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Thesis Project

The Impact of Inflation on


Business and Trade: a case study
of Ghana and Canada
Prepared by:
Kris Rasmussen
Daniel Odei Tetteh
Supervised by:
Dr. Ian Robson
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
Submitted on:
July 24 2!!"
Acknowledgments:
Our #irst and #oremost than$s %o to the &lmi%hty 'od #or his prote(tion and
%rantin% us )isdom #or the (ompletion o# this thesis.
This thesis )ould not have been (ompleted )ithout the help o# these people:
*irst o# all )e )ould li$e to than$ our thesis supervisor Dr Ian Robson #or his
%uidan(e and dire(tion throu%hout this )or$. +e are also %rate#ul to Dr Klaus
Solber% #or his (ounselin% and dire(tion in #ormulatin% the thesis proposal.
Daniel Odei Tetteh )ants to than$ ,mmanuel O)usu-&#riyie o# .an$ o# 'hana
#or his immense support and (ounselin% also ,mmanuel Dod/i #rom 'hana
Statisti(al Servi(e #or helpin% me in the data (olle(tion and or%ani/ation. 0e also
)ants to than$ my dear )i#e )ho supports and en(oura%es him
Kris Rasmussen )ould li$e to than$ his #amily #or their support and advi(e )hile
)or$in% on this thesis.
*inally )e also )ant to than$ students in the 1.& Part-time #or their (riti2ue
(omments and su%%estions.
Kris Rasmussen
Daniel Tetteh
2
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
Abstract:
The thesis loo$s at the relationship bet)een in#lation interest rate e3(han%e rate
and 'DP #or a developed (ountry 45anada6 and a developin% (ountry 4'hana6.
Throu%h a detailed literature sear(h loo$in% at the e(onomies o# 'hana and
5anada as )ell as statisti(al analysis usin% least s2uares and re%ression models
the #ollo)in% 2uestions )ere addressed:
76 +hat is the impa(t o# in#lation on businesses and trade8
26 1ost businesses depend on loans to run their business operations. +hat
is the (orrelation bet)een in#lation and interest rate both in 'hana and
5anada8
96 0o) is in#lation a##e(tin% the e3(han%e rate development o# import and
e3port8 +hat is the e##e(t on businesses that depend mostly on imported
ra) material #or produ(tion8
46 0o) is monetary poli(y used in 5anada to (ontrol in#lation and ho) does
this (ompare to the poli(y bein% used in 'hana8
Kris Rasmussen
Daniel Tetteh
3
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
Table of Contents
Thesis Project.......................................................................................................................1
Acknowledgments:..............................................................................................................2
Abstract:...............................................................................................................................3
Table of Contents.................................................................................................................4
1Introdction........................................................................................................................!
1.1"ackgrond.................................................................................................................!
1.2Problem.......................................................................................................................#
1.3$bjecti%e.....................................................................................................................#
1.4&ele%ance....................................................................................................................'
1.!$tline.........................................................................................................................'
2(iteratre &e%iew...............................................................................................................'
2.1Inflation )efined.........................................................................................................'
2.2*easres of Inflation..................................................................................................+
2.3T,-es of Inflation.........................................................................................................
2.4Theories of Inflation....................................................................................................
2.!&easons to Control Inflation.....................................................................................13
2.#*ethods /sed to Control Inflation...........................................................................13
2.'Inflation and Interest &ates.......................................................................................1!
2.+01change &ate 2Trade3 and Inflation........................................................................1'
3The 0conomies of 4hana and Canada.............................................................................23
3.14hana5s 0conom,.....................................................................................................23
3.2Canada5s 0conom,...................................................................................................23
3.34ross )omestic Prodct 24)P3................................................................................23
3.4Interest &ate..............................................................................................................2!
3.!Inflation.....................................................................................................................2+
4Inflation Control in 4hana...............................................................................................2.
4.1&eglation.................................................................................................................2.
4.2Crrenc,....................................................................................................................36
4.37IPC Initiati%e..........................................................................................................31
4.48ood and "e%erages..................................................................................................32
4.!9on :8ood Inde1......................................................................................................32
4.#*one, ;--l,...........................................................................................................32
4.'4o%ernment 01-enditre..........................................................................................34
!*ethodolog, and 0stimation...........................................................................................3'
!.1*ethodolog,.............................................................................................................3'
!.20stimation.................................................................................................................3'
!.3(imitations of the *odels.........................................................................................43
#Conclsions......................................................................................................................44
';orces.............................................................................................................................4#
+A--endi1..........................................................................................................................4'
Kris Rasmussen
Daniel Tetteh
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The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
Introduction
1.1 Background
Developin% (ountries o#ten #a(e many e(onomi( issues as their e(onomi( and
politi(al systems %ro) and 'hana is no e3(eption to this. Sin(e 'hana de(lared
independen(e #rom .ritain in 7:;" there have been many (oups and
di(tatorships )hi(h resulted in a destabili/ed %overnment and e(onomy. In 7::2
the (ountry voted :2< in #avor o# a re#erendum )hi(h removed the ban on
opposition politi(al parties and paved the )ay to #ree ele(tions in 7::9.
Over this time 'hana=s e(onomy )as badly dama%ed. .e#ore independen(e it is
estimated that 'hana had rou%hly >S?4@7-million in reserves but by the mid-
7:A!=s these reserves )ere %one and 'hana )as havin% trouble meetin%
repayment plans to its (reditors. 1u(h o# these #unds )ere used on lar%e publi(
proBe(ts and poorly thou%ht out a%ri(ultural and industrial s(hemes and by the
mid-7:"!=s 'hana )as >S<7-billion in debt. &lso durin% this time in#lation )as
rampant )ith in#lation rea(hin% 7!!< in 7:"".
Sin(e ele(tions 2!!! John &. Ku##uor o# the Ce) Patrioti( Party 4CPP6 has been
president )hile in po)er he has )or$ed )ith the International 1onetary *und
4I1*6 and the .an$ 'roupDs International Development &sso(iation 4ID&6 to see$
debt relie# under the 0eavily Indebted Poor 5ountry 40IP56 pro%ram. This relie#
has allo)ed the %overnment to (ontinue )ith e(onomi( re#orms to improve the
(o(oa and mineral industries and try to address the in#lation issues that to this
day pla%ue 'hana.
The hi%h in#lation in 'hana is an issue #or individuals and businesses ali$e.
.et)een 2!!! and 2!!A in#lation has %one #rom a hi%h o# rou%hly 4!< in 2!!! to
a lo) 7!.;< in 2!!A. This in#lation (oupled )ith the 'hanaian ban$in% industry=s
relu(tan(e to issue lon% term loans or to #ollo) the (entral ban$s interest rate has
led to a number o# smaller businesses (losin% sin(e they are unable to raise
(apital to invest in their business.
5anada by (ontrast has a vastly di##erent politi(al and e(onomi( history. Sin(e
(on#ederation in 7@A" 5anada has had a stable parliamentary politi(al system.
Durin% this time 5anada=s e(onomy has developed and sin(e 7:"; 5anada has
been a member o# the '" 4no) '@6 as one o# the )orld=s leadin% industriali/ed
nations. 5anada=s in#lation has varied year to year pretty mu(h in line )ith that o#
other )estern industriali/ed nations.
Industries in 'hana are in %reat need o# #unds to e3pand and ma$e (apital
investments. Due to the hi%h lendin% rates in 'hana many (ompanies
parti(ularly the small industries are (losin%. The (entral ban$s interest rate is
stron%ly in#luen(e by in#lation and businesses are there#ore a##e(ted by hi%h
in#lation rates. Sin(e most (entral ban$s use interest rate to (ontro in#lation hi%h
in#lation leads to hi%h interest rates )hi(h in(rease the (ost o# borro)in%.
Kris Rasmussen
Daniel Tetteh
!
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
'ross Domesti( Produ(t 4'DP6 )hi(h measures the total output o# a (ountry=s
e(onomy is a##e(ted ne%atively i# pur(hasin% po)er is lo). Demand #or %oods
and servi(es de(reases as in#lation in(reases and this in turn redu(es
pur(hasin% po)er and lo)ers demand #or %oods and servi(es de(reasin% the
national output. .usinesses )hi(h produ(e those %oods and servi(es are
a##e(ted ne%atively and their outputs )hi(h #orm the national output de(reases.
Import and ,3port o# %oods and servi(es dominates )orld trade in the 27
st

(entury. Transa(tion o# trade is done in (urren(y. ,3(han%e rates play a $ey
role in )orld trade and this thesis try to study the in#luen(e o# in#lation on
e3(han%e rate. There are t)o type o# e3(han%e rate re%imeE these are the #i3ed
e3(han%e and the #loatin% e3(han%e. There is a stron% lin$ bet)een #i3ed
e3(han%e rate and lo) in#lation. This is be(ause the #i3ed e3(han%e rate
provides hi%hly visible dis(ipline and (ommitment. Over time (ountries tend to
abandon the #i3ed e3(han%e rate re%ime and adopted the #loatin% e3(han%e rate
re%ime. In#lation and #loatin% e3(han%e rate have a stron% relationship.
1.2 Problem
The purpose o# this thesis is to e3amine the impa(t o# in#lation on businesses and
trade. +e )ill study the impa(t o# in#lation on businesses and international trade
by doin% an analysis on 'hana 4a developin% e(onomy6 and 5anada 4a
developed e(onomy6.
1.3 Objective
This study is interested in ho) in#lation poli(y is used to (ontrol interest rate the
in#luen(e o# #loatin% e3(han%e rate on in#lation and ho) in#lation a##e(ts national
in(ome 4'DP6. This paper )ill also investi%ate the in#luen(e o# interest rateE
#loatin% e3(han%e rate and national in(ome 4'DP6 on in#lation.
Over the (ourse o# this thesis )e hope to ans)er the #ollo)in%:
+hat is the impa(t o# in#lation on businesses and trade8
1ost businesses depend on loans to run their business operations.
+hat is the (orrelation bet)een in#lation and interest rate both in
'hana and 5anada8
0o) is in#lation a##e(tin% the e3(han%e rate development o# import and
e3port8 +hat is the e##e(t on businesses that depend mostly on
imported ra) material #or produ(tion8
0o) is monetary poli(y used in 5anada to (ontrol in#lation and ho)
does this (ompare to the poli(y bein% used in 'hana8
Kris Rasmussen
Daniel Tetteh
#
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
1.4 Relevance
5ompanies depend on borro)in% to e3pand their business the %oal o# this study
is to establish the relationship bet)een in#lation and interest rate this )ill allo)
businesses to better plan. &lso as some businesses depend on imported ra)
materials #or their produ(tion and some businesses e3port many o# their
produ(ts the (orrelation o# in#lation and #loatin% e3(han%e rate )ill help them to
ma$e %ood de(isions.
1.5 Outline
The study )ill be stru(tured as #ollo)s.
The #irst se(tion (on(entrates on the introdu(tionE dealin% )ith the ba($%round o#
the study the obBe(tive o# the study and the relevan(e o# the study.
Se(tion t)o introdu(es in#lation theory the theoreti(al impa(ts o# in#lation and
brie#ly revie) methods used to (ontrol in#lation.
Se(tion three provides details on the e(onomies o# 'hana and 5anada.
Se(tion #our )ill dis(uss in#lation (ontrol in 'hana.
Se(tion #ive addresses the methodolo%y and estimation o# models.
The last se(tions )ill (on(entrate on #indin%s o# the study analysis and the
(on(lusions dra)n.
! "iterature #e$iew
2.1 Inflation Defined
The simplest de#inition o# in#lation is that in#lation is Ftoo mu(h money (hasin% too
#e) %oodsF
7
a more thorou%h de#inition ho)ever )ould be that in#lation is G&
persistent in(rease in the level o# (onsumer pri(es or a persistent de(line in the
1
'eor%e +. +ilson In#lation 5auses 5onse2uen(es and 5ures 7st ed. 4.loomin%ton IC:
Indiana >niversity Press 7:@26 7
Kris Rasmussen
Daniel Tetteh
'
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
pur(hasin% po)er o# money (aused by an in(rease in available (urren(y and
(redit beyond the proportion o# available %oods and servi(esH
2
.
