Trade Openness and Economic Growth: Estimating the Inflation Threshold for Pakistan’s Economy
DOI:
https://doi.org/10.15678/AOC.2021.2401Keywords:
inflation and growth, trade openness, economic growth, threshold level of inflationAbstract
Objective: This paper examines inflation and growth: revisiting the estimation of the threshold level of inflation for Pakistan.
Research Design & Methods: The study uses time series data from 1985 to 2015. It employs the Generalized Least Square (GLS) and Conditional Least Square (CLS) methods with the aim of determining the impact of trade openness on economic growth and estimating the threshold level of inflation for the economy of Pakistan.
Findings: The findings of the study revealed that there is a significant positive impact of trade openness on economic growth because the coefficient of trade openness improved from 4.26 before trade liberalization to 4.98 after trade liberalization. Secondly, the threshold level of inflation was estimated at 7% for the Pakistan economy.
Implications / Recommendations: The study therefore recommends, among others, that Pakistan should liberalize its economy through a decrease in taxes on international trade as a percentage of tax revenue. Secondly, policymakers and the state bank should try to keep inflation below or at 7% for the good health of the economy.
Contribution: It was observed that trade openness had a significant impact on the economic growth of Pakistan (R (2; 11) = 4.98, p < 0.05) accounting for 77.6% of its variance (Adj. R2 = 0.776). Invariably, trade openness significantly contributed to Pakistan’s economic growth between 2002 and 2015. However, it is evident that after trade liberalization the coefficient of trade openness significantly improved from 4.26 between 1987 and 2001 to 4.98 between 2002 and 2015. This implies that trade liberalization significantly and positively affects economic growth in Pakistan (p < 0.05). The analysis to assess the impact of trade openness on economic growth was carried out using data before and after the structural break between 2001 and 2015 to capture whether trade liberalization could affect economic growth differently before and after liberalization. The study found that trade openness had a significant positive impact on economic growth because the coefficient of trade openness improved from 4.26 before trade liberalization to 4.98 after trade liberalization. Secondly, the Khan and Senhadji model (2001) for estimating the threshold level of inflation for developed and developing countries was adopted to estimate the threshold level of inflation for the Pakistan economy. The study revealed a threshold level of 7% for the Pakistan economy.
References
Ahmed, S. and Mortaza, M. G. (2005) “Inflation and Economic Growth in Bangladesh: 1981–2005”. Working Paper Series WP 0604 (Policy Analysis Unit, Bangladesh Bank): 1–19.
Ali, W. and Abdullah, A. (2015) “The Impact of Trade Openness on the Economic Growth of Pakistan: 1980–2010”. Global Business and Management Research: An International Journal 7(2): 120 –29.
Ayoub, M., Chaudhry, I. S., and Farooq, F. (2011) “Does Inflation Affect Economic Growth? The Case of Pakistan”. Pakistan Journal of Social Sciences 31(1): 51– 64.
Bayar, Y. (2016) “Impact of Openness and Economic Freedom on Economic Growth in the Transition Economies of the European Union”. South-Eastern Europe Journal of Economics 1: 7–19.
Bhusal, T. P. and Silpakar, S. (2011) “Growth and Inflation: Estimation of a Threshold Point for Nepal”. Economic Journal of Development Issues 13 & 14 (1–2): 131–38.
Chatterji, M., Mohan, S. and Dastidar, G. S. (2013) “Relationship between Trade Openness and Economic Growth of India: A Time Series Analysis”. Working Paper No 274, 1–33.
Cooray, N. S. (2013) “An Empirical Analysis of Inflation–Growth Nexus in Developing Countries: The Case of Sri Lanka”. Economics and Management Series: 1–19.
Danladi, J. D. (2013) “Inflation and Sustainable Output Performance in the West African Sub-region: The Threshold Effect”. American Journal of Economics 3(6): 252–59.
De Gregorio, J. (1993) “Inflation, Taxation and Long Run Growth”. Journal of Monetary Economics 37(3): 271–98, https://doi.org/10.1016/0304-3932(93)90049-L.
