UNIVERSITY OF ECONOMICS INSTITUTE OF SOCIAL STUDIES HO CHI MINH CITY THE HAGUE VIETNAM THE NETHERLANDS VIETNAM - NETHERLANDS PROGRAMME FOR M.A IN DEVELOPMENT ECONOMICS THE IMPACT OF INFLATION ON ECONOMIC GROWTH: EVIDENCE FROM A PANEL OF SELECTED ASIA COUNTRIES A thesis submitted in partial fulfilment of the requirements for the degree of MASTER OF ARTS IN DEVELOPMENT ECONOMICS By VU DOAN THANH TIEN Academic Supervisor: Dr. LE CONG TRU HO CHI MINH CITY, AUGUST 2012 i TIEU LUAN MOI download : skknchat@gmail.com DECLARATION “I certify that the substance of this thesis has not already been submitted for any degree and have not been currently submitted for any other degree. I certify that to the best of my knowledge and help received in preparing this thesis and all sources used have been acknowledged in this thesis.” ii TIEU LUAN MOI download : skknchat@gmail.com ACKNOWLEDGEMENTS The first person I would like to send special thanks to is my supervisor - Dr. Le Cong Tru.
I’m grateful not solely his help throughout the thesis process, but also enthusiasm and many lessons in an attempt to improve my knowledge and skills as well. He is usually ready to assist me anytime, although he is bustling. The professor often keeps track of my work and motivates me to finish the duty. To gain the result today, I cannot miss out his contributions.
Thanks so much, Dr.Tru! Next, I’m happy to thank to Dr. Ngai, and Dr. They tried their best to help me select an appropriate topic for my thesis. When I confront to issues, they supported to find the solution and give advice in hope that I might overcome the problems.
Besides, I also thank to the other professors of VNP for lectures and precious materials. At the same time, I also send thanks to VNP officials, especially Ms. They are very nice in helping me when having troubles. They inform exactly and quickly to students.
I enjoy their enthusiasm. Additionally, I also send thanks to Mr. He is nice to his duty. I’m always welcomed by him.
Last but not least, I cannot forget sending thanks to my family and friends. I’m very grateful them to take care of and encourage me while performing the thesis. Not only do they support for finance, but also for mental. I always keep in mind devotion and sacrifice of all.
Thanks so much for everything!!! iii TIEU LUAN MOI download : skknchat@gmail.com TABLE OF CONTENTS TABLE OF CONTENTS. IV LIST OF FIGURES. VII LIST OF TABLES .2 RESEARCH OBJECTIVES AND RESEARCH QUESTIONS .3 STRUCTURE OF THE PAPER .1 THEORIES RELATED TO INFLATION AND GROWTH .2 Neo-Classical Theory .5 Neo-Keynesian Theory .1 The Basic Growth Model .3 Augmented Solow Model .3 Cost of Inflation .21 iv TIEU LUAN MOI download : skknchat@gmail.1 The Studies of 1960s-1980s .2 The Studies of 1990s. 31 ECONOMIC OUTLOOKS OF STUDIED COUNTRIES .1 Economic Outlook of Vietnam .2 Economic Outlook of Philippines .3 Economic Outlook of Malaysia .4 Economic Outlook of Indonesia .5 Economic Outlook of Thailand .6 Economic Outlook of China .7 Economic Outlook of India.
49 MODEL SPECIFICATION & RESEARCH METHODOLOGY .1 Non-Linear Inflation-Growth Relationship .2 Testing Thresholds in the Inflation-Growth Relationship.75 v TIEU LUAN MOI download : skknchat@gmail.3 INFLATION THRESHOLD ANALYSIS .1 Threshold Results of China .2 Threshold results of India .3 Threshold results of Indonesia .4 Threshold Results of Malaysia .5 Threshold Results of Philippines .6 Threshold Results of Thailand .7 Threshold Results of Vietnam. 89 CONCLUSIONS, POLICY RECOMMENDATION, LIMITATIONS AND FUTHER STUDY. 113 vi TIEU LUAN MOI download : skknchat@gmail.com LIST OF FIGURES Figure 2-1: Analysis framework for the impact of inflation on growth and thresholds remained in the relationship. 30 Figure 3-1 A comparison between inflation and growth rate of Vietnam from 1990-2010.
