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Inflation in Pakistan

TABLE OF CONTENTS

EXECUTIVE SUMMARY.............................................................................................................4
CHAPTER – INTRODUCTION TO PROJECT...........................................................................5
1.1.OBJECTIVES .................................................................................................................................5
1.2.PLAN OF THE PROJECT.............................................................................................................5
1.3.STATEMENT OF PROBLEM........................................................................................................................5
2.METHODOLOGY..............................................................................................................................................6
3.DATA COLLECTION........................................................................................................................................6
4.DATA MANAGEMENT AND ANALYSIS.....................................................................................................6
5.PRESENTATION OF RESULTS.......................................................................................................................6
6.DISSEMINATION OF THE RESULTS............................................................................................................7
7.POSSIBLE CONSTRAINTS..............................................................................................................................7
8.REQUIREMENTS..............................................................................................................................................7
9.MOTIVATION BEHIND THE PROJECT.........................................................................................................7

CHAPTER – LITERATURE REVIEW.........................................................................................8


9.1. INTRODUCTION..........................................................................................................................8
9.2.DEFINITION...................................................................................................................................9
9.3.DEMDAND-PULL AND COST-PUSH INFLATION..................................................................9
9.4.CAUSES OF INFLATION............................................................................................................10
9.5. RELATIONSHIP OF INFLATION WITH UNEMPLOYMENT............................................11
9.6.LINK OF OTHER VARIABLES WITH INFLATION..............................................................12
CHAPTER – DATA COLLECTION OF INFLATION IN PAKISTAN....................................12
9.7.PRICE INDICES IN PAKISTAN.................................................................................................13
9.8.INFLATION DURING 1990’S.....................................................................................................13
9.9.INFLATION DURING 2000’S.....................................................................................................15
10.INFLATION DURING 2002-03.....................................................................................................................16
11.INFLATION DURING 2003-04.....................................................................................................................17
12.INFLATION DURING 2004-05.....................................................................................................................17
13.INFLATION DURING 2005-06.....................................................................................................................18
14.INFLATION DURING 2006-07.....................................................................................................................19
15.INFLATION DURING 2007-08.....................................................................................................................20
16.INFLATION DURING 2008-09.....................................................................................................................21
17.LINK OF UNEMPLOYMENT AND INFLATION IN PAKISTAN FROM 1995-2006..............................22

CHAPTER – DATA ANALYSIS OF INFLATION IN PAKISTAN.........................................24

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17.2.INFLATION TREND IN PAKISTAN.......................................................................................24


4.1 RELATIONSHIP OF MONETARY POLICY WITH INFLATION......................................28
17.3.RELATIONSHIP OF FISCAL POLICY WITH INFLATION...............................................28
17.4.GOVERNMENT AND SBP MEASURES.................................................................................28
CHAPTER - RECOMMENDATIONS AND CONCLUSION....................................................30
17.5.RECOMMENDATIONS.............................................................................................................30
18.Commodity Balance
The government should have a strict watch on the prices of essential commodities in the country. It should take
immediate steps in changing the import and export duties and maintain the availability of goods is reasonable
prices....................................................................................................................................................................30
19.Reducing budgetary deficit.............................................................................................................................30
20.Strategic Planning...........................................................................................................................................30
21.Domestic Production of Products ...................................................................................................................31
22.Establishing Monitory System........................................................................................................................31
23.Control Hoarding To Prevent Manipulation Of Supply And Demand...........................................................31
24.Other Recomendation......................................................................................................................................32

24.1.CONCLUSION............................................................................................................................32
GLOSSARY ..................................................................................................................................33
REFERENCES.............................................................................................................................34

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TABLE OF FIGURES

Table 1: Study Period/Division of Time for Project......................................................................6


Table 3: Annual Rate of Inflation (Percentage) in Pakistan for Period 1990-2000.................14
Table 4: Annual Rate of Inflation (Percentage) in Pakistan by Groups for Period 1993-2000
.......................................................................................................................................................14
Table 5: Annual Rate of Inflation (Percentage) in Pakistan for Period 2000-2009.................22
Table 6: Annual Rate of Inflation (Percentage) in Pakistan by Groups for Period 1990-2008
.......................................................................................................................................................22
Table 7: Inflation and unemployment percentage from 1995-2006...........................................24
Table 8: Annual Rate of Inflation (Percentage) in Pakistan by Groups for Period 1990-2008
.......................................................................................................................................................26
Table 9: Annual Rate of Inflation (Percentage) in Pakistan by Groups for Period 1990-2008
(July-April)....................................................................................................................................26

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Inflation in Pakistan

EXECUTIVE SUMMARY

Pakistan has undergone a significant economic growth during last few years, but the core
problems of the economy are still unsolved. Inflation remains the biggest of all these problems.

The first part of the research project will present the research layout. It gives the main problem
and purpose of doing this research project. The methodology of research is based on secondary
data analyses, collected through websites, economic surveys and the journals. Aim is to find the
determinants of inflation, its causes, situation in Pakistan, and measures to control it. Limitations
are defined as per actual.

The second chapter reviews the literature defining inflation as “too much money chasing too few
goods. This chapter explains the view point of different researchers in determining the causes of
inflation and establishing links of different variables with inflation such as fiscal and monetary
policies, unemployment, demand pull and cost pull factors that affect inflation. This chapter also
identifies monetary shocks, inflation expectations, nominal exchange rate, and price of imports,
exogenous supply shocks and fiscal policy shocks as determinants of inflation.

The third chapter gives inflation patterns in Pakistan from 1990’s to 2008, which reports the last
five years as highly inflationary due to expansionary monetary policy and high oil prices. In the
end we conclude that sustained level of high economic growth over the year has increased the
level of income, which has resulted in a surge in domestic demand. High international oil prices
lead to increase in transportation charges as well as energy intensive industry products such as
metal commodities. As producers pass on the increased costs to consumers, this leads to an
increase in cost of Pakistani imports, which drives up inflation. Government actions are not
useful, as we are not seeing any difference in the inflation rates. Domestic production should be
encouraged instead of imports; investment 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.

