INDIA Must Try The New-Model...

The goal of economic-policies is to achieve low-inflation and low unemployment with highest possible potential for the economic-growth... The first two are the primary objects while the economic-growth is the underlying objective... Probably, market stabilization might entail these with clear and present situation... However, we do not need MSS (Market Stabilization (Securities) Scheme), today it has beed proposed to bring those with the help of the RBI, right- away, because inflation and inflation expectations are committed lower in INDIA with bias for more expansion in the money-supply and the expected growth-rate which has a direct effect on investment, unemployment and (wages and) incomes and the demand and the economic-growth-real-GDP... Higher expected economic-growth-rate or the real-GDP (expectations) incentivizes investment... In the Harrod-Domar sense it is the warranted growth... we have two other growth-rates... The actual-growth-rate - the current-growth-rate-and the natural-growth-rate or the potential-growth-rate - the rate of growth of the labour-force...

The convergence of all the growth–rates is in the same direction in the long-run. When the actual-growth-rate diverges from the warranted growth-rate or the expected growth-rate or the natural-growth-rate or the pace of increase in the labour-force or the economy produces less jobs or there is unemployment or when demand and inflation are low, we require loose money-supply, otherwise we need tightening in case of high-demand and inflation… A higher actual growth rate might also increase real GDP growth-rate expectations in the next-period…

Shaping expectation is one important task of the economic-policies… But, shaping expectation sometimes may take time… It works with a lag or when people actually feel the outcome or based on current situation, when they know which policy suits then better and create a positive response… For a very long-period in the history inflation and inflation expectation were more common than deflation… However, countries, like Japan, are reeling under deflation for the past two-decades and have tried a lot to increase inflation and inflation expectation to cut real-wages and for competitive exports…

Withstanding, lower real-wages-than productivity has crippled domestic-demand and also the external-demand (for imports) which has set the process of evaporating wages gains and demand… However, international-trade is more expansionary, but at the cost of the domestic demand… But, why a country would increase exports at the loss of the domestic demand…? Domestically, lower prices and higher consumption would increase Welfare…

Therefore, it is fairly possible to have disinflation or deflation and expectations based on the historical evidences as in Europe and Japan where nominal interest-rates are negative to ward-off deflation.

Economists’ fear that deflation would make people delay purchases in the expectation of lower prices are ahead, but everybody knows that supply is limited… People would rush to buy the inventories… Moreover, lower prices would help lower-interest-rate and may also likely to increase internal-devaluation and increase the exports…

INDIA needs not to emulate the old model for inflation, depreciation and exports… However, occasional depreciation of the Indian currency could increase exports, too…

INDIA might also help to increase exports by increasing demand for imports and higher real-wages in the trading-partners economy… Higher real-wages abroad could also increase demand for Indian exports, whereas higher real wages would also boost domestic-demand…  

Lower-prices would increase real-wages – at home and abroad too…

INDIA has committed to a disinflationary-path, also through demonetization which is likely to increase higher real-wages and expectations, but would take time to adjust to the right money-supply when 80% of the notes are being recycled…

The RBI has set to maintain the liquidity with Rs 2000 notes… Probably, it would limit the circulation to match the money-quantity as before the ban… The sooner the policy makers help mitigate the cash crisis, either by cashless-transactions or other means, the sooner we would achieve the stability in the market…  

Demonetization could help lower inflation and inflation expectations which would increase spending provided the cash-gap recovers soon…

Lower-prices and higher real-wages and incomes expectation would increase demand and spending and the economic growth-rate, globally, including the domestic…

Expansionary Policies After Demonetization...