+hatever the de#inition ho)ever the results are the same in#lation means that
over time a (onsumer or (ompany (an pur(hase less )ith their money. Over
time the (ost o# a %ood or servi(e )ill rise meanin% that the pur(hase po)er o#
the (onsumer or (ompany )ill be de(reased. *or e3ample i# the annual in#lation
rate is ;.!< a (ho(olate bar bou%ht today #or ?7.!! )ould (ost ?7.!; a year #rom
no).
2.2 ea!ure! of Inflation
In#lation (an be measured in a number o# )ays. The #irst )ay is by usin% the
5onsumer Pri(e Inde3 45PI6. The 5PI loo$s at the pri(e (han%es o# a Gbas$etH o#
(ommon (onsumer %oods and servi(es 4i.e. #ood (lothin% %asoline6. In the
>nited States this data is (omplied by the .ureau o# Iabor Statisti(s 4.IS6 and
released monthly. &s an e3ample the >S (ity data #or *ebruary =!" sho)s that
the 5PI has in(rease by !.;< over January and by 2.4< over *ebruary =!A
9
.
This measurement %ives a %ood vie) o# ho) the (osts o# %ood and servi(es are
(han%in% over time #rom the perspe(tive o# the (onsumer.
&nother measure that is used is the Produ(er Pri(e Inde3es 4PPI6. The PPI are a
set o# inde3es that measure the (han%e in sellin% pri(e that a produ(er is able to
%et #or a %ood or servi(e. In the >nited States this data is a%ain (olle(ted and
(ompiles by the .IS and published monthly. The inde3es are separated by
(ommodity and industry se(tor. Some o# the (ommodities (onsidered are:
#inished %oods intermediate %oods (rude %oods passen%er (ars %asoline and
pharma(euti(als. Ii$e)ise on the industry side some industries (onsidered are:
%eneral )arehousin% and stora%e ele(tri( po)er distribution %eneral medi(al
and sur%i(al hospitals and o##i(es o# la)yers.
In the lon% run the PPI and 5PI )ill sho) similar rates o# in#lation. These indi(es
ho)ever (an %ive an in#lated vie) o# the rate o# in#lation
4
. The 5PI #or instan(e
assumes that the same 2uantity o# produ(t is bou%ht by the (onsumer year over
year this i%nores the #a(t that as pri(es in(rease (onsumer pre#eren(e may
(han%e #or e3ample i# the pri(e o# bee# in(rease dramati(ally the (onsumer may
be%in to buy poultry instead meanin% that their #ood (osts mi%ht not be as hi%h.
*or this reason a third method is used to determine the rate o# in#lation. This
third measure is the 'ross Cational Produ(t 4'CP6 de#lator. The 'CP de#lator is
2
The &meri(an 0erita%e Di(tionary o# the ,n%lish Ian%ua%e. 4
th
ed. 40ou%hton 1i##lin 5ompany
2!!!6.
3
U.S. Department of Labor Bureau of Labor Statistics website
4
'eor%e +. +ilson In#lation 5auses 5onse2uen(es and 5ures 7st ed. 4.loomin%ton IC:
Indiana >niversity Press 7:@26 9@
Kris Rasmussen
Daniel Tetteh
+
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
a measure o# the (han%es in pri(es o# all #inal %oods and servi(es produ(ed. The
advanta%e that the 'CP de#lator measurement has over 5PI is that it (onsiders
all o# the #inal %oods and servi(es in the e(onomy )hile the 5PI only (onsiders
the %oods and servi(es in(luded in the Gbas$etH. &lso the 'CP de#lator uses the
(urrent year proportions meanin% that it ta$es into a((ount (han%es in demand
)hile the 5PI uses #i3ed proportions year over year.
2.3 "#$e! of Inflation
The main types in#lation that are typi(ally (onsidered are demand-pull in#lation
and (ost-push in#lation
;
.
!%&% 'emand(Pull Inflation
Demand-Pull in#lation des(ribes in#lation that o((urs #or the most basi( o#
e(onomi( reasons that is that pri(es #or a %ood in(rease be(ause demand #or a
produ(t e3(eeds supply. *or demand-pull in#lation to o((ur #ull-employment must
be in pla(e so that any in(rease in demand (annot be met simply by employin%
more resour(es to produ(e more o# a produ(t.
!%&%! Cost(Push Inflation
5ost-Push in#lation o((urs i# there is a drop in output o# a produ(t usually due to
an in(rease in (osts either throu%h in(reased produ(tion (osts or ta3es or
throu%h some other $ind o# adverse sho($ su(h as a supply shorta%e or a ra)
material. In this (ase the e(onomy )ill e3perien(e both hi%her pri(es and
shorta%es o# the produ(t.
2.4 "%eorie! of Inflation
,(onomists hold t)o sli%htly di##erent theories o# in#lation the Juantity Theory
and Institutional Theory. The 2uantity theory emphasi/es the (onne(tion bet)een
money and in#lation: the institutional theory emphasi/e mar$et stru(ture and
pri(e-settin% institutions and in#lation. There is a si%ni#i(ant overlap bet)een the
t)o theories but be(ause they (ome to di##erent poli(y (on(lusions it is help#ul
to (onsider them separately.
!%)% The *uantity Theory of +oney and Inflation
The 2uantity theory o# money (an be summed up in one senten(e in#lation is
al)ays and every)here a monetary phenomena. I# the money supply rises the
pri(e level )ill rise. I# the money supply doesn=t rise the pri(e level )on=t rise.
The ,2uation o# ,3(han%e
The 2uantity theory o# money (enters on the e2uation o# e3(han%e an e2uation
statin% that the 2uantity o# money times velo(ity o# money e2uals the pri(e level
times the 2uantity o# real %oods sold. This e2uation is:
1KL PJ
!
Thomas +ilson In#lation 45ambrid%e 1&: 0arvard >niversity Press 7:A76 7;
Kris Rasmussen
Daniel Tetteh
.
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
)here 1L Juantity o# money KL Kelo(ity o# money PL Pri(e level and JL
Juantity o# real %oods sold. J is the real output o# the e(onomy 4real 'DP6 and P
is the pri(e level so PJ is the e(onomy=s nominal output 4nominal 'DP6. K the
velo(ity o# money is the number o# times per year on avera%e a dollar %oes
around %eneratin% a dollar )orth o# in(ome or Kelo(ity is the amount o# in(ome
per year %enerated by a dollar o# money. 1KL PJ 1K also e2uals nominal
output.
,3ample: 5anada situation: in 7::: nominal 'DP L ?7!!!billion and
1L?@!billion 4usin% 176 so velo(ity )as about 'DPM1 L 79 meanin% ea(h
dollar in the e(onomy (ir(ulated enou%h to support appro3imately ?79 in total
in(ome.
,elocity is Constant.
There are t)o assumptions o# the e2uation o# e3(han%e:
76 The assumption is that velo(ity remains (onstant. 1oney is spent only
so #ast ho) #ast is determined by the e(onomy=s institutional stru(ture
su(h as ho) (lose individuals live to stores ho) people are paid
4)ee$ly bi)ee$ly or monthly6 and )hat sour(es o# (redit are available.
This institutional stru(ture (han%es slo)ly Juantity theorists ar%ue so
velo(ity )on=t #lu(tuate very mu(h. I# velo(ity remains (onstant the
2uantity theory (an be used to predi(t ho) mu(h nominal 'DP )ill
%ro) i# )e $no) ho) mu(h the money supply %ro)s. *or e3ample i#
the money supply %oes up A< the 2uantity theory o# money predi(ts
that nominal 'DP )ill %o up by A<.
26 The se(ond assumption is that J is independent o# the money supply.
That is J is autonomous meanin% real output is determined by #or(es
outside those #or(es in the 2uantity theory. I# J %ro)s it is be(ause o#
in(entives that a##e(t the real e(onomy. Thus poli(y analysis based on
the 2uantity theory #o(uses on the real e(onomy- the supply side o# the
e(onomy not the demand side.
+ith both K 4velo(ity6 and J 42uantity or output6 una##e(ted by (han%es in 1
4money supply6 the only thin% that (an (han%e is P 4pri(e level6. In its simplest
terms the 2uantity theory o# money says that the pri(e level varies in response to
(han%es in the 2uantity o# money. I# the money supply %oes up 2!< pri(es %o up
2!< i# the money supply %oes do)n ;< the pri(e level %oes do)n ;<.
,3amples o# 1oney=s Role in in#lation:
In 7:"7 the *ed in(reased the money supply si%ni#i(antly. That same year
%overnment instituted )a%e and pri(e (ontrols 4le%al limits on pri(es and )a%es6.
&s a result in(ome rose and unemployment #ell but in#lation did not rise. In 7:"9
the )a%e and pri(e (ontrols )ere li#ted: in#lation rose #rom 4.2< in 7:"2 to over
:< in 7:"; and unemployment rose #rom 4.:< in 7:"9 to @.;< in 7:";.
Kris Rasmussen
Daniel Tetteh
16
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
,3pansionary monetary poli(y initially in(reasin% real output as pri(es )ere slo)
to respond to in(reases in a%%re%ate demand. In the lon% run the e3pansionary
monetary poli(y (aused in#lation.
In 7:"!s )hen si%ni#i(ant in#lation 7!< had be(ome built into the e3pe(tations o#
the e(onomy. In late 7:": and the early 7:@!s the *ed de(reased the money
supply %ro)th si%ni#i(antly. This led to leap in unemployment #rom " to 7!< but
initially no de(rease in in#lation. .y 7:@4 ho)ever in#lation had #allen to about
4< and it remained lo) throu%hout the 7:@!s and 7::!s.
In the early 7::!s the 'erman (entral ban$ #elt 'ermany=s in#lation rate )as too
hi%h. It (ut the money supply %ro)th (onsiderably. Initially the impa(t )as on
output and the ti%ht money pushed the 'erman e(onomy into a re(ession.
'ermany remained in that re(ession throu%h early 7::A and in#lation #ell in the
late 7::!s.
In the 7::!s the Russian %overnment )as short o# revenue and )as #or(ed to
print money to #inan(e its debt. &s a result in#lation ble) up in hyperin#lation and
the Russian e(onomy (ontinued in a serious slump.
0o)ever the simple vie) (onne(tin% in#lation )ith money supply %ro)th lost
#avor in the late 7:@!s and early 7::!s as #ormerly stable relationships bet)een
(ertain measurements o# money and in#lation bro$e do)n in the >nited States.
*or lar%e in#lation o# the type e3perien(ed by many developin% and transitional
e(onomies the (onne(tion is still evident and the 2uantity theory remains the
(entral theory o# in#lation in su(h (ountries.
P-"IC. I+P"ICATI-/ -0 T12 *3A/TIT. T12-#.
In terms o# poli(y the 2uantity theory says that monetary poli(y is po)er#ul but
unpredi(table in the short run. .e(ause o# this unpredi(tability monetary poli(y
(annot and should not be used to (ontrol the level o# output in the e(onomy.
Thus parado3i(ally supporters o# the 2uantity theory oppose an a(tivist
monetary poli(y. Instead they %enerally #avor a monetary poli(y set by rules not
by dis(retionary monetary poli(y.
& monetary rule ta$es monetary poli(y out o# the hands o# Politi(ians. Juantity
theorists #eel that do)n be(ause o# the e3pansionary tenden(ies in politi(s and
thus a rule is better than dis(retion. The 2uantity theory has (onvin(ed many
e(onomists to e3ert pressure to (reate independent (entral ban$s so that
politi(ians are separated #rom the (ontrol o# the money supply. That )ay the
%overnment )ill not #ollo) its politi(al instin(ts and run e3pansionary monetary
poli(y.
24ampleE
Kris Rasmussen
Daniel Tetteh
11
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
Ce) Nealand le%ally mandated a monetary rule based on in#lation. In 7:@: the
Reserve .an$ o# Ce) Nealand )as re2uired to $eep (onsumer pri(e in#lation
bet)een !< and 2< a year a tar%et a%reed on by the (entral ban$. &#ter
avera%in% 7!< a year in the 7:@!s Ce) Nealand=s in#lation rate #ell in the early
7::!s and avera%e belo) 2< per year therea#ter. &n important reason Ce)
Nealand instituted monetary rules )as to establish (reditability in its (entral
ban$=s resolve to lo)er the in#lation rate.
