Dear Editor,
I refer to the ongoing discussion of inflation in Guyana in Stabroek News and Kaieteur News. Louis Hamilton and Richard N Rambarran posit the view that the proposed 10 per cent increase in the wages of public servants is likely to lead to high inflation. But neither of them offered any empirical evidence for their speculation.
Their arguments seem to be based on the belief that the public sector is a huge employer of labour and that a wage increase of that magnitude will drive up the general level of prices (inflation). Rambarran writes: “Given the sheer mass of workers who are employed by the public sector (traditionally a larger employer in Guyana than the private sector), there is great potency in the policy to be an economically destabilizing one, with bouts of massive inflations to be had should such a quantum of monetary shock be given to the system” (KN, May 25). Neither Rambarran nor Hamilton provided an estimate of the amount of money to be injected into the system as a result of the wage increase.
Over the years and especially since the economic reform programme negotiated by the Hoyte regime with the IMF at end of the 1980s, the public sector has been downsized considerably and is probably not the largest employer of labour today. Mostly likely, that distinction belongs not to the private sector but to the “self-employed” sector. For this reason alone it is unlikely that a 10 per cent increase in the wage rate of public sector employees will have a dramatic impact on Guyana’s inflation rate. My own estimate, covering the period 1960-1990, shows that a 10 per cent rise in the cost of labour would drive up inflation by 1.1 per cent. But its impact is likely to be smaller because the wages of all employees in the country are not going to increase, at least not to the same extent or at the same time. Expectations could also positively impact the inflationary process. A 10 per cent increase in rational expectation will lead to a 7.7 per cent rise in Guyana’s inflation rate, while adaptive expectations have no effect on the inflationary process in Guyana (Gampat ‘Guyana: Exploratory Models of Inflation, 1960-1990’ In Transition, 19: 49-97).
Rambarran misinterprets the result of Dr Cyril Solomon’s paper. He writes: “his [Dr Solomon’s] econometric estimation of monetary potency in Guyana lies at 0.09 meaning that a 1 per cent increase in the money supply in the economy has a 9 per cent increase in prices.” In fact, Dr Solomon’s estimating equation does not have a variable for the wage rate and therefore does not have anything to say about the impact of wages on inflation. Mr Rambarran is referring to the impact of money supply (M1) on inflation, and the correct interpretation is that a 1 per cent rise in money supply will lead to a 0.09 per cent rise in inflation.
A more interesting issue that has not been tackled is this: what level of inflation in Guyana is consistent with growth and macro-economic stability? Certainly not 2 per cent or thereabout, as is the case with developed economies. The empirical evidence demonstrates that developing economies can tolerate higher levels of inflation without harm to growth and macroeconomic stability. Low rates of inflation will stimulate economic growth, but high inflation will inhibit growth. That is, there is a positive relationship between low inflation and growth (inflation fosters growth) or no impact of inflation on growth. However, at higher rates of inflation the inflation-growth nexus becomes negative (inflation is harmful to growth). The question is: what rate of inflation is appropriate for a given economy? There is no one-size-fits-all answer. Instead, the inflationary threshold will depend upon the specific characteristics of the country being considered. A recent study of 32 Asian economies during 1980-2009 detected an inflation threshold of approximately 5.43 per cent at a 1 per cent level of significance. That is, the author of this study finds that inflation hurts growth when it exceeds 5.43 per cent, but had no effect on growth below this level.
While I have not done the empirical study, I believe that an inflation rate of 6-8 per cent in Guyana will not be harmful to growth and macroeconomic stability.
Yours faithfully,
Ramesh Gampat
