Bangladesh Bank's effort to keep the inflation rate at the target level will prove very much challenging. He suggested that to bring the economy on the track of stimulated aggregated demand for non-food items, the central bank should stand away from its conservative stance on consumer credit and encourage its use to revive the sluggish aggregate demand. By so doing, the central bank can help the economy escape the danger of lower growth and higher inflation. The only concern he had in his mind about consumer credits is the use of such credits for speculative purposes in the stock market. He argued that this is an unfounded speculation as no formal evidence exists on this.
However, we would say that the Bangladesh Bank should adopt consumer credit expansion policy. Its current conservative stance on consumer credit is very much justified given the nature of our economy. It is taking care of the composition of different variables and constraints such population, asset prices, dishonest practices etc. Even if we are justified in saying that people don't use consumer credit in speculative stock market, which is not wholly correct, we would say that there are a number of reasons not to undertake consumer credit expansion policy to revive the sluggish aggregate demand.
To put our argument very straightforward, we argue on the following points: (1) our economy will not bear a significant brunt of lower growth and higher inflation as expressed by Dr. Abul Basher. (2) Consumer credit expansion from our country's perspective will create an inflation problem because such consumer credits will be exploited and availed by a small fraction of people creating more burdens on food and non-food items. (3) To give a projection, Bangladesh would be in economically benefited position in terms of generating a steady growth with steady inflation and asset prices if it continues its conservative stance on consumer credits. We will try to illustrate all these points with relevant details.
CONSUMER CREDIT AND THE SHOCK ABSORBING CAPACITY: The argument for expanding consumer credits to revive the sluggish aggregate demand in our country is less desirable. The foremost reason is that our economy, unlike the developed ones, lacks the capacity of absorbing shocks. This lack of shock-absorbing capacity is due to weak and feeble market economy structure. This means markets are weakly integrated. Inter-market relations and economic variables' reaction to expectations are also very weak. In the formal economic term, we can say, for example, that if we take the growth of GDP (gross domestic product) as a dependent variable, we can form a reaction function in which growth of GDP absorbs the reactions from the shocks and measure how elastic the reaction function is. This is a very simple technique to give an approximate estimate without getting into direct measurement as to how much widespread the effect would be of the current political turmoil in reality and how much the effect should be in proper theoretical estimate.
To come to the point, we say that countering lower growth and higher inflation by adopting expansionary consumer credit policy is not warranted. This is because the lack of shock-absorbing capacity tells us that growth has fallen by smaller extent than the amount it should, and the economy is not well poised for lower growth and higher inflation problem. Second, inflation, which has been largely attributed to higher and exorbitant prices of food, is a momentary and mostly frictional problem which has arisen from disruption in supply of food items. Such momentary problems will not last long and sooner or later they will go away. But to counter such momentary problem, we don't need to take something on hand that will create permanent problem and the expansion of consumer credit will do so.
Another very strong reason for not undertaking expansionary consumer credit policy to counter the sluggish aggregate demand is that we need economic power, not political power, to restore the balance of economic variables disturbed by political malpractices.
While concern is raging in people's mind that political turmoil will depress our GDP growth, our concern is that growth should be depressed more, and ironically, it will not be depressed to the sufficient extent to restore the balance. The current situation tells us that the balance of the economic variables is upset by political malpractices. In this circumstance, we should allow our economic variables to absorb the shock. This may shake the sentiments of our political parties and may teach them a lesson not to play with our economy. But our economy is not that much structured and for this reason, it doesn't absorb the shocks very well. For example, the extent of devastation caused by political reasons would have caused a very strong negative effect on the economic performance if we had lived in very integrated and strong world market economy.
In fact, this very weak shock-absorbing capacity also gives some room to our political leaders to carry on their bad political practices. And putting expansionary consumer credit policy in practice by the Bangladesh Bank may seem desirable from some fronts.
But it is utterly undesirable if we take this long-term and permanent problem in our consideration. To say clearly, an economy should not foster the ill political power and give a room for further devastation devising an economic policy that wards off the negative effect of political malpractices. Rather we should try to adopt a permanent solution that will prevent such kinds of havoc in the future. The sluggish aggregate demand, if caused by hostile political environment, should be given the room to take its toll and teach our leaders a lesson what kind of consequences follow from their bad actions. But we are lucky enough because the lack of shock-absorbing capacity will not allow this to happen.
