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What is inflation and its implications on an economy

Inflation is a main case for the economy. Inflation is the critical source of the current economic crisis. The national currency in Burma is Kyat. The average inflation in the 1990s was around 25 per year. The highest rate of inflation was found as 58 per cent in 2002-2003 and the lowest inflation rate in 2000-2001 was -1.7 percent. The market rate was around two hundred times below the government-set rate in 2006. Inflation averaged 30.1% between 2005 and 2007. [2] In 2008, the inflation rate was about 26.8%. Chart show Myanmar annual average inflation rate. (See-appendix 1)

Within 1990-1997, the inflation rate of Myanmar (consumer prices) situated between annual percent of 15 and 30. In this years, the shift of inflation rate slightly rough. But in 1998 the inflation rate highly increased up to 51%. In 1999, the inflation rate reduced by 30%. There was a lowest inflation in 2000. The trotting inflation occurred in 2001 and 2002. In this chart, the highest inflation was declined as 57.1 % in 2002. After that, the inflation rate in 2003 decreased half of inflation rate of 2002. And then, the inflation rate decrease nine times of 2003. After that, the inflation rate slowly increased to 2007. In 2008, the inflation rate was about 26.8%.

Inflation rates are slowly high to 1994 because of currency value has fallen significantly, and lowest rates relative to income of government revenue and non-military spending. [3] Inflation rate increased to 49 percent in 1998. Electricity prices increase in ten times over which effect in March 1999, transportation costs were increased because of higher taxes, and a drop in commodity production were reasons of inflation. After a brief respite in FY2000, when consumer price inflation dipped below 4%, it enhanced to 56.8% by end- December 2002. [4] 

Indeed, according to movement backward of result over the period to 1997 the association between consumer price index (CPI) and gross domestic savings (GDS) to be distinctly bad condition in Myanmar.

As most developing countries, the main cause of inflation in Myanmar is Budget deficit. The demand for resources by the state by far exceeds the state’s ability to increase taxation revenue that is the result of which the state finances its spending by the simple expedient of printing money is the fact of inflation in Myanmar. [5] 

Myanmar has a double exchange rate system similar to Cuba. [6] Double exchange rate shows a depreciation trend in a long term. Inflation has attached depreciation and monetization of fiscal deficit which cause inflation and result in long-lasting depreciation. For the period between ended 2002 and early 2005, double exchange rate leaded to grow in spite of inclining inflation. [7] Moreover, as the weakness of market for government debt, the deficit is financed through monetization by Central bank of Myanmar. Because of increasing salaries of public sector employees which was financed by Central bank of Myanmar. So, inflation rose to 56.8 percent at end of December 2002. In 2005, foreign money rose by 25% than previous year and also increased inflation because fuel price highly jumped in October 2005. As a sharp rise in public sector wages in 2006, inflationary pressures increased. It could reflect on currency depreciation. [8] The rising cost of food is driven inflation rate higher. [9] Basic commodities prices have risen from 30 to 60 percent after increasing salaries. Inflation averaged 30.1percent between 2005 and 2007.The weaker educated workforce skilled in technology is the problem of growing economy and poorest country in the world in terms of GDP per Capital in 2005. The large revenue from natural gas export is expected to join the fiscal balance and contributes to contribute to macroeconomic stabilization. [10] 

However, the global financial crisis is not directly link to Myanmar but indirectly affected on economy such as foreign trading, tourism and migrant employment. Myanmar workers might lose their jobs because of reduced production in the host country. The major challenge of global financial crisis faced the local trading industry. The global financial crisis has now started to extend to growing market which remembering the effect of 1997-1998 emerging market chaos of the Asian economic crisis. [11] 

Task 2 (a)

Inflation

If the worth of goods and services is sold or bought than its real price, the money will inflate. [12] In general, inflation will continue to creep upward. The price of goods and service represent as a whole of economy. Inflation is measured by consumer price index (CPI). Money growths, inputs price, a budget deficit, technology, higher of tax, increasing demand, etc. can cause inflation. Inflation may be classified as mild, creeping, trotting and hyper inflation. [13] Printing money to finance a large deficit that is government has to print money rapidly is one of sources of inflation. Inflation makes goods and service more expensive.

