Multivariate Dynamic Co-integration and Causality Analysis between Inflation and its Determinants
AbstractThis paper investigates the impacts of money supply, government expenditure, velocity, industry value addition and economic growth on inflation of Bangladesh using time series data from 1978-2014. The ADF test results suggest that the variables are of I(1). It is found that there exist five co-integration equations. The outcome of the Granger Causality test suggests the short-run unidirectional causality running from industrial value addition to money supply, from inflation, money supply, velocity, industrial value addition and economic growth to government spending. Bidirectional causality has been found between economic growth and industrial value addition. Finally, short-run and long-run effects of money supply, government spending, velocity, industry value addition and economic growth on inflation are estimated. It is found that the speed of adjustment for short-run to approach to the long-run equilibrium level is significant at any significance level. It has been found that it will take about 1.25 years for a complete convergence process to approach its equilibrium. Therefore, in case of any shock to the inflation equation, the speed of adjustment is significantly faster. It has also been found that the long-run effects of money supply and velocity have positive significant effects while the economic growth has significant negative effect on inflation in Bangladesh economy. It has been found that the long-run effects of money supply and velocity are more than short-run effects meaning that over the time more money supply and velocity increase the more and more inflation in Bangladesh but economic growth decreases the inflation.
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