Prices aren’t going up, the ringgit is going down

 

Recently, the domestic trade and consumer affairs ministry put out what I thought was a rather odd statement. The ministry said it would question the maker of Massimo bread about the recent hike in its price.

Apparently, the ministry did the same when the maker of Gardenia raised the price of the bread on Dec 1, 2021. Unsurprisingly, the maker of Gardenia responded by saying it was forced to do so as the cost of raw goods had risen. However, to appease the ministry, it promised to come up with a new product that would be sold at the previous lower price.

Gardenia’s promise of cheaper bread might seem like a win for the government but I can’t imagine how they would achieve this without cutting corners. Is this really a win?

This is a case of shooting the messenger instead of addressing the underlying problem. The hiking of prices by the makers of Gardenia and Massimo, and countless other companies, is merely a canary in the coalmine – a signal that something has gone awry in the local and global economy.

One of the main reasons – and I argue the underlying reason (in addition to the reasons put forth by Malaysia’s ministry of domestic trade and consumer affairs, which I covered in my previous column) – is summed up by the chart below:

The chart above shows the incredible increase in the ringgit’s M2 money supply (a measure of the money supply including cash, current accounts and easily convertible near money) over the years.

To illustrate how drastic the money printing has been, we can see that in the mid 2000’s, there was only around RM0.5 trillion in circulation but now it’s hovering around RM 2.1 trillion.

That’s a quadrupling in money supply in a mere 15 years.

If this looks bad, let’s look at the US dollar’s M2 money supply – the most dominant currency in the world and the currency in which much of world’s trade is priced:

The chart above looks more like a booming startup boasting exponential growth than the monetary expansion of the world’s most dominant currency. The sudden uptick in 2020 is due to the trillions of dollars printed to fund the 2020 Covid-instigated stimulus.

But to be fair, this swelling in money supply isn’t all due to Bank Negara Malaysia (and the US Federal Reserve) literally printing money (also referred to as quantitative easing). Sure, they do that too, but as all central banks do, they have two more tools in their toolbox – reducing the interest rate and their fractional reserve lending requirements.

A central bank’s interest rate is the rate at which commercial banks borrow and lend money to each other. The lower the interest rate, the more they are likely to borrow, with the inverse also being true.

Meanwhile, the fractional reserve lending requirement is the minimum amount of customer funds that commercial banks need to keep in their coffers at any one point. Similar to the interest rate, the lower the fractional reserve lending requirement, the more liquidity the banks have – allowing them to move money around in order to earn interest on it.

The table below contrasts the pre pandemic interest rate and fractional reserve lending requirements of both Malaysia and the US to the rates as they stand now.

Country	Interest Rate pre pandemic (%)	Interest Rate now (%)	Fractional reserve lending requirement pre pandemic (%)	Fractional reserve lending requirement now (%)
Malaysia	3	1.75	3	2
United States	1.75	0.25	~ 10	0

 

As is evident, Malaysia, the US and most other nations reduced both the interest rate and the fractional reserve lending requirements to provide additional liquidity to the market. By doing this, they encouraged banks to give out more loans and seek out more investment opportunities, instead of having their cash reserves sit in their coffers and serve as the inclement economic conditions’ buttress they are intended to be.

This in turn increased the total money supply thanks to the money multiplier effect.

This ballooning of the money supply makes every unit of it ever less valuable over time. It is therefore more accurate to say the value of money has dropped rather than to say the price of goods and services have risen.

If you think about it, pretty much every food item that we buy today is produced more efficiently, faster and with far less labour than it was 50 years ago. By right, this Cambrian leap should have resulted in cheaper food.

However, due to the increase in money supply, what we’re left with is food costing more even though the energy required to produce them has gone down drastically over the years.

For example, the cup of coffee that cost my father 20 sen 50 years ago costs me RM2.50 today although the amount of energy expanded in growing, producing and brewing the coffee has decreased considerably due to such factors as better technology, more efficient production methods and less labour.

Some economists provide plenty of reasons why this surge in money supply is justified, with some even encouraging it.

But as an engineer, this doesn’t make sense to me (the reasons for which will be elucidated in my column tomorrow). If it were that easy, every country would do it – as some have tried to with disastrous effect (recent examples include Venezuela, Turkey and Zimbabwe).

The reason the US has been able to print so much money (almost 40% of all US dollars in circulation today was printed in the past two years) and yet not collapse under hyperinflation is due to its primacy as the world’s reserve currency and the currency in which most of the world’s trade is conducted.

This has essentially allowed the US to export its inflation problem to the world.

So, we’re stuck in a situation where the governments of the world, including Malaysia’s, gradually increase their money supply, debasing it. It generally happens slowly enough that we don’t notice it too much, but the Covid-19 stressor has acted as a catalyst, accelerating this trend and transforming what is usually a gradual pinch into a walloping punch.

In a nutshell, we’re like unsuspecting frogs in a pan of water, with Bank Negara and the US Federal Reserve slowly increasing the temperature (expanding the monetary base). The rise in temperature might be insignificant enough within a short period of time that we might not notice it but given a long enough time frame, we will be boiled to death. - FMT

The writer can be contacted at kathirgugan@protonmail.com

The views expressed are those of the writer and do not necessarily reflect those of MMKtT.