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CHAPTER – INTRODUCTION TO PROJECT

Our study will be focused at the various aspects of inflation in Pakistan from a local and global
perspective. Inflation or price inflation is a rise in the general level of prices of goods and services in an
economy over a period of time. It can also be described as a decline in the real value of money—a loss of
purchasing power. The level of inflation in Pakistan has been persistently rising since Partition. The high
levels of inflation reflect a volatile economy in which money does not hold its value for long. Workers
require higher wages to cover rising costs, and are disinclined to save. Producers in turn may raise their
selling prices to cover these increases, scale back production to check their costs (resulting in lay-offs), or
fail to invest in future production. Many such problems have been, and still are, being faced by Pakistan.
The factors leading to high levels of inflation include deficit financing, foreign remittances, foreign
economic assistance, increase in wages, population explosion, black money, prices of imported goods,
devaluation of rupee, etc.

1.1. OBJECTIVES

The main objectives of this project are to:

1. Present the scenario of inflation in Pakistan and highlight the figures in recent years
2. Study the measures that have been taken by the government to control inflation
3. Analyze policies of the State Bank of Pakistan and the tools it is using to control inflation
4. Give recommendations to control inflation.

1.2. PLAN OF THE PROJECT


1.3. STATEMENT OF PROBLEM

“To determine the extent to which monetary policy is able to influence inflation rates in Pakistan through
changes in money supply.”

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Inflation in Pakistan

2. METHODOLOGY

Table 1: Study Period/Division of Time for Project

Number of weeks Work done


Preparation, submission and acceptance of 2 weeks
proposal
Data collection 3 weeks
Data analysis 2 weeks
Report preparation 1 week
Dissemination of the findings 1 week

3. DATA COLLECTION

The information required for our research includes details about current and past policies of State
Bank of Pakistan. It also encompasses details about other variables affecting inflation. For this,
we aim to collect secondary data, through websites, economic surveys and the journals.
However, if required, we can also use primary data in the forms of interviews and surveys.

4. DATA MANAGEMENT AND ANALYSIS

Analysis of data would be done by carefully studying the collected data and applying theories to
it.

5. PRESENTATION OF RESULTS

A brief explanation of the format of the results will be presented in the following forms, e.g.

• Pie charts
• Line graphs
• Tables

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Inflation in Pakistan

6. DISSEMINATION OF THE RESULTS

The report is going to be submitted to our instructor teaching FIM (Financial Institutions and markets) at
the end of the semester.

7. POSSIBLE CONSTRAINTS

The possible limitations in our research would be;

• Time constraint
• Knowledge constraint
• Data constraint

8. REQUIREMENTS

The research project will require:


Personnel and individual roles of all group members in carrying out the work.

• Paper - for the report etc.


• Transport – for gathering data

9. MOTIVATION BEHIND THE PROJECT

Pakistan has undergone a significant economic growth during last few years, but the core problems of the
economy are still unsolved. Inflation remains the biggest of all these problems. Inflation is one of the
obstacles on the way of development. In Pakistan, it has squeezed the major part of the population.
Specially, during the current year it rose to a very high level creating an alarming situation.

The motivation behind this project is to explore the reasons that caused current price hike in all the
commodity prices especially food items. This is an issue that has struck the masses very hard. The poor
people living below the poverty line have been affected the most. The poverty level is continuously
increasing in the country and the difference between the rich and the poor is on rise. This can create a
serious problem for the country’s economy in future. Therefore, we have decided to work on this issue as

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a team and take the challenging task to put forward some suggestions which would help control the rising
inflation.

This chapter overviews the concept of inflation, including introduction and definition of
inflation. It will tell us if inflation is bad or good for Pakistan’s economy. It will help us to build
links between different variables of economy to identify the reasons and impacts of inflation.
This chapter answers the research question one, four and five.

CHAPTER – LITERATURE REVIEW

This chapter overviews the concept of inflation, including introduction and definition of
inflation. It will help us to build links between different variables of economy with inflation to
identify the reasons and impacts of inflation.

9.1. INTRODUCTION

Inflation is a sustained rise in overall price levels. Moderate inflation is associated with
economic growth, while high inflation can signal an overheated economy.

As an economy grows, businesses and consumers spend more money on goods and services. In
the growth stage of an economic cycle, demand typically outstrips the supply of goods, and
producers can raise their prices. As a result, the rate of inflation increases. If economic growth
accelerates very rapidly, demand grows even faster and producers raise prices continually. An
upward price spiral, sometimes called “runaway inflation” or “hyperinflation,” can result.

The inflation syndrome is sometimes described as “too many dollars chasing too few goods;” in
other words, as spending outpaces the production of goods and services, the supply of dollars in
an economy exceeds the amount needed for financial transactions. The result is that the
purchasing power of a dollar declines.

In general, when economic growth begins to slow, demand eases and the supply of goods
increases relative to demand. At this point, the rate of inflation usually drops. Such a period of
falling inflation is known as disinflation. Disinflation can also result from a concerted effort by

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Inflation in Pakistan

government and policy makers to control inflation; for example, for much of the 1990s, the U.S.
enjoyed a long period of disinflation even as economic growth remained resilient.

9.2. DEFINITION

True inflation begins when the elasticity of supply of output in response to increase in money
supply has fallen to zero or when output is unresponsive to changes in money supply. When
there exists a state of full employment, the conditions will be clearly inflationary, if there is
increase in supply of money. But we don’t subscribe to the classical view that when there is full
employment we can say that when money supply increases it results partly in the increase of
output (GNP) and it partly feeds the rise in prices and when the supply of output lags far behind,
the rise in prices is described as inflationary.

In Coulborn’ words:

It is a case of “too much money chasing too few goods”. Thus inflation is generally associated
with an abnormal increase in the quantity of money resulting in abnormal rise in prices.

The following definitions are taken from the web to simplify the meaning and concept of
inflation;

• An increase in the general price level of goods and services; alternatively, a decrease in
purchasing power of the dollar.
• The number of dollars in circulation exceeds the amount of goods and services available
for purchase; inflation results in a decrease in the dollar's value.
• The average rate of increase in prices. When economists speak of inflation as an
economic problem, they generally mean a persistent increase in the general price level
over a period of time, resulting in a decline in a currency's purchasing power. Inflation is
usually measured as a percentage increase in the consumer price index.
• The increase in the cost of living (prices for goods and services). Inflation is measured as
an annual average by the CPI (Consumer Price Index.)

