An Indian Journal FULL PAPER. Trade Science Inc. The interest rate level and the loose or tight monetary policy -- based on the fisher effect ABSTRACT

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1 [Typ x] [Typ x] [Typ x] ISSN : Volum 10 Issu 18 BoTchnology 2014 An Indan Journal FULL PAPER BTAIJ, 10(18), 2014 [ ] Th nrs ra lvl and h loos or gh monary polcy basd on h fshr ffc Zhao Tanrong School of Economcs & Managmn Chongqng Normal Unvrsy Hux Campus, Chongqng, (CHINA) Emal : zr006@126.com ABSTRACT Dffrncs n undrsandng of h rlaonshp bwn h lvl of nrs ras and monary polcy, Popl pu forward dffrn monary polcs. I s of vry mporan sgnfcanc for popl o undrsand and mplmn h cnral bank monary polcy ha h corrc knowldg of h rlaonshp bwn h lvl of nrs ras and h ghnss of monary polcy. Ths papr mak an mprcal analyss of h Fshr Effc n chna wh h Fshr Effc Modl basd upon h horcal analyss, In ordr o avod h "Fshr paradox", dsngushs bwn shorrm and longrm fshr ffc. w mprcally analyz h longrm fshr ffc by applyng h mnmum dvaon complly rvsd h auo rgrssv dsrbud lag modl, h shorrm fshr ffc by usng h gnralzd mhod of momns smaon mhod, o h Chns daa n as a s sampl. KEYWORDS Inrs ra; Monary polcy; Fshr ffc; Inflaon ra; Yardsck. Trad Scnc Inc.

2 10426 Th nrs ra lvl and h loos or gh monary polcy basd on h fshr ffc BTAIJ, 10(18) 2014 INTRODUCTION Accordng o Fshr s analyss, h nomnal nrs ra wll ncras as popl ancpa h ncras of h nflaon ra, whch wll b fully rflcd on h nomnal nrs ra, and h nomnal nrs ra, oghr wh h prc lvl, wll chang n h sam drcon. Ths longrm ffc s gnrally calld Fshr Effc. If Fshr Effc dos xs, h ncras of h nomnal nrs ra s no h rflcon of h mplmnaon of h gh monary polcy, bu h rsul of h ncras of h nflaon ra. Thus, h nomnal nrs ra should b usd wh cauon as an ndcaor of o rflc h dgr of ghnss n h monary polcy. As a rsul, whhr h dscron of h nrs ra can b h bs scal o judg h dgr of ghnss n h monary polcy of h Cnral Bank manly ls n whhr Fshr Effc xss bwn h nomnal nrs ra and h nflaon ra n Chna. LITERATURE REVIEW In som mprcal lraur, h adjusmn bwn h nomnal nrs ra and h nflaon ra s on o on, whch ndcas h ral nrs ra s qual o consan. Fama (1975) [1], by rgrssng h nomnal nrs ra whch s usd as h xpland varabl of h nflaon ra, fnds ha h bond mark of Amrca s ffcv, and h rason ls n ha h nomnal nrs ra summarzs all h mssag of h fuur nflaon ra ha h pas nflaon ra conans, h ffcvnss, as wll as h obsrvd ffcv yld, s consan, whch mans h compl adjusmn bwn h nomnal nrs ra and h chang of h prospcv nflaon ra [2]. Engl and Grangr (1987), as wll as Mshkn (1992), usd h mhod of congraon o analyz h nrs ra of on monh and h nrs ra of hr monhs, ponng ou ha Fshr Effc s a longrm (no shorrm) phnomnon [3]. Wallac and Warnr (1993) usd Johansn s maxmum lklhood smaon mhod o prov ha h onoon adjusmn rlaonshp dos xs bwn h nomnal nrs ra and h nflaon ra [4]. Evans and Lws (1995) usd h Markov alrnav modl o spcfy h chang of h nflaon rnd, and mak a scond s on h longrm rlaonshp bwn h nomnal nrs ra and h nflaon ra, fndng can b dnd ha h onoon adjusmn rlaonshp dos xs bwn h wo (hough h smad coffcn s lss han 1) [5]. Mshkn and Smon (1995) rspcvly usd Amrcan and Ausralan daa o s, wh h rsul