Inflation and economic growth in Sri Lanka: an ARDL bound testing approach

Abstract

Nowadays, number of researchers empirically confirmed that the inflation and economic growth equally move together in negative liaison. But, in Sri Lankan context, this relationship was inferentially not proofed. Therefore, this study was empirically going to test this relationship. The objective of this study was to test the long run nexus between the inflation and economic growth in Sri Lanka. To test this objective, this study used the annual time series data during the periods of 1970 to 2014. And, the multiple regressions model was employed with support of the Auto Regressive Distributed Lag (ARDL) technique which was newly introduced by Pesaran et al., (2001). In this study, the economic growth was used as dependent variable and the inflation rate, exchange rate, and money supply were considered as independent variables. In these independent variables, the inflation rate was considered as key variable and others were exercised as control variables. Based on the ARDL technique, this study selected the lag- 2 model for interpreting the findings which was selected by Akaike Info Criterion (AIC) and Schwarz Bayesian Criterion (SBC). Furthermore, this study fitted a long run nexus model using ordinary least square method with support of ARDL technique. Based on this model, this study confirmed that both the inflation and the economic growth maintain the long run nexus between them with appearing of negative sign. Therefore, this study recommends that, when the development policy makers frame the development policy they should consider this nexus.