Introduction
Recently the Bank of Guyana introduced a $5000 dollar note. Some see this as the result of inflation, while others see the move causing inflation. Several good points were made. This large bill could increase hassle cost when transacting, particularly for mini buses and taxis. It is time for the monetary authorities to persuade the public to increase the use of debit and credit cards.
There is however serious misconceptions regarding the implication of the new bill for inflation. I believe the misconception stems from two sources: (i) misunderstanding how modern money is measured; and (ii) misunderstanding of the causes of inflation. I would use this column to explain how the stock of money is measured in Guyana and elsewhere; and explain the forces driving inflation. In keeping with the theme of national unity and human development, I will explain how inflation is largely driven by social and economic conflicts.
Measuring modern money
The textbooks often provide several characteristics money must satisfy. It must be acceptable by everyone as a medium of exchange; it must enable us to store value; it must be portable; it must be durable, it must be divisible; it can be used to settle debt; and so on. Therefore, what item in a modern economy satisfies all these characteristics? Currencies in circulation – the $5000 note, $1000 note, $500 note and so on – obviously satisfy these characteristics. However, some folks have raised doubts about the ease with which the $5000 note can be divisible when paying for certain transactions like, for example, a bus fare. The new note will create some transaction costs in that some individuals will have to incur search time to look for small denominations before engaging in several transactions.
Money also includes chequing accounts against which people can write cheques to make payments. Debit cards can also be used to make payments that draw down on savings in the chequing account. The same can be done with saving accounts. We can spend the money in the saving accounts by using debit cards or withdrawing cash; hence saving accounts are also money. Small time deposits (certificates of deposits) are also counted as money. These accounts can be withdrawn with some penalty, often the saver loses the interest if the account is broken before the maturity date. There are other items like deposits in money market mutual funds that can also be counted as money, but obviously these mutual funds are not yet in Guyana.
The money stock, therefore, can be added up as follows: currencies in circulation (like the $5000 and $1000 notes) + chequing accounts + savings accounts + small time deposits. This measure of money is often called broad money by economists (M2). There is also a more narrow measure money (narrow money) called M1 (there is even M0 but let’s not get into that).
I have calculated the currencies in circulation as a percentage of broad money as at Dec 2012 for a few economies to get a perspective of the extent of cash being used. As at Dec 2011, the percentage for Guyana is 23.7%, Barbados 22.6%, Jamaica 16.8%, Trinidad and Tobago 5.7% and United States 11%. Interestingly Guyana is not far ahead of Barbados, while Trinidad and Tobago has the smallest percentage of cash in circulation.
Causes of inflation
From the time students take CXC economics they are told inflation is a monetary phenomenon. The fact is inflation has more complex triggers to which money responds. The effect of money on inflation depends on where exactly in the business cycle the economy finds itself. In a recession or bad economic times, expansion of money is like “pushing on a string”. The created monies will sit idly as excess reserves in the banks because the demand for credit is weak. This is similar to the situation in the United States today. Although the official recession is over, demand for loans is not as strong; therefore the easy money policy (quantitative easing) of the Federal Reserve results in excess reserves, which have risen to the highest level ever.
The excess reserves are used by those with the information and collateral (mainly the rich) to borrow cheaply to invest in financial markets; hence the increase in stock prices; and hedge funds are able to borrow cheaply to buy up real estate. Therefore, excessive money does not create inflationary pressures for consumer goods; instead it engenders inflation in asset prices like stocks, some commodities and might have accounted for the turnaround in housing prices. The price of consumer goods (milk, bread, computers, etc) is growing at a significantly slower pace in America mainly because wages have stagnated. Inflation, therefore, depends on wage and salary pressures instead of money, which merely adjusts to the demand created by higher wages (economists use the fancy term endogenous money to describe this phenomenon).
Wages in America are stagnant mainly because over the years capitalists have been able to reduce the bargaining power of labour by weakening unions, outsourcing jobs and today switching to robots. Consumer demand was maintained by providing easy access to credit cards, an obviously dangerous situation. Therefore, inflation or deflation is triggered out of the conflict for wages and profits. And that takes us to Guyana where the struggle for better wages is deeply rooted in the politics of the country. In the past GAWU sabotaged the PNC government and even responded in the PPP regime with strikes against the Jagdeoites. More recently labour unions have been demanding a 25% salary increase for public servants. No doubt the union leaders observed the lavish lifestyle of the PPP elites and oligarchs. They want a larger share of the pie. That is understandable but not without consequences for the very workers the union bosses represent.
Any salary increase not backed up by productivity increases in the nation as a whole will likely result in wider public deficits and eventual depreciation of the exchange rate and loss of foreign exchange. Exchange rate depreciation – itself resulting out of conflict – is a major trigger of inflation in an economy like Guyana since importers will mark-up the higher import prices for consumers like public servants, sugar workers, bauxite workers and others. The private sector will also have to increase its wages if it wants to maintain its competitive pay scales relative to the public sector.
Cognizant of the fact that inflation can result from conflicts, labour unions in Barbados negotiated with the government in the early 1990s to accept a wage cut for workers. This was because the unions and government felt it was socially important to preserve the fixed exchange rate of 2 Barbados dollars to one US$. Had there been devaluation, workers and many citizens would have witnessed a massive erosion of hard earned savings. In other words, in the early 1990s the society there understood the need for wealth preservation even if it required slowing wage growth in the short-term. In Guyana a significant percentage of wealth is in bank savings, which would be eroded if the exchange rate depreciates.
It seems to me like the main challenge facing Guyana today is to present a set of economic policies that the government, opposition, private sector and labour unions can agree and work on together. I can think of one policy that can benefit every citizen of Guyana: renewable energy. A pay package for public servants can include salary increase, social status and real benefits like a free house lot, scholarships, tax free concessions, etc. Conflicts naturally arise when Guyanese observe the mansion of Mr Jagdeo and those in Pradoville 1 and 2. Conflicts result when the government distributes state assets to friends and families. Conflicts result when Guyanese read that large swaths of land were given to an Indian investor, but no one knows the terms. Conflicts, however, have dire financial consequences for workers. Rest assured the elites save in foreign currency assets.
