Seminar in Economic Policy

Thesis on Effects of Inflation on the

Economy of Pakistan"
This paper deals with the impact of inflation on overall economy of Pakistan. This dissertation is
compiled after conducting a survey of individuals to test our hypothesis. Historic background,
statistical facts and results of survey leads us to draw conclusions.
4/26/2014
Submited to: Dr. Muhammad Saleem Zia
Submitted By: Ambreen Shamshuddin (12911)
Salma Zaman
Murad Somani (11872)
Muhammad Owais (10065)
Jahanzaib Khan (11441)
Muhammad Wajeehuddin (1822)

Contents
Acknowledgement ........................................................................................................................................ 1
Abstract ......................................................................................................................................................... 2
Preface .......................................................................................................................................................... 3
Research Objectives ...................................................................................................................................... 3
Literature Review .......................................................................................................................................... 4
Methodology ................................................................................................................................................. 7
Sample Design ........................................................................................................................................... 7
Questionnaire Analysis ............................................................................................................................. 8
Data Collection and Analysis ..................................................................................................................... 8
Limitations ................................................................................................................................................ 8
Hypothesis................................................................................................................................................. 9
Dependent Variable: ................................................................................................................................. 9
Independent variables: ............................................................................................................................. 9
Hypothesis 01 ........................................................................................................................................ 9
Hypothesis 02 ...................................................................................................................................... 10
Hypothesis 03 ...................................................................................................................................... 10
Hypothesis 04 ...................................................................................................................................... 10
Hypothesis 05 ...................................................................................................................................... 10
Hypothesis 06:..................................................................................................................................... 10
Findings ................................................................................................................................................... 10
References .............................................................................................................................................. 12

Acknowledgement

All praise to all-powerful Allah for the blessings and endurance he endowed upon me
throughout this dissertation.
It was a challenging task to write a paper on this topic but with the help of the mentors and
research articles we were able to work on this thesis and complete it.
Special thanks to our teacher Dr. Saleem Zia for his kind support and continuous guidance
throughout the course. Sir, your experience and knowledge which you have shared throughout
the semester has remarkably broadened our perspectives into the field of economic policies and
related areas.
I hope this dissertation will be up to the expectation and will help in escalating knowledge.

Abstract

Money is the most powerful tool in the economy, however, the value of money declines over the
years. This phenomenon is proved to be true when there is an overall general upward price
movement of goods and services in an economy accompanied with low purchasing power.

High rates of inflation can cause setback for the country and also fuels the economic problems.
The standard inflation rate from 2003 to 2010 was 10.15%. After remaining in double-digits for
couple of years, headline inflation fell to 9.1 percent in Q1-FY13, compared to 11.5 percent in
Q1-FY12. The average inflation rate in FY-13 was 7.68% as compared to 9.73% in FY-12.
The thesis is conducted to uncover the fact that whether the economic problems are due to high
rates of inflation. The people who were interviewed for this thesis were from the middle upper
class and middle class and they were asked questions about the impact of inflation on the
economy of Pakistan. From the result it was quite evident that inflation is responsible for the
economic issues. No doubt other external forces also ignite these problems. This thesis is not
meant to provide an expert opinion but give an understanding as to what the education clan of
the country perceives about the interrelation between inflation and economic problems.

Preface
This dissertation is the study of the inflation and its impact on the economic issues that have
been incarcerating Pakistan for quite a long time. The increase in rate of inflation of the economy
has given rise to a lot of problems which has put a stop to economic advancement and
development. Ever increasing poverty, rise in unemployment, reduced investments and saving
opportunities, down sliding tourism industry and corruption are among the top notch economic
issues. This research was done after studying and referencing journal articles, different papers
and articles. It is done through a survey of 200 respondents who gave us their responses on the
issues. Those responses were then tested on SPSS and the results were then analysed.
It is believed that this dissertation will live up to the expectation.
Research Objectives

Following were the objectives of the research study:
To assess whether inflation is affecting the economy adversely.
To analyze the relation between unemployment and inflation.
To assess the effects of inflation on investments.
To evaluate the impact of inflation on quality health care.
To study the reason behind increasing poverty.
To investigate reason behind increasing corruption.

Literature Review

According to What you should know about inflation (Hazlitt, 1964) inflation can be defined as
"Undue expansion or increase of the currency of a country, esp. by the issuing of paper money
not redeemable in specie or "A substantial rise of prices caused by an undue expansion in paper
money or bank credit." Different economists have identified several factors that cause inflation.
The monetary variables including money supply and credit to private sector (Schimmelpfenning
& Khan, 2006) are considered as one of the major factors contributing to the occurrence of
inflation. In fact according to Hazlitt (1964) not only they are considered as one of the main
causes of inflation but in truth the increase in money supply and credit is inflation itself. When
money supply is increased, people have more money to spend and if, in turn, the supply of goods
is not increased then prices of goods go up and each unit of currency becomes less and less
valuable. Schimmelpfenning & Khan (2006) indicate that inflation occurs if money growth
exceeds the real GDP growth and to reduce inflation, interest rates are to be increased which
would reduce money demand and eventually inflation. According to another study (Qayuum,
2006), the relationship between excess money supply and inflation in Pakistan has been positive
supporting the monetarist proposition that inflation in Pakistan is more of a monetary
phenomenon probably due to a loose monetary policy by SBP which can be cured by implying a
tight monetary policy. According to Abdul Qayyum, policy makers must consider development
in financial sector while formulating policy and treat these sectors as constraints on the policy.

