Wednesday, May 11, 2011

Money printing and inflation

The single biggest issue everyone has on their mind right now is probably the rising cost of living. Protest from 'youth' and others have called on the government to somehow reduce the rising costs. It seems that, no one has actually adequately explained to the public, what actually is going on, and why things are getting more expensive. So let me try.

First, money is a medium of exchange and a store of value. Being a sovereign nation, we (as in government) creates our currency Rufiyaa. The notes on itself has no intrinsic value[1]. The only value the Rufiyaa has is the fact that people accept it in exchange for other goods and services.

Secondly, money is printed by the government and injected in to the economy. People use the money to exchange goods. If not for the money (created by legal tender, or arising naturally), we would be trading in barter.

Suppose I sell a laptop for Rf7000. I have no intrinsic use of the Rf7000, except that I can use those to buy product/service that I need, or save for future use. If there is a higher demand for laptops, the prices tend to rise (just like other goods). Generally, given a quantity of Rufiyaa Q in the economy, the general price level P of goods remain the same (this price level P is reflective of cost of living as measured by various indices such as Consumer Price Index). However, the price level P might change in two ways.

One, if the production of goods keep on increasing, then the price level will generally reduce (given a fixed quantity of Rufiyaa Q). This is because there will be same amount of Rufiyaa chasing more goods, in effect, each Rufiyaa is able to purchase more goods. This is called an increase in the 'purchasing power' of Rufiyaa.

Second, if for some reason the quantity of money Q is increased at a faster rate than the production of goods, then the reverse will happen. Much more Rufiyaa will be chasing same or (slightly increased) goods. This additional demand placed on the goods will cause the prices of goods to rise, ie a rise in the general price level P. In effect, more Rufiyaa will be needed to buy the same good, thus reducing the purchasing power of Rufiyaa.

So how does, and more importantly, why does Q (the quantity of money) increase? There is only one answer: The government prints them![2].

But why? To answer that, we have to look at how governments get money to meet its expenses. Government, gets money from few sources: Taxes/fees, borrowing/loans (local or foreign), foreign aid, printing currency, or leasing/selling assets. To meet its expenses such as wages, infrastructure, loan repayment, etc, it has to get money from one of the above methods. Whatever program of expenses the government has (be it civil service or parliament salary, harbours, pensions etc), the government has to engage in one or more of the above means to finance its expenses, for which the public will ultimately have to pay.

If the expenses of the government can be met with revenues (via taxes/fees), then there is no need to resort to other methods. It is only when the government expense is more than its revenue (ie. when it has a deficit budget), that the government has to resort to borrowing or printing of money. Some argue that there is nothing inherently wrong[3] with borrowing (local or foreign) as long as it is for productive, revenue generating capital expenditure or to correct some short term imbalances.

Historically, raising taxes is politically less desirable. Loans depend on the credibility of the government to repay it back, especially foreign denominated ones. Selling assets is a short term solution, which leaves us with printing money. Printing money is very attractive to politicians, as there is no need pass legislations to print them, or there is no pressure due to raising taxes. Thus, large deficit budgets over many years can be financed only by increasing the quantity of money. As previously mentioned, increasing Q (faster than the rise in productivity) will result in a rising of the price level, ergo inflation.

As this new money gets injected into the economy, more Rufiyaa will be chasing the same goods/services, thus putting upward pressure on the prices. The rise in prices does not come immediately. It comes when the new money circulate throughout the economy. Where the government injects the money has an important effect on who actually benefits from such money.

Suppose that, due to rising costs, government decides to print Rf100,000 per each citizen and distribute it simultaneously to each and every citizen. The question is, will this solve the problem of rising costs (with an extra 100k, aren't we all better off)? The short answer is No. At first, people will start spending the newly gotten money. As more and more people place demand on goods/services that they would otherwise not have placed demands on, the prices rise. Ultimately, the general price level stabilises at a point where we are not better off. Our nominal income has increased, but our real income (adjusted for purchasing power) has declined, because we now have Rufiyaa that has much lower purchasing power! And we have reduced the real value of our savings.

