1. Causes of inflation and main causes of inflation in Malaysia
1.1 Classifying the causes of inflation
1.1.1 Demand-pull inflation
Demand-pull inflation refers to a situation where the aggregate demand for goods and services exceeds the available supply of the output and this causes the general rise in price level of the economy. Here the aggregate demand is the sum of consumer’s spending on consumer goods and services, governments spending on consumer goods and services and investment of entrepreneurs. And any attempt by a particular consumer sector of an economy to secure an increased share in the output, than that which could have come to it under a stable economy would lead to inflation (Maheshwari 2005, p. 243).
Figure 2 Demand-pull inflation
Source: Maheshwari 2005, p. 243
As the above figure show, when the supply is not changed and the aggregate demand increase from AD0 to AD1, the output would be increased and also the price would raise accordingly from P0 to P1, and under the two different supply curves, the price rise would also vary but it is definite that the price will raise.
1.1.2 Cost Push Inflation
Cost-push inflation occurs when businesses respond to rising production costs, by raising prices in order to maintain their profit margins. There are many reasons why costs might rise. Rising imported raw materials costs perhaps caused by inflation in countries that are heavily dependent on exports of these commodities or alternatively by a fall in the value of currencies in the foreign exchange markets. A good example of cost push inflation was the decision by British Gas and other energy suppliers to raise substantially the prices for gas and electricity that it charges to domestic and industrial consumers at various points during 2005 and 2006 (tutor2u.net 2008). Cost raise could also happen in other production inputs such as labor cost and tax imposed in the business sectors. Another example could be found in Malaysia. due to the oil crisis in 1973-1974 and 1979-1980, cost of production increased sharply and which increased the price level and cause cost push inflation. Due to increased cost of production because of the raised energy price, manufacturers have to increase their prices of their goods/products to compensate the increased costs (basiccollegeaccounting.com 2009).
1.2 Main causes of inflation in Malaysia
1.2.1 Cost Push Inflation
126.96.36.199 Increases in energy price
Malaysia’s inflation since 2008 is caused by the oil price shock which is caused by the international commodity prices (such as energy) continued. The fuel price is forced to raise because of the international high price of crude oil which could also be found in other countries such as India. And as a matter of fact, many of us who are working or studying in Malaysia, the raise of price of fuel has been quite obvious in the past few years though such price raise is still relatively under controlled and is slow since Malaysia is a oil producing country and the government is also actively engaging in the oil price control efforts. But nevertheless the gradual and continual increase in the energy price has been pushed up the production cost which contribute to the cost push inflation.
188.8.131.52 Minimum wage policy
Datuk Seri Najib Razak announced on in May 2012 a base wage of RM900 for the peninsula and RM800 in Sabah and Sarawak with a grace period of six months, or double that for micro-enterprises. But Putrajaya’s minimum wage policy will lead to surging unemployment, “black market” labour and inflationary pressure, employers and economists have warned according to the new reports (Teoh 2012). The minimum wage policy would contribute to the current inflation status in Malaysia in this way: the minimum wage policy would contribute fist to the increase of wages because there is a limit that employers could not spend less than that amount in hiring an employee no matter how low-skill the requirement is. And increased wages spend would definitely push some employers and producers to pass the increased costs to the customers by raising prices and negotiating higher fees for service contracts where they are able to do so (Abbott 2012 p. 58). And obviously these programs would certainly increase the government spending though direct government spending would not account for the whole spending in these programs. And the largely increased government spending would contribute to the inflation in the economy.
1.2.2 Demand-pull inflation
In term of the demand-pull inflation, with the ongoing trend of globalization and fast development of the emerging economies such as India and China, in addition the economic development is also sustained in the domestic market in Malaysia, all these positive factors have all increased the aggregate demand for the products and goods in Malaysia. And therefore the demand-pull inflation is caused. Below we will talk about another important contributors to the current inflation in Malaysia: the increases in the government spending.
184.108.40.206 Increases in government purchases
In the recent years, the government of Malaysia has been ambitious in government spending to boost the economic development and transformation and its key efforts are known as the Economic Transformation Programme and Government Transformation Programme. The Government Transformation Programme (GTP) is an effort by Malaysia’s current Government to address 7 key areas concerning the people of the country. The programme was unveiled on 28 January 2010 by the Malaysian Prime Minister Najib Tun Razak. and is expected to contribute in making the country a developed and high-income nation as per its Vision 2020. For example, in the beginning of 2011, Malaysian Prime Minister Najib Razak today gave a 100th day progress report on the country’s Economic Transformation Programme (ETP), announcing 19 new ‘Entry Point Projects’ which will contribute RM67 billion (US$21.8 billion) in investment, RM36 billion in Gross National Income and 35,000 new jobs (newasianist.com 2011).