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AN EMPIRICAL ANALYSIS OF FISCAL IMBALANCES AND INFLATION

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ABSTRACT

Inflation is generally associated with monetary expansion. Pakistan’s experience is not different from other countries. As a matter of fact, rise in general price level can be mapped on growth of money supply. Although immediate cause of inflation is associated with money growth, developments in monetary stance are indicative of other sectors of the economy. In Pakistan, it is generally argued that fiscal imbalances might have played an important role in explaining price fluctuation. During the 90s, critical task faced by the State Bank of Pakistan (SBP) was to contain inflation within the targeted level and ensure macroeconomic stability. During the years FY98 to FY03, the overall inflation averaged 4.6 percent, which is indicative of relative price stability in the country. Earlier, during FY73-FY80, rate of inflation remained high at an average of 14.3 percent. During 1980s the economy experienced a comparatively moderate rate of inflation averaged at 7.2 percent per annum. But in the 90s it increased again having an average of around 10 percent per annum. In fact, fiscal sector indicators also moved in the same direction during the sub-periods mentioned earlier. Intuitively, fluctuation in price is attributable to real sector developments, money creation, and fiscal and external sector. In Pakistan, it is argued that main causes behind high rate of inflation could be large monetary expansion, fiscal imbalances, sources of financing deficits, economic growth and exchange rate depreciation.

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