Task 2 (b)

(I)Demand-pull inflation

Demand-pull inflation is related with that of Keynesian economics. The improvement expenditure of private and government is the reason of increasing aggregate demand. Increase in aggregate demand due to increase private and government spending. It is constructive to a faster rate of economic growth since excess demand and favorable market conditions will stimulate investment and expansion. Inflation is caused by an expansion of government spending financed which borrow from the banking system under condition of full employment. [14] 

If firms are doing well, they will more produce for their demand. [15] If excess demand which can come from rise in money supply, high exports and strong investment leaded to demand-pull inflation. [16] Demand-pull inflation is also caused by an increase in Gross Domestic Product (GDP) and upward condition of employment problem.

According to Keynesian theory, if the rate of unemployment is great, the inflationary pressure will less. [17] If the more firms of a country offer employment to people, these may lead to more aggregate demand and so need to drive maximum output. As raw material, capacity, resources are limited, the output level slow to get the prevailing demand. Hence the prices of the product would automatically rise and increase in the demand for labor indicates that more workers are required to maintain their output levels.

(ii) Cost-push inflation

In general, it may occur together demand-pull and cost-push inflation. An initial demand-pull inflation may potential the power of trade unions which it uses to drive-up costs. [18] Basic inputs used as component parts in production process will show it as higher consumer prices. A drop of aggregate supply caused inflation due to natural disasters or prices of inputs that may lead to cost-push inflation. It is concerned as being mainly a wage inflation process because wages usually create the greatest part of total costs economy is to fill employment and the greater the skill shortage. [19] 

Thinking about how relative prices work with increase in demand or supply is the monetarist view of inflation. If money supply were finite and not increasing, then a rise in spending on goods. If you have a finite amount of something, the more you spend on one thing, the less you can spend on another. For this fact, monetarists claim that it can only be increase in the money supply that causes inflation. [20] They consider government spending and taxation or fiscal policy are not effectively concern in controlling inflation and the mostly cause of inflation is that speedily rate of growing and deflating on money supply.

Task 3 (a)

An individual who keeps all his money in a box under his bed, in substantial increase inflation every year, the purchasing power of money reduces over time. The wealthy can typically partially defend themselves in opposition to inflation by investment or saving which get benefits during periods of inflation. The safest way of invest money is saving the bank. Banks offer with a set interest for the amount of money and deposit on with them per month. The interest rate can be anything from 2 percent to 2.5 percent. [21] If we save all money in bank by handing cash, inflation eat away the purchasing power of amount of money. Unless we put money under bed years ago, we can buy valued article at this time. But we can buy now half of this article because of substantial inflation and devaluation of money. Even if you save in the banks which pay interest, this interest may compensate you for inflation. Although the interest that get from bank will be lost due to the inflation rate, these loss will not be as great as keeping it under bed. Another best way is purchasing gold to save instead of saving money because of increasing the price of gold. In any case, how money can become worthless during substantial increases inflation. The best solution for it is what amount you keep gold in a safety deposit box, which that ready to help you in times of need. Reasons to own gold is to help protect you against high inflation. So, we can wait until metals are out of favor again. We should hold patiently by saving as gold which make you peaceful. [22] During times of financial crisis those investors who had gold in their cases were substantially better off than investor without gold.

Task 3 (b)

Someone who borrowed some amount of money from at that time the nominal interest rate is 3%. After many years later, he repaid this amount of money under the current inflation rate. If the current inflation rate is 3%, the lender will not suffer the real loss in his purchasing power. In this case, the real interest is 0%. But the inflation rates increased to 6% over this period, the real interest rate will be -3%. The real value of money that the borrower would pay back actually less than the real value of money when it was borrowed. Borrowers really like this case. [23] 

Task 3 (c)

By lenders, if prices for the average goods and services that he purchases are the same from the beginning, the interest rate 3% rise in his buying power. However, the substantial increases in inflation that he wants to purchase have increased 6% over this length of time. In fact, he has hurt a real loss of about 3% in his purchasing power.

