Economy, Domestic Economy

High Inflation Impedes Growth

High Inflation  Impedes Growth High Inflation  Impedes Growth

a low inflation rate. “However, it should happen together with bridging the production gap,” Hassan Dargahi, a member of the specialized working group of Economic Coordination Committee of the government said in a speech Tuesday at Shahid Beheshti University in Tehran.

Economic theories recommend the monetary policymakers to set inflation reduction as a medium-term objective in order to prevent production decline and deepening recession. In economies where inflation is already low, intense reduction of inflation may further deepen the recession but in a less developed economy like Iran, it is possible to focus on inflation reduction to the point where it does not foster recession.

Having maintained the rate at a reasonable level, the policymaker can target achieving a single-digit rate in the medium-term, Dargahi asserted. However, it should be noted that the declining trend of inflation rate should result in economic certainty and market stability. The central bank should consider production gap as well, he said.

Two-digit inflation rate is detrimental to production and investment and any expansionary policies resulting in aggregate demand. “Inflation should be contained by supply-oriented policies as indicated in the government’s plan of action to exit recession,” Dargahi stated.

The government does not seek to achieve a rapid decline in inflation but aims to reach a flexible one. The government has to implement the plan while reducing inflation. Thus, the central bank should make every effort to reduce inflation below 20 percent by March 21, 2015 and below 15 percent by March 21, 2016. In 2017, single-digit inflation rate should be achieved.

Dargahi said that the government’s success in reducing inflation is mainly a political achievement rather than economic but it can only be maintained through a prudent management of economy.

 Anti-Recession Policies

Elsewhere, Dargahi examined policies and factors that help end recession and said, “Studies suggest that demand-oriented policies, expansionary monetary ones in particular, have not helped the Iranian economy bridge the production gap.”

Instead, they have fed the inflation, he said. According to Dargahi, two factors can drive production: first is to re-inject oil revenues into the economy -- which is a mistake given the past experiences. That is where non-oil export becomes significant. The second factor is to improve productivity. This cannot be realized unless supply-side policies are enforced. That is where the careful implementation of relevant policies included in the government’s rescue package becomes important, including the modification of the relations between financial sectors and real part of economy while stabilizing macro-economy and improving business environment.

Despite the significant increase in liquidity volume, allocation of finances to enterprises remains a major bottleneck. The existing banking structure and a lack of communications between the financial market and the economic sectors do not allow such increase help end recession. General policies should be targeted at financing large enterprise through capital market. This is how banking resources can be allocated to meet working capital needs of small and medium enterprises. In addition, the foreign exchange market should be stabilized in order to increase predictability. Meanwhile, improving business environment, with the aim of reducing costs and fostering competition are other decisive factors in ending the economic recession, according to Dargahi.

He further analyzed the vulnerability of government’s plan to exit recession in terms of implementation and supervision and said, “Pressuring the central bank to increase the monetary base, inability to curb and direct inflationary expectations in light of possible fluctuations in the exchange market, agiotage in financial markets given the prevailing uncertainty, uncertain status of production as well as government’s failure to gradually remove sanctions are among the main challenges threatening the success of the plan of action to exit recession. Dargahi expressed hope that the new approach adopted by the government to manage the economy will help eradicate unemployment and poverty.