The role of inflation and change in consumer buying power - Free Essay Example

1. INTRODUCTION 1.1 INTRODUCTION Our cram will be paying attention at the diverse aspects of inflation in Pakistan from a local and large-scale point of view. Pakistan has undergone a most important economic growth all the way through previous few years. But the core evils of the economy are at rest unsettled; Inflation remains the most important of all these evils. In the case of an Asian country, Pakistan inflation is the end result of monetary phenomena. The excess money supply increase in Pakistan has in essence improved inflation. Inflation is a get higher in the general level of prices of goods and services in an economy over a period of time. When the general price level grows; each unit of currency buys less goods or services. Inflation doesnt on its own pressure the macroeconomic indicators; it influences the living standards of the nation. As the percentage of inflation enhance, the cost of all commodities also enhance. It can also be described as a turn down in the real value of moneya thrashing of purchasing power. The level of inflation in Pakistan has been bit by bit getting higher since partition. The high levels of inflation imitate an unstable economy in which money does not hold its value for long. Workers have need of higher remuneration to cover up getting higher costs, and are disinclined to save. Manufacturer in turn may move up their selling prices to cover up these increases, scale back production to check their costs (resulting in lay-offs), or be unsuccessful to invest in future production. Many such problems have been, and still are, being faced by Pakistan. The issues leading to high levels of inflation include deficit financing, foreign remittances, foreign economic support, increase in wages, population explosion, black money, prices of imported goods, devaluation of rupee, etc. 1.2 Purpose of Study: The main purpose of this study is to be familiar with and learn about global real meaning of role of inflation and its impact on Pakistan economy and more paying attention towards inflation affect on different sector. In this study, we studied about the factors causing inflation. It will be of great help out to students of economics and business studies. The study provides as much as necessary learning opportunities that one for all time looks for and such opportunities turn very healthy in terms with understanding the subject which is under study. 1.3 Research Objectives Present the set-up of inflation in Pakistan. Underline the figures of recent years. Impact of inflation on our society. Cram the procedures that have been taken by government to supervise inflation. Evaluate policies of the State Bank of Pakistan and the tools it is using to supervise inflation. Give recommendations to control inflation. 1.4 Research Methodology: In this research, we contain data from primary and secondary sources. Data used in this study are obtained from KSE 100, State bank of Pakistan, federal bureau of statistic; stock price index etcThe information required for our research consists of details about recent and past policies of State Bank of Pakistan. Research instruments for this study included, interviews from economists, columnists and other relevant people. The sources of information or data on the Inflation collected all the way through variety of ways in different setting. It also contains very well points about other variables affecting inflation. For this, we aim to gather secondary data, all the way through websites, economic surveys and the journals. However, if required, we can also make use of primary data in the forms of interviews and surveys. Analysis of data would be done by with awareness studying the collected data. A to the point explanation of the format of the results will be presented in the followin g forms, e.g. Pie charts Line graphs Tables Study Period/Division of Time for Project Number of weeks Work done Preparation, submission and acceptance of proposal 3 weeks Data collection 5 weeks Data analysis 4 weeks Report preparation 4 week The possible limitations in our research would be; Time constraint Knowledge constraint Data constraint CHAPTER # 2 LITERATURE REVIEW 2.1 LITERATURE REVIEW Inflation means get higher of general level of price of goods and services in the economy over the period of time. Inflation occurs when the demand of goods will be getting higher as compare to the supply of that good. If the supply is not equilibrium (or less) to the demand of goods and services so the prices will be high. Inflation will also occur when the cost of production will rice or increase price on raw material so the manufacturer increase the finished good prices. Inflation impact negative effect on economy for the reason that it decrease the real value of money. Consumer buying power means how the people spend money on goods and services or purchase the product on a specific availability of money or wages. There are two factors that affect the consumer buying power. (1).Every person wants to spend money for his basic needs or for his luxuries and entertainment for example: (food, house, car, clothing, entertainment etc.). But the buying power will change every year for the reason that of inflation. It will be happened for the reason that of the product price will increase every year or you can say that decrease the value of money. (2).Consumer buying power will also be change for the reason that of monthly wages. If monthly wages is increase or the product or commodities price is same then consumer go for in addition activity but if the wages is not increase only increase the product or commodities price so the effect is occur on consumer buying power. They are only going for basic needs not for the luxuries etc. ALEEM, KALIM (2007) Inflation is get higher in Pakistan for the reason that of mismanagement and loose control on monetary policy and fiscal policy. In monetary policy state bank will issue the supply of money or if supply of money is not manage by state bank efficiently so its affect on inflation or in fiscal policy government apply the taxes on private sector. In 2005-06 inflation will be get higher and fall for the reason that of loose monetary policy. Now in Pakistan recent government apply expansionary policy. In this policy government will increase