In economy and finance, repayment for lender at an advanced point in time hopes to be compensated for the time value of money for the result of interest rates normally increases in response to expected inflation. [24] But borrowers lose any advantage they may have from repaying loans with money that is not worth as much as past inflation. [25] The real interest rate may turn into be rather different from the real interest rate that was hoped in advance. Borrowers expect to pay back in inexpensive money in the future while lenders expect to collect on more expensive money. [26] 

Task 4 (a)

Government may want to tackle inflation for the following reasons.

Losses to savers [27] 

In the amount of capital saving value by hoarding cash, the purchasing power of that amount saved is eroded by inflation. If inflation is higher than the rate of interest, it causes a reallocation of income within society from savers to borrowers. If interest rates are above the value of inflation then savers can still maintain the value of their savings.

Inflation creates uncertainty and confusion [28] 

More inflation leads to be more volatile which becomes more difficult for firms to forecast future prices and costs, so they decide to reduce investment. Therefore this decision disturb on economic growth in the long term.

Lower Competitiveness [29] 

High inflation in the makes the less competitive compared to other countries. This will reduce demand for goods, causing lower growth and possibly balance of payments problems. This is increasingly important with the globalization of the world economy. In the long term it is likely to lead to devaluation of the exchange rate.

Reduced attention to productivity [30] 

Increasing productivity is a major to necessarily improve to overall living standard in a country. In the lack of inflation, wage arbitrations are focused on the act of giving money to workers in accordance with developments in the productivity. Together with high-level inflation, salary or wage increased consist overpoweringly of compensation for inflation, and productivity issues turn into trivial and may be ignored.

Task 4 (b)

If inflation is caused by high costs, we need to control the increase of prices and income through a policy, which will control the social pressure to raise wages and the ability of the producers and suppliers to increase prices. [31] A market intervention to lower the pressure for wage increase and control of prices will temporarily suppress the inflation, which is also beyond our control. But consumers have already lost their purchasing power significantly, which has greatly increased the social and political concern. [32]   

The hope is to recover the inflation which concentrates on supply side to increase productivity. The decreasing of employment according to technological improvement and innovative discovery for production and supply can decrease the cost of production for a given output with the same or similar amount of input. [33] These facts will tend to decrease the price. We also need lower tax and an increase import ration for especially consumer goods and intermediate goods. For importing country, if our exchange rate is too low to afford the imported goods and services. The government   should think of a fixed exchange rate at a relatively high level. We need to take an expansionary economic policy by increasing budget deficit or money supply or both, and not increasing the tax rate, so that this policy will directly and indirectly increase the consumer’s purchasing power, domestic consumption and domestic private investment. [34] 

Unemployment is caused by falling aggregate demand. This is necessary to remedy for inflation. By Monetary policy, the growing demands in the economy which could be pressured on inflation. [35] To reduce inflationary pressure, we should firstly reduce the growth of aggregate demand. We need the points that the Central Bank could increase interest rate. This will focus on saving more making borrowing more expensive. This lead to decrease consumer spending and investment.

According to Fiscal policy, a higher exchange rate is caused by higher interest rate which has to drive down inflationary pressure by rising incentive for exporters to cut costs, making imports cheaper, and decreasing demand for exports. [36] To help to enhance the Budget situation and reduce demand, the government need to increase income tax, tax on value of products, cut spending and other tax .By reducing aggregate demand would be harder to accept as decreasing inflation would direct to greater unemployment and lesser output. Therefore, we must use both these policies reduce inflation, and then the economy will be growing reasonably strong. [37] 

Task 5(a)

