A Model of Inflation for Bangladesh

Abstract

The study formulates a model of inflation for Bangladesh using a detailed approach that concentrates both on aggregate supply and demand. The final model consisting of nine semi-reduced from equation is empirically tested. The empirical test of the inflation equation of the model shows that the significant variables for inflation are agricultural and important bottlenecks, government expenditures, rate of interest, wage rate, bank credit and expected inflation. The signs of the coefficient of agricultural bottlenecks, rate of interest and credit show the dominance of the supply-side cost-push effect while the signs of the coefficients of import bottlenecks, government expenditures, wage and expected inflation show the dominance of the demand side effect.

The policy shocks applied to the model reveals that devaluation reduces output and investment. Reduction in bank credit reduces output and investment and export while increasing prices. A simultaneous increase in exchange rate and decrease in bank credit reduces output, export and investment, and increases price inflation or in effect leads to stagflation.