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JINNAH UNIVERSITY FOR WOMEN

THE DEPARTMENT OF ECONOMICS

NAME

Nida Nasir,
Mukhtar

CLASS & SEMESTER

M.A (P)- SECOND

SUBJECT TITLE

INTERMEDIATE MACROECONOMICS

SUBJECT CODE

5192

DATE
SUBMISSION
SUBMITTED TO

Aniqa

OF 26th, October,2015

Ms. Nighat Moin

MARKS OBTAINED
/20
GRADE
TEACHERS
SIGNATURE

Saba,

Rakhshanda

SERIAL

CONTENTS

NUMBER

PAGE
NUMBER

EXECUTIVE SUMMARY

INTRODUCTION

ANALYSIS

Inflation and Money Supple


Inflation trends in Pakistan
Price Indices In Pakistan
Inflationary factors in Pakistan
Rate of Inflation (2000-2010) and its analysis
Recommendations
CONCLUSION

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REFERENCE LIST

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EXECUTIVE SUMMARY
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This report provides an analysis of Inflationary trends in Pakistan from the


fiscal year 2000 to 2010. Method of findings includes the official site of
Economic survey of Pakistan. This report draws attention towards the
fluctuations taking place in the prices of commodities, its impact on the
economys growth. Inflationary expectations are to be checked to arrest
increasing trend of inflation through prudent combination of fiscal and
monetary policies.
Price stability remained the priority of the government. The economy has
experienced bouts of growth and stable inflation but sustainable
performance has remained largely elusive. An unprecedented global
economic crisis together with escalating energy shortages and worsening
security conditions in the domestic economy in recent years has not
helped the situation either.
Thus through this report, we have analysed the data i.e. inflationary
trends from 2000-2010 and gave recommendations considering the
problems that have its deep root in Pakistan.

INTRODUCTION
In this assignment, we are bound to discuss about the Inflation in
Pakistan with respect to 10 years data. Inflation refers to a rise in prices
that causes the purchasing power of a nation to fall. Inflation is a normal
economic development as long as the annual percentage remains low;
once the percentage rises over a pre-determined level, it is considered an
inflation crisis. The term "inflation" once referred to increases in the
money supply (monetary inflation); however, economic debates about the
relationship between money supply and price levels have led to its
primary use today in describing price inflation. Inflation can also be
described as a decline in the real value of money a loss of purchasing
power in the medium of exchange which is also the monetary unit
of account. When the general price level rises, each unit of currency buys
fewer goods and services. A chief measure of general price-level inflation
is the general inflation rate, which is the percentage change in a general
price index, normally the Consumer Price Index, over time. Inflation can
cause adverse effects on the economy. For example, uncertainty about
future inflation may discourage investment and saving. High inflation may
lead to shortages of goods if consumers begin hoarding out of concern
that prices will increase in the future. Economists generally agree that
high rates of inflation and hyperinflation are caused by an excessive
growth of the money supply. Views on which factors determine low to
moderate rates of inflation are more varied. Low or moderate inflation
may be attributed to fluctuations in real demand for goods and services,
or changes in available supplies such as during scarcities, as well as to
growth in the money supply. However, the consensus view is that a long
sustained period of inflation is caused by money supply growing faster
than the rate of economic growth. Today, most economists favor a low
steady rate of inflation. Low (as opposed to zero or negative) inflation may
reduce the severity of economic recessions by enabling the labor market
to adjust more quickly in a downturn, and reducing the risk that a liquidity
trap prevents monetary policy from stabilizing the economy. The task of
keeping the rate of inflation low and stable is usually given to monetary
authorities. Generally, these monetary authorities are the central banks
that control the size of the money supply through the setting of interest
rates, through open market operations, and through the setting of banking
reserve requirements.
Government authorities of Pakistan has always given a great importance
to these two factors in the role of economy development, our economy
remained low-inflationary since three decades after independence than it
crossed its single digit inflation rate in 1970s but reduced to single digit
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inflation in 1990s because of the affect of international reserves on


money supply and flexible exchange rate was also helpful in this regard.

