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Is there Causal Relationship between Money Supply Growth and Inflation in China? Evidence from Quantity Theory of Money
Author(s) -
Su ChiWei,
Fan JiaoJiao,
Chang HsuLing,
Li XiaoLin
Publication year - 2016
Publication title -
review of development economics
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 0.531
H-Index - 50
eISSN - 1467-9361
pISSN - 1363-6669
DOI - 10.1111/rode.12194
Subject(s) - economics , money supply , inflation (cosmology) , granger causality , sample (material) , causality (physics) , monetary economics , hyperinflation , quantity theory of money , endogenous money , broad money , china , velocity of money , macroeconomics , monetary policy , econometrics , chemistry , physics , chromatography , quantum mechanics , theoretical physics , political science , law
Abstract This study examines the causal relationship between Chinese money supply growth and inflation, using the bootstrap Granger full‐sample causality test and sub‐sample rolling‐window estimation test to determine whether such a relationship in China supports the quantity theory of money. The result indicates that there is a unidirectional relationship from inflation to money supply growth. However, considering structural changes in two series, we find that short‐run relationships using full‐sample data are unstable, which suggests that full‐sample causality tests cannot be relied upon. Then, we use a time‐varying rolling‐window approach to revisit the dynamic causal relationship, and the results show that money supply growth has both positive and negative impacts on inflation in several sub‐periods, and in turn, inflation has the same effects on money supply growth for China. These findings are basically consistent with the modern quantity theory of money from the perspective of money supply and price level. When money supply growth does not outweigh output growth, inflation should not be curbed only by decreasing money supply. It notes that a stable money supply growth is critical to price level stability and economic development in China.