Abstract
In economic literature, the idea that inflation increases inflation uncertainty, starting by Okun (1971) and later resuming as Friedman — Ball Hypothesis, has created new discussions about the degree and the direction of the relationship between both variables. The aim of this study is to investigate the causal relationship between inflation and inflation uncertainty and compare the causal relationship for high and low inflation periods in Turkish Economy. The data used in the study are monthly and cover the period of 1988-2010. The whole period has been divided into two sub-periods as 1988-2004 and 2004-2010 to compare high and low inflation periods. In this study, in order to get data on the inflation uncertainty, the optimal ARIMA model was estimated by using Kalman Filter analysis technique. The relationship between inflation and inflation uncertainty was finally tested by using Granger Causality analysis for two periods.
Highlights
Inflation uncertainty affects decisions of economic units and creates negative impacts on economic activities during current and future periods
The purpose of this study is to investigate the causal relationship between inflation and inflation uncertainty and compare the causal relationship for high and low inflation periods in Turkish Economy
Is lower inflation period, there is no causal relationship from inflation to inflation uncertainty
Summary
Inflation uncertainty affects decisions of economic units and creates negative impacts on economic activities during current and future periods. One of the most important effects of inflation uncertainty is that it affects finance and capital markets negatively by increasing long-term interest rates. Debtors prefer short-term borrowing since they get worried for real debt values to increase along with unexpected deflation Another effect of uncertainty is that firms tend to shortterm borrowing due to the fact that long-term borrowing will be under risk. During the high uncertainty periods, decisions of economic individuals might not be optimal because they cannot distinguish price changes in their markets or of goods and services which they are interested in general price changes Inflation uncertainty with these negative effects causes production to decrease and unemployment to increase by damaging the efficiency of price system itself (Lucas, 1973). In theoretical and empirical literature, the idea that inflation increases inflation uncertainty, starting by Okun (1971) and resuming as Friedman — Ball Hypothesis, has created new discussions about the degree and the direction of the relationship between both variables
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