Econometrics report factors affecting inflation rate

Trang 4 TABLE OF CONTENTCHAPTER 1: INTRODUCTION5CHAPTER 2: LITERATURE REVIEW7Inflation 7Factors affecting inflation rate 82.1 Unemployment rate 82.2 GDP Growth rate 82.3 Local exchange r

FOREIGN TRADE UNIVERSITY FACULTY OF INTERNATIONAL ECONOMICS

-*** -ECONOMETRICS REPORT

FACTORS AFFECTING INFLATION RATE

Instructor : PhD Đinh Thị Thanh Bình

Course :KTE309E(GD1-HK1-2223)CTTT.1

Ha Noi, October 2022

GROUP MEMBERS

Under the study of econometric models, the article investigates the effect of the unemployment rate, GDP growth rate, local exchange rate, and production price index (PPI) as factors impacting a country’s inflation When prices for energy, food, commodities, and other products and services rise during this time, the entire economy suffers Inflation affects the cost of living, the cost of conducting business, borrowing money, mortgages, corporate and government bond rates, and all other aspects of the economy The researcher used data collected on each variable from different nations to operationalize the volatility in the inflation rate This study, which incorporates data from estimated models, regression analysis, and diagnosing and addressing problems on the platform of STATA software, indicates that all four factors have a positive correlation with the inflation rate However, the finding also reveals that the unemployment rate is incompatible with economic theory.

Keywords: Inflation rate, regression model, coefficient

2.4 Describe the correlation between the variables 18

1.3 Describe and explain the variables used in the regression model 21

4.1 Testing statistical significance of regression coefficients 27

4.3 Testing the significance of the model with economics theories 28

5.1 Meaning of estimators of regression coefficients 30

5.2 Determination coefficient (R-squared) 31

CHAPTER 1: INTRODUCTION

In terms of economics, inflation is defined as a rise in the general level of prices ofgoods and services in an economy over a period of time When the price level increases,each unit of currency buys fewer goods and services In other words, it can be said thatinflation is a sustained rise in the general price level The general price level is a valuethat reflects the overall price level for goods and services in an economy at a particulartime A country's economic development as well as the nation itself may be negativelyimpacted by inflation in numerous ways A high inflation rate will increase the living costand the living standards of people in a particular country

One of the most significant macroeconomic variables, and one that economicfactors, including the government, fear the most since it can have a negative impact onthe distribution of income and the structure of production costs, is inflation Additionally,broader repercussions like instability, economic expansion, deteriorating competitiveness,interest rates, unequal income distribution, and unemployment are getting worse Some ofthe nations that have experienced hyperinflation have demonstrated that low inflationdoes not promote economic growth but rather social and political unrest

It may be claimed that over the past few years, literally every nation on earth hasexperienced inflation There are numerous elements that can be employed to explain thisglobal phenomenon Either external or economic causes are at blame for this issue

This research paper will be organized as follows:

● Chapter 1: Introduction

● Chapter 2: Literature review

● Chapter 3: Research methodology and Econometrics model

● Chapter 4: Quantities tests

● Chapter 5: Conclusion

Although all the data and information are gathered as well as analyzed carefully,there are still some mistakes in the report due to a lack of practical knowledge Our team

is looking forward to receiving feedback from Ms Dinh Thi Thanh Binh so that we couldcomplete the research thoroughly

Also, we would like to thank Ms Dinh Thi Thanh Binh for the meticulousinstruction during the course We appreciate everything you have taught us, and wepromise to put out our best effort in this report and on the final exam

CHAPTER 2: LITERATURE REVIEW

1 Inflation

The overall increase in goods prices over the past few decades has been the primary issuefacing the global economy There were major distortions in the monetary, economic, political,and social environments as a result of the pressure brought on by rising prices Inflation isdefined as an increase in prices accompanied by a decrease in the value of money Hamilton(2001) said that inflation has been described as an economic situation when the increase in themoney supply is "faster" than the new production of goods and services in the same economy.Because it has the potential to negatively impact the structure of production costs and the level ofwelfare, inflation is one of the most significant macroeconomic variables and the one thateconomic actors, including the government, fear the most Inflation consists of, first, inflationdue to a lack of goods (natural inflation) and second, inflation because of human error caused bycorruption and poor administration, excessive tax policies which implicates burden of farmersand amount of excessive money

