Fiscal Deficit-Inflation Nexus in Pakistan, 1977-2018: Dynamic ARDL Approach

Abstract

The prevailing view in the macroeconomic literature is that persistent fiscal deficits are inflationary. Pakistan’s economy has experienced an increasing inflation rate and a slowdown in GDP growth. The current study empirically investigates this contradiction for the period 1977- 2018 by using Dynamic ARDL (Bounds, 2017) co-integration technique. The results of the study demonstrate a long-term positive relationship between fiscal deficit and inflation, with severe implicationsforgrowthinthelongrun.However,fiscaldeficitdoesnotposeinflationarythreatin the short run. Interest rate and inflationary expectations are important short run determinants of inflation inPakistan.