Pakistan Inflation: who is responsible?

Federal Finance Minister Dr Hafeez Sheikh was reportedly criticised by his cabinet colleagues for the rise in food prices. The Prime Minister is said to have emphasised the need to check sky-rocketing prices especially given that elections are around the corner. This was subsequent to the claim by the Ministry of Finance that inflation had come down from a high of 25 percent in 2008/09 to 8.8 percent at present. This claim requires highlighting two relevant facts. First and foremost the mechanism for the calculation of the food component of the Consumer Price Index was changed during the last fiscal year. Previously perishable and non-perishable food items were lumped together with tobacco, betel leaves/nuts and alcoholic beverages. The two are now separated resulting in a massive decline in the weightage given to food relative to beverages, tobacco and betel nuts/leaves: only 7.13 percent for the former and a whopping 17.8 percent for the latter. The reason for the change was given as a variation in consumption patterns, however, it is not clear what was the basis for this specific assessment. In addition, there is a need to highlight the fact that the Finance Ministry refused to accept the government-approved extensive surveys that began in 1996 to evaluate the change in sectoral contributions to the GDP and insisted that the old base year 2001 be used, a year with particularly low output as Pakistan was a pariah state till that time due to a bloodless coup by Musharraf in 1999. The 2001 base year allowed the government to forecast a growth rate of 4 percent while the Federal Bureau of Statistics announced a rate of 3.2 percent but was forced to revaluate the data and release a 3.7 percent growth estimate. And, secondly, the reason for food inflation is the inability of the government to ensure that high support prices for major crops lead to lower consumer prices as input costs are rising at a faster pace - input prices that are mainly linked to sustained poor governance in the power sector. The Cabinet was also informed that salaries had been increased by 115 percent during the last four years, accounting for former premier Gilani's decision to raise salaries by an unprecedented 50 percent in one year followed by 15 percent in the two subsequent years, while inflation has been around 11 to 12 percent. The implication was that wage earners were better off in real terms. However, ignored are two related facts. First, the salary rise was limited to civil servants both at the federal and provincial levels and was cited as a major reason for the failure of the provinces to invest adequate amounts for infrastructure and social sector development projects. All other wage-earners were not offered such attractive pay rises and needless to add the bulk of those employed in the country are in the private sector with agriculture/forestry accounting for 45.1 percent of total employed, manufacturing 13 percent and wholesale and retail trade 16.5 percent. Secondly and equally pertinently in a situation where budget deficits are reaching unsustainable levels resulting in high inflation, any rise in wages would simply generate wage-push inflation. The Finance Minister in turn blamed his Cabinet colleagues by referring to the pressure on his ministry to keep extending large bailout packages to the power sector, the PSM, the PIA and Pakistan Railways, to name just a few, without any attempt to improve governance of these entities that is undeniably the major factor for the demand for bailout packages. It is notable that the Finance Minister as the head of a committee to resolve the energy crisis resisted demands for a grant to retire part of the power sector circular debt to enable Pakistan State Oil to purchase fuel from abroad, urging the relevant ministry to first prepare a plan to improve governance but he was invariably forced to give in when asked by his more senior colleagues. In short, the minister correctly implied that he needs support from his cabinet colleagues to ensure that inflation remains low. The responsibility for controlling inflation technically rests with the State Bank of Pakistan (SBP). It was for this purpose that the International Monetary Fund's 2008 Stand-By Arrangement had amongst others two conditions: (i) to keep interest rates high to mop up excess liquidity - excess because of indiscriminate printing of money; and (ii) legal provisions relating to operational independence of the SBP be reviewed. It is pertinent to point out that the SBP Governor has recently made disturbing statements in which he has challenged the government's statistics and urged the Finance Ministry to arrest its domestic borrowing and reduce pressure on the SBP to print money.