The >.S *ederal Reserve .an$ does not have su(h a stri(t rule but the *ed
)or$s hard to sho) that it is serious about #i%htin% in#lation re%ardless o# the
(onse2uen(es to unemployment or output. 1any e(onomists #elt that by the mid-
7::!s the *ed had established its (redibility and that (redibility allo)ed the
e(onomy to e3pand )ithout %eneratin% in#lation. In#lation e3pe(tations #ell
lo)erin% interest rates )hi(h (ontributed to the investment boom o# the late
7::!s.
The (onstitution states that the ,uropean 5entral .an$=s sole %oal is to #i%ht
in#lation. This )ill si%ni#i(antly redu(e politi(al (onsiderations in the (entral ban$=s
poli(ies. In the year 2!!2 the euro 4the ,uropean >nion=s (urren(y6 is #ully
implemented by parti(ipatin% member nations to see the e##e(tiveness o# this
approa(h to establish (entral ban$ independen(e and lo) in#lation.
!%)%! The Institutional Theory of Inflation
Supporters o# the institutional theory o# in#lation a((ept mu(h o# the 2uantity
theory-money and in#lation does move to%ether. &((ordin% to the Juantity theory
o# money (han%es in the money supply (auses (han%es in the pri(e level. The
dire(tion o# (ausation %oes #rom le#t to ri%htE
1KO PJ
Institutional theorists see it the other )ay around. In(reases in pri(es #or(e
%overnment to in(rease the money supply or (ause unemployment. The dire(tion
o# (ausation %oes #rom ri%ht to le#tE
1KP PJ.
&((ordin% to the institutional theory o# in#lation the sour(e o# in#lation is in the
pri(e-settin% pro(ess o# #irms. +hen settin% pri(es #irms and individuals #ind it
easier to raise pri(es rather than lo)er them and do not ta$e into a((ount the
e##e(t o# their pri(in% de(isions on the pri(e level.
&ll in(ome is ultimately paid to individual o)ners o# the #a(tors o# produ(tionE the
revenue that #irms re(eive is divided amon% pro#its )a%es and rent. *irms are
simply intermediaries bet)een individuals as o)ners o# the #a(tors o# produ(tion
and individuals as (onsumers. 'ive the institutional stru(ture o# our e(onomy it=s
o#ten easier #or #irms to in(rease )a%es pro#its and rents to $eep the pea(e )ith
Kris Rasmussen
Daniel Tetteh
12
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
their employees and other o)ner=s o# the #a(tors o# produ(tion than it is to try to
hold those (osts do)n. *irms then pay #or that in(rease by raisin% the pri(es they
(han%e (onsumers. In response to the risin% pri(e level the %overnment
in(reases the money supply so that there is su##i(ient demand to buy the %oods
at the hi%her pri(es.
,3ample: >nilever 'hana ITD is happy )ith its (ompetitive position in the
mar$et its e3pe(t 7!< in#lation rate. Produ(tivity 4output o# soap per unit o#
input6 is in(reasin% by 72< the same as the in(rease in produ(tivity in the
e(onomy as a )hole so the #irm (an hold its nominal pri(e o# >nilever (onstant
even i# it in(reases )a%es by 7!<. Sin(e the pri(e level is not e3pe(ted to
(han%e the #irm (an maintain it share o# the mar$et by holdin% the pri(e o# its
soap (onstant. The #irm o##ers )or$ers 7!< pay in(rease. 0o)ever i# the
produ(t mar$et is hi%hly (ompetitive )hat the #irm (an (han%e #or its soap is set
by the mar$etE i# other #irms do not e3perien(e a 7!< )a%e in(rease and have a
similar 72< produ(tivity in(rease %ivin% in to the )a%e in(rease )ill ensure that
the #irm )ill in(ur losses and eventually %o out o# business. There#ore in a hi%hly
(ompetitive mar$et in )hi(h supply and demand #or(es alone determine pri(es
there=s stron% pressure to in(rease )a%es only 7!< and hold pri(e (onstant.
0o)ever real )orld #irms %enerally are not in su(h a hi%hly pri(e-(ompetitive
mar$et. They have some po)er to raise their pri(e. Raisin% the pri(e )ill ma$e
sellin% their %oods more di##i(ult but no impossible. Thus i# the produ(t mar$et is
only some)hat (ompetitive >nilever may (onsider pay 72< pay rise and raisin%
the pri(e o# its produ(t. There#ore )hether the #irm (hooses this
2.5 Rea!on! to &ontrol Inflation
There are a number o# reasons that hi%her in#lation (an be disadvanta%eous to
individuals and a so(iety as a )hole. *or individuals on #i3ed in(omes su(h as
pensioners as the (ost o# %oods and servi(es in(rease due to the e##e(ts o#
in#lation their buyin% po)er de(reases. &lso personal savin% (an be dis(oura%ed
parti(ularly i# the rate o# return is lo)er than the rate o# in#lation this is some)hat
alleviated by the advent o# inde3ed bonds in many industriali/ed (ountries
A
.
On a so(ietal level hi%h in#lation (an (reate some problems as )ell. I# in#lation is
hi%h in one (ountry its e3ports )ill be(ome more e3pensive #or other (ountries to
pur(hase meanin% that a trade de#i(it (an be (reated. &lso in#lation (an lead to
)a%e spiral )here )a%es are in(reased to $eep up )ith in#lation this in turn (an
lead to #urther in#lation.
2.' et%od! (!ed to &ontrol Inflation
Typi(ally a %overnment=s (entral ban$ is responsible #or (ontrollin% in#lation.
Some (entral ban$s only respond )hen in#lation in(reases above a set tar%et
#
"Costs of Inflation," World Economic Outlook, 1!
Kris Rasmussen
Daniel Tetteh
13
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
)hile others #ollo) a symmetri(al in#lation tar%et meanin% that they a(t )hen
in#lation is deemed to be either too hi%h or too lo).
There are a number o# )ays #or a %overnment to (ontrol in#lation. One )ay is
throu%h monetary poli(yE by in(reasin% the prime interest rate a (ountry=s (entral
ban$ (an de(rease in#lation by redu(in% the monetary supply. &nother method
that (an be used is to de(rease %overnment spendin% and in(rease ta3ation
a%ain to redu(e the monetary supply. & third more drasti( method is to institute
)a%e and pri(e (ontrols.
!%5% +onetary Policy in Canada
5anada uses t)o $ey (omponents in its monetary poli(y
"
)ith the %oal bein% lo)
and stable in#lation. The #irst (omponent is a #le3ible e3(han%e rate )hi(h allo)s
them to pursue a monetary poli(y that is properly suited to the 5anadian
e(onomy. The se(ond (omponent is in#lation (ontrol tar%etin%. In#lation-(ontrol
tar%etin% has been in pla(e sin(e 7::7 the aim is to $eep annual in#lation
bet)een 7 and 9< )ith the ideal bein% at 2<. The advanta%e o# this is that the
(ountry=s %oals are (lear to everyone so that (han%es (an be anti(ipated by the
publi(. &lso by havin% a (learly de#ined in#lation tar%et businesses and investors
have some level o# (on#iden(e in )here in#lation )ill be in the #uture.
!%5%! +onetary Policy in Ghana
'hana=s monetary poli(y has evolved in re(ent years al)ays )ith the %oal o#
pri(e stability this is re#le(ted in the .an$ o# 'hana=s mission statement Gto
pursue sound monetary and #inan(ial poli(ies aimed at pri(e stability so as to
(reate an enablin% ma(roe(onomi( environment #or the promotion o# sustainable
e(onomi( %ro)th.H
@
The .an$ o# 'hana=s opinion is that in#lation is primarily a
monetary problem and there#ore tar%etin% money supply %ro)th is the best
method o# (ontrollin% in#lation in the 'hanaian e(onomy.
.e#ore 7::" the .an$ o# 'hana imposed (eilin%s on (ommer(ial ban$ (redit to
the private se(tor and re%ulatin% borro)in% and deposit interest rates to (ontrol
money supply. This )as a simple system to operate sin(e year over year the
ban$ (ould determine the %ro)th and in#lation tar%ets and set the (eilin%s and
rates a((ordin%ly. The problem )ith this system thou%h )as that the (redit
(eilin%s led to lar%e amounts o# money sittin% in the ban$ )ith no vehi(le to invest
it also the interest rates typi(ally )ere set lo) so that the %overnment (ould
borro) money a little (ost.
1ore re(ently the .an$ o# 'hana has used reserve re2uirements to mana%e
money supply. Reserve re2uirements stipulate )hat amount o# a (ustomer=s
deposit the ban$ is re2uired to have on hand. *or instan(e i# the reserve
re2uirement is 7!< than i# a (ustomer deposits ?7!! into their a((ount the ban$
is allo)ed to loan out ?:! o# that money. +hen it (omes to mana%in% money
'
"#onetar$ %olic$ &eport,' (ank of Canada, )**+
+
"#onetar$ #ana,ement in -.ana,' (ank of -.ana, )**1
Kris Rasmussen
Daniel Tetteh
14
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
supply the theory is that the hi%her the reserve re2uirement the less money the
ban$ is able to lend out and there#ore the less money is present in the e(onomy.
In#lation (ontrol in 'hana is investi%ated in more detail on se(tion 4.
2.) Inflation and Interest Rates
I# in#lation is risin% the (entral ban$ raises the interest rate meanin% that the (ost
o# borro)in% in(reases so the amount o# money borro)ed by individuals and
(ompanies de(reases )hi(h in turn de(reases the amount o# money in the
e(onomy4money supply6 resultin% in de(reased in#lation. The e##e(t o# in#lation
on interest rate is simply (aused by the ban$Ds attempt to redu(e it. On the other
hand in(rease in#lation (auses the (entral ban$ to in(rease interest rate.
.usinesses then borro) at hi%her (ostE this (ost is pass on to (onsumers )hi(h
in(reases (onsumer pri(e inde3 )hi(h in e##e(t in(reases in#lation. .elo) is a
paper on in#lation and interest presented by 1udell on *isher and Keynesian
ar%uments.
1undell ta($led the old *isherian la) on the (onstan(y o# the real rate o# interest
i.e. )here r L i - Q )here i# in#lation 4Q6 rises then nominal interest rate 4i6 )ill rise
one-#or-one to $eep real interest rates 4r6 (onstant. 0o)ever Keynes 47:9A6
disputed *isherDs assertion and *isher 47:9!6 himsel# )as relu(tant to ma$e too
mu(h out o# it empiri(ally.
1undellDs reasonin% )as as #ollo)s: the nominal rate o# interest is set by in#lation
e3pe(tations and the real interest rate i L r R Q
e
. Co) suppose )e have t)o
assets money and e2uity )here r is the real return on e2uity. .y KeynesDs
theory o# li2uidity pre#eren(e money demand is inversely related to the return on
alternative assets i.e. I4r S6. +e $no) o# (ourse that in e2uilibrium 1Mp L I4r
S6 as money supply rises the rate o# interest #alls so )e (an tra(e out an
money mar$et 4116 e2uilibrium lo(us in interestMmoney supply spa(e as in the
*i%ure belo). Co) a parti(ular 11 (urve is (onditional on a parti(ular level o#
in#lationary e3pe(tations 4Q
e
6. I# in#lationary e3pe(tations rise then #or any %iven
amount o# money supply the real interest rate r L i - Q
e
#alls and thus the 11
(urve shi#ts do)n.
The intuitive lo%i( is that )e must remember that the negative o# in#lation is the
real rate o# return on money. Thus i# there are in#lationary e3pe(tations a%ents
)ho hold money are re(eivin% a ne%ative e3pe(ted return on their real balan(es
and thus )ill attempt to %et rid o# them by pur(hasin% e2uity. &s a result money
demands #alls and the pri(e o# e2uity rises - and (onse2uently the real rate o#
return on e2uity r and #alls. In the *i%ure belo) )e denote by 114Q
e
L!6 the
money mar$et e2uilibrium lo(us )here there are no in#lationary e3pe(tations and
114Q
e
T !6 as the money mar$et e2uilibrium lo(us )hen there is a parti(ular
positive e3pe(ted in#lation rate.
