God, please leave us some inflation

As an agnostic, I am not much into prayer. But bad times are here, and there’s no harm in a bit of almighty insurance cover. So, here’s my contribution to the long list of wishes the world has written out for that Supreme Power in 2009: Dear God, please, please leave us some inflation this year.

Have I gone nuts? You judge. My reason for asking God to leave some inflation on the table relates to economics. We all know inflation as a scourge. But, believe me, depression is worse. Ask the Americans who lived through 1929-33. Ask the Japanese who lived through it in the 1990s.

If inflation is a slow killer that impoverishes before it kills, deflation is slow strangulation. In a deflationary scenario, prices and incomes keep falling - the former more quickly than the latter. As people keep buying less and start saving more, companies stop investing and keep laying off people. Banks stop lending and interest rates tend toward zero.

We are almost there in the US, where the Federal Open Market Committee set its target rate at 0-0.25%. This means, soon it will make sense for US citizens to keep money under the pillow. In India, our inflation has halved in less than six months and could fall to zero by June. Deflation and depression present a double danger: they penalise youth, and we are nothing if not a young nation. While the old have pensions which rise in value as prices fall, the young will have no jobs. Those who do have jobs, will find that all past borrowings will be doubly expensive.

Let’s say I have taken a home loan and interest rates have fallen to 2%. I should normally be thrilled. My repayment burden comes down. But when prices are falling, the value of the EMI I am paying goes up. If I had kept the money with me, it would buy me more things than if I were to repay my bank. A falling price scenario helps lenders at the cost of borrowers. So, any sensible person should default.

But systemically, this is disaster as banks will stop lending and bring down economic activity — reducing my chances of retaining my job and real income.

In short, serious deflation in India will work against the young; our demographic dividend will become a demographic tax, with serious implications for law and order.
Of course, I have not addressed the more fundamental question of whether we are indeed headed for depression as in 1929. My answer is in two parts: the West is not too far away from 1929, but if it does end up in the ditch, India will be dragged down with it. This is why I suggest a one-year tax holiday for individuals.

During the great depression, US GDP fell by around 30%, stock prices by 90%, manufacturing output and imports by nearly 45-50%, and unemployment was up by 25% according to Ishwar Hegde, chief economist of Essar Steel. In the great recession so far, stocks and house buying have fallen by 45-50%, manufacturing by 19%. Joblessness is 7%. Since everyone is saying the worst is yet to come (GM, Ford and Chrysler are close to collapse), we are not really far from a depression.

And don’t forget, the great depression of 1929 did not do us as much damage as the US, since we were already crushed under the colonial yoke. This time, with the US and Europe imploding simultaneously, we are bound to be dragged down with the rest. Our stock prices have fallen 65%, and home prices by 10-20%.

Actually, only China and India have the wherewithal to weather a depression, but China is overdependent on US imports (which fell 50% during the Great Depression) and India is not big enough to pull anyone out of the quicksand. In India, prices are falling and we could well hit zero inflation by mid-June, bringing us perilously close to the depressing scenario I described above.

On the bright side, we know much more about how to cure depression: print notes, shovel money into the economy. The world has begun to do that already, with both the US and Europe pouring trillions of dollars to get the economy out of the muck.

In India, our reflexes are still slow - for two reasons. One, we were blowing money up even before we got into the ditch (oil subsidies, farm loan waivers, et al). So we have less room for manoeuvre. Second, we have an overcautious government that is more vulnerable to special interest lobbying in an election year. Why do you think every manufacturer is heading for Delhi with a laundry list of concessions? It is far more sensible to give everyone who pays tax 100% relief so that there is no economic distortion in the way the money is spent.

The first sign that things are looking up will show up in the inflation numbers. So God, please see that inflation doesn’t hit zero or stay there for too long. We have a few mouths to feed in these parts.