Obviously, the government does not print the money and distribute equally as stated above. But it does print and inject the new money somewhere. The newly created money is injected via government expenses such as salary, benefits, capital expenditure etc. The people who gets this new money first are government contractors, consultants, civil servants and others salaried on the public purse. When they go and spend that money the prices have not risen yet, so they get great benefits. Ultimately, the new money circulates to others such as friends, kanmathee fihaara, coffee shops, etc. By the time the new money reaches down the chain to common worker, the prices have risen in the market, and they have to pay for higher price from the same fixed income! Thus, inflation is a very very regressive tax[5] on ordinary people (especially those on fixed income). The poor (whose incomes are already small, and have less savings) are hurt most as their wages and savings will have less purchasing power!

So what is the solution? Balancing state budget by reducing expenses, matching that with reasonable taxes, or in short, government living within it's means. Note that I didnt say live within 'our' means. 'We' the ordinary people are trying to live within our means. Our expenses match with our incomes (though it is becoming more and more difficult lately), or we borrow only in emergency or for investments. Ofcourse, we also have exception to this rule, but generally we are law abiding citizens that are just trying to live within our means. It is the government[4] that has always and consistently mismanaged it's finances, but we the people have to ultimately pay.



[1] - It used to be that world currencies were backed fully or partially with gold/silver or some other commodity. This is no longer the case, and is called 'fiat' currency. What 'backs' such currency is the productive output of goods and services that people accept by exchanging the currency.

[2] - Technically in today's world, the central bank does it on behalf of the government via various methods such as bonds/T-bills etc. Printing per se may not occur, it might be just an entry in an electronic account. In addition, there are many other tools available to the central bank to control money supply.

[3] - There is still the issue of sovereign loans, where the incumbent government borrows heavily for pet projects inline with the election year. The issue is that the debt has to be ultimately paid by the citizens (the politicians will be long gone), which is sometimes a very heavy burden. You and your children are subject to this debt, which you have not consented to in the first place!

[4] - Government here meaning the entire State apparatus including judiciary, executive, independent institutions, parliament etc.

[5] - It is generally agreed by most economists that a low level of inflation (1% to 3% per year) is healthy (and there are good reasons why). There are situations where injecting money may not cause inflation, such as when the economy is in a recession/depression, such as what they are currently doing in US with Quantitative Easing.

Tuesday, March 29, 2011

The Dollar Shortage

It has been widely recognized that Maldives is facing a 'shortage' of US Dollars. The official pegged rate of MVR 12.85 to the dollar has been there for quite a while. However, it has become very difficult to buy USD for 12.85 anymore, atleast in significant quantities (if you call 500 dollars significant).

Ordinary citizens have to queue at BML to obtain USD at $100 per person per day (at $1 or $10 denominations). This is in no way adequate for most people. Ofcourse, there is a different class of people who do get thousands in $100 denominations from the same bank. The only alternative to ordinary people and businesses is to find another seller. Sure we could get USD for 12.85, but usually the going rate is 13 or even above 14 rf for the dollar.

Now the government has started cracking down on people who sell US Dollars at a rate higher than MVR 12.85. Unfortunately, this will result in even more shortage of dollars and will affect the ordinary people most. Government is shutting down the only other avenue available for ordinary people to get USD. Those who have good connections can get plenty even now.

As I mentioned in an earlier post, shortages are created precisely by price fixing. No harsh penalties or crackdowns can fundamentally solve the problem. People go to blackmarket and buy at high prices not because they like it, but because thats their only choice.

If the argument is that there is enough dollars, and that the resort owners are hoarding it, then what makes sure that they will sell even now? How is government going to force them to sell at 12.85? How does penalizing ordinary people engaging in voluntary trade help to solve the problem at all?

Even worse, from what I hear, it will become illegal to trade foreign currency if you are not licensed. This means I cannot sell say $200 to a friend of mine even at 12.85! How ridiculous is that? Isn't that curtailing economic freedom?

Sunday, January 30, 2011

End the tyranny

The recent uprising in Tunisia, Egypt and elsewhere shows what happens to people when they are oppressed for so long. It is a natural human urge to be free, and this freedom is a basic fundamental right. Whether this be civil, political, religious, economic, freedom underlies the very essence of being a human.

It is very fortunate that Maldivians have been able to topple a 30 year dictatorship without resorting to such a revolution. However, we Maldivians have a very long way to go to establish what amounts to basic rights.

We have achieved political freedom, ie the right to elect our leader and representatives.

We have made progress in civil freedoms by having free press and media (relative to what was before).

We are making steps towards more economic freedom by abolishing special privileges (tuna export and tourism oligopoly), replacing regressive taxes with flat taxes (out goes import duty, and comes 15% flat profit tax).

