Inflation may be the most familiar concept in economics; it’s a word thrown around every time prices go up, spoken of with discontent and the urgency to solve. For the past year, the country has been experiencing an incessant increase in prices. Last January, the inflation rate reached 8.7 percent, the highest since 2008. Just this April, inflation eased for the third straight month to 6.6 percent, which is still higher than the 4.9 percent recorded exactly a year ago.
But what does this mean?
On the rise
Inflation is the rate of the increase in prices of a basket of goods and services, which is a group of products selected by economists to represent consumer spending patterns. This broad increase in prices can be caused by a preceding increase in the costs of raw materials and production expenses—such as transportation, importation, or even harvesting. Additionally, an increasing demand for goods and services while their supplies remain scarce can also contribute to inflation.
Does this mean inflation is bad? Not necessarily.
For instance, the price of a cheeseburger is currently around P66. If five years from now, customers are paying P75 for it, is that reason for panic? Not if there was also a similar pace in salaries. The real harm comes when everything changes at extreme rates.
Inflation is healthy when the government can keep up with it. For an average consumer, that means when prices slightly increase, they can still conveniently afford it. But the skyrocketing commodity prices in the Philippines have been too much to deal with—so much that basic commodities such as onions are being smuggled into the country’s ports.
A crisis omelet
National Statistician Dennis Mapa noted that January’s 8.7-percent inflation rate was mainly driven by price increases in housing and water as well as electricity, gas, and other fuels. In 2022, Filipinos also faced increases in the prices of the United States (US) dollar, gas, diesel, and food and non-alcoholic beverages.
This inflation train can be traced to how domestic and international cost-push factors—or increases in the costs to producers—affected production chains in the initial months.
Dr. Mitzie Conchada, a full professor from the School of Economics, posits that the outbreak of the African Swine Fever in early 2022 decreased the supply of pork, which consequently increased the demand for its substitutes such as poultry and fish. All this along with the occurrences of natural calamities has been hampering agricultural product supply.
External factors such as the Ukraine-Russia conflict also affected the supply of oil, gas, and raw materials to several production lines in the rest of the world. China’s limited economic activity due to pandemic restrictions also cramped global supply chains.
These issues caused rippling shortages when the world’s top producers were not able to meet global demand, thus producing a domino effect of the increase in prices.
Basic economics dictates that when the supply of an item cannot keep up with the number of people who need it, its price will go up. It is a more civilized way to deal with a shortage than, say, drawing lots or racing for it.
Two sides of the same coin
Globalization is a double-edged sword. In times of economic booms, international linkages broaden trade and, thus, the flow of resources. However, this also means that economic shocks spread easier from one country to another.
The US was not exempted from global supply crunches. Throughout last year, the US Federal Reserve System (Fed) was urged to raise interest rates to combat inflation.
This is a move that typically discourages consumers and businesses from spending, considering the higher borrowing costs—also known as interest rates. As a result, people are incentivized to keep their money in banks due to higher deposit rates. This reduction in spending decreases total demand and money supply available in the economy. By lessening demand, the central bank is able to help the supply crunch keep up with the demand; thus lowering prices.
But the Fed’s hikes consequently contributed to the depreciation of the Philippine peso in 2022 and made importing raw materials from foreign countries more expensive for Filipinos.
“Whenever the US Fed hikes its interest rates, it affects the rest of the world’s capital inflow and outflow. For instance, a higher interest rate will attract investors to [a] country. If the US interest rates are more attractive, investors in the Philippines and other countries will choose to invest in the US. This results in capital outflow for the Philippines,” illustrates Conchada, who also works as a research associate for the DLSU Angelo King Institute for Economic and Business Studies.
Capital outflow, the movement of assets out of a country, affects our foreign reserves and leads our peso to depreciate against the dollar.
This currency depreciation of the Philippine peso means more peso is needed to buy one US dollar. Considering how the country heavily relies on foreign goods such as food and oil for production, this further aggravates inflationary pressures because imports will become more expensive.
Because of this, the Bangko Sentral ng Pilipinas (BSP) will have to raise interest hikes as well. In fact, they raised interest rates six times in 2022.
“The spike in inflation rate [during 2022] is mainly caused by supply-side problems, which are beyond the control of the government. We will have to wait and see in the coming months [if] inflation will temper down before implementing another monetary policy. The monetary policy related to interest rates is one of the three tools that has the fastest impact on prices,” Conchada emphasizes.
Recently, in March, they raised the interest rate to 6.25 percent. This was done in response to February’s rising core inflation rate of 7.8 percent alongside 8.6 percent headline inflation rate, which is above the BSP’s projection of 7.5 to 8.3 percent. All in all, interest rates have risen by a cumulative 425 basis points since May 2022 and by 75 basis points in 2023 alone to combat inflation.
Headline inflation rate in April eased to 6.6 percent from March’s 7.6 percent, mainly due to the fall in prices of food and non-alcoholic beverages. On the other hand, core inflation rate—which excludes the volatile prices of food and energy—rose from 7.4 percent in January to 8 percent in March—then slightly eased to 7.9 percent in April. With core inflation being higher than headline inflation, it can be implied that inflation is demand-driven and the prices of non-food and non-energy goods are still rising.
To help Filipinos cope with the effects of inflation, the government has revealed plans to release cash transfers of P500 to 7 million beneficiaries. However, this becomes counterintuitive as it contributes to inflation: as people receive additional money to purchase, the demand for goods will increase and drive businesses to increase both production and labor. Consequently, there could be potential increases in prices caused by the increased inputs to production in order to sustain consumer demand.
Getting on one’s guard
After pandemic restrictions further eased in the third quarter of 2022, revenge spending became more rampant, especially in travel and leisure. This sudden boom in consumption after people were stuck in the pandemic stimulated the economy to grow faster than expected and contributed to rapid inflation.
“This increased demand may have also contributed to the increase in prices. We also have to take into consideration seasonal effects such as the Christmas season that [contributes] to higher inflation,” Conchada adds.
Headline inflation rates have continuously eased. However, the fight will not be over until the decline of the core inflation rate, which is mainly driven by transport fares, restaurants, and rent—all of which increased during the economy’s reopening. Decreasing inflation rates doesn’t mean that all prices are slowing down. Rather, it implies that prices are increasing at a slower rate.
The BSP initially forecasted that inflation will continue to be elevated until the end of 2023 due to supply shortages, increasing electricity rates, higher transport fares, and above-average wage adjustments. However, BSP decided to pause rate hikes this May as they revised their average inflation forecasts downward—from 6.1 to 5.5 percent for 2023 and from 3.1 to 2.8 percent for 2024.
Despite this first pause of the monetary policy tightening since last 2022, the Philippine government still shouldn’t let their guards down. One of their priorities must be to protect Filipinos from the impacts of record-high inflation rates alongside being wary of the unintended consequences of their policy implementations, especially as forecasts still remain elevated above the target range.