ha srong longrm Fshr Effc dd xs n som prods n hs counrs (hough shorrm Fshr Effc s dnd) [6]. Ros (1998), Kng and Wason (1997) c. dnd h longrm qulbrum rlaonshp bwn h wo [7,8]. Kousas and Srls (1999) usd h quarrly daa from 1957 o 1995 n h 11 OECD counrs o sudy Fshr ffc, fndng ha n hs counrs (xcp Japan) hr s no qulbrum rlaonshp bwn h wo varabls [9]. Ths papr, basd on horcal analyss, wll mak an mprcal s on Fshr ffc n Chna by usng h sandard modl of Fshr Effc. I also dsngushs bwn h longrm and shorrm Fshr Effc by drawng on Mshkn s analycal mhod. Basd on h rsarch of Caporal and Ps (2000), w sma Fshr Effc by usng FMADL [18]. Accordng o Mshkn, w can adop h Gnralzd Mhod of Momns o analyz h shorrm ffc, by usng h rlvan daa from as sampls. SPECIFICATION AND PARAMETER SETTING OF THE MODEL Suppos s h nomnal nrs ra n Prod, r s h ral nrs ra n Prod, π s h prospcv nflaon ra n Prod, P s h capal, hn w hav: r p(1 + ) p 1+ π p (1) Smplfy h abov quaon, and hn w hav: r + π + r π (2) Bcaus r ar boh dcmals lss han 1, h numrcal valu of rπ can b approxmaly rgardd as zro; hn h quanav rlaonshp bwn h nomnal nrs ra and h ral nrs ra can b xprssd as: r + π (3) If hr s no mony lluson, whn h prospcv nflaon ra changs, h nomnal nrs ra wll go up o offs h nflunc of h prospcv nflaon ra, and snc h ral nrs ra dpnds on popl s m prfrnc bwn mmda consumpon and fuur consumpon, as wll as capal oupu ffcncy, n h long run h ral nrs ra can b approxmaly dmd as unchangd. Thus, Fshr Effc can b vrfd by h followng quaon:

3 BTAIJ, 10(18) 2014 Zhao Tanrong a + bπ (4) Thr no, h consan rm a ndcas x an ral nrs ra; f h null hypohss b1 can b dnd, Fshr Effc absoluly xss. Undr h hypohss of raonal xpcaons (Fama, 1975), h ral nflaon ra and h prospcv nflaon ra: π π + ε (5) Th rror rm ε s h random procss subjc o wh nos, ε ar quadraur, and hn w can vrfy Fshr Effc by sablshng h followng rgrsson quaon basd on quaons (4)and (5): α + βπ + η (6) Whn comply wh frs ordr sabl procss, ha s I (1), f hr xss congraon rlaonshp bwn, s provd ha hr s longrm qulbrum rlaonshp bwn h nomnal nrs ra and h nflaon ra. Th valu of β can b smad basd on hs. If H 0 : β 1 s accpd, Fshr Effc absoluly xss bwn h nomnal nrs ra and h nflaon ra; f 0< β <1, wak or paral Fshr Effc xss. RESULT AND DISSCUSS Varabl dfnon and daa sourcs In h nrs ra sysm n Chna, h onyar dpos nrs ra s h sandard o drmn h nrs ra n ohr phass and also a ool o rgula h monary polcy of h Cnral Bank. Thrfor, hs Papr uss o ndca h onyar dpos bas ra, whch can b rgardd as h nomnal nrs ra; h nflaon ra π s ndcad by h ral prc ndx n h socy; h monhly daa of h dpos nrs ra and h nflaon ra from 1990 o 2012 ar usd as sampls, and h daa com from h nal daa rlasd by Popl s Bank of Chna and Naonal Sascs Burau ovr h yars. Esmaon and nspcon of h modl Accordng o congraon dfnons, only whn h squncs of h wo varabls ar boh ngrad srs of h sam ordr, can b consdrd whhr hr xss h congraon rlaonshp. Thus, w frs ry o hav a congraon and rgrsson s on h quaon (6), and drmn andπ ar ngrad srs of h sam ordr, ha s un roo s. W us Evws5 o hav an ADF s on andπ. Th s rsul can b sn n TABLE 1. TABLE 1 : Th orgnal squnc of un roo s rsuls π Daa Nam Typ (C,T,p) ADF Valu ADF crcal valu 1% 