By Emmanuel Otori
No doubts, inflation is a barrier to the much a country can do in terms of value and wealth creation as it affects every aspect of its productivity. Tragically, this is currently the state of Nigeria where the purchasing power of the Naira declines day by day. This decline is not without effect on daily living – everything increases as the purchasing power decreases.
The Consumer Price Index (CPI) annual percentage change in value is known as inflation. It accurately gauges how much a portfolio of goods and services’ prices vary over the course of a year. The CPI for 2022 increased to 15.60 percent (year-on-year) January 2022 by records from the Nigerian Statistics. Based on the National Bureau of Statistics (NBS), Nigeria’s inflation rate increased from 9.0 percent in 2015 to 17.71 percent as at May 2022 (year on year).
It is obvious that over the years the value of money in Nigeria have been falling thereby causing negative impact. Usually, this inflation is expected to reduce purchasing power by 2 percent or 3 percent to bounce back to stability but it seen that the inflation in Nigeria has risen above 10 percent. In a state like this, Nigeria is gradually tilting to hyper-inflation thereby reducing the value of the Naira. Over the past 10 years, Nigeria have long struggled with a general increase in the cost of food, goods, and other necessities as well as a decline in buying power which has barely retraced the market. Inflation rates of 2 percent to 3 percent assist an economy because they stimulate consumers to take out more loans and make more expenditures because interest rates are also held at historically low levels at these levels.
How is Inflation caused?
Inflation is brought on by the following among others:
● Changes in the cost of production and distribution.
● An imbalance in the money supply and demand.
● An increase in the tax rate on goods.
As it is known, the value of money decreases when the economy undergoes inflation, which is an increase in the price of goods and services which as a result, a given unit of currency now buys less products and services.
Implications of Inflation
According to data from the Nigeria Bureau of Statistics (NBS), the economy made improvement in 2022’s first quarter, as evidenced by a 3.1% growth in Gross Domestic Product (GDP). Both individuals and the nation as a whole are impacted by this high inflation.
The effects on consumers are the harshest – people can no longer maintain a budget since their income is so low. Consumers find it challenging to purchase even the necessities of life due to the high cost of everyday goods. They are forced to request higher pay as a result, which gives them no choice.
In order to manage inflation, the government and the central bank typically regulate economy through monetary and fiscal policies. Monetary policy is the principal strategy employed (interest rates fluctuation). However, inflation can be controlled with the following measures:
● Monetary policy – Reduced economic growth and lesser inflation are the results of lower demand due to higher interest rates. Interest rates can be raised by the central bank in reaction to inflation. Borrowing becomes more expensive and saving becomes more appealing at higher interest rates. Residents will have to make higher lease payments, which would leave them with less money to spend. Consequently, households will be less able and less motivated to spend. Businesses will invest less because corporations won’t be as likely to borrow to finance investments. Therefore, increased interest rates have a significant impact on slowing down investment and consumer expenditure, which results in a slower economic growth rate – inflation also slows down as economic development does.
● Money supply control – According to monetarists, there is a direct correlation between the money supply and inflation, hence reducing the money supply can indirectly reduce inflation. Reducing inflation should be possible if the expansion of the money supply can be managed. Measures advised by the monetary school of thought include; budget deficit reduction (deflationary fiscal policy), elevated interest rates (contracting monetary policy) and government’s ability to control the currency type and quantity it issues.
● Supply side fiscal policies – Initiatives to make the economy more efficient and competitive, which will drive down long-term expenses as inflation is frequently brought on by ongoing cost increases and weak competition. The economy may become more competitive and inflationary pressures may be reduced with the aid of supply side policies. For instance, more accommodating labor markets, industries and production activities might help ease the strain on inflation. However, supply-side initiatives may take some time to implement in Nigeria due to the time required for construction and setting up manufacturing operations. In the meantime, this is likely ineffectual against inflation caused by growing demand.
● Fiscal policy on tax increment – Increased income taxes may have a moderating effect on demand, spending, and rising inflation. Taxes (such as VAT and income tax) can be raised thus decreasing spending by the government to lower inflation. By lowering demand in the economy, this serves to improve the government’s budget condition. These two measures both slow the expansion of the overall demand, which lowers inflation. Also, reduced Aggregate Demand (AD) growth can lower inflationary pressures without triggering a recession if economic growth is fast.
● Wages and price control – Theoretically, attempting to restrict wages and prices could assist in lowering inflationary pressures. However, because they are mostly ineffective, they are not frequently employed. Limiting wage growth can aid in containing inflation if wage inflation (produced, for example, by strong unions negotiating for higher real wages) is the primary cause of inflation. Lessening wage growth will lower business expenses and result in a decline in the economy’s excess demand. However, it can be challenging to control inflation through income programs, especially if the unions are strong. Furthermore, pay regulation calls for broad economic cooperation, but businesses that are experiencing a labor shortage will be more motivated to hire staff, even if it means going above and beyond government salary limits.
● Global investment and exportation – Nigeria investing in remunerative products such as oil-investment can help manage inflation less importation and increased exportation can give the Naira a worthy valuable. Nigeria becoming a producer nation should not be overlooked as currently, the least of items are even imported. Exchange rates and other importation policies contribute to decreasing the purchasing power of consumers. As interest rates rise, the value of currencies should rise as well (higher interest rate attracts hot money flows) Inflationary pressure will also be lessened by the exchange rate appreciation through lower cost of imports. As a result of the decreased demand for exports and resulting lower overall demand in the economy, the price of imported commodities (such as gasoline and raw materials) would fall. Since exports become less competitive than domestic markets, exporting businesses will be motivated to reduce expenses and raise competitiveness over time. By affiliating with a fixed exchange rate system, a nation may aim to keep inflation low. According to the reasoning, keeping inflation under control requires discipline, which can only be achieved if a currency’s value is fixed (or semi-fixed). The currency would start to decline if inflation increased because it would lose its appeal.
● Demonetization and reissuance of money – Conventional policies might not be suitable during a hyperinflationary environment. It can be difficult to alter future inflation expectations. It could be necessary to adopt a new currency or utilize another one, like the dollar, when people have lost faith in a certain currency as in the case of Zimbabwe. The issue of replacing the existing currency with a new one is the most extreme monetary measure. A fresh note is substituted for numerous old notes of money in this manner. The valuation of deposit accounts is also determined in this manner. A measure like this is implemented when there is an excessive amount of note issuance and hyperinflation takes place in the area. This measure has had great success. When a nation has an abundance of illicit currency, this action is frequently taken.
Emmanuel Otori has over 9 years of experience working with 100 start-ups and SMEs across Nigeria. He has worked on the Growth and Employment (GEM) Project of the World Bank, GiZ, Consulted for businesses at the Abuja Enterprise Agency, Novustack, Splitspot and NITDA. He is the Chief Executive Officer at Abuja Data School.