Academic journal article Journal of Business Economics and Management

Inflation, Inflation Uncertainty and Growth in the Iranian Economy: An Application of BGARCH-M Model with BEKK Approach

Academic journal article Journal of Business Economics and Management

Inflation, Inflation Uncertainty and Growth in the Iranian Economy: An Application of BGARCH-M Model with BEKK Approach

Article excerpt

1. Introduction

In the last two decades, there has been an increasing interest in empirical research relating to economic growth in the case of Iran. In recent years a few papers constructed a large set of possible explanatory variables and employed econometric techniques to identify the variables which have a statistically significant impact on economic growth of Iran (Moshiri, Jahangard 2004; Mohammadi, Akbari Fard 2008; Komijani, Nazari 2009). However, studying the impact of inflation uncertainties on real income growth in the close economy of Iran deserves attention from researchers.

Heidari and Yengjeh (2010), Heidari et al. (2010), and Heidari and Bashiri (2011) consider uncertainty in their studies with the Iranian data. In these studies, they all employ Generalized Autoregressive Conditional Heteroskedasticity (GARCH) models and proxied inflation and output uncertainty by the conditional variance of shocks to inflation and output growth, respectively. GARCH models have been extensively employed in the studies for stock markets as well (Teresiene 2009). Results of Heidari and Yengjeh (2010) suggest no significant relationship between inflation uncertainty and real growth. Moreover, results of Heidari et al. (2010) reveal that growth uncertainty does not affect the level of economic growth, while Heidari and Bashiri (2011) show that growth uncertainty affects the level of inflation. The most important drawback of these studies is that, they have used a univariate GARCH specification for estimation of the uncertainties. Univariate models do not allow studying the joint determination of more than one series. There is a vast theoretical literature that emphasizes the importance of simultaneous effects of inflation and growth uncertainty on economic growth (Friedman 1968; Friedman 1977; Black 1987; Deveraux 1989; Holland 1993).

There is a lot of empirical evidence in the literature, which address this issue by applying bivariate models. For example, Grier et al. (2004) and Shields et al. (2005), by using a Bivariate GARCH (BGARCH) model, find that inflation uncertainty decreased inflation and output growth for the US, but output uncertainty increased growth but reduced inflation. Karanasos and Kim (2005) employ a BGARCH model of inflation and output growth to investigate the relationship between nominal and real uncertainty in the G3. They find that for the entire sample period 1957-2000, in all three countries, there is no causal relationship between nominal and real uncertainty. Moreover, they find different results (causal direction) for these three countries in different sub-samples. Narayan et al. (2009) use the EGARCH model to examine the relationship among output, inflation and their respective uncertainties for China. Their results suggest that Chinese output-inflation behaviour is consistent with the hypothesis that increased inflation uncertainty lowers average inflation; the hypothesis that inflation volatility reduces economic growth and the hypothesis that higher output volatility increases economic growth. They also find no support for the Deveraux (1989) hypothesis that output uncertainty has a positive impact on the level of inflation. Bhar and Mallik (2010) show that inflation uncertainty has positive and significant effect on the level of inflation and a negative and significant effect on the output growth. Their results, however, reveal that output uncertainty has no significant effect on output growth or inflation. Conrad et al. (2010) by using a BGARCH model find that inflation has a positive impact on both inflation and growth uncertainties. Their results also show that not only uncertainty of inflation and growth affect the level of inflation and growth but the level of inflation and growth affect their respective uncertainties.

To the best of our knowledge, there isn't any empirical study on assessing the relationship between inflation, economic growth and their respective uncertainties in the case of the Iranian data. …

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