5% 10% concluson orgnal valu (C,T,15) No Saonary frs dffrnc (C,T,15) Saonary orgnal valu (C,,15) No Saonary frs dffrnc (C,T,15) Saonary Th rsuls show ha h nomnal nrs ra and h nflaon ra π ar no sabl n hmslvs, so h fac ha h null hypohss of h un roo xss can b dnd a h lvl of abov 10% accordng o PP sandard. Snc h abov rsuls show boh h wo varabls conan un roo, w us on dffrnc scor o s whhr h squncs of varous varabls ar ngrad srs of h sam ordr,.. I (1). I urns ou ha afr on dffrnc scor, varabls bcom noabl abov h 1% lvl, whch ndcas h on dffrnc scor of h nomnal nrs ra and h nflaon ra s sabl. So andπ ar frs ordr saonary srs, mng h condons for congraon analyss. Hav a congraon s on h smaon quaon (6) by usng OLS, and g h followng rgrsson quaon:

4 10428 Th nrs ra lvl and h loos or gh monary polcy basd on h fshr ffc BTAIJ, 10(18) π + η ( ) ( ) (7) R DW F Thn hav a un roo s on h rgrsson rsdual η. If andπ. Hav an ADF un roo s on η, h rsul can b sn n TABLE 2. η s I (0), hr s congraon rlaonshp bwn TABLE 2 : Th rgrsson rsdual squnc of un roo s rsuls Daa Nam η Typ (,,0) ADF ADF crcal valu 1% 5% 10% Sn from h abov, η s noabl a h 1% lvl, and zro hypohss s dnd. Thus van b nfrrd ha h rgrsson rsdual squncη s saonary m srs I (0), ndcang h varabl squncs andπ hav congraon rlaonshp, ha s, hr xss a longrm sabl rlaonshp bwn h nrs ra and h nflaon ra π. Gvn ha h choc of h smaon mhod has a sgnfcan nflunc on h gnraon of Fshr Paradox, spcally on h sngl quaon rgrsson modl of small sampls, hs papr uss Bwly s (1975) [21] dynamc modl o sma h longrm Fshr Effc, and Indr (1993) dmonsras ha n hs dynamc modl, h compl rvson program of paramr corrcon can b appld o sma h rgrsson quaon ha has frs ordr congraon srs, and hlps o lmna dvaon n h rgrsson procss [22]. hs modl can b xprssd as: p 1 s 0 s q 1 ρ Δ + βπ + δ Δ π + ν (8) s j 0 j j G h smaor of h longrm Fshr Effc va h followng wo sps: Frsrly,Rgrss Bwly s dynamc modl, and g β as wll as h smad valu ˆ β ˆ ρ ˆ s 和 δ l. Afr h s, whn p s 61, q s 65, h modl s opmal; h valu of AIS s h smalls, ha s , and h Rsquard valu rachs p 1 q 1 * ˆ δ j s 0 j 0 Scondly,Dfn ˆ ρ sδ s Δπ j, and hn w can lmna h shorrm ffc; va h las squar rgrsson of π by *, w can g h smaor of h nsrumnal varabl whch s complly corrcd. Th rgrsson rsul can b sn n TABLE 3. TABLE 3 : Corrcon of nsrumnal varabl smaon Varabl Coffcn Sd. Error Sasc Prob. C π Rsquard Man dpndn var Adjusd R squard S.D. dpndn var S.E. of rgrsson Akak nfo crron Sum squard rsd Schwarz crron Log lklhood HannanQunn crr. Fsasc DurbnWason sa Prob(Fsasc)

5 BTAIJ, 10(18) 2014 Zhao Tanrong Thus, h smad modl of longrm Fshr Effc s: π ( ) ( ) (9) R D. W F Longrm Fshr Effc s h rsul of adjusng h nflaon ra n h long run, whl shorrm Fshr Effc xss o show h nsan adjusmn of h nomnal nrs ra accompand by h chang of h prospcv nflaon ra. Tha s o say, n sng rgrsson quaon, f h rgrsson paramr s conspcuously posv, n h followng quaon β>0 s also markdly sablshd: 1 + β ( π π 1) α + μ (10) In h hypohss of raonal xpcaons (Fama,1975), subsu h rlaon (5) of h nflaon ra and h prospcv nflaon ra no h abov quaon, and w can g h s modl of shorrm Fshr Effc: Δ α + βδπ + η (11) Thr no, η μ β ε ε ), h hypohss of