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The Relationship between Money Supply and Inflation: a Restatement

Author: ZuoQiong
Tutor: LiBaoRen
School: Beijing Technology and Business University
Course: Quantitative Economics
Keywords: money supply inflation ECM threshold cointegration
CLC: F822.2
Type: Master's thesis
Year: 2012
Downloads: 36
Quote: 0
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Abstract


After the2008price level rose, today China is facing the trend of rising price, inorder to curb the rapid rise in price level, the Chinese People’s Bank raise the statutorydeposit reserve ratio continuously. Price increases are caused by many factors, one ofwhich would point to the excess money supply. China’s money supply for many years isgreater than nominal GDP, coupled with China in2008in response to the internationalfinancial crisis with the appropriate monetary policy is bound to rise in the price level tosome degree. However, with the rapid increases in money supply, there was nohyperinflation happened, and quantity theory of money doesn’t seem to hold up. So thispaper researches the relationship between money supply and inflation, and thendetermines whether there is a link between them.In this paper, we use quarterly data which from the first quarter of1994to the firstquarter of2011to study the relationship between the growth of money supply andinflation, based on the linear cointegration model and the threshold cointegration model.From the result of linear cointegration model, we found that only the growth of M0andinflation has cointegration relationship, and there is no linear cointegration betweeninflation and the growth of M1and M2. While the result of threshold cointegrationmodel indicate that the growth of M0, M1and M2all of them have thresholdcointegration relationship with inflation, and the mean reversion process of moneysupply and inflation is non-uniform and asymmetric due to the value of threshold, andthe adjustment process is not continuous. So there is a relationship between inflation andmoney supply, and the growth of money supply will naturally be reflected in changes inthe price level when the deviation of these two variables beyond certain extent.According to the relevant conclusions and policy recommendations are given.

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CLC: > Economic > Fiscal, monetary > Currency > China's currency > Money management and circulation
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