EXECUTIVE SUMMARY Generally, monetary growth, public policy, administered prices, rise in the prices of imported goods, inflationary

expectations and output growth are termed as thedeterminants of inflation in Pakistan. One group of economists considers inflation amonetary phenomenon, while the other assigns more weight age to rise in administered prices and increase in prices of imported goods as determinants of inflation. Causes of Inflation The GDP growth has a significant dampening effect on inflation. This sector recorded ameager growth of 2.5 per cent per annum during last five years which is even lower than3.0 per cent population growth rate. The effect of poor agriculture growth is also evidentfrom the fact that 'food group (weight 49.35 per cent), in CPI recorded 107 per centinflation from 1990-91 to May, 1997 as compared with over all inflation of 97.57 percentand non- food inflation of 88.0 per cent during the same period. Prices, however,increased soon after the government's announcement. Inflation in Pakistan is claimed to be a monetary phenomena. Pakistan saw a very high rate of monetary growth between1990-91 and 1995-96, averaging 18.8 per cent per annum. Inflationary Gap=monetarygrowth-(real GDP growth +price inflation) The National Credit Consultative Council(NCCC) has approved a monetary growth rate figure of 14 per cent for 1997-98.Increases in the world price of imports in the world market and a 40 per centdevaluation / depreciation in the Pakistan rupee from January 1991 to June 1997 fuelled

Causes of Inflation in Pakistano f P a k i s t a n a n n o u n c e s a n i n c r e a s e i n t h e prices of petroleum products by 41.5% on November 14, 1990. This p r i c e s h o c k h a s g i v e n a n e w i m p u l s e t o o u r i n t e r e s t i n t h e subject.It has often been suggested that a stable macroeconomic environment promotes growth b y p r o v i d i n g a m o r e c o n d u c i v e e n v i r o n m e n t f o r p r i v a t e i n v e s t m e n t . B e i n g t h e k e y component of a stable macroeconomic environment low and stable inflation assumesgreater importance. It is, therefore, essential that inflation rate be kept stable even when itis low. Prices on the average can be rising, falling, or stable. Inflation is a process of rising prices. Inflation rate is measured as the percentage change in the average level of prices. Inflation rate rises and falls over the years but it rarely becomes negative. If theinflation rate is negative, it means the average price level is falling which is not good for t h e e c o n o m y. A r e c e n t s t u d y s u g g e s t s t h a t s o m e l e v e l o f i n f l a t i o n i s e s s e n t i a l f o r promoting growth and investment. In other words, there exists a threshold beyond whichinflation exerts a negative effect on growth. The threshold is lower for industrial than

for d e v e l o p i n g c o u n t r i e s . N o t w i t h s t a n d i n g t h e e x i s t e n c e o f a t h r e s h o l d t h e g o a l o f t h e macroeconomic policy should be to bring inflation down to single digit and keep it there.Several costs of high and variable inflation have been identified. These costs

typicallya r i s e f r o m d i s t o r t i o n s i n e c o n o m i c d e c i s i o n -

m a k i n g a r i s i n g f r o m h i g h o r v a r i a b l e inflation rates and result in lower levels of output than would otherwise be the case. Highinflation is also a regressive and arbitrary tax, the burden of which is typically bornedisproportionately by those in fixed income group and poor. Maintaining low and stableinflation should be seen as a necessary part of the poverty alleviation strategy. The key8

Causes of Inflation in Pakistan point is that price stability is not an end in itself; it is essential for sustaining higher economic growth - the single most important factor influencing poverty. 1.1 MEASURES OF PRICE INFLATION Inflation rate is defined as the percentage growth rate of some measure of general (or o v e r a l l ) p r i c e l e v e l p r e v a i l i n g i n a n e c o n o m y b e t w e e n a n y t w o p e r i o d s . I n macroeconomics context the

g e n e r a l p r i c e l e v e l i s s u p p o s e d t o r e p r e s e n t t h e o v e r a l l picture of the prices of goods and services prevailing in an economy. A good measure of general price level should be based on the prices of most of the important goods andservices. In Pakistan different measure of general price level are either directly availableor they can be easily constructed from the available data. The choice of an appropriategeneral price level essentially depends on the purpose for which the price situation is being studied. In the context of our present study we will be interested in the followingmeasures of general price level. 1.1.1 Wholesale Price Index:

The wholesale price index is based on the wholesale prices of most of the important items b e i n g c o n s u m e d . T h i s m e a s u r e o f g e n e r a l p r i c e l e v e l i s a u s e f u l p r i c e i n d i c a t o r f o r business community, in particular the wholesale traders.9

Causes of Inflation in Pakistan 1.1.2 Consumer Price Index: This measure of general price level is based on the retail prices of most of the importanthousehold consumption items. The consumer price index is useful to study changes in thecost of living over time. 1.2 Implicit GNP Price Deflator: The implicit GNP price deflator based on some particular period is obtained by dividingGNP at current prices by GNP at constant price level is the Paasche price index of all thegoods and services produced by a nation. Due to its broad coverage, the implicit GNP price deflator is regarded as a comprehensive measure of general price level and is usefult o a s s e s s t h e o v e r t i m e c h a n g e s i n t h e u n i t v a l u e o f a g g r e g a t e o u t p u t p r o d u c e d b y a nation. 1.2.1 Implicit Price Deflator of Total Domestic Absorption: The general price level measured by the implicit GNP price deflator is not suitable toevaluate the over time changes in the cost of buying a fixed basket of goods and servicesin an economy. The reason is that in the measurement of general price level through this p r i c e d e f l a t o r t h e p r i c e o f e x p o r t s , w h i c h a r e n o t c o n s u m e d d o m e

s t i c a l l y, a r e a l s o included while the prices of imports, which are domestically consumed, are excluded. To10