Inflation can be caused by excess/pull request (liquidity/money/currency) occurs due toexcessive total demand which is usually triggered by a flood of liquidity in the market resulting

in a high demand and trigger changes in the price level Increasing the volume of the medium ofexchange or liquidity associated with the demand for goods and services resulting in increaseddemand for factors of production The increasing demand for production factors causing prices torise While inflation insistence costs (cost push inflation) occurs due to the scarcity of productionand/or also include the scarcity of distribution The lack of launch of distribution flow or thereduction of production provided from the average normal demand could trigger a price increase

in accordance with the legal validity of the demand - supply

Inflation is the main factor of economic crisis, discourages investments and determinesthe migration of capital to other countries or real estates The broken equilibrium created byinflation strongly affects the decisions of the private sector to invest or develop, with the finaleffects in decreasing production and stagnation The wider effects such as instability, economicgrowth, the declining competitiveness, the interest rate, uneven income distribution andunemployment are increasing Some of the countries that have experienced hyperinflation

showed that poor inflation would lead to social and political instability, and did not createeconomic growth.

2 Factors affecting inflation rate

The determinants of inflation are very much important in building economic forecasts inplanning models and in several sectors although the factors change from country to countryinstead of some general variables Even the relationship changes from one period to anotherwhich was found in many econometric studies Those factors are very diverse and action into thenational economy and from external sources From the large number of known inflationinfluence factors, we tried to endeavor to locate some determinants of inflation in some countriessuch as Unemployment rate, GDP growth rate, Local exchange rate, and Producer Price Index

2.1 Unemployment rate

When there is a greater demand for labor than there are available positions, economistsrefer to this scenario as unemployment The relationship between unemployment and inflationhas historically been inverse One causes the other to fall when it rises and vice versa To preventoverstimulating or excessive slowdown of the economy, governments often rely on monetary andfiscal policy It makes sense that these two things are connected When unemployment is low,there are more jobs needed than there are workers to fill them Simply said, there are more openpositions than there are open positions On the other side, when unemployment increases, thereare far more job seekers than there are open positions This is so even while more people wish tofind employment, few firms are really employing

2.2 GDP Growth rate

Gross domestic product (GDP) is the total monetary or market value of all the finishedgoods and services produced within a country’s borders in a specific time period As a broadmeasure of overall domestic production, it functions as a comprehensive scorecard of a givencountry’s economic health The calculation of a country’s GDP encompasses all private andpublic consumption, government outlays, investments, additions to private inventories, paid-inconstruction costs, and the foreign balance of trade (Exports are added to the value and importsare subtracted)

GDP Growth Rate is also known as the Economic Growth Rate, and it measures the change inthe GDP of the country in comparison to an earlier period The amount of change is measured inpercentage (%), which serves as a determinant of economic health in the country and the possiblegrowth in the future The GDP of a certain period, when set against another, can show acomparison that can be measured using the given formula:

Economic Growth = (GDP2 - GDP1) / GDP1The result is expressed in a percentage If the result is positive, it means the economy isgrowing by the said percent If the growth rate is 2 percent from the previous quarter to now, itmeans that the economic activity has risen by 2%, either due to increased Governmentexpenditure, higher retail consumption or in exports and imports

2.3 Local exchange rate

An exchange rate is a rate at which one currency will be exchanged for another currencyand affects trade and the movement of money between countries Exchange rates are impacted byboth the domestic currency value and the foreign currency value The exchange rate between twocurrencies is commonly determined by the economic activity, market interest rates, grossdomestic product, and unemployment rate in each of the countries Commonly called marketexchange rates, they are set in the global financial marketplace, where banks and other financialinstitutions trade currencies around the clock based on these factors Changes in rates can occurhourly or daily with small changes or in large incremental shifts Exchange rates can befree-floating or fixed A free-floating exchange rate rises and falls due to changes in the foreignexchange market A fixed exchange rate is pegged to the value of another currency