raonal xpcaons dos no xclud h corrlaon ( 1 bwn ε and h varabl n Prod (such as Δ π 1 ). In h formaon of h rror rm η, h apparanc of 1 sgnfs s rlad o h xplanaory varabl Δ, so h abov rgrsson quaon can no b smad by usng OLS. In ordr o g h smaor of h rgrsson quaon, w, rsng on Mshkn s rsarch, uss Gnralzd Mhods of Momns (GMM) o sma quaon (11). Th nsrumnal varabl s ncluds dffrnc varabls n 1 prod as wll as bfor 1 prod ( π 1 π 2 π 3 π ). Th smad rsul can b sn n TABLE 4. So shorrm Fshr Effc s: TABLE 4 : GMM smaon rsuls Varabl Coffcn Sd. Error Sasc Prob. C D(π) ECM Rsquard Man dpndn var Adjusd R squard S.D. dpndn var S.E. of rgrsson Sum squard rsd DurbnWason sa Jsasc ε Δ ( Δ π ) ( ) ( ) ECM (12) R D. W CONCLUSIONS Thr xss longrm sabl qulbrum rlaonshp bwn h nrs ra and h nflaon raπ, hough hy ar no sabl rspcvly. Snc h nrs ra s nfluncd by h nflaon ra, hr corrlaon coffcn s Ts shows hr xss paral longrm Fshr Effc bwn 1990 and 2012 n Chna. Th xsnc of paral longrm Fshr Effc sgnfs h lvl valus of h nomnal nrs ra and h nflaon ra show lnar rnd n h long run, bu h wo m varabls do no adjus conspcuously accordng o h scal of onoon. If h nflaon ra

6 10430 Th nrs ra lvl and h loos or gh monary polcy basd on h fshr ffc BTAIJ, 10(18) 2014 ncrass 1%, h nomnal nrs ra only ncrass 0.615%. Ths characrsc, n h mplmnaon of polcy, can b nrprd as hs: ha h govrnmn adjuss h nrs ra s a rgulaon (no all) o conrol nflaon. In h shorrm smaon modl, β >0, s sascs s noabl and h smaon of rgrsson quaon s noabl, so h s fully provs hr xss paral shorrm Fshr Effc n Chna. W can say h shorrm chang of h nflaon ra plays a conspcuous bu paral nflunc on h nomnal nrs ra. Shorrm Fshr Effc llusras ha h chang of h nomnal nrs ra parly coms from h chang of h prospcv nflaon ra n h shor run. As s known from h rvrs corrcon mchansm ha rror corrcon coffcn ECM has n h modl, h nomnal nrs ra s rsrcd by Fshr Effc and s dvaon from h shorrm qulbrum rlaonshp can b corrcd n h nx srs. Th sz of h ECM coffcn rflcs h adjusmn of dvaon from qulbrum n h shor run. From h smad ECM coffcn, whch s , f h adjusmn s small, h monary auhory s rspons o nflaon s prudn. ACKNOWLEDGEMENT Suppord for hs papr by Naonal Socal Scnc Fund Projc Rsarch on h dvlopmn problms of small fnancal organzaons n rural aras (12BJY097) REFERENCES [1] Lu Kangbng; Inrs ras and nflaon: An Emprcal Analyss of h Fshr Effc. Journal of Fnanc and Economcs, 2, 2429 (2003). [2] E.Fama; Shom Inrs Ras as Prdcors of Inflaon. Amrcan Economc Rvw, 65(6), (1975). [3] R.F.Engl, C.Grangr; Co ngraon and Error Corrcon: Rprsnaon, Esmaon and Tsng. Economrcs, 55(3), (1987). [4] M.R.Wallac, J.T.Warnr; Th Fshr Effc and h Trm Srucur of Inrs Ras: Ts of Co ngraon.rvw of Economcs and Sascs, 75(2), (1993). [5] M.Evans, K.Lws; Do Expcd Shfs n Inflaon Affc Esmas of h Longrun Fshr Rlaon?. Journal of Fnanc, 50(1), (1995). [6] F.Mshkn, J.Smon; An Emprcal Examnaon of h Fshr Effc n Ausrala. Economc Rcord, 71(9), (1995). [7] A.K.Ros; Is h ral nrs ra sabl. Journal of Fnanc, 43(5), (1988). [8] R.G.Kng, M.W.Wason; Tsng longrun nuraly. Fdral Rsrv Bank of Rchmond Economc Quarrly, 83(3), (1997). [9] Z.Kousas, A.Srls; On h fshr ffc. Journal of Monary Economcs, 44(8), (1999).