Kris Rasmussen
Daniel Tetteh
1!
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
5hart
Suppose no) that in#lationary e3pe(tations are /ero Q
e
L ! so the 11 4Q
e
L !6
(urve applies. 'oods mar$et and money mar$et e2uilibrium implies that )e
a(hieve e2uilibrium , )here money supply is 1Mp! and real and nominal interest
rates are e2ual to ea(h other at i! L r!. +e (an no) tra(e out the (onse2uen(es
o# an e3o%enous in(rease in in#lationary e3pe(tations. .y raisin% in#lationary
e3pe(tations to some positive amount Q
e
T ! the 11 (urves shi#ts do)n to 11
4Q
e
T!6. The ne) e2uilibrium rate o# real interest r7 is at point * in *i%ure 79
)here 11 4Q
e
T!6 and SS interse(t. 0o)ever as no) i L r R Q
e
then a F)ed%eF
o# si/e Q
e
is (reated bet)een the old 11 (urve and the ne) one: the ne) real
Kris Rasmussen
Daniel Tetteh
1#
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
rate r7 is read o## the interse(tion o# SS and the ne) 11 (urve 4point *6 and the
ne) nominal rate i7 is read o## the top (urve 11 4Q
e
L!6 at the same level o#
money supply 4point '6. Obviously then the introdu(tion o# in#lationary
e3pe(tations has in(reased the nominal interest rate #rom i! to i7 but the amount
o# the in(rease is less than the #ull amount o# e3pe(tations Q
e
. In other )ords
the real rate o# interest has #allen by less than the #ull amount o# in#lationary
e3pe(tations. Thus *isherDs Ia) o# nominal interest rates adBustin% to in#lationary
e3pe(tations one-#or-one is disabled.
+hat is happenin% intuitively8 & hi%her e3pe(ted rate o# in#lation drove up the
nominal rate. This (onse2uently made e2uity more attra(tive relative to money.
5onse2uently a%ents attempted to %et rid o# their e3(ess money holdin%s by
biddin% up the pri(e o# e2uity and thus drove the real rate o# return on e2uity
do)n. This (ollapse in the real rate o# return )ill indu(e more investment but as
)e are at a #i3ed level o# output then (onse2uently somethin% else must %ive
)ay to $eep a%%re%ate demand (onstant - namely (onsumption. +e do this by
brin%in% the money supply do)n #rom 1Mp! to 1Mp7 and so by the Pi%ou ,##e(t
(onsumption #alls and thus a%%re%ate demand returns to its initial level.
In 'hana those years )here in#lation )as hi%h interest rate on Treasury bill )as
also hi%h. Treasury bill is a ris$ #ree #inan(ial instrument. The ban$s pre#er
investin% in Treasury bill than borro)in% to businesses be(ause borro)in% to
businesses has some element o# ris$. Individuals )ho have e3(ess money pre#er
Treasury bill than investin% in (ommer(ial a(tivities. This in(reases %overnment
borro)in% and eventually in(reases %overnment e3penditure. +ith %overnment
e3penditure in(reased this allo)s e3(ess li2uidity in the e(onomy )hi(h in e##e(t
in(rease in#lation.
2.* +,c%ange Rate -"rade. and Inflation
The e(onomi( bene#its o# trade bet)een nations in %oods servi(es and assets
are similar to the bene#its o# trade )ithin a nation. Trade in %oods servi(es and
assets )ithin a nation normally involve a sin%le (urren(y that is dollars yen and
pesos and so on. *or e3ample i# an &meri(an resident )ants to pur(hase an
automobile manu#a(tured in South Korea heMshe must #irst trade dollars #or the
Korean (urren(y (alled the )on. The Korean (ar manu#a(turer is then paid in
)on.
.alan(e o# payment and trade balan(e play a $ey role in the determination o#
e3(han%e rate development in a (ountry. .alan(e o# payments is a (ountry=s
re(ord o# all transa(tions bet)een its residents and the residents o# all #orei%n
nations. These in(lude a (ountry=s buyin% and sellin% o# %oods and servi(es
4imports and e3ports6 and interest and pro#it payments #rom previous
investments to%ether )ith all the (apital in#lo)s and out#lo)s.
The di##eren(e bet)een the value o# %oods and servi(es e3ported and imported
is (alled balan(e o# trade. +hen import e3(eeds e3port in a parti(ular (ountry
the reported (ountry is said to have trade de#i(it. +hen (ountry=s e3port e3(eeds
Kris Rasmussen
Daniel Tetteh
1'
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
import the reported (ountry is said to have a trade surplus. In most (ountries
trade balan(e and balan(e o# payment determine the movement o# (urren(y in
that (ountry that is )hether the (urren(y )ill appre(iate or depre(iate.
There are three-)ay (lassi#i(ations o# e3(han%e rate. These are pe%%ed
intermediate 4#loatin% rates but )ithin a predetermined ran%e6 and #loatin%.
Re%imes (an be (lassi#ied a((ordin% to either the publi(ly stated (ommitment o#
the (entral ban$ or the observed behavior o# the e3(han%e rate.
Poli(yma$ers have lon% maintained that pe%%ed e3(han%e rate (an be anti-
in#lationary tool. In#lation rate is %enerally better under pe%%ed e3(han%e rate. In
the 7:A!s )here most (ountries used the pe%%ed e3(han%e rate e3(han%e
in#lation rate )ere lo) indi(atin% a stron% (orrelation bet)een lo) in#lation and
pe%%ed e3(han%e rate. 5ountries )ith pe%%ed e3(han%e rate have lo)er rates o#
%ro)th in money supply be(ause o# the politi(al (osts o# abandonin% a pe%%ed
re%ime.
,3(han%e rate is one o# the important e(onomi( poli(y tools. 5han%es in
e3(han%e rate )ere asso(iated )ith in#lation. These are some o# the )ays
e3(han%e rate a##e(t in#lationE
+hen the e3(han%e rate depre(iates pri(es o# imported %oods )ould rise. This
)ill in e##e(t a##e(t (onsumer pri(es throu%h (osts o# domesti( produ(ers usin%
imported inputs. 'hana is a #ree (ountry )ith open trade liberation poli(y. *or so
many years no) balan(e o# payment and volume o# trade has been in #avor o#
import. 'hana operates the #loatin% e3(han%e rate system.
&lso )hen the e3(han%e rate depre(iates thus in most (ases the (edi depre(iate
a%ainst the #orei%n (urren(y the trader need more (edi to buy #orei%n (urren(y
)hi(h in(rease the (ost o# imported %oods. The trader passes this (ost to the
(onsumer )hi(h in(reases pri(es o# %oods and this (auses (onsumer pri(e inde3
to in(rease.
2.. /ro!! Dome!tic Product -/DP.
Gross domestic product (GDP) is the total market value of all final goods and
services produced in an economy in one year period. GDP can be calculated in
two ways the e!penditures method and the income method. "hese two methods
are describe into detail below
"#$ $%P$&DI"'R$( )PPR*)+#
,or the e!penditure approach- gross domestic product is e.ual to the sum of four
e!penditure categories consumption (+)- investment (I)- government
e!penditure (G) and net e!ports (%/0).
+*&('0P"I*& 1hen individuals receive income- they can spend it on
domestic goods- save it- pay ta!es- or spend it on foreign goods. "he largest and
most important of the flows is personal consumption e!penditures / payments by
households for goods and services.
I&2$("0$& "he saving3investment flow through the financial sector is the
portion of income that individual saves. 4usiness spending on e.uipment-
Kris Rasmussen
Daniel Tetteh
1+
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
structures- and investments and household spending on new owner/occupied
housing are counted as part of gross private investment.
G*2$R&0$&" $%P$&DI"'R$( Government payments for goods and
services and investment in e.uipment and structures are referred to as
government e!penditures. "he transfer payments are spent and included in
con!um$tion or !aved and c%anneled to inve!tment.
0+" +1POR"23 Individual!4 !$ending on foreign good! e!ca$e!
t%e !#!tem and doe! not add to dome!tic $roduction. 2$ending
on foreign good!5 im$ort!5 i! !ubtracted from t%e total
e,$enditure!. 0et e,$ort! are e6ual to e,$ort! minu! im$ort!.
"#$ I&+*0$ )PPR*)+#
"he income approach to measuring GDP adds up payments by firms to
households- called factor payments- to arrive at national income (&I)- or total
income earned by citi5ens and businesses of a country. "%e!e a$$roac%e!
are de!cribed belo73
&OP+028"IO0 O9 +P:O;++23 +m$lo#ee com$en!ation
-t%e large!t com$onent of national income. con!i!t! of 7age!
and !alarie! $aid to individual!5 along 7it% fringe benefit! and
government ta,e!5 for !ocial !ecurit# and unem$lo#ment
in!urance.
R$&"( Rents are the income from property received by households. Rents
received by firms are not included because a firm6s rents are !im$l# anot%er
!ource of income to t%e firm and %ence are cla!!ified a! $rofit!.
I&"$R$(" Interest is the income private businesses pay to households that
have lent the businesses money- generally by purchasing bonds issued by the
businesses. Interest payments by government and households aren6t included in
national income since by convention they are assumed not to flow the production
of goods and services.
PR*,I"( Profits are the amount that is left after compensation to employees-
rents- and interests have been paid out. 1hen profits are high- firms are doing
well.
&I7 +ompensation to employees 8 Rent 8 Interest 8 Profit.
2.16 "%e Relation!%i$ Bet7een Inflation and /DP
In#lation undermines the lon%- run %ro)th prospe(ts o# the e(onomy and
(auses #uture levels o# potential in(ome to be lo)er than the other)ise
)ould be. Thus #or 2uantity theorists there is a lon%-run trade-o##s bet)een
in#lation and %ro)th: hi%h in#lation leads to lo)er %ro)th .Io) in#lation leads to
hi%her %ro)th #or a variety o# reason. Io) in#lation redu(e pri(e un(ertainly
ma$in% it easier #or businesses to invest in #uture produ(tion. .usinesses (an
Kris Rasmussen
Daniel Tetteh
1.
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
more easily enter into lon%-term (ontra(t )hen in#lation is lo) )hi(h lo)est the
(ost o# doin% business. Io) in#lation also ma$es usin% money mu(h easier.
+hen in#lation is hi%h people spend more time tryin% to avoid the (ost o# in#lation
)hi(h diverts their ener%ies a)ay #rom produ(tive a(tivities that )ould lead to
%ro)th. The hypothesi/ed relationship bet)een in#lation and %ro)th is sho)n in
the dia%ram belo) )ith in#lation on the S-a3is and 'ro)th on the U-a3is.
5hart
'ro)th
*or 2uantity theorists %overnment poli(y o# (reatin% an environment o# pri(e-
level stability is the poli(y most li$ely to lead to hi%h rate o# %ro)th.
On the other hand institutional theory o# in#lation are less sure about the
ne%ative relationship bet)een in#lation and %ro)th. They a%ree that pri(e-level
rises have the potential o# %eneratin% in#lation and that hi%h a((eleratin% in#lation
undermines %ro)th but they do not a%ree that all pri(e level in(reases start an
in#lationary pro(ess.
S,&R
<-',
50&C', IC ?
<-', 50&C', IC
PO>CDS
<-', 50&C',
IC ,>RO
7::@ -99 -4."
7::: -4.7 -4." -2;.7
2!!! -4:.9 -"@.2: -4;
2!!7 -9." -9.@ -2.4
2!!2 -79.2 -2!.4 -29.A
Kris Rasmussen
Daniel Tetteh
26
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
2!!9 -4.: -74.:A -2:.!"
2!!4 -2.2 -72.7 -7!."
2!!; -!.: 7.7 79.@
I/T2#(BA/6 +A7-# 0-#2IG/ C3#2/C. #AT2 C-+PA#2'
8IT1 T12 C2'I
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<-', 50&C', IC PO>CDS
<-', 50&C', IC ?
