Money-Inflation Relationship: Band Spectrum Analysis Approach


Researchers endorse causal relationship between monetary growth and inflation. However timing as well as magnitude of response of inflation to monetary shock is open to question.Timing and the magnitude has serious monetary policy implications. Considering this the band spectrum regression applying conjugate analysis is used to examine the relationship. This estimation technique permits to analyze the relationship over different time horizons. Band spectral analysis isolates different components of variables. Low frequency components correspond to long term cycles in the variable, while high frequency components correspond to short term regular movements. Estimation results illustrate that money growth is positively and output growth is negatively related to inflation in low frequencies. Results also elucidate that only output gap explains inflation in higher frequencies.

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