Non-linear causality between exchange rates, inflation, interest rate differential and terms of trade in Tunisia

Purpose: The purpose of this paper is to investigate the dynamic relationship between inflation, interest rate differential, the exchange trade and exchange rate parities, i.e. (USD/TND, EUR/TND and JPY/TND). Design/methodology/approach: Given the existing non-linear form between the different time series in this study, the empirical analysis is based on the using of non-parametric method such as the artificial neural networks. In order to detect the causality relationship between the variables, the authors use an NARX model. Findings: Mixed results were found; there is a bidirectional relationship between inflation and exchange rate among others. Results also show that there is a strong correlation between the terms of trade and inflation, which says that trade openness increases the demand for imported goods and, therefore, causes more inflation for Tunisia. Originality/value: After these results, it is important for policymakers to know which factors influence exchange rate stability, especially in developing countries like Tunisia.