LONG-RUN M3 DEMAND IN SOUTH AFRICA: A COINTEGRATED VAR MODEL

This paper presents a system cointegration analysis of a long‐run demand for money (measured in terms of M3) in South Africa. In particular, the paper estimates a cointegrated vector autoregression model, consisting of real money, income and the opportunity cost of holding money. Using a variety of theory consistent identification schemes, the money demand function is identified along with other two cointegrating relations, namely, an IS‐type relationship and a relationship relating inflation to the spread between long‐ and short‐term interest rates. The model shows that of the variables used, only income and real money are error‐correcting to the money demand relation. The money demand relation is found to be relatively stable over the sample period, when short‐run fluctuations are corrected for. The model further shows that the long‐run link between money and inflation is rather weak.     

Inflation in South Africa: An Assessment of Alternative Inflation Models

We consider the relative empirical performance of a range of inflation models for South Africa. Model coverage is of Phillips curve, New Keynesian Phillips curve, monetarist and structural models of inflation. Our core findings are that the single most robust covariate of inflation is unit labour cost. We further decompose unit labour cost into changes in the nominal wage and real labour productivity. The principal association is a strong positive relationship between inflation and nominal wages, while improvements in real labour productivity report only a relatively weak negative association with inflation. Supply‐side shocks also consistently report an association with inflation. As to demand‐side shocks, the output gap does not return a robust statistical association with inflation. Instead, it is growth in the money supply and government expenditure which return robust and theoretically consistent associations with inflationary pressure.     

Will the Sarb always Succeed in Fighting Inflation with Contractionary Policy?

The conventional view is that a monetary policy shock has both supply‐side and demand‐side effects, at least in the short run. Barth and Ramey show that the supply‐side effect of a monetary policy shock may be greater than the demand‐side effect. We argue that it is crucial for monetary authorities to understand whether an increase in expected future inflation is due to supply shocks or demand shocks before applying contractionary policy to forestall inflation. We estimate a standard New Keynesian dynamic stochastic general equilibrium model with the cost channel of monetary policy for the South African economy to show that whether the South African Reserve Bank should apply contractionary policy to fight inflation depends critically on the nature of the disturbance. If an increase in expected future inflation is mainly due to supply shocks, the South African Reserve Bank should not apply contractionary policy to fight inflation, as this would lead to a persistent increase in inflation and a greater loss in output. Our estimation results also show that with a moderate level of cost‐channel effect and nominal rigidities, a New Keynesian dynamic stochastic general equilibrium model with the cost channel of monetary policy is able to mimic the price puzzle produced by an estimated vector autoregressive model.     

THE SOUTH AFRICAN PHILLIPS CURVE: HOW APPLICABLE IS THE GORDON MODEL?

Is there a Phillips curve relationship present in South Africa and if so, what form does it take? Traditionally the method to establish whether or not there is a relationship between the output gap and the change in inflation is merely to regress the latter on the former. This yields the well‐known augmented Phillips curve. However, Gordon has argued that this specification of the Phillips curve produces biased results. Instead, he puts forward and estimates successfully for several industrialised countries his so‐called triangular model that tests for hysteresis and inertia in the behaviour of inflation, as well as the impact on inflation of changes in the output level. This paper considers whether or not Gordon's triangle model is applicable to South Africa, i.e. are hysteresis and inertia present in South Africa? In addition, in an attempt to find a better estimation of the output gap, the paper also experiments with alternative ways to estimate the long‐run output level, including the standard HP‐filter, as well as a production function approach.     

Inflation and Inflation Expectations in South Africa: an Attempt at Explanation

This paper examines the relationship between inflation and inflation expectations in South Africa. We use inflation expectations derived from the quarterly surveys conducted by the Bureau of Economic Research from 2001Q1 to 2011Q4 . Using these data, we estimate the model assuming that private sector expectations are a linear function of the inflation target and lagged inflation. The results indicate that economic agents' expectations largely depend on lagged inflation. This suggests that the South African Reserve Bank (SARB) has not been successful in anchoring expectations of the private sector since the adoption of the inflation targeting (IT) regime in 2000. We also find evidence indicating that the SARB's implicit inflation target lies above the upper bound of the official IT band. Finally, it appears that the SARB has been more concerned about output stabilisation than inflation stabilisation.     

HIGH AND VARIABLE INFLATION: FURTHER EVIDENCE ON THE FRIEDMAN HYPOTHESIS

This note, employing a GARCH model, finds a positive and significant relationship between the level and variability of inflation in South Africa in the period 1957:1‐2005:9. This provides evidence in support of Friedman's hypothesis that high inflation leads to more variable inflation.     

Inflation and Welfare in Latin America

This paper follows Bailey (J Polit Econ 64:93–110, 1956) and Lucas (Econometrica 68:247–274, 2000) and estimates the welfare cost of inflation for 17 Latin American economies. We use annual data, from 1955 to 2000, and recent advances in the field of applied econometrics to estimate the inflation rate elasticity of money demand and report significantly high and differential welfare cost estimates for these economies.     

