Effectiveness of monetary policy on money and credit in Pakistan

Muni , Kashi A icle E ec i eness o mone a y policy on money and c edi in Pakis an Con empo a y Economics P o ided in Coope a ion wi h: VIZJA Uni e si y, Wa saw Sugges ed Ci a ion: Muni , Kashi (2020) : E ec i eness o mone a y policy on money and c edi in Pakis an, Con empo a y Economics, ISSN 2300-8814, Uni e si y o Economics and Human Sciences in Wa saw, Wa saw, Vol. 14, Iss. 2, pp. 162-181, h ps://doi.o g/10.5709/ce.1897-9254.338 This Ve sion is a ailable a : h ps://hdl.handle.ne /10419/297522 S anda d-Nu zungsbedingungen: Die Dokumen e au EconS o dü en zu eigenen wissenscha lichen Zwecken und zum P i a geb auch gespeiche und kopie we den. Sie dü en die Dokumen e nich ü ö en liche ode komme zielle Zwecke e iel äl igen, ö en lich auss ellen, ö en lich zugänglich machen, e eiben ode ande wei ig nu zen. So e n die Ve asse die Dokumen e un e Open-Con en -Lizenzen (insbesonde e CC-Lizenzen) zu Ve ügung ges ell haben soll en, gel en abweichend on diesen Nu zungsbedingungen die in de do genann en Lizenz gewäh en Nu zungs ech e. Te ms o use: Documen s in EconS o may be sa ed and copied o you pe sonal and schola ly pu poses. You a e no o copy documen s o public o comme cial pu poses, o exhibi he documen s publicly, o make hem publicly a ailable on he in e ne , o o dis ibu e o o he wise use he documen s in public. I he documen s ha e been made a ailable unde an Open Con en Licence (especially C ea i e Commons Licences), you may exe cise u he usage igh s as speci ied in he indica ed licence. h ps://c ea i ecommons.o g/licenses/by/4.0/ www.ce. izja.pl 162 This wo k is licensed unde a C ea i e Commons A ibu ion 4.0 In e na ional License. This pape analyzes he e ec i eness o mone a y policy on money and c edi in Pakis an by using he da a ich en i onmen . FAVAR model is used which consis s o 115 mac oeconomic a iable o he pe iod 1992:01 o 2010:12. Resul s depic ha a e a posi i e shock in in e es a e (discoun a e), M0 and M1 do no show any signi ican esponse, while M2 shows an ins an aneous decline and shows e i al a e 34 mon hs. C edi o public sec o en e p ises and c edi o p i a e sec o bo h decline a e a posi i e shock in mone a y policy bu c edi o p i a e sec o declines mo e han c edi o public sec o en e p ises and M2. An inc ease in in e es a e discou ages p i a e sec- o which leads o slowdown in he economic ac i i ies and c ea es p essu e on p ices o inc ease. In Pakis an, he ad e se ic im o mone a y policy is c edi o p i a e sec o , he e o e policy should be ailo ed o conside he demands o c edi by p i a e sec o . The policies should be made which p o ide he c edi o p i a e sec o a a subsidized a e and he en i onmen o in es men should be p omo ed by he au ho i ies in he coun y. 1. In oduc ion 1. In oduc ion P ima y goals o mone a y policy in Pakis an a e eco- nomic g ow h, con olling in la ion, p omo ing p i- a e in es men , keeping inancial ma ke s s able, and building o eign exchange ese es. Howe e , money and c edi a e he li eblood o an economy, specially he de eloping economies. A ise in in e es a e in- c eases he cos o holding money and c edi , and de- mand o money and c edi declines in he economy and educes he economic ac i i ies. In case o Paki- s an, discoun a e (in e es a e) is he di ec ins u- men o mone a y policy, while M2 is he a ge ed a iable. GDP g ow h a e shows pe sis en decline in he p e ious decade (2000 o 2010) in Pakis an, while in la ion was in wo digi s. Kamin e al. (1998) a gued ha inancial ma ke s especially in eme ging and un- de de eloped economies a e so poo ly de eloped ha he quan i y o c edi and i s p ice becomes an impo - an ins umen o mone a y policy. The c edi chan- nel is an enhancemen mechanism encompassing a se o ac o s ampli ying and ansmi ing he in e es a e e ec , i is no an independen channel (Be nanke & Ge le , 1995). C edi o p i a e sec o is he engine o g ow h in de eloping coun ies bu wi h he igh ening o mon- e a y policy, he c edi o p i a e sec o squeezes. S a e Bank o Pakis an (SBP) has o con ol he double digi in la ion a he cos o c edi o p i a e sec o which E ec i eness o Mone a y Policy on Money and C edi in Pakis an ABSTRACT C32, E52 KEY WORDS: JEL Classi ica ion: Mone a y Policy, Money, C edi , VAR, FAVAR. Uni