The supply argument v/s demand...

The price-level and expectations of changes in it have a direct effect on the value of money and demand in the economy through interest rate and interest rate expectations, inflation/disinflation/deflation and expectations of changes in them decide interest rate and interest rate expectations which may directly affect the supply by adjusting the borrowing cost. Low supply and increase in inflation and inflation expectations might increase interest rate cut and rate cut expectations and a higher supply and disinflation or deflation and expectations increase interest rate hike and hike expectations, in order to balance supply with demand. But, a central bank normally try to contain demand and unemployment to achieve a stable value of money over a period of time, when there are inflation and expectations it tightens and when there are disinflation/deflation and expectation it cuts interest rates. Nonetheless, increase in the value of money is desirable in case of lower population growth rate to increase demand and growth by lowering the price-level through lowering the borrowing cost. The price-level falls as the economy approaches full-employment because production might consume excess labour supply and increase and as the economy crosses full-employment labour demand more wages to reallocate which makes the economy lose competitiveness and demand by increasing the wage cost which is good for the labour bargaining power, the share of wages increase in the GDP, but as production cannot be increased due to full-employment it results in inflation and loss in the value of money and the share of profits or the real profit fall which also discourages supply, but conversely when other costs and prices go down due to lower inflation, like the borrowing cost or the raw material cost it helps increasing both, demand and supply, because real wages increase and it also increases competitiveness and supply. Therefore, the economic-growth increases because both demand and supply increase, lower inflation and lower cost increase profits and also help contain demand for wages. There are two ways to increase competitiveness and demand and supply, either we cut nominal wages, which is hard to gain because of nominal downward wage rigidity, as put by Paul Krugman, labour resist cuts in nominal wages, or we cut real wages by inflation which reduces domestic demand, but may increase demand for exports because real effective wages go down. But, as we have noticed, in the most of the developed countries real wages have gone down even though productivity has increased, which has made the supply outpace demand forcing the economies in low inflation or deflation regime, lower real wages have resulted in low demand and lower real interest rate or borrowing costs too has increased supply, which are responsible for low inflation or price pressures today. However, the central banks may also increase demand and spending by lowering inflation and inflation expectations which might increase rate cut and rate cut expectations, if the banks try to increase demand by committing to lower borrowing cost and prices that might help balance demand with supply to achieve the inflation target and full-employment, higher demand and supply and investment and lower unemployment might increase the economic growth rate…  

Even though inflation is a sign of economic-activity and cuts real wages, real interest rate and real exchange rate, it reduces domestic demand only to achieve supply and exports which is responsible for the deflationary forces observed in much of the developed world, which are also responsible for low imports demand and low exports resulting in lower global growth, but lower inflation or little or slow deflation might increase domestic demand and demand for imports and exports thereby increasing the both, domestic growth and global growth rates… Lower price-level because of lower borrowing and wage costs might help increase domestic demand and demand for imports and exports, too…

Full employment and full growth, still to achieve...

Recently the issues of jobs creation and unemployment have gone viral in the discussion circles, among economists and analysts, that the government, even though has succeeded in increasing investment and growth by spending more on infrastructure, but the growth has been lackluster in creating enough job oppourtunities, which might be true, but as we know we are still recovering from a downturn due to the previous rate hike cycle which has become accommodative only after the new government has joined to office, the rate cut cycle started only when a new government took place at the centre. Nonetheless, the leaders in power have made clear that they want the nation to be of job givers and not seekers, and the efforts in that direction, ease of doing business and promotion of startups – a fillip to create environment for investment, employment and growth – have been enough to push INDIA’s rate of increase fastest among the major world economies. It has surpassed both the other two Asian giants – Japan and China in the recent past after 2013 and has become one of most attractive investment destination, which has low inflation (which means less depreciation) and more inflows, depreciation increases cost of foreign funds in the debt and the equity market. FDI’s and FII’s has been consistently flowing in, however the rating agencies has given a low rating with a stable outlook when they should rate it good given its growth rate and macroeconomic indicators, the low inflation has brought back expectation of rate cuts and an accommodative stance by the RBI when the commercial banks have only reduced home loan rates while investment in other sectors have been subdued, but the corporates have borrowed heavily from foreign through bonds and have also borrowed from the domestic debt market through bonds. But, the domestic banks have been helpless in creating new loans ‘cause of bad loans for which the RBI might use OMO’s to improve balance sheets to increase loans. Or, the RBI may allow sick PSBs to raise capital through bonds if not using the equity route… Or, all to some degree…   Reluctance of the commercial banks to pass on the previous rate cuts, the gap between repo rate and market rates, all point that the money supply have been inadequate and still the RBI has adopted a neutral stance even when it was hit by demonetization and surge in temporary liquidity in banks which the RBI restricted to create loans. To improve investment, employment and growth, the RBI must continue with an accommodative stance, lower interest rate and interest rate expectations are important to increase investment, lower unemployment and increase growth.

