MSc Thesis By Temesgen Benti.pdf Masres

78 Pages·2014·1.08 MB·English

JIMMA UNIVERSITY
SCHOOL OF GRADUATE STUDIES

DEPA RTMENT OF ECONOMICS

IMPACTS OF MONETARY POLICY SHOCKS ON THE ETTHIOPIAN ECONOMY:

By:
Temesgen Benti
June, 2014
Jimma
JIMMA UNIVERSITY
SCHOOL OF GRADUATE STUDIES

IMPACTS OF MONETARY POLICY SHOCKS ON THE ETHIOPIAN
ECONOMY

A Thesis Submitted to School of Graduate Studies in Partial Fulfillment of the
Requirements for the Degree of Masters of Science in Economics
(Macro Economic Policy Analysis)

June, 2014
Jimma
JIMMA UNIVERSITY
SCHOOL OF GRADUATE STUDIES

IMPACTS OF MONETARY POLICY SHOCKS ON THE ETHIOPIAN
ECONOMY

By:
Temesgen Benti Bange

Approved by the Board of Examiners:

________________________ _______________________
Main Advisor Signature

________________________ _________________________
Co Advisor Signature

_________________________ ________________________
Examiner (External) Signature

________________________ _ ________________________
Examiner (Internal) Signature
DECLARATION

I, the undersigned, declare that this thesis is my original work and has never been presented for a
degree in any other university and that all sources of materials used for this thesis have been duly
acknowledged. The advisors and examiners’ comments have been duly taken in to account.

Declared By: Confirmed By:

Name Temesgen Benti Bange________ Name:_______________________

Signature:_____________________ Signature:______________________

Date:_19 June,2014____________________ Date:_______________________

Place and Date of Submission:____________________________
Acknowledgements
This part is perhaps the only section I was able to write with relatively little support from others.
Above all, I praise my God for being with me whenever I needed him in that not very
comfortable part of my life. My thanks also goes to my Advisor, Dr. Zenebe G/Egziabiher, for
his comments and, for bearing with my frequent delays in submitting the different parts of this
thesis. I am eternally grateful to one of the nicest people and my true friends Iever came across in
my life,Yekin Ahimed, Kitessa Delessa,Kenenisa Lemmi,Zewude Adane, ,Haji Girma,Nasir
Muzeyin,Shibru Tesema , Tarik Buzuneh and Achalu Barecha for their uninterrupted supply of
relevant materials and an excessively kind treatment that they allowed me to enjoy.

I am also greatly indebted to Bikiltu Teshale, who showed me eternal love and made life easier
by motivating me. I really don’t know what I can do without her. I don’t have words to thank the
person I love most, Hashim Tikuye, who stood beside me during those bad times to continue my
career . I did enjoy very much the company of my colleagues at JU. I had such a great time,
which will always be in my memory. I owe them a lot for making life more interesting.

I am highly indebted to my co-advisor Mr Yeshambel Gizachew for his valuable intellectual
comments, supply of the necessary materials and moral support. Mr Yeshambal, I will not pass
without mentioning your brotherhood approach throughout my time working with you.
TABLE OF CONTENTS
Contents page
Acknowledgements……………………………….…………………………………….…….….I
Abstract………………………………………………………………..…………...………..........II
Table of contents ………………………………………………………………………...………III
List of Tables and Figures……………………………….………………………………….……V
cronym……………………………………………………..………………………..……...….VI
CHAPTER ONE
INTRODUCTION………………………………….…………………………………..……,…...1
1.1 Background of the study……………………………………………………..………………..1
1.2 Statements of the Problems………………………………………………………………...…2
1.3 Objectives of the study…………………………………………………..………..…………..4
1.4 Significance of the study………………………………………………………..….………....4
1.5 Scope and Limitations of the study……………………………….…………………….…….5
CHAPTER TWO
LITRATURE REVIEW………………………………..………………………………..…….….6
2.1 Theoretical Literature Review…………………………………………………………….….6
2.2 Empirical Literature Review…………………………………………………………….......13
CHAPTER THREE
MODEL SPECIFICATION AND RESEARCH METHODOLOGY…………………………..15
3.1Econometric Model Specification……………………………………………………….…..17
3.2 Sources of data……………..…………………………………………………………….….19
3.3 Method of data Analysis and Estimation techniques…………………….…….……...…….20
3.3.1 Vector Autoregressive Models…………………………………………………….…..20
3.3.2 Unit Root…………………………………….…….…………..……………………….21
3.3.3 Johansen Cointegration Test………………………………………………………..…..23
CHAPTER FOUR
ESTIMATION AND DISCUSSION OF RESULTS………………………………..………….27
4.1 Unit Root Tests……………………………………………………………..……….………27
4.2 Lag Length Selection………………………………………………………...…………..29
4.3 Johansen co-integration test( Estimation of long run Relationship)………………..………..30
4.4 Vector Error Correction Model…………………………………………….………...32
4.5 M2 Channel of Monetary policy (Model 1)……………..………….………...…………..….33
4.6 Exchange Rate Channel of Monetary policy (Model 2)…………………….…….…………36
4.7 Interest Rate Channel (Model3)…………….……………………………………...…..........40
4.8 Credit Channel………………………………………………………………………..……..42
4.9 Granger-Causality Test……………………………………………………………................44
4.9.1 Granger Causality Test In VAR for M2 Channel of Monetary Policy……………..…44
4.9.2 Granger Causality Test In VAR for Exchange Rate Channel…………………...…….45
4.9.3 Granger Causality Test In VAR for Interest Rate Channel……………………....……46
4.9.4 Granger Causality Test In VAR for Credit Channel…………………………….…….47
4.10 Impulse Response Functions(IRFs)..………………………………………………………47
CHAPTER FIVE
CONCLUSION AND POLICY RECOMMENDATION………………………………………49
5.1 Conclusion ………………………………………………………………………...………..49
5.2 Policy Recommendation……………………………………………….……………………51
REFERENCES……… ….……………………………………………………………………..53
APPENDICES…………………………………..………………………………………..…….56
LIST OF TABLES AND FIGURES

