Low Inflation Rates Research Articles

Income Convergence in the East African Community

The East African Community partner states aim to establish a Monetary Union by 2023. As advanced by the optimum currency area theory, countries seeking to enter into a monetary union should be as similar as possible to reduce their susceptibility to adverse economic shocks. The East African Monetary Union Protocol signed in 2013 stresses the need for convergence of macroeconomic variables as important preconditions before forming the monetary union. The benchmark macroeconomic indicators include a headline inflation rate of eight per cent, a fiscal deficit of three per cent of the country’s gross domestic product on net present value terms, a debt to gross domestic product ratio of 50 per cent and maintenance of a 4.5 months’ reserves of import cover. Article 82 (1) of the East African Community Treaty also compels partner states to work towards harmonizing their macro-economic policies especially those related to interest and exchange rates, fiscal and monetary policies. However, as argued by many scholars, nominal convergence alone cannot indicate how well countries will perform once they are in a monetary union. The criteria also fail to distinguish the countries that constitute an optimal currency area. An autoregressive distributed model was applied in regression analysis. Empirical findings supported the presence of conditional convergence and that per capita gross domestic product growth was positively influenced by physical capital and nominal exchange rate depreciation and negatively affected by human capital and inflation rate. From the foregoing, it can be concluded that reduction of income differences among the partner states can be fostered through increased investments in physical capital, maintenance of a competitive exchange rate regime and a low inflation rate regime. Keywords: Unconditional convergence, conditional convergence, Solow model, optimum currency areas and autoregressive redistributed lag model

FDI and FPI Determinants in Developing African Countries

We examine drivers of foreign direct investment (FDI) and foreign portfolio investment (FPI) in nine selected African economies, during the period 1980 to 2014, with particular interest in the role of financial market development. We set out to explore the drivers of FDI and FPI in selected African countries, respectively. We employ the dynamic GMM methodology to assess the motivators of inward foreign flows. The results show that FDI inflows are generally dependent on past inflows of FDI, low inflation, infrastructural development, and real GDP growth rate; while stock market capitalisation, commercial bank assets gauged against commercial and central bank assets as well as domestic credit to the private sector by banks intermediate for financial market development. On the other hand, we find that FPI inflows are attracted to foreign destinations due to previous FPI inflows, the real exchange rate, inflation rates and the presence of developed infrastructure. Further, developed financial markets, as proxied by stock market capitalisation, were found to significantly and positively influence inward FPI flows, while a closed financial account and low interest rate discouraged FPI. The significant contribution of this paper is that its findings empirically confirm FDI and FPI theory, as postulated in Dunning’s eclectic paradigm insofar as the main “location” variables that enhance host country attractiveness are concerned, specifically in the African context. In light of these findings, we recommend that policy makers strengthen their domestic markets, complemented by appropriate regulations and institutions to attract foreign investment flows, while reducing their dependency on international aid and loans.

FDI and FPI Determinants in Developing African Countries

We examine drivers of foreign direct investment (FDI) and foreign portfolio investment (FPI) in nine selected African economies, during the period 1980 to 2014, with particular interest in the role of financial market development. We set out to explore the drivers of FDI and FPI in selected African countries, respectively. We employ the dynamic GMM methodology to assess the motivators of inward foreign flows. The results show that FDI inflows are generally dependent on past inflows of FDI, low inflation, infrastructural development, and real GDP growth rate; while stock market capitalisation, commercial bank assets gauged against commercial and central bank assets as well as domestic credit to the private sector by banks intermediate for financial market development. On the other hand, we find that FPI inflows are attracted to foreign destinations due to previous FPI inflows, the real exchange rate, inflation rates and the presence of developed infrastructure. Further, developed financial markets, as proxied by stock market capitalisation, were found to significantly and positively influence inward FPI flows, while a closed financial account and low interest rate discouraged FPI. The significant contribution of this paper is that its findings empirically confirm FDI and FPI theory, as postulated in Dunning’s eclectic paradigm insofar as the main “location” variables that enhance host country attractiveness are concerned, specifically in the African context. In light of these findings, we recommend that policy makers strengthen their domestic markets, complemented by appropriate regulations and institutions to attract foreign investment flows, while reducing their dependency on international aid and loans.

