Amid waning public support for interest rate hikes, the Bank of Jamaica (BOJ), on August 18, 2022, announced the decision of its Monetary Policy Committee to raise the policy interest rate by a further 50 basis points; the rate currently stands at 6 per cent per annum.

This is the bank’s eighth increase since October 2021 as it tries to tame inflation, which has breached the upper limit of its 4 to 6 per cent target range. According to BOJ’s monetary policy release, “inflation at May and June were both 10.9 per cent, followed by 10.2 per cent at July.”

The latest report from the Statistical Institute of Jamaica (Statin) shows inflation in August at 10.2 per cent as well.

The central bank’s past decisions to raise interest rates have drawn strong condemnation from the powerful Private Sector Organisation of Jamaica (PSOJ), the Jamaica Manufacturers and Exporters Association (JMEA) and other entities in the business environment. Raising concerns about more costly mortgages and car loans, ordinary Jamaicans — and some academics — have also been candid in their disapproval of BOJ’s inflation-fighting strategy.

However, the central bank should resist any pressure to accede to the prodding of its critics if inflation shows signs of being persistence. The bank is expected to make its next interest rate announcement on September 29, 2022. Inflation at May and June was lower than the 11.8 per cent out-turn at April 2022. Notwithstanding this downward trend, BOJ must be willing to continue tightening monetary policy and gradually increase the policy rate if inflation changes course. Those who would be sceptical should appreciate that the factors that have allowed for this downward trend in inflation have not been adequately solidified to guarantee that inflation will continue that trajectory.

Global inflation

From the pandemic’s grip on global economies to Russia’s invasion of Ukraine, a conflation of supply shocks has been fuelling global price pressures. These factors are exogenous to the Jamaican economy. The bank’s critics argue that interest rate hikes will not influence these external factors fuelling inflation in the island. However, naysayers seem to be overlooking that, while these supply-side issues are outside the central bank’s control, BOJ can use the tools at its disposal to limit their second-round effects on prices in the country. Raising interest rates is one of those tools.

I was having a discussion with a classmate who, in her strident opposition to BOJ’s interest rate hikes, said, “the bank cannot use demand tools to fix supply issues.” Some in the public domain have also made that argument. As I highlighted to my friend, in a central bank’s arsenal, its tools to curtail inflation are not categorised as ‘those for demand-driven inflation’ and ‘those for supply-driven inflation’. Central banks, generally, use tightening monetary policies (chiefly through higher interest rates) when inflation exceeds its target range, as is the status quo, whether the inflationary pressures are fuelled by demand-side issues or supply-side problems. Against this background, central banks will increase interest rates when inflation surges, irrespective of the origin of the price pressures.

Upside risks to inflation

Furthermore, we must contend with the reality that the upside risks to inflation remain significant, with substantial uncertainty surrounding its outlook. If supply chain disruptions continue to ease and international commodity prices decline further, BOJ could see inflation coming down more quickly than anticipated. However, there are still substantial risks to inflation moving upwards. In this regard, BOJ has to be willing to act to ensure inflation does not become entrenched and expectations de-anchor. If that were to happen, it would be a colossal disaster. In that event, it would require more painful and disruptive adjustment policies to return inflation to its target range. Let us avoid that. We can learn from the high global inflation in the 1970s. An important observation from that time will show that if countries dilly-dally in their response to surging inflation, it will require tightening policy, which would be more direful, to re-anchor expectations and restore policy credibility. Indeed, we have to credit the central bank for moving with alacrity to tighten monetary policy over the past months. Its actions, in addition to the relative stability in the exchange rate that has moderated the cost of imported goods, can be attributed to the recent downward observations in inflation. Obviously, the bank realised the need to act quickly to avoid rising inflationary expectations and damage to its credibility. We also know that it is a challenging and unprecedented time for central banks across the world.

Restoring price stability

We should remind ourselves that restoring price stability is critical to our growth agenda. Former US Federal Reserve Chairman Ben Bernanke, in a presentation at Princeton University, articulated that “price stability promotes efficiency and long-term growth by providing a monetary and financial environment in which economic decisions can be made and markets can operate without concern about unpredictable fluctuations in the purchasing power of money.” The Jamaican economy works best when there is price stability. Therefore, we should guard against persistent inflation and act decisively when it breaches the target range. We accept that increasing interest rates will slow the pace of growth. But it is a necessary trade-off to guard against runaway inflation, which would be far more harmful to growth.

As Governor Richard Byles, rightfully, said, “inflation is the greatest enemy of the poor.”

Cleveland Tomlinson is a final-year student in the Master of Science in Economics programme at The UWI, Mona.