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Evidence of a nonlinear relationship between inflation and inflation uncertainty: The case of the four little dragons

  • Chen, Shyh-Wei
  • Shen, Chung-Hua
  • Xie, Zixiong
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    Using a nonlinear flexible regression model for four economies in east Asia, we re-examine two hypotheses in light of the causal relationship between inflation and inflation uncertainty. The first, proposed by Friedman [Friedman, M. (1977). Nobel lecture: Inflation and unemployment. Journal of Political Economy, 85, 451-472], postulates that increased inflation raises inflation uncertainty. Conversely, the second, put forth by Cukierman and Meltzer [Cukierman, A., & Meltzer, A. (1986). a theory of ambiguity, credibility, and inflation under discretion and asymmetric information. Econometrica, 54, 1099-1128], propounds that a high level of inflation uncertainty leads to a higher rate of inflation. Here, except for Hong Kong, overwhelming statistical evidence is found in favor of Friedman's hypothesis. The nonlinearity displays a U-shaped pattern, strongly implying that, indeed, a high rate of inflation or deflation results in high inflation uncertainty. At the same time, however, convincing evidence is found for Cukierman-Meltzer's hypothesis in favor of all four economies. Although Taiwan has an inverted U-shape, Hong Kong, Singapore and South Korea show a positive relation, thus agreeing with Cukierman-Meltzer's hypothesis.

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    File URL: http://www.sciencedirect.com/science/article/B6V82-4NS0KJ9-1/1/b8988cf06bea9064062362bf25463f02
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    Article provided by Elsevier in its journal Journal of Policy Modeling.

    Volume (Year): 30 (2008)
    Issue (Month): 2 ()
    Pages: 363-376

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    Handle: RePEc:eee:jpolmo:v:30:y:2008:i:2:p:363-376
    Contact details of provider: Web page: http://www.elsevier.com/locate/inca/505735

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    9. Tim Bollerslev, 1986. "Generalized autoregressive conditional heteroskedasticity," EERI Research Paper Series EERI RP 1986/01, Economics and Econometrics Research Institute (EERI), Brussels.
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