Fiscal Policy, Macroeconomic Flux and Inflation Volatility in Pakistan

The main objective of this study is to analyze the long run and short run impact of fiscal policy, fiscal policy volatility, discretionary fiscal policy, and volatility of discretionary fiscal policy on inflation volatility in Pakistan. The study follows the IS-LM model, and utilizes the time series data of Pakistan from 1976 to 2019 at annual frequency under ARDL framework to check the long run relationship between fiscal policy and inflation volatility. The results showed that volatility of imports, volatility of exchange rate, and volatility of output gap have positive effect on inflation volatility, while volatility of money supply has negative effect on inflation volatility in the long run. Fiscal policy, fiscal policy volatility, discretionary fiscal policy, and volatility of discretionary fiscal policy have negative and insignificant effect on inflation volatility in the long run. Unidirectional causality exists from fiscal policy and volatility of money supply to inflation volatility, while unidirectional causality exists from inflation volatility to volatility of exchange rate in the short run. Government has to develop efficient markets and institutions with autonomy, as well as an active and efficient role of government is required to maintain stable prices.