PASS-THROUGH OF WORLD OIL PRICES TO INFLATION: A TIME SERIES ANALYSIS OF PAKISTAN

Inflation plays vibrant role in economic stability and is considered to be an integral component of sound macroeconomic policies. Consumer prices are very much linked with the oil prices. A change in oil prices is assumed to be passing through to other goods prices directly or indirectly. The main objective of this study is to investigate long-run passthrough of world oil prices to domestic inflation in Pakistan using monthly data from January 2000 to December 2014. The standard Augmented Dickey-Fuller (ADF) unit root test is applied to test the order of integration of selected variables. The Autoregressive Distributed Lag (ARDL) bounds testing approach is applied to investigate long-run passthrough of world oil prices to domestic inflation in Pakistan in the presence of control variable, i.e. exchange rate. The results of the study clearly explain that in the long-run international oil prices and exchange rate significantly affect the inflation rate in Pakistan. Furthermore, oil price (LOILP) has positive relationship with inflation and Nominal Exchange Rate (LER) has negative relationship with inflation rate in Pakistan. The findings of the Granger causality test reveal that there is unidirectional causality that runs from world oil prices to inflation rate, from inflation to exchange rate, and from world oil prices to exchange rate in Pakistan.