the interest rate to control the inflation or consumer buying power. Getting higher oil prices in the market will also increase the price on food items or commodities. Inflation in Pakistan wills also occur for the reason that of sharp increase in net import. The gab between in domestic demand and domestic production is filled import items. Comparison between import and export in Pakistan there is no balance of trade or balance of payment. Getting higher trade deficit can be a cause of expectation of high inflation. ABDUL (2007)this author tells us that monetary policy are playing very important role for increasing inflation or how to control inflation. Monetary policy successfully controls inflation when it successfully controls money supply in the market. Monetary policy calculates the money supply with the help of M2 (cash and checking account deposit + saving deposit and money market accounts). But state bank of Pakistan is failed to have power over money supply last few years that why inflation is get higher in Pakistan. But now in Pakistan state bank will increase the interest rate to have power over the inflation in Pakistan. Increasing the amount in interest rate will affect demand for credit to the business sector and also affect the money market rate. Increasing the amount in interest rate also affect the demand on commodities. FAROOQ (2008)this author tells us that political instability is effect the inflation. Monetary policy will be effect for the reason that of political instability. If the political sector is stable in Pakistan so inflation will may be have power over for the reason that state bank will do supply of money in the market by the manage way. Political instability is a negative effect for the economy for the reason that of variable GDP growth, private investment and inflation. Political stability is very important for the economic development of a country. Political stability discourages speculation and hoarding and encourages investment. If there is an unexpected twist in the political situation of a country become entrepreneurs reluctant to invest. Just as foreign investors do not invest, at the same time as industrialists and businessmen feel uncertain and can not make good plans. Due to the scarcity of goods and services are produced and cause inflation MOHSIN (2006) After forecast that is why inflation is go up in Pakistan we check up that for the reason that of variable monetary policy means variable money supply in the market or given high credit to private sector not only this also charge the variable interest rates. Every time state bank (central bank) was not made a good monetary policy as well as they didnt manage the supply of money in the market. When ever the state bank drop off the interest rate so private sector will borrow the loan from the bank or in this case private sector credit will be increase or supply of money will also increase in cooperation growths are good leading indicators of inflation. Inflation will be control by using these four ways which are under below. Get higher in the interest rates is a very useful tool for restricting monetary inflation. Increase in the real rates of interest decreases the demand for loans, thereby limiting the growth of broad money. There may also be a fall in the commercial investments, due to a get higher in the costs of borrowing money. This exerts a direct influence on a handful of planned investment-related projects, which turn out to be unprofitable. This leads to a fall in the collective demand. An increase in the payment of mortgage interests automatically decreases the real effective disposable income of the house owners, as well as their spending capacities. Escalation in the mortgage costs also decreases the demand generated in the housing markets. ABDUL QAYYUM (2006) this author tells us the relation between excess money supply growth and inflation. Excess money supply will be happened for the reason that of loose monetary policy which is making by the government or state bank of Pakistan. Money supply growth will effect on the inflation. First supply growth will affect on gross domestic product (GDP). It will happened for the reason that when the consumer buying power will increase so demand will also increase or if supply is less than with demand so prices of commodities will be get higher and fall. So government or state bank makes the affective monetary policy then the inflation will be under have power over. Growth of population is also increase the inflation in the country for the reason that of increase in demand of goods and services or if demand of goods is greater than the supply as a result the prices will be increase in the GDP commodities. Due to the imbalance between supply and demand of goods and services, prices start to get higher and triggering inflation. JIAN ZHANGThe consumer buying power will depends upon the prices of goods and services. If the prices of goods and services are not high so consumer purchasing power will increase. Buying power will also depend on supply of money means (monetary policy). If supply of money in the country is high so consumer buying power will also increase. Buying power will also depends on wages. If the consumer wages is not increase only increase the price on commodities so buying power will be get higher and fall or decrease. If the wages is increase or commodities price is not increase so the buying power will be increase. Recently china will increase consumer buying power for the reason that of giving goods or services in very low prices. CHAPTER # 3 INFLATION 3.1 Introduction 3.2 Types of Inflation 3.3Inflation in Pakistan 3.4Impact of Inflation in Pakistan 3. INFLATION 3.1 Introduction Inflation is a get higher in the general level of prices of goods and services in an economy over a period of time. When the general price level get higher; each unit of currency acquires less goods or services. as a result; inflation also reflects abrasion in the purchasing power of money. An increase in the supply of money relative to the availability of goods and services, resulting in higher prices and decrease in the purchasing power. There are many definitions of inflation. By inflation most people be aware of a sustained and substantial get higher in prices. For example: W.A.L COULBORN words: too much money chasing too few goods. Prof SAMUELSON, Inflation occurs when the general level of prices and costs is getting higher. According to ROWAN, inflation is the course of action of price increase HARRY G JOHNSON, We define inflation as substantial increase in prices. According to CROWTHER, inflation as a state in which the value of money is falling. According to MEYER, An increase in the price that occurs after full employment has been attained. According to KEYNES, The get higher in general price level after full employment had been achieved is called inflation. 