9.3. DEMDAND-PULL AND COST-PUSH INFLATION

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Abdul Aleem Khan, Syed Kalim Hyder Bukhari and Qazi Masood Ahmed in their paper
“Determinants of Recent Inflation in Pakistan” (1997) are of the opinion that that several supply
side and demand side factors could be responsible for surge in inflation. Inflation can be a result
of shocks to the supply of certain food items and to world oil markets. Rising oil prices can pose
risk of increase in prices of almost all other commodities of the consumer basket. Such supply-
side shocks are very volatile and can cause large fluctuations in food and oil prices. The effects
of this on overall inflation at times can be so excessive that these cannot be countered through
demand management, including monetary policy. However, greater emphasis in the recent
debate on inflation remained on the demand side factors. The demand side pressures were often
considered as an outcome of the September 11, 2001 incident in the United States of America
(USA) and a combination of expansionary monetary and fiscal policies. First, increased domestic
demand due to remittances from abroad and liberal demand-management policies outpaced the
domestic production, creating a positive output gap, which in turn put upward pressure on prices.
Growth in private consumption remained above 10 percent on average during FY04 and FY06,
depicting signs of demand side pressures on price level. Rising import prices were also
considered as an important factor in creating inflation. The exchange rate, if depreciating, in this
scenario can also put upward pressure on price levels. Similarly, some people blamed indirect
taxes for being the main cause of inflation. The wheat support price has also been identified as an
important determinant of inflation in Pakistan by Khan and Qasim (1996) and Hasan et al (1995).
Inflation that was spurred by increase in aggregate demand was called ‘demand-pull inflation’
while supply shocks were supposed to cause ‘cost-push inflation’.

Another competing model advocated by Sunkel (1958), Streeten (1962), Olivera (1964), Baumol
(1967) and Maynard and Rijckeghem (1976) is the ‘Structuralist Model’. This model emphasizes
supply-side factors, such as food prices, administered prices, wages and import prices as
determinants of inflation. It proposes that inflation in the long run can be explained by the
differential rates in productivity growth, wages and elasticity of income and prices between the
industrial and services sectors.

9.4. CAUSES OF INFLATION

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Press Information Department of Pakistan (2007) states some of the causes of high inflation in
Pakistan including:

• decelerating economic growth


• Loose monetary policies
• Output set-backs
• Higher duties and taxes
• Depreciating Pak Rupee
• Frequent adjustments in the administered prices of
• Gas, electricity, POL (Petroleum, Oil and Lubricants) products
• Frequent adjustments in support price of wheat
• Political instability

9.5. RELATIONSHIP OF INFLATION WITH UNEMPLOYMENT

Samuelson (1998) explains the relationship between inflation and unemployment. This curve
says that there is an inverse relationship between unemployment and inflation i.e. whenever
inflation increases, unemployment decreases and vice versa. Inflation is basically affected by
many factors mainly the fiscal policy and monetary policy by the government. These two
policies are used as tools by the government to control inflation and regulate the economic
activity in the country. Unemployment is affected by inflation in many ways. For example when
inflation moves in the same direction as the interest rate. This means that if inflation is higher,
the interest rate is also higher and vice versa. So when money supply increases in the economy,
the inflation rate increases in the economy. The interest rate when increases, the cost of
borrowing increases. When the cost of borrowing is higher the producers and the investors will
tend to borrow less from the banks because now they have to pay the higher cost for borrowing
money. This will result in less investment in the business sector which leads to low production in
the economy and when there is low production in the economy there is less employment of
human resource in the businesses. So this leads to unemployment and if this situation prevails in
the economy the unemployment rate keeps on increasing.

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9.6. LINK OF OTHER VARIABLES WITH INFLATION

It is generally accepted that Inflation is caused by money expansion. If inflation really is a


monetary phenomenon then economies could have reduced inflation quite fast by printing less
money and thus reducing the growth rate of money supply. Agha and Khan (2006) argue that
although immediate cause of inflation is the monetary growth, there are other factors that play a
significant role in price fluctuation. In Friedman’s words “Inflation might be a monetary
phenomenon but the money is a reflection of fiscal policy and not of monetary policy”.

Khan, Bukhari and Ahmed (2007) after a very detailed analysis in their paper reveal the most
significant factors for inflation in Pakistan. These are the inflation expectations, private sector
credit and imported inflation. Overall impact of fiscal policies and government sector borrowing
did not play an important role in rising inflation.

Aslam Chaudhary and Munir Chaudhary (2006) state that Growth rate of Import Prices is the
most important determinant of inflation in Pakistan, both in the short run and long run, which is
followed by growth rate of output. The mismanagement of monetary policy has negligible (only
5 %) effect on Inflation in Pakistan, therefore the authorities should not switch to inflation
targeting.

Mubarik (2005) has recommended a 9% threshold inflation level for economic growth after
which inflation is red alert for economic growth.

CHAPTER – DATA COLLECTION OF INFLATION IN


PAKISTAN

This chapter will highlight the trend of inflation in Pakistan. It will give an overview of current
scenario of inflationary pressure in Pakistan’s economy. This chapter will elaborate all the data
and graphs that are taken from economic surveys of previous years.

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Inflation in Pakistan

9.7. PRICE INDICES IN PAKISTAN

Four different price indices are used in Pakistan over the course of fiscal year, namely: the
Consumer Price Index (CPI), the Wholesale Price Index (WPI), the Sensitive Price Index (SPI)
and the GDP deflator. The CPI is the main measure of price changes at the retail level. It covers
the retail prices of 374 items in 35 major cities and reflects roughly the changes in the cost of
living of urban areas. The WPI is designed for those items which are mostly consumable in daily
life on the primary and secondary level; these prices are collected from wholesale markets as
well as from mills at organized wholesale market level. The WPI covers the wholesale price of
106 commodities prevailing in 18 major cities of Pakistan. The SPI shows the weekly change of
price of 53 selected items of daily use consumed by those households whose monthly income in
the base year 2000-01 ranged from Rs.3000 to above Rs.12000 per month. The SPI is based on
the prices prevailing in 17 major cities and is computed for the basket of commodities being
consumed by the households belonging to all income groups combined. In Pakistan, the main
focus is placed on the CPI as a measure of inflation as it is more representative with a wider
coverage of 374 items in 71 markets of 35 cities around the country.