Modelling Volatility of the US Dollar Against the Kenyan Shilling Exchange Rate and Investigating the Effect of Kenyan Inflation Rates on this Volatility in Kenya

Exchange rates and monetary policies are key tools in economic management and in the stabilization and adjustment process in developing countries, where low inflation rates and international competitiveness have become major policy targets. The study modelled the volatility of the US dollar against the Kenyan shilling (USD/KES) exchange rate and investigated the effect of inflation rates in Kenya on this volatility for the years 2005 to 2017. The data for this research was obtained from secondary sources: Central Bank of Kenya and the Kenya National Bureau of Statistics. The results indicated that the USD/KES exchange rate exhibited persistent signs of volatility. A number of heteroscedasticity models were then tested and the GARCH family (ARMA (1, 3)/EGARCH (1, 2)) model was concluded to be the best model to fit the volatility of the USD/KES exchange rate. The study tested the forecasting power of this model by comparing in-sample and out of sample observations and comprehensive conclusions were made that the model was the best fit to forecast the volatility of the USD/KES exchange rate. The volatility figures of the USD/KES exchange rate were extracted from the EGARCH model and further tests were conducted to investigate the effect of Kenyan inflation rates on them. Weighted Least Squares regression was conducted on the Kenyan inflation rates and volatility of the USD/KES exchange rate and comprehensive conclusions were made that there existed a significant relationship between the Kenyan inflation rates and the volatility of the USD/KES.

Monetary Policy, De-Anchoring of Inflation Expectations, and the 'New Normal'

Low inflation rates in the Euro Area raise the question of whether inflation is still credibly anchored to the Euro-system’s medium term target of below, but close to 2%. The purpose of this paper is twofold. On the one hand, we investigate why agents’ inflation expectations that inflation will remain in line with the target begin to falter. On the other hand, we want to study how the de-anchoring of expectations interacts with monetary policy determining whether the central bank is still able to achieve its target - and hence re-anchor inflation expectations - or whether the system drifts away towards the liquidity trap. Two are our main findings. The first is that large unfavourable shocks might lead agents to question their trust in resilience of the system, and to revise their expectations. If inflation expectations fall faster than the policy rate, and the zero lower bound is reached without correcting the interest-rate gap, the system converges to a new steady state - the “new normal” - with permanent negative gaps. The second is that a more aggressive monetary policy is ineffective both at the ZLB and above the ZLB, when the shock is large shocks and/or when the reactivity of inflation expectations is high enough. This last finding seems to support the necessity, in those conditions, to abandon conventional monetary policy and to switch to an aggressive reflationary policy that prevents the entrenchment of deflationary expectations.

Actual Costs of Uneconomic Growth of Marine Fisheries in China’s Pearl River Delta

As traditional economic theory is mainly based on neoliberal principles, whose failure is to ignore the ecological component in value assessment methods, it assumes that continuous economic growth exists with high level of employment and low inflation rate. Many ecological economists have criticized the blind pursuit of short-term economic interests in the last 30 years for leading to loss of natural capital and ecosystem services. This study demonstrates the concept of “uneconomic growth” by measuring the actual costs of fishing activities and fishery policy implemented in China’s Pearl River Estuary from economic, social, and ecological aspects. The results show that the costs of economic growth exceed the benefits of additional growth because of the limits of the ecosystem. The ecological system of the Pearl River Estuary has been degraded significantly by overfishing and is regarded to be under non-optimal conditions regarding both ecological and socio-economic objectives.

Identifying Fiscal Inflation in India - Some Recent Evidence from an Asymmetric Approach

Maintaining a stable price level featured by low inflation rate has remained a prioritized objective of macroeconomic management of all the economies including India. Among many other determinants, this study examines the issue of inflation from the fiscal point of view. A unidirectional causality from fiscal deficits to inflation is reported in time domain causality framework, however only the long-run causality in the same direction is found in frequency domain design, validating the dynamic nature of the association between two variables. Under an asymmetric econometric framework, the existence of a long-run association is documented between deficits and inflation indicating the existence of fiscal dominance in India and the applicability of the fiscal theory of price level. The expansionary fiscal stance is found to be more inflationary and the decreases in fiscal deficits are found to affect the inflation with a lower magnitude. The possible asymmetry of fiscal deficits on inflation can be attributed to the existence of liquidity constraints and the downward price stickiness. The other control variables are found to report the theoretically plausible results. The study recommends the fiscal consolidation, monetary policy credibility, output growth and import substitution measures for a growth conducive and welfare-oriented price level in the economy.

Comment on “Why Has Japan Failed to Escape from Deflation?”

