Effectiveness of Monetary Policy in Controlling inflation during the period of demand- pull and cost-push inflation: An Application of Non-linear ARDL Model for Pakistan

Abstract

This study evaluates the effectiveness of monetary policy in Pakistan in controlling inflation, particularly during the periods of cost-push and demand-pull inflation. To accomplish this task, the study utilizes the Non-linear Autoregressive Distributed Lags (ARDL) model, making use of quarterly data from the first quarter of 1981 to the fourth quarter of 2022. The study finds that monetary policy through the policy rate is only weakly effective in short run and ineffective in long run in controlling the rate of cost-push inflation. on the other hand, during the periods of demand-pull inflation the monetary policy in the form of increase in the policy rate is counterproductive both in the short and long runs. A tight monetary policy through the instrument of high-powered money appears as an effective tool of controlling price level in the long run irrespective of whether the inflation is associated with the cost-push or demand-pull factors. The tight monetary policy is also effective in controlling inflation rate in the short run, but its effectivity is quite weak and insignificant in case of demand-pull inflation. The study concluded that in case of Pakistan high-powered money is a more effective tool in controlling inflation than the policy rate.