Determinants of Inflation and Feasibility of Inflation Targeting in a Small Emerging Market Economy: The Case of Pakistan By
نویسندگان
چکیده
This paper has been prepared as a background paper for the conference on " Monetary Cum Exchange Rate: What works best for emerging market economies? " to be held under the auspices Abstract The successes of inflation targeting monetary policies in established market economies have generated an interest among policy makers in some emerging market economies to explore the feasibility of adopting the same in order to overcome the recent inflationary trends. Using the data for Pakistan, this study investigates some important issues that the monetary authorities must consider before adopting a policy of targeting the inflation rate. In doing so, Pakistan's record of economic policy and performance during the period 1973-2005 is reviewed in relation to changes in economic policy and political regimes. The time series data on money supply (as an indicator of monetary policy), and budget deficits (as an indicator of fiscal policy) reflect significant changes that have taken place in the recent past. These changes include several market-based financial sector reforms that have taken place in Pakistan since the mid-1990s. As a part of these reforms, greater transparency has also been introduced in the operations of the central bank, the State Bank of Pakistan (SBP). The decline in fiscal deficit has also increased the independence of SBP in the conduct of monetary policy. The changes of government and the central bank's governor in 1999, and a move towards greater flexibility of foreign exchange rate may also have caused the changes reflected in the time series data. In order to assess the feasibility of adopting an inflation targeting monetary policy in Pakistan, the determinants of inflation and output cost of inflation targeting are analyzed using econometric models. A model of general price level that incorporates lag adjustments is developed and estimated using quarterly data for the period 1982-2004. Two versions of the model are estimated using CPI and WPI as measures of general price level. The results indicate that the foreign price level of imports, money supply, and domestic output level are statistically significant determinants of the general price level. The exchange rate is not statistically significant as a determinant. The effect of money supply on wholesale prices increased in 2000 while the impact on consumer prices remained the same throughout the period. However, the elasticity of the general price level with respect to money supply is relatively smaller than the elasticity with respect to foreign prices …
منابع مشابه
Oil Price Shock and Optimal Monetary Policy in a Model of Small Open Oil Exporting Economy - Case of Iran
Oil price shocks are the main source of macroeconomic fluctuations in oil exporting countries. It is believed that appropriate monetary policy can help to stabilize these unwanted variations toward optimal allocations. A stochastic dynamic general equilibrium model featuring the properties of both cost push and wealth effect transmission channels is developed for the Iranian economy. In thi...
متن کاملInflation Dynamics in a Dutch Disease Economy
Abstract In this paper, the effect of foreign sector macro-variable on inflation dynamics and firms’ pricing behavior has been investigated in the context of a small open economy New Keynesian Phillips Curve. This curve is derived and estimated for a developing oil-exporting economy suffering from Dutch Disease. This version of NKPC is an extension of Leith and Malley’s (2007) small open econom...
متن کاملThe Role of Inflation Targeting in Exchange Rate Unification Policy: Difference-in-Differences Approach
Generally, one of the important issue in open macroeconomics and international finance literature is the innovations of exchange rate regimes, and exchange rate unification policy is one of the most important reforming policies in developing and emerging countries. By considering the experience of other emerging countries for exchange rates unification policy in this study, it will be investig...
متن کاملThe Effect of Inflation Targeting Policy Implementation on Production Gap in Iran
Given the increasing importance of achieving low and stable inflation rate during the last decades, adopting the most suitable practices to implement monetary policies has always been of concern by monetary authorities of different countries. Inflation targeting (IT) regime is the most recent strategy to guide monetary policies that have been introduced following the occurrence of exchange rate...
متن کاملThe Effect of Exchange Rate, Oil Prices and Global Inflation Shocks on Macroeconomic Variables for the Iranian Economy in the form of a DSGE Model
T he world economy has experienced a bulk of positive and negative shocks in crude oil prices and exchange rates over the years, and that global inflation has undergone some changes. Such shocks have affected the macroeconomic variables in the countries of the world and have challenged the economies of these countries, and have led them to take different measures to protect themselves agai...
متن کامل