Inflation and its impact on Ghana’s business growth

A very analytical piece on the outline below.

Outline

A. Definition of Inflation

B. Some Causes of Inflation

C. Basic Formula for Inflation Rate

D. Some Effects of Inflation on Businesses in General

E. Some Of the Direct Impact of Inflation on Banks

A. Definition of Inflation

Inflation is the rate at which the general level of price for goods and services are rising.

When the price level rises, each unit of currency buys fewer goods and services, and consequently gets the purchasing power of currency (money) to fall.

Example 1

Kofi's monthly salary for 2015 is 100 Ghana Cedis(GH C).

If in March, 2015, a price of a bag of cement was 10 GH C, it means Kofi's salary can buy ten (10) of the cement bags.

If in June, 2015, a price of a bag of Cement is increased to 20 GH C(Inflation), It means Kofi's salary will be able to buy only five(5).

From the above example, you can easily analyse that as the price of the good (cement) increased (inflation), the purchasing value of the Cedi decreased.

So in a summary, under Inflation, as the price of goods and services increase, the purchasing power of the Currency (Money) decreases.

The opposite of Inflation is Deflation which is a general decrease in the price level of goods and services, this consequently increases the purchasing power of the Currency (Money), an exact vice versa of my example 1.

B. Below Are Some of the Causes of Inflation

i. Demand-Pull Inflation

Inflation can be caused by the increase in demand for goods and services, which eventually pushes up their prices especially when the demand exceeds the supply.

In other words, if a demand of a good or service is growing faster than its supply, its price increases and through that causes Inflation.

Example 1

When a majority in a country go after CloseUp because they think it is the best Toothpaste in the country, and as a result increases its demand, it has a high possibility of getting its price increased.

Example 2

There was an increase in the prices of Student's Mattresses, Chop boxes and Trucks in Ghana around September and November, 2017, and this was due to their high demand resulting out of the increase in the number of Senior High School(SHS) students' admission due to President Nana Addo Dankwa Akufo-Addo's Free SHS (FSHS) Policy which started in September, 2017.

ii. Cost-Push Inflation

Inflation can be caused when companies' cost of production goes up. When this happens, they need to increase prices(Inflation) to help maintain their profit margins.

Example 1

When any or all of the cost of production/doing business such as salary, tax, currency's exchange rate, interest rate, fuel price, cost of electricity, cost of natural and human resources and imports, and others increase, it eventually gets the company to increase the prices of their final products, and through that brings about inflation.

iii. Monetary Inflation

Inflation can be caused by an oversupply of money in the economy.

Just like any other commodity, the prices of things are determined by their supply and demand, and If there is too much supply, the price of that thing goes down.

In the same way, if that thing is money and there is too much supply of it in the system, it reduces its value or purchasing power, and as a result causes the increase in the price of goods and service, and through that brings about Inflation.

Example 1

Due to the oversupply of money at East Legon and Trassaco than at Lapaz and Pokuase, the purchasing power of the same amount of money at East Legon and Trassaco is lower than that of it at Lapaz and Pokuase eventhough they all fall in the same region.

This goes on to explain why mostly an item bought at East Legon or Trassaco is more expensive than a same bought at Lapaz or Pokuase.

Example 2

Due to President Nana Addo Dankwa Akufo-Addo's FSHS Policy which started in September 2017, it increased the money supply in the system(Ghana), especially in the pockets of parents and guardians who have their wards benefitting from the FSHS Policy. This has as a result brought about an increase in prices of items(Mattresses, Food, Chop box, Trucks and others) meant for/mostly used by Senior High School(SHS) students.

C. Basic Formula For Inflation Rate

The rate of the Inflation formula measures the percentage change in the price of goods and services or the purchasing power of a particular currency over a period.

The general formula for Inflation is the difference between the average current prices and the average previous prices all over/divided by the average previous prices multiplied by hundred percent (100%).

Representations

Inflation = P

Average Current Prices = P1

Average Previous Prices = P0

Inflation= [(Average Current Prices - Average Previous Prices) / (Average Previous Prices) ] X 100%

Therefore

P = [(P1 - P0) / P0 ] X 100%

Inflation rates are mostly not stable, it has the tendency to either increase (inflation) or decrease (deflation).

Government sometimes intentionally adjust it to suit an agenda of it, and other times, it occurs on its own based on certain factors without the intentional direct control of it by the government.

Some of Ghana's recent inflation rates have been 19.2% which occurred in March, 2016, and has been the highest since 2014. Its lowest since 2014 has been 11.6% which occurred in October, 2017.