Amid the arguments the debate on the demonetization has come close to the point that it has hit the money-supply in the pockets of the public since a large part of it is banned with the move to demonetize (old) Rs 500 and Rs 1000 notes… Almost 80% of the money-supply… Having noticed the changes in the key economic-variables like demand, supply, prices and un-employment in the market over two-weeks, we may find that there are many slips between the cup and the lips… The move has struck the demand in the economy by the way of demonetization of the high value notes to curb black and the counterfeit monies and in the same way it has also restricted the supply-side by reducing money to finance business, even exports have been down. Almost everybody feels that the bold measure to curb black-money and fake-currency, though even with good intentions has slowed down trade and employment in the economy… That, the decision is likely to be a pain in the short-run, but the economy would gain by reducing unjust demand and prices in the economy in the long-run, it would increase real wages and wealth… However, matching money-supply to the pre-crisis period is of utter importance… Previously, the RBI had an accommodative-stance to liquidity… The RBI is responsible for doing the job, nonetheless by increasing investment and employment, and productivity or production the government is equally responsible for keeping demand and growth high to tide over the wave of note-ban. The step could hurt the economic-growth-rate of the economy with slowdown in the demand and supply and inflation and possibly unemployment, but lower price and interest-rate expectations might help increase investment, growth and employment in the future if income does not decrease... Lower-prices and interest-rate could increase spending in the economy in the long-run… Keeping real-wages expectations high the policy-makers might target higher real-GDP. Lower prices would increase real-wages, real-interest-rate, and real-exchange rate and expectations which are likely to increase demand and supply, in the external-sector, too… Both, the RBI and the government are responsible for maintaining employment and wages and incomes and demand within the economy… They might work to keep demand and supply high by manipulating the money-supply and fiscal-expenditure to increase productivity, through innovation, and the economic growth-rate… Notwithstanding, the will to curb cash-transactions would decide the generation of black-money in the future… 

Globalisation reduces inequality...

Globalisation increases choice which could be a step towards a more free-society. The options to the society increases. It increases the choice of work and living, you can choose to live in country of your choice and choose the work according to your specialisation. Globalization leads to specialisation. Even the Foreign-Trade-Theory is based on the specialization point; they say we need to specialize in the line in which we have comparative advantage. It says to exports that product which it could produce at cheaper cost and prices; it says to specialize along those lines. Lower-prices are the foremost argument in favour of Free-Trade and globalisation which would increase real-wages and the standard of living. However, economists are conscious, that higher imports may reduce domestic employment and production and profits. Notwithstanding, globalisation as has been said before is good for real-wages and equality. Capital is moving from the rich-world to the poor-countries which have set the process of sharing prosperity, through immigration, too. Countries tend to allow immigration of low-skilled workers in order to provide the domestic-people with skills and higher-standard of living; nonetheless skills can be acquired to improve wages. Globalisation increases choice and prosperity, but there should be full-employment in the domestic-economy. Protection is often sought for protecting the full-employment objective of the economic-policies with lower general-price-level...

International-trade increases employment and real-wages and demand in the global-economy which further means higher production and growth-rate and more taxes to help eradicate poverty. The presence of more companies in the economy would increase revenue and public-spending on necessities. Presence of domestic-firms in foreign countries would further increase profits and taxes. It generates employment and income and demand in the global-economy.

Foreign-investment which increases employment to achieve full-employment must be given access to domestic-markets. Trade that destroy domestic jobs are not feasible. More companies in the country would lower prices and increase wages, too.

Immigration might also help increase labour-force-participation-rate and increase the economic-growth rate. It would reduce overheating in the domestic-economy after full-employment.

It is good for lower-wages and price-stability and could increase growth-rate and demand within the economy.

Multiculturalism increases tolerance in the society which makes it more liberal. However, frictions are also probable.

The Opposites...

This discussion between the Fed and the government over the use of fiscal-spending to increase demand and growth within the economy has turned out to be the point of contention. The Fed Chair’s view is that the spending is not opportune as the economy is near full-employment and more spending would increase over-heating and probably would force it to increase nominal interest-rate before than expected which might be true because at this time it would mean debasing of the currency which is a pet issue amongst the policy-makers, higher inflation is seen as negative for the value of money and demand.  But, the economists favour lower real-interest-rate or natural-rate which means lower value of debt, however they forget that lower prices would increase that value of money and more savings due to lower-prices could help maintain lower nominal-rates and real-interest-rate if the economy is below full-employment and price-level is low. Fiscal-spending at this level would increase expected inflation because we have signs of wages firming up because of full-employment. Nonetheless, higher inflation and inflation expectation could increase export-competitiveness in the short-run, but at the cost of lower domestic real-wages and higher nominal exchange rate and lower-imports which may increase exports, but is not suggestible since domestic demand could go down. Lower consumption means lower domestic-welfare and depreciation would increase capital outflows that means domestically less investment could lower  inflation and interest-rate expectations which is the opposite of what the policy-makers want. They want higher inflation and interest-rate to come-out of the liquidity-trap, the opposite. However, if the Fed targets lower-prices and interest-rates it might increase expected inflation and interest rate and expectations by increasing demand. They are targeting higher inflation, but inflation would increase when demand increase and that is dependent on real-wages and income which higher inflation might push down. Keynesians too believe that effective-demand during slowdowns would increase if employment and wages increase. The Fed has committed a higher inflation target and has also target higher real-GDP, but other things constant, if inflation increases, it would reduce real-GDP because of a higher deflator. Higher inflation would increase the value of  deflator when GDP is constant. So both, the signals to target higher inflation and higher GDP are half conflicting. Notwithstanding, if we try to keep inflation constant or lower with a higher real-GDP target that might increase the GDP when the money-supply, demand, output and income increase… If we commit higher inflation it would also lower real-GDP expectations if other things remain constant…      