3.2 Types of Inflation Following are the types of inflation: Creeping inflation. Walking inflation or Mild inflation. Running inflation. Galloping or Hyper inflation. Demands pull inflation. Costs push inflation. Mixed inflation or Wage spiral inflation. Open inflation. Suppresses inflation. Profit induced inflation. Budgetary inflation or Deficit inflation. Monetary inflation. Income inflation. Production inflation. Devolution inflation. Imported inflation. Ceiling inflation. 3.2.1 Creeping InflationIt is a situation where the increase in the price level is very slow. In creeping inflation the get higher in price level is up to 2 % p.a. 3.2.2 Walking Inflation or Mild InflationWhen the rate of inflation is reasonable, not too high not too low. The get higher in price level is about 5 % p.a. This type of inflation has healthy effect on economy. 3.2.3 Running InflationIn this type of inflation, the general price level increase more sharply than the previous type. The get higher in price is about 8 to 10% p.a. 3.2.4 Galloping or Hyper Inflation When prices are getting higher at abnormal high rate, it is called hyper inflation. This type of inflation was experienced in Germany after Second World War. The price level increase many hundreds time and the purchasing power of people fell to very low level. This type of inflation is very dangerous. 3.2.5 Demand Pull InflationWhen inflation is due to excess of demand over aggregate supply, it is called demand pull inflation. Excess of aggregate demand pulls the price upwards. Aggregate demand exceeds aggregate supply due to following reasons: Population explosion. Increase in exports. Structural backwardness. Increase in supply of money. Increase in income of people. Mass migration. Wars. 3.2.6 Cost Push InflationIt means a condition where prices are growing due to move up in the cost of production even if there is no increase in aggregate demand. Increase in costs pushes the price in the air. Cost push inflation occurs due to following reasons: Increase in wages. Increase the price of raw material. New taxes. Devaluation. Increase in energy prices. 3.2.7 Mixed Inflation or Wage Spiral InflationIt is the mixtures of demand pull and cost inflation. Originally prices get higher due to excessive increase in aggregate demand. Increase in raises the cost of living of the workers. In order to pay compensation high cost of living, worker demand for high wage rates. Demands for high wage rate are accepted during the period of getting higher prices. Increase in wages will move up the cost of production. For that reason increase in wages will push the price upward. Combined effect of wages and prices creates hyper inflation. 3.2.8 Open InflationIt is a situation when the inflation gets out of control and cannot be controlled by government price control policy is called open inflation. 3.2.9 Suppressed InflationIt is the situation when the inflation can be controlled by the government price control policy. 3.2.10 Profit Induced InflationWhen businessmen tend to increase their profit and increase the price of their commodities then their will be profit induced inflation. It is usually occurs in such economy which are dominated by monopolies. Monopolist is in the position to increase the price of his product at his will. 3.2.11 Budgetary Inflation or Deficit InflationWhen the revenue of the government is less than its expenditures, it is said to run budgetary deficit. To overcome this deficit govt. makes borrowing from internal and external source to increase the supply of money. Higher supply induced more consumption causing price level to high. 3.2.12 Monetary InflationWhen there is an spreading out in the currency notes in circulation then there will be monetary inflation. 3.2.13 IncomeInflationThe inflation which occurs from high income level is called income inflation. In consumption oriented society where propensity to consume is higher than propensity to save such higher income will bring on people to use up lavishly on consumer goods. 3.2.14 Production InflationThis inflation aget highers due to be short of of capital projects. If the course of action of industry is slow as compared to rare of growth of population, then soon the economy would be not capable to meet up all the needs of its members. Shortage of goods creates higher demand which forces the price to up. 3.2.15 Devaluation InflationDevaluation makes our currency not expensive in terms of foreign currency. It also makes all those goods cheap whose prices are in rupees. Further the exports of the country increases. Such increase in exports increases the profit and income of local exporters. It leads to inflation. 3.2.16 Imported InflationIt means the inflation that aget highers due to increase in the price of demand goods. Suppliers in foreign countries may increase the prices of their products. This will affect the domestic consumers and producers. They will be compelled to increase the price of goods. It will create inflation. 3.2.17 Ceiling Inflation that occurs due to a variety of ceiling prices of government. Ceiling prices are set by the government to maintain prices of essential goods. Price is seized below the equilibrium to maintain prices of essential goods. Prices are seized lower than the equilibrium price level of free market. However, the price ceiling from time to time invites black marketing. It may cause inflation. 