Understanding the Money-Prices Relationship Under Low and High Inflation Regimes: Argentina 1970-2005
Recent cross-country empirical evidence indicates that the money-prices relationship depends on the average rate of inflation. This relationship is strong in economies with high inflation, but weakens under low inflation. Based on these findings, we study the dependence of the money-prices relationship on the level of inflation in Argentina along the last 35 years. We use descriptive analysis as well as cointegration tests to study the long run relationship between money growth and inflation. Proportionality holds for the high inflation period but weakens under low inflation. Money velocity is quite volatile but keeps a positive correlation with inflation in the long run. Under low inflation, velocity correlates negatively with money growth, a result consistent with the empirical evidence in the literature. Using VAR analysis, we focus on the transmission of nominal shocks to inflation in the short run. We enlarge the set of information to include other relevant macroeconomic variables such as the nominal interest rate, the multilateral nominal exchange rate depreciation and GDP growth. These results allow us to identify different dynamics of money growth and inflation under low and high inflation. In particular we are able to capture the role played by inflation expectations implicit in nominal interest rates in driving the dynamics of money growth and inflation under high inflation. Although the money growth-inflation short run relationship weakens under low inflation, money continues to play a role in explaining inflation dynamics.
|Date of creation:||Aug 2006|
|Date of revision:|
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