ANALYSIS
Pakistan is an under developed country and it tried its best to develop it
while money supply and inflation both are most important aspects of its
economy and requires deepest attention from authorities. Different
writers/authors give their views regarding these important issues of a
countrys economy in different periods of time. Mostly they all agreed
about these issues of money supply and inflation that money supply is
that amount of money which circulates in an economy while inflation is
describe as a persistent rise in price level in a country. They both
correlated with each other in such a way that any change in money supply
brings change in inflation rate and vice versa.
During the first seven years, i.e. from 1990 97 it remained persisted as
an average at 11.4% due to lower investment and slower growth, increase
in prices of food items, raw materials, inflationary expectations, increase
in direct taxes, excess money supply, supply shocks, damage to crops due
to unexpected dry weather, heavy rains, floods and etc while the efforts
were made to keep money supply close to the growth of GDP and
moderate the currency depreciation. But monetary policy was geared in
coordination with achievement of twin objectives of macroeconomic
stability with sustained economic growth and determining interest rate
structure by free market forces. The rate of inflation declined in 1998 to
7.8%. Further it declined to 5.5% in 1999. Moreover in 2000 it was too
much lower i.e. 3.4%. Most important causes for declining of inflation rate
were the growth of money supply to some specific extant i.e. higher
agricultural growth, easy supply and depressed international market.
The lower inflation rate more declined to 3.1% in 2002 04 but the rate
than rose to 4.4% in 2006 and in 2007 rate of inflation reaches too much
level, i.e. 9.3% against 4.4% in the previous year i.e. 2006. The factors for
this rise in inflationary trend are the same i.e. due to supply shocks,
demand pressures, rising level of incomes. To control the inflationary rate
and to bring it with respect to the adequate money supply govt. took
various measures. For the purpose SBP tightened its monetary policy from
an easy monetary policy to strict policy. Lending rates has risen to 152
basis points and thus controlling the liquidity amount in this system.
Our economy is considered as an under develop country however efforts
are making to move its economy on the road of development. Our per
capita income clearly shows the economic
conditions of our country which is much
more less than the other develops countries.
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Our per capita income which was 479 dollar per annum raised to 736 US$
in the financial year 2009 -10, still it is not compatible to the develop
countries. In spite of increasing population in Pakistan, literacy rate is
much lower although government of Pakistan is much aware of the
importance of education. It has introduced several education programs
still it is only 54% in Pakistan. Expenditures made for increasing literacy
rate is 2.5 of GNP which should be the minimum of 4% of GNP.
INFLATION AND MONEY SUPPLY:
Pakistan came into being on 14th August 1947 as an independent state
but after its
independence it has to face a lot of hurdles in its way of development as
all the sectors of economy whether they relate to macro level or micro
level were in bad conditions and needed to be inquired by authorities.
Even at that time inflation rate and money supply were two indicators
showing economic growth. But government authorities control this evil
from its deep roots i.e. inflation, very carefully thats why Pakistan has
been a low inflationary country from its independence up till three
decades onwards.
Rate of inflation as measured by an increase in WPI averaged 2.6% during
1960s
components of WPI, i.e. food, raw materials, manufactures and the fuel
and lubricants also grew by an average rate rending from 2.0% to 3.4%
per annum during the era of 1960s. Rate of inflation crossed single-digit
threshold during 1970s. WPI and its components increased at an average
rate ranging from 12% to 18%. The double-digit inflation during 1970s
has been the result of two major oil shocks, a massive devaluation of
currency and devastating floods destroying agricultural crops. Pakistan
returned to the fold of single digit inflation during 1980s. Inflation is a
monetary phenomenon.
Government expenditures played an important role in raising economys
output which is also a source of inflation because govt. is forced to finance
resulting from non commodity producing expenditure such as transfer
payment, food subsidy, and greater participation in social services since
government expenditure had significant impact on Y affects the demand
for money depending on money market which resulted in increasing price
level. During 1970s effect of international reserve on money supply was
higher. The reason was that during flexible exchange rate system
government could depreciate the currency besides changing the foreign
reserves to avoid balance of payment deficits. The depreciation would
prevent a further decrease in foreign reserves. So the contribution of
foreign reserve is higher.
INFLATION TRENDS IN PAKISTAN:
Govt. has made great efforts in making and following twin objectives of
improving the
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countrys macroeconomic environment over the last six years past