3.3 INFLATON IN PAKISTAN Inflation during 2005-06 Inflation picked up to an average of 8.6% per annum for the duration of the last two years (2004-05 and 2005-06) for a variety of reasons. First and foremost was the extraordinary increase in international price of oil which more than doubled for the duration of the last years; reaching an all time high of $78/bbl. The increase in international oil prices, as a result contributed to the pick up in inflation during the last years. Next issue has been the surge in demand; which put force on prices. Four years of well-built economic growth (on average, 7.0% per annum) gave increase to the income levels of different segments of the society; which supported domestic demand and put getting higher pressure on prices of necessary commodities. The government had taken numerous actions to bring inflation downward during 2005-06. These actions included the tightening of monetary policy as well as enhancing the supply of necessary commodities through liberalizing of import command. As a result the on the whole inflation registered a turn down from 9.3% in 2004-05 to 7.9 in 2005-06. The majority 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%. In 2006, the development in non-government sector borrowing was 23%. This development is reflected in the role of NGSB in inflation; which was 35% in 2005-2006. One significant issue is import prices; which explains 26.7% of the inflation in 2005-2006. The government levies did not cause any most important get higher in prices in 2005-2006. There was no additional strong force on import costs, for the reason that of a constant exchange rate, such policy cannot be continued for long at the same time as trade shortfall set the way. Inflation during 2006-07 In year 2006, core inflation from 7.1% in June 2006 came down to 5.5% in December 2006; due to the tighter monetary position. The CPI-based inflation during July-April 2006-2007 averaged 7.9% as against 8% in the same period last year. The single biggest element of the CPI is the food group; which showed an increase of 10.2%. This was higher than the 7% food inflation observed over the corresponding period of last year. According to the State Bank of Pakistan, the food inflation during the period increased for the reason that 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% between Julys-April 2006-07 while it stood at 8.8% in the corresponding period of last year. The non-food non-energy inflation (core inflation) decelerated sharply to 6% in first ten months of the fiscal year as against 7.7% 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% while the perishable items prices grew by 17.6%. The estimated contributions to inflation for perishable and non-perishable items are 11.5% and 40% respectively when their weights are 5.14% and 35.2% respectively. Clearly, the contribution of perishable items to inflation is 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 th e course of 2006-2007. 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. Inflation during 2007-08 Pakistans inflation in 2007 remained virtually unaffected 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 for the most part food price driven. Prices of a variety of types of pulses have increased this year for the reason that of the short supply of these pulses in the country. In view of the fact that 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 worldwide increases in a variety of goods prices, higher utility tariffs and by local supply- and demand-driven issues. To include food inflation; Pakistans government extended the public-sector utility-store network, extending it even into rural areas. All the way through the network the government provides large subsidies for the sale of necessary edibles. The central bank reacted to high inflation by tightening monetary policy; it concurrently raised the discount rate; the cash necessity on demand deposits and the statutory liquidity requirement of demand and time deposits. In view of the other CPI groups; the maximum inflation was in the Medicare group and energy with reported 10 month inflation of 9.1% and 7.3% respectively. But in view of the fact that their weights are small in the CPI basket (2.1% and 8.7%) their contribution to inflation was small. On the other hand; house rent which has a 23.4% weight in the CPI; showed a go down in infl ation from 10.3% to 6.7%. Inflation during 2008-09 A delay in including more areas and in revising consumption patterns for measurement of inflation has helped the government to cover up real inflationary pressures in the economy, claimed Dawn. Earlier than the start of the year; the government had finished 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 for the reason that the government had started a number of other surveys and projects, reported Dawn. Analysts say the government wanted to carry on with the previous model for the reason that it was based on a survey of urban areas only; ignoring rural consumers who compget higherd 70% of the whole population. In addition; a lot of objects covered by the survey are either obsolete or their consumption has declined drastically with the passage of time. The present average rate of inflation is around 25% and if the base year is revised it will go up to over 30%. This remarkably high trend is primarily a reason of high food inflation. Inflation for the duration of 2008 point out that prices of a few (18) necessary food items registered quick increase mainly for the duration of the second half of the fiscal year 2008. Other major contributors to 2008s getting higher inflationary trend included house rent, which is the index that measures the cost of production in Pakistan, racing to 11.35% by April 2008. Inflation during 2009-2010 According to the Inflation Outlook covering the period of January-June 2009, the inflation is expected to be in the range of 21.3 percent in the current month of January 2009 as against 11.9% in January 2008. According to a Projection, presented Economic condition committee of the Cabinet meeting held on January 13, 2009 inflation was calculated at 24.3 percent at the start of July in 2007. According the reserve, the reason of Inflation is the continuation of year 2010. The Survey discovered that public was expecting that Inflation would increase in future. It showed that demand-pull, cost push, structural issues were responsible for current inflation in Pakistan and the government policies were not useful to enhance growth. In progress reason of inflation consist of demand, pull, cost push, structure inflation. The survey discovered that cost-push issue was much responsible for causing inflation. The contribution of cost push inflation was 29.1% followed by demand-pull factor (14%), structure issues 