In-Flay-Shun

The government finally bit the bullet. Petrol prices increased by 5 bucks and Diesel by 3. I drive a Skoda Octavia which has a 55 litre tank. So a fill-up now costs Rs. 165 more. I generally fill'er up once a month and at most twice. So a monthly fill-up is now Rs. 330 more at most. In the grand scheme of things not a big deal. But.....

I think this is too little too late. Crude prices have gone up by over 30% since the last time prices were increased, a 10% or so increase in pump-prices is hardly going to make the Oil Marketing Companies whole. Unfortunately the UPA is between a rock and a hard place. On oneside there's the oil companies that need to be given cash to survive and on the other there's Sonia and the Reds.

The Reds say that any increase in fuel prices means an increase in overall consumer prices which they call "inflation". Lets leave that argument aside for a minute. What do the Reds propose? Continue giving subsidies and increase them as world crude prices increase. How would the government fund these increasing subsidies simple: 1) Taxes OR 2) Debt.

An increase in taxes means that private consumption and investment/savings are crowded in favour of increase in government revenue which doesn't bode so well for domestic growth. It's also somewhat inequitable given that those that consume oil products don't necessarily pay taxes. In which case those that do pay taxes will have to share in a disproportionately higher burden of the increase on fuel prices. Given that India's governments are not usually known to do the "right" thing - I fully expect the government to levy some sort of cess to fund the increased subsidy.

They can take on additional debt (which is what the Oil Bond is) - which of course means increased government debt. The Reds don't care in fact I don't think they understand what an increase in public debt means. Our public debt is about 55% of our GDP (about 0.5 Trillion US$) - someone, someday will have to payup and when that time comes god save us all. Government postpone that day of judgement by making "minimum payments" in the hope that inflation will eat away the principle and repaying the debt won't be so much of a burden.

In fact in this age of fiat currencies it is the government which controls the value of the currency - consequently it is in the interest of a heavily indebted government to "print" (or create by other means) currency - and use these newly printed currency to repay past debts. I daresay this is what the US is doing... but that is another story for another day.

Let's go back to the Reds' (and Sonia's) basic premise:
Increasing fuel prices will increase the general price of all goods and thus cause inflation.

Increase in prices is a symptom of too much money chasing too few goods. Prices increase when money supply has increased too much (i.e the increased money supply is not supported by higher economic growth) in the past. Changing the price of one input is not going to change inflation one iota.

Lets take this hypothetical scenario. In order to win next year's general elections the UPA declares that it will give free Petrol, free Diesel, free LPG and free Kerosene to all and sundry and it will fund the 100% subsidy by issuing more Oil Bonds. These Oil Bonds will be denominated in Rupee. As they continue to issue Oil Bonds Rupee Interest Rates are going to keep rising and rising and rising ..... eventually no-one is going to want to hold a Rupee for love or for god. That is what is happening in Zimbabwe right now. A Dinner for One in Zimbabwe costs Z$ 1,243,255,000.00.

Unfortunately the sad reality is that the above scenario might in fact happen one day....
Anyway so what can be done to control inflation. Unfortunately there is only one medicine - and that is to engineer a deflation through a decrease in money supply.

Tighten Mr. Reddy Tighten Now, Tighten Before its too late..........