January 14, 2003	Tuesday	Ziqa'ad 10, 1423

ISLAMABAD, Jan 13: The increasing government budget deficit leads to excessive expansion in the domestic credit, which resulted in loss of foreign exchange reserves.

This was the outcome of a research paper titled ‘macroeconomic impacts of budget deficit and monetary variables on the foreign sector of Pakistan’ conducted by an associate professor of Quaid-e-Azam University, Islamabad, and lecturer of government college, Bhera, Sargodha, Ghulam Shabir.

Presenting their research papers at 18th annual general meeting and conference organized by Pakistan Society of Developed Economics (PIDE), the researchers suggested that Pakistan could achieve stability in foreign exchange reserves by increasing domestic credit at a rate which is equal to the growth rate of real output plus domestic price level.

Further more, it was find out in the research that an increase in income at an annual rate of 10 per cent would generate reserves inflows of 11.9 per cent, while the same increase in growth rates of interest, inflation, money multiplier and domestic credit would lead to reserve losses by 1.5 per cent, 6.25 per cent, 2.13 per cent and 8.22 per cent, respectively.

Findings of the study showed that balance of payments is a monetary phenomenon and monetary policy could be useful in improving the foreign sector.

According to the research paper, the increase in price level and real income would lead to a foreign reserves inflows, whereas increase in interest rate, inflation, money multiplier and domestic credit will lead to reserves outflows.

This also showed there is partial sterilization in the short run, but in the long run it tends to be equal to minus one, indicating no sterilization policy adopted by the authorities to effect the foreign reserve movements through domestic credit creation. This results also indicate that excessive domestic credit expansion will lead to reserve outflows.

The increase in prices leads to an increase in the monetary demand. If this rise in money demand is not met by an equal increase in money supply by the monetary authorities, then it will put pressure on reserves from abroad, until the excess demand for money is entirely eliminated.