2.4 Production Price Index (PPI)

The producer price index (PPI) measures the average change over time in the pricesdomestic producers receive for their output It is a measure of inflation at the wholesale level that

is compiled from thousands of indexes measuring producer prices by industry and productcategory The PPI measures inflation (or, much less commonly, deflation) from the perspective ofthe product manufacturer or service supplier The price trends for producers and consumers areunlikely to diverge for long since producer prices heavily influence those charged to consumers

and vice versa In the short term, inflation at the wholesale and retail levels may differ as a result

of distribution costs, as well as government taxes and subsidies The PPI is used to forecastinflation and to calculate escalator clauses in private contracts based on the prices of key inputs

It is also vital for tracking price changes by industry and comparing wholesale and retail pricetrends

3 Research overview

3.1 Published relevant studies

A study by Y Yolanda (European Research Studies Journal Volume XX, Issue 4B, 2017): Analysis of Factors Affecting Inflation and its Impact on Human Development Index and Poverty in Indonesia

This study was conducted to determine the factors that influence inflation and how theeffect of inflation on the Human Development Index (HDI) and poverty in Indonesia for theperiod 1997 up to 2016 In determining the factors influencing inflation, they are based on thetheory of demand-pull inflation and supply-side inflation, then conduct research on those factorsthat are Bank of Indonesia (BI) rate, Money Supply, exchange rate, oil prices, and the price ofgold This study used secondary data with a purposive sampling method to discuss 3 regressionmodels Model 1 is the relationship between BI Rate, Money Supply, World oil price, and goldprice with inflation, on the other hand, inflationary relationship with HDI and Poverty inIndonesia The findings reveal that the variable BI rate, Exchange rate, World oil Price and GoldPrice to Inflation is positive and significant While the Variable Amount of Money Supply toinflation is significant and negative Model 2 refers that inflation has a significant and positiveeffect on HDI and model 3 refers that inflation has a significant and positive effect on poverty inthe long term

The analysis's findings demonstrated that while the exchange rate is not a factor in therate of inflation, other variables such as the money supply, oil price, and gold prices have somepositive and significant effects on the level of inflation

According to these results, inflation affects all economic activity and is a disease of theeconomy In accordance with additional study findings, the variables under investigation have a

considerable impact on the rate of inflation, therefore the government may utilize these findings

to make decisions about its monetary and fiscal policies

A study by Dr.Debesh Bhowmik (International Journal of Scientific and Research Publications, Volume 5, Issue 2, February 2015): An Econometric Model of Inflation in India

The article showed that the inflation model in India is cointegrated in the order I(1) whenGDP growth rate, degree of openness, money supply growth rate, Rupee exchange rate inrelation to the US dollar, budgetary deficit as per percent of GDP, the interest rate (lending rate),and the price of crude oil US$/barrel are all taken into account In order to conduct the abovedata, the author applied cointegration and VECM methodology to relate growth of ConsumerPrice Index From 1970 until 2013, the Johansen cointegration test revealed that: according totrace data, there is one cointegrating vector and according to λmax statistics, there are twocointegrating vectors The VECM demonstrated that the inflation rate is related to interest rates.Rate with a one-period lag and the prior period's inflation rate linked with the pace of GDPgrowth and the expansion of the money supply significantly The VECM demonstrated that theinflation rate is related to the interest rate with a one-period lag, and the prior period inflationrate is linked with the pace of GDP growth and the expansion of the money supply significantly.The same conclusion was reached in the VAR model, however in the double log linear model, a1% increase in CPI each year reduced the growth rate of GDP in India by 0.058% per yearbetween 1961 and 2011 According to VECM, the calculated equation 1 adjusts its inaccuracy by23%, whereas equation 2 adjusts by 14% Inside equations 3 and 7, respectively, by 34% and71% within one year, while other formulae alter insignificantly