Understanding the price dynamics is always at the heart of studies on monetary policy. If prices are flexible, there is no need for monetary policy as a stabilization tool. If not, central banks should offer some nominal anchor so that welfare costs stemming from relative price dispersion should be reduced. Watanabe and Watanabe (2018) conduct careful analyses using micro data. Two main conclusions are: a simple menu cost model can explain the price developments in Japan well in that “there is a negative correlation between trend inflation and the share of items whose rate of price change is near zero,”1 and the “inflation norm” is too low in Japan. Watanabe and Watanabe provide comprehensive empirical facts to support these two conclusions. It also merits attention that the observed empirical regularities are replicated with simulations using a simple menu cost model. Structural interpretations of the empirical findings are offered albeit indirectly via model simulation. Not only do Watanabe and Watanabe offer convincing facts in understanding the Japanese economy from the view point of positive analysis, but also the findings in their paper have an immediate policy implication: It is not easy for Japan to attain an inflation target of 2%. Papers with important facts and significant policy implications are always good and highly appreciated. Watanabe and Watanabe's paper is one of these good papers. Thus, I do not have any particular comments to oppose their main conclusions. Let me comment on what we do not know from the data, and the policy implication. We do not know the markups in individual goods. In their menu cost model, nominal rigidities are favored as the way to explain price developments in Japan. This conclusion is mainly supported by the analyses in Sections 2.2 and 2.3 about the flattening of the reduced-form Phillips curve. However, we still cannot conclude that this less clearer relationship between inflation and unemployment rates is as a result of higher nominal rigidities possibly due to menu costs, since we cannot observe marginal costs. The relationship between inflation and unemployment rates can be just a reduced-form one. In the language of the New Keynesian model, unemployment or the output gap must be structurally related to markups. Otherwise, a causal argument is not possible. I am not fully sure whether such a relationship is stemming from menu costs or higher real rigidities around zero inflation rates. Real rigidities arise when marginal costs are sticky or marginal revenues are flexible. The former can be caused by habit formation in consumption, endogenous capacity utilization or investment growth adjustment costs as included in the canonical dynamic stochastic general equilibrium (DSGE) model a la Christiano et al. (2005), while the latter can emerge with a kinked demand curve as examined in the first-generation New Keynesian Model a la Kimball (1995). In order to identify the causes of the less clearer relationship between inflation and unemployment rates, it would be ideal if we can use the marginal cost data as examined in Eichenbaum et al. (2011). The inability to observe markups means that a careful interpretation of the analyses in Watanabe and Watanabe's section 4 is required. If the relationship between unemployment and markup is not stable nor structural, increasing real rigidities around zero inflation rates can explain the fact that “price stickiness as measured by the share of unchanged items increases as the inflation rate declines from a positive value to zero.” More stickiness around lower inflation rates should imply higher welfare costs stemming from relative price dispersions. On the other hand, menu costs are small near zero inflation rates. Besides the problems due to the zero lower bound on nominal interest rates, should the central bank really care about inflation developments near zero inflation rates? This point is related to the conclusion made by Nakamura et al. (2016) that “the main costs of inflation in the New Keynesian model are completely elusive in the data. This implies that the strong conclusions about optimality of low inflation rates reached by researchers using models of this kind need to be reassessed.”

The evolving impact of labour markets on monetary policy

Objectives: The aim of this paper is to address the cycle from monetary policy becoming the main instrument of macroeconomic stabilisation to the current unexpected decline in its effectiveness. Research Design and Methods: This article analyses how preventing the risk of wage-price spirals unwinding became the main task of central banks. Such a perception of monetary policy role was a natural consequence of the Great Inflation of the 1970s and the substantial costs of disinflation of the 1980s. Then this paper highlights the causes behind the recent unexpected emergence of persistently low inflation. Among the most important causes of this were structural changes which took place also in labour markets, being the outcome of the twilight of traditional manufacturing and increasing globalisation. Findings: The structural weakening of the bargaining position labour creates situation in which the period when monetary policy was focused on preventing wage-price spirals has ended. If advanced economies are entering a long period of low inflation and low interest rates, it will necessitate a reformulation of the role that central banks play in stabilisation policies. Recommendation: This paper postulates that central banks should acquire a pivotal role in the macroprudential policy. The main argument is that the independence of central banks, which they obtained when fighting inflation, would increase the effectiveness of the macro-prudential policy. Contribution: Usually success in lowering and stabilising inflation is attributed mainly to the changes in the way in which central banks have been conducting their monetary policy since the early 1980s. This article highlights the fact that the role which was played in this process by the substantial weakening of the labour bargaining position is still underappreciated.