S,&R
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IC <4?6 IC*I&TIOC
7::! -79.: 9".7
7::7 -79.9 7A.;
7::2 -99.2 7!
7::9 -;".@ 2".4
7::4 -2".: 24.:
7::; -9".A 2".:
7::A -2!.9 4A.A
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2!!9 -4.: 29.A
2!!4 -2.2 77.@
2!!; -!.: 74.@
Kris Rasmussen
Daniel Tetteh
21
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
-@!.!
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& (are#ul study o# the #i%ure above indi(ates a stron% relationship )ith in#lation. In
years )here the lo(al (urren(y 4(edi6 per#orms poorly a%ainst the dollar in#lation
also per#orms poorly and vi(e versa. In the years 7::4-7::A )here the (edi
depre(iated in the 2!.9-9".A in#lation ran%es #rom 24.:-4A.A. In the years )here
the rate o# depre(iation o# the (edi ran%es !.:-79.2 in#lation )as 77.@-7;.2.
There#ore one o# the e(onomi( poli(ies the (entral ban$ adopted )as the
stabili/ation o# the (edi. The rate o# depre(iation has been (onsistently lo)
(ompared to the previous years )hi(h in e##e(t a##e(t in#lation positively.
Kris Rasmussen
Daniel Tetteh
22
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
& The 2conomies of Ghana and Canada
3.1 /%ana4! +conom#
5urrently in the 'hanaian e(onomy In#lationary pressures (ontinue to be
subdued )ith prudent #is(al and monetary poli(ies. 1onetary poli(y )as
dire(ted at (ontainin% in#lationE #is(al poli(y )as aimed at stabili/in% and redu(in%
the publi( domesti( debt in relation to 'DP. *is(al (onsolidation (ontinued )ith
improved revenue (olle(tion and e3penditure mana%ement and the overall #is(al
de#i(it )as redu(ed in line )ith proBe(tions. The balan(e o# payments (ontinues
to improve.
The e(onomy )hi(h hu%ely at the mer(y o# e3ternal sho($ due to the volatility o#
the oil mar$et is no) brou%ht under (ontrol. The %overnment too$ a bold de(ision
to stop subsidi/in% the o# retail pri(e o# (rude oil in the (ountry. These are some
o# the e(onomi( indi(ators )hi(h sho)s positive trend.
3.2 &anada4! +conom#
5anada=s e(onomy (urrently is in very %ood shape. &s a member o# the '@
5anada has sho)n the lar%est %ro)th o# the industriali/ed (ountries )ith the
ener%y se(tor leadin% the )ay. In#lation has been )ell under (ontrol #or many
years and borro)in% rates have been #airly lo).
The primary (on(ern (urrently is the value o# the 5anadian dollar 45&D6 )hen
(ompared to the >S dollar 4>SD6 over re(ent months the 5&D has been
approa(hin% par )ith the >SD )hi(h has the %overnment (on(erned. The
(on(ern is that )ith the in(rease in value o# the 5&D 4or (orrespondin% de(rease
in the value o# the >SD6 the (ost o# 5anadian %oods in the >S is in(reasin%
meanin% that there is less demand #or 5anadian %oods 4e3(ludin% ener%y6. The
%overnment is )or$in% to de(rease the value o# the 5&D and is (urrently
dis(ussin% raisin% the prime rate to (ombat this.
3.3 /ro!! Dome!tic Product -/DP.
'ross Domesti( Produ(t 4'DP6 the total mar$et value o# a (ountryDs output o#
%oods and servi(es that are e3(han%ed #or money or traded in a mar$et system
over a (ertain period 4usually a year or a 2uarter6 re%ardless o# )ho o)ns the
produ(tive assets. 'DP measures the value o# all e(onomi( a(tivity )ithin a
(ountry=s borders.
.2A# Ghana
:billions
G1C;
Canada
:billions
!<<< 3=';
7:@A ;77 ?7":A@
7:@" "4; ?7@4;A
7:@@ 7!;7 ?7:7!;
7:@: 747" ?7:227
7::! 2!97 ?7@:@4
Kris Rasmussen
Daniel Tetteh
23
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
7::7 2;"4 ?7@4!;
7::2 9!!@ ?7@9!@
7::9 9@"2 ?7@4"9
7::4 ;2!; ?7:72!
7::; "";2 ?7:A;:
7::A 7799: ?7:"99
7::" 74779 ?2!9;2
7::@ 7"2:; ?2!:;:
7::: 2!;": ?27:!!
2!!! 2"7;2 ?22@42
2!!7 9@!"! ?29!7"
2!!2 4@@A2 ?29;";
2!!9 AA7;" ?29@7:
2!!4 ":@@" ?242@9
2!!; :"2A! ?2;7A"
2!!A 774:!9 ?2;"97
G'P Trend :Ghana;
-
2!!!!
4!!!!
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7!!!!!
72!!!!
74!!!!
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Kris Rasmussen
Daniel Tetteh
24
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
G'P Trend :Canada;
?!
?;!!!
?7!!!!
?7;!!!
?2!!!!
?2;!!!
?9!!!!
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& (are#ul loo$ o# the %raph above #or 'hana sho)s limited %ro)th in 'DP #rom
7:@: to 7::A. &#ter 7::: %ro)th really be%an to in(rease and (ontinues today.
&%ri(ulture (ontributes over 4!< to 'DP. &%ri(ulture has seen a (onsistent
in(rease in produ(tion o# #ood stu##s and espe(ially in(reases in (o(oa produ(tion
)hi(h is one o# the (ountry=s maBor e3port (ommodities. 'old timber and bau3ite
also have seen a si%ni#i(ant in(rease in produ(tion. The servi(es se(tor also
(ontributed in the in(rease o# 'DP.
The %raph #or 5anada di##ers si%ni#i(antly. 5anada is a very stable e(onomy so
there are #e) maBor s)in%s one )ay or another in the data. The only point o#
interest is the period o# #lat and ne%ative %ro)th #rom 7::! to 7::; )hen the
(ountry )as su##erin% throu%h a re(ession.
3.4 Intere!t Rate
& (ountry=s (entral ban$ is responsible to monetary (ontrol and there#ore is
responsible #or settin% the prime lendin% rate. The (entral ban$ (onsiders
Kris Rasmussen
Daniel Tetteh
2!
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
in#lation trade (urren(y value and a number o# other #a(tors )hen settin% the
interest rate. Typi(ally the ban$s )ithin the (ountry set their lendin% rates based
on )hat the (entral ban$s prime lendin% rates is.
.2A#
T Bill > day
Interest rate
Interest
#ate
7::9 92.!!< 9;.!!<
7::4 2:.;!< 9!.!!<
7::; 4!.;!< 4;.!!<
7::A 42."A< 4;.!!<
7::" 42.4@< 4;.!!<
7::@ 2A.";< 9".!!<
7::: 97.4:< 2".!!<
2!!! 9;.A7< 2".!!<
2!!7 9A.A@< 2".!!<
2!!2 7:.A7< 24.:2<
2!!9 2A.@7< 2;.42<
2!!4 7A.;"< 7:.79<
2!!; 74.@;< 7A.@9<
2!!A 7!.;!< 7:.;!<
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Interest rate
Interest Rate
Interest rates and lendin% rates %enerally #ollo)ed a do)n)ard trend (onsistent
)ith easin% o# in#lationary pressures. &lthou%h %enerally the ban$s are re#usin%
to brin% do)n interest and lendin% rate to an appre(iable trend althou%h in#lation
is %oin% do)n. Sears )ith hi%her Treasury bill rate is a((ompanied )ith hi%her
lendin% rate #rom the ban$s. *or the trend o# Treasury bill rate and lendin% rate
o# the various ban$s re#er to the #i%ure above.
Kris Rasmussen
Daniel Tetteh
2#
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
.2A# Canada
7:@A 7!.;<
7:@" :.;<
7:@@ 7!.@<
7:@: 79.9<
7::! 74.7<
7::7 :.:<
7::2 ".;<
7::9 ;.:<
7::4 A.@<
7::; @.A<
7::A A.2<
7::" 4.:<
7::@ A."<
7::: A.4<
2!!! ".2<
2!!7 A.!<
2!!2 4.2<
2!!9 4.;<
2!!4 4.!<
2!!; 4.2<
2!!A ;.@<
Interest #ate :Canada;
!.!<
2.!<
4.!<
A.!<
@.!<
7!.!<
72.!<
74.!<
7A.!<
7
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5anada has sho)n #airly (onsistent lendin% rates over the past 2! years )ith the
hi%h period bein% over a time o# hi%h in#lation in the late @!=s and early :!=s.
Kris Rasmussen
Daniel Tetteh
2'
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
3.5 Inflation
In#lation is de#ined earlier in this paper. & 2ui($ de#inition is that in#lation is the
(ontinual rise in the pri(e level. In#lationary pressure is (ontinually subdued by
(ontrollin% o# %overnment e3penditure and ti%ht monetary (ontrol.
.2A# Ghana Canada
7:@A 99.9< 4.7<
7:@" 94.2< 4.4<
7:@@ 2A.A< 4.!<
7:@: 9!.;< ;.!<
7::! 9;.:< 4.@<
7::7 7!.9< ;.A<
7::2 79.9< 7.;<
7::9 2"."< 7.@<
7::4 94.2< !.2<
7::; "!.@< 2.2<
7::A 92."< 7.A<
7::" 2!.@< 7.A<
7::@ 7;."< !.:<
7::: 79.@< 7."<
2!!! 4!.;< 2."<
2!!7 27.9< 2.A<
2!!2 7;.2< 2.2<
2!!9 29.A< 2.@<
2!!4 77.@< 7.:<
2!!; 74.@< 2.2<
2!!A 7!.;< 2.!<
Inflation Trend :Ghana;
!.!<
7!.!<
2!.!<
9!.!<
4!.!<
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A!.!<
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7
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Kris Rasmussen
Daniel Tetteh
2+
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
Inflation Trend :Canada;
!.!<
7.!<
2.!<
9.!<
4.!<
;.!<
A.!<
7
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7
:
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The %raph above #or 'hana sho)s that histori(ally 'hana has had periods o#
very hi%h in#lation. Re(ently ho)ever in#lation appears to have been brou%ht into
more (ontrol )ith most re(ent data trendin% to)ards an in#lation rate o# 7!<.
5anada (onversely has (onsistently had reasonably lo) in#lation )ith in#lation
under 9< #or the past 7; years.
) Inflation Control in Ghana
*ollo)in% the deterioratin% e(onomi( indi(ators li$e in#latin% in 2!!! the
%overnment has its #o(us on restoration o# ma(roe(onomi( stability. These are
some o# the $ey #a(tors use to redu(e in#lationary pressures
4.1 Regulation
The 'overnment o# 'hana (han%ed the ban$ o# 'hana &(t to empo)er the .O'
to be(ome more independent #rom the %overnment. This allo)s the ban$ o#
'hana to (ontrol the %overnment e3penditure. The %overnment e3penditure
redu(ed drasti(ally thereby redu(in% (ash 4(urren(y6 in (ir(ulation. The medium
term outloo$ #or the %overnment=s ma(roe(onomi( poli(y is to redu(e the burden
o# publi( debt so that there is massive redu(tion in %overnment borro)in%. The
various revenue a%en(ies )ere empo)ered and more revenue )as %enerated.
This redu(es pressure in %overnment borro)in% the ban$ and non-ban$s.
Kris Rasmussen
Daniel Tetteh
2.
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
4.2 &urrenc#
The 'hanaian (urren(y be(ame relatively stable over the years. The (edi
depre(iated by 9.;< (ompared )ith a depre(iation o# 4:.@< in 2!!!. The
stability o# the (urren(y )as due to the #avorably (ondition o# 'hana=s maBor
(ommodities. 5o(oa produ(tion has %one up si%ni#i(antly (oupled )ith (ombined
(y(li(ally #avorable 5o(oa pri(e 4(urrent e3port pro(eeds6. 'old produ(tion also
)ent up si%ni#i(antly (oupled )ith hi%h %old pri(es. This a##e(ted balan(e o#
payment positively.
