Inflation, Exchange Rate, and Money Supply Nexus in Tanzania:

Application of the ARDL Bounds Testing Approach

Abstract

The interrelationships among inflation, money supply, and exchange rates are a widely researched area. However, the findings and conclusions are yet contentious hence, our knowledge of the nexus among the variables remain elusive. Using annual time series data (1970-2015) from Tanzania, the study examines the nexus among inflation, money supply, and exchange rate. Using the ARDL bounds testing approach, the study reveals the existence of a long-run equilibrium relation among inflation, money supply, and exchange rates. Furthermore, money supply and exchange rate also have a short-run dynamic causal effect on inflation. The estimated error correction coefficient of -0.73 suggests about 73 percent of the disequilibrium is corrected within a year. This speed of adjustment towards the equilibrium is quite high. Study’s findings support the contention that inflation is a monetary phenomenon in Tanzania. Similarly, the exchange rate pass-through is also a very notable phenomenon. In light of the findings, proper monetary policies such as tightening money supply is required to continue keeping inflation low and stable.