13.5%. Collectively; all the three issues were contributing about 56.1% to in progress inflation. Inflation during 2010-2011 According to the assessments of analysts and researches; food inflation is the most important reason behind the speedy inflation. The CPI inflation turned out higher than expectations as it rose by 13.23% on yearly basis (2.51% on monthly basis) during the month of August 2010. Food inflation, for the duration of August 2010 increased by 15.62% on yearly basis (5.10% on monthly basis). As well, food inflationary impact contributed as much as 91% of the total monthly basis CPI inflation. Items that exceeded expectations included perishables such as vegetables as well as ghee. This reinforces that existing inflationary pressure is due to food inflation. The same provides support to the argument that an upward revision in discount rate should not aged higher out of inflationary concerns. The government borrowings have also stayed within handy bound so far, although it runs the risk of getting higher upon fiscal concerns (deficit of 6.5% for FY11 is already projected).This only shows to be the single most major issue in driving the interest rate direction for FY11.CPI inflation has clocked in at 13.23% on yearly basis in August 2010; slightly high than the forecast of 12.85% yearly and against 12.34% yearly in July 2010. With a joint weight of 55% in the CPI basket, food, energy, transport inflation rose by 15.62%, 21.29% and 14.27%, respectively on yearly basis.The State Bank of Pakistan has recently followed a policy of headline inflation targeting. In this regard; higher than projected CPI in August 2010 and likely up tick above 15% on yearly basis in Sep 2010 may guide to an upward force on the discount rate going ahead; mainly if the SBP maintains its anticipatory position and sidelines down trending core inflation. Table: Annual Rate of Inflation (Percentage) in Pakistan for Period 2004-2011 Year Inflation rate (consumer prices) Rank Percent Change Date of Information 2004 2.90 % 123 -25.64 % 2003 est. 2005 4.80 % 143 65.52 % FY03/04 est. 2006 9.10 % 186 89.58 % 2005 est. 2007 7.90 % 168 -13.19 % 2006 est. 2008 7.60 % 162 -3.80 % 2007 est. 2009 20.30 % 204 167.11 % 2008 est. 2010 13.60 % 213 -33.00 % 2009 est. 2011 13.40 % 214 -1.47 % 2010 est. Graph: Annual rate of Inflation in Pakistan for Period 2004 to 2011 3.4 Impact of Inflation in Pakistan In Pakistan, the mainly significant thing is the increase in prices of oil, gas, excise duties and the move up in the utility tariffs. These all has an inflationary impact on the economy. Pakistan with a population of about 17 million people has undergone a considerable economic spreading out for the duration of last few years; but the center evils of the economy are still unclear. The government has also allowed the import of different things through land routes from bordering countries. But all these are less important actions. Evils like inflation and poverty cant be resolved by applying the secondary measures directly. These have need of strategic planning, but sorry to say in Pakistan; these center evils have not at all undergone such a planning method. Government has not at all invited overseas investment for the production of essential goods. Agriculture sector on which the most important industries rely for the raw material has not been given satisfactory subsidies. The most important increase in the prices is for the reason that of the getting higher prices of oil (as increased prices of oil enhance the cost of production). But no such steps have been taken to manage the oil prices. 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. Inflation is one of the barriers on the way of growth. In Pakistan, it has squeezed the main part of the population. It needs to be controlled by considered planning. Domestic production should be encouraged in its place of imports, investment should be given first choice in consumer goods in its place of luxuries; Agriculture sector should be given subsidies, overse as investment should be attracted and developed countries should be requested for financial and managerial assistance. Last of all a well-built monitoring method should be established on different levels in order to have a sound evaluation of the process at every stage. Inflation all the time damages ones standard of living. Increasing prices mean people have to pay more for the some goods and services. If income gets higher at a slower rate as inflation; the standard of living turns down even if one makes more. As a result it is the root cause in building and disturbing economy and people of the country poor. If we desire to manage inflation we shall have to exact strict control over the supply of money and evading any reduction to the supply of money. This is the most suitable way, whereby we can control inflation efficiently and keep the economy of the country in a well-built and established position. Inflation remains the major of all these problems. In the case of an Asian country, Pakistan inflation is the outcome of monetary phenomena. The surplus money supply growth in Pakistan has basically enhanced inflation. Inflation is one of the hindrances on the way of expansion. In Pakistan; it has squeezed the key part of the population. Inflation is one of the most dangerous elements which have absorbed the Pakistan till now. As we are in the Globalization world the Inflation is also increasing day by day in Pakistan. These are due to wrong economical policy, wrong governance, immature political people who even dont know the meaning of Politics. And the world Economical decline has also hit a Pakistan due to Inflation, Unemployment. CHAPTER # 4 CAUSES OF INFLATION 4.1 Demand pulls Inflation 4.2 Cost push Inflation 4.3 Monetary policy 4.4 Political Instability 4.CAUSES OF INFLATION 4.1. Demand Pull-Inflation Demand pull inflation rise and fall inflation when many individuals purchasing the same goods. The price of commodities or goods will increase for the reason that of imbalance in the aggregate supply and aggregate demand. Aggregate demand means total amount of goods and services demanded in the economy in a given time period. Aggregate demands will represented by this formula which are under below: Aggregate Demand (AD) = I + G + C + (X-M): I = Investment spending by companies on capital goods. G = Government expenditures on publicly provided goods and services. C = Consumers expenditureson goods and services. X = Exports of goods and services. M = Imports of goods and services. Aggregate supply means total supply of goods and services produced with in the economy in the given time period. Aggregate supply attributed number of variables or changes in the size and Increase in wages, Increase in production cost, or changes in inflation. The increase in money will increase demand for goods and services from D0 to D1. If businesses cannot significantly increase production and supply (S) remains constant. The economys equilibrium moves from point A to point B and prices will tend to get higher, resulting in inflation. 