Inflation Targeting Skepticism: Myth or Reality? A Way Forward for Pakistan

Abstract


 
 
 
 
 This paper makes twofold contributions. First, it critically reviews empirical literature along the key dimensions of inflation targeting (IT)—skepticism/critique to ascertain whether such skepticism is a myth or reality. Second, it critically reviews the so-called preconditions and operational prerequisites of IT and evaluates Pakistan’s existing state to draw lessons on whether Pakistan is in a position to adopt IT successfully. Contrary to the skeptic’s views, the review indicates that by and large the benefits of IT are promising not only in terms of macroeconomic performance—as measured by inflation, output, interest rate, exchange rate and their variants—but it also allows flexibility to effectively deal with real, financial as well as external sector shocks. The current state of preconditions and operational prerequisites in Pakistan seems adequate, which better positions the State Bank of Pakistan (SBP) to adopt IT. Statutory prioritisation of price stability, consistent inflation targets, and strict accountability mechanisms as well as aggressive disinflation need to be improved for successful implementation of IT.