Japan... to 2017...

To increase domestic demand and external demand, it is important that Japan try to increase real wages and increase real exchange rate by lowering prices and price expectations, respectively, in the short-run... It would also increase long-run price expectations because demand and spending may go up due to lower prices and lower prices would also restrict some supply... External devaluation or nominal depreciation too increases income relative to prices, but it cuts real wages by increasing inflation which lowers domestic demand, but increases exports or external demand by increasing depreciation... Higher money-supply and full-employment increase inflation and inflation expectations, people demand more money which is responsible for higher nominal wages, nominal interest rate and nominal exchange rate which might increase competitiveness by cutting down on real wages, real interest rate and real exchange rate by inflation to increase supply, but this reduces demand and savings (and investment 'cause of higher real rates) or increase supply relative to demand which is responsible for lower price and price expectations... To increase demand it is important that the policy makers try to increase real wages, real interest rate and real exchange rate... It is good to increase demand, domestic and external upto full employment, after which increase in money-supply would increase prices and wages and the economy would lose competitiveness and demand... Lower cost and prices also increase demand and growth…

Data paint a healthy picture...

Recently, the revised estimates of the Wholesale-Price-Index (WPI) and the Index-of-Industrial-Production (IIP) data, with a revised base year from 2004-05 to 2011-12, were out which showed a good improvement over the last data in terms of the macro economic conditions that might help increase investment and growth, because lower inflation may push the Reserve-Bank-of-INDIA to lower the key-rates and increase investment, and, higher industrial production may increase employment, demand and growth. According to the latest data, the WPI fell to 1.7% from 3.7% earlier and the IIP has increased to 5% from 0.7% in the past, and the Consumer-Price-Index data, revised few months back, is already near 2.99%, a full percentage lower than the RBI’s medium term's target which might increase the real rate or the natural real rate target set by the RBI somewhere between 1.5-2%, to bring equilibrium in investment and savings, that is higher than the current real rate, nominal repo rate minus inflation, i.e. 6.25% - 2.99 equals to 3.26%, which is a high real rate which might increase saving, but may lower investment demand. The RBI might try to equalize demand and supply of money for which it may try to converge nominal interest rate to the natural real rates, because it would be difficult to increase the real rate to the nominal rate to achieve stability, since higher real rates would discourage investment, in equilibrium nominal rates would be equal to the real rates. However, it is still a question that which inflation index would be followed to deflate market rates, whether it would be WPI or CPI or Core-CPI because different people use different index, nonetheless the standard practices is to take gauge of consumer-prices because it is the inflation a common man experiences in the market, it includes the cost of food and fuel, determinants that decide cost of living and transport cost for a layman in a big-way, moreover poor people use few things included in manufactured-goods-inflation index or the Core-CPI, higher inflation would cut real wages, demand and growth. The revised estimates have brought credibility and consistency in the data since they are now directly comparable because of the same base year. The RBI must see it as an oppourtunity to provide cheap credit to an already slow recovery in businesses from the previous down cycle and lower the residual Non-Performing-Assets due to low demand. Notwithstanding, it (the RBI) can tighten whenever inflation overshoot its medium term target, the RBI still have to find the rate at which there is neither inflation nor deflation, the natural real rate of interest to bring price-stability and maximize employment. Moreover, the policy makers should target a GDP of 10% in the coming years, since INDIA is currently using only one firepower, it domestic demand, but it should also strive for more exports to provide gainful employment to its labourforce which is cheaper than the other major countries, and that would help maintain competitiveness….. 

Ricardo is widely celebrated among the Classical-Economists…..