4.2. Cost Push Inflation Cost-push inflation occurs when businesses respond to getting higher production costs, by raising prices in order to maintain their profit margins. Cost push inflation get higher and fall inflation for the reason that of prices will increases due to increases in the cost of wages and raw material.There is likely to be a forceful increase in the prices of finished goods and services. Cost-push inflation, on the other hand, occurs when prices of production process inputs increase. The sharp get higher in the price of imported oil in last two years will increase the prices of goods and services which is a good example of cost push inflation. Illustration getting higher energy prices caused the cost of producing and transporting goods to get higher. Higher production costs led to a decrease in aggregate supply (from S0 to S1) and an increase in the overall price level for the reason that the equilibrium point moved from point Z to point Y. There are many reasons why costs might get higher: Getting higher imported raw materials costs: perhaps caused by inflation in countries that are heavily dependent on exports of these commodities or alternatively by a fall in the value of the pound/dollar in the foreign exchange markets which increases the UK/USA price of imported inputs. Higher indirect taxes imposed by the government: for example a get higher in the rate of excise duty on alcohol and cigarettes, an increase in fuel duties or perhaps a get higher in the standard rate of Value Added Tax or an addition to the range of products to which VAT is applied. These taxes are levied on producers (suppliers) who, depending on the price elasticity of demand and supply for their products, can opt to pass on the burden of the tax onto consumers. For example, if the government was to choose to levy a new tax on aviation fuel, then this would contribute to a get higher in cost-push inflation. 4.3. Monetary Policy: Inflation is get higher for the reason that of mismanagement and loose control on monetary policy. In monetary policy state bank will issue the supply of money or if supply of money is not manage by state bank efficiently so inflation will be affected. We examine that for the reason that of variable monetary policy means variable money supply in the market or given high credit to private sector not only this also charge the variable interest rates. Whenever state bank (central bank) will not manage the supply of money in the market efficiently then the inflation will be increase. Types of Monetary Policy: There are two types of monetary policy which are: 1. Expansionary Policy: In this policy state bank(central bank) will decrease the nominal interest rate or increase the supply of money so the private sector will borrowing the loan from the bank at very low interest rate. This policy is use to came foreign investment in the country. 2. Contractionary policy: In this policy state bank (central bank) will increase the nominal interest rate or decrease the supply of money in the market for controlling the inflation rate in the country. 4.4. Political Instability Political instability also fluctuate the inflation in any country.Monetary policy will be effect for the reason that of political instability. If the political sector is stable in Pakistan so inflation will may be control for the reason that state bank will do supply of money in the market by the manage way. Political instability is a negative effect for the economy for the reason that of variable GDP growth, private investment and inflation. Political stability is very important for the economic development of a country. Political stability discourages speculation and hoarding and encourages investment. If there is an unexpected twist in the political situation of a country become entrepreneurs reluctant to invest. Just as foreign investors do not invest, at the same time as industrialists and businessmen feel uncertain and can not make good plans. Due to the scarcity of goods and services are produced and cause inflation. CHAPTER # 5 INFLATION EFFECTS ON DIFFERENT SECTORS 5. I Production 5.2 Foreign Investment 5.3 Consumer Buying h3ower 5.4 Business 5.5 Farmers 5. INFLATION EFFECTS ON DIFFERENT SECTORS Inflation hurts your standard of living for the reason that you have to pay more and more for the same goods and services. If your income doesnt increase at the same rate as inflation, you will find your standard of living declining even though you are making more. Also, inflation doesnt impact everything equally, so that some things (such as gas prices) can double at the same time as other things (your home) may lose value. For this reason, it makes financial planning more difficult. Inflation is really bad for your retirement planning for the reason that your target will have to keep getting higher and higher to pay for the same quality of life. In other words, your savings will buy less and less, so you will need to save more and more. Inflation and the economy both influence all the most important macroeconomic indicators of a country. A variety of macroeconomic indicators consist of the following: Gross domestic product or GDP Producer price index (industrial) Consumer price indices Industrial production Capital Investment Agricultural production Export Import Demography Debt Inflation not only affects the macroeconomic indicators, it affects the living standards of the people. As the percentage of inflation increases, the cost of all commodities also increases. This in turn influences trade. When exchange rates are affected, the interest rates cannot be far behind. Pakistan GDP Growth rate Pakistan