left on their own to arrange means for their living. In the absence of any cold storage these people are forced to sell their produce in less than their cost prices. Rising cost of agriculture combined with inflation has forced farmers to commit suicides and according to India’s National Crime Records Bureau estimates; approximately 184000 farmers have committed suicide from 1995 to 2007. Isn’t this a tragic irony, that those who toil hard in the fields, bear high risks and generate real wealth for the economy are the ones who are given least of the share in the wealth of economy?

As I have explained earlier that service sector does not produce. In other words, society consumes through service sector which means people in the service sector should act in the welfare of the state and at all point of time society should strive to keep only bare minimum people in service sector so that the producers should not feel the pinch. In fact in the ideal society it is the producer who should be able to decide if he needs any service or not because he is the one who pays for that with his labour. However government spending on the unproductive service sector with no or limited accountabilities combined with fat salaries only attract producers towards it. Due to fewer incentives, people who have options are moving to areas where the return on investment is higher to an individual so that he can lead a better life. So unsurprisingly people chose to quit their fields and move to cities seeking employment in service sector which thrives on the support of government. Even though this migration is, for most, humiliating and painful, poor people are forced to embrace it to escape from the desperate circumstances they were going through and which has lead others to commit suicide. A recent example highlighting this plight is the egregious attack on migrants by Raj Thackeray’s goons. Apparently, this does no help in increasing production in the economy.

Last 20 years of government policies have only compounded the problems. A large and unproductive service sector with plentiful artificially created wealth of paper money has encouraged reckless imports for consumption resulting in a rising trade deficit for the country, while at the same time, ripping apart the stomach of the hen that lays golden eggs for us and pushing our producing class to commit suicide. Not only this indigenous production by large network of small scale industries has been allowed to wipe off by pitting them against large foreign multinational companies who have glutted their goods in ultra low prices thereby making manufacturing unviable by the small industries. Result: We are borrowing heavily to run our nation and imports and trade-deficits are rising at horrendous rate threatening our economy with a debt default. S&P rating only substantiates that.

One argument that is often given to justify the import bill is that the import is being done in capital goods to increase exports. First I disagree with it because the data published by ministry of commerce does not suggest so, but well, if 20 years of compounding trade deficit, horrendously increasing debt has not given us a trade surplus then I wonder when our investment will pay off? Similarly arguments are given in favour of pitting our small manufactures against foreign multinationals. One argument is that the MNCs will bring with them technical knowledge. There are no shortcuts to gain technical knowledge especially when it is the bread and butter for these companies who will never allow it to be shared or leaked out. We can see how apple, Google and all these company fight for IP rights. Another argument that is given is about quality due to competition. First of all by destroying our small scale manufacturers who were competing with each other we have ourselves destroyed competition and left the field empty for the small number of big players, who once are firmly settled, thereafter start dictating terms. Not going into further arguments, the proof of the pudding is in the eating. The results shows us 20 years and where we are: We have a large trade deficit that is only increasing, external debt increasing, inflation increasing resulting in poor credit ratings that was negative until recently and now just stable (even though I believe these agencies are only too kind and late riser).

Every year our country, similar to US, UK, PIIGS (Portugal, Ireland, Italy, Greece and Spain) and many countries of the world, borrows more than it produces (fiscal deficit), accumulating debt. They borrowed money from countries that produces for the world like China, Japan, and Germany etc. This borrowed money enables more spending which is then taken into account for calculation of growth. It is these figures and indexes which are shown to us by Governments and vested interest groups who have attained mastery in the art of manufacturing complexity in otherwise simple economic principals so that the poor common man loose his economic common sense and start trusting those who rob them of their wealth. The problem is compounded when the borrowed money is not spent to increase production but spent on unproductive service sector enabling high consumption. This coupled with government policies supporting unproductive people and punishing real wealth generators only acts as a catalyst towards the fall of economy.

Rising inflation caused by printing of money ultimately results in increase of price of the commodities if the supply is not increased. What if the prices are contained by external and internal borrowings? This will help temporarily in containing the prices but eventually result in accumulation of debt and a possible default. This means that there are not enough goods in the market because internal production was never sufficient and that’s why borrowings were done. Due to higher debts or default the continuing borrowings becomes unsustainable, leaving people only with loads of paper currency that was printed to create artificial growth. This is called currency crisis or hyperinflation: A similar situation as the world has seen in Argentina, Yugoslavia, and Zimbabwe etc.

Those who take pride in our “highly skilled” IT-ITES and other service class who provides services to countries like US and UK must understand that the present arrangement also is unsustainable. This is because these countries to which we provide services are already bankrupt as they have long back abjured their path of hard work and labour but due to their past reputation are still able to thrive on borrowed money. This irresponsible behaviour has resulted in accumulation of massive debt which can not be thought to be repaid by any ray of imagination. Their house of cards is set to fall. But when this will happen and US dollar will loose its reserved currency status, countries like India will go through much pain. As everywhere in the world, the food prices and essential commodities will sky rocket and people will have loads of money that won’t buy them anything. Even in creditor countries like China, Japan, Germany, over dependence on exports and external markets will result in deflation and job losses in short run.

As great masters have said, I firmly believe that we are heading towards an unprecedented time when the events will unfold in such a way that shatters many perceptions, believes, faiths, prejudices while at the same time making people learn the real principals for economic prosperity first hand from their own experiences leading to a renaissance or new age of truth and righteousness.

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