According to Alan Greenspan, the retired chairman of the US Federal Reserve Board, Professor Arthur Burns of Columbia University used to quiz his students: "What causes inflation?"
 

"Excess government spending causes inflation," Burns would answer.
 

This is very much true in Ethiopia. Obviously, the Revolutionary Democrats' Administration is determined to bring overall growth through massive public sector expenditure. Impossible for economists to predict and too-often relied upon by optimistic governments, continued economic growth is a pillar of the regime's current plan to cope with inflation. Partly correct, the government has even claimed that the rising prices are an unavoidable off-shoot of the growth. They even broadened the pro-poor expenditure definition from its traditional scope (education and health) to include state spending on food security, rural electrification, capacity building and infrastructural expansions. 

For instance, spending on food security has doubled between 2003/04 and 2004/05 to claim eight per cent of the federal government's total expenditure, while money spent to expand infrastructure grew from two per cent of the GDP in 1981 to six per cent in 2006, though the most dramatic increase has been observed in the last two years, according to the World Bank. One fourth of the current 43.9 billion Br federal budget is dedicated to capital spending, the lion's share of which is spent on road construction, rural development and rural electrification.
 

Inevitably, this has brought monetary expansion in the economy, growing by 21.3pc last year to 54.1 billion Br. And an increase of 19.5pc domestic borrowing by the federal government last year is attributed to the increase; with a projection for further growth during the current fiscal year of nearly 30pc, and holding other variables on current trends, this monetary phenomenon is responsible for 41pc of inflation in 2006/07. It should be worrying.
 

Every time a single egg is purchased at the hefty price of one Birr, rivalling developed countries with incomparable incomes (a dozen in the United States averages around 1.4 dollars or about 13 Br), the consumer is left bewildered by rising costs. It should therefore hardly be a surprise if the average man on the street has difficultly making sense of the Revolutionary Democrats' claim that the economy has grown for four consecutive years for the first time in the nation's economic history.
 

The average dweller, for example, is often faced with an unpleasant choice between two evils: either to give in to the landlord's demands to raise rent or to embark on the arduous task of finding another home, with the added burden of making a multiple-month initial payment and moving house. For the average person, who may see a gap between his or her marginally increased income and the double-digit inflation that has been plauging the economy since September 2005, a certain degree of scepticism toward the reported 10pc growth in the annual average GDP is understandable. Urban poor suffering from a 75pc rise in rent in the past seven years will probably not be satisfied with the public housing solutions on offer.
 

After more than 18 years of service as the Fed's Chairman, Mr. Greenspan sounds more alarmed by what inflation does to an economy than anything else: "In business, inflation creates uncertainty and risk, which makes planning more difficult and discourages managers from hiring, or building factories, or indeed doing any kind of investing for growth."
 

Sadly, concrete suggestions to combat inflation are glaringly absent from the rhetoric of policymakers and advisors in Ethiopia. Fighting the rising prices appears to be a relatively low priority on the government's agenda, even though it is still well above the seven per cent annual level projected, should the Revolutionary Democrats succeed on their five-year strategic plan to reduce poverty and bring sustainable growth.
 

In fact, there appears to be an astounding degree of complacence among policy circles only because the upward trend seen in the Consumer Price Index (CPI) prior to August 2007 has been altered, and the IMF projected a decline probably to 15pc by December 2007. This will soon change with the sudden price shock of oil in the international market hitting close to 100 dollars per barrel.
 

Ethiopia's import bill for fuel is approaching close to one billion dollars this fiscal year, and the price of fertilizer has almost doubled to over 600 dollars per tonne as it was seen last week during a bid held in Addis Abeba. To a non-oil producing country dependent on fossil fuel imports that have been hitting record high prices, more actions are desperately necessary. Consumers should probably anticipate price increases in the heavily regulated market, although many urban households may not have the ability to cope.
 