Table 2: Most Commonly Used Price Indices of Pakistan

Features:
Name CPI SPI WPI
Cities Covered 35 17 18
Markets Covered 71 53 18
Items Covered 374 53 425
Commodities Covered 92 - 106
Number of Commodity Groups 10 - 5

9.8. INFLATION DURING 1990’S

Pakistan sustained a double-digit inflation between 9.8 to 13.0 percent during the first seven
years of 1990s i.e. from (1990-97). Not surprisingly one of the critical macroeconomic issues in
Pakistan’s policy arena during those periods has been as to how put inflation under effective
control. The persistence of the double-digit inflation along with large fiscal deficit (7.0% of
GDP) has been the major source of macroeconomic imbalances in the 1990s. There has been a
general agreement that lack of fiscal management resulting in the excessive growth of money

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supply, the supply side bottlenecks, the adjustment in government administered prices the
imported inflation (pass through of exchange rate adjustment), escalations in indirect taxes, and
inflationary expectations have the major factors responsible for the persistence of the double
digit inflation during most periods of 1990s.

Inflation in Pakistan continued to exhibit a declining trend thereafter i:e after 1997. It declined to
7.8 percent in 1997-98 and further to 5.7 percent in 1998-99 (See Table 3).

Table 3: Annual Rate of Inflation (Percentage) in Pakistan for Period 1990-2000

Period CPI WPI SPI GDP Deflator


1990-91 12.7 11.7 12.6 13.1
1991-92 10.6 9.8 10.5 10.1
1992-93 9.8 7.4 10.7 8.7
1993-94 11.3 16.4 11.8 12.9
1994-95 13.0 16.0 15.0 14.2
1995-96 10.8 11.1 10.7 8.0
1996-97 11.8 13.0 12.5 13.3
Average
1990-97 11.4 12.2 12.0 11.5
1997-98 7.8 6.6 7.4 7.7
1998-99 5.7 6.4 6.4 6.0
Jul-April
1998-99 6.1 6.7 6.8 -
1999-2000 3.4 1.6 1.6 3.1

Both food and non food inflation contributed to the persistence of the double digit inflation. Food
and nonfood inflation averaged 12.2% and 10.7%, respectively during the seven years of 1990s.
Inflation slowed to an average of 5.7% in the remaining three years of 1990s, mainly on account
of 5.3% food inflation and 6.1% non food inflation. Non food inflation was mainly driven by the
prices of POL products and the associated rise in transport charges.

Table 4: Annual Rate of Inflation (Percentage) in Pakistan by Groups for Period 1993-2000

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Period Overall CPI Inflation Food Inflation Non-Food Inflation

1993-94 11.3 11.0 11.5


1994-95 13.0 16.7 9.3
1995-96 10.8 10.1 11.5
1996-97 11.8 11.9 11.7
Average
1994-97 11.7 12.4 11.0
1997-98 7.8 7.6 8.0
1998-99 5.7 5.9 5.6
Jul-April
1998-99 6.1 6.2 5.9
1999-2000 3.4 2.0 5.0

Inflationary pressures have continued to diminish over the last three years mainly on account of
tight monetary policy, prudent fiscal management, and improved supply of food items in the
country. Although the exchange rate adjustment and the rise in international price of POL
products have put upward pressures on inflation but these pressures were countered by the tight
monetary policy fully supported by fiscal stance and improvement in the supply situation in the
country.

9.9. INFLATION DURING 2000’S

The inflation rate, which was at 5.7 percent in 1998-99, was further reduced to 3.1 percent by
2002-03 (the lowest in the last three decades). This low level of inflation was supported by strict
fiscal discipline, the lower monetization of the budget deficit, an output recovery, a reduction in
duties and taxes, and appreciation of exchange rate. During this time period, the country had very
low levels of food inflation, as domestic supply was plentiful as were international stockpiles.

During the first two years (2000-01/2002-03) overall inflation averaged 3.7% as against double-
digit inflation during most periods of 1990s. As stated earlier the decline in overall inflation owe
heavily to low food inflation (3.1%) compared to non-food inflation, as non food inflation
averaged 4.3% during the last three years. Support price (maintenance of prices at a certain level

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Inflation in Pakistan

usually through public subsidy or government) of wheat was not raised during 2001-02 one
factor contributing to low food inflation.

10. INFLATION DURING 2002-03

Inflation averaged at 3.3% during July- April 2002-03. The low level of inflation in the mildest
of 12.5% increase in money supply is the result of better supply situation of essential
commodities, appreciation of exchange rate, prudent fiscal management and continued
sterilization of monetary impact of massive foreign exchange inflows. Food and non-food
inflation have been estimated as 3.1% and 3.4% respectively as against 2.1% and 4.4%
respectively in the corresponding period of last year. The higher increase in food inflation over
the comparable period of last year is attributable to increase in prices of wheat, wheat flour, rice
basmati, meat, tea, vegetable ghee and cooking oil. The increase in vegetable ghee and cooking
oil is the result of increase in international price of palm oil and imposition of GST on the local
manufacturing of ghee in the federal budget 2002-03.

Slower increase in non food inflation as compared with last year resulted mainly on account of
lesser increase in fuel and lighting group (8.55% as against 9.6% of last year) and transport and
communication group (5.5%as against 7.1% last year). It is important to note that during July 1-
May 15 2003-03, 22 adjustments in prices of petrol has taken place – 13 times the prices were
raised and 8 times reduced while one time it remain unchanged. On July 1, 2002 the price of
petrol was Rest 33.71 per liter and on May 16, 2003 it’s stood at the Rest 28.88 per liter – a
decline of 14.3%. The prices of petroleum products and its various grades including kerosene oil
fluctuated moderately during the fiscal year 2002-03.