Supply-side economics is the act of policies to improve aggregate supply. An income large scale tax cut translate into more money in people’s paychecks, which they will spend. It also turns down incentives for works, saving and capital investment. Workers can bargain for higher wages which will translate back into higher wages. This wages will translate back bargain for higher tax revenues which will regained through greater tax receipts from a booming economy. [38] When increased private investment generally carry increasing productivity and then it leads to expend the economics growth and lower costs for consumers. In supply-side economy contain policies to increase labor supply and to reduce distortion and inefficiency. It also relates on influencing labor and goods as a way to economic health, without inflation can be achieved by increasing the supply of goods and services, rather than approaching the issue through such macroeconomic concern as gross national product. [39] The policy of supply-side economy is cutting down the high marginal tax rate as improving growth for long-term strategy rather than a short-term tool to end recession. [40] 

Task 5 (b)

The economy of United States faced a deep recession throughout 1982. Especially, this recession hit to famers as agricultural exports declined, crop prices fell and interest rate rose. A strong supply-side economy is important to recover economy. Beyond 1980, inflation had slowly reduced, the economy had recovered and the U.S began a sustained economic growth. During 1980s to 1990s, the annual inflation rate is under 5 percent. The economic program of Reagan (1981-1989) based on supply-side economy which supported to decrease tax rates. Therefore, people could keep more income and persuade people to work harder and longer and turned into more saving and investment. As result is increasing productivity and influencing the overall economic growth. [41] In long term planning, banks and governments to alternate for economic growth by coordinating among corporations. Lower interest rate is one of the factors to stimulate economic growth.

An increase in spending by the government in an economy’s critical infrastructure may bring forwards some investment. Around 1970s, as increasing inflation forcedly push Americans into high tax brackets. [42] As the high taxes were major slog on the economy, cut the high marginal tax rates which should view as long-run rather than short-run tool to end recession. Increasing tax rates is directly proportional to decrease in tax revenues. As cutting high marginal tax rates is supply-side economy such changing market incentive which increases the amount of labor supplied or move resources out of tax-motivated investment. [43] 

The supply-side economy in United States highlighted the positive evidence from 1980s. According to the view of Keynesian, the rate of inflation dropped significantly from 9% during the five years before the tax cut to 3.3 percent during the five years after the cut. [44] 

The U.K economy was still the sixth largest economy in the world by purchasing power equality. The fall in value of the pound sterling has many possible consequences for an economy such as the U.K. In trade-weighted terms, the decline was the biggest since figures were calculated in the early 1980s. The major objective of U.K economy policy of the 1980s contain to decrease inflation, unemployment and to increase the sustainable rate of economic growth. [45] The balance between imports and exports; the public and the private sector, public spending and tax receipts focus on growth for economy.

During 1980s in U.K, privatization and deregulation were the main fact of supply side policy. Education and training are also adopted then it enables higher labor productivity. For example, in 1970s the inflation is high partly caused by powerful trade unions. In1980s and 1990s, reducing this fact helped keep wage inflation low. [46] The government cut income tax for well-off. So, income tax fell from 60 percent to 40 percent. But overall the tax burden has not fallen because the government has increased indirect taxes. Moreover, the major utilities such as gas, water and electricity were sold by the government and floated on the market. [47] 

The government has deregulated the financial service market, this led to more competition and lower borrowing costs. Besides the government used these facts to increase productivity, they used other factors such as better technology, lower prices of raw materials, increased inward investment etc. These have helped keep inflation low and unemployment in 2003 is at lowest for over 20 years. [48] During the 1980s, the governments allowed the economy to expand because they felt there had been a ‘supply-side miracle’ at a fast rate than before. But most of the growth was caused in consumer borrowing and spending. This was reflected in a large current account deficit and inflation. Therefore, the government joined the Exchange Rate Mechanism in 1990 to reduce the double-digit inflation. [49] 

But UK would take time to have effect and supply side policies may be insufficient for keeping demand pull inflation low and would not be to solve the immediately problem. [50] UK inflation slowed less than economists forecast in June 2009 as higher costs of goods from fuel to food kept the rate of price increases above the government’s 3% limit. [51] However, tax policy exerted as a key impact on supply-side economy all over the world. During about last twenty years, there was dramatically removed from high marginal tax rates to decrease inflation. [52] 

Appendix1 (I)

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