Gross Domestic Product (GDP) expanded 2.00% over the last 4 quarters. The Pakistan Gross Domestic Product is worth 168 billion dollars or 0.27% of the world economy, according to the World Bank. Pakistans economy has suffered in the past from decades of internal political disputes, a fast growing population, mixed levels of foreign investment, and a costly, ongoing confrontation with neighboring India. However, IMF-approved government policies, bolstered by foreign investment and renewed right to use to global markets, have generated solid macroeconomic recovery during the last decade. Pakistan GDP Growth Rate chart, historical data 5.1. Production Reduction in Production: Inflation will affect on production due to increase in the cost of raw material and increasing will increase the prices on commodities. Fall in Quality: Continuous get higher in prices producer produce and sell sub-standard commodities in order to earn higher profit margin. They also indulge in adulteration of commodities. 5.2. Foreign Investment Inflation will affect the foreign investment for the reason that prices increase on raw material or in the commodities make foreign investment less profitability. 5.3. Consumer Buying Power Inflation hit wages earner and salaries people for the reason that if the prices of goods and services will getting higher and not getting higher his wages or salaries. As a result these types of people are highly affected during inflation. And purchasing power of these people is also decrease. 5.4. Business Inflation is welcome by entrepreneurs and businessmen for the reason that they stand to profit by getting higher prices. They find that the value of their inventories and stock of goods is getting higher in money terms. They also find that prices are getting higher or faster than the costs of production, so that their profit margin is very much enhanced. The business community, for that reason, gets super normal profit during periods of inflation, and those profits continue to increase as long as prices get higher. 5.5. Farmers Farmers are benefit for the duration of inflation for the reason that of two factors. Increase in the cost of production and the get higher in the prices The prices of farm products increase. Those farmers produce highly inflation sensitive products are benefited the most. Farmer will take benefits due to increase in inflation. For the reason that the product which the produce due to inflation the prices on that product will increase. It wills go on with those farmer who produce highly inflation sensitive products. CHAPTER # 6 CONTROLLING INFLATION 6.1 Monetary Policy Control Inflation 6.2 Role of Central Bank and Government 6. CONTROLLING INFLATION 6.1 Monetary Policy Control Inflation Monetary policy can control the inflation if the state bank (central bank) can use the concretionary policy. In this policy state bank increase the interest rate or decrease the supply of money in the market. Then the aggregate demand of goods and services will also decrease for the reason that the borrower not borrowing the loan on very high interest rate. A get higher in real interest rate should reduce the demand for lending and therefore reduce the growth of broad money. Monetary policy can be used to control inflation. Inflation is defined as continuing increases in price levels. Since price level is a monetary variable, monetary policy can affect it. Contractionary monetary policy has the effect of reducing inflation by reducing upward pressure on price levels. 6.2 Role of Central Bank and Government: New democratic Government has entered with serious projection of the last years macroeconomic differences in the economy. At the same time it carries the duty of satisfying the targets and guarantees to the nation. The trade offs are not easy and worldwide economic surroundings continues to be fraught with doubts though some trends are reasonably clear; worldwide growth has slowed downward; international liquidity grip persists, Pakistan self-governing rating prevents beating international markets and international commodity prices stay high. SBP chief explained in detail how a lot subsidized commodity prices including that of petroleum products, power and gas has resulted in weighty government borrowing from the central bank; which therefore had a negative impact on inflation. He also talked about borrowings of the public sector enter get higher; which partly give details shift of subsidies from the governments budgetary expenditures straight to the power sector entities; which get higher by 305% during June 2007 and October 2010 contrast to only 17% during 2003 and June 2007. The contribution of this towards increase in money and so overall inflation should not be discounted; he said, and explained that even if the food and energy group prices were excluded from CPI; there was extensive increase in inflationary stress. Both non-food-non-energy (NFNE) and trimmed measures of core inflation certify this examination. In cooperation the Government and central bank have taken a put of fiscal and monetary policy measures over the term of FY08 to control macroeconomic differences. While other countries have larger room to maintain growth at the cost of higher inflation; the trade off for Pakistan would not be reasonable while inflation is already very high, while growth is still at a good level. The Government has taken different steps to free demand pressures on the one hand and increase supplies of fundamental commodities on the other. The Government has its policy plan to assurance high development; while custody inflation in test out. Development create more jobs and raises incomes; straight contributing in falling poverty. In order to ease demand pressures; the State Bank of Pakistan (SBP) has constantly tightened the monetary policy over the previous few years and more so in the existing fiscal year. Budget shortfall for FY09 has been rolled back to 4.7 percent of GDP by the government to accomplish net zero borrowing from SBP during the course of the year; while enhancing its trust on other non bank sources. To increase supplies, the Government has comfortable its import command and permitted imports of numerous vital items so, that there is a nonstop flow in the supply of those significant commodities. The government also improved the scale of operations of the