We have not made progress in establishing religious freedom. There is a tyranny by majority when it comes to religious freedom. It is very true that majority (or even 95%) of Maldivians are muslims, but that gives absolutely no ground for oppression of the minorities.

Lets put it this way. If we do accept that having the right to choose one's religion is a fundamental right, that right should be protected for all humans, irrespective of what religion they choose (or not choose), or how many of them there are. Them having few in number is completely irrelevant.

If such minorities are oppressed, it is not a question of if, but a question of when will they have their own Jasmine Revolution to free themselves from the shackles of such tyranny.

Tuesday, December 14, 2010

Maldivian Copyright Law: A Brief Look

A lot of Maldivians working in the arts and creative industries have been calling for an intellectual property law. At last, for the first time in this country, a comprehensive copyright law has been passed.

An intellectual property regime can be both a blessing and a curse. Before everyone jumps up and down celebrating, we have to look at what exactly is written in the said law.

I have had a very brief look at the draft available [direct pdf link], and it is has some glaring problems in my opinion. Some points that come to my mind.

1. The copyright period is way too long. The current law states a period of 50 years since the death of the author, in the case of multi-author, 50 years from the death of the last-dying author.

This is an overly long duration; something like 15 to 20 years is more reasonable in my opinion. Overly long, and restrictive copyright laws actually stifle creativity and innovation, rather than improve it. And it is very likely that this period will be increased to 75 and to 100 years by lobbyists anyway in the new future.

2. It makes it a punishable offense to use anti-DRM devices/software. For those unfamiliar with what DRM is, they can refer to a good writeup at Anti-DRM site.

In section 33 it states
"Haggu thah himaayai kurumah beynunkuraa fannee vaseelaithakaai rights management informations ge hagguthah”
It states in clause 33.(haa).1:
"Fannee masakkatheh nuvatha aduge recording eh nuvatha broadcast kuraa echheh alun nu ufeddheygothah hedhumahtakai nuvatha efadha kameh control kurumahtakai vaseelathehge gothun beynun kurumah ufaddhaafaivaa evves echheh ge beynun nuhifey gothah hedhun nuvatha ekamah huras alhan beynunkuraa nuvatha kuraane faraathakah vikkumah nuvatha kuyyah dhinumah evves kahala echeh ufeddhun nuvatha efadha ehcheh raajje etherekurun"
and in part 3 it states:
"Huddha akaa nulaa electronic rights management information negun nuvatha badhalu kurun"

I am not a lawyer, but i think the above two clauses actually makes it a punishable offense to use anti-DRM (digital rights management) software. In the law it states Electronic Rights Managemet, which is the same thing as Digital Rights Managment.

The equivalent law in US is DMCA, which has come under immense criticism, but we are duplicating that here. Such measures actually make it illegal to use open source software to watch DVDs (since they bypass region protection, a primitive form of DRM), and other software that cracks modern DRMs.

It gets more interesting; it actually makes it punishable the mere act of building such a thing, or raajje ah ethere kurun. Does that mean downloading such software will also be illegal? Downloading is also rajje ethere kuraning I guess.

And that part
"huras alhan beynunkuraa nuvatha kuraane faraathakah vikkumah"
puts a big liability on the developer or seller. How is the seller/developer to know how it will be used by the end user? Does this mean selling or giving or creating torrent software is illegal? After all torrent is predominantly used for copyright infringement. But should we penalize the developer for that? Isn’t that even a more draconian thing? Those two are just tip of the ice berg. Good thing it doesn’t cover patents! There are good reasons to oppose such draconian laws, rather than welcoming it with open arms.

Friday, November 5, 2010

Housing crisis?

As everybody knows, Male' is a highly congested city. Probably the city with the highest population density. Hence, Male' has been described as a city burdened with a housing crisis (in addition to the strains placed on roads, ports, land, waste etc).

But in reality, there is no housing crisis at the fundamental level.The crisis that you see in Male’ region is a manifestation of a crisis in services to outer islands. The reasons people from the islands come to Male' are
  1. Education for children
  2. Health services
  3. Jobs and economic opportunity
Given that government (current, previous and other past governments) has taken the responsibility for providing education and health services, it is apparent that the real crisis is the inability to provide these services to outer islands.

Not only that, Male’ supremacists do not really want the islands to be developed/self sufficient or have any notion of self-determination. This is reflected in the policies that Male' based central government has followed for decades (I am not pointing finger at Gayyoom only, this includes Nasir as well).