It was 15.4% in December, 2016 and 13.3% in January, 2017. It is currently 11.8% for January, 2018.

The above shows inflation rates are not static/fixed but has the tendency to change based on certain factors such as those mentioned under the causes of inflation (B).

D. Some Effects of Inflation on Business in General

Inflation depending on how low or high it is will have either a huge or minor effect on businesses in a country, and between countries, and that of Ghana is not an exception.

I will further explain its effect on businesses in a country using Ghana as a case study under each of the three basic causes of Inflation.

i. Demand-Pull Inflation

This is when inflation is caused based on the demand or supply of a good or service produced by a business. Mostly, when the demand of a good or service is high, it raises the price of that good or service.

So if two or more companies are producing the same product but each has gotten a different brand for its, the most preferred brand mostly gets a higher demand, and through that gets the company whose product has a higher demand, a higher price and eventually a huge profit over the others producing similar product but of different brands.

This has the tendency to kill or weaken the other companies whose products do not have high demands. It is same for companies producing services.

ii. Cost-Push Inflation

This is an inflation which results out of the cost of production of a company.

When production factors such as interest rate, fuel price, currency's exchange rate, cost of electricity, cost of water, tax, cost of natural and human resources, salary and others increase, it also increases production cost. It as a result gets companies to increase the prices of their final goods and services so that they can make profits to stay in business. Such increase in price brings about Inflation.

The effect of this is that, the increase in their prices can get them a reduction in the demand for their goods and services, and through that get them out of business.

A similar case is what happened under Former President John Dramani Mahama under his four years rule from 2013 to 2016. Because the business environmental conditions such electricity supply and its cost, tax, currency's exchange rate, fuel price, interest rate and others under his rule were not favourable, and as a result bringing about a high cost of production, lots of the companies had to close down their businesses because they made loss out of their inability to break even.

Again some countries who are into serious production and international trade intentionally reduce their taxes, interest rate and other costs of doing business, and also work around to get their currency to be of a very low value(devalue their currency). This eventually makes the goods and services produced by the companies in such countries to be of very low price as compare to similar services and goods (substitutes) produced in other countries.

This as a result encourages people from other nations to patronize their goods and services while it deters the people in their country from buying such substitutes from other countries.

Moreover, others also try to get their currency stronger so that they can easily import goods and services from other countries at cheaper prices.

iii. Monetary Inflation

When more money is supplied into a country, it gets people to spend, this as a result increases the prices of goods and services (inflation) of companies in a country. This gets the companies to make more profit especially when they have/enjoy a relatively lower cost of production, and as result keeps them in business or gets their business to flourish.

E. Some Of the Direct Impact of Inflation on Banks

When inflation occurs and the prices of goods, services and production is really high, it reduces both consumers and investor confidence.

When there is a reduction in consumer confidence, it means people are just afraid to spend or buy goods and services, it as a result gets businesses to make huge losses. When there is a loss, then it means these businesses cannot easily pay back the loans they took from the banks, which as a result creates bad or Non-Performing Loans(NPL) for the banks, and eventually can get some of these banks to make losses, and through that can cause their collapse. A similar case is what happened with the UT and Capital Banks in Ghana around August, 2017.

Investor confidence is just about the confidence of investors to set up businesses. In the mist of inflation where the cost of production becomes high, it brings about low investor confidence and as a result reduces the confidence of investors to set up businesses. This low investor confidence directly affects the banks through the investors' low confidence to invest, because if the investors lose their confidence to invest, then they will hardly go for loans, and this as a result starves the banks of returns to increase their profit through the interest rates paid on such loans back to them.

This as a result can get the banks performing badly, and in the extreme can cause a collapse of such banks when their cost of production outweighs their returns.

Another influence of Inflation on banks is; it can get the Central Bank to increase the Minimum Capital Requirement of Banks. This is because since Inflation brings about a high cost of doing business, an investor will as a result need/require lots of money to either start or maintain/run a business.

Also Inflation can or is likely to bring about Non Performing Loans (NPL) and Bad Loans to the banks.

So without a strong capital base of the banks, they cannot equip such businesses or investors with the right amount of money through loans, plus will not be able to withstand/handle the pressure when such businesses are not able to pay back in time.

The bad effect of the requirement by the Central Bank for Banks to increase their Minimum capital base is; it can throw the banks who can't meet such a requirement out of business, and can also force others to lose their brand through a merge with other banks to form a whole new bank.