The contribution of non food inflation is estimated at 61.3%, which is lower than last year
(77.5%). Within non-food inflation, almost one half of the contribution has come from fuel and
lighting and transport and communication.

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Inflation in Pakistan

11. INFLATION DURING 2003-04

Inflation started rising in the second quarter of FY2004 in the wake of reports of a wheat
shortage. However, despite this, SBP continued its easy monetary policy during the first half of
FY2004, when money supply (M2) growth accelerated slightly to 9.1%, from 8.6% in the same
period in FY2003. Private sector credit picked up further, and as a result, interest rates have
started inching up.

Inflation in the first half of the year was lower than in the corresponding period of last year.
However it started to rise in October 2003. Despite an upturn in inflation, the State Bank of
Pakistan continued its easy monetary policy in order to sustain the economic recovery. The broad
money supply increased by 9.1 percent during the period compared with an expansion of 8.6
percent in the corresponding period of last year. It said that except for a decline in September and
October 2003, share prices continued their rising trend through most of the first eight months of
the current year.

The government bond market remained depressed after latest data showed inflation accelerated
in December at its fastest pace so far in the current fiscal year, raising expectations the central
bank may lean toward a tighter monetary policy stance in the coming months. Data issued by the
Federal Bureau of Statistics show consumer prices rose 5.41 per cent year-on-year in December
compared with 4.22 per cent in the previous month. Thus, the 10-year bond closed at 6.40 per
cent, compared with 6.38 per cent a day before. The bond yield at the weekend, however,
remained close to 6.33 per cent.

12. INFLATION DURING 2004-05

Consumers witnessed higher inflation during 2004-05, which touched 9.3 percent by June 2005
at its highest level since 1997 and the State Bank has warned the trend to continue this fiscal.
During 2004 and 2005 the growth in non-government sector borrowing has been above 30 per
cent. This growth is reflected in the contribution of NGSB in inflation, which is 38 per cent in
2004-05.

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Inflation in Pakistan

Another important factor is import prices, which explains 13.6 per cent of the inflation in 2004-
05. In 2004-05, two important factors for inflation were government sector borrowing and
support/procurement price of wheat, contributing 17.6 per cent and 11.8 per cent respectively.
The government taxes however did not cause any significant rise in prices in 2004-05. This
seems logical since there has been no change in the tax to GDP ratio over the last few years.
There was no further strong pressure on import costs because of a stable exchange rate. The
expansionary monetary policy did contribute in promising GDP growth but it also led to the rise
in consumer prices. The phenomenal growth in the flow of loose credit to the private sector
played a significant role in disturbing the price mechanism. Availability of money at virtually no
cost encouraged speculators and hoarders.

“Strong domestic demand and market structure issues, especially related to the continued supply
shortages of some key food staples led a surge in inflationary pressures in the economy during
2004-05, with a smaller but growing contribution from international commodity prices,” said the
SBP in its annual report for 2004-05.

Assuming that no unexpected sharp jump in domestic oil prices would be allowed, and continued
smooth supply of key staples would be maintained, SBP estimates suggest that 2005-6 inflation
would range between 7.7 and 8.3 percent. The SBP report blamed international scenario main
reason behind such higher inflation rate during 2004-05 amid rising international oil prices,
which had been a challenging development for global price stability during 2005.

13. INFLATION DURING 2005-06

Inflation picked up to an average of 8.6 percent per annum during the last two years (2004-05
and 2005-06) for a variety of reasons. First and foremost was the unprecedented rise in
international price of oil which more than doubled during the last two years, reaching an all time
high of $78/bbl. The rise in international oil prices therefore contributed to the pick up in
inflation during the last two years. Second factor has been the surge in demand, which put
pressure on prices. Four years of strong economic growth (on average, 7.0 % per annum) gave
rise to the income levels of various segments of the society, which strengthened domestic
demand and put upward pressure on prices of essential commodities.

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Inflation in Pakistan

The government had taken several measures to bring inflation down during 2005-06. These
measures included the tightening of monetary policy as well as augmenting the supply of
essential commodities through liberalizing of import regime. As a result the overall inflation
registered a decline from 9.3 percent in 2004-05 to 7.9 percent in 2005-06. Most importantly,
food inflation declined from 12.4 to 6.9 during the same period. Non-food inflation on the other
hand registered an increase from 7.1 to 8.6 percent. In 2006 the growth in non-government sector
borrowing was 23 per cent. This growth is reflected in the contribution of NGSB in inflation,
which was 35 per cent in 2005-06. One important factor is import prices, which explains 26.7 per
cent of the inflation in 2005-06.

The government taxes did not cause any significant rise in prices in 2005-06. There was no
further strong pressure on import costs because of a stable exchange rate. Such policy cannot be
sustained for long since trade deficits set the direction.

14. INFLATION DURING 2006-07

In year 2006, core inflation from 7.1 percent in June 2006 came down to 5.5 percent in December 2006,
due to the tighter monetary stance.

The CPI-based inflation during July-April 2006-07 averaged 7.9 percent as against 8.0 percent in the
same period last year. The single largest component of the CPI is the food group, which showed an
increase of 10.2 percent. This was higher than the 7 percent food inflation observed over the
corresponding period of last year. According to the State Bank of Pakistan, the food inflation during the
period increased because of supply side constraints. On the other hand, the non-food prices grew at a
slower pace compared to last year. The non-food inflation averaged 6.2 percent between July -April 2006-
07 while it stood at 8.8 percent in the corresponding period of last year. The non-food non-energy
inflation (core inflation) decelerated sharply to 6.0 percent in first ten months of the fiscal year as against
7.7 percent in the same period last. The tight monetary policy pursued by the SBP has resulted in the
sharp reduction in the core inflation. A more detailed analysis of the food group shows a considerable
variation in inflation rates of the items included in the group. For example, considering the perishable and
non-perishable items in the food group separately shows that nonperishable food prices rose by 9.0
percent while the perishable items prices grew by 17.6 percent. The estimated contributions to inflation
for perishable and non-perishable items are 11.5 percent and 40 percent respectively when their weights
are 5.14 percent and 35.2 percent respectively. Clearly, the contribution of perishable items to inflation is

19
Inflation in Pakistan

nearly twice its weight. An analysis of individual food items suggests that the major portion of food
inflation during the current year stemmed from a limited number of items including rice, edible oil,
pulses, meat, milk, tea, eggs, wheat, vegetables and fruits. These items have experienced relatively larger
increase in their prices during the course of 2006-07. However, prices of other important food items like
sugar, potatoes, tomatoes, moong pulse and chicken (farm) have shown a decline in their prices owing to
improved availability of these items in the market (see Table 8.8).

