As Pakistan grapples with its current inflation crisis and the alarming consequences it poses to the economy, one cannot help but question the direction we are heading in. A recent report by the International Monetary Fund (IMF) has suggested that the problem of persistent inflation will remain. In this context, revisiting the works of Dr Irving Fisher, an esteemed economist and money theorist, becomes imperative.

In his seminal 1911 publication on the theory of money illusion, Dr Fisher emphasised how individuals often perceive their wealth and income solely in nominal value terms, overlooking the crucial aspect of adjusting for inflation to understand their real purchasing power.

An illustrative example of a similar illusion can be seen in the recent import data of Germany, which is the largest economy in Europe. A closer examination reveals that the volumes have actually plummeted to levels last seen in 2015, exposing the apparent illusion of growth. The impact of inflation on Pakistani society and the illusion it creates is yet to be accurately quantified in actual terms. However, the United States National Bureau of Economic Research Project Report, a scholarly work by Robert E. Hall, sheds light on the behavioural effects of inflation, which erodes the savings of countless people, turning many into reckless spenders and debtors.

The causes of the inflationary crisis in Pakistan have been the subject of extensive debate, but its effects are undeniably felt in our daily lives. Double-digit inflation covertly transfers income and wealth, turning people from creditors to debtors, misleading businessmen in their investment decisions, and fuelling a boom-and-bust cycle that shatters confidence in economic activity.

The phenomenon of shrinkflation has taken a toll on the quantity and quality of the food available to consumers, with businesses resorting to clever packaging tricks to somehow maintain the illusion of unchanged prices, while providing less product. Textile manufacturers, particularly small and medium-sized enterprises (SMEs), which constitute the bulk of employers in Pakistan, are facing a disadvantage due to the disproportionate electricity cost of export-based SMEs, which is almost three times higher than the tariff enjoyed by large undertakings even if they are not export-based. This is called a captive power subsidy.

Almost half of the SMEs involved in weaving and textile undertakings are closed, resulting in huge unemployment. Considering the historical patterns of persistent inflation, as documented by Prof Russell Napier in his contribution to the Library of Financial Mistakes, Pakistan may be heading towards a structural change if the current trajectory continues.

Past instances of inflation-related turmoil have seen significant regime changes around the world. Inflation in a mathematical sense really moves history as people react to such insecurity and lack of trust. Chairman Mao Zedong emerged after the Great Chinese Inflation of the 1930s, Napoleon Bonaparte came in after the National Assembly blew up the French currency (Assignats) in 1789. Adolf Hitler, Benito Mussolini and Francisco Franco came in after the inflation of the 1930s in Europe. Most of the regimes in Latin America changed during periods of inflation. That being so, even a simple Bayesian probability calculation would suggest Pakistan is heading towards a structural change.

Famous writer Ernest Hemingway once wrote, “The first panacea for a mismanaged nation is inflation of the currency; the second is war. Both bring temporary prosperity; both bring permanent ruin.” It is crucial for Pakistani decision-makers to draw lessons from financial history and adopt data-driven policies, as millions of lives are at stake.

Adil Hanif

London