Transmission of Dollar Shocks on Inflation in Pakistan: An ARDL Approach to Cointegration

Abstract

Depreciation in the dollar price have been blamed for inflation but how it affects the macroeconomic activities prevailing in developing countries is still missing in literature. Thereby this study explores the transmission of dollar shocks on inflation in Pakistan for a time period from 1980-2018 using the explanatory variables: past inflation, dollar prices, broad money supply, govt. expenditures, external debt and oil prices. This study uses unit root tests of stationarity and ARDL method and the method of error correction to investigate the relationship among inflation and the above stated variables in together with long-run and short-run. We found significant relationship amongst inflation and four variables, dollar prices, money supply, Govt. expenditures and oil prices. These variables (dollar prices, govt. expenditures, oil prices) have impact on inflation in the long and short-run, in particular, a deduction in them will lead to higher prices. Money supply has a positive and low impact relationship with inflation, while the other explanatory variable (external debt) have insignificant impact on inflation.