In spite of nine years of planning, our rulers have failed to tackle the problem of inflation; on the other hand, the inflationary pressures have become very strong during the Second Five Year Plan, and if we take into account the deficit financing proposed, they are likely to become even stronger during the Third Five Year Plan. The inflation that we witness is an inevitable product of the types of government policies followed during the war and of certain other conditions created by the war.
The inflationary impetus came from the fiscal policy of the government. In the post-war period, inflation can be characterised as a situation where investment was in excess of saving. In this country, there are now only two primary sources for any significant increase in money supplies. First and foremost is Deficit Financing of the expenditure of Central and State Governments, resulting in increasing the direct governmental indebtedness to the Reserve Bank, much of which is from time to time converted via Treasury Bills into Ad Hoc Securities lodged with the Issue Department of the Bank against the equivalent issue of Currency Notes; secondly, there are the new issues of the government loans to the extent they are taken up and retained by the Reserve Bank of India, plus any open market purchases of Government Securities by the Bank.
On top of this foundation comes the consequent increase in the demand liabilities of the commercial banks and in their loans and advances. The basis of this whole process is excessive spending by all governments in India on a scale which in the aggregate is altogether beyond the capacity of the economy to sustain either in terms of the present taxation potential or in terms of available current savings—that is to say, in relation to the overall availability of real resources at a stable price level. From this, it is quite clear that government expenditure is greatly financed to a large extent by the created money.
The government has shown little inclination to attack the root cause of inflation, which is its own extravagance supported by deficit financing. Instead, it merely keeps protesting against the symptoms by saying that primary producers should not hold back their produce from the markets, consumers should refrain from making purchases and employees should be reasonable in their demands for higher wages. These exhortations are supplemented by appeals to manufacturers to “hold the price line” and by tirades against middlemen for hoarding, profiteering and black-marketing. In fact, inflation is already so serious that people find it prudent to hedge against steadily rising prices, and it is not unlikely that if the Government should go on pumping new money supplies into the economy at the present rate, we may reach a stage of galloping inflation when there will be an open flight from the currency.
Deficit financing and price line as opposed to real income and true savings go together but in opposite directions. This is the crux of the problem of inflation. Both inflation and population growth are the enemies of planned economic development, but between the two, inflation is a greater enemy because it is easy to generate it by planning itself and especially by the communist method of planning or centralised planning. Population growth may tend to fall as the standard of living increases, but as more money is injected into the economy by means of deficit financing, inflation is created.
It is an inherent defect of centralised planning that it magnifies the overall picture and tends to inflate the cost of many development schemes which, with local initiative and enterprise, could be carried out more economically. In a country of India’s size, the small contributions of productive effort which millions of peasants and others can make by utilising their spare time can make up in the aggregate a substantial addition to national income. The encouragement of mixed farming, for instance, by enabling every small farmer to take to dairying, poultry keeping and kitchen gardening, in addition to the staple crop that he may be growing, will considerably increase the farmer’s earnings with much less outlay per head than what is envisaged under various agricultural and irrigation projects.
This will become real only if the States take up seriously the task of surveying their resources and drawing up district-wise plans for the development of industries. With more decentralised planning and local initiative, the problem of resources will become more manageable at each level, while all-India planning is limited to certain objectives. Unless this basic shift in emphasis and inspiration takes place, our planning will continue to give rise to the problems which we have had to face in the past ten years—the problems of inflation, of regional imbalance and mounting unemployment.
There must be a subordination of ideologically-inspired agrarian reforms to the supreme need to increase production. Economy in the administration and in the execution and operation of public enterprises is another vital requisite which has been ignored in the past. By emphasising monetary outlays as the visible index of development, the Planning Commission had unwittingly encouraged public expenditure without regard to the results that may be expected from it. And infructuous expenditure, when it occurs on a national scale and runs into many crores, becomes the driving force behind inflation.
In order to achieve rapid economic development of the country, it is imperative that price level should be stabilised. Anti-inflationary policies create growth because people are inclined to save more when they are convinced that every ‘naya paisa’ that they put aside today for future use will not be eaten up by the price increase of tomorrow.
What is needed at present is more production. Unless production is increased, all talks of economic progress is nothing less than mockery.