33 Figure 3-2: A comparison of inflation-growth relationship of Philippines from 1990 to 2010. 35 Figure 3-3 A comparison between inflation and growth rate of Malaysia in the period of years 1990-2010. 38 Figure 3-4: A comparison between inflation and economic growth of Indonesia from 1990-2010. 41 Figure 3-5: A benchmark between inflation and growth of Thailand in the years of 1990-2010.
43 Figure 3-6: A comparison between inflation and growth rate of China from 1990-2010. 45 Figure 3-7: A comparison between inflation and economic growth rates of India in the period 1990-2010. 47 vii TIEU LUAN MOI download : skknchat@gmail.com LIST OF TABLES Table 2-1 Summary of the papers with thresholds found in the inflation-growth correlation 27 Table 4-1 Summary variables used in the models. 52 Table 5-1 Correlation matrix between variables (China).
58 Table 5-2: Summary Descriptive Statistics (China). 59 Table 5-3: Correlation matrix between variables (India). 60 Table 5-4: Summary Descriptive Statistics (India). 61 Table 5-7: Correlation matrix between variables (Malaysia).
64 Table 5-9: Correlation matrix between variables (Philippines). 66 Table 5-10: Summary Descriptive Statistics (Philippines). 67 Table 5-11: Correlation matrix between variables (Thailand. 68 Table 5-13: Correlation matrix between variables (Vietnam).
70 Table 5-15 Regression Results with Fixed Effects Method. 73 Table 5-16: Estimation Thresholds of China. 80 Table 5-17: Estimation Thresholds of India. 81 Table 5-18: Estimation Thresholds of Indonesia.
82 Table 5-19: Estimation Thresholds of Malaysia. 83 Table 5-20: Estimation Thresholds of Philippines. 84 Table 5-21: Estimation Thresholds of Thailand. 86 Table 5-22: Estimation Thresholds of Vietnam.
87 viii TIEU LUAN MOI download : skknchat@gmail.com The Impact of Inflation on Economic Growth: Evidence from a Panel of Selected Asia Countries 1 TIEU LUAN MOI download : skknchat@gmail.com ABSTRACT The objective of this paper is to ascertain whether inflation significantly impacts on economic growth for the selected Asia countries. The study relied on macroeconomic theories, the augmented Solow model, and empirical studies for seeking the key variables impacting growth. Simultaneously the quadratic model is employed to find out the impacts of inflation on growth, using a panel data of seven Asian countries in the period of 1990-2010. The fixed-effect method was used for capturing the differences among the selected countries.
The results show that only China, India, Thailand, and Vietnam have a negative effect of inflation on growth, and among the countries, Thailand and Vietnam have statistically significant meaning at 1% and 5%. Meanwhile the rest of countries comprising Indonesia, Malaysia and Philippines contain the positive effect of inflation on growth. Except for Malaysia, Indonesia and Philippines have statistically significant meaning at 5%. For estimating thresholds for the countries, the paper adopted several methods including scatter diagrams, observing average inflation rates and the method of Khan and Senhadji.
The outputs indicate that only India has the threshold at 7% and statistically significant meaning at 5%. The rest of countries including China, Indonesia, Malaysia, Philippines, Thailand and Vietnam also find out the levels of threshold in the relationship between inflation and economic growth are 6%, 12-13%, 4%, 10-13%, 4.5% and 8%; however, all are not statistically significant meaning. 2 TIEU LUAN MOI download : skknchat@gmail.com Chapter 1 INTRODUCTION 1.1 PROBLEM STATEMENT Theoretically speaking, rapid output growth and low inflation are the most common objectives of macroeconomic policy. Along with monetary policy related to interest rate or money supply, and the fiscal policy associated to taxes poli cy or government expenditures are often applied in the macroeconomic stabilization.
