{[ promptMessage ]}

Bookmark it

{[ promptMessage ]}

On the Effects of Inflation Shocks in a Small Open Economy

On the Effects of Inflation Shocks in a Small Open Economy...

Info icon This preview shows pages 1–2. Sign up to view the full content.

View Full Document Right Arrow Icon
The Australian Economic Review, vol. 40, no. 3, pp. 253–66 On the Effects of Inflation Shocks in a Small Open Economy Sushanta K. Mallick and Mohammed Mohsin School of Business and Management, Queen Mary, University of London Department of Economics, The University of Tennessee Abstract The effects of monetary policies remain always an important topic in macroeconomics. In the literature (closed and open economy), there is no theoretical as well as empirical consensus regarding the effects of monetary policies. In this paper we examine the real effects of infla- tion in an open economy. Australia is a clas- sic example of a small open economy and is known to exercise inflation targeting. Using quarterly data from Australia and employing vector autoregressive (VAR) analysis, we pro- vide evidence that inflation, both in the short and long run, negatively affects durable and non-durable consumption and investment, and has a positive effect on the current account. Further, we show that consumption of durable goods is more sensitive than the consumption of non-durables during the initial periods fol- lowing inflationary shocks. We thank two anonymous referees and the editor, Ian McDonald, for very helpful and detailed comments. The earlier version of the paper was presented in the Eastern Economic Association meetings, 2006, at Philadelphia. We thank the participants for their comments. The usual dis- claimer applies. 1. Introduction The long-run real effects of monetary policies on employment, capital accumulation, con- sumption and the current account have always been of interest to macroeconomists. 1 The ex- isting literature covering both theoretical and empirical studies provides no clear-cut conclu- sion. The present paper intends to contribute to the empirical side of the literature by work- ing out the effects of changes in inflation rates on the important macroeconomic variables in a small open economy. We consider Australia for the empirical study and investigate the ef- fects of inflation shocks on the major macro variables both in the short run and the long run. Using seasonally adjusted quarterly data from Australia and estimating simple correla- tions and impulse response functions, we find changes in inflation negatively influence con- sumption and investment, and have a positive impact on the current account balance. The correlation coefficient between Australian in- flation and real consumption of durable and non-durable goods is found to be 0.12 and 0.20 respectively. Similarly, real investment is negatively correlated with inflation with the estimated coefficient of 0.25. The real current account balance and inflation, on the contrary, are positively correlated with a coefficient of 0.29. Correlation coefficients with lags rang- ing from 0 to 10 are found to be good repre- sentations of short-run effects. The results are reported in Figure 1. To trace the effects of inflation on any individual variable over the longer time horizon, we estimate the general-
Image of page 1

Info icon This preview has intentionally blurred sections. Sign up to view the full version.

View Full Document Right Arrow Icon
Image of page 2
This is the end of the preview. Sign up to access the rest of the document.

{[ snackBarMessage ]}

What students are saying

  • Left Quote Icon

    As a current student on this bumpy collegiate pathway, I stumbled upon Course Hero, where I can find study resources for nearly all my courses, get online help from tutors 24/7, and even share my old projects, papers, and lecture notes with other students.

    Student Picture

    Kiran Temple University Fox School of Business ‘17, Course Hero Intern

  • Left Quote Icon

    I cannot even describe how much Course Hero helped me this summer. It’s truly become something I can always rely on and help me. In the end, I was not only able to survive summer classes, but I was able to thrive thanks to Course Hero.

    Student Picture

    Dana University of Pennsylvania ‘17, Course Hero Intern

  • Left Quote Icon

    The ability to access any university’s resources through Course Hero proved invaluable in my case. I was behind on Tulane coursework and actually used UCLA’s materials to help me move forward and get everything together on time.

    Student Picture

    Jill Tulane University ‘16, Course Hero Intern