Asymmetric impact of real exchange rate on inflation in Ethiopia: a non-linear ARDL approach

Abstract

A surge in inflation for the last decade has been a top agenda of political and economic debate in Ethiopia. The monitory authority of the country has regularly devalued Ethiopian birr to stabilize the inflation and stimulate exports. Whether this has indeed stabilized inflation and increased export earnings is an issue of debate. This study investigates the asymmetric impact of real exchange rate on inflation for period 1982–2019. The non-linear ARDL bounds test is used to test the presence of long-run co-integrations. Long- and short-run estimations were done based on the non-linear ARDL error correction methodology. The result of the study indicated that the real exchange rate has asymmetric effects on inflation in short- and long-run. The imbalance in real exchange rate (depreciation and appreciation) causes a surge in inflation in the long-run. The policy implication of this study is that flexibility in exchange rate market should be planned to ensure price stability rather than following restrictive exchange rate policy.

Keywords:

• inflation
• real exchange rate
• non-linear ARDL
• Ethiopia

PUBLIC INTEREST STATEMENT

The aim of this study was to empirically test the asymmetric effects of the real exchange rate on inflation in Ethiopia. The results of the study revealed the asymmetric impact of the real exchange rate on short- and long-term inflation. In addition, the result of study clearly indicated that real exchange rate instability (depreciation and appreciation) has long-run inflationary effects. In the short-run, the money supply has a significant and positive effect on inflation. Non-linear ARDL approaches were used to analyze the data. The study suggests that flexibility in the exchange rate market should be planned to ensure price stability rather than following a restrictive exchange rate policy.

Disclosure statement

No potential conflict of interest was reported by the author(s).

Additional information

Funding

The author received no direct funding for this research.

Notes on contributors

Samuel Elias Kayamo

Samuel Elias Kayamo is a lecturer at Hawassa University, Ethiopia. He teaches Macroeconomics and Operational Research in Agricultural Economics. His research interests are Agricultural Economics and Environmental Economics such as analyzing the relationship between the real exchange rate and agricultural exports and inflation, waste management, climate change and valuation of environmental resources.