Although inflation is still running uncomfortably high and many Pakistanis are struggling to keep up with rising prices, new data shows that price gains may be easing. If Pakistanis can expect prices to drop in the coming days, they can make better financial plans and help the government tame inflation, which has been painfully clocking at around 30% over the last few months. So, how do policymakers determine whether inflation is getting better or worse?
Although much attention is focused on the CPI (Consumer Price Index) report, our central bank’s preferred measure should be the price index for Personal Consumption Expenditures (PCE), which covers a much broader range of spending and should be tabulated and released monthly by Pakistan’s Bureau of Statistics. The CPI index captures what consumers pay out-of-pocket for goods and services, while the PCE index covers spending by and on behalf of households, including non-profit institutions that provide services to households. For example, in the PCE index, healthcare costs reflect consumers’ out-of-pocket expenses as well as costs covered by employer-provided insurance, social security, medical coverage, philanthropic organizations, and government programs, while the CPI index only covers the direct costs to consumers. Thus, in the PCE index, healthcare has a much greater weight.
Our central bank should also consider releasing average inflation figures tabulated over longer periods — perhaps 6 months, one year, and up to two years — because month-to-month data can be variable. Additionally, beyond the headline inflation number, it would be beneficial for the State Bank of Pakistan to provide subcategories in the data, allowing markets to determine whether price changes are temporary or long-lasting.
One important measure is “core” inflation, which excludes volatile food and energy prices. Almost all markets closely watch this benchmark. Food and energy prices can move dramatically each month and might not reflect longer-term price trends, as these changes could result from temporary factors and could reverse relatively quickly. If we only looked at overall inflation, we might think general prices are rising or falling more rapidly than they really are. For example, core CPI in Pakistan has been increasing at a much slower pace than in June and July this year. This allows us to understand specific price trends. During the pandemic, consumers ramped up spending on goods easily sourced online, leading to rapid price increases for non-perishable food items or those with longer shelf lives. Meanwhile, it is also important to monitor inflation for services like rents, which make up a large portion of core inflation and a significant chunk of household budgets. Private-sector data in Pakistan suggests that rent prices are starting to cool, but reporting lags mean it will take time for that to be reflected in the official data. However, this is good news. While easing rent prices would be welcome, it is ideal to see inflation lower particularly in essential food
In essence, while the central bank and the government should pay close attention to core inflation, they still need to primarily focus on food and energy, as these categories tend to impact people’s expectations about future inflation. Relief in food and fuel prices affects many consumers’ daily lives. Interestingly, categories such as new and used cars have seen price declines in recent months, which is a positive sign in the current battle against inflation. Although some momentum is cooling off, especially on the goods side, too many components are still showing too much strength.
Finally, your expectations about inflation matter. In modern strategies to fight inflation, governments also track inflation expectations, which is the rate at which people expect prices to rise in the future. This affects actual inflation because consumers, businesses, and investors may change their spending behavior today based on their expectations. The Pakistani government must be careful not to indulge in populist measures or policy announcements that could spike inflation, as these could undermine efforts to tame it. For example, an artificially high minimum wage rate could render domestic manufacturing uncompetitive compared to regional neighbors and lead to a “wage-price spiral,” where price increases lead to higher wages, further increasing prices. Recently, Bangladeshi policymakers resisted this to avoid losing their export markets. If consumers pay more for goods and services, they may demand higher wages, and businesses may increase prices to cover labor costs, creating a cycle that is difficult to break.
The next quarter will be critical in tackling inflation, and the government must tread carefully to maintain the hope that wage growth is slowing due to a cooling labor market and firms’ inability to afford significant wage increases in anticipation of high inflation for at least another year. Unreasonable measures would compound the current economic predicament.
Dr Kamal Monnoo
The writer is an entrepreneur and economic analyst. Email: kamal.monnoo@ gmail.com
