The Short-Run and Long-Run Relationships between Economic Growth and Inflation in Ethiopia

Abstract

The relationship between inflation and economic growth is one of the debatable issue and the most important macroeconomic  discussions among macro economists, policy-makers and monetary authorities in all countries. The dilemma of inflation and economic  growth is one of the most important macroeconomic policy problems. This study addresses the short run and long run relationship  between inflation and economic growth. This study used yearly time series data that was taken from World Bank database year ranged  from 1982 to 2021. Before analysing the data Augmented Dickey fuller test and Phillips curve were conducted to check the stationarity of  data series. The co-integration test for long run relationship is check with Johnson co-integration and the econometric models like vector  autoregressive and Vector Error Correction Model were applied. Descriptive Statistics results show that the average of inflation rate is  more than the average of output growth and rate of economic growth and rate of inflation moves with the similar trend but inflation  more fluctuation. The joint hypothesis test results of a VAR model show that both lagged value of inflation does not have any effect on  economic growth. The result of a Granger causality test shows that economic growth cause inflation at 1% significance level but inflation  rate does not causes economic growth. The result of co-integration test Vector Error Correction Estimation using Johansen trace statistic and maximum eigenvalue statistic show exhibit long run relationship between the two variable policy makers should exert effort to made  stabilize the relationship between inflation and economic growth in the long-run.