In India, 50 per cent of the national income is derived from agriculture and stability of agricultural prices is the key to the stability of the general price level. In order to fight against inflation, there is an urgent need of increased agricultural production, and this can be achieved not by cooperative farming and State Trading in Food-Grains but by giving every incentive to the farmer to use up-to-date and scientific methods of production. From the point of consumer, the price of food-grains constitutes the main element in his expenses. Prices of industrial products can be stabilised only if the prices of raw materials and foodstuffs do not fluctuate.
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So far the official policy has failed to tackle this problem, and undue rise in prices of foodstuffs and raw materials have far-reaching social effects. The success of the Third Five Year Plan will greatly base upon the stabilisation of the price level. At present we rely more and more upon the imports of foodstuffs from America and our Food Minister has recently arranged 17 million tons of food-grains to cover the deficit in the next four years.
The wheat supplies under the new agreement will play a considerable part in stabilising food and general economic situation and countering the stresses and strains of the Third Plan. They would also enable the Government of India to devote its energies more fully to the programmes for increasing agricultural production, relatively free from distraction of having to deal with recurring food shortages.
The establishment of buffer stock may help in holding the price line and reduce the need for resort to physical controls and expedients such as State Trading for restraining prices or dealing with hoarding and profiteering. But it must be remembered that the aid should be properly utilised and that agricultural production is expanded fast enough to make reliance on imports unnecessary by the end of Third Five Year Plan. The existence of a reserve built out of imported grains will not obviate the need for internal purchases from surplus areas. But this policy with regard to internal purchases and sales will have to be determined by pragmatic considerations.
Those who have clamoured for the State taking over the entire wholesale trade in food grains have not realised either the enormous magnitude of the operation or the risks and costs involved in it. Nor is such a step necessary for protecting the interests of the consumer or the producer. So long as the food-grains trade is competitive and State can influence market prices by purchases or by sales from reserve stocks when they tend to go up unduly, the balance of advantage for the consumer and the community will lie in letting the free market operate with the State playing a marginal interventionist role.
It must also be remembered that food prices alone cannot be kept under control—whatever the devices adopted short of compulsory procurement at one end and rigid rationing at the other—unless inflationary forces are kept in check over the whole field of public and private finance. This means not only a rigorous limitation of recourse to deficit financing but also the complete elimination of unproductive expenditure of every kind—from the creation of supernumerary jobs to the erection of expensive buildings.
If every rupee of development expenditure is made to yield an adequate productive return to the community by way of goods or services, the problem of stabilising prices would not be so formidable as it has been in the past five years. What is needed is a coherent policy applicable over a wide front to restrain such inflationary pressures, but the tendency to concentrate attention on slogans like State-trading makes such a comprehensive solution a distant, if not a vain, hope.
To fight inflation and to raise real savings of the people, topmost priority should be given to agricultural production. This will alone enable the Government to maintain a stable price level in the absence of which the economic progress of the country will be greatly retarded. Investment should be in projects including those for producing consumer goods which take a short time to mature. Among the projects, preference must be exercised in favour of those which constitute the core of the Plan—food, fuel, transport and power.
Inflation has already produced grievous distortion in our economy and reduced the real value of the savings of the millions of people with small incomes to a small fraction of their value ten years ago. Such a process cannot go on indefinitely without undermining the economy of the country.
We can achieve our objective of stabilising price level not by Communistic methods but by the methods adopted by Japan, France and West Germany. These countries were able to solve their economic problems by adopting a free market economy and not a government-controlled economy. As a result of this, they were able to achieve rapid industrialisation, raise the standard of life of the people, establish a stable, hard currency.
Under inflationary pressures, which have become stronger during Second Five Year Plan the middle class has practically been extinguished. The industrial policy that is adopted by the ruling party in the post-war period is certainly detrimental to the economic growth of the country. It has only worsened the situation, and the deficit financing that is proposed in the Third Five Year Plan will strengthen the inflationary pressures. Unless the economic policy is changed in time, plans will lead the country to bankruptcy instead of prosperity.
This essay is part of a series from the Indian Liberals archive, a project of the Centre for Civil Society. This essay is taken from the Economic Supplement of the Indian Libertarian with the title “Inflation and The Plans” published on May 15, 1960. The original version can be accessed here.