The people of the islands have been denied the opportunity to use the resources available to them (which is not much really) to their benefit. This is reflected in agricultural/fisheries/tourism/customs policies.

Just to give some specific examples:

1. The people of GDh. Thinadhoo were quite well off in the early Nasir era. They had couple of their own shipping lines to import stuff. They did not have to go through Male’. But some Male’ supremacist thought otherwise, and forced them to sail their ships through Male’, making things expensive, and inconvenient, and at the mercy of Male’ bosses. Their self determination was ruined. No wonder they revolted against Nasir.

2. The uninhabited islands have been semi-titled to Male’ people (though not always) under the name of ‘varuvaa’ system. This deprived the real farmers in islands of opportunity. Instead what should have happened is the lands from agricultural islands should be titled to the actual farmers in islands under tax free and long term basis.

Even the ones who got islands under varuvaa did not have secure property rights. There was no legal contract and the island was always subject to be taken by government if and when required. This reduced investments from these people because they were not sure of the lease. Only people who actually invested in agriculture were people who had good connections within the governments (who then knew that their varuvaa island will not be taken away).

3. The tourism ‘Master Plan’ is a real plan to cartel-ize the whole tourism sector. It enables only high end tourism to be viable, making only those with lots of money able to compete. Instead, atoll people should have opportunity to do low to medium end tourism. That decision does not have to come from central government in Male’ only now. If more people were given the opportunity, that would have already begun in Maldives.

4. The lucrative business of tuna export has been made an oligopoly. This has caused numerous difficulties for fishermen. I have written about this couple of times here and here.

With all these restrictions and monopoly privileges to selected few, it is no wonder that island people suffered terribly, and they have to depend on Male’ for every single thing. This has created such a high demand for apartments in Male’, and hence the rising rents. The wages have not kept up with rising living costs.

Thus, the housing crisis is not the real crisis. The real crises are the failed policies that have been pursued for so long.

Saturday, October 23, 2010

Economic ignorance

The recent move by BML to block foreign account holders from using debit card overseas has sparked some criticism towards BML as well as towards the foreign workers here in Maldives.

There were some in the comment section in favour of prohibiting foreigners from taking USD out of the country as a supposed solution to the problem (emphasis mine):
Adam on Wed, 20th Oct 2010 8:19 AM

This is a good move by the bank, Maldives being a very small country (actually the smallest country in the region) needs to protect itself from going bankrupt… By allowing forigners who are paid in MRF to withdraw in USD or any other currency is just insane…and frankly the bank was stupid to tie the forign issue to this very practical issue… ie they should have made it impossible for people who have MRF accounts to deal in other currencies…. lets take the example …in Maldives almost all major currencies including (the ruppes from neighbours) are accepted…but the same recognition is not given to MRF… so unless we can actually go to Lanka or India and change our MRF to thier Rupees why should Maldives become bankrupt because rich forigners drain the dollars out of maldives !!!

@ibrahim Mohamed on Wed, 20th Oct 2010 9:30 AM

I guess its time that we control the sending of money out of the country. We should find out the actual pay for teachers and doctors and should only allow what they earn to be send out of the country. However it is found that most teachers earn more than their pay through private tuition services to students which should be made illegal. Similarly foreign doctors work in private clinics in spite of the pay they get from government hospitals and health centers. Such malpractices hog up lot of foreign currency which should stay in the country. Teachers and doctors who want to do private tuition service and private practice should leave their job if they want to be in private practice. We can only control foreign currency leakage by monitoring money laundering in the country and allowing only the amount of pay entitled to foreigners to be taken out of country. Now we have a fury of leakage of dollars as we don’t control money laundering. I know some foreign countries which have strict rules on money laundering. For a small country with a crippled economy, which heavily depends on foreign labor such control is vital.
Well, thats just pure nonsense. I sent a comment a follows:
@Adam on Wed, 20th Oct 2010 8:19 AM
and
@ibrahim Mohamed on Wed, 20th Oct 2010 9:30 AM

What an utter ignorant economic nonsense!

@Adam
“By allowing forigners who are paid in MRF to withdraw in USD or any other currency is just insane”
What you are suggesting is that we pay the foreigners in our own printed MRF (which is useless to anyone outside of this country btw), and STOP them from converting it to goods and services via an intermediate currency. The only reason a paper currency is valuable is people accept it for exchange. So if you deny them the convertibility, you are denying them their hard earned wages (because they are foreigners)!! The only one insane here is you.

ibrahim mohamed:
If you don’t want them to earn by private practice, government could always sign a contract with them that states as such. No need to make it illegal (meaning applying the same broad stroke to everyone).

