Inflation watch

THE present downward trend of inflation in Pakistan seems to not only be real but also sustainable for the time being. Consumer prices are finally beginning to fall. The news though is being taken with caution, as beyond a certain point the concern is that the sliding graph can instead shift to deflation. Strange as it may sound but taming inflation below a certain point may not really be in the interests of Pakistan's economy - Japan and most notably now the Euro-Zone economies are currently gripped with this phenomenon, which if not tackled quickly can push them further into recession. However, for the moment this deflationary trend or lowering of inflation in Pakistan should be treated as being 'quite welcome'. There are huge problems with the Pakistani economy but the coming down of inflation is not one them or at least not so far.

Any fall in prices means people get more for their money: in other words it increases real income for any given money income. Since the present fall in inflation is driven almost entirely by lower oil and energy prices, this feeds straight into living standards. If you spend less money filling up the car or motorcycle you have more dispos- able household income or in other words more money to spend in the shops. Apply this to the present inflation numbers stating that inflation is not only now in single digit but also as low as around 6.50%. However, if you take out energy factor, inflation has actually climbed by anywhere from approximately 2 to 3%. Take out food (the cost of which are also largely energy-related) and tobacco, and the inflation figure moves up even further. Meaning that yes, underlying inflation is low and well below expectation, but energy prices will not fall forever and once oil prices start correcting upwards the underlying or core inflation number will again matter much more. Further a very low inflation does have the negative effect in maintaining the value of debt, in the sense that the real value of debt is not whittled away by a lower inflation. Pakistan is heavily indebted and one could argue that this will make it harder to pay off our debts. In essence the servicing of debt will need to be looked at in two ways: Domestic and Foreign. While the domestic borrowing may get compensated in a way that lowering of inflation is invariably accompanied by lowering of interest rates (we just saw a correction of 100 basis points last weekend) the foreign debt may altogether be another matter. External debts mostly bear fixed-interest rates and therefore a lowered inflation tends to favor the lender and increases the hardship of the borrower. But then the classic text book argument is that if a country struggles to service its national debt, it should not have borrowed so much in the first place - Reckon, a bit late in the day for this advice in the case of Pakistan!

This leads to two further issues. One is what low inflation does to the Pak economy; the other, what it says about the condition of Pakistan. As far as the economy is concerned, there are winners and losers. Oxford Economics has done some calculations of the impact on growth on different countries on the assumption of an oil price falling to $40 per barrel.

Obviously, such a low price is very damaging to countries that rely overwhelmingly on oil, for example, Saudi Arabia and Russia, but it is on balance very good news for most of the world, developed and emerging alike. In fact there are even some big oil producers among the winners, namely Canada and the US. From the pool of emerging economies, China and India, both large importers, tend to be gainers. Though Pakistan was not one of the countries surveyed, given that our dependence on import of oil bears a similar ratio to that of India, albeit on a smaller value scale, means that we should also gain about the same what India stands to gain in percentage terms - implying that our GDP growth forecast should go up by about 7 percent. To put it simply, it means that assuming our economic team performs satisfactorily, Mr. Dar should be revising his currently stated GDP growth target of 5.1% to about 5.45% in 2015 and to 5.85% in 2016.

Now to the second point: what does this very low inflation say about the Pakistani economy more generally? I suggest the best way to evaluate this is to acknowledge that there are different reasons for the low inflation in different countries.