KATHMANDU, JULY 5

Due to the Russia-Ukraine war and increase in the price of oil, there has been a steep increase in the price of goods and services. Inflation occurs due to various reasons - monetary policy of the central bank and unusual circumstances.

Usually, an expansionary monetary policy can increase inflation while a contractionary monetary policy will control it.

In order to achieve economic growth, central banks increase the flow of money by reducing the interest rate.

But if there is oversupply of money, then the value of the country's currency decreases, hence inflation occurs. To control the inflation, central banks usually hike interest rates to limit the supply of money to the economy.

As per the report of the World Bank published recently, inflation is expected to stay moderate next year, but it is likely to remain above the expectation of the central banks of most countries. The report also highlights that if inflation remains high, then there is a possibility of earlier stagflation, which would certainly result in a sharp global downturn along with a financial crisis in most of the emerging and developing economies.

Many countries have also to recover from the effects of COV- ID-19 on the economy. The current situation resembles one of the 1970s, when policymakers were unable to decide how to stop stagflation, a situation in which inflation is high with slow economic growth and high unemployment. The soaring inflation had created a dilemma to the central banks whether to pursue a contractionary policy to control inflation or to pursue an expansionary monetary policy to aid economic growth. Any action used to control inflation exacerbates economic recovery. Most of the times after World War II, it has shown that high inflation always precedes economic recession.

Nepal will soon be announcing its monetary policy for the fiscal year 2079/80 BS. Nepal, being an energy importing country must prepare for a worst case scenario and act accordingly.

The current budget of Nepal aims at achieving economic growth of 8 per cent in the coming fiscal year. For this, the economy demands a tight monetary policy to control the soaring inflation which has reached 7.78 per cent. The Nepal Stock Exchange (NEPSE) has also reached below 2000 points due to fears of the investors about economic uncertainty.

A tight monetary policy will, however, have a negative impact on economic growth and may also slowdown economic recovery. For the central bank, it is like walking a tightrope to control inflation.

A version of this article appears in the print on July 6, 2022, of The Himalayan Times.