In other words, they assist to reduce inflation pressures and support the sustainable growth. Since inflation is known as a harmful factor for both firms and families. Many countries put the price stability into the first priority. While as some researchers agree that the economy may get some beneficial effects at moderate inflation rates.
For instance, thanks to inflation, investors will reallocate their portfolios away from money and into capital, helping to decrease the real rate of interest, encourage investment and rise labour productivity (Tobin, 1965). Also, in 1972, Tobin claimed that “a little inflation helps oil the wheels of the economy” through assisting labour market adjustment. Furthermore, Jarret and Selody (1982) argued that a steady growth in demand contributed to moderate rates of inflation; as a consequence, it would promote productivity growth instead of reducing it. Hence, the efforts to get zero inflation amount to a policy for “paying now for more pain later”.
3 TIEU LUAN MOI download : skknchat@gmail.com Nonetheless, in recent years, inflation has been a noticeable phenomenon in almost countries; especially in developing countries. There are consequences that the world has been suffering from the global economic crisis and dramatically affected all countries over the world. The developing countries in Asia sector are not exceptional. These countries must be struggling to increase in all commodity prices, resulting in a difficulty in the people life.
The energy and food prices raising many folds during the crisis contributed to the soaring of the prices. Besides, a strong domestic demand and rising wages are other drivers of inflation pressures. Immediately it pushes the prices of all commodities to grow up. This causes the harness in all households and companies in the economy; they must endure escalating of living and production costs.
Although, the governments have tried their best to show many strategies associated to fiscal or monetary policies so as to decrease the inflation rate and help to stabilize the macroeconomic, but we realize that the prices still continue to increase without the end point. It is the disasters that the families and individuals in the poor countries have to face. Scientifically speaking, there are many studies involved in the relationship between inflation and growth. Obviously many findings surrounding the correlation are not similar.
Some studies state that inflation has a positive effect on growth, in contrast to this; other research find that inflation has a negative impact on the growth. While as the recent studies mention that there is a nonlinear relationship between inflation and growth, the authors point out the thresholds in the inflation-growth nexus. However, the evidence is not clear for the developing countries and there is much less agreement about the precise relationship between inflation and economic performance. At the same time, base on many findings, the inflation has the effects on the economic growth that are not similar from the developing countries to the developed countries.
Most of the developed economies are usually stable in growth and inflation rates. They have low inflation rates while the developing countries have higher and unstable inflation rates. This influences remarkably to the economy and the households’ life as a whole. 4 TIEU LUAN MOI download : skknchat@gmail.com For this reason, it is necessary to make clear the relationship between economic growth and inflation in the selected developing Asia countries including China, India, Indonesia, Malaysia, Philippines, Thailand and Vietnam of the period 1990-2010.
The paper selects the countries since these are prominent in the speed of economic development of Asia in recent years. Nevertheless, they have been bearing from the consequences of the global economy depression, and particularly the inflation rates are surging so high in these countries. In addition, the selected developing countries virtually belong to ASEAN group, and my country-Vietnam is a member of this group; therefore they are in common in many aspects of the economy such as structure, natural conditions and the speed of growth, etc.2 RESEARCH OBJECTIVES AND RESEARCH QUESTIONS The core objective of the paper is examining the effects of inflation on economic growth in the selected Asian countries. At the same time, the paper tries to u n d e r s t a n d how inflation will affect economic growth differently between developing countries in the sample.
Furthermore, the study also tests whether thresholds remain in the relationship between inflation and economic growth or not and how the thresholds obtained in the relationship are different between the countries. Last but not least, based on the results, the paper will recommend the relevant policies for economic development in Vietnam.