INFLATION is regarded as the worst kind of taxation. And those who get hit the most because of excessive acceleration in the rate of inflation, say when it is in the double digit region, are the poor and even the not-so- poor. By the same token when this rate dips to a single digit as it has in Pakistan in recent months coming down as low as 3-4 per cent, the masses including the lower middle classes find the cost of living less painful.

But then why has this pain of living for the poorer sections of society increased so steeply in the last two years despite a consistently depressed rate of inflation for almost now 18 months? Is it because like the record level of foreign exchange reserves of over $7 billion which we have accumulated in a short period of two years, the current rate of inflation in the country too does not flow out of the objective economic conditions on the ground?

In theory as well as in practice, a close co-relation exists between the rate of inflation and the rate of interest. The latter follows the former very closely and tries to remain at least a couple of points ahead all the time in order to protect its profitability from being eroded by unforeseen price hikes. But a prudent banking system never tries to make a killing by fixing interest rates unreasonably higher than the current rate of inflation. Such attempts only end up rendering banking resources too costly and less attractive for investors.

So, if one took the interest rate indicator as reflective of the true state of the economy in the country today then it appears as if that the official estimates of the current rate of inflation are not based on the real economy obtaining in the country today as there is a difference of a massive 15 percentage points between the rate of interest which at present is around 20 per cent on an average and the rate of inflation which is estimated at around 5 per cent in the last two years on an average.

However, this is not so. The current official estimates of the inflation rate do reflect the real state of the economy. But the low rate has not helped reduce the burden on the common man because it has been achieved by following highly recessionary economic policies under compulsion from the IMF to whom we are beholden for its help in obtaining a generous round of debt scheduling.

The SPDC report (Social Development in Pakistan, Annual Review 2001—Growth, Inequality and Poverty) has elaborated this aspect of the issue rather more scientifically and perhaps more cogently in the following passage:

“ The situation in Pakistan during the last two years has been as follows. Enhancements in domestic taxes, and utility and gasoline prices as well as accelerated depreciation of ( which now due to entirely uneconomic reasons has taken a reverse direction) have raised production costs. These cost-push factors have tended to impact the commodity producing sectors in particular, rather adversely.Growth in output has dropped as indicated by the decline in the GDP growth rate to 3.9 per cent in 1999-00 and to 2.6 per cent in 2000-01 ( and a little over 3 per cent in 2001-02). This fall has exerted an upward pressure on prices.

“At the same time, the contractionary monetary and fiscal policies, represented by sharply lower growth in money supply and sharp cuts in public investment, have tended to impact purchasing power negatively. The fall in purchasing power has reduced the ‘demand-pull’ element in inflation to zero, leading to lower price increases. In fact, growth in prices is entirely on account of cost-push factors. SPDC’s ISPM Model simulations show that the combination of the cost and demand factors has led to deceleration in output as well as in prices.The fall in output growth is greater, resulting in a rise in unemployment.

“ While inflation is not the cause of poverty growth in an aggregate sense, price increases have been above average in several key items, impacting severely on the poor( wheat, sugar, kerosene, potato, onion and tomato)... The principle element in poverty growth however, appears to be unemployment related factors.Landlessness has grown in rural areas.The collapse of investment has closed avenues for employment generation. An indication of the collapse of investment can be seen in recent trends in private sector gross fixed capital formation in commodity producing sectors...between 1995 and 2001 private investment in agriculture and large scale manufacturing has fallen by between 15 to 20 per cent, while it has been reduced by half in labour intensive sector like construction. The slow- down in large-scale manufacturing has caused labour utilization to drop. The deceleration has impacted on downstream small-scale industries. There has been large-scale retrenchment of government and semi government employees, and service sector organizations, including foreign banks, have laid-off staff.

“Many of those who have been rendered unemployed have moved to lower wage opportunities in the informal services sector. The enhanced rate of entry into the information service sector has augmented labour supply, and with product demand remaining the same, average earnings have declined. Unemployment tends to take away income altogether. Further, low inflation is of little benefit to households that no longer command the same income and, cannot therefore,be expected to be pleased with fact that the average price line is stable. Ironically, far from low inflation benefiting the poor, it is growth in poverty itself that is responsible for low inflation.

“ Two instances can be cited as to whether a policy response is pro-poor or otherwise. The Pakistan economy faced a major challenge in the aftermath of the nuclear tests and the ensuing sanctions. A series of policy responses were contemplated. Policy makers proved to be sensitive to the impacts on the poor and, while the poor were a target, the negative effects were minimized. For example, in response to the slide in the rupee in the foreign exchange market, a dual or multiple exchange rate regime was adopted during the peak period of the crisis. The move was not sanctioned by the IMF, but was risked nevertheless to protect consumer prices of the essential imports like petroleum oil and lubricants (POL), pharmaceutical products ,edible oils, pulses etc. In contrast, present day policy makers have tended to bow to international creditor pressure and have followed an implicit policy of exchange rate depreciation without sufficient consideration of the impact on essential commodity prices or accompanying measures to protect the poor. An indicator of such insensitivity is the slapping on of a sales tax on medicines.”