e si y o Cen al Punjab, Pakis an Co espondence conce ning his a icle should be add essed o: Kashi Muni , Uni e si y o Cen al Punjab, Pakis an. E- mail: kashi muni [email p o ec ed] Kashi Muni P ima y submission: 22.02.2018 | Final accep ance: 03.07.2019 163 Kashi Muni 10.5709/ce.1897-9254.338DOI: CONTEMPORARY ECONOMICS Vol. 14 Issue 2 162-1812020 has pushed he economy in o s ag la ion in he las decade (Amjad e al., 2011). Endogenous changes in he ex e nal inance p emium lead o inc ease he di ec impac o mone a y policy on in e es a e. Mishkin (1995) a gued ha size o ex e nal inance p emium e lec s impe ec ions in he inancial ma - ke s and a ec ed by he agency p oblems. Be nanke and Ge le (1995) a gued ha he e a e wo possible channels h ough which a cen al bank can in luence he ex e nal inance p emium in he c edi ma ke i.e. bank lending channel, and balance shee channel. Acco ding o Agha e al. (2005), bank lending is he mos impo an channel o ansmission in Paki- s an. Mo eo e , Alam and Waheed (2006) ound ha mone a y policy has eal e ec s on he economy in he sho un. Ahmad and Qayyum (2008) a gued ha in es men unc ion indica es ha inc ease in go e nmen cu en spending and in e es a e dis- cou ages p i a e in es men and simila ly mac oeco- nomic ins abili y and unce ain y a ec he p i a e in es men nega i ely. C edi channel is an impo an channel o mone a y ansmission mechanism in Pakis an. To achie e he goals o mone a y policy, a ho - ough unde s anding o he mone a y ansmission mechanism is essen ial. The objec i e o his s udy is o explo e he impac o mone a y policy on money and c edi in Pakis an in a da a ich en i onmen . Money includes all ypes o money used in Pakis an i.e. M0: Rese e Money, M1: Na ow Money, and M2: B oad Money, while c edi includes c edi o public sec o en e p ises and c edi o p i a e sec o o ully unde s and he ansmission mechanism o mon- e a y policy on money and c edi in Pakis an. The main con ibu ion o his s udy is ha i measu es he e ec i eness o mone a y policy on money and c edi in a da a ich en i onmen , while his ype o exe cise has no been unde aken so a o Pakis an. Res o he pape is o ganized in he ollowing ways. Sec ion 2 desc ibed he p e ious li e a u e. Desc ip i e s a is ics on money, p ices and ou pu in Pakis an om 1992 o 2010 is discussed in Sec ion 3. Sec ion 4 deals wi h me hodology and da a. The empi ical esul s on he e ec s o mone a y policy on money and c edi a e analyzed in sec ion 5. Sec ion 6 con ains concluding ema ks and policy ecommen- da ion. 2. 2. Li e a u e Re iewLi e a u e Re iew The basic assump ion o he in e es a e channel is ha inancial ma ke s a e pe ec ly compe i i e and wo k e icien ly. Kamin e al. (1998) a gued ha inancial ma ke s a e so poo ly de eloped especially in eme ging and unde de eloped economies ha he quan i y o c edi and i s p ice became a signi ican ool o mone a y policy. C edi channel is an enhancemen mechanism co e ing a se o ac o s in ansmi ing and ampli ying he in e es a e e ec , i is no an independen channel (Be nanke & Ge le , 1995). Ex e nal inance p emium is he di e ence be ween unds aised in e nally and ex e nally, he e ec s o mone a y policy on in e es a e a e enhanced by endogenous changes in he ex e nal inance p emium. Mishkin (1995) a gued ha size o he ex e nal inance p emium is a ec ed by he agency p oblems and e eals impe ec ions in he inancial ma ke s. Be nanke and Ge le (1995) epo ed ha cen al bank in he c edi ma ke can in luence he ex e nal inance p emium h ough wo possible channels i.e. bank lending channel and balance shee channel. Acco ding o Be nanke and Ge le (1995), he e ec o policy made ac ions on he supply o bank c edi is he ocus o he bank lending channel. Kashyap and S ein (1994) a gued ha bank lending channel o igina ed in he loanable und heo y (Roosa, 1951; Blinde & S igli z, 1983), and he ex ension o he IS-LM model o Be nanke and Blinde (1988). Acco ding o Be nanke (1983), a se e e inancial slump con e ed in o a p olonged dep ession in 1929- 30 due o he cos o in e media ion and inc eases in in o ma ion asymme y ollowed by c edi squeeze on agg ega e demand. Banks play a cen al ole in he economy acco ding o Ge le and Gilch is (1993) no only h ough issuing liabili ies, bu also by means o c ea ing asse s whose nea subs i u e