Eggoh, J. C., and Muhammad, K. (2012) “On the Non-linear Relationship between Inflation and Economic Growth”. International Economic Journal, 1–28.
Espinoza, R., Leon, H. and Prasad, A. (2010) “Estimating the Inflation–Growth Nexus – a Smooth Transition Model”. IMF Working Paper 10(76): 1–22.
Fischer, S. (1993) “The Role of Macroeconomic Factors in Growth”. Journal of Monetary Economics 32(3): 485–512, https://doi.org/10.1016/0304-3932(93)90027-D.
Frimpong, J. M. and Oteng-Abayie, E. F. O. (2010) “When Is Inflation Harmful? Estimating the Threshold Effect for Ghana”. American Journal of Economics and Business Administration 2(3): 232–39, https://doi.org/10.3844/ajebasp.2010.232.239.
Hansen, B. E. (1996) “Inference When a Nuisance Parameter Is Not Identified under the Null Hypothesis”. Econometrica 64(2): 413–30, https://doi.org/10.2307/2171789.
Hasanov, F. (2011) “Relationship between Inflation and Economic Growth in the Azerbaijani Economy: Is There Any Threshold Effect?”. Institute for Scientific Research on Economic Reforms. MPRA Paper No 33494, 2–10.
Hussain, M. (2005) “Inflation and Growth: Estimation of a Threshold Point for Pakistan”. Pakistan Business Review 7(3): 1–15.
Iqbal, N. and Nawaz, S. (2010a) “Fiscal Decentralization and Macroeconomic Stability: Theory and Evidence from Pakistan”. MPRA Paper No. 27184.
Iqbal, N. and Nawaz, S. (2010b) “Investment, Inflation and Economic Growth Nexus”. Pakistan Development Review 48(4): 863–74, https://doi.org/10.30541/v48i4iipp.863-874.
Javed, Z. H., Qaiser, I., Mushtaq, A., Saif-ullaha and Iqbal, A. (2012) “Effects of International Trade on Economic Growth: The Case Study of Pakistan”. International Journal of Academic Research in Progressive Education and Development 1(2): 103–113.
Khan, M. S. and Senhadji, A. S. (2001) “Threshold Effects in the Relationship between Inflation and Growth”. IMF Staff Papers 48(1): 1–21.
Kremer, S., Bick, A. and Nautz, D. (2013) “Inflation and Growth: New Evidence from a Dynamic Panel Threshold Analysis”. Empirical Economics 44(2): 861–78, https://doi.org/10.1007/s00181-012-0553-9.
Lee, C. C. and Wong, S. Y. (2005) “Inflationary Threshold Effects in the Relationship between Financial Development and Economic Growth: Evidence from Taiwan and Japan”. Journal of Economic Development 30(1): 49–69.
Leshoro, T. L. A. (2012) “Estimating the Inflation Threshold for South Africa”. ERSA Working Paper No 285, 1–15.
Mankiw, N. G. and Reis, R. (2007) “Sticky Information in General Equilibrium”. Journal of the European Economic Association 5(2–3): 603–13.
Mehrara, M. (2007) “Does Inflation Harm Economic Growth in Iran?”. Iranian Economic Review 12(3): 43–56.
Mercan, M., Gocer, I., Bulut, S. and Dam, M. (2013) “The Effect of Openness on Economic Growth for BRIC Countries: Panel Data Analysis”. Eurasian Journal of Business and Economics 6(11): 1–14.
Mohanty, D., Chakraborty, A. B., Das, A. and John, J. (2011) “Inflation Threshold in India: An Empirical Investigation”. RBI Working Papers Series. Department of Economic and Policy Research, 1–17.
Mubarik, Y. A. (2005) “Inflation and Growth: An Estimate of the Threshold Level of Inflation in Pakistan”. SBP-Research Bulletin 1(1): 35– 44.
