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Asymmetric and Time‐Varying Causality between Inflation and Inflation Uncertainty in G‐7 Countries
Author(s) -
Balcilar Mehmet,
Ozdemir Zeynel Abidin
Publication year - 2013
Publication title -
scottish journal of political economy
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 0.4
H-Index - 46
eISSN - 1467-9485
pISSN - 0036-9292
DOI - 10.1111/sjpe.12000
Subject(s) - inflation (cosmology) , econometrics , economics , conditional variance , autoregressive model , unobservable , causality (physics) , granger causality , sign (mathematics) , autoregressive conditional heteroskedasticity , mathematics , physics , volatility (finance) , mathematical analysis , quantum mechanics , theoretical physics
Abstract We use G ranger causality tests within a conditional G aussian M arkov switching vector autoregressive ( MS ‐ VAR ) model using monthly data for G ‐7 countries covering the period 1959:12–2008:10 to examine the relationship between inflation and inflation‐uncertainty. The MS ‐ VAR model allows us to model parameter time‐variation so as to reflect changes in Granger causality, assuming that these changes are stochastic and governed by an unobservable M arkov chain. Inflation uncertainty is measured as the conditional variance generated by a Fractionally Integrated Smooth Transition Autoregressive Moving Average‐Asymmetric Power ARCH ( FISTARMA ‐ APARCH ) model. The distinguishing feature of our approach from the previous studies is the determination of the sign of the G ranger causality relationship between inflation and its uncertainty over time. First, using a rolling VAR model, we show that the relationship between inflation and inflation uncertainty is time varying with frequent breaks. Second, using the MS ‐ VAR model, we obtain strong evidence in favour of the H olland's ‘stabilizing Fed hypothesis’ for C anada, F rance, G ermany, J apan, U nited K ingdom, and the U nited S tates. We also find evidence in favour of the F riedman hypothesis for C anada and the U nited S tates.