Private in)ards remittan(es thus Tranters re(eived #rom C'OS reli%ious %roups
individuals et( (hanneled throu%h the ban$s and #inan(e (ompanies has %one up
si%ni#i(antly. This (an be (he($ )ith #orei%n (urren(y in 'hana Deposits #rom
7::" to 2!!; 4Dia%ram (an be #ind on money supply belo)6. This development
(ontributed si%ni#i(antly to redu(e in#lationary pressured on the e(onomy.
.2A#
?(G2 C1A/G2
I/ @
?(G2 C1A/G2 I/
P-3/'=
?(G2 C1A/G2 I/
23#-
7::@ -99 -4."
7::: -4.7 -4." -2;.7
2!!! -4:.@ -"@.2: -4;
2!!7 -9." -9.@ -2.4
2!!2 -79.2 -2!.4 -29.A
2!!9 -4.: -74.:A -2:.!"
2!!4 -2.2 -72.7 -7!."
2!!; -!.: 7.7 79.@
Kris Rasmussen
Daniel Tetteh
36
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
The ne%ative si%ns indi(ate depre(iation and positive si%ns sho) appre(iation.
.2A# G-"' C-C-A
7::A 9@A.; 79;@.4
7::" 997.;4 74"2.@"
7::@ 2:9.!; 7A;4.;@
7::: 2"@.A" 7494.7:
2!!! 2@!.9@ 7!:4.44
2!!7 2"7.A 7!2!.@
2!!2 9!:.; 72A!
2!!9 9A4.; 7:4:.;
2!!4 4!:.: 7;@A.:
2!!; 44;.2@ 7;24.A:
4.3 <IP& Initiative
The hi%hly indebted poor (ountry initiative popularly $no)n as 0IP5 )as adopted
by the %overnment. This relieve the %overnment about payment about payment
o# hard (urren(y to multinational multilateral and bilateral institutions li$e )orld
.an$ I1* &#ri(a development ban$ et(.'overnment payment to these institution
(onstitute. 'overnment payment e3ternal payment o# to these institutions is
made up o# about 24< o# the bud%et o# 'hana.
Kris Rasmussen
Daniel Tetteh
31
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
4.4 9ood and Beverage!
The #ood and bevera%es inde3 (onstitute about ;"< o# the (onsumer pri(e inde3
bas$et. &ny development in this se(tor )ill have a si%ni#i(ant impa(t on in#lation.
The #ood and bevera%es sub- %roup inde3 in(reased by 24.9< #rom 72".A; in
De(ember 7::: to 7;@.A9< in De(ember 2!!! as a%ainst an in(rease o# A.A<
re(orded #or the previous years. In the year 2!!7 the #ood and bevera%es sub
%roup inde3 in(reased by 7;.9A per(ent to 7@9.! in De(ember 2!!7. This may be
(ompared )ith an in(rease o# 24.2"< re(orded in the previous year.
In the year 2!!2 the #ood sub-inde3 %roup in(rease to27.: (ompared to 7A."
per(ent in 2!!7.& %raphi(al (hart is sho)n to depi(t the tend analysis o#
(omponents o# (onsumer pri(e inde3 in 'hana bet)een the year 2!!! to2!!A.
+hen the ne) 'overnment too$ over in 2!!7 they de(ided to support the
a%ri(ulture industry. The spe(i#i( support has been in the #ollo)in% areasE
7 Provision o# inputs to #armers in the maBor %ro)in% areas o# the (ountry.
2 Provision o# improved variety o# seedlin%s )ith a hi%h output per a(rea%e
9 The provision o# (hemi(als to #armers to help (ontrol pests that are hi%hly
to destroy (ertain #ood (rops.
4 5ash to #armers #or purposes o# tillin% land and to support labor (osts.
4.5 0on =9ood Inde,
The Con-#ood inde3 in(reased #rom 79".:2 in De(.7::: to 272.A7 in De(.2!!!
indi(ation an in(rease o# ;4.2<.In 7::: the non-#ood sub-%roup inde3 )ent up
2!.@<.The non-#ood sub-%roup inde3 is made o# Rent and housin% #uel po)er
and )ater (lothin% and #oot)ear &l(ohol and Toba((o 1is(ellaneous servi(es
1edi(ine and 0ealth ,3penses Re(reational et(. The Con-%roup inde3
in(reased by 24.4"< to 2A4.A9 in De(ember 2!!7.In the previous year the sub-
%roup inde3 in(reased by ;4.7;<
4.' one# 2u$$l#
I# the money supply rises the pri(e level )ill rise. I# the money supply doesn=t
rise the pri(e level )on=t rise.
1onetary measures limit the %ro)th o# money supply to a rate that a((ords )ith
the %ro)th o# real output. In 'hana 1oney is measure in these broad area
namely Carro) money supply 2uasi money supply and .road money supply
412R6.
&arrow 0oney (upplyE (omprise savin% (urren(y outside ban$s and demand
deposits.
9uasi 0oneyE (omprise savin% and time deposits (erti#i(ate o# deposits )ith
deposit money ban$s 4D1.s6.
4road money supplies (0:8)E 5omprise narro) money 4176 2uasi money and
#orei%n (urren(y deposits.
Kris Rasmussen
Daniel Tetteh
32
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
In 2!!2 .road money supply in(reased si%ni#i(antly re(ordin% %ro)th rate o#
;!<. The in(rease )as due to a 7:!.A< %ro)th in the Cet *orei%n &ssets 4C*&6
o# the ban$in% system and 2A.9< in Cet Domesti( &ssets 4CD&6. & %raph )hi(h
depi(ts the trend o# .road money supply 412R6 #rom 7::A to 2!!; is sho)n
belo).
Ioo$in% at the trend #rom the %raph .road money supply 412R6 in(reased over
years. The rise is re#le(ted in all its (omponents namely narro) money 4176
2uasi-money and #orei%n (urren(y deposits.
.2A#
?(G2
C1A/G2:+!;
?(G2
C1A/G2:0-#2IG/;
?(G2
C1A/G2:+!A;
ACT3A"
I/0"ATI-/
7::; 9".4 4"." 4!." 2".:
7::A 94.2 A!.A 94.2 4A.A
7::" 4;.7 9A.2 9:.; 2".:
7::@ 24.@ -".@ 7".A 7;."
7::: 29.7 44.9 2A." 79.@
2!!! 99.@ 7!!.2 4A.: 4!.;
2!!7 4".: 22.2 47.! 27.9
2!!2 ;!.! 4:." ;!.! 7;.2
2!!9 4!.; 2@.@ 9".@ 29.A
2!!4 2A.A 24.7 2A.! 77.@
2!!; 79.@ 79.A 74.7 74.@
Kris Rasmussen
Daniel Tetteh
33
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
The %overnment adopts prudent #is(al mana%ement and ti%ht monetary poli(y in
(ontrollin% in#lation. The mana%ement and ti%ht monetary poli(y is made possible
by the relatively independen(y o# the (entral ban$ 4thus .an$ o# 'hana6 and
settin% o# monetary poli(y (ommittee )hi(h supervise some $ey e(onomi(
indi(ators in the e(onomy.
4.) /overnment +,$enditure
The .an$ o# 'hana &(t 4&5T A726 )as si%ned into la) in January 2!!2. The
ne) &(t )as to ensure pri(e stability as a primary poli(y %oal #or the .an$ and
%ives operational independen(e to the .an$ o# 'hana. The &(t #urther pla(es a
limitation on %overnment borro)in% #rom the (entral ban$ in any year to 7!< o#
its revenue #or that parti(ular year. The &(t re#o(used the (entral ban$ on the
maBor tas$ o# in#lation (ontrol. This helps in #is(al path that (onstrains spendin% to
a level (lose to revenues.
In the subse2uent years be(ause %overnment spendin% e3(eeds the bud%et
substantially the %overnment tends to borro) #rom the publi( and other #inan(ial
institutions. This (aused Treasury bill to be hi%h. Treasury is ris$ #ree so the
ban$s pre#er buyin% treasury bill than borro)in% to the publi( be(ause o# the ris$
asso(iated )ith borro)in% to the publi( and even i# the ban$s borro) to the
Kris Rasmussen
Daniel Tetteh
34
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
publi( the interest rate are hi%h and that s(ared people a)ay. The publi( also
pre#er savin% in Treasury bill be(ause o# hi%h returns )hi(h in e##e(t in(rease
%overnment spendin% substantially )hi(h in e##e(t in(rease in#lationary pressure.
Publi( se(tor borro)in% 4PS.6 redu(es si%ni#i(antly sin(e 2!!7 )hi(h had a
positive e##e(t on interest rate in 'hana. The ban$s are no) borro)in% money to
publi( be(ause Treasury bill rate has redu(ed to about :< (urrently althou%h the
interest rate is still hi%h it is #ar better than be#ore.
S,&R IC*I&TIOC
:7 TD.III
R&T,
<-', O*
,UP,CDIT>R,
<-', O*
R,K,C>,
7::4 24.: 2:.;!
7::; 2".: 4!.;! 4:.74 47.;!
7::A 4A.A 42.@! ;7.@@ 2".7!
7::" 2".: 42.4@ 4".;; 7".@@
7::@ 7;." 2A."; 7A."" 2@.;@
7::: 79.@ 97.4: 79.;A :.22
2!!! 4!.; 42.!! ;".:" ;7.::
2!!7 27.9 2@.:! ;4.;2 A:."7
2!!2 7;.2 2A.A! ".72 A."!
2!!9 29.A 7@."! 42.4@ A9.7;
2!!4 77.@ 7".7 9@.7: 47.:"
2!!; 74.@ 77."" 9!.2 24.7
I/0"ATI-/ T#2/' C-+PA#2 T- 2BP2/'IT3#29
#2,2/329> TCBI"" #AT2
!
7!
2!
9!
4!
;!
A!
"!
@!
7
:
:
4
7
:
:
;
7
:
:
A
7
:
:
"
7
:
:
@
7
:
:
:
2
!
!
!
2
!
!
7
2
!
!
2
2
!
!
9
2
!
!
4
2
!
!
;
.2A#
IC*I&TIOC
:7 TD.III R&T,
<-', O*
,UP,CDIT>R,
<-', O* R,K,C>,
S,&R ,UP,CDIT>R,4.IIIIOC6 R,K,C>,4.IIIIOC6 D,*I5IT4.IIIIOC DO1,STI5 D,.T4.IIIIOC6
Kris Rasmussen
Daniel Tetteh
3!
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
6
7::4 774:.A 72A7.9 777." ;97.!
7::; 7"74.; 7"@4.@ "!.9 @";.A
7::A 2A!4.! 22A@.; -99;.; 2A2@.@
7::" 9@42.2 2A"4.! -77A@.2 9;!!.;
7::@ 44@A." 949@.7 -7!4@.A 44"A.;
7::: ;!:4.: 9";;.2 -799:." ;":".9
2!!! @!4@.; ;"!".A -294!.: "@42.9
2!!7 7249A." :A@A.9 -2";!.4 :2:".;
2!!2 79927." 7!99;.9 -2:@A.4 79:!:.4
2!!9 7@:@7.9 7A@A7.A -277:." 79;:7.;
2!!4 2A22:.; 29:9@.4 -22:7.7 7A@:".2
2!!; 947;!.@ 2:"!".A 4449.9
C-+PA#ATI,2 T#2/' -0
2BP2/'IT3#29#2,2/329'-+2=TIC '2BT A/'
'20ICIT
-;!!!
!
;!!!
7!!!!
7;!!!
2!!!!
2;!!!
9!!!!
9;!!!
4!!!!
7
:
:
4
7
:
:
;
7
:
:
A
7
:
:
"
7
:
:
@
7
:
:
:
2
!
!
!
2
!
!
7
2
!
!
2
2
!
!
9
2
!
!
4
2
!
!