Policymakers should be even more startled, and pushed to action, by the depressing news that the nation's export performance during the first quarter missed its target by nine per cent, a signal that the road ahead for the balance of payments will indeed be rough.
 

Countries need both fiscal and monetary policies to keep inflation at bay. Even in the US, where Adam Smith's vision for a market economy is preached like gospel, leaders are tempted to buy political support with expanded state expenditures. Hence, a plural parliament and an autonomous central bank are necessary to ensure there are limits to spending. Sadly, these are areas where Ethiopia is at a disadvantage, given that the country's Parliament is heavily partisan toward the Revolutionary Democrats and that the central bank does little more than occupy space, with the exception of making the occasional declaration to terrify the private banks and insurance companies.
 

An institution that has a natural role in effectively employing monetary policy instruments - more so than its embedded regulatory role - was seen dragging its feet when a monstrous inflation was eating up the small gain made in economic growth. The only steps aimed at taming inflation - and a motley blend at that - have been taken by the executive, whose leading thinkers were adamant in arguing that inflation in Ethiopia is beyond the influence of monetary policy.
 

The truth is that domestic credit advanced both to the state and non-state operators has grown substantially in the two years since 2005/06: total domestic credit flow increased from 3.5pc per GDP in 2004/05 to eight per cent in the following years. Interestingly, the share to the private sector grew from less than one per cent in 2003/04 to more than 5.6pc in the subsequent three years, while the share of the state (albeit the amount) increased by 0.4pc during the same period.
 

To be fair to the government, the Administration of Prime Minister Meles Zenawi tried to respond to this fiscal expansion by cutting on its recurrent budget, being hyper-sensitive not to affect the "pro-poor" spending.
 

It has been Teklewold Atnafu's National Bank of Ethiopia (NBE) that has miserably fallen short of its natural role. The sum total of the central bank's response to inflation has been to make an insignificant increase in the minimum interest rate on deposits to four per cent and to double the reserve requirement for commercial banks to 10pc. Not only was this move miniscule in an era where the CPI rose by over 16pc in the same month, but also it was too late, too little.
 

While central banks rightfully favour gradual increments to allow time for the effects to reverberate through the economy, what is troubling in Ethiopia's case is that the supposedly potent monetary instruments appear to have no effect at all in an economy roaring ahead with a negative real interest rate encouraging more and more investment. The vast number of depositors in Ethiopia is sadly financing the few hundred thousand borrowers, making national savings very discouraging; the interest rate spread is significantly wide, although not as high as countries such as DRC, Zimbabwe and Angola.
 

Moreover, as it approaches five months since the last measure, central bank governor, Teklewold Atnafu, has made no signs of capitalising on his break from dormancy. Though he is not alone in complacency as many aspects of government policy affecting fiscal matters and the incentive structure guiding the "invisible hand" should also be tinkered with, there is little disagreement that monetary considerations have a substantial role in the rising prices.

Ethiopia's central bank is simply not up to its task; it has monetary policy committee - a key group making critical decision on the value of the Birr - that has yet to meet in three years. It has a board of directors, whose chairperson is chief economic advisor of the Prime Minister, with an absentee member after Yusuf Sukkur, former commissioner of Tourism, was appointed as an ambassador to Saudi Arabia.
 

Neither is the inter-bank daily foreign exchange transactions designed to help the central bank determine the value of Birr against a basket of key currencies is satisfactorily functional. It is not surprising to observe policymakers on the monetary front being very keen following what goes on in the underground market. For all practical reasons, the black market rate - that had a sudden increase last week to 9.50 Br against a dollar - appears to offer a more credible indication of the market value of the Birr than what the central bank does, or fails to do.   
 

A depreciating Birr, hitting record lows against even the dismally low dollar, is normally a self-correcting mechanism for a troubling balance of trade and good news for exporters. Unfortunately, self-correction is the only real mechanism in place to fight inflation - like leaving the plane on autopilot with storm clouds on the horizon.