As stated by Dr.Debesh Bhowmik, with the econometric model concerned, the policyimplications of this econometric model should focus on optimal monetary policy, flexibleinterest rate policy, and obtaining greater growth rates, which may be used to reduce inflation inthe long run Furthermore, oil price stability and currency rate stability should be importantpolicy objectives for controlling inflation in India One limitation in the research that could bementioned is that it only studies macro econometric models of inflation whereas microdeterminants have a lot to concern

A study by Falnita, Eugen and Sipos, Ciprian (Munich Personal RePEc Archive Paper; No.2011473; 2008): A multiple regression model for inflation rate in Romania in the enlarged EU

This paper necessitates the development of a model that studies the trend of theinflationary process as a result of the most significant influence factors, such as the labor market,the Romanian Leu exchange rate, interest rates, the Production Price Index (PPI), MonetaryPolicy - Broad Money (M2), and Non-government Credit The author initially examines thesecomponents using the one-factor regression model to evaluate whether they are statisticallysignificant or not by looking at the Multiple R and estimated coefficients as well as utilizing theF-test and t-test As a result, the CPI (inflation) has strong links with all of the above All of thesefactors are taken into account when developing traditional multiple regression models withstandard parameters for Romania in the larger European Union In this section, the authordiscusses and interprets the calculated coefficients (both positive and negative) Taking intoaccount all of the influencing elements included in the multiple regression model, the evolutions

of CPI and model-based anticipated CPI are provided, demonstrating the greater predictability ofinflation rate in the recent periods extremely near to or following membership to the EuropeanUnion The author continues by suggesting that after Romania joins the European Union,beneficial improvements in trade and pricing levels may occur

One important weakness of this study is its small sample size, with just 29 monthlyobservations after correcting for endpoints, suggesting that the results may have limitedstatistical power The second issue is a lack of precise hypotheses and diagnostic tests, as well assolutions to probable problems This can pose significant dangers since a country's economicpolicy making and the development of economic theory both rely on empirical analysis fordirection and sustenance As a result, more systematic testing of empirical models should andmay significantly enhance the quality of recommendations received from this appliedeconometric research

3.2 Research gap

Despite mentioning the factors that determine inflation, Dr.Debesh Bhowmik's studymakes no reference to how these factors actually affect the inflation rate It just clarifies the

changes of CPI and GDP brought on by those elements This leaves the study's conclusion quiteunclear and ambiguous.

The other two studies, which are by Y Yolanda, and by a group of two authors FalnitaEugen and Sipos Ciprian, are all conducted with outdated data and information To be morespecific, while the research of Y Yolanda was conducted in 2017, the other one has the latestdata in 2007

Moreover, those three studies examine the inflation data in separate countries over

different periods of time This causes some conflict and inconsistency in the range of influencingfactors and how they make changes on inflation

CHAPTER 3: RESEARCH METHODOLOGY AND ECONOMETRICS MODEL

1 Research hypothesis

The study team discovered that, as previously noted, there are still gaps in the hypothesesand past investigations As a result, the team would like to present further research on thevariables influencing inflation rates in 14 different nations From a preliminary analysis, the maininfluence factors of the inflation rate in those countries are the following independent variables:GDP Growth Rate, Local Exchange Rate, Production Price Index (PPI), and UnemploymentRate The inclusion of a representative element of the number of nations input into the model,rather than focusing on just one nation, is novel in the study, as is diagnostic testing of the model,which was rarely done in earlier studies

2 Establish theoretical model

2.1 Methods of data collection and processing

a Data collection method

To run the model and make this report, our team collected secondary data samples from

178 observations of GDP growth rate, local exchange rate, production price index (PPI), andunemployment rate from 14 countries to observe the influence of those factors on inflation from