does no exis . The ocus o balance shee channel is on he impac o a change in mone a y policy and e ec s on bo owe ’s balance shee s and income s a emen as well as a iables such as bo owe ’s cash low, ne wo h and liquid asse s, i is also called as “b oad c edi channel” o “ inancial accele a o ”. Fu he mo e, in addi ion o i ms, he balance shee channel can also be applied o he consume spending, whe e he abili y o he bo owe o ob ain loans o consump ion and in es men is di ec ly ela ed o he ex e nal inance www.ce. izja.pl 164 E ec i eness o Mone a y Policy on Money and C edi in Pakis an This wo k is licensed unde a C ea i e Commons A ibu ion 4.0 In e na ional License. p emium (Be nanke & Ge le , 1995). Asymme ic in o ma ion in he c edi ma ke leads o ad e se selec ion and mo al haza d p oblems (Be nanke & Ge le , 1995; Mishkin, 1995). Acco ding o Be nanke and Ge le (1995) and Ku ne and Mosse (2002), he in o ma ion asymme y in he c edi ma ke inc eases p emiums and dec eases in es men which leads o a decline in ou pu . Theo e ical models o Be nanke and Ge le (1989), Be nanke e al. (1999), G eenwald and S igli z (1993), and Kiyo aki and Moo e (1997) desc ibe he ampli ica ion and ansmission mechanism in a dynamic con ex in which mino mone a y dis u bances ha e eal pe sis en e ec s. These heo e ical models explain ha in es men is dependen on he alue o colla e al, a e a mone a y shock i can cause ampli ica ion and pe sis en eal e ec s (Bean e al., 2002). Quan i a i ely balance shee channel is s onge because i leads o di e ences in he i m’s inancial heal h and cos o capi al. VAR is conside ed as a s anda d me hod o measu e he mone a y policy (Sims, 1980; 1992; Be nanke & Blinde , 1992). Low dimension is one o he majo sho coming o VAR model which means ha a iable ha can be included in he VAR model is no oo la ge (Be nanke e al., 2005; Senbe , 2008; Blaes, 2009). Be nanke e al. (2005) discussed ha low dimensional VAR model causes a leas h ee majo p oblems; in o ma ion se co e ed by a iable in VAR/SVAR model is much less han he in o ma ion a ailable o policy make s ha ’s why con amina ed policy shocks p e ail, secondly speci ic a iable (e.g. IPI) is used o depic some heo e ical cons uc s; and hi dly impulse esponse unc ion can only be es ima ed o he a iables which has included in he VAR/ SVAR model. Be nanke e al. (2005) p oposed Fac o Augmen ed Vec o Au o eg essi e (FAVAR) model o sol e he main sho coming o he s anda d VAR. FAVAR model gi es mo e accu a e esul s as compa ed o simple VAR model (Be nanke e al., 2005; Lagana and Moun o d, 2005; Shibamo o, 2007; Senbe , 2008; Soa es, 2011; Kabundi and Ngwenya, 2011; Muni and Qayyum, 2014, Muni , 2018). The e a e ew s udies which measu e he e ec s o mone a y policy in Pakis an, and specially, on money and c edi . Agha e al. (2005) examined he channels o mone a y policy as well as ansmission mechanism o mone a y policy in Pakis an om 1996 o 2004 by using VAR me hod. Resul s showed ha mos e ec i e channel is bank lending channel in Pakis an. Alam and Waheed (2006) analyzed he associa ion among sec o al ou pu and mone a y policy. Qua e ly ime se ies da a o Pakis an had been used om 1973 o 2003 by using VAR model. Resul s showed ha in sho un mone a y policy has eal e ec s on he economy and he sec o s which depend on bank loan a e a ec ed mo e by igh ening o mone a y policy. Ahmad and Qayyum (2008) analyzed he impac o go e nmen spending and mac oeconomic luc ua ion on p i a e ixed in es men in se ices sec o o Pakis an om 1972 o 2005. Resul s depic ed ha in e es a e and inc ease in go e nmen cu en spending lead o dec ease in p i a e in es men , while p i a e in es men espond nega i ely o mac oeconomic ins abili y and ola ili y. Muni and Qayyum (2014) analyzed he associa ion among mone a y policy and mac oeconomic a iables in Pakis an. They ound ha FAVAR model is be e han he s anda d VAR model and explain he e ec s o mone a y policy which a e consis en wi h heo y. Muni (2018) analyzed he impac o mone a y policy on ou pu and p ices in Pakis an a disagg ega e le el. Resul s showed ha ou pu and p ices show s ong he e ogenei y in Pakis an, as well as in he sho un mone a y policy has eal e ec s, while in e es a e in luences he p ices nega i ely wi h he e ogeneous e ec s. The e a e ew s udies on he e ec i eness o he mone a y policy on he money and c edi in Pakis an. The e o e, i is essen ial o analyze he impac o mone a y policy on money and c edi in Pakis an in a da a ich en i onmen . 