Money supply, interest rate, exchange rate and oil price influence on inflation in South Africa

Abstract

Price stability is critical for South Africa’s economic development strategy, and, based on previous studies, to effectively achieve this, requires a good understanding of the relationship between inflation and selected macroeconomic variables of broad money supply, interest rate, exchange rate and oil price. Monthly data are employed from January, 1999 through September, 2010. To determine this relationship, the independent variables were tested for multicollinearity, and thereafter a multiple regression model was developed. The findings from the study show that approximately 97% of the consumer price index movement is explained by the four macroeconomic variables. The study confirms that money supply and exchange rates have a strong positive relationship with inflation and have to be managed. Interest rates and oil price, on the other hand, have a significant negative relationship with inflation and should be part of a macroeconomic policy framework. This requires managing the delicate balance between a desirable level of inflation in support of economic growth and development and an unacceptable level of inflation that leads to price instability.