Studying the Impact of Macroeconomic Variables on Inflation Rates in Egypt: an ARDL Approach

Abstract

Reducing inflation is a primary goal of the country's economic policy, as high and sustainable inflation negatively affects economic stability and directly impacts individuals' income and wealth. Inflation also affects a country’s trade balance. In addition, high inflation hurts investment and the creation of new employment opportunities. Therefore, this study focused on investigating the dynamic causal relationship between four major economic variables (exchange rate (EX), money supply (M), foreign direct investment (FDI), and balance of trade (BOT) variables) and the inflation rate in Egypt from 1990 to 2022. The main hypothesis of our study is that there are significant effects of the EX, M, FDI, and BOT variables on the inflation rate in Egypt. Since the relationship between these variables is dynamic so the autoregressive distributed lag (ARDL) methodology was used for testing this hypothesis in the short and long term. The statistical results indicated that the suitable model for the data was ARDL (2,2,2,2,2). Furthermore, the EX, FDI, and BOT variables have a significant negative impact on the inflation rate. At the same time, the money supply is positively and significantly related to long-term inflation. There are significant effects of the lags of EX, M, and FDI variables on inflation. Also, the results of the error correction model for the ARDL (2,2,2,2,2) model indicated that economic adjustments between the five variables occur in the short term (after only about 14 months). The study recommends continuing the policy of exchange rate liberalization while working to expand the production base to increase exports and attract more foreign investments.