Inflation rears its head

Consumer prices in Bangladesh rose by 6.7 per cent in the year ending October 2009.  Inflation has risen from 2.2 per cent in the year ending June.  The rise is broad-based among both rural and urban areas.  And it has been driven by a rise in food prices (Chart below).  

Predictably, the rise in inflation has been blamed on colusive behaviour among the businessmen (see this Prothom Alo piece for example).  The thing is, this ‘business syndicates’ story is almost certainly wrong, and it’s important that we think about real reasons why food (particularly rice) prices are rising.  

 

 

First, let’s think about why this syndicate story is wrong.  Prothom Alo says there are big rice mill owners, and they control the market.  How exactly do they control the market?  Suppose there are four rice mill owners: Rahim, Karim, Ram, Salma.  They all agree to hoard rice until price rises.  How is this agreement enforced?  Why doesn’t Rahim undercuts everyone else?  Anticipating Rahim, why doesn’t Karim, Ram or Salma move first?  Are they all holding each other at gunpoint in the Dhakai film fashion?  What is the economics here?  

In fact, I’m yet to hear a coherent argument about how syndicates actually contribute to inflation.  In an article in the Journal of Bangladesh Studies, Zahid Hussain and Sanjana Zaman — two World Bank economists — quite convincingly reject the syndicates story.  Let me quote the relevant bit:

Reported concentration ratios are rather low by international standards and at best suggest the presence of loose oligopolies. It is possible that these large players implicitly or explicitly collude to provide price leadership, but the study sheds no light on how these players actually operate. If the existing players are making “excess profits”, what is preventing entry of new players to compete for these profits? There are no legal or policy barriers to entry. It would be hard to argue that there may be “natural” or technological barriers. The source of the market failure is not clear…

 

 

 

If it is not syndicates, then what is the story?  Supply shock in the form of worse-than-expected aman crop may well be a factor.  But I think potentially a bigger factor is exchange rates. 

In August 2008, 1 Indian rupee cost 1.60 taka.  As the financial crisis hit, the US dollar appreciated against all major currencies because of the flight-to-safety effect.  Since taka is effectively pegged against the dollar, it appreciated against the rupee, to 1.35 taka/rupee by March 2009.  Since March, dollar has depreciated, as has taka.  A rupee was worth 1.48 taka in October. 

I’ve argued in the past taka-rupee exchange rate plays a major role in food prices in Bangladesh (see here ).  Hussain and Zaman, actually formally test how integrated food commodities are between India and Bangladesh, and find that the rice market in the two countries are ‘completely integrated’.  Any change in exchange rate is therefore going to play a major role in food prices — just as the appreciating taka helped bring inflation down in the first half of the year, in more recent months, depreciation has been fuelling inflation. 

There are, however, more reasons to worry.  The spike in rice prices in 2008 were caused primarily by export restrictions in India and aggressive import tendering by the Philippines (see here).  Philippines is back in the stockpiling game again, and any false moves from any of the major suppliers could send a major shockwave through the global rice market (see here). 

Instead of chasing ‘greedy businessmen’, our media should highlight the real reasons why rice prices are rising.  I’ve deliberately left politics out of this post, though inflation at the rate when ‘Hawa Bhaban syndicates’ were allegedly running the show can’t be comfortable.  The government has made repeated commitments to food security.  I hope they are looking at the real reasons, because if they fail, everyone will pay.

Source: data from CEIC Asia; Hussain Z and Zaman S, Understanding inflation in Bangladesh.

Update (26 Dec): BBC reports of food price rising to 10-year highs in India.  This can only be bad news for Bangladesh.