15. INFLATION DURING 2007-08

Pakistan’s inflation in 2007 remained virtually unchanged from the 2006 rate, standing at 7.8%.
The inflationary trend in food prices persisted through most of the fiscal year and was even
higher, at 10.3% in 2007, affecting people living on low and fixed incomes. The analysis
suggests that the inflation was largely food price driven. Prices of various types of pulses have
increased this year because of the short supply of these pulses in the country. Since milk powder
and tea are also importable items, the domestic prices were higher on the back of higher
international prices.

The inflation in 2007 was fuelled by global increases in some commodity prices, higher utility tariffs, and
by local supply- and demand-driven factors. To contain food inflation, Pakistan’s government expanded
the public-sector utility-store network, extending it even into rural areas. Through the network the
government provides large subsidies for the sale of essential edibles. The central bank responded to high
inflation by tightening monetary policy: it simultaneously raised the discount rate, the cash requirement
on demand deposits and the statutory liquidity requirement of demand and time deposits.

Considering the other CPI groups, the highest inflation was in the medicare group and energy
with reported 10 month inflation of 9.1 percent and 7.3 percent respectively. But since their
weights are small in the CPI basket (2.1 percent and 8.7 percent) their contribution to inflation
was small. On the other hand, house rent, which has a 23.4 percent weight in the CPI, showed a
fall in inflation from 10.3 percent to 6.7 percent.

20
Inflation in Pakistan

16. INFLATION DURING 2008-09

“A delay in including more areas and in revising consumption patterns for measurement of
inflation has helped the government to conceal actual inflationary pressures in the economy”,
claimed Dawn.

Before the start of the year, the government had completed the family budget survey, launched in
July 2007 for the purpose of revising the base for measurement of inflation. The exercise was
delayed for years on the pretext of non-availability of funds.

A senior official at FBS said that the excuse of non-availability of funds for conducting survey to
revise the base year of CPI was unjust because the government had started a number of other
surveys and projects, reported Dawn.

Analysts say the government wanted to continue with the old pattern because it was based on a
survey of urban areas only, ignoring rural consumers who comprised 70 per cent of the total
population.
Moreover, many items covered by the survey are either outdated or their consumption has
declined drastically with the passage of time.

The present average rate of inflation is around 25 per cent and if the base year is revised it will go up to
over 30 per cent.

This exceptionally high trend is mainly a cause of soaring food inflation. Inflation during 2008 indicates
that prices of a few (18) essential food items registered sharp increase particularly during the second half
of the fiscal year 2008.

Other significant contributors to 2008's upward inflationary trend included house rent, which is the index
that measures the cost of construction in Pakistan, racing to 11.35 percent by April 2008.

21
Inflation in Pakistan

Table 5: Annual Rate of Inflation (Percentage) in Pakistan for Period 2000-2009

Period CPI SPI WPI


2000-2001 4.41 4.84 6.21
2001-2002 3.54 3.37 2.08
2002-2003 3.10 3.58 5.57
2003-2004 4.57 6.83 7.91
2004-2005 9.28 11.55 6.75
2005-2006 7.92 7.02 10.10
2006-2007 7.77 10.82 6.94
2007-2008 8.01 11.03 10.26
2008-2009 24.43 30.96 27.98

Table 6: Annual Rate of Inflation (Percentage) in Pakistan by Groups for Period 1990-2008

17. LINK OF UNEMPLOYMENT AND INFLATION IN PAKISTAN FROM 1995-


2006
17.1.1.1. UNEMPLOYMENT DURING 1995-1997

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Inflation in Pakistan

In this period the rate of Inflation was in double digits and was persistent. The main problem that
the country was facing was the setback of output in the economy i.e the production level was not
sufficient to meet the aggregate demand needs in the economy. This also gave rise to
unemployment. So, as the reason for the higher rate of inflation during this period was the
excessive money supply growth in the economy. The government increased money supply in the
economy to encourage the businesses to produce more and thus reduce unemployment. This gave
rise to inflation but government made attempts to temporarily reduce unemployment.

Another major reason behind the higher rate of inflation in this period was the increase in the
money wage rate. This was also done by government to reduce unemployment in the short run.
Government increased the money wage rate to attract more labor into the labor market. This
phenomenon did reduce unemployment but it gave a boost to inflation and inflation rate remain
in double digits during this period.

As the supply was less in the economy as compared to the demand needs of the economy so in
order to meet these demand needs government had to import goods and commodities this also
gave rise to the import prices.

17.1.1.2. UNEMPLOYMENT DURING 1998-2004

In this period the rate of inflation was decreasing with the unemployment rate increasing. As it
has been discussed above that government took several measures to reduce unemployment
temporarily and for short run which gave rise to inflation rate. So now in order to control
inflation government tightened the monetary policy, fiscal adjustments. And from the reduction
in unemployment in the previous period the supply shortage was also relieved. The supply
shocks had also been reduced by the decrease in unemployment and increase in production.soo
all these factors lead to decrease in inflation but again the unemployment had started to increase
in the long run as the capacity had been consumed to its full. So now in this period the inflation
had been decreased through government monetary and fiscal policies but unemployment had
started to increase because the short run effect is no longer in effect.

17.1.1.3. UNEMPLOYMENT DURING 2005-2006

23
Inflation in Pakistan

As in the last period the rate of unemployment had decreased this means again the production
and the aggregate growth has decreased in the economy. Due to this now again the economy has
to face supply shocks and in order to overcome these supply shortages government had to import
goods and commodities. The growing gap between domestic demand and production was filled
by a sharp increase in net imports. This again gave rise to inflation in this period.

