Real Interest Rate and Inflation: Evidence from the Iranian Economy

Document Type : Research Paper

Authors

1 Faculty of Economics, University of Tehran, Tehran, Iran.

2 Faculty of Economics, University of Tehran, Tehran, Iran

Abstract

The effectiveness of the interest rate as a policy instrument for controlling inflation in Iran has long been a subject of debate. Drawing on the macroeconomic tradition initiated by Knut Wicksell, this study argues that the real interest rate is stationary in the long run and has no significant impact on inflation. In contrast, in the short run, a negative relationship exists between inflation and the real interest rate, consistent with contemporary monetary policy frameworks. To examine this relationship, expected inflation for the period 1394(8)-1404(8) is first estimated using a rolling VAR model based on key macroeconomic variables. This estimate is then used to construct the real interest rate by adjusting the nominal interest rate for inflation expectations. Subsequently, an ARDL approach is employed to investigate both short-run and long-run dynamics. The empirical results indicate that the real interest rate has no statistically significant effect on inflation in the long run, whereas it exerts a significant negative effect in the short run. These findings suggest that the interest rate is an effective tool for inflation control primarily in the short run. Moreover, the results are robust across alternative model specifications.

Keywords

Main Subjects

References

رحمانی، تیمور، دارابی، مهدی، و محمدخانلو، حسین. (1404). تحلیل اثر تورم انتظاری بر تورم واقعی در چارچوب منحنی فیلیپس کینزی جدید. سیاست‌ها و تحقیقات اقتصادی، 4(4) ، 1 – 32.
رحمانی، تیمور، شصتی، فاطمه، و محمدخانلو، حسین. (1403). ترکیب منابع پایه پولی و نرخ بهره در ایران. تحقیقات اقتصادی، 59(4) ، 715 – 749.
شاهمرادی، اصغر، کاوند، حسین، و ندری، کامران. (1389). برآورد نرخ بهره‌ی تعادلی در اقتصاد ایران (1386:4-1368:4) در قالب یک مدل تعادل عمومی. تحقیقات اقتصادی، 45(90)، 19 – 41.
Anari, A., & Kolari, J. (2016). Dynamics of interest and inflation rates. Journal of Empirical Finance, 39(A), 129–144. Retrieved from https://doi.org/10.1016/j.jempfin.2016.06.001.
Ando, A., & Modigliani, F. (1965). Reply to Ando and Modigliani and to DePrano and Mayer: Rejoinder. The American Economic Review, 55(4), 786–790. Retrieved from https://www.jstor.org/stable/1823935.
Bernanke, B. S. (2006). Monetary aggregates and monetary policy at the Federal Reserve: A historical perspective. Speech presented at the Fourth ECB Central Banking Conference, Frankfurt, Germany. Board of Governors of the Federal Reserve System. Retrieved from https://www.federalreserve.gov/newsevents/speech/bernanke20061110a.htm.
Brown, R. L., Durbin, J., & Evans, J. M. (1975). Techniques for testing the constancy of regression relationships over time. Journal of the Royal Statistical Society: Series B (Methodological), 37(2), 149–192. Retrieved from https://www.jstor.org/stable/2984889.
Calvo, G. A., & Végh, C. A. (1995). Fighting inflation with high interest rates: The small open economy case under flexible prices. Journal of Money, Credit and Banking, 27(1), 49–66. Retrieved from https://www.jstor.org/stable/2077850.
Castelnuovo, E., & Surico, P. (2010). Monetary policy, inflation expectations and the price puzzle. The Economic Journal, 120(549), 1262–1283. Retrieved from https://doi.org/10.1111/j.1468-0297.2010.02368.x.
Cecchetti, S. G., Hooper, P., Kasman, B. C., Schoenholtz, K. L., & Watson, M. W. (2007). Understanding the evolving inflation process. In 2007 US Monetary Policy Forum (5–23). Retrieved from https://people.brandeis.edu/~cecchett/Polpdf/USMPF2007.pdf.
Engle, R. F., & Granger, C. W. J. (1987). Co-integration and error correction: Representation, estimation, and testing. Econometrica, 55(2), 251–276. Retrieved from https://doi.org/10.2307/1913236.
Feldstein, M. S. (1993, April). Monetary policy and inflation in the 1980s: A personal view. NBER Working Paper, 4322, Retrieved from https://ssrn.com/abstract=349265.
