Welfare Analysis of Food and Energy Inflation: A Representative Agent Approach with the Lesotho Working Class

: The global price surge in food and energy in recent years has put considerable strain on consumers. This is especially so because food and energy are the elements of consumer s non-discretionary spending. Confining interest to the working class in Lesotho, this work is an attempt to quantify the welfare impact of food and energy inflation. Using the representative agent with constant returns-to-scale Cobb-Douglas preferences, the paper evaluates two complementary approaches to determine the welfare impacts of price increases on the workers. The standard of living evaluation is captured by the agent s reallocation of income proportions between food, energy and other discretionary spending items. The other approach is computing the income adjustment required to immunize the worker from the effects of price increases. Low income workers are hardest hit by food and energy inflation, while the high income workers are least affected. These two approaches seem to be complementary because the percentage fall in the representative worker s standard of living requires roughly the same percentage increase in disposable income to be restored. Consequently, low income workers should be awarded the highest percentage raise in income, while the high income workers should receive comparatively low percentage increase in income.