Another reason for high inflation in this period was the increase in non government sector
borrowing. The government decreased the interest rate in order to give boost to the growth and
GDP. This lead to increased borrowing and investment into the businesses which lead to
decrease in the unemployment on one side and increase in inflation on the other side due to the
excessive money supply in the economy.

Table 7: Inflation and unemployment percentage from 1995-2006

Year Inflation Unemployment


1995 13.02 5.4
1996 10.79 5.4
1997 11.80 6.1
1998 7.81 5.9
1999 5.74 5.9
2000 3.58 7.9
2001 4.41 7.9
2002 3.54 8.3
2003 3.10 8.3
2004 4.57 7.7
2005 9.28 7.7
2006 7.92 8.1

CHAPTER – DATA ANALYSIS OF INFLATION IN PAKISTAN

In this chapter we analyze the secondary data and conclude on the basis of different models
given by economists. In the end of this chapter we give conclusion and recommendations. The
conclusion will include the answers to all research questions as well as the reason for this study.

17.2. INFLATION TREND IN PAKISTAN

24
Inflation in Pakistan

Inflation in Pakistan over the last 18 years had been fluctuating between 13.0 percent and 3.1
percent. This was mainly due to:

1. Decelerating economic growth


2. Loose monetary policies
3. Output set-backs
4. Higher duties and taxes
5. A depreciating Pak Rupee
6. Frequent adjustments in the administered prices of gas, electricity, POL products as well
as the support price of wheat
7. Political instability

Both the food and non-food inflation contributed to the persistence of double-digit inflation
during the period from 1990-1997, averaging 12.2 and 10.7 percent, respectively against the
overall CPI inflation of 11.4.

The pressure on prices intensified in 1994-95 when inflation went up to 13 percent, mainly due
to extremely high food inflation of 16.5 percent. Nevertheless, the price pressure started to
moderate from 1997-98 onwards as an improved supply position, strict budgetary measures and
depressed international market prices kept domestic prices in check. The inflation rate, which
was at 5.7 percent in 1998-99, was further reduced to 3.1 percent by 2002-03. This low level of
inflation was supported by strict fiscal discipline, the lower monetization of the budget deficit, an
output recovery, a reduction in duties and taxes, and appreciation of exchange rate. During this
time period, the country had very low levels of food inflation, as domestic supply was plentiful
as were international stockpiles. Inflation began to pick up after the first quarter of 2003-04,
reaching as high as 9.3 percent in June 2005. It had a variety of reasons including a rise in the
support price of wheat, shortages of wheat, and a rise in international prices including the oil
prices. The inflation rate had come down to 7.8 percent at the end 2006-07 but has since steadily
risen to 10.3 percent 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

25
Inflation in Pakistan

over the last couple of years, inflation has steadily increased this past fiscal year due to soaring
international food and energy prices.

Table 8: Annual Rate of Inflation (Percentage) in Pakistan by Groups for Period 1990-2008

Year Overall CPI Food Non-Food


1990-91 12.7 12.9 12.4
1991-92 10.6 10.6 10.5
1992-93 9.8 11.9 7.8
1993-94 11.3 11.3 11.2
1994-95 13 16.5 10.2
1995-96 10.8 10.1 11.3
1996-97 11.8 11.9 11.7
1997-98 7.8 7.7 8
1998-99 5.7 5.9 5.6
1999-2000 3.6 2.2 4.7
2000-01 4.4 3.6 5.1
2001-02 3.5 2.5 4.3
2002-03 3.1 2.9 3.2
2003-04 4.6 6 3.6
2004-05 9.3 12.5 7.1
2005-06 7.9 6.9 8.6
2006-07 7.8 10.3 6
2007-08 10.3 15 6.8
Average 1990-97 11.4 12.2 10.7
Average 1998-2000 5.7 5.3 6.1
Average 2000-08 6.4 7.5 5.6

Source: Federal Bureau of Statistics

Table 9: Annual Rate of Inflation (Percentage) in Pakistan by Groups for Period 1990-2008
(July-April)

26
Inflation in Pakistan

Source: Federal Bureau of Statistics

27
Inflation in Pakistan

4.1 RELATIONSHIP OF MONETARY POLICY WITH INFLATION

It is generally accepted that a liberal and expansionary monetary policy leads GDP growth but at
the cost of rise in prices of commodities. To pull down rising inflation, usually a tight monetary
policy is implemented. Non-monetarists argue that keeping a tight control over money supply so
as to control spending is highly questionable. Spending, they say, is not only dependant on the
amount of money in the system but also how rapidly it is used. They argue that increases in
money supply will lead to increases in spending and the unemployed resources will increase
output in response. They also reject the monetarists' assertion that increases in money supply
lead to prices increase.

Before 2004 government had implemented an expansionary monetary policy but it didn’t push
the inflation rate much upwards. That was due to stable oil and food prices in the international
market and a fair balance between demand and supply. Pakistan has maintained a tight monetary
policy after 2004 to restrict the flow of money but in vain. The reason for this is obviously the
increasing fiscal deficit and imported inflation. It can be deduced from the study the real causes
of inflation lie not in the monetary policy but somewhere else.

17.3. RELATIONSHIP OF FISCAL POLICY WITH INFLATION

There exists a strong relationship of fiscal policy with inflation. Different studies have shown
that factors such as demand relative to supply, private sector credit, exchange rate, tax revenue,
direct and indirect taxes and wheat support price have a great impact on inflation. In Pakistan,
over the last few years inflation has been caused by excessive fiscal deficit. Imports went up
largely due to rising demand while production of local goods remained unsatisfactory. Rising oil
and food prices in the international market have been, no doubt, the largest contributors to
inflation. Indirect taxes by the government in the form of sales tax have pushed the prices of
commodities upwards. Emphasis on direct taxes was not given in order to control the inflation.