Munir, Q. and Mansur, K. (2009) “Non-linearity between Inflation Rate and GDP Growth in Malaysia”. Economics Bulletin 29(3): 1555–69.
Phiri, A. (2013) “Inflation and Economic Growth in Zambia: A Threshold Autoregressive (TAR) Econometric Approach”. Economics & Management Series, 1–22.
Ramzan, M., Asif, M. and Mustafa, M. (2013) “Impact of Trade Openness and Other Macroeconomic Variables on GDP Growth of Pakistan”. A Research Journal of Commerce, Economics and Social Sciences 7(1): 32–41.
Salami, D. and Kelikume, I. (2010) “An Estimation of the Inflation Threshold for Nigeria 1970–2008”. International Review of Business Research Papers 6(5): 375–85.
Salinas, G. and Aksoy, A. (2006) “Growth Before and After Trade Liberalization”. World Bank Policy Research Working Paper, 4062, https://doi.org/10.1596/1813-9450-4062.
Sarel, M. (1996) “Nonlinear Effects of Inflation on Economic Growth”. Staff Papers (International Monetary Fund) 43(1): 199–215, https://doi.org/10.2307/3867357.
Sehrawat, M. and Giri, A. K. (2015) “Re-examining the Threshold Effects in Inflation–Growth Nexus: Evidence from India”. International Journal of Economics and Empirical Research 3(2): 57–67.
Seleteng, M. (2005) “Inflation and Economic Growth: An Estimate of an Optimal Level of Inflation in Lesotho”. Research Department Working Paper Series, Central Bank of Lesotho, 212.
Seleteng, M., Bittencourt, M., and Eyden, R. van (2013) “Non-linearities in Inflation–Growth Nexus in the SADC Region: A Panel Smooth Transition Regression Approach”. Economic Modelling 30(C): 149–56, https://doi.org/10.1016/j.econmod.2012.09.028.
Sergii, P. (2009) “Inflation and Economic Growth: The Non-linear Relationship: Evidence from CIS Countries”. MA Thesis in Economics, Kyiv School of Economics.
Siddiqui, A. H. and Iqbal, J. (2005) “Impact of Trade Openness on Output Growth for Pakistan: An Empirical Investigation”. Market Forces 1(1): 1–8.
Singh, K. and Kalirajan, K. (2003) “The Inflation–Growth Nexus in India: An Empirical Analysis”. Journal of Policy Modelling 25(4): 377–96, https://doi.org/10.1016/S0161-8938(03)00011-5.
Singh, P. (2010) “Searching Threshold Inflation for India”. Economics Bulletin 30(4): 3209–20.
Sweidan, O. D. (2004) “Does Inflation Harm Economic Growth in Jordan? An Econometric Analysis for the Period 1970–2000”. International Journal of Applied Econometrics and Quantitative Studies 1(2): 41– 66.
Tong, H. (1978) “On a Threshold Model” in: C. Chen (ed.), Pattern Recognition and Signal Processing, 575–86. Alphen aan den Rijn, The Netherlands: Sijthoff & Noordhoff.
Vinayagathasan, T. (2013) “Inflation and Economic Growth: A Dynamic Panel Threshold Analysis for Asian Economies”. GRIPS Discussion Paper 12(17): 1–23.
Wacziarg, Z. and Welch, K. H. (2008) “Trade Liberalization and Growth: New Evidence”. The World Bank Economic Review 22(2): 187–231, https://doi.org/10.1093/wber/lhn007.
Yabu, N. and Kessy, N. J. (2015) “Appropriate Threshold Level of Inflation for Economic Growth: Evidence from the Three Founding EAC Countries”. Applied Economics and Finance 2(3): 127– 44.
Yilmazkuday, H. (2013) “Inflation Thresholds and Growth”. International Economic Journal 27(1): 1–10, https://doi.org/10.1080/10168737.2012.658831.
Younas, S. (2013) Estimating Growth–Inflation Tradeoff Threshold in Bangladesh. Policy Analysis Unit Research Department, Bangladesh Bank.