Another important cause of recent higher inflationary rate is also the
phenomenal rise in aggregate demand in the economy on one side and
economy get supply shocks on the other side. The most important cause
of inflation which impacted price level for the fiscal year 2010 included a
great increase in international oil price combined with the unprecedented
rise in world price of commodities due to demand from China. These two
factors/causes are most important causes which give rise to inflationary
pressure in Pakistan. Impact of inflation on economy is most adverse and
disproportionate effect on the poor and rich segments of society as well as
its wider effects on purchasing power of fixed-income group govt. of
Pakistan give great response to this higher level of inflation in the sense
that:
It bring in its notice about domestic stocks of key commodities and prices
of these commodities were adopted because of which it was easy for
government to respond in a timely manner to the shortages of important
commodities by importing substantial quantities of wheat and other
essential commodities.
PRICE INDICES IN PAKISTAN:
In Pakistan four basis indices are published use to measure growth of
inflation in Pakistan. These are:

Consumer price index (CPI)


Sensitive Price Index (SPI)
Whole sale price index (WPI) and
GDP deflator

The CPI reflects roughly the cost of living in the urban areas.

The Sensitive Price Indicator (SPI) is used to assess the price


movements of essential commodities at short intervals so as to
review the price situation in the country.
The WPI is used to measure the price movement of selected items in
the primary and wholesale markets.
GDP deflator is an index of the prices of goods and services in
which each is weighted to represent its importance in the gross
domestic product. It allows changes in money value and real output
in GDP to be distinguished.
In Pakistan, the main focus is placed on the CPI as a measure of
inflation as it is more representative with a wider coverage.

INFLATIONARY FACTORS IN PAKISTAN:

Several supply and demand factors could be responsible for this surge in
inflation.
SUPPLY-SIDE SHOCKS
It can cause large fluctuations in food and oil prices, effects of which on
overall inflation, at times, can be so excessive that these cannot be
countered through demand management, including monetary policy.
INCREASED DOMESTIC DEMAND
First, increased domestic demand created an output gap, putting upward
pressure on prices. Growth in private consumption on the average
remained over 10 per cent between FY04 and FY06, depicting signs of
demand side pressures on price level. The relationship between growth
and inflation depends on the state of the economy. High growth, without
an increase in inflation, is possible if the productive capacity or potential
output of the economy is growing enough to keep pace with demand. This
is also possible if the actual output is below the potential output and there
is sufficient spare capacity available to cope up with the demand
pressures. When the actual output catches up with the potential output,
there remains no spare capacity and the economy is working at full
employment level, any further gain in growth comes at the cost of rising
inflation. If demand continues to grow at this stage, and the productive
capacity does not expand, there is a serious threat of rapid inflation in the
long run without any additional growth in the output. A prolonged phase of
rising inflation in such a case can have severe consequences for the
economy.
INCREASE IN NET IMPORTS
Second, the growing gap between domestic demand and production was
filled by a sharp increase in net imports, which grew by above 40 per cent
in FY05 and by 24 per cent in FY06. As compared to imports, exports
increased by only around 10 per cent in FY05 and by 13 per cent in FY06.
This resulted in a record trade deficit.
RISING TRADE DEFICIT
The expectations effect is very important since there is a danger that the
current high rate of inflation can get locked into expectations of inflation.
People expect higher salaries to compensate for expected increase in
prices, speculation in asset prices increases, credit meant for
manufacturing sector diverts to real estate and stock markets, and
hoarders, profit and rent seekers become active in expectation of high
price in the future. All this can have devastating effect for the prices.
FISCAL POLICY REMAINED EXPANSIONARY
Third, fiscal policy has remained expansionary in the last few years.
Expansionary fiscal policy fuels domestic demand and puts pressure on
the current account deficit. It widens the investment-saving gap, which
has to be financed externally. Financing of fiscal deficit through money