You say: “…allowing only the amount of pay entitled to foreigners to be taken out …”
Who determines this ‘entitled’ amount? If they are earning that money by providing a services of which they public is willingly paying, then the public is saying they are entitled to that money. It is not you, me or the government who determines what someone is entitled to earn, as long as they earn it with honest work.

“…strict rules on money laundering…”
Do you even know what money laundering is? Are you suggesting that the foreigners who earn and work here, who are only seeking to exchanged mrf to goods and services are money laundering?
“…which heavily depends on foreign labor such control is vital…”
We depend on foreign labour, but we should have policies that discourages them from coming. Nice logic!

Why only foreigners? By what logic is BML targeting them? There will always be a scapegoat, usually the foreign workers here. Social problems? blame foreigners. Currency problem? blame foreigners. Economic problem? blame foreigners!!

The problem is very simple. Just like any other good, high demands raises the market price. Whether you look at clothing, food, housing, oil, services etc. The same is true for currency. High demand for USD has raised the real market value of dollar relative to the MRF, or MRF value has dropped due to inflation. So by putting a price control on currency, you create a shortage. No amount of rationing, or harsh penalties on foreigners/locals will solve the problem (unless you want to confiscate their earnings). Let go of the currency peg, or at least devalue MRF to a value more near to market price. Black markets are created precisely because of aggressive price controls, whether on currency or any other good. Economic history witnesses this fact.
Well, unless ofcourse the resort owners are hoarding the dollars for some reason. This could very well be a reason too, but it does not explain why dollars are available in plenty from black market at about MRF 14. Why do they not hoard it until price reaches 18, 20 or 25 even?

The truth is BML lacks credibility now. Even ordinary people who used to have dollar accounts do not keep their dollars in their account. Why should they? It is impossible to get that dollars back if you deposit it! People would rather keep their money under their mattress (well, not literally).

But blaming that on foreigners who are rightfully sending their hard earned money to their families is ignorant and absurd. As one famous economist Murray N. Rothbard said:
"It is no crime to be ignorant of economics, which is, after all, a specialized discipline and one that most people consider to be a ‘dismal science.’ But it is totally irresponsible to have a loud and vociferous opinion on economic subjects while remaining in this state of ignorance."

Friday, October 8, 2010

Co-education & privatization

The recent uproar over the supposed co-education policy (mixed boy/girl) has got me thinking.

The issue is whether the public schools should have mixed boy/girl classes. The way I see it is that the problem comes only regarding 'public' school, ie the ones managed and run by (hopefully representative) government.

It is apparent that some people want co-education, while others object to it. The 'correct policy' has to be decided, preferably by debating it in the public. But even then, its impossible to get all to one side. By putting it to public vote, we are in effect asking to find a one-size-fits-all solution to the problem. Rarely one does come across a such a solution in trivial problems either, let alone a complex issue like this.

One way around this problem is to actually semi-privatize most (if not all) schools and to introduce a school voucher system. A voucher is equivalent to the amount the government currently spends per pupil in public school system. Each student (well, the parents actually) will get a voucher, and the parent can decide to which school they want to send their children. This way it increases diversity and choice available to parents, while still retaining the public funding.

Thus, some schools will offer co-education, while others will offer single sex schools. Some will try different methods/mediums of teaching, while others will offer non-mainstream subjects. The schools (rather their management) will have to compete to attract more students by offering better facilities that parents like. The voucher is entitled to the parent, not the school. This is akin to the existing schools getting budget funds allocated by attracting more students.

The schools should be as much independent from government as possibly can. If Ministry of Education is to dictate hours/gender/subjects, then there won't be much of a choice. Government can still retain some basic control if thats what the people want.

By privatization, I don't mean just changing the management to a private party. The school should decide which hours/uniforms/methods of teaching and curriculum too. Curriculum is especially relevant, because it is too important to be left to be decided as a one-size-fits-all thing.

I think in the not so distant future, the question will come whether to teach the theory of evolution to students. Understandably, that will be even a bigger uproar. There is no reason to think that all schools should or would follow one policy. Each school can decide for themselves, and parents can send their child to one that teaches evolution or not. After all, evolution is just a theory. So is relativity.