MONETARY POLICY IN RWANDA: A COINTEGRATION ANALYSIS

Countries in Africa are increasingly becoming similar in outlook, especially as regards monetary policy. With a view to conducting a long‐term study of monetary policy in Africa, we apply an empirical test for the coherence of inflation targeting, first conducted by Nell (2003 ) for South Africa, to data from Rwanda. We find that like South Africa, Rwanda has a stable money demand function and the adoption of an inflation target is a wise policy option. Also, the Rwandan money market needs just over five quarters to eliminate half of any monetary disequilibrium. These results are of some interest to economists and policy makers for all the countries in the increasingly interconnected continent of Africa.     

MONEY,OUTPUT AND INFLATION IN AFRICAN ECONOMIES1

This paper examines the long‐run money‐inflation relation for 36 African countries using cross‐section and panel data analysis. The focus is on the recent claim by De Grauwe and Polan that the common finding in multi‐country studies of a strong positive link typically reflects the presence of high‐inflation countries in the sample and on Nelson's criticisms of the data and methodology employed in that study. Adjusting the De Grauwe and Polan methodology to take account of many of Nelson's criticisms, I confirm a weak long‐run relation between money growth and inflation for countries when money growth and inflation are below 10%, but a strong relation when money growth and inflation move much above that number. This result is not dependent on the inclusion of high inflation countries in the cross‐section and panel data samples.     

INFLATION TARGETING AND THE FISHER EFFECT IN SOUTH AFRICA: AN EMPIRICAL INVESTIGATION

The paper analyses the relationship between expected inflation and nominal interest rates during a period of inflation targeting in South Africa, i.e. from 2000 to 2005. Specifically, it investigates the Fisher hypothesis that nominal interest rates move one‐to‐one with expected inflation, leaving the real interest rate unaffected. The analysis distinguishes between a short‐run Fisher effect and a long‐run Fisher effect. Using cointegration and error correction models (for monthly data for the period April 2000 to July 2005), it was found that the short‐run Fisher hypothesis did not hold during the relevant period under the inflation targeting monetary policy framework in South Africa. This is attributed to a combination of the South African Reserve Bank's (SARB) control over short‐term interest rates and the effects of the monetary transmission mechanism. The long‐run Fisher hypothesis could not be confirmed in its strictest form: while changes in inflation expectations move in the same direction as the nominal long‐term interest rate. This suggests that monetary policy has an influence on the real long‐term interest rate, which has positive implications for general economic activity, thus confirming the credibility of the inflation targeting framework.     

Inflation and Market Uncertainty in South Africa

Comparison of the movements in the VIX index, the rand – dollar exchange rate and South African CPI inflation reveals a striking resemblance between them, raising the question as to whether or not there is an empirical relationship among them. The aim of this paper is to determine whether or not changes in market uncertainty, as reflected in the VIX index, influence South African inflation. Given that the VIX index reflects market uncertainty, its impact on the inflation rate may differ between times of heightened uncertainty and normality, thus suggesting the presence of multiple regimes. To cater for this possibility, the analysis first uses the general‐to‐specific procedure (including squared and cubed values of dependent and independent variables) with impulse indicator saturation dummies to look for non‐linear behaviour in the form of statistically significant squared and cubed variables and clustered periods of outlier dummies that might reflect an alternative regime. Finding such periods, the analysis next uses a Markov‐switching model to model this non‐linear behaviour explicitly. The results show that market volatility as measured by the VIX indeed explains South African inflation. Moreover, as shown by the second regime of the Markov‐switching model, when market volatility is elevated, its influence on inflation also increases.     

Estimating Open Economy New Keynesian Phillips Curve for Korea

We estimate the open economy new Keynesian Philips curve (NKPC) to characterize the inflation dynamics of Korea. While recent studies show that the NKPC holds for the pre‐currency crisis period, the empirical evidence is inconclusive for the post‐crisis period. Has globalization increased the role of global factors relative to domestic factors? Can labor income share still serve as a good measure of real marginal cost following the structural break? To address these issues for the post‐crisis period, we use two types of open NKPC: the relative prices model and the incomplete pass‐through model. The estimation of both models indicates that the forward‐looking behavior is important, and its role is reinforced in an open economy specification. Both NKPC models also show that the external factors are more relevant inflation drivers than the domestic factors.     

Inflation Forecast Targeting: An Alternative Approach to Estimating the Inflation‐Output Variability Tradeoff

We suggest a new way of computing the inflation‐output variability tradeoff under inflation forecast targeting. Our approach is based on dynamic, stochastic simulations of the average inflation rate over a two‐year horizon using the moving average representation of a vector autoregressive (VAR) model. Using real‐time data over two samples, we estimate the inflation‐output variability tradeoff for the United States and show that it has shifted favorably over time. We analyze the policy interventions required to achieve target inflation in each sample and compare these interventions over time.     