creation adds to inflationary pressures. Increased government borrowing


from central bank can have serious consequences for general price level.
EXPANSIONARY MONETARY POLICY
Fourth, the expansionary monetary policy- high growth in money supply
and loose credit policy- was believed to be contributing to high inflation.
Although expansion of credit is usual in expanding economies, excessive
credit growth can have adverse effects on real variables.
RISING IMPORT PRICES
Rising import prices are also considered an important factor for inflation.
Exchange rate, if depreciating can also put upward pressure on price level.
Increase in prices of goods, such as petrol, raw material etc makes
our imports costlier, impacting on cost of production.
INDIRECT TAXES
Similarly, indirect taxes are also blamed as the main cause of inflation.
The indirect taxes, such as sales tax and excise duties raise the prices of
consumer goods. This creates inflationary pressure. On the other hand,
direct taxes reduce the take-home income and have anti-inflationary
effect. A substantial increase in support price of wheat is estimated to
have an inflationary effect on consumer prices, particularly food prices.
This effect is due to the fact that wheat and wheat-related products
account for 5.1 per cent of the CPI basket.
INCREASE IN VELOCITY OF MONEY:
According to Fishers Quantity Theory of Money, if there is an increase in
the velocity of circulation of money it also leads to inflation.
NON-PRODUCTIVE EXPENDITURES:
Government of Pakistan has to make a lot of non-productive expenditures
like defense etc. Such non-productive expenditures lead to wastage of
economys precious resources and also lead to inflation.
CORRUPTION AND BLACK MONEY:
Corruption and black money leads to increase in aggregate demand,
which is cause of inflation. These evils increase aggregate demand and
import volume.
FOREIGN REMITTANCES:
Increase in foreign remittances is increasing the money supply in our
country. Increase in money supply leads to inflation.
POPULATION:
Population of Pakistan is increasing day by day. Increasing population is
demanding more and it creates inflation.
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RATE OF INFLATION DURING 2000-2010:


The sustained and significant reduction in inflation rate observed during
last three years and it was the key achievements of Pakistan. During the
first seven years of 90s era the average annual inflation rate, measured
on CPI index, remained in the double digit (11.4).The inflation rate had come
down to 7.8 percent at the end 2006-07 but has since steadily risen to 10.3% over
the period July- April 2007-08. Inflation had been contained during the period of
2000-07 despite tremendous growth through a combination of tight monetary
policy and the resolving of several supply bottlenecks. Despite these measures
taken by the government over the last couple of years, inflation has steadily
increased this past fiscal year due to soaring international food and energy prices.
In 2008-09, Inflation accelerated at a rapid pace mainly because of rising
food prices; a weaker rupee/dollar exchange rate; the gradual withdrawal
of subsidies on gas, electricity and petroleum; the imposition of custom
duty on the imports of various items; and an upward revision in the
support price of wheat and sugarcane crops.

Poor
fiscal
management
was the major
reason
in
monetization of
large
fiscal
deficits,
declining
economic growth
causing supply
shocks
of
essential items,
excessive
reliance
on
indirect taxes for
resources
mobilization,
frequent
downward
adjustment
of
rupee value were some important factors responsible for the persistence
of double-digit inflation during 2009 - 2010.
Food and non food inflation followed the overall inflationary patterns and
declined to a single digit level. A against an average food inflation of
12.4% during 2009-10, it declined to 7.6% in 2009-10 and further to 5.9%
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in 2008-09. Similarly, non food inflation declined to 8.0% and 5.6%


respectively from an average of 11.0% during the same period. Again this
rate of inflation declined to 3.4% in 2010, during this period food has
remained the major driver of the inflation on the back of major supply
disruptions owing to devastating floods as well as spike in imported fuel
and food stuff prices.

All this growth of inflation in Pakistan from 2000-2010 is explained in the


table below:
Year

CPI

WPI

2000-01
4.41
6.21
2001-02
3.54
2.08
2002-03
3.10
5.57
2003-04
4.57
7.91
2004-05
9.28
6.75
2005-06
7.92
10.10
2006-07
7.77
6.94
2007-08
12.00
16.64
2008-09
20.77
18.19
2009-10
11.73
12.63
2010-11
13.92
23.32
Source: Federal Bureau of Statistic