Unconventional monetary policy expansion: the economic impact through a dynamic CGE model

The ongoing economic stagnation and low inflation rates affecting EU have refuelled the debate on the role and the limits of monetary policy in pushing the economic growth. Given the tight margins for fiscal policy for EU state members, traditional and unconventional monetary policies are becoming more looked-for to break out of this condition. However, the main issue on whether the real or nominal aspects prevails still remains. In this situation, a framework able to identify and analyse any interaction between economic and financial flows becomes crucial to detect the dynamics pushing towards expansions or contractions resulting from monetary policies. Therefore, the aim of this paper is to investigate the direct and indirect impact of monetary policies implemented by the European Central Bank on the main Italian macroeconomic variables both in aggregate and disaggregate terms. For this purpose we use dynamic computable general equilibrium (CGE) model calibrated on the financial social accounting matrix for Italian economy.

Unconventional monetary policy expansion: the economic impact through a dynamic CGE model

The ongoing economic stagnation and low inflation rates affecting EU have refuelled the debate on the role and the limits of monetary policy in pushing the economic growth. Given the tight margins for fiscal policy for EU state members, traditional and unconventional monetary policies are becoming more looked-for to break out of this condition. However, the main issue on whether the real or nominal aspects prevails still remains. In this situation, a framework able to identify and analyse any interaction between economic and financial flows becomes crucial to detect the dynamics pushing towards expansions or contractions resulting from monetary policies. Therefore, the aim of this paper is to investigate the direct and indirect impact of monetary policies implemented by the European Central Bank on the main Italian macroeconomic variables both in aggregate and disaggregate terms. For this purpose we use dynamic computable general equilibrium (CGE) model calibrated on the financial social accounting matrix for Italian economy.

An Overlapping Generations Model for Monetary Policy Analysis

We integrate an overlapping generations model into a new monetarist framework and show that the Friedman rule is not optimal. This is because inflation makes saving for retirement less attractive, such that young agents optimally choose to increase their consumption at the expense of lower savings. On the other hand, old agents consume less due to the inflation tax. We show that for low inflation rates, the former effect dominates the latter, such that the Friedman rule is not optimal. However, this effect disappears for higher inflation rates such that the optimal rate is at an intermediate level.

Inflation Rates and Inflation Uncertainty in Africa: A Quantile Regression Approach

Inflation and its associated uncertainty impose costs on real economic output in every economy. In developing economies, this welfare cost is higher than those obtainable in developed countries because inflation rate is still higher than desired, mostly double-digit in Africa. In contrast to conventional conditional mean approaches, this study employed quantile regressions and cross-sectional data from 44 African countries for the period 1986 to 2015 to examine the relationship between the level of inflation and inflation uncertainty. This study considers two measures of inflation – Inflation rate and mean inflation, and three different measures of inflation uncertainty – standard deviation, relative variation and median deviation of the inflation rate. The study found evidence of positive and significant association between inflation and its uncertainty across quantiles. It also found that higher inflation brings about more inflation variability, thereby supporting the Friedman-Ball hypothesis and on the other hand high inflation uncertainty prompts rises in inflation, confirming the Cukierman-Meltzer hypothesis. The study therefore recommend that policy makers should target low average inflation rates in order to reduce the negative consequences of inflation uncertainty, which in turn can improve economic performance in Africa.

Non-Linearities, Structural Breaks and Fractional Integration in the Analysis of the Ghanaian and the South African CPI Inflation Rates

Keeping a low steady rate of inflation is one of the government’s most important responsibilities. Inflation is an important determinant of economic growth. Consequently, it has been one of the most examined areas in economics, from both theoretical and empirical perspectives. Indeed, economists have shown continued interest in this essential economic variable. The most important question related to inflation is: Does non-linearity exist in inflation? The answer to this question, which has important policy implications, can support or endanger the validity of several important economic models. Hence, a clear understanding of the changing aspects of inflation is crucial to any economy because it is regarded as a significant variable in a number of economic models, whose legitimacy critically relies on whether or not this variable is stationary. In practice, many economic time series models rely on linearity. Nonetheless, it has often been found that simple linear time series models regularly leave certain aspects of economic and financial data inexplicable. This paper proposes a model that combines fractional integration with non-linear deterministic terms based on the Chebyshev polynomials in time for the analysis of CPI inflation rates of Ghana and South Africa in Sub-Saharan Africa. Firstly, we tested for non-linear deterministic terms in the context of fractional integration. The estimates of the differencing parameter, d, were found to be 1.11 and 1.32, respectively for the Ghanaian and the South African inflation rates, but the non-linear trends were found to be statistically insignificant in the two series. A linear model was then investigated and the results indicated that the order of integration for the Ghanaian inflation series was slightly above 1. However, for the case of South Africa, a cyclical I(d) process was found to be more appropriate, with an order of integration below 1, thus showing mean reversion and a cyclical structure of approximately 80 periods (months) per cycle. The implication of these findings could assist in a decision-making process regarding adjusting monetary policy instruments such as inflation targeting (IT) or adopting different monetary policies, to achieve the desired target.

