Macroeconomic Dynamics in Pakistan: A VAR Model Analysis of GDP, Inflation, Imports, Exports, and Interest Rates

Abstract

This research explores dynamic relationships between Pakistan's key macroeconomic variables - GDP, inflation, interest rates, imports, and exports - using a Vector Autoregression (VAR) approach to fill significant gaps in understanding Pakistan's distinct economic dynamics. With high-frequency time-series data (1990-2024) from reliable sources such as the State Bank of Pakistan and World Development Indicators, we apply a robust econometric strategy involving Augmented Dickey-Fuller tests for stationarity, Granger causality, Impulse Response Functions, and Forecast Error Variance Decomposition. The findings are three: first, monetary policy indicators (interest rates and inflation) are found to be leading determinants of economic variability, with interest rates showing strong Granger-causal effects on GDP (p<0.05); second, trade indicators show asymmetric reaction to domestic and foreign shocks, making large contributions to medium-term variability in the economy; third, variance decomposition shows monetary variables have more than 60% of forecast error in GDP for horizons greater than five years. These findings present new empirical evidence favoring integrated policy approaches that simultaneously manage monetary stability and trade competitiveness, providing practical implications for emerging economies with the same structural issues. The methodological strength and policy-oriented implications make the study important to the applied macroeconomics literature, especially for developing countries dealing with sophisticated stabilization-reform trade-offs.