;
.2A#
,UP,CDIT>R,4.IIIIOC
6
R,K,C>,4.IIIIOC6
D,*I5IT4.IIIIOC6
DO1,STI5
D,.T4.IIIIOC6
The %raphs above sho)s ho) in#lation (han%es )ith %overnment e3penditure
and (ertain e(onomi( indi(ators relate )ith e3penditure. & (are#ul study o# the
%raphs sho)s ho) in#lation trend (han%e )ith e3penditure. The year )here
e3penditure )as hi%h in#lation also tends to be hi%h. This in e##e(t sho)s a hi%h
:7 days Treasury bill interest rate indi(atin% e3(essive borro)in% on the part o#
the %overnment. *rom 2!!7 )here in#lation seems to be nose-divin% the
per(enta%e (han%e in e3penditure )as better than previous years. ,3penditure
)as mat(h )ith improved revenue mobili/ation. This put less pressure on
%overnmentE in e##e(t redu(e %overnment borro)in% )hi(h have positive
development in Treasury bill rate. This redu(es lendin% rate o# the ban$s to
Kris Rasmussen
Daniel Tetteh
3#
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
borro) to the publi( be(ause Treasury bill rate )as #allin%. This is so be(ause the
Treasury bill rate is lo) so the ban$s are #or(ed to borro) to the publi(.
D +ethodology and 2stimation
5.1 et%odolog#
In order to determine the true impa(t o# in#lation o# businesses and trade least
s2uares and re%ression models )ere run on histori( data #rom 'hana and
5anada.
*urther details on the models used are available in the &ppendi3.
5.2 +!timation
*our models )ere developed to establish best o# %ood #it. The models and
respe(tive analysis is %iven belo):
+odel :Ghana;
Dependent Kariable: IC*I&TIOC
1ethod: Ieast S2uares
Date: !AM7AM!" Time: 29:!9
Sample: 7:@A 2!!A
In(luded observations: 27
Kariable 5oe##i(ien
t
Std. ,rror t-Statisti( Prob.
5 742.A@:7 7!A.49@9 7.94!;@! !.7:""
IO'4'DP6 -74.@:2!@ 72.@24;7 -7.7A722! !.2A7A
IO'4,U50&C',6 74.4!97A 74.;7!49 !.::2A!" !.994@
ICT,R,ST !.;"997! !.9A94A9 7.;""9;4 !.7997
R-s2uared !.9A"A2" 1ean dependent var 2;.;:;24
&dBusted R-s2uared !.2;A!97 S.D. dependent var 74.!@@2"
S.,. o# re%ression 72.7;7A; &$ai$e in#o (riterion @.!!244:
Sum s2uared resid 2;7!.2A2 S(h)ar/ (riterion @.2!74!A
Io% li$elihood -@!.!2;"2 *-statisti( 9.2:42@A
Durbin-+atson stat 7."4!;2" Prob4*-statisti(6 !.!4;@:;
Kris Rasmussen
Daniel Tetteh
3'
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
5hart
-2!
!
2!
4!
!
2!
4!
A!
@!
@A @@ :! :2 :4 :A :@ !! !2 !4 !A
Resi dual &(tual *i tted
The Re%ression #or this model is %iven belo):
IL 5RV7lo%4S6 RV2 lo% 4,6 R V9R )here
IL In#lation
SL 'DP at (urrent pri(e
,L,3(han%e rate o# the (edis a%ainst the dollar
5L 5onstant and
V L (oe##i(ient o# the independent variables

Kris Rasmussen
Daniel Tetteh
3+
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
In the model 7 above R
2
L 9A.@ )hi(h is less and does not sho) a %ood o# best #it
#or the re%ression. The nominal data su(h as 'DP at (urrent pri(e e3(han%e rate o#
the 'hanaian (edis a%ainst the dollar are e3pressed in natural lo%. The (oe##i(ients
o# the model above are not %ood enou%h #or the re%ression i# )e should do any
#ore(ast. The *-statisti( is lo) althou%h the probability o# *-statisti( is %ood #or the
re%ression be(ause is nearin% /ero. This model sho)s that the relation bet)een
dependent variable 4In#lation6 and the independents variables 4'DP ,3(han%e rate
and interest rate6 is not stron% enou%h. This model is reBe(ted and la% is introdu(ed
in the se(ond model belo).

+odel :!; Ghana
Dependent Kariable: IC*I&TIOC
1ethod: Ieast S2uares
Date: !AM7AM!" Time: 29:!"
Sample4adBusted6: 7:@" 2!!A
In(luded observations: 2! a#ter adBustin% endpoints
Kariable 5oe##i(ient Std. ,rror t-Statisti( Prob.
5 -4!A.7@A@ 792.!@4! -9.!";27; !.!!:A
IO'4'DP6 2:;.:7;; ;4.2"44A ;.4;22!; !.!!!7
IO'4,U50&C',6 4.@!2"@2 74.!A"4; !.947477 !."9@"
ICT,R,ST !.977:;: !.99AA2: !.:2A"7A !.9"29
IC*I&TIOC4-76 -!.A@@44@ !.297A@@ -2.:"74;7 !.!77"
IO'4'DP4-766 -2;4.74AA 49.!A@A@ -;.:!!:A! !.!!!7
IO'4,U50&C',4-766 -4:.!A!:@ 7".!792; -2.@@9A:2 !.!79"
ICT,R,ST4-76 !.;;2!9; !.94AA;! 7.;:24@; !.79"9
R-s2uared !.@A!;77 1ean dependent var 2;.27!!!
&dBusted R-s2uared !."":742 S.D. dependent var 74.94!99
S.,. o# re%ression A."9:97! &$ai$e in#o (riterion A.:42:A"
Sum s2uared resid ;4;.!7:A S(h)ar/ (riterion ".9472;:
Io% li$elihood -A7.42:A" *-statisti( 7!.;";4"
Durbin-+atson stat 2.4A!:!: Prob4*-statisti(6 !.!!!2A"
5hart
Kris Rasmussen
Daniel Tetteh
3.
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
-7!
-;
!
;
7!
7;
!
2!
4!
A!
@!
@@ :! :2 :4 :A :@ !! !2 !4 !A
Resi dual &(tual *i tted
The re%ression #or this model is %iven belo):
IL 5RV7lo%4S 4-766 RV2lo% 4, 4-766 RV9R 4-76
In the se(ond model all the variables 4In#lation 'DP ,3(han%e rate and Interest
rate6 )ere la%%ed. &#ter the end points )ere adBusted model 2 sho)s a best
%ood o# #it. R-S2uared is @A.7< and adBusted R-S2uared is "".:<. These
#i%ures are hi%h enou%h )hi(h sho)s stron% relationship bet)een the dependent
4In#lation6 and the independent variables 4'DP ,3(han%e rate and interest rate6.
The *-statisti( is also %ood #or the modelE the probability o# *-statisti( is also very
lo). This indi(ates a best o# %ood #it bet)een the dependent variable and the
independent variables. .y this model 'DP at (urrent pri(e ,3(han%e rate and
interest rate have a stron% in#luen(e on in#lation.
+odel :&; Canada
Dependent Kariable: IC*I&TIOC
1ethod: Ieast S2uares
Date: !AM7AM!" Time: 22:4;
Sample: 7:@A 2!!A
In(luded observations: 27
Kariable 5oe##i(ien
t
Std. ,rror t-Statisti( Prob.
5 -99.;!@!9 2;.AAAA: -7.9!;;!A !.2!:7
IO'4,U50&C',6 7.4@!4;9 2.4"977" !.;:@A7@ !.;;"9
IO'4'DP6 9.9;7;42 2.;7";A; 7.9972A9 !.2!!"
Kris Rasmussen
Daniel Tetteh
46
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
ICT,R,ST !.49"7@! !.77!:4: 9.:4!9;@ !.!!77
R-s2uared !.A!@4;2 1ean dependent var 2.A;"749
&dBusted R-s2uared !.;9:9;; S.D. dependent var 7.4494;@
S.,. o# re%ression !.:":A@" &$ai$e in#o (riterion 2.:AA4"A
Sum s2uared resid 7A.97A9" S(h)ar/ (riterion 9.7A;499
Io% li$elihood -2".74@!! *-statisti( @.@!;":;
Durbin-+atson stat 7.@A;7@: Prob4*-statisti(6 !.!!!:;A
5hart
-2
-7
!
7
2
9
!
2
4
A
@A @@ :! :2 :4 :A :@ !! !2 !4 !A
Resi dual &(tual *i tted
The sample re%ression #or the above model isE
IL 5R V7lo%4S6 R V2lo% 4,6 R V9R
In the model 9 above R
2
L A!.@< and adBusted R-S2uared is ;9.: these #i%ures
sho) a %ood #it #or the re%ression but not hi%h enou%h #or a stron% relationship
bet)een the dependent variable4In#lation6 and the independent variables4'DP
,3(han%e rate interest rate6. The nominal data su(h as 'DP at (urrent pri(e
e3(han%e rate o# the 5anadian dollar a%ainst the >S dollar are e3pressed in
natural lo%. The (oe##i(ients o# the model above are %ood enou%h #or the
re%ression i# )e should do any #ore(ast. The *-statisti( is %ood althou%h the
probability o# *-statisti( is %ood #or the re%ression be(ause is nearin% /ero. This
model sho)s that the relation bet)een dependent variable 4In#lation6 and the
independents variables 4'DP ,3(han%e rate and interest rate6 is %ood enou%h.
+e e3plore #urther by introdu(in% la% in the estimation e2uation.
Kris Rasmussen
Daniel Tetteh
41
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
+odel ) Canada
Dependent Kariable: IC*I&TIOC
1ethod: Ieast S2uares
Date: !AM7AM!" Time: 22:;!
Sample4adBusted6: 7:@" 2!!A
In(luded observations: 2! a#ter adBustin% endpoints
Kariable 5oe##i(ien
t
Std. ,rror t-Statisti( Prob.
5 -42.72"!; 24.!@"4; -7."4@:27 !.7!;@
IO'4,U50&C',6 7!.492@7 9.9;4"A: 9.7!:@4; !.!!:!
IO'4'DP6 -!.27@9@! 79.7";!2 -!.!7A;"; !.:@"!
ICT,R,ST !.79:9:2 !.!::442 7.4!7"9@ !.7@A9
IC*I&TIOC4-76 -!.!@""42 !.7A!";4 -!.;4;@7" !.;:;2
IO'4,U50&C',4-766 -72.9"24! 9."2:"2A -9.97"247 !.!!A7
IO'4'DP4-766 4.2499:7 72.2@A:: !.94;9;A !."9;@
ICT,R,ST4-76 !.494":; !.7;9442 2.@99A!; !.!7;7
R-s2uared !.@:7;"! 1ean dependent var 2.;@;!!!
&dBusted R-s2uared !.@2@92! S.D. dependent var 7.447;:7
S.,. o# re%ression !.;:"979 &$ai$e in#o (riterion 2.!:A429
Sum s2uared resid 4.2@79:4 S(h)ar/ (riterion 2.4:4"7A
Io% li$elihood -72.:A429 *-statisti( 74.!:;@;
Durbin-+atson stat 2.@4@2;2 Prob4*-statisti(6 !.!!!!A4
5hart
Kris Rasmussen
Daniel Tetteh
42
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
-7.;
-7.!
-!.;
!.!
!.;
7.!
!
2
4
A
@@ :! :2 :4 :A :@ !! !2 !4 !A
Residual &(tual *itted
IL 5RV7lo%4S 4-766 RV2lo% 4, 4-766 RV9R 4-76
In the se(ond model all the variables 4In#lation 'DP ,3(han%e rate and Interest
rate6 )ere la%%ed. &#ter the end points )ere adBusted model 4 sho)s a best o#
%ood #it. R-S2uared is @:.2< and adBusted R-S2uared is @2.@<. These #i%ures
are very hi%h enou%h )hi(h sho)s stron% relationship bet)een the dependent
4In#lation6 and the independent variables 4'DP ,3(han%e rate and interest rate6.
The *-statisti( is also %ood #or the modelE the probability o# *-statisti( is also very
lo). This indi(ates a #it bet)een the dependent variable and the independent
variables. .y this model 'DP at (urrent pri(e ,3(han%e rate and interest rate
have a stron% in#luen(e on in#lation.
5.3 :imitation! of t%e odel!