Utility Stores Corporation (USC) which supplies necessary commodities, such as wheat flour, sugar, pulses, cooking oil/ ghee at a smaller amount than the market prices. The maintain price for wheat has been increased with a view of providing the true price to Pakistani farmers; encouraging them to produce more wheat. Moreover, a superior bear price of wheat will also help in disappointing smuggling and will make sure sufficient supplies of this commodity in the country. In view of the risk linked to increasing outside existing account and fiscal deficits and decline inflation outlook; the SBP has determined to increase its policy rate by 100 bps to 13 percent to include added aggregate demand pressures which are contributing to the inflationary forces. CHAPTER # 7 CONCLUSION AND RECOMMENDATION 7.1 Conclusion 7.2 Recommendations 7. CONCLUSION AND RECOMMENDATION 7.1 CONCLUSION Inflation is one of the obstacles on the way of expansion. In Pakistan, it has squeezed the major part of the population. Taking a single determines cannot supervise it. However; if monetary and fiscal procedures are cleverly coordinated; it can greatly help in controlling the continuous process of growing prices. It needs to be controlled by strategic planning. 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 manage the availability of goods is reasonable prices. Inflationis a continued increase in the general level of prices for goods and services. When inflation goes up, there is a decline in the purchasing power of money. Dissimilarity on inflation contains deflation,hyperinflation and stagflation. Two theories as to the reason of inflation aredemand-pull inflation and cost-push inflation. When there is unexpected inflation, creditors lose, people on a fixed-income go down, menu costs go up, uncertainty decreases spending and exporters arent as competitive. Several supply and demand factors could be liable for this flow in inflation. Supply-side surge get higher can cause large fluctuations in food and oil prices; effects of which on overall inflation, at times, can be so excessive that these cannot be countered through demand management including monetary policy. The relationship between expansion and inflation depends on the state of the economy. High expansion without an increase in inflation is possible if the creative capacity or potential output of the economy is growing enough to keep tempo with demand. Increasing import prices are also measured an significant factor for inflation. Exchange rate; if depreciating can also put increasing pressure on price level. Get higher in prices of goods, such as petrol, raw material etc creates our imports costlier, impacting on cost of production. 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. Lastly a strong monitoring system should be established on different levels in order to have a sound evaluation of the process at every stage. Similarly; indirect taxes are also blamed as the main cause of inflation. The indirect taxes, such as sales tax and excise duties raise the prices of consumer goods. This generate inflationary pressure, On the other hand; direct taxes decrease the take-home i ncome and have anti-inflationary effect. The budgetary shortfall should be kept low level. The shortfall should be met by disciplined policy of demand management; Highlighting should be on commodity producing sectors. Unfortunately, in Pakistan, these center evils have not at all undergone such planning method. Government has never encouraged overseas investment for the production of necessary goods. Agriculture sector; on which the main industries rely for the raw objects has not been given enough subsidies. The main increase in the prices is for the reason that 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 minimize the effect. The core of discussion is that government should control non-development expenditures, make taxation reforms and introduced Islamic economic system in the country. 7.2 RECOMMENDATIONS Inflation can be tackled through monetary procedures but also through fiscal procedures and other policy decisions; by involving that whereas the SBP would keep overall money supply in check the government would try to contain its borrowing from the SBP that is very inflationary. The government should check the price-hikes in wheat flour and cement and steel, etc the government policy not allowing WAPDA and the KESC to go for an in justified increase in power tariff is another example of what the government can do to check inflation. Similarly, efforts to document the economy are going to contain getting higher currency in circulation that is creating asset price bubbles in the economy pushing up the price line. Downsizing the budget deficit by cutting administrative expenditures and through increases in revenues by broadening the tax base. 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. 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. Inflation in Pakistan is hard to manage efficiently and rapidly with out improvement of agricultural production. There is need to offer credit to little farmers. His weak financial situation and skill level prevent him from employing modern tools and inputs to his farm. It is not easy task for mall farmers in Pakistan to gain credit. As a long-term policy measure; human capital must be equipped with skill and knowledge to enhance its productivity and efficiency, and finally tame infla tion. Evils like Inflation and Poverty etc cant be resolved by applying the secondary actions directly; these require considered planning. Unluckily in Pakistan; these core evils have never undergone such planning method. Government has never invited overseas investment for the creation of basic goods. Agriculture area; on which the major industries rely for the raw material has not been given sufficient subsidies. The main increase in the prices is for the reason that 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 reduce 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 couldnt have access over these basic goods even then. 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. A strong monitoring system should be established on different levels in order to have a sound evaluation of the process at every stage. We know the capitalist 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 preve nt any suck practice.