13th June, 2022
On a normal day, one would think the ‘good news’ of achieving a drop in inflation from 23.2% in May 2021 to 10.2% in May 2022 would excite the Zambian population. Instead, the opposite happened. The achievement stirred debate among sections of the population. So why did this happen? The answer lies in understanding the link between inflation, prices of goods and services, and the cost of living.
Clearly, for an average Zambian, the understanding of the relationship between inflation, prices, and the cost-of-living is fuzzy. To many, a drop in inflation is taken for a fall in prices of commodities and a lower cost of living. The confusion is excusable. There are thin lines separating these concepts which must be plainly figured out to avoid danger of confusing their meaning and undermining their implications.
Let’s start with inflation: what does it mean? World over, the prices of goods and services in an economy will generally increase from time to time. So, when there is a sustained rise in the general price level, we have inflation. Statisticians use an indicator called the Consumer Price Index (CPI) to measure inflation. CPI measures the prices level of a typical basket of goods and services purchased for consumption in an economy. It is the percentage change in CPI which the Zambia Statistics Agency announces every month as the rate of inflation in Zambia. Inflation matters because at any positive rate, it results an increase in the cost of living.
When the rate of inflation for a period is above 0%, it means that the overall price level has increased in the period compared to the preceding period. Therefore, the two critical words are “rate” and “increasing”. So, what matters is the rate at which the price level is increasing. A reduction in the inflation rate as has been the case in Zambia since July 2021, means the overall price level is still rising but at a slower pace. For example, in May 2021, the general price level was rising much faster (inflation at 23.2%) than in May 2022 when it was rising at a much slower rate of 10.2 %.
While inflation almost always results in higher cost-of-living, it is a different concept altogether as it focuses on the absolute cost of goods and services (food, housing, transportation, healthcare) needed to maintain a certain standard of living. This standard of living varies across households and regions. Consequently, the cost of living varies by socioeconomic and demographic characteristics. Rural households for example are likely to have a different cost of living, and so will households with older individuals or younger kids. Similarly, high-income households will set a different standard of living, with different cost implications.
With regards to inflation, it should be noted that prices of goods and services in the typical consumer basket change at different rates. For instance, prices of some goods and services in the CPI could be falling even when inflation is on the upswing. Thus, individuals will experience different inflation levels depending on what goods and services they buy and their ability to substitute. Individuals that spend proportionately more on high inflation items will feel the pinch of inflation and experience a higher cost of living than the rest. So, imagine how households who consume more of imported foods and those who use vehicles to complete their daily trips are impacted by pass-through effects of a depreciating exchange rate and external the Russia-Ukraine conflict on food and fuel prices.
At this point, it should be clear for our readers to see that despite the reduction in the inflation rate, people may still experience higher cost-of-living especially if their incomes are low and stagnant or declining. Inflation erodes the purchasing power of the Kwacha, thereby reducing the amount of goods and services that consumers can buy from a given income.
In consideration of the foregoing, it is evident that inflation influences the cost-of-living. Therefore, stable and consistent drops in inflation are important because, they slow down the rise in the cost-of-living, at least for a typical consumer and could eventually lead to reduction the cost-of-living. Inflation’s importance as an economic indicator must never be diminished by our mixed understating of the concept.
It is also evident that, there many other factors which influence the cost-of-living. These include; fuel costs, tax policies, interest rates, and global supply disruptions. This implies that the cost of living is tied to wages, lifestyle, consumption patterns, and government policies.
In conclusion, inflation should not be misunderstood as the cost of living. While the cost of living, and inflation, are related and sometimes used synonymously by the general public, the two concepts are different. Yes, inflation is a major driver of the cost of living, but it’s not the only factor influencing the cost of living. Nonetheless, for an average consumer, stable and low inflation will eventually translate into a lower cost of living.
By: Ignatius Masilokwa and Margret Mbewe
The authors are researchers at the Zambia Institute for Policy Analysis and Research (ZIPAR). For details contact: The Executive Director, ZIPAR, MNDP Complex, Cnr John Mbita & Nationalist Roads, P.O. Box 50782, Lusaka. Telephone: +260 211 252559. Email: firstname.lastname@example.org