The Dynamic Interplay between Economic and Monetary Variables: Evidence from Pakistan

Abstract

This paper examines the dynamic correlation among major economic indicators and monetary variables in the Pakistani economy over the period 1990 to 2024. Applying time series data and econometric modeling strategies such as Augmented Dickey-Fuller (ADF) tests, Auto Regressive Distributed Lag (ARDL) models and Error Correction Models (ECM) the study finds out the magnitude of effect that fiscal deficit, foreign direct investment (FDI) and the tax revenue, central government debt and exchange rates have on inflation, broad money supply and interest rates. Findings indicate that exchange rate movements have a stable and meaningful influence on all three monetary variables, both in the short- and long-run. FDI inflows have the effect of a significant impact on liquidity, whereas tax revenue and debt show mixed impacts according to the monetary variable involved. The ECM estimates stand up the existence of long-run equilibrating relations, and different adjustment rates of the different dependent variables. These results support the notion that macroeconomic coordination, especially of the fiscal and monetary policies, is paramount, and they imply that the management of exchange rates and the sterilization of capital flows should not be discarded as a priority. The paper also comments on discordant findings of the literature and gives justifiable reasons in support of differences. The results provide meaningful pieces of information to policymakers who would like to enhance the monetary stability in the Pakistani context.