Ricardo asserts that labour (mainly) decides the quantity and value of anything, the labour theory of value, and, that wages and population are connected because higher wages would increase the population and labour-force, thereby wages would again fall to minimum or subsistence wages due to increase in labour-supply. However during the past century, in the real world population has actually decreased which means that wages might increase as a result of lower labour-supply and that has not happened. Even though, nominal wages have increased because of inflation, but real wages have gone down in most of the developed-World. Moreover, the share of labour or wages in the Goss Domestic Product has also gone down in the real terms, which means that inequality has increased in the past and that might have resulted in lower growth, because the Classicals have also assumed that all wages are consumed which generate demand, since the labours have a higher propensity to consume, and all the profits are invested because their propensity to consume is lower. Therefore, we may call the labour-side, the demand-side of the economy and the capitalist the supply-side. And, it is a stylized-fact that to restore equality or equilibrium (demand and supply, and, price-stability and full-employment), it is important that the share of wages equal the share of profits. Nonetheless, if real wages and share of wages, and demand would go down, it would increase supply relative to demand and lower prices, and the capitalist would invest less and everytime capitalist would invest less demand would go down because unemployment would go up and the economy would fall in a deflationary-spiral and vice-versa, same as put by Harrod-Domar and Solow as the knife-edge problem. Similarly, if savings, investment and profits fall it would reduce supply and increase the prices and everytime capitalist would invest and supply less the gap between demand and supply would increase, demand would go up relative to supply even if it is held constant and it would increase the prices, the economy would generate the inflationary-spiral and vice-versa. Therefore, in order to achieve equality and equilibrium it is crucial that the share of wages and profits remain equal in the GDP and real wages increase till full-employment. Of the above two, increasing real wages and share of wages seem more correct because higher demand and prices would also increase supply upto full-employment. Below the full-employment prices tend to go down and increase real wages because supply and production would increase because of excess labour supply and above full-employment prices increase because of less labour supply.  The Classical-Economists further viewed full-employment resulting in the Stationary-State, a state in which production or supply could not be increased without innovation or better use of resources. Therefore, they have stressed on better division of labour and increasing productivity of labour. In the theory of Comparative Advantage, Ricardo has put weight on specializing in production and export of those things which a country produces at lower cost and use the cheap factor intensively which points that a country that is capital rich should specialize in capital-intensive line of production and a country that is labour rich should produce more labour intensive products……

Ricardo is widely celebrated among the Classical-Economists…..

Law Of Supply Is Also Operative...

Economists and policy-makers try to bring equality or equilibrium in demand and supply, and, prices and unemployment by the use of the economic-policies, monetary and fiscal, while targeting a higher standard of living by adjusting the money supply on a general assumption that inflation might increase in the short-run in order to achieve full-employment, full-demand, full supply and full growth based on the growth of population or labour-force. However, high-demand and low-supply result in higher prices, therefore manipulating, the both, might bring stability in prices or inflation and unemployment. The adjustment is also brought by price and price expectations by targeting real prices or the inflation adjusted prices, when there is inflation or nominal prices are higher than real prices, the monetary/fiscal policy is tightened to bring demand lower to supply, that is a standard prescription, but the same outcome might also be achieved if supply is also increased, higher prices would itself increase the supply and lower the price level. The law of supply is also operative in the economy if we target higher inflation adjusted prices or real prices by increasing money-supply and lowering the nominal interest rate or the borrowing cost, lower borrowing cost would help increase supply. Nonetheless, in the past limited land and food prices and later the fuel prices had been mainly responsible for assuming inflation and inflation expectation as result of expansion in money-supply and lower interest rate, but higher productivity of land due to extensive use of better techniques and higher supply of fuel due to more investment and innovation in the area of energy and also a decreasing world population has all contributed to lower inflation or deflation and expectations. Moreover, lower real natural rate of interest has also helped increase investment and supply and lower the price-level and expectation about them. Therefore, it is the need of the hour to construct models based on the assumption that prices may also fall as a result of expansion in money supply and lower interest rate or borrowing cost and higher supply, competition from multi-nationals has also resulted in price completion and lower prices.  If the policy-makers target lower inflation or deflation and expectations by increasing money-supply and lowering the borrowing cost and increase supply in a controlled manner it might also set equilibrium in demand and supply, and, inflation/deflation and unemployment…