2010 to 2021 The model's data is panel data, collected by statistical methods with high-precisiononline data sources which are World Bank, OECD, Federal Reserve Bank of St Louis, Statista,WorldData, and MacroTrends

b Data processing method

The data were chosen by calculating the ordinary least squares (OLS), coefficients andthe statistical significance of the regression coefficients The form of ordinary least squares isattributed to Carl Frieddrich Gauss, a German mathematician Under certain hypotheticals, theform of least places has some captivating statistical lots that have made it one of the mostheavy-duty and popular forms of retrogressions analysis, for it has a non-casual directdispassionate estimator

To summarize and finalize this work, our team employed understanding of econometrics,macroeconomics, and quantitative approaches with the use of STATA software, Microsoft Excel,and Microsoft Word.

2.2 Model of theory

Our team decided to use multiple regression analysis to find out the dependence of the

dependent variable on inflarate for 4 independent variables including gdpgrr, lexchrate, urate, and ppi.

Lninflarate =β + gdpgrr + lexchrate + lnurate + lnppi +

The table below details our group report utilizing the variation measuring approach.Furthermore, we acknowledge that this sample size is large, objective, and trustworthy enough tosupport the development of a regression model.

inflarate Inflation rate % The GDP deflator annual year World Bank ;

World Datagdpgrr GDP growth rate % The year-over-year change in a

country's economic output tomeasure how fast an economy

The Period average rate andusage rate, including allnecessary and attendantcharges, imposed for basiclocal exchange service tocustomers

World Bank

urate Unemployment

Rate

% The percentage of the labor

force without a job in a year

World Bank

ppi Producer Price

Index (2015 =

100)

% The average change over time

in the selling prices received bydomestic producers for theiroutput

Economy.com ;OECD; Statista

; FederalReserve Bank

of St Louis

The dimension of data collected covers 14 different countries of different continents andcurrencies, consisting of Vietnam, Thailand, China, Colombia, Korea, USA, Russia, Germany,

France, South Africa, Japan, Australia, Norway, Poland, and Turkey, and the time span rangesfrom 2010 to 2021.

With the data of the table, the number of observations has increased and updatedcompared to the previous published table

b Description of statistics

To provide the best overview as well as initiate some initial judgments, our team willdescribe the data before going deeply in the data analysis Through this description, our team canpredict some errors that may occur when running the model due to the lack of data

We first use “GEN” command to generate variables “inflarate”, “gpdgrr”, “lexchrate”,

“urate”, “ppi”, then running the command “SUM” to get details about all the variables, includingtheir Obs (number of observations), Mean (average value), Std.Dev (standard deviation), Min(minimum value), Max (maximum value) in the table below:

Table 1.1

From table 1.1, we have:

● “inflarate” variable represents Inflation rate, unit: %, has 178 observations, mean

3.21809, standard deviation 3.365785, minimum -0.9, maximum 19.6

● “gdpgrr” variable represents GDP growth rate, unit: %, has 178 observations, mean

2.912865, standard deviation 3.082772, minimum -7.9, maximum 11.2

● “lexchrate” variable represents Local exchange rate, unit: LCU per US$, has 178

observations, mean 1719.081, standard deviation 5393.753, minimum 0.97, maximum23208.37

● “urate” variable represents Unemployment rate, unit: %, has 178 observations, mean

6.718595, standard deviation 5.51508, minimum 0.3, maximum 28.8

● “ppi” variable represents Producer Price Index, unit: %, has 178 observations, mean

104.8722, standard deviation 20.99798 , minimum 67.1, maximum 298.2

Based on the model, our team will use the Gen command to get the natural logarithm of the allvariables and name the variable respectively “lninflarate”, “lngdpgrr”, “lnlexchrate” “lnurate”,

“lnppi” as Table 1.2.

Table 1.2

As can be seen from the table, the number of observations reduces in comparison to Table 1.1.

This is due to the fact that there are some negative observations which are not included

2.4 Describe the correlation between the variables

Running the command “CORR” to analyze the correlation between the variables, wehave the table of correlation as below: