Short and Long-Run Determinants of Inflation in Saudi Arabia: A Cointegration Analysis

Abstract

This paper investigates the short and long-run determinants of inflation in Saudi Arabia for the period of 1987-2017. To achieve this objective, the Johansen and Julius cointegration procedure and Vector Error Correction Model (VECM) were conducted to examine the existence of the short and long-run relationships between inflation, the money supply, domestic demand, the exchange rate and oil prices. The results reveal that inflation, in the long-run, is positively influenced by the money supply, domestic demand, and oil prices. It is negatively influenced by the exchange rate. Inflation is also highly influenced by domestic factors in the short-run (e.g., money supply, domestic demand). The Granger causality results indicate a bi-directional causality between the money supply and inflation. The unidirectional causality goes from the domestic demand and the oil prices to the price level. The Impulse Response Analysis illustrates that shocks associated with the money supply, domestic demand and oil prices have a positive impact on inflation.