SPI
4.84
3.37
3.58
6.83
11.55
7.02
10.82
16.81
23.41
13.32
18.18

GDP
deflator
6.72
2.49
4.42
7.74
7.02
10.49
7.70
16.21
20.00
11.94
18.78

ANALYSIS OF INFLATION:
The analysis presented in the table shows the inflation from 2000-2010.
Overall inflation rate during 1999-2000 was 3.4%. It was further reduced
to 3.1% in 2002-03. Main cause for lower level of inflation has been
achieved as a result of strict fiscal discipline, lower monetization of the
budget deficit, an output recovery, a reduction in duties and taxes and
appreciation of exchange rate. Although there is a growth in economy and
inflation rate is higher at 4.6% in 2003-04, 7.9% in 2005-06, rose to 9.3%
in 2006-07 due to the fact that in terms of generating inflation there was
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the phenomenal rise in aggregate demand in the economy compounded


by supply shocks.
There was a great rise in international oil prices with an increase in the
world prices of commodities due to the demand from china. An indication
of the china factor in determining world commodity prices can be had
from the fact that during 2007, china accounted for 27% of world demand
for steel, 31% of coal, 7.0% of global imports of petroleum. For much of
200910, given the backdrop of high and rising international
commodity prices, imports were unlikely to dampen domestic prices,
except to the extent of excess pressure caused by shortfalls in domestic
production. Massive floods swept through one-fifth of the country and
caused massive damages to crops, livestock and infrastructure which
resulted in sharp acceleration in the commodity price and spike in
inflation. Among the various other factors of inflation, food inflation is
major factor that indicates the presence of inflation to a higher or lower
level. Conclusion regarding the impact of inflation shows that it has the
most adverse and wider effects on the purchasing power of the fixed
income group. It discourages savings and adversely affects decision
making in investment. The poor, jobless and fixed salaried groups are the
hardest hit. It also distorts income distribution. The overall effects of
inflationary trend from 2000-10 is given below in a table:
YEARS

OVERALL CPI

FOOD
INFLATION
3.56
2.44
2.89
6.01
12.48
6.92
10.28
17.65
23.13
12.93

2000-01
4.4
2001-02
3.5
2002-03
3.1
2003-04
4.6
2004-05
9.3
2005-06
7.9
2006-07
7.8
2007-08
12.0
2008-09
17.03
2009-10
10.10
Source: Federal Bureau of Statistics

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NON_FOOD
INFLATION
5.09
4.28
3.24
3.62
7.10
8.63
6.02
7.90
13.37
8.26

INFLATION TRENDS 2000-10


60
50
40
30
Percentage points

20
10
0

RECOMMENDATIONS TO OVERCOME INFLATION:


Our
to control
rate
in
are

proposals
inflation
Pakistan

mentioned as under:

To achieve macroeconomic balance.


Develop agriculture sector.
Improve coordination of monetary and fiscal policy.
Strengthen regulatory bodies to break down monopoly.
Promote industries in Pakistan.
To make equitable distribution of wealth.
Encourage saving and investment in people.
Eradicate smuggling, hoarding etc.
Reduce indirect taxes.
Explore new energy sources i.e. constructing new dams etc.

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CONCLUSION
Inflation is one of the obstacles on the way of development. In Pakistan, it has
squeezed the major part of the population. In Pakistan, Inflation is one of the major
problems with almost more than 11% inflation rate per anum this is the hardest in
the world. According to economists an inflation rate of 2 3% is required for the
development of the economy and proper growth of the economy, but if it exceeds
from this limit, then it becomes a problem.
It needs to be controlled by strategic planning. Domestic production should be
encouraged instead of imports; investments should be given preference in
consumer goods instead of luxuries. Agriculture sector should be given subsidies,
foreign investment should be attracted, and developed countries should be
requested for financial and managerial assistance. And lastly a strong
monitoring system should be established on different levels in order to
have a sound evaluation of the process at every stage.
Inflation can be controlled by Monetary Measures (Credit Control,
Demonetization of the currency, Issue of new currency), Fiscal Measures
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(Curtailment in unnecessary expenditures, Increase in rate of taxes,


Increase in volume of savings, Anti inflationary budgetary policy,
Increasing public debt policy) and Non-Monetary and Non Fiscal Measures
(Increase in volume of production, Price control and rationing policy).
On the basis of above findings a low inflation of 2 to 3%is desirable. It can be
achieved through curtailment of monetary expansion, lowering budget deficit,
promoting efficiency by education and skill, enhancing agriculture production
through research and credit availability, promoting national savings by offering
positive rate of return on deposits and identifying profitable avenues of investment
and revival of the economy by solving the problems of sick industrial units and
quick and transparent privatization of public sector enterprises.

REFERENCE LIST

Main website: www.finance.gov.pk , chapter: 7


Economic Survey of Pakistan.

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