Demonetisation and the Monetary-Policy...

A complete cashless economy where transactions from bank account is mandatory could dis-incentivize cash transactions by attracting investigation and law-suit on big transactions with unaccounted money on which taxes have not been paid...To dramatically reduce the circulation of black-money the government might had made the use of debit or credit cards with a pan number in 30 days with the help of some software in smart phones to verify finger-prints and the bank account number... we already have Adhar-card and Jan-dhan bank accounts... the bump would have been narrowed... for this too we would need bank-deposits for future transactions... money had come to the banks in the form of deposits... Modi has still left room for future black-money by not abolishing cash transactions altogether... Still notes could be hoarded...

A thought over this move on its effect on the economy is crucial to convey the idea behind the government decision to unearth black-money to the public... The whole concept is to ban use of unaccounted money and fake or counterfeit money in the everyday transactions which may affect the demand within the economy in the short-run. To remove fake currency from the circulation the government measure is also to curb terrorist activities in the short-run is the most important argument in favour of ban of high denomination notes for which little-pain in the public life comes worthwhile, besides black-money... Security of human-life is more important...

However, lower consumer-spending with only white-money due to disruption in the supply of notes is hurt, the consumption is being delayed till the crunch is over and we are back to the normal-life in terms of money supply and demand... Nonetheless, the rate of price-rise or expectation about it would decide the sames in future, too, including the prices...   The ban on high denomination notes may negatively affect demand and the invalid-demand, both, is the short-run, but in the long-run it is likely to curb invalid demand or black-money-demand to a greater-degree...

The total demand less the demand dependent on the black-money might help reduce prices to a significant-level which would increase real-incomes in the medium-term... All those things that could be purchased with the black-money would see price-reductions and increase in demand as the life gathers momentum with the right money-supply... The reserve bank has committed a liquidity-neutral-stance to lower inflation and inflation expectation and employment and production and the economic-growth-rate...

The monetary-policy should try to match demand and supply of notes and quantity of money with the pre-ban levels... More deposits in banks could lower the rate of interest and increase investment... Lower prices may help increase savings and investment in the long-run... The RBI must try to keep demand intact by lowering the key-interest-rates. We may expect a rate-cut in the upcoming monetary-policy reviews...

Lower prices and lower interest-rate in the near-term would prove to be expansionary and beneficial for demand and growth.

The retail inflation in October has come lower to 4.2 % which also fosters rate cut expectations when we have set an inflation-target of 4% with a band of +/- 2% in the medium-term...

The real-interest-rate-cut expectation is also lower when inflation has scored lower and the RBI has set a neutral rate target of 1.25%...

Disinflation or Slow Deflation Trajectory...

In Economics we generally assume that the value of money falls in the long-run because inflation increases as the money-supply is increased, the Monetarism. One of its principal proponents Milton Friedman based his models on the Irving Fisher’s Quantity-Theory-of- Money which states that as the money-supply is increased, either by the monetary and/or the fiscal policy it increases inflation which also forms the core of the inflation-expectations theory because it assumes that when money-supply is increased it also increases inflation -expectations. This is what the Fed in the US is trying to do to come out of the liquidity-trap, since only higher inflation and inflation-expectations make case for rate-hikes and hike-expectations the short and the long-run. Inflation and interest-rate expectation may influence spending decisions.