3. Money, Ou pu and P ices in Pakis an3. Money, Ou pu and P ices in Pakis an In 1990, inancial sec o and mone a y policy egime unde go he conside able changes in Pakis an wi h majo ocus on he libe aliza ion. P io o 1990, S a e Bank o Pakis an (SBP) used o conduc mone a y policy by applying mos ly he di ec ins umen s, while wi h he mo e owa ds he libe alized mone- a y egime he SBP began o use he indi ec ins u- men s. Since hen, a numbe o policy changes had been done o indi ec mone a y managemen (SBP, 2002). Since 1990, a ious s eps ha e been unde - aken o s eng hen and libe alize he banking sec o , 165 Kashi Muni 10.5709/ce.1897-9254.338DOI: CONTEMPORARY ECONOMICS Vol. 14 Issue 2 162-1812020 including p i a iza ion o comme cial banks. Table 1 p o ides basic s a is ics on ac ual and a - ge ed GDP g ow h a e, M2 g ow h a e, and in la- ion om 1991 o 2010. Du ing his phase, ac ual in la ion ouched i s highes le el (20.8 pe cen ) in 2008-09, and emains in wo digi s om 1990-91 o 1996-97 and hen g adually slow down and each i s lowes le el (3.1) in 2002-03 and hen again goes o wo digi s om 2007-08 o 2009-10. The ac ual in la- ion emains highe han he a ge ed in la ion om 1990-91 o 1996-97, while om 1997-98 o 2002-03 he a ge ed in la ion emains highe han he ac ual in la ion and om 2003-04 o 2009-10 in la ion goes unb idled and emains highe han he a ge . This in la ion episode shows some in e es ing ac s abou he e ec i eness o mone a y policy. Ini ially mon- e a y policy emains ine ec i e o con ol in la ion hen i achie es i s goals and in la ion emains un- de con ol and a e 2003-04 i emains ine ec i e o cu b he in la iona y spi al in he economy and in la ion ouches i s highes le el e e (i.e. 20.8%) in 2008-09. Ac ual g ow h a e o GDP also ouched i s high- es le el in his phase (i.e. 9 pe cen ) in 2004-05. The ac ual g ow h a e o GDP emains highe han he a ge ed g ow h a e o GDP in 1990-91 and 1991- 92, while om 1992-93 o 2001-02 he a ge ed g ow h a e o GDP emains highe han he ac ual g ow h a e o GDP, excep in 1995-96 and om 2002-03 o 2004-05 he ac ual g ow h a e o GDP emains highe han he a ge ed, while a e 2004- 05 i emains on a declining end. This episode o GDP g ow h a e shows he e ec i eness o policies in Pakis an, especially he mone a y policy, which emains o ally ine ec i e o achie e i s goals. The ques ion emains unanswe ed ha why g ow h a e has pe sis en ly declined and in la ion ouched new heigh s, why mone a y policy is no e ec i e o ei- he con ol in la ion o o inc ease g ow h a e. Fig- u e 1 is showing c edi o p i a e sec o (billion Rs.), Figu e 1. C edi o p i a e sec o (le el & g ow h) and discoun a e (1992-2010). www.ce. izja.pl 166 E ec i eness o Mone a y Policy on Money and C edi in Pakis an This wo k is licensed unde a C ea i e Commons A ibu ion 4.0 In e na ional License. Yea M2 G ow h Ra e GDP G ow h Ra e In la ion Ac ual Ta ge Ac ual Ta ge Ac ual Ta ge 1990-91 17.4 10.8 5.6 5.5 12.7 13 1991-92 26.2 12.9 7.7 6.7 10.6 7 1992-93 17.8 9.2 2.3 6.2 9.8 9.5 1993-94 18.1 14.03 4.5 7.5 11.3 7 1994-95 17.2 11.15 4.1 6.9 13 7 1995-96 13.8 13 6.6 6.5 10.8 9.5 1996-97 12.2 12.36 1.7 6.3 11.8 8.5 1997-98 14.5 14.24 3.5 6 7.8 9 1998-99 6.2 13.64 4.2 6 5.7 8 1999-00 9.4 9.44 3.9 5 3.6 8 2000-01 9 10.5 2.9 5 4.4 4.5 2001-02 15.4 9.5 3.1 4 3.5 5 2002-03 18 10.8 4.7 4.5 3.1 4 2003-04 19.6 11.1 7.5 5.3 4.6 4 2004-05 19.3 11.3 9 6.6 9.3 5 2005-06 15.2 12.8 5.8 7 7.9 8 2006-07 19 13.5 6.8 7 7.8 6.5 2007-08 15.3 13.7 3.7 7.2 12 6.5 2008-09 9.6 14 1.7 5.5 20.8 11 2009-10 12.5 - 3.8 3.3 11.7 9 Table 1. Ac ual and Ta ge ed G ow h Ra e o Money, Ou pu and P ices (1991-2010) 167 Kashi Muni 10.5709/ce.1897-9254.338DOI: CONTEMPORARY ECONOMICS Vol. 14 Issue 2 162-1812020 i s g ow h a e and discoun a e om 1992 Janua y o 2010 Decembe . An inc ease in in e es a e dis- cou ages c edi and i leads o a decline in in es men in he economy, which slows down he economic ac- i i ies. Discoun a e shows an ini ial inc ease up o 1998 and hen ollows a declining end ill 2005 and hen i shows a g adual inc ease a e ha . C edi o p i a e sec o shows a majo decline