DETERMINANTS OF INFLATION IN PAKISTAN: AN ECONOMETRIC ANALYSIS USING JOHANSEN CO-INTEGRATION APPROACH

Abstract

Inflation is regarded as regressive taxation against the poor. The most visible impact of inflation in recent times is its effect on real output, relative prices, taxes and interest rates. The study focuses to examine demand side and supply side determinants of inflation in Pakistan on economic and econometric criterion and also to investigate causal relationships among some macroeconomic variables. For that purpose, study has undertaken time series data for the period from 1972 to 2010. Long run and short run estimates have been investigated using Johansen Co-integration and Vector Error Correction approached. Causal relationships have been observed using Granger causality test. Data on macroeconomic variables have been selected from Handbook on Statistics of Pakistan 2010. The findings of the study reveal that in the long run consumer price index has found to be positively influenced by money supply, gross domestic product, imports and government expenditures on the other side government revenue is reducing overall price level in Pakistan. Long run elasticities of Price level with respect to money supply, gross domestic product, government expenditures, government revenue and imports are 0.61, 0.73, 0.32, -1.37 and 0.41 respectively. In the short run, last year consumer price index and two years before government revenue are directly involved in enhancing consumer price index of current year. Improvement in gross domestic product and government expenditures is necessary but it is suggested that there should be optimal level for all of them so that price level should be stable.