Dear Editor,
Please refer to “BoG and gov’t are continuing anti-inflationary strategies” (SN, August 20, 2024). This letter mainly contains allegations, misinformation and a shallow understanding of economics, inflation in particular.
Dr. Tilokie Arnold Depoo (TAD) writes: “Significant drivers of inflation in Guyana include the prices of fertilizers, food harvesting machinery, and shipping costs for imported goods.” He then proceeds to produce data showing that inflation was lower in Guyana during the past two years compared to Suriname, Venezuela, the US and the world as a whole. He concludes: “Guyana is faring well against these economies.” TAD conjures up fiction rather than engaging in science by using data to demonstrate what he alleges. That’s a fair expectation from someone who presumably holds a PhD degree in economics.
TAD does not offer any justification for classifying his “drivers” of inflation as “significant.” Perhaps he has done a recent study, which I would like to read. I want to understand how he modeled inflation, the variables in the model, their significance, and how that study stacks up to previous ones. My argument is that drivers of inflation is an empirical issue and not a matter of an active imagination.
If I am not mistaken, no study of inflation in Guyana has been done during the last two decades or so. A major reason for this is poor data quality. If one plugs garbage into a quantitative model of inflation, it will spit out garbage, regardless of how good the model is theoretically or whether it, or a similar version, did well diagnosing inflation in other countries.
Instead of rigor and empirics, TAD resort to a poly: selective picking of comparative countries to demonstrate that inflation is lower in Guyana compared to these countries as well as “the global inflation rate.” Not only is the strategy deceptive, but TAD unquestionably accepts official inflation data as correct. He did not pause to ask some basic questions. When was the consumer basket of goods last updated, the goods themselves and the weights by category of goods? To my knowledge, at least about two decades ago. What is the weight or relative importance of the “food price index” in determining inflation, for example? Given a rapidly growing economy, rising income levels and exposure to conditions in other countries, preferences and taste have probably changed and some goods and services in the basket are no longer relevant. In effect, the basket may no longer reflect consumers’ spending pattern.
Nor did TAD paused to ask why the real effective exchange rate (REER) is appreciating. The REER is the weighted average of a country’s currency in relation to a basket of other currencies, usually those of its major trading partners (MTPs), taking into consideration price changes of the currencies in the basket. An appreciating REER means the country’s exports are becoming less competitive relative to imports from MTPs. Guyana’s MTPs are the United States, Trinidad and Tobago, Japan, and China. Two major reasons for an appreciating REER are higher inflation in the home country and/or depreciation of the nominal exchange rate of one or more MTPs. Guyana’s REER appreciated by 3.1 percent from 2019 to 2023, mainly because of higher inflation in Guyana, according to the IMF. The rate of appreciation would probably be higher if the inflation rate was not underestimated.
Now for an uninformed observation by TAD: “Most nations peg this natural rate at around 2 percent, fostering GDP growth and low interest rates. Guyana is close to this benchmark …” Countries do not “peg” their non-accelerating inflation rate of unemployment (NAIRU). The NAIRU is not a constant across nations but is functionally determined by the specific conditions confronting a specific economy. In the comments section, Prof. Tarron Khemraj, perhaps among the most talented economist Guyana has ever produced, observed: “I wonder if this author has ever estimated the NAIRU for Guyana? Maybe he should try since the BoG does not believe central banks should do research.”
In the opening paragraph of his letter, TAD points out: “The Bank of Guyana, tasked with managing inflation, has implemented measures to control it … President Ali and his government have offered relief to households through fiscal grants and pledged further assistance using oil revenues.” Yet he did not tell us what “measures” the Bank of Guyana (BoG) deployed to control inflation or why inflation needs to be controlled.
The BoG anchors inflation to the nominal (official) exchange rate, which means that domestic inflation rises when the exchange rate depreciates. In turn, the nominal exchange rate is calculated (not determined) as a weighted average of the buying rates of the three largest bank cambios (3LCs). A major criticism of this method is that the 3LCs apparently manipulate both their buying and selling rates because they are better positioned to facilitate the export-import business. Another point is that the private sector and private individuals do not confront the buying rate but the rate which cambios sells USD to them. In effect, the nominal exchange rate and the buying rate of the 3LC can be stable, while the selling rate fluctuates more.
The selling rate is higher than the buying rate and stability is facilitated by the spread (the difference between the two), which is limited to G$3.00. This innovation – stabilizer, if you will – keeps fluctuations of the buying, selling and official rates relatively stable, but does nothing to prevent their levels from rising. The rate at which cambios sells the USD depreciated by G$3.30 or 1.6 percent from May 2022 to June 2023. Depreciation combined almost 18 percent of the import bill spent on consumers good translate to imported inflation (see Gampat’s 2000 article on inflation in Guyana).
Why does the selling rate depreciate? Because of excess demand; that is, demand larger than supply. Aside from demand for USD by the private sector, the BoG is a major player in the domestic foreign exchange (forex) market. It buys from and sells USD to commercial banks. When the BoG buys USD, it causes the supply to contract, to get smaller. From January 2021 to March 2023, the BoG removed US$224.65 million more than it injected into the forex market. In both 2021 and 2021, there was an excess demand for USD, about US$22.0 million each year. In the former year, the BoG removed US$173.50 million more than it injected into the market and another US$50.40 million in 2020. In other words, the shortage of USD during these two years was caused by the BoG. In 2023, the BoG injected US$9.0 million more than it removed but there was a shortage of USD in February and March. During the first three months of 2024, the BoG removed US$21.25 million more than it injected into the market and there was a shortage of USD in February and March.
Why does the BoG remove USD from the forex market? Because it has international reserve targets to meet and was unable to do so from the meagre surplus on the balance of payments in 2021 and 2022; the persistent deficit returned in 2023. The pursuit of reserve targets explain why the BoG is a major cause of FX shortage in Guyana, the opposite of what TAD wrote.
There is another issue: the spending spree by the PPP Government since 2022 has led to a rapid buildup of the fiscal deficit and domestic debt stock. And guess what? The BoG has been helping the government to monetize the deficit, which is a driver of inflation (see previous studies of inflation in Guyana). An excellent paper on this issue was written recently by Prof. Khemraj (2024). A third major factor in the inflationary process is the expectation that inflation will continue, which becomes self-fulfilling as economic agents seek to protect themselves.
To summarize: TAD’s letter is a wasted exercise in propaganda. He did not demonstrate why his “drivers” of inflation are important or how the BoG combat inflation. If inflation were not higher than reported, there would be no need for the BoG to fight the demon or for the government to play “Fada Christmas,” doling out largess without understanding how manna from heaven will fight inflation. Based on the available empirical evidence, drivers of inflation include the counterintuitive actions of the BoG, rising fiscal deficit, imported inflation, expectations, and high mark-up rates.
Sincerely,
Ramesh Gampat
