Dynamic Relationship between Oil Price and Inflation in South Africa

The oil price-inflation relationship has been at the center of attention among economists and policy makers, especially after 1970’s oil shocks that resulted to a significant increase in the inflation rate in number of countries around the world. In this study, we aim to investigate the evolving relationship between oil price and inflation in South Africa, using time series data starting from January 1922 to July 2013. We fit both asymmetric and symmetric dynamic conditional correlation exponential GARCH (DCC-EGARCH) models to the data, and we find oil price to have a positive relationship with inflation and further, the asymmetric EGARCH shows that the positive shocks have higher impact on inflation than negative shocks of the same magnitude. Moreover, we observe that the correlation has been decreasing gradually over time despite the significant increase in oil consumption in South Africa over time and higher world oil price that keeps on rising. The less significant oil price- inflation relationship, observed in recent years, can be attributed to the South African Reserve Bank commitment to stabilize inflation expectation in the presence of external shocks.