17.4. GOVERNMENT AND SBP MEASURES

28
Inflation in Pakistan

New democratic Government has entered FY09 with heavy overhang of the last year’s macroeconomic
imbalances in the economy. At the same time, it carries the responsibility of fulfilling the aspirations and
promises to the nation. The trade offs are not easy and global economic environment continues to be
fraught with uncertainties though some trends are quite clear: global growth has slowed down,
international liquidity squeeze persists and Pakistan sovereign rating prevents tapping international
markets, and international commodity prices remain high.

Both the Government and central bank have taken a set of fiscal and monetary policy measures over the
term of FY08 to curb macroeconomic imbalances. While other countries have greater room to support
growth at the cost of higher inflation, the trade off for Pakistan would not be affordable since inflation is
already very high while growth is still at a respectable level. The Government has taken various steps to
release demand pressures on the one hand and enhance supplies of essential commodities on the other.

The Government has its policy objective to ensure high growth while keeping inflation in check.
Growth creates more jobs and increases incomes, directly contributing in reducing poverty.

1. In order to ease demand pressures, the State Bank of Pakistan (SBP) has continuously
tightened the monetary policy over the last few years and more so in the current fiscal
year.
2. Budget deficit for FY09 has been rolled back to 4.7 percent of GDP by the government to
achieve net zero borrowing from SBP during the course of the year, while enhancing its
reliance on other nonbank sources.
3. To enhance supplies, the Government has relaxed its import regime and allowed imports
of several essential items so that there is a continuous flow in the supply of those
important commodities.
4. The government also increased the scale of operations of the Utility Stores Corporation
(USC) which supplies essential commodities such as wheat flour, sugar, pulses and
cooking oil/ ghee at less than the market prices.
5. The support price for wheat has been increased with a view of providing the right price to
Pakistani farmers, encouraging them to grow more wheat. Furthermore, a higher support
price of wheat will also help in discouraging smuggling and will ensure adequate supplies
of this commodity in the country.

29
Inflation in Pakistan

6. Considering the risk related to rising external current account and fiscal deficits and
worsening inflation outlook, the SBP has decided to raise its policy rate by 100 bps to 13
percent to contain further aggregate demand pressures which are contributing to the
inflationary pressures.

CHAPTER - RECOMMENDATIONS AND CONCLUSION

This chapter gives recommendations to control inflation and concludes the research by summing
up the topic.

17.5. RECOMMENDATIONS

Inflation is a hydra headed monster. Taking a single measure cannot control it. However, if
monetary and fiscal measures are wisely coordinated, it can greatly help in controlling the
continuous process of rising prices. The main anti inflationary measures both short and long
terms are: Containing money supply; the monetary supply should be kept within reasonable
limits.

18. Commodity Balance


The government should have a strict watch on the prices of essential commodities in the
country. It should take immediate steps in changing the import and export duties and
maintain the availability of goods is reasonable prices.

19. Reducing budgetary deficit

The budgetary deficit should be kept low level. The deficit should be met by disciplined policy
of demand management. Emphasis should be on commodity producing sectors. The government
should give special attention to the production of cottons, wheat, vegetables, edible oil etc.

20. Strategic Planning

30
Inflation in Pakistan

Problems like ‘inflation’ and ‘poverty’ etc can’t be resolved by applying the secondary measures
directly, these need strategic planning. Unfortunately, in Pakistan, these core problems have
never undergone such planning process. Government has never invited foreign investment for
the production of basic goods. Agriculture sector, on which the major industries rely for the raw
material has not been given sufficient subsidies. The major rise in the prices is because of the
increasing prices of oil (as increased prices of oil increase the cost of production), but no such
steps have been taken to control the oil prices, or at least lessen the effect. Selling basic food
items at USC is not an achievement. Did this step have the effective distribution of goods? No,
privileged group has taken the major part of goods from these USCs, and the poor couldn’t have
access over these basic goods even then.

21. Domestic Production of Products

Domestic production should be encouraged instead of imports; investment 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. Trading Corporation Of Pakistan (TCP) should plan the process by
which we can have the maximum production at lower cost at home, instead of formulating plans
to import the items. Domestic productions at less cost of production will not only make the
availability of goods much easier but Aggregate Supply will also increase, and domestic industry
will get developed.

22. Establishing Monitory System

A strong monitoring system should be established on different levels in order to have a sound
evaluation of the process at every stage.

23. Control Hoarding To Prevent Manipulation Of Supply And Demand

We know the capitalists regularly hoard essential items in an attempt to artificially affect supply
and demand in order to push up prices. Steps should be taken by the government to prevent any
suck practice.

31
Inflation in Pakistan

24. Other Recomendation

• Curtail aggregate demand pressures through restraining expenditures in the short run.

• Increase the production capacity of the economy by addressing structural constraints.


• Improve factor productivity.

24.1. CONCLUSION

Inflation is one of the obstacles on the way of development. In Pakistan, it has squeezed the
major part of the population. It needs to be controlled by strategic planning. Domestic production
should be encouraged instead of imports; investment 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.

32
Inflation in Pakistan

GLOSSARY

Consumer Price Index/CPI

Consumer Price Index/CPI: The CPI measures the cost of buying a standard basket of goods at
different times. The market basket includes prices of food, shelter, clothing, fuel, tuition fee,
transportation, and other goods and services purchased for day-to-day living. Rather, a price
index is constructed by assigning a weight to each product, depending on the economic
importance of that product. It doesn’t have to do with the amount of the product only but what
percentage of budget the consumers spend (according to surveys conducted for this purpose), on
that product.

Deflation

Deflation denotes the fall in general levels of prices.

GDP deflator

This is the ratio of the nominal GDP and the real GDP.

Inflation

Inflation denotes the rise in general levels of prices.

Inflation Rate

The rate of inflation is the percentage increase in the price levels from previous year to current
year.

Nominal GDP

It is the GDP not corrected for inflation.

33
Inflation in Pakistan

Price Index

The price index measures the price levels. The price index is the weighted average of prices of a
number of goods and services.

Producer Price Index/PPI

This considers the prices of approximately 3400 commodities at wholesale or producer stage.

Purchasing power

The ability to use a certain sum of money to buy a physical asset.

Real GDP

It is the GDP corrected for inflation.

WPI

The index that measures changes in wholesale prices

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34
Inflation in Pakistan

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