Figure 2.1 Keynessian IS-LM and AD-AS Model……………………………………………….8
Table 4.1 The result for the Augmented Dicky- Fuller(ADF) and
Phillips-Perron (PP) Unit Root Test at First Difference….…………………….......….….……..28
Table 4.2 VAR Lag length selection Criteria……………………………………………………29
Table 4.3 Results of Johansen cointegration Test……………………………………………….31
Table 4.4 ECM Estimate result for M2 Channel………………………………….………….….34
Table 4.5 ECM Estimate result for Exchange Rate Chanel...…………………………………....37
Table 4.6 VECM Estimate result for Interest Channel……………..……………………………41
Table 4.7 Difference VAR estimates results for exchange channel…………….….……………43

Table 4.8 Granger-Causality Wald Test in VAR of M2…………………………………………45

Table 4.9 Granger-Causality Wald Test in VAR of Exchange Rate…………………………….46

Table 4.10 Granger –Causality Wald Test in VAR of Interest Rate………….…….…………...47

Table 4.11 Granger Causality Wald Test in VAR OF Credit Channel…………………………..48
ACRONYMS

ADF Augmented Dicky Fuller

AIC Akaike Information Criteria

CPI Consumer Price Index

CSA Central Statistics Authority

DF Dicky Fuller

DR Discount Rate

ECM Error Correction Model

FEVD Forecast Error Variance Decomposition

GDP Gross Domestic Product

GDPD Gross Domestic Product Deflator

GNP Gross National Product

HIC Hannan-Quinn Information Criteria

IMF International Monetary Fund

Ir Interest Rate

LDCs Least Developed Countries

MoFED Minstry of Finance and Economic Development

NBE National Bank of Ethiopia

OECD Organization for Economic Cooperation and Development

OMO Open Market Operation

PP Philips Perron

RR Reserve Requirement

VAR Vector Autoregressive

VECM Vector Error Correction Model
Abstract
This thesis analyses the impacts of monetary policy shocks on Ethiopian macro economy, and the
channels through which these shocks will be transmitted to the overall economy using annual
data running from 1981/82-2011/12.In order to achieve this objective; unit roots (ADF and PP),
cointegration (Johansen procedure), Vector Autoregressive (VAR), Error correction model and
Granger Causality (Wald Coefficient restriction test, X2 and F-statistics) are carried out. The
results of the unit root tests show that the series of interest are stationary in first differences.
Cointegretion and causality between the variables are tested and compared using tri-variate
vector Autoregressive model (VAR). The results of co-integration tests on the tri-variate models
show that two Granger-causality alternative models (VAR in first difference and Error
Correction Models) fit for this study. In both types of models, Granger-causality (unidirectional
or bidirectional causations) between monetary policy instrument on one side and price and
economic growth on the other side are tested using Chi – square and F – statistics from Wald
coefficient restriction test. The results of cointegration test shows that there is a long run
equilibrium relation between the variables. The error correction model and the Wald Granger
causality indicates the existence of short run bidirectional causality between money supply and
price level, and unidirectional causation running from output to price level that shows that price
level is a monetary phenomenon in the short run. Based on the short run causation results, all
the foregoing discussion leads to put exchange rate as an important channel of monetary policy
instrument to be considered as a supplementary, through which shocks in monetary policy
transmits to the real economy.