The demand for M3 and inflation forecasts: An empirical analysis for Switzerland

The Demand for M3 and Inflation Forecasts: An Empirical Analysis for Switzerland. — This paper argues that money should continue to play an important role in monetary policy even if a central bank pursues a strategy based on inflation forecasts. Within the context of an error correction model, the paper delivers empirical evidence that both the growth rate of the monetary aggregate M3 and the size of excess M3 incorporate useful information with regard to future inflation in Switzerland. This evidence strongly suggests that money should remain an important indicator for monetary policy.     

Money and Crime in a Cash‐In‐Advance Model

A cash‐in‐advance model, in which holding money is risky, is constructed to study the coexistence of multiple means of payment and monetary policy implications. In steady‐state equilibrium, the marginal rate of substitution of cash goods for credit goods depends on the crime rate as well as the nominal interest rate. Credit may be in use, although the return on money is not positive. With theft, a money injection reduces the crime rate and makes cash more preferable for a greater variety of goods. Inflation improves welfare. However, without theft, inflation makes credit more preferable and decreases welfare. In general, the Friedman rule is not optimal.     

DEMAND FOR MONEY AND EXPENDITURE COMPONENTS IN SOUTH AFRICA: ASSESSMENT FROM UNRESTRICTED ERROR-CORRECTION MODELS

The main aim of this study is to examine empirically the long‐run relationship of money demand and its determinants in South Africa. In contrast with existing studies on the subject, the present study considers various components of real income as determinants. The disaggregated components are final consumption expenditure, expenditure on investment goods and exports. The other determinants are domestic interest rate, yield on government bonds and the exchange rate. The results confirm that the different components of real income have different impacts on the demand for money in South Africa. The presence of long‐run equilibrium relationships between the demand for real M1, M2 and M3 and their determinants is confirmed based on the results of bounds testing.     

ON INFLATION

There is currently much more common sense in the South African inflation debate than a few decades ago. In particular, the South African Reserve Bank exhibits a pragmatic, eclectic approach to inflation (as reflected in its bi‐annual Monetary Policy Reports). This is in stark contrast to the narrow, monetarist‐type thinking that tended to dominate during the 1980s. This paper is an attempt to contribute to the debate by highlighting a few issues, including the widespread substitution of the CPI by the CPIX, the fact that inflation is a process, the need to combat inflation, the causes of the decline in inflation in South Africa and the essential features of an inflation‐targeting framework for monetary policy.     

The Economic Value of Time: Evidence from Africa

When excessive and inefficiently implemented, government interventions can result in significant economic losses for citizens. These include the often‐significant cost of lost time. This paper thus aims to estimate the potential economic welfare benefit of reducing public office waiting times. Based on data from Johannesburg, Lagos and Addis Ababa, we show that a one‐hour reduction in waiting time improves welfare by 66‐74% of the average local wage. High‐income earners, college graduates and private‐sector employees enjoy higher gains. Moreover, we note that the proxies currently used to quantify time‐saving benefits diverge significantly from the rate at which individuals substitute time for money. Our analysis also indicated a substantial delay‐induced citywide efficiency loss. Introducing public–private partnership and charging premium fees for faster service delivery are justifiable both on grounds of equity and efficiency.     

INFLATION IN SOUTH AFRICA: A TIME‐SERIES VIEW ACROSS SECTORS USING LONG‐RANGE DEPENDENCE

In this paper I examine the time‐series evolution of the log consumer price index series in South Africa, disaggregating the data by sectors. I examine the time period 1990m1‐2008m12, i.e. focusing on the post‐apartheid period. I used methodologies based on fractional integration using parametric and semiparametric techniques. The results indicate that the (total) inflation rate in South Africa is long memory, with an order of integration in the range (0, 0.5). The same happens with most of the data disaggregated by sectors with values of d above 1 in the log prices. Evidence of I(0) inflation is obtained in some cases for “fruits and nuts”, “vegetables” and “sugar”, and evidence of mean reversion in the log prices is only obtained in the case of “fish and other seafood”.     

Bank Lending and Inflation in Malaysia: Assessment from Unrestricted Error-Correction Models

The paper estimates inflation models for Malaysia by considering the influence of bank lending. The unrestricted error-correction model (UECM) proposed in Pesaran et al. (2000) was employed as being appropriate for small sample analysis such as the present study which covered annual data from 1973 to 1997. The results of 'bounds' tests confirmed a long-run equilibrium relationship between inflation and its determinants, namely import price, money supply (M3), bank credit and real income. The estimated UECMs revealed that the important factors in the Malaysian inflation process are import price and real-income variables. It was found that concurrent fiscal policies had a major influence on the impact of the depreciation of the naira on inflation. The UECMs appear to perform well and to provide an appropriate framework for forecasting the Malaysian inflation behaviour.