M. S. Khan (2002) in his research paper tackles the relationship between inflation and economic
growth and inflation and financial deepening. His findings also give a notion of non-linear
relationship between inflation and economic growth. His results provide strong support for the
view taken in this paper that financial markets are an important channel through which inflation
affects growth in a nonlinear fashion. Policy makers have realized the need to bring inflation
down to single digit and keep it there to increase economic growth. According to Khan, inflation
starts to exert a negative impact on economic growth once it surpasses 5-10% mark.
Some other factors have also been defined by different researchers such as income per capita,
investments (Li), imports, interest rate (Schimmelpfenning & Khan, 2006), exchange rate (Gokal
& Hanif, 2004), CPI (Malik, 2006) and population (Mubarik, 2005). According to Hazlitt (1964)
there exists a relationship between income per capita and investment share of GDP. An increase
in capital investment leads to an increase in per capita income of individuals eventually
increasing purchasing power of consumers. Again if the supply of products is not increased with
the increasing income per capita and increasing demand for products, the value of each unit of
currency decreases and hence leading way to inflation. According to Li, in countries with low to
moderate inflation, inflation poses a positive impact on level of investment while in some cases;
investment is the mode through which inflation adversely and non-linearly affects economic
growth. Li has also identified a mechanism by which inflation has an adverse effect on economic
growth through investment. First real returns to savings are reduced due to inflation causing an
informational friction troubling the financial market. This friction might lead to credit rationing
limiting the availability of investment capital i.e. the level of investment and this reduces the
efficiency of allocation of resources to investment which affects the economic growth adversely
or negatively in the long run. However, as mentioned above, in economies with low or moderate
inflation, credit rationing in financial markets might not appear at all and the negative
relationship between inflation and level of investment doesnt take place.
Li in her study concludes that there exists a non-linear relationship between inflation and
economic growth; however, it cannot be implied to all economies. This relationship between
inflation and economic growth varies for developing and developed economies. Li argues that
for developed countries, as inflation increases its negative impact on economic growth decreases,
whereas the relationship between inflation and economic growth in developing countries is a bit
complex. When level of inflation in developing countries is less than the first of the two
threshold levels defined by Li, it has no effect on economic growth and in some cases this effect
is even positive. In case of developing countries, moderate level of inflation lies between the two
thresholds and has a negative effect on the economic growth through and through. Whereas, at
high rates of inflation, the marginal effect of additional inflation is diminished rapidly but the
negative effect remains. In relation to the study conducted by Li, Mubarik (2005) conducted a
research in order to find a threshold level of inflation for Pakistan in particular. The research
covered the dataset covering the periods from 1973 to 2000 using population growth rate, real
GDP growth rate, consumer price index and investment share of GDP as main variables.
Mubarik (2005) estimates the threshold level of inflation in Pakistan using annual data for the
period 1973 to 2000.The empirical results from his study suggest 9 percent threshold level of
inflation for the economy of Pakistan, above which inflation is very unfavorable for economic
growth. The study follows the work of Khan and Senhadji (2001) in which they calculate
threshold level for both the developing, including Pakistan, and developed economies. They use
panel data for 140 developing and developed economies for the period 1960 to 1998 and suggest
threshold levels,1-3 percent and 7-11 percent, for both group of countries respectively.
Hussain(2005) finds no definite threshold level of inflation for Pakistan and just suggests that 4-6
percent range of inflation is tolerable for economy of Pakistan. This study shows similar results
with Singh (2003) which recommends 4-7 percent range of inflation for India. The researcher
contradicts with Mubarik (2005) as 9 percent threshold level for Pakistan appears to be on the
very high side. He also follows the methodology used by Khan and Senhadji (2001) and Singh
(2003) and advises the central bank authorities to keep the inflation low and stable, irrespective
of any threshold level.

