The Journal of Economic Studies and Policies

The Journal of Economic Studies and Policies

Existence of Exchange Rate-Inflation Vicious Circle Hypothesis in Iran: A MSBVAR Approach

Document Type : Original Article

Authors
Mohammad hassan Saboori Deylami 1
Nasser Elahi 2
sayed Zia Aldin Kiaalhoseini 3
Mohammadreza Yousefi sheikh robaat 4
1 PhD in Economics, Institute for Trade Studies and Research (ITSR), Tehran, Iran.
2 Associate Professor, Economics Faculty, Mofid University, Qom, Iran
3 Assistant Professor, Economics Faculty, Mofid University, Qom, Iran
4 Associate Professor, Economics Faculty, Mofid University, Qom, Iran.
10.22096/esp.2019.37179
Abstract
This paper examined the dynamic relationship between exchange rate and domestic inflation rate as well as the existence of vicious circle in Iran. The sample covers monthly data from 1381:01 to 1395:12 Solar Hijri (about 2002:04 – 2017:03). The model was estimated using Markov Switching Bayesian VAR approach and Gibbs sampling.
The empirical results confirm that there are two inflation regimes that vary in variances. The Impulse-Response Functions imply that there is a two-way linkage between these variables in the low inflation regime and the explosive behavior was experienced in the high inflation regime. The response of inflation to one standard
-deviation shock of the exchange rate is positive and less than unity in low inflation regime. And the reaction of the exchange rate to one standard-deviation shock of inflation is positive too but the later was larger than former. Although the explosive behavior in high inflation regime confirms the vicious circle hypothesis in Iran.
Keywords
Inflation
Exchange rate
Vicious circle
Markov Switching Bayesian VAR
Gibbs Sampling

 

Argy, V. (1994). Intenational Macroeconomics:Theory and Policy, London: Routledge.
Artus, J., & Crockett, A. (1978). Floating Exchange Rates and the Need for Surveillance, Department of Economics. Princeton, New Jersey: Princeton university.
Basevi, G., & Grauwe, P. (1977). “Vicious and Virtuous Circles: A Theoretical Analysis and A Policy Proposal for Managing Exchange Rates”, European Economie Review, Vol. 10, No. 3, pp. 277-301.
Bilson, J. F. (1979). The “Vicious Circle Hypothesis”, Staff Papers (International Monetary Fund), No. 26, pp. 1-37.
Bond, M. E. (1980). “Exchange Rates, Inflation, and Vicious Circles”, Staff Papers (International Monetary Fund), No. 27, pp. 679-711.
Brandt, P., & Freeman, J. (2006). “Advances in Bayesian Time Series Modeling and the Study of Politics: Theory, Testing, Forecasting and Policy Analysis”. Political Analysis, Vol. 14, No. 1, pp. 1-36.
Brandt, P.; Freeman, J., & Schrodt, P. (2014). “Evaluating forecasts of political conflict dynamics”, International Journal of Forecasting , Vol. 30, No. 4, pp. 944–962.
Brandt, P.; Freeman, J.; Lin, T., & Schrodt, P. (2012). “A Bayesian Time Series Approach to the Comparison of Conflict Dynamics”, APSA 2012 Annual Meeting Paper.
DE CECCO, M. (1983). The vicious/virtuous circle debate in the twenties and the seventies, Florence: European University Institute.
Echavarria, J., & Villamizar-Villegas, M. (2016). “Great expectations? evidence from Colombia’s exchange rate survey”, Latin American Economic Review, Vol. 25, No. 3.
Friedman, M. (1977). “Nobel lecture: Inflation and unemployment”, Journal of Political Economy, Vol. 85, No, 3, pp. 451-472.
Frühwirth-Schnatter, S. (2001). “Markov chain Monte Carlo estimation of classical and dynamic switching and mixture models”, Journal of the American Statistical Association,Vol. 96, No. 5, pp. 194-209.
Kenen, P. B., & Pack, C. (1980). “Exchange rates, Domestic Prices, and the Adjustment Process”, New York: Group of Thirty.
Krolzig, H. (1997). “Markov-Switching Vector Autoregressions Modelling”, Statistical Inference, and Application to Business Cycle Analysis, Berlin: Springer.
Krugman, P. (1977). “Essay on flexible exchange rate”, PhD Thesis, Massachuset, USA: MIT.
McAuliffe, J. D.; Blei, D. M., & Jordan, M. (2006). “Nonparametric empirical Bayes for the Dirichlet process mixture model”, Statistics and Computing, Vol. 16, No. 1, pp. 5–14.
McKinnon, R. (1979). Fluctuating Exchange Rates, 1973-1978: A Qualified Monetary Interpretation, In R. McKinnon, “Money in international exchange: the convertible currency system”, (pp. 176-179), New York: Oxford University Press.
Mussa, M. (1976). “The exchange rate, the balance of payments and monetary and fiscal policy under a regime of contorolled floating”, Scandinavian Jornal of Economics, Vol. 78, No. 2, pp. 229-248.
Nurkse, R. (1979). International currency experience; lessons of the interwar period, New York: Arno Press.
Öṅiş, Z., & Özmucur, S. (1999). “Exchange rates, inflation and money supply in Turkey: Testing the vicious circle hypothesis”, Journal of Development Economics, Vol. 23, No.1, pp. 133-154.
Rodriguez, C. A. (1978). “A Stylized Model of the Devaluation-Inflation Spiral”, Staff Papers (International Monetary Fund), No. 25, pp. 76-89.
Sims , C., & Zha, T. (1998). “Bayesian Methods for Dynamic Multivariate Models”, International Economic Review, Vol. 39, No. 4, pp. 949-968.
Sims, C., & Uhlig , H. (1991). “Understanding Unit Rooters: A Helicopter Tour”, Econometrica, Vol. 52, No. 6, pp. 1591-1599.
Sims, C.; Zha, T., & Waggoner, D. (2008). “Methods for inference in large multiple-equation Markov-switching models”, Journal of Econometrics, Vol. 146, No. 2, pp. 255-274.
Spaventa, L. (1983). “Feedbacks between Exchange-Rate Movements and Domestic Inflation: Vicious and Not So Virtuous Cycles, Old and New”, International Social Science Journal, No. 35, pp. 517-534.
Wallich, H., & Gray, A. (1979). “Stabilization Policy and vicious and virtuous circles”, International Finance Discussion Papers, No, 40, pp. 1-26.
Zellner, A. (1971). An Introduction to Bayesian Inference in Econometrics, Toronto: John Wiley & Sons.
Send comment about this article
Enter Name.
Enter a valid email address.
Enter a vaid affiliation.
Enter comments (At leaset 10 words)
CAPTCHA Image
Enter Security Code Correctly.
The Journal of Economic Studies and Policies
Volume 8, Issue 1 - Serial Number 15
Spring - Summer 2021
September 2021
Pages 7-30