in 2005 wi h an inc ease in discoun a e and hen g ow h a e o c edi o p i a e sec o mainly emains nega i e which is showing he squeeze o p i a e sec o and ha is he pe iod when g ow h a e o GDP also s a alling and p ices s a inc easing. F om he abo e able and igu e, i is clea ha c edi o p i a e sec o is di ec ly ela ed o g ow h a e o GDP. SBP is ollowing igh mone a y policy since 2005 o cu b he in la iona y spi al, bu i dis- cou ages he c edi o p i a e sec o , which slows down he economic ac i i ies in he economy and pu s p essu e on p ices. Thus, p ices go highe un- b idled e en a e he igh ening o mone a y policy in Pakis an. 4. Me hodology and Da a4. Me hodology and Da a Le , ec o Y (M×1) de e mines he dynamic o economy by assuming M small numbe o obse - able economic a iables. Howe e , u he eco- nomic da a ha is no included in he model may be ele an o he dynamics o Y . Assume a ec o X (N×1) consis s o a la ge numbe o s a iona y a iables and Y is a subse o X . Le K is a small numbe o unobse ed ac o s F (K×1), ob ained by comp essing X . Following ansi ion equa ion can be ep esen ed by join dynamics o F and Y as: (1) Whe e, is a ma ix o con o mable lag polynomial o ini e o de p in he lag ope a o , is a ((K+M)×(K+M)) ma ix o coe icien s and U is ((K+M)×1) ec o o e o e m wi h mean ze o and co a iance ma ix Σ U . Be nanke e al. (2005) in e p e ed he unobse ed ac o s as di use concep s such as economic ac i i y o c e di condi ions ha a e ep esen ed by a la ge numbe o economic se- ies X and e med equa ion (1) as FAVAR model. Due o unobse able ac o s F , equa ion (1) canno be es i- ma ed di ec ly. Dynamics o he economy a e explained by obse able a iable Y and common o ces such as ac o s F . Following obse a ion equa ion depic s he associa ion among obse ed a iables Y , unobse able ac o s F , and X as: (2) Whe e, K + M << N, F is a K×1 ec o con aining K unobse ed ac o s, Λ is a N×K ma ix o ac o load- ings, Λ y is a N×M ma ix o coe icien s and E is a N×1 ec o o e o e ms wi h mean ze o and co a iance ma ix Σ E which a e weakly co ela ed. Equa ion (2) depic s ha bo h Y and F ep esen o ces ha d i e he common dynamics o X . Equa ion (1) can be es ima ed as a s anda d VAR i F is obse ed, bu his is no possible because ac o s F a e unobse able (Hamil on, 1994; Lu kepohl, 2005). Two s ep p incipal componen p ocedu e o Be nanke e al. (2005) is ollowed o es ima e he FAVAR model equa ion (1) and (2). This me hod p o ides a non- pa ame ic way o unco e ing he space spanned by he common componen s C = (F , Y ) in equa ion (2). An- o he a ibu e o p incipal componen s is ha i deals wi h i egula i ies o da a, ha is, X migh include bo h qua e ly and mon hly se ies as well as se ies ha ha e discon inued o ha e missing alues (Be nanke and Boi in, 2003). Fi s K+M p incipal componen s o X a e used o es ima e he common componen s C in he i s s ep, howe e , Y is no conside ed in his s ep. F is acqui ed as he pa o space which is no co e ed by Y bu co - e ed by C . O dina y leas squa es (OLS) is used o es- ima e FAVAR equa ion (1) by eplacing F wi h F in he second s ep. I allows he idiosync a ic e o e m E o some deg ee o c oss co ela ion by imposing he dis ibu ional assump ion (S ock and Wa son, 2002). I is essen ial o es ima e he s anda d e o s using boo - s ap p ocedu e o ob ain accu a e con idence in e als on he impulse esponse because ac o s a e unobse - able and we a e using es ima ed ac o s. Kilian (1998) boo s ap p ocedu e is used o accoun o ambigui y in he ac o s es ima ion. This s udy uses discoun a e as he mone a y policy in s umen . Discoun a e is he o icially announced ins umen o mone a y policy in Pakis an. E en www.ce. izja.pl 168 E ec i eness o Mone a y Policy on Money and C edi in Pakis an This wo k is licensed unde a C ea i e Commons A ibu ion 4.0 In e na ional License. hough, he e is no much a ia ion in i , bu a mon h- ly equency, i has su icien a ia ion o cap u e he dynamics o he mone a y policy in Pakis an. The e- o e, inno a ion in he discoun a e can be in e p e ed as mone a y policy shocks. Mone a y policy shocks a e iden i ied by ecu si e p ocedu e, all he ac o s en e ing equa ion (1) espond wi h a lag o change in he mone a y policy ins umen , which is o de ed las in he FAVAR model. An in e media e s ep is equi ed o ob ain