Inflation demystified

Price increases have sped up again in the last two months. The latest report, giving the inflation rate for February, put the rate at 3.3 percent on an annualized basis. This is significantly higher than the 0.9 percent posted in the same month last year, and higher than the previous month’s 2.7 percent. Is it high enough for us to begin worrying?

Inflation is defined as the sustained increase in the general price level; the inflation rate measures how fast overall prices are rising. A 3.3 percent annual inflation rate tells us that on average, what you were able to buy for P100 last year would now cost P103.30. As head of the National Economic and Development Authority in the 1990s, when part of my job was to announce the inflation figures every month, I often got peeved by radio commentators or columnists who would brand me a liar whenever I announced a drop in the inflation rate. The typical line was: “How can Mr. Habito claim that inflation is down when prices keep going up?” Apparently, it’s still not clear to many that a lower inflation rate never meant prices are going down. It means that prices are in fact still going up, but more slowly (i.e., at a lower rate) than before. If prices were in fact going down, the rate would be negative, and it would be called deflation. This is not exactly something to aspire for, as economists and businessmen actually fear deflation just about as much as they do high rates of inflation. Japan, for example, had experienced deflation for many years, and the Japanese were not at all happy about it; they found themselves actually wishing for inflation, to signify a stronger economy.

The problem with dropping prices is that it means there’s not enough demand for the economy’s goods and services at the given level of production, forcing producers to accept lower prices, and to cut down on production, on jobs, and eventually on people’s incomes and ability to buy their products. Left unchecked, it could turn into a downward spiral in the economy and a full-blown recession. So don’t pray for deflation, or negative inflation; pray, rather, that the inflation rate stays low, and positive.

How low is low? To put it in historical perspective, our inflation rate peaked at a whopping 50.3 percent in the economic crisis year of 1984, following Ninoy Aquino’s assassination in 1983; the previous record was 34.1 percent in 1974, at the height of the world oil crisis. The rate averaged 22.4 percent during the martial law years of 1972-1985, plummeted to 0.8 percent in 1986, but was back in the double digits by 1989. It stayed in the double digits until 1991 (19 percent), as the economy was buffeted by both manmade (coup attempts) and natural disasters (the Baguio earthquake and Mount Pinatubo eruption). It was down to 4.0 percent by 2000, 3.8 percent by 2010, and 1.8 in 2016. We have certainly come a long way in stabilizing consumer prices, and those of us who complain of price increases now may not realize how good the situation actually is.

When the Philippine Statistics Authority reports the inflation rate each month, it is describing an average rate of price increase. Prices of some products or services rise faster than others; some may in fact go down while others go up. The average itself is a weighted average, taken over a defined set of products and services—from 271 to 693 of them, depending on the province—considered to comprise the normal purchases (consumption basket) of an average household. Food products make up the biggest share at 39 percent of the average household budget nationwide, with rice being the largest single item, accounting for about 9 percent.

If our prices are much more stable now than they were in past decades, we can thank the Bangko Sentral ng Pilipinas for its skillful management of the country’s money supply, and it takes good economists to do that. The BSP is due for a leadership change later this year. One hopes that whoever takes over will be properly equipped not just to manage the banks in the country, but also, and more importantly, to understand the economics of managing inflation and how its management of money supply impacts on the lives of every Filipino.

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