CONSUMER CREDIT AND HIGHER INFLATION: The suggestion to use consumer credit to revive the sluggish aggregate demand can't be also supported from another point of view. What if such expansionary consumer credit policy increases the inflation more and still leaves a prospect for comparatively lower growth and comparatively higher inflation though one can say this is a higher growth and higher inflation? One of the fatal problems of macro policies is that they are very much exclusive in nature. For this reason, people often find difficulty integrating micro results with macro results.
Higher inflation and higher growth target by adopting consumer credit expansion policy will create this trouble for our country. But how? Dr. Basher argued that monetary policy can have very little effect on food inflation in our country. This is justified given the nature of our economy. But that doesn't imply that consumer credits will not instigate inflation problem. Even if such credits instigate inflation problem, that should not be a problem but the real problem is how much such inflation is justified. We say that this inflation is not justified. In a country like ours where income distribution is uneven, the effect of consumer credits expansion policy will be devastating.
The reason is that the effect of consumer credits will not be smoothly trickled down. Instead, they will create a severe crisis of still higher inflation and yet a bad signal of growth stimulation. This means a prospect for comparatively higher inflation and lower growth - the same result that Dr. Abul Basher feared. The brunt of such higher inflation will fall unjustly on the shoulders of the people in the bottom part of income distribution. Therefore, we should allow the economy to pick up the momentum letting it absorb the shocks instead of welcoming far more problems creating measure.
CONSUMER CREDIT AND ASSET PRICES: This year the Nobel Prize lecture, if somebody has watched and listened to it, has been an interesting one after a long time. Because two completely different streams of thoughts have won the prize - one is efficient market price hypothesis advocated by Eugene Fama and Lars Peter Hansen, both from the University of Chicago, and the other is the speculative asset price theory by Robert Shiller from Yale University. Eugene Fama started the speech and showed the evidence of efficient market hypothesis. Then Lars Hansen stepped in with his econometric approach to testing market efficiency hypothesis. But both were so conservative in their lecture that they almost blew away all the allegations of bubbles created by speculations. Instead, Fama started laughing when he showed the word 'Bubbles' in his slide. But when Shiller stepped in, the discussion became very lively and humorous too. He said that Hansen and Fama don't believe in market bubbles but "I am going to present the evidence that market creates bubbles and it is not as efficient as they argue."
The reason of bringing such discussion is that it is very much relevant to use of consumer credits in an economy. Once this writer asked one professor of economics to explain why prices of houses are so high in the USA. It doesn't make sense why prices are so high given all the theoretical studies and predictions and also reality. Why do all models of asset prices say such as Lucas model, and Arrow-Debreu model fail to explain such prices etc? He raised his hands to say 'Well, this is the big question to ask'. One of the big reasons why house prices are so high in the USA and in other advanced economies even if the population is so small is the unbridled use of consumer credits. But in economic theory, it doesn't matter whether you save today to purchase a house in the future or get a house on mortgage. The theorists are totally indifferent in this question. But the effect of consumer credits can't be seen too early and it takes time to observe such effect. The USA now seems to understand the fatality of the unbridled use of such credits. In fact, Shiller's Nobel Prize lecture contained a slide that showed how the housing price bubble was created. The 2008 financial crisis in the USA was not due to any other reason but for the unbridled expansion of consumer credits to housing sector. And bubbles are the cumulative expectation effect on the price that is generated by the widespread use of consumer credits. Had the people in the USA saved to purchase a house in the future without taking mortgage, the price of a single standard house, we hypothesise, would have been the half of what is now. But irony is that going back is now impossible because the economy has become too much integrated that it will create a huge upheaval. The danger multiplies more for our country because: (1) The degree of skewness of income distribution is far higher in the country than in advanced economies (2) The huge population itself reckons a red warning to use such instrument.
To sum up, considering these angles, we would suggest that the Bangladesh Bank should not change its current stance on conservative consumer credit policy. Instead, the desirable option would be to let the economy get its momentum through the conventional measure. Introducing consumer credits to stimulate sluggish aggregate demand doesn't seem to be a good instrument at this point of time. What is more worrisome is that this sluggish aggregate demand has been the byproduct of some political disturbances, not of economic failure or as such. This also indicates how much reasonable the use of such instrument is given the origin of problem.
Md. Jamal Hossain writes from the University of Denver, USA. jheco.du@gmail.com