he inal es ima ed ac o s F , unde he ecu si e supposi ion abou [F , R ] which will en e he FAVAR equa ion. Final ac o F is ob ained by emo ing he dependen- cy o C(F , R ) on R and he e o e, he p ocedu e o Be nanke e al. (2005) is ollowed, ha is, ma ix X is di ided in o slow and as mo ing a iables. C*(F ) is measu ed as an es ima e o all common componen s o he han R by ex ac ing p incipal componen om slow mo ing a iables which a e e ec ed a e lags by R . The es ima ed common componen s C(F , R ) a e eg essed on he obse ed a iables R and he es ima - ed slow mo ing ac o s C*(F ) as: (3) F is es ima ed as (4) The VAR in F and R is es ima ed as: (5) Recu si e s uc u e is assumed o analyze he mac- oeconomic shocks whe e he ac o s in Equa ion 5 espond wi h a lag (i.e. do no espond wi hin he same pe iod – a mon h he e) o an unan icipa ed shock in mone a y policy. Cholesky decomposi ion is used o he ecu si e assump ion (Bagliano & Fa e o, 1998; Ch is iano e al., 1999). This s udy ollows Chokesky decomposi ion and discoun a e is o de ed las and and ea i s inno a ions as he policy shocks. Bai and Ng (2002) me hod is used o de e mine he numbe o ac o s in many s udies apa om o he me hods in he li e a u e, howe e , none o hese me hods conside ha ac o will be included in he VAR model. The e o e, we ha e es ima ed he FAVAR model wi h i e ac o s (K=5) and he esul s a e obus o he use o mo e han i e ac o s (Muni & Qayyum, 2014). Muni and Qayyum (2014) a gued ha heo y is consis en wi h FAVAR model wi h i e ac o s as compa ed o o he speci ica ions o FAVAR model in Pakis an. Likelihood a io (LR) es is used o lag selec ion in his s udy. Howe e , his s udy uses mon hly da a, he e o e, o include wel e lags is ap- p op ia e o encoun e he p oblem o au oco ela ion. Dynamic e ec s o s uc u al shocks on mac oeco- nomic a iable a e de e mined by impulse esponse unc ion. The impulse esponse o he es ima ed ac- o s and he a iables obse ed included in Y can be compu ed om Equa ion 5 as: (6) whe e, By using he es ima o o X in equa ion (2) (7) The impulse esponse unc ion o each a iable included in X can be compu ed by using he equa ion (6) and (7) as: (8) Using he equa ion (6), he impulse esponse unc ion o each a iable included in X can be compu ed as: (9) This s udy uses 115 mac oeconomic a iables o 169 Kashi Muni 10.5709/ce.1897-9254.338DOI: CONTEMPORARY ECONOMICS Vol. 14 Issue 2 162-1812020 Pakis an om Janua y 1992 o Decembe 2010 a mon hly equency. Majo sou ces o da a include Pakis an Bu eau o S a is ics, S a e Bank o Pakis an, and In e na ional Financial S a is ics (IFS). The da a has been p ocessed in he ollowing way: Fi s ly, all he se ies a e seasonally adjus ed. Secondly, i is assumed ha all he a iables included in X a e s a iona y, he e o e all he a iables a e subjec o uni oo es and non-s a iona y se ies ha e been made s a iona y by aking hei i s o second di e ence. Appendix p o ides he desc ip ion o he se ies and he ans o - ma ion applied o he se ies. 5. Resul s5. Resul s Impulse esponse unc ion shows a 50bp posi i e shock in mone a y policy (i.e. discoun a e) and i s impac on money and c edi wi h 90 pe cen con i- dence in e al based on Kilian (1998). Unde money, he ollowing o ms o money a e conside ed: M0: Rese e Money, M1: Na ow Money, and M2: B oad Money, while in c edi he ollowing a iables a e con- side ed: C edi o Public Sec o En e p ises (CPSE), and C edi o P i a e Sec o (CPS). Figu e 2 shows ha a e a posi i e shock in in e es a e M0: Rese e Money does no show any signi i- can esponse. M1: Na ow Money does no show any signi ican esponse a e a posi i e shock in in e es a e. Howe e , M2: B oad Money shows declining end a e a posi i e shock in mone a y policy, each i s minimum in 26 mon hs and s a e i ing a e 34 mon hs. Figu e 3 shows ha a e a posi i e shock in in e es a e C edi o Public Sec o En e p ises shows a declining end a e he shock, eaches i s minimum in 24 mon hs and shows a e i al a e 38 mon hs. C edi o P i a e Sec o shows a declining end a e he igh ening o mone a y policy, each i s minimum in 28 mon hs and shows e i al a e 36 mon hs. How- e e , he magni ude o decline o C edi o P i a e Sec- o is almos double han he magni ude o decline in C edi o Public Sec o En e p ises (Figu e 3). M0 and M1 a e no a ec ed by mone a y