Analysis of Equilibrium Relationship among Government Budget Deficit, Money Supply and Inflation in Ethiopia: Co-integrated VAR Analysis Approach

Abstract

 This study attempted to provide empirical evidences for causal long‐term relationship between budget deficit, broad money supply and inflation in Ethiopia. For this purpose, the study employed co-integrated VAR or vector error correction (VEC) model approach by using annual time series data over 1975-2012. The study also investigated direction of causality by using Granger causality test. Parameters of the system were estimated by using Johansen estimation approach. The results show that positive causal relationship between money supply and inflation both in the short and long run. It also shows that budget deficit affects both money supply and inflation in the long run. However, this is not conclusive by taking into account granger causality test. But both money supply and inflation do not Granger cause government budget deficit.