The Fed could try to moderate long-run interest-rate and interest-rate expectations that the economy can weather rate-hikes in the long-run on its current growth... without decelerating.... A little higher unemployment rate may save the economy from overheating, when the neutral real interest-rate has some positive bias so that the downward pressure on the price-level to make savings worthwhile... Capitalists earn profits, save and invest, they have a low propensity to consume... they demand less compared to income... The value of multiplier would be low... The economy is demand deficient... Since 1970s, real wages have stagnated low even after in increase in the economy’s productivity... Higher real wages would increase domestic demand and income and growth...

In the liquidity-trap, Keynes advocated government intervention during recessions... He probably prescribed counter-cyclical economic-policy to stabilize trade-cycles for full-employment and stable-price, too...

The Fed thinks that neutral real rates could go up... Currently, it is negative with 2% inflation when the nominal rates are close to zero... It is expecting that neutral rate might go up probably because higher nominal rate may lower economic-activity and inflation... Lower prices and higher real rates could increase savings in banks... Money value would increase and more savings would lower loans-rate which means more investment in the future... Lower price or prices expectations are more expansionary, both consumption and savings and investment increase... The Fed might commit a lower price and price-expectations trajectory in the long-run to increase demand when demand from population growth-rate is going down which determines the employment, production and economic-growth...

Lower cost of supply - lower real interest rate and lower real wages – because of lower-prices and lower population growth-rate has made supply outpace demand and also lower the price-level, and lower oil prices have all contributed to low inflation and low inflation expectation... Fundamentally we are in a lower price regime…

Invalid Demand and Prices Could Go Down...

Modi government has banned the exchange of Rs 500 and 1000 notes to curb the black money or the shadow economy and counterfeit currency menace the Indian-economy is facing, which is expected to have a long-run effect on the demand and supply as well as the prices and unemployment within the economy. The step is likely to reduce the amount of money that has entered the economy through wrong channels like tax-avoidance and fake currency by the neighbors to sponsor terrorism. This is the undesirable-money that is coming into the economy for destabilizing it and not good for the country in terms of demand/supply and prices or inflation. The black-money is often turned into other investments and is often hoarded under the mattresses. This is already known that the magnitude of black-money within the the economy is far greater than the black-money that has been kept in the foreign-economies to evade tax. The decision by the government would rule out the possibility to trade in other investment asset-classes like gold, land and property and their demand would go down… In another way it would reduce the demand for everything that could be purchased with the black money which means overall demand in the economy could go down with the decision to remove the old 500 and 1000 rupee notes from circulation. The measure could increase the real value of money in the economy because now money is less which means demand and prices would go down. The relative quantity of money would go down compared to the goods which would push down demand and prices. However, the government has reduced the number of notes in big cash transaction. Nonetheless, the more use of debit or credit cards in the transactions would too help to account for the source of money and verify whether the money is not unaccounted and prior taxes have been paid… The decision to cut back on the black-money should benefit everybody in the same way in terms of the value of money which could go up with lower demand and prices, except black-money would go out of the market… It would increase real wages and income and wealth… Lower prices increase demand and spending – consumption and investment – and the economic-growth-rate…    

Lost Jobs and Unemployment Benefits...

The Bankruptcy-code passed few months back was among the most important legislations of the parliament, besides the GST and the price-control during high inflation, the government has proposed to set prices of some categories during high-prices due to demand and supply mismatch and lower interest rate and unemployment (more jobs). The uncertainty before the Bankruptcy-code on the hiring and firing of employees was a major road-block in the way of starting investment and employ people when the Indian-economy is growing at a high-speed even when the developed world is going through weak demand, which has undermined the Indian-exports and achieve us double-digit growth-rate. Once a company is declared bankrupt it becomes easy to lay-off labor and dilute the assets to pay bank-credit or credit… During slowdowns unemployment or lay-off increases which lowers demand and growth and investment and lowers the price-level whereas due to boom employment or hiring and demand, growth, investment and prices increase. The bankruptcy-code deters firms to fire labour because of loss or low demand. The market that has a weak labour bargaining-power, employ more people temporarily than a labour-market which gives importance to permanent-jobs. The temporary labour by contract could be fired when there is a downturn. The bankruptcy-code was positive for firms to decide for solvency; naturally a bankrupt firm could not support workers because of balance-sheet recession. Nonetheless, an economy with more permanent-jobs is likely to recover fast during a slowdown because demand would go down less while an economy with more temporary-jobs would take more time to recover. Lower nominal wages given to the labour could be substituted for lay-offs… lower nominal wages instead of complete lay-off could help the economy to recover fast, however during heavy headwinds it is not possible to continue employment… Lay-offs might be the last option used to tackle unemployment and demand and growth. Notwithstanding, the social-security-net by the government is also a land-mark labour-reform, but INDIA still face void in terms of a comprehensive unemployment-benefits plan because it is true that during recession firms employ temporarily and create low paying jobs or less jobs…  Unemployment-benefits during downturns could replace the demand lost because of joblessness…       

Problems with the GST...

The GST is an issue i used to avoid writing on because i think all types of taxes have the same demand and supply effect on the economic-growth, have discussed taxes before that lower taxes would boost private spending when the public pays a higher part of their income as taxes. Both, income and indirect-taxes are levied in a big-part of the world when there should a choice to pay in indirect taxes or direct-tax over a year. This should be a choice of the public to pay either income-tax or indirect taxes. Both would have a dampening effect of demand and growth… Since taxing twice, direct-income-tax and indirect-taxes do not look rational, a developing economy is likely to have higher taxes because higher fiscal deficit and the fear of debasing money… Nonetheless, higher debt-GDP-ratio in much of the developed-world, the rolled over fiscal-deficit over the years has resulted in a heavy debt which does not allow the government to commit a stimulus the size the problem warrants… Thus, lower taxes are expansionary and higher taxes reduce demand and inflation… Higher government spending is often the cause of higher inflation… However, the economy-policy must be there to increase demand/supply and economic-growth to the potential… Nevertheless, the GST is the indirect tax part of the economy, but it would also affect demand, growth and investment in the next-period… However, I was always conscious of the problems the GST would have to be through… and a same rate of tax for every good and services would not be feasible because different goods and services have different utility and dependent on the needs of the society which is important for growth and development… which turned out to be the same as thought… we have four slabs for goods and services… Higher GST would be demand-negative which would regress both, consumption and investment… Notwithstanding a proper VAT could be the best for the economy… A single VAT –Value-Added-Tax because we also measure the GVA, i.e. Gross Value-added… According to the Laffer-curve taxes are revenue increasing only upto a point, but after then it decreases revenue… A tax on value, for both direct and indirect taxes could be the way to simplify the tax-structure for a better understanding of our tax-system. Taxes are also an effective tool to incentivize investment in case of higher social-utility or somewhat important for controlling inflation…  

The US might target higher real-wages # 2....

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 The US might target higher real-wages....

The central-bank could commit higher real-wages through tighter labour market and low inflation and inflation expectations through low interest-rate when unemployment is below the natural-rate and there is an upward pressure on the real wages by lowering the borrowing cost, increasing supply and lowering the general-price-level because lower prices would increase the value of money and demand and lower unemployment and higher growth. Higher real-wages could increase investment in people skills and reduce voluntary unemployment and increase the supply of labour and productivity too, it would increase demand and growth... Nonetheless, lower interest rate due to higher supply and lower price-level could increase real-wages-expectations and increase spending and lower prices may help increase savings and investment and the economic-growth rate... Higher real interest-rate, since of lower-prices, would also increase return on capital...A little higher real-interest-rate would save both little, labour and capital and would help lower  demand and prices with a downward bias to make the money strong and valuable to increase demand in the long-run when population growth rate is going down... Higher real-wages in this scenario would help maintain demand/supply and the price-level and the real- GDP... Too much expansionary and too much contractionary policy would increase volatility and in the attempt to control the swings during booms and busts, either we slow too much or grow too much... If the FED tries to stabilize the value of money at the current-level of the prices or increase disinflation or little deflated expectations is would increase the wealth expectations and demand and the economic-growth-rate... Borrowed from the Milton Friedman’s OPTIMAL MONETARY POLICY...  The government too may contribute by increasing the real wages expectations by demanding more labour and help achieve wage-gains... Nevertheless, if the budget increases on infrastructure and skills-development or reduce taxes on the lower and middle-class it could also increase real-wages and expectations and spending – consumption and investment...  When the value of money increases in the economy it affects everybody in the same way by the way of inflation/disinflation/deflation...