Determinants of Inflation in Iran based on Bayesian Model Averaging

Due to the significant impact of inflation on macro-economic variables, researchers pay tremendous amount of attention to inflation determinants. Accordingly, the present research investigates the impact of 13 variables on inflation during 1959 and 2012 by using Bayesian Model Averaging (BMA) method. The ranking of the 13 explanatory variables were obtained based on the probability of their inclusion in model. The results show that price of energy and money imbalance (Lag ratio of money to nominal output) have expected and positive effects on the inflation rate with a probability of 100 % and they are the key explanatory variables in inflation equation. The energy price, currency imbalance measure, money growth and market exchange rate growth are the first four determinants of inflation in Iran. The impact of the output growth on inflation is not significant in the short-run but it gradually influences the inflation through money imbalance channel in the long-run. In addition, most anti-inflation effects appear with delay due to a decrease in the money supply. These results imply the dominance of monetary variables or monetary inflation in the Iranian economy and the cost push factors not having significant impact on the prices. Also, variables such as oil revenues and imports can have an impact of inflation only if they are channeled through the exchange rate, output growth and money velocity.