8.1 Introduction Stable inflation is recognized as an integral component of sound macroeconomic policies. Over the last decade, with a few exceptions inflation around the world has been at a retreat. More recently, with a pick-up in growth, inflation has started to rise again. Pakistan’s economy exhibited a similar trend with a low inflation environment for last several years with a sharp pick up over the last three years. There are several internal and external factors which have contributed to the recent pick up in inflation in Pakistan. These factors include: a sharp economic recovery resulting in a rise in the levels of income with the consequential surge in domestic demand; the continued pass through effect of the pervious rise in international oil prices; and a sharp pick up in the international prices of essential commodities. Continuously upward adjustments in the administered prices, such as the support prices of wheat, as well as lower than expected production of essential perishable (vegetable and fruits) and non-perishable (pulses, sugar, chilies etc) commodities also contributed to inflation. The government has been vigilant about inflation and has taken various steps to release demand pressures on the one hand and augment supplies of essential commodities on the other. To ease demand pressure the State Bank of Pakistan (SBP) has tightened monitory policy over the last two years and to augment supplies the government has liberalized import regime and allowed imports of several essential items with a view to increasing the supply of those items. In addition, the government increased its imports of item like wheat, pulses and sugar to complement the efforts of the private sector. To provide relief to the common man, the government also increased the scale of operation 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. A strong relationship between inflation and output (unemployment) has been posited in theory and observed in empirical studies. Inflation at very high levels as well as at very low levels is harmful for the economy. There is a wide spread recognition that inflation results in inefficient resource allocation and hence reduces potential economic growth. Inflation imposes high cost on economies and societies; disproportionately hurts the poor and fixed income groups; creates uncertainty throughout the economy and undermines macroeconomic stability. High inflation has always penalized the poor more than the rich because the poor are less able to protect themselves against its consequences and less able to hedge against the risks that high inflation poses. On the other hand, low or falling inflation can have a negative impact on growth through several factors. For example, falling assets prices can constrain collateralized lending, the negative wealth effect can slow down demand and borrowers are worse off since the real rates have turned against them. The policy objective of the government is to ensure high growth while keeping inflation in check. Growth on one hand provides more jobs and increases incomes which directly contribute to reducing poverty. While on the other hand, the associated higher inflation tends to worsen income distribution by hitting the low income groups hardest and by further reducing their purchasing power which perpetuates poverty. Recognizing this fine balance, the government has taken several initiatives which seek to achieve high rate of economic growth, lower unemployment and reduce the rate of inflation. Along with a review of development in inflation, this chapter will discuss the various timely interventions carried out by the 119
Economic Survey 2006-07 government during the course of the year to keep inflation in check. Table 8.1: Inflation Rate 2004-05 2005-06 2005-06 2006-07 (July-April) CPI (General) 9.3 7.9 8.0 7.9 Food...
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