Losing Proposition

April 18, 2009 (LBO)- During the three decades beginning from 1978, Sri Lanka had recorded on average an annual inflation rate of slightly over 11 percent. During the same period, its annual average economic growth rate amounted to 5 percent.

These two macroeconomic numbers have prompted many to argue that inflation does not matter since, despite the two digit inflation, a comfortable economic growth rate has been maintained by the country. This argument, at an extreme level, is extended to even scoff at price stability as a goal of the society. If the economy could grow at 5 percent and the real per capita income can grow closer to 4 percent per annum, why worry about inflation?

Why not inflate the economy, the easiest way to generate financial resources for investment in a resource scarce economy, and raise wealth and well being of the people? Some have extended this argument even further that for a developing country, price stability should not be an appropriate policy goal and governments should mobilise resources through inflation.

This easy-to-fix-the-economy-strategy has won favour with politicians, bureaucrats and top level policy makers. The result has been a tendency to use bank credit liberally and maintain economic a