Using the new base year (2015-16), the Pakistan Bureau of Statistics (PBS) has reported the annual consumer inflation rate of 11.4 per cent for September, up from 10.5pc in August and 8.4pc in July.

If the old base year of 2007-08 is used for calculation, September’s inflation rate comes to no less than 12.5pc, up from 11.6pc in August and 10.3pc in July.

So an upward trend is all too visible in both sets of inflation numbers. That makes the argument against the use of old or new base year irrelevant. The fact is that inflation is rising. It is far from stable, and one cannot say for sure when it will begin to recede.

But should this have happened after all the monetary tightening the nation has seen in the past one year? The central bank gradually raised its policy rate from 6.5pc at the end of 2017-18 to 12.25pc towards the end of the last fiscal year and went for another full percentage-point increase in July this year, pushing it up to 13.25pc. It left the rate intact though in its mid-September monetary policy review. The next review is due in mid-November.

Interest-rate tightening affects inflation with a time lag. In Pakistan’s case, that time lag has often ranged between three months and a full year.

Should we assume that inflation is so stubborn that it is still accelerating despite a 5.75 percentage-point increase in the policy rate in 2018-19? Or does it mean inflation could have been much higher than what it is now had the central bank not opted for monetary tightening? Both assumptions are not too off the mark. Inflation is stubborn, yes. And it could have been higher had monetary tightening not taken place.

High inflation is partly because of the excessive cash injection into the economy via government borrowing from the central bank in 2018-19

The stubbornness of consumer inflation lies in the fact that it is primarily the product of (a) excessive cash injection into the economy via government borrowing from the central bank (b) massive rupee depreciation (c) increase in energy prices and (d) steady inflationary expectations.

Just as monetary tightening contains inflation with a time lag, the government’s excessive borrowing from the central bank, or cash printing in plainer terms, also accelerate inflationary pressure with a time lag. Keeping this in mind, just recall how much money the federal government borrowed from the State Bank of Pakistan (SBP) in 2018-19: Rs3.166 trillion against only Rs1.22tr in 2017-18. Inflationary ripples of such a dramatic jump in government borrowing from the central bank are bound to be felt long after the borrowing actually took place. That is reason number one for inflation still remaining high.

The rupee lost 31.7pc value against the dollar in the last fiscal year and settled at 160.05 at the end of June. The impact of such a massive exchange rate decline is also bound to continue impacting inflation well into the next fiscal year — and that is what we are witnessing right now. The little gain that the rupee made during the first quarter of this fiscal year was too small and was viewed unsustainable by markets. A stronger rupee helps stem inflation to some extent only when the gains it makes are large and backed by an improvement in external-sector fundamentals that markets view as sustainable.

So price pressures and inflationary expectations originating from a weaker rupee of the last fiscal year are still in the works. This is reason number two why inflation is still high.

Domestic prices of energy products saw a sharp increase in 2018-19. The per-litre price of petrol surged 22.5pc from Rs91.96 to Rs112.68. During this fiscal year, the petrol price has not risen too fast and currently stands at Rs113.24 per litre. But the cumulative price hike in the last fiscal year was so big and the rising trend was so consistent that businesses continue to reflect that in the prices of the goods and services they produce. Just like the price of oil, gas rates also recorded a phenomenal increase in 2018-19 — for some consumer categories, the increase was more than 100pc. This phenomenon of higher energy prices was so strong and consistent — and to a lesser extent still is — that it can keep inflation high for quite some time. So energy prices are reason number three for the present double-digit inflation.

Monetary tightening in the last fiscal year was sort of pre-emptive

Monetary tightening in the last fiscal year was sort of pre-emptive. The central bank had started increasing interest rates keeping in view the expected future course of inflation. And its mid-September decision to hold the key rate at 13.25pc shows it wants to see evidence of inflation falling before it can start easing interest rates. This seems to be a prudent approach particularly in the light of the fact that not only inflationary pressures are still running high, inflationary expectations also refuse to go away. Unless external-sector fundamentals improve and the coffers start getting filled with tax and non-tax revenues, ghosts of an 8.9pc fiscal deficit, $19.9bn current account deficit and 31.7pc depreciation in 2018-19 will continue to keep fuelling inflationary expectations.

SBP Governor Dr Reza Baqir says he expects inflation falling from January 2020. He is pinning his hopes on the inflation-easing effects of the declining monthly average current account deficit and the lagged impact of previous monetary tightening. Much also depends on how efficiently the government manages to cut the fiscal deficit.

Published in Dawn, The Business and Finance Weekly, October 14th, 2019