In a normal statisti(al analysis )e normally pre#er 2uarterly data than annual
data. It is very di##i(ult %ettin% data 2uarterly on e3(han%e rate #rom both
(ountries. &lso in 'hana the #loatin% e3(han%e rate re%ime started in 7:@9 so it
ma$es it di##i(ult mi3in% #i3ed e3(han%e rate )ith #loatin% e3(han%e rate. This
also a##e(ted sample si/e o# the data sin(e )e have to start the analysis #rom
7:@A. This )or$ )ould have been best i# )e had used 2uarterly data )hi(h
)ould have been enou%h #or time series data. +e thin$ this )or$ (an be #urther
e3plored and (an be developed #urther.
Kris Rasmussen
Daniel Tetteh
43
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
5 Conclusions
5anada is a developed (ountry and 'hana is a developin% (ountry. In both
(ountries there seems to be a stron% relationship bet)een in#lation as a
dependent variable and 'DP ,3(han%e rate and interest rate as independent
variable )hen the data is la%%ed. 5anada=s model 9 has a %ood #it even )ithout
the data bein% la%%ed and is stron%er i# all the variables are la%%ed. This really
sho)s the impa(t o# 'DP ,3(han%e rate and interest rate on in#lation. In other
)ords national in(ome 4'DP6 ,3(han%e rate 4trade6 and interest rate
4businesses6 play $ey role in determination o# in#lation.
Returnin% to the 2uestions that )ere posed at the be%innin% o# the paper:
76 +hat is the impa(t o# in#lation on businesses and trade8
.ased on the results o# the statisti(al analysis that has been per#ormed in(reases
in in#lation appear to have an adverse e##e(t on 'DP. There#ore it (an be
(on(luded that hi%h in#lation has an adverse e##e(t on business and trade.
26 1ost businesses depend on loans to run their business operations. +hat
is the (orrelation bet)een in#lation and interest rate both in 'hana and
5anada8
.oth 5anada and 'hana use interest rate settin% in their monetary poli(y in an
e##ort to redu(e the money available in the e(onomy and there#ore minimi/e
in#lation. There#ore there is an obvious (orrelation bet)een an in(rease in
in#lation and a (orrespondin% in(rease in interest rate in order to (ontrol in#lation.
Kris Rasmussen
Daniel Tetteh
44
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
96 0o) is in#lation a##e(tin% the e3(han%e rate development o# import and
e3port8 +hat is the e##e(t on businesses that depend mostly on imported
ra) material #or produ(tion8
*rom the models above there appears to be a (orrelation bet)een in#lation and
the e3(han%e rate o# the (ountry )hi(h have adverse e##e(t on trade thus import
and e3port. 1ost (ountries no) used #loatin% e3(han%e. +hat this means is that
businesses )hi(h rely heavily on imported ra) material #or produ(tion )ill have
to pray #or a stable (urren(y. >nstable (urren(y )ill in(rease (onsumer pri(e
inde3 )hi(h a##e(t pur(hasin% po)er in an e(onomy. On (omparative analysis o#
both (ountries 5anada seems to have a very stable (urren(y. This has a##e(ted
both their import and e3port positively. 'hana on the other hand has unstable
(urren(y. .alan(e o# payment is al)ays in #avour o# import )hi(h have a
ne%ative e##e(t on our (urren(y.
46 0o) is monetary poli(y used in 5anada to (ontrol in#lation and ho) does
this (ompare to the poli(y bein% used in 'hana8
&s dis(ussed earlier 5anada relies on settin% a prime interest rate in an e##ort to
redu(e money supply thereby (ontrollin% in#lation. This method (oupled )ith
their in#lation rate tar%etin% has been very su((ess#ul in (ontrollin% in#lation sin(e
it )as #irst adopted. 'hana on the other hand relies on both an interest rate
settin% as )ell as a reserve re2uirement poli(yE they have had less su((ess in
their e##orts to (ontrol in#lation in the e(onomy. The bi%%est reason #or this la($
o# su((ess is the (ommer(ial ban$s un)illin%ness to #ollo) the .an$ o# 'hana=s
interest rate )hen settin% lendin% rates. +hat this means is that mu(h o# the
ban$=s e##orts )hen it (omes to interest rate settin% is ine##e(tive. The reason #or
the relu(tan(e in the ban$s to #ollo) the (entral ban$=s %uidan(e on interest rates
undoubtedly is a result o# the la($ o# (ertainty in )hat the short and lon% term
in#lation rates may be. There#ore businesses #ind it di##i(ult to a((ess (redit #or
e3pansion espe(ially small s(ale industries.

Kris Rasmussen
Daniel Tetteh
4!
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
E =ources
7. +ilson 'eor%e +. In#lation 5auses 5onse2uen(es and 5ures. 7st ed.
.loomin%ton IC: Indiana >niversity Press 7:@2.
2. The &meri(an 0erita%e Di(tionary o# the ,n%lish Ian%ua%e. 4
th
ed.
0ou%hton 1i##lin 5ompany 2!!!.
9. Thomas +ilson In#lation 5ambrid%e 1&: 0arvard >niversity Press 7:A7.
4. F5osts o# In#lationF +orld ,(onomi( Outloo$ 7::A
;. .an$ o# 'hana
A. .an$ o# 5anada
". 'hana Statisti(al Servi(e
@. ,-vie)s 4))).evie)s.(om6
:. G1onetary Poli(y ReportH .an$ o# 5anada 2!!"
7!. G1onetary 1ana%ement in 'hanaH .an$ o# 'hana 2!!7
77. 1a(roe(onomi(s 4*ourth ,dition6 by David 5. 5olander.
72. Prin(iples o# ,(onomi(s by Robert *ran$ and .en .ernan$e.
79. 'hana=s .ud%etary statement #or 2!!4.
Kris Rasmussen
Daniel Tetteh
4#
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
F Appendi4
The #egression 0unction
The estimated re%ression relationship is as #ollo)sE
SL V! R V7U7RV2U2RWWW..RVnUn )here
S is the dependent variable
V is the (oe##i(ient o# the independent variables
U is the independent variable
In usin% ,-vie)s #or the estimation o# the model ea(h estimated (oe##i(ient has
an asso(iated standard error )hi(h is the estimated standard deviation a
measure o# the pre(ision o# the estimator. ,a(h estimated 5oe##i(ient also has an
asso(iated t-Statisti(E this is the ratio o# the (oe##i(ient to its standard error. This
statisti( is used to test the hypothesis that the (orrespondin% parameter is e2ual
to /ero. The t-Statisti( #ollo)s a Student=s t-distribution )ith de%rees o# #reedom
e2ual to the sample si/e minus the number o# parameters estimated 4K6.
I# the hypothesis 4$L!V6 is true then the t-statisti( probably lies (lose to /eroE
other)ise it is li$ely to #all in one o# the tails o# the distribution. +hether a
(al(ulated t-statisti( is statisti(ally di##erent #rom /ero is determined by (omparin%
it )ith a (riti(al value #or the t-distribution #or a pre-sele(ted si%ni#i(ant level.
0!: V$ L !
07: V$ X !
De(ision rule: i# abs 4t-statisti(6Tt(rit then reBe(t the null hypothesis
Probability: is the probability that the student=s random variable lies #urther in the
tail o# the distribution than the (al(ulated t-statisti( #or the (oe##i(ient does. This
value (an also be used to test the hypothesis %iven above. This is an easier
approa(h and produ(es e3a(tly the same de(ision as the previous de(ision rule:
De(ision Rule: I# ProbY then reBe(t Z
Kris Rasmussen
Daniel Tetteh
4'
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
R-S2uared 4R
2
6 is the G%oodness o# #itH measure. It measures the proportion o#
variation in the dependent variable that is Ge3plainedH by the sample re%ression
#un(tionE it measures the de%ree to )hi(h the data lie G(loseH to the line. This is
2uite distin(t #rom the slope o# the line.
The Adjusted #
!
(ontains a de%rees o# #reedom (orre(tion that a((ounts #or the
estimation o# additional parameters. &ddin% independent variables adds more
statisti(al in#ormation than is (onsumed by the additional (oe##i(ients then the
adBusted R
2
in(reases.
Sum S2uared resid 4SSR6 is [et
2
. SSRM 4T- K6 is estimator o# the error varian(e Z
and the s2uare root o# this estimator is $no)n as the standard error o# the
re%ression 4S, re%ression6.
Io% li$elihood is the lo%-li$elihood #un(tion 4#or normally distributed sto(hasti(
disturban(es6 evaluated at the estimated (oe##i(ient values. It is (al(ulated as
\L -T ]7Rlo% 42Q6 R lo% 4[et
2
6^
2 T
0ypotheses may be tested via li$elihood ratio tests that (ompare the lo%-
li$elihood values #or restri(ted 4i.e. imposin% the null hypothesis6 and unrestri(ted
e2uations.
'urbin(8atson stat: is desi%ned to dete(t #irst-order serial (orrelation o#
residuals.
1ean Dependent varL _
S.D dependent var is the sample standard deviation o# the dependent variable.
Akaike info criterion is %iven by
&I5 L 24K-`6
T
Smaller values o# &I5 are pre#erred.
=chwarG criterion is similar to &I5 but imposes a stron%er penalty #or estimatin%
additional parameters in the model. It is %iven by
S5L 4Kalo% 4T6-2`6
T
0(=tatistic is used to test the hypothesis that the e3planatory po)er o# the model
is /ero. The null and alternative hypotheses are:
0!:V2LV9L WWWL b$ L!
07: Cot all slope (oe##i(ients are /ero
Kris Rasmussen
Daniel Tetteh
4+
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
>nder the null hypothesis 4and )ith statisti(ally independent iid normal sto(hasti(
disturban(es6 the *-statisti( #ollo)s an *-distribution )ith 4K-76 numerator
de%rees o# #reedom and 4T-K6 denominator de%rees o# #reedom lar%e values o#
the *-statisti( lead us to reBe(t the null hypothesis. This *-test is an e3ample o# a
+ald test.
De(ision Rules: &s )ith the t-statisti( )e (an #ormulate de(ision rules #or the *-
statisti( in terms o# (riti(al values dra)n #rom the *-distribution.
2stimating and Testing a =imple Time(=eries +odel
The 'eterministic :"og("inear; Time Trend +odel
& traditional method #or estimatin% the lon%-term trend in a data series St is a
re%ress the lo%arithm o# St on the inter(ept and time trend.
Io% 4St6 L V7RV2 R ct
The (oe##i(ient is the trend %ro)th rate in S. The sto(hasti( errors are stationaryE
this model is o#ten (alled the trend stationary 4TS6 model.
The 'urbin(8atson =tatistic
The Durbin-+atson is desi%ned to test #or #irst-order auto(orrelation )hen the
re%ression (ontains an inter(ept term and )hen it does not (ontain any la% o# the
dependent variable as a re%ressor. >nder the null hypothesis o# no #irst-order
auto(orrelation the D+ statisti( is e2ual to 2E values (lose to ! reBe(t the null in
#avor o# positive auto(orrelation and values (lose to 4 reBe(t the null in #avor o#
ne%ative auto(orrelation.
Autocorrelation and Partial Autocorrelation 0unctions
5onsider the &uto(orrelation 4&56 #un(tion:
T
[etet-$
r$L tL$L7
T
[ et
2
tL7
This is the estimated auto(orrelation (oe##i(ient #or $ la%s. The hypothesis that
there is no auto(orrelation up to order $ (an be tested usin% the IBun%-.o3 J-
Statisti(:
$
JI. L T 4TR26 [ rB2
iL7 4T-B6
Kris Rasmussen
Daniel Tetteh
4.
The Impact of Inflation on Business and Trade: a case study of Ghana and Canada
>nder the null hypothesis o# no auto(orrelation the J statisti( is asymptoti(ally
distributed as d )ith $ de%rees o# #reedom.
Partial &uto(orrelations are estimated #rom the re%ression
etLe7et-7 R e2et-2 RW.e$et-$ Rvt
The (oe##i(ients e measures the (orrelation bet)een residuals that are B periods
apart (ontrollin% #or the (orrelations at other la%s.
Kris Rasmussen
Daniel Tetteh
!6