Fisher, I. (1930). The Theory of Interest. London: The Macmillan Company.
Friedman, M. (1956). The quantity theory of money—A restatement. In M. Friedman (Ed.), Studies in the quantity theory of money (3–21). Illinois: University of Chicago Press.
Friedman, M. (1968). The role of monetary policy. The American Economic Review, 58(1), 1–17. Retrieved from https://www.jstor.org/stable/1831652.
Friedman, M., & Schwartz, A. J. (1963). A monetary history of the United States, 1867–1960. New Jersey: Princeton University Press.
Hansen, A. H. (1949). Monetary theory and fiscal policy. Delhi: Oxford & IBH Publishing Company.
Hicks, J. R. (1937). Mr. Keynes and the “classics”; a suggested interpretation. Econometrica, 5(2), 147–159. Retrieved from https://www.jstor.org/stable/1907242.
Humphrey, T. M. (1979). The interest cost-push controversy. Federal Reserve Bank of Richmond Economic Review, 65(1), 3–10. Retrieved from https://fraser.stlouisfed.org/files/docs/publications/frbrichreview/rev_frbrich197901.pdf.
Johansen, S. (1988). Statistical analysis of cointegration vectors. Journal of Economic Dynamics and Control, 12(2–3), 231–254. Retrieved from https://doi.org/10.1016/0165-1889(88)90041-3.
Johansen, S., & Juselius, K. (1990). Maximum likelihood estimation and inference on cointegration — with applications to the demand for money. Oxford Bulletin of Economics and Statistics, 52(2), 169–210. Retrieved from https://doi.org/10.1111/j.1468-0084.1990.mp52002003.x.
Keynes, J. M. (1936). The general theory of employment, interest, and money. London: Macmillan.
Köse, N., Emirmahmutoglu, F., & Aksoy, S. (2012). The interest rate–inflation relationship under an inflation targeting regime: The case of Turkey. Journal of Asian Economics, 23(4), 476–485. Retrieved from https://doi.org/10.1016/j.asieco.2012.03.001.
Krušec, D. (2011). Is inflation targeting effective? Monetary transmission in Poland, the Czech Republic, Slovakia, and Hungary. Eastern European Economics, 49(1), 52–71. Retrieved from https://doi.org/10.2753/EEE0012-8775490104.
Kydland, F. E., & Prescott, E. C. (1977). Rules rather than discretion: The inconsistency of optimal plans. Journal of Political Economy, 85(3), 473–492. Retrieved from https://www.jstor.org/stable/1830193.
Lanne, M. (2006). Nonlinear dynamics of interest rate and inflation. Journal of Applied Econometrics, 21(8), 1157–1168. Retrieved from https://doi.org/10.1002/jae.908.
Leuthold, S. C. (1981). Interest rates, inflation and deflation. Financial Analysts Journal, 37(1), 28–41. Retrieved from https://doi.org/10.2469/faj.v37.n1.28.
López, J., & Valencia Arriaga, R. (2019). Fighting inflation in Mexico: Theory and evidence. Journal of Post Keynesian Economics, 42(2), 169–190. Retrieved from https://doi.org/10.1080/01603477.2018.1521288.
Mishkin, F. S. (1992). Is the Fisher effect for real? A reexamination of the relationship between inflation and interest rates. Journal of Monetary Economics, 30(2), 195–215. Retrieved from https://doi.org/10.1016/0304-3932(92)90060-F.
Ouattara, B. (2004). The impact of project aid and programme aid on domestic savings: A case study of Côte d'Ivoire. Paper presented at the Centre for the Study of African Economies Conference on Growth, Poverty Reduction and Human Development in Africa.
Patinkin, D. (1965). Money, interest, and prices: An integration of monetary and value theory (2nd Ed.). New York: Harper & Row.
Pesaran, M. H., & Shin, Y. (1995). An autoregressive distributed lag modelling approach to cointegration analysis. DAE Working Paper, 9514, 371–413. Retrieved from https://econpapers.repec.org/RePEc:cam:camdae:9514.
Pesaran, M. H., Shin, Y., & Smith, R. J. (2001). Bounds testing approaches to the analysis of level relationships. Journal of Applied Econometrics, 16(3), 289–326. Retrieved from https://www.jstor.org/stable/2678547.
---------- (1996). Testing for the existence of a long-run relationship. Economics Letters, 54(1), 97–105. Retrieved from 10.13140/RG.2.1.4498.1605.