Understanding Worldwide Inflation Rates

This study examines the inflation rates of 215 countries in 2013. Researchers took the data from World Bank database, and fractal analysis was used to determine the hidden dimensions why countries have diverse inflation rates beyond the four identified factors. These factors are money supply, commodity prices, employment rate, and production capacity. The characteristic of inflation is the rate at which the general level of prices of goods and services increase. The result showed that there were countries that had extremely high or low inflation rates. Most of these countries that suffered extremely low inflation are in Africa, one in Europe and one in South America. World Bank established an ideal inflation rate of 2%. The majority of the countries in Europe, America and Asia, had stable inflation figures. Fractal analysis showed politics as the hidden dimension of the changes in inflation rates.

RESPONDING TO THE INFLATION TAX

We adopt mechanism design to study the effects of inflation on output, trade, and capital accumulation. Our theory captures multiple channels for individuals to respond to inflation: search intensity, market participation, and substitution between money and a higher return asset. We characterize constrained efficient allocations and show inflation has nonmonotonic effects on the frequency of trades (extensive margin) and the total quantity traded (intensive margin). The model features monetary superneutrality for low inflation rates, nonlinearities in trading frequencies, and substitution of money for capital for higher inflation rates. While these effects are difficult to capture in previous models, we show how they are intimately related by all being features of an optimal trading mechanism.

Population Ageing and Inflation

Recently a view has emerged in the literature that low inflation may also be influenced, among other variables, by demography. However, there is little empirical evidence for this hypothesis. The motivation of this paper is to assess whether inflation is linked to the population age structure, and especially whether an increased old-age dependency ratio is correlated with a lower inflation rate. To check this hypothesis, a panel data model is used. The model is estimated for 32 OECD member economies over the period from 1971 to 2015. We regress the changes in consumer price inflation on a set of macroeconomic variables. The results of the estimations suggest that there is a relation between demography and low-frequency inflation. A larger old-age dependency ratio is indeed correlated with lower inflation. Therefore, ongoing population ageing may exert downward pressure on inflation. This confirms some of the previous empirical findings that ageing is deflationary when related to increased life expectancy.

Is the wage rate the real anchor of the inflation targeting monetary policy framework?

Numerous central banks (cbs) focus on controlling the nominal interest rate (i) to sway the price level and meet the inflation target (πo) nowadays (Taylor, 1993; Bernanke et al., 1999; Woodford, 2003). The i is taken to be the anchor for a low and stable rate of inflation in an open economy model. Yet, some analysts, orthodox and heterodox alike, have challenged this belief arguing that cbs turn to the exchange rate (e) channel and adopt it as a second policy tool with the aim of meeting πo (Svensson, 1999; Hüfner, 2004). The purpose of this paper is to show that the veritable anchor of inflation is neither i nor e, but the wage rate and the unit labour costs (ulc). We conduct econometric analyses based on data from a set of inflation targeting countries. The main empirical findings support our hypothesis regarding the higher importance of wages and the ulcvis-à-vis i and e in the determination of the cpi.

Regional, individual and political determinants of FOMC members' key macroeconomic forecasts

AbstractWe study Federal Open Market Committee members' individual forecasts of inflation and unemployment in the period 1992–2004. Our results imply that Governors and Bank presidents forecast differently, with Governors submitting lower inflation and higher unemployment rate forecasts than bank presidents. For Bank presidents we find a regional bias, with higher district unemployment rates being associated with lower inflation and higher unemployment rate forecasts. Bank presidents' regional bias is more pronounced during the year prior to their elections or for nonvoting bank presidents. Career backgrounds or political affiliations also affect individual forecast behavior.

The Nonlinearity of the New Keynesian Phillips Curve: The Case of Tunisia

This article seeks to check the nonlinearity of the Phillips curve in Tunisia for the 1993–2012 period, relying on a hybrid new Keynesian Phillips curve modeled via a Logistic Smooth Transition Regression (LSTR) model with endogenous variables. We estimate this model using the nonlinear instrumental variables. The empirical results corroborate the new Keynesian assumption ofprice rigidity and show that the response of inflation to the output gap tends to be significant only if the inflation rate tends to be relatively high and exceeds a certain threshold. For a low inflation rate, the price rigidity dominates. This result is particularly evident in Tunisia, especially for the years following the 2011 revolution during which the elasticity of inflation rate to an excess demand has become highly important and the inflation rate experienced record levels.