Using the annual time series data for the period 1971-1995, Khan and Qasim (1996) estimate the
key determinants of inflation in Pakistan. They disaggregate inflation into food and non-food
inflation and suggest a strong role of money supply in accelerating inflation in Pakistan. Other
factors causing inflation, investigated by the researchers, are currency devaluation, value
addition in agriculture sector, support price of wheat, import prices and price of electricity.
Methodology
Specific, correct, effective and appropriate methodology is needed to be identified and conducted
as it is very important to carry out any survey .In order to conduct our survey we have adopted
the following research methodology:
Sample Design
Audience for research: In order to conduct our survey, we served the general public ( people of
almost all age brackets from university students to working people to retired people as well. We
have taken input from people from the corporate world as they are in a better position to
calculate the impact of inflation on the economy as a whole ) with a precise questionnaire and
ask them questions connecting to our research objective directly and indirectly .
Area of research: This survey has been conducted within the territory of Pakistan and caters to
only this specific region in terms of our research objective
Time span for the research: The survey has been conducted within a time span of one month.
Sample size: Within this period a sample of 200 unbiased respondents has been taken within
the area of research.
Questionnaire Analysis
In order to carry out this survey a questionnaire with 10 structured questions was designed that
was distributed among the people of almost all age brackets from university students to working
people to retired people as well. Al these questions are almost close ended. The respondents had
to answer on a likert scale with five choices including extremes
Data Collection and Analysis
The primary data collection of the research was conducted using the internet as the
questionnaires were mailed to the respondents. The questionnaires were distributed to a larger
population then the sample but these 200 were the most relatable results that were covering all
the brackets of the general public. The analysis took place on the google spread sheet whereas
the secondary data collection involved taking in feedback from different articles journals etc.
(these are mentioned in the references below)
Limitations
Following were the major limitations that were faced during the dissertation:
This study cannot be stated to depict a completely accurate picture as this sample does not
portray the views of the entire country since it was conducted among the educated class of the
economy. This research depicts these people's views about the inflation and its effects on the
economy.
This research demanded for a huge amount of respondents. This requirement could not be
catered due to limited resources and time constraints.
Hypothesis
Following are the dependent and independent variables that are picked up for this research:
Dependent Variable:
Effect of inflation on the economy
Independent variables:
Adverse effects of inflation on investments.
Positive impact of inflation on increasing poverty
Increasing costs of medical positively contributes to decreasing health care
The fall of Pakistans tourism industry is due to high cost associated with it (inflation).
Corruption boosted up due to lack of availability of basic necessities
Less employment opportunities due to inflation.
Hypothesis 01
H0: Investment is not adversely effected due to inflation.
H1: Investment is adversely effected due to inflation.
Hypothesis 02
H0: Inflation does not contribute to increasing poverty.
H1: Inflation does contribute to increasing poverty.
Hypothesis 03
H0: Increasing costs of medical positively does not contribute to decreasing health care.
H1: Increasing costs of medical positively does contribute to decreasing health care.

Hypothesis 04
H0: Fall of Pakistans tourism industry is not due to high cost associated with it (inflation).
H1: Fall of Pakistans tourism industry is due to high cost associated with it (inflation).

Hypothesis 05
H0: Corruption is not boosted due to lack of availability of basic necessities
H1: Corruption is boosted due to lack of availability of basic necessities
Hypothesis 06:
H0: Inflation does not lead to reducing employment opportunities
H1: Inflation does lead to reducing employment opportunities
Findings

Recommendations
The main factor influencing other than inflation is the socio economic factor hence a
more detailed and thorough research is required.
The needs of the market should be met and the control of money supply should be
maintained.
Wage inflation limits the wage growth and if this is the reason than it can be used to
create moderation in the economy.
In order to stabilise the monetary situation and controlling inflation a stable and currency
value can be used.
Domestic stock growth efforts should be entertained to increase economic growth.
The State Bank of Pakistan can play an important part in order to tighten the monetary
policy and money printing can be discouraged.
CONCLUSIONS:
Through study we were able to make the following conclusions:
Out of 200 respondents around 11% strongly agree that economic factors are the reasons
for an individual's savings whereas 39% disagree and 50% neither agree nor disagree.
11% disagree that inflation contributes to their poverty whereas 28% strongly agree that
it does and the remaining 44% agree only. Whereas 14% neither agree nor disagree.
Corruption is boosted due to the lack of availability of basic necessities was agreed by
38% and disagreed by 9% only whereas 16% neither agreed nor disagree. On the other
hand 6% strongly disagreed.
Around 31% strongly agreed that employment opportunities are less due to inflation and
9% disagreed whereas 38% agree only.
11% disagree that situation of inflation contributes positively to decreasing health care
whereas 28% stronger agree and around 14% neither agree nor disagree. Also 44% agree
only.
Around 38% agree that the reason behind the fall of Pakistans tourism industry is the
high cost associated with inflation whereas only 9% disagree and 38% agree only and the
remaining 16% neither agree not disagree.





References

http://www.ukessays.com/essays/economics/impact-of-inflation-on-the-economic-growth-of-
pakistan-economics-essay.php#ixzz2zvUnSq6n
http://www.bzu.edu.pk/PJSS/Vol31No12011/Final_PJSS-31-1-05.pdf