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Effect Of Interest Rate And Cash Reserve Ration On Inflation

2516 words - 11 pages

AN IMAPCT OF INTEREST RATE AND CRR ON INLFATION

A CASE STUDY OF PAKISTAN

ANUM SHAH (3367)

TABLE OF CONTENT

1. Abstract………………………………………………………………………………………..3
2. Introduction……………………………………………………………………………………4
3. Literature Review ……………………………………………………………………………..5
3.1 Theoretical Background
3.2 Empirical Studies
4. Modeling Framework…………………………………………………………………………..6
5. Estimation And Result………………………………………………………………………….7
6. Conclusion………………………………………………………………………………...……7
7. Policy Recommendations……………………………………………………………… …….8
8. References………………………………………………………………………………… ….9

ABSTRACT

The paper examines the rising inflation in our economy and the impact of interest rate ...view middle of the document...

The double-digit inflation has started moving upward, touching 13.7 per cent in January while in February it was 13 per cent, way beyond projections in the monetary policy.  The SBP has kept unchanged the interest rate at 12.5 per cent since September last year. It reduced the rate by a cumulative 150 bps during the first half of 2009-10, 100 bps in August and 50 bps in November last year. 

The inflation rate in Pakistan was 13.04 percent in March of 2010. The SBP has kept the rate unchanged because of a concern that inflation may increase further while uncertainty on fiscal deficit and its financing forced the central bank to maintain its stance. After a low of 8.9 per cent in October last year, inflation slipped back largely due to increases in electricity tariff, adjustments in the prices of domestic petroleum products and administered prices of commodities like wheat The SBP has held the government responsible for inflation, citing the rising electricity charges, petroleum prices and administrative expenses.  The central bank put the consumer price index (CPI) for 2009-10 at 12 per cent. In January, it had said CPI would vary between 11 and 12 per cent. 

“Despite presence of high inflation, crippling electricity shortages and challenging security conditions, the domestic economic activity has picked up in recent months,” the SBP said, adding that a cumulative growth of 2.4 per cent in the large-scale manufacturing sector during the first seven months of 2009-10 was encouraging. It said the balance of payment had come down to $2.6 billion during the July-February period, allowing the SBP to accumulate foreign exchange reserves of up to $11.2 billion and helping it to tabilize the exchange rate. However, falling foreign direct investment and remittances were a source of concern, especially when prospects of foreign official flows remained unclear.

At present, the Cash Reserve Ratio fixed by the SBP is 5 per cent on weekly average basis subject to daily minimum of 4 per cent of time and demand liabilities. In addition to that, banks are required to maintain Statutory Liquidity Requirement (SLR) at the rate of 15 per cent of their time and demand liabilities.

3.LITERATURE REVIEW :
3.1theoritical Background

This study tells about the relationship between inflation, interest rate and cash reserve ratio. Inflation affecting factors are interest rate and cash reserve ratioand many more.
About the relationship between interest and inflation it is highly related with each other. Interest rate is a very important measure used to control the inflation. When the government increases the interest rate in turns there is a decrease in the inflation. Because as the interest rate will increase the commercial bank will be discouraged to give loans and as a result their lending capacity will fall and simultaneously inflation will be controlled.
Cash reserve ratio is the part of commercial banks’ fund to be kept with the state bank or...

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