policy, while M2 is a good in e media e a ge o mone a y policy in Pakis an. An inc ease o dec ease in in e - es a e e ec M2 in e sely, hence mone a y policy is achie ing i s goals. The ques ion emains i mon- e a y policy is achie ing i s in e media e a ge hen wha ’s w ong wi h i s inal a ge ed a iables i.e. s able g ow h and p ice s abili y and why wi h he igh en- ing o mone a y policy in la ion is ou o con ol and economy has mo ed in o he s a e o s ag la ion. One eason could be ha c edi o p i a e sec o is a ec ed mo e han M2 a e he igh ening o mone a y policy. The p i a e sec o is squeezing wi h he inc ease in in- e es a e, he e o e economic ac i i ies a e declining and he demand is no mee ing he supply. So, all he p essu e is bo ne by he p ices o mee he demand and g ow h is declining pe sis en ly. The o he eason could be ha iscal sec o is no esponding o he igh ening o mone a y policy, iscal policy and mon- e a y policy a e no ha monizing and his scena io is pushing he economy in o he s a e o s ag la ion. C edi channel is an impo an channel o mone a y policy ansmission mechanism in Pakis an (Agha e al., 2005; Alam & Waheed, 2006). Mone a y au ho i- ies should conside he impo ance o p i a e sec o in he economy and he policy should be made ha does no a ec he c edi needs o he p i a e sec o . I p i a e sec o did no lou ish in he economy, hen he economy will no b eak ou o he s a e o s ag la- ion (Amjad e al., 2011). Based on he abo e esul s, we can say ha he e - ec s o mone a y policy a e he e ogeneous on money and c edi . M0 and M1 do no show any signi ican e- sponse wi h a posi i e shock in mone a y policy, while M2 and c edi o public sec o en e p ises dec eases wi h a posi i e shock in discoun a e bu s a e i - ing la e . C edi o p i a e sec o is he wo s ic im o mone a y policy in Pakis an because i dec eases mo e han M2 a e an inc ease in in e es a e. Mone a y policy in e sely e ec s c edi o p i a e sec o , which is he engine o g ow h in de eloping coun ies. An inc ease in discoun a e encou ages p i a e sec o o educe in es men s, which e en ually causes p oduc- ion and employmen o decline. Amjad e al. (2011) also a gued ha one o he majo eason o s ag la- ion in Pakis an is igh mone a y policy esul ed in squeeze o p i a e sec o . 5.1. Va iance Decomposi ion o Money and C edi Table 2 shows he a iance decomposi ion o M0, M1, M2, c edi o public sec o en e p ises and c edi o p i a e sec o . Columns wo o ou o he able epo he con ibu ion o a shock in mone a y policy o he a iance o he o ecas e o o each www.ce. izja.pl 176 E ec i eness o Mone a y Policy on Money and C edi in Pakis an This wo k is licensed unde a C ea i e Commons A ibu ion 4.0 In e na ional License. S.No Va iable Ou pu T ans o ma ion Fas /Slow De ail o Va iable 37 PNGS 4 SLOW P oduc ion o Na u al Gas (SA) 38 PELC 4 SLOW P oduc ion o Elec ici y (SA) S.No Va iable P ices T ans o ma ion Fas /Slow De ail o Va iable 39 CPIG 4 SLOW CPI: Gene al (SA) (Base:2000-2001) 40 CPIFBT 4 SLOW CPI: Food Be e ages and Tobacco (SA) (Base:2000-2001) 41 CPIAPF 4 SLOW CPI: Appa el ex ile and Foo wea (SA) (Base:2000-2001) 42 CPIHR 2 SLOW CPI: House Ren (SA) (Base:2000-2001) 43 CPIFL 4 SLOW CPI: Fuel and Ligh ing (SA) (Base:2000-2001) 44 CPIHFFE 4 SLOW CPI: Household Fu ni u e and Equipmen (SA) (Base:2000-2001) 45 CPITC 2 SLOW CPI: T anspo a ion and Communica ion (SA) (Base:2000-2001) 46 CPIRE 4 SLOW CPI: Rec ea ion and En e ainmen (SA) (Base:2000-2001) 47 CPICLPA 4 SLOW CPI: Cleaning Laund y and Pe sonal Appea ance (SA) (Base:2000-2001) 48 WPIG 4 SLOW WPI: Gene al (SA) (Base:2000-2001) 49 WPIF 4 SLOW WPI: Food (SA) (Base:2000-2001) 50 WPIRM 4 SLOW WPI: Raw Ma e ial (SA) (Base:2000-2001) Table 3. Desc ip ion o Da a (Con inued) 177 Kashi Muni 10.5709/ce.1897-9254.338DOI: CONTEMPORARY ECONOMICS Vol. 14 Issue 2 162-1812020 S.No Va iable P ices T ans o ma ion Fas /Slow De ail o Va iable 51 WPIFLL 2 SLOW WPI: Fuel, Ligh ing and Lub ican s (SA) (Base:2000-2001) 52 WPIM 4 SLOW WPI: Manu ac u e s (SA) (Base:2000-2001) 53 WPIBM 4 SLOW WPI: Building Ma e ials (SA) (Base:2000-2001) S.No Capi al Ma ke T ans o ma ion Fas /Slow De ail o Va iable 54 GIG 4 FAST SBGI: Gene al (SA) (Base:2000-2001) 55 GICOT 4 FAST SBGI: Co on and O he Tex iles (SA) (Base:2000-2001) 56 GITS 4 FAST SBGI: Tex ile Spinning (SA) (Base:2000-2001) 57 GITWC 1 FAST SBGI: Tex ile Wea ing and Composi e (SA) (Base:2000-2001) 58 GIOT 4 FAST SBGI: O he ex iles (SA) (Base:2000-2001) 59 GICOP 4 FAST SBGI: Chemical and o he Pha maceu icals(SA) (Base:2000-2001) 60 GIE 1 FAST SBGI: Enginee ing (SA) (Base:2000-2001) 61 GIAA 4 FAST SBGI: Au o and Allied (SA) (Base:2000-2001) 62 GICEG 4 FAST SBGI: Cables and Elec ic Goods (SA) (Base:2000-2001) 63 GISA 4 FAST SBGI: Suga and Allied(SA) (Base:2000-2001) Table 3. Desc ip ion o Da a (Con inued) www.ce. izja.pl 178 E ec i eness o Mone a y Policy on Money and C edi in Pakis an This wo k is licensed unde a C ea i e Commons A ibu ion 4.0 In e na ional License. S.No Capi al Ma ke T ans o ma ion Fas /Slow De ail o Va iable 64 GIPB 4 FAST SBGI: Pape and Boa d (SA) (Base:2000-2001) 65 GIC 4 FAST SBGI: Cemen (SA) (Base:2000-2001) 66 GIFE 4 FAST SBGI: Fuel and Ene gy (SA) (Base:2000-2001) 67 GITC 1 FAST SBGI: T anspo and Communica ion (SA) (Base:2000-2001) 68 GIBOFI 4 FAST SBGI: Banks and O he Financial Ins i u ions(SA) (Base:2000-2001) 69 GIBIC 4 FAST SBGI: Banks and In es men Companies (SA) (Base:2000-2001) 70 GIMD 1 FAST SBGI: Moda abas (SA) (Base:2000-2001) 71 GILC 4 FAST SBGI: Leasing Companies (SA) (Base:2000-2001) 72 GII 1 FAST SBGI: Insu ance (SA) (Base:2000-2001) 73 GIMQ 4 FAST SBGI: Miscellaneous (SA) (Base:2000-2001) 74 GIJ 4 FAST SBGI: Ju e (SA) (Base:2000-2001) 75 GIFA 4 FAST SBGI: Food and Allied (SA) (Base:2000-2001) 76 GIGC 4 FAST SBGI: Glass and Ce amics (SA) (Base:2000-2001) 77 GIVA 4 FAST SBGI: Vanaspa i and Allied (SA) (Base:2000-2001) Table 3. Desc ip ion o Da a (Con inued) 179 Kashi Muni 10.5709/ce.1897-9254.338DOI: CONTEMPORARY ECONOMICS Vol. 14 Issue 2 162-1812020 S.No Capi al Ma ke T ans o ma ion Fas /Slow De ail o Va iable 78 GIO 4 FAST SBGI: O he s (SA) (Base:2000-2001) 79 SIG 4 FAST SBSI: Gene al (SA) (Base:2000-2001) 80 SICOT 4FAST SBSI: Co on and O he Tex iles (SA) (Base:2000-2001) 81 SICOP 4FAST SBSI: Chemical and o he Pha maceu icals (SA) (Base:2000-2001) 82 SIE 4 FAST SSBSI: Enginee ing (SA) (Base:2000-2001) 83 SIAA 4 FAST SBSI: Au o and Allied (SA) (Base:2000-2001) 84 SICEG 1 FAST SBSI: Cables and Elec ic Goods (SA) (Base:2000-2001) 85 SISA 4 FAST SBSI: Suga and Allied (SA) (Base:2000-2001) 86 SIPB 4 FAST SBSI: Pape and Boa d (SA) (Base:2000-2001) 87 SIC 1 FAST SBSI: Cemen (SA) (Base:2000-2001) 88 SIFE 4 FAST SBSI: Fuel and Ene gy (SA) (Base:2000-2001) 89 SITC 4 FAST SBSI: T anspo and Communica ion (SA) (Base:2000-2001) 90 SIBOFI 4 FAST SBSI: Banks and O he Financial Ins i u ions(SA) (Base:2000-2001) 91 SIMQ 4 FAST SBSI: Miscellaneous (SA) (Base:2000-2001) Table 3. Desc ip ion o Da a (Con inued) www.ce. izja.pl 180 E ec i eness o Mone a y Policy on Money and C edi in Pakis an This wo k is licensed unde a C ea i e Commons A ibu ion 4.0 In e na ional License. S.No In e es Ra e T ans o ma ion Fas /Slow De ail o Va iable 92 DISR 1 FAST Discoun a e (NSA) 93 CMR 2 FAST Call money Ra e (NSA) 94 GTB6m 2 FAST 6-mon h Go . T easu y Bill Ra e (NSA) 95 GBY 2 FAST Go . Bond Yield (NSA) S.No Money & C edi T ans o ma ion Fas /Slow De ail o Va iable 96 M0 4 FAST M0 : Rese e Money (SA) 97 M1 4 FAST M1 : Na ow Money (SA) 98 M2 4 FAST M2 : B oad Money (SA) 99 CPSE 4 FAST C edi o Public Sec o En e p ises (SA) 100 CPS 4 FAST C edi o P i a e Sec o (SA) S.No Ex e nal Sec o T ans o ma ion Fas /Slow De ail o Va iable 101 EXRUSA 4 FAST Exchange Ra e USA, Rs/$ (NSA) 102 NEER 4 FAST Nominal E ec i e Exchange Ra e (NSA) 103 REER 1 FAST Real E ec i e Exchange Ra e (NSA) 104 RSDRH 2 FAST (Base:2005) 105 RFEX 4 FAST Rese e: SDR Holding (SA) 106 RGLD 4 FAST Rese e: Fo eign Exchange (SA) 107 ITI 4 SLOW Rese e: Gold (SA) 108 ICNM 4 SLOW To al Impo s (SA) 109 IRMCNG 2 SLOW Impo s o Raw ma e ial Consume Goods (SA) 110 IRMCPG 4 SLOW Impo s o Raw ma e ial Capi al Goods (SA) Table 3. Desc ip ion o Da a (Con inued) 181 Kashi Muni 10.5709/ce.1897-9254.338DOI: CONTEMPORARY ECONOMICS Vol. 14 Issue 2 162-1812020 S.No Ex e nal Sec o T ans o ma ion Fas /Slow De ail o Va iable 111 ICPG 4 SLOW Impo s o Capi al Goods (SA) 112 ETE 2 SLOW To al Expo s (SA) 113 EPRC 2SLOW Expo o P ima y Commodi ies (SA) 114 ESM 4SLOW Expo o Semi Manu ac u es (SA) 115 EMG 2SLOW Expo o Manu ac u ed Goods (SA) Table 3. Desc ip ion o Da a (Con inued)