Non-linearities in Inflation-Growth Nexus in the SADC Region: A Panel Smooth Transition Regression Approach

The main objective of central banks around the world is the achievement and maintenance of price stability, which actually creates an environment conducive for faster economic growth. Therefore, it is important for policy makers to understand the relationship between inflation and economic growth in order to make sound policies. If inflation is detrimental to economic growth, then policy makers should aim for low rate of inflation. This leads to a question; how low should the inflation rate be? Previous research in the non-linearities of the inflation-growth relationship has found that a positive relationship exists when inflation rate is low and a negative relationship exists when the inflation rate is high. This implies that there is a threshold level of inflation at which the sign switches. Therefore, this paper uses panel data for the period 1980 – 2008 to re-examine the inflation-growth nexus in the SADC region. In particular, the paper endogenously estimates the threshold level of inflation. To deal with the problems of endogeneity and heterogeneity, the paper uses the Panel Smooth Transition Regression (PSTR) method developed by González et al.(2005) and examines the non-linearities in the inflation-growth nexus. This technique further estimates the smoothness of the transition from low inflation regime to high inflation regime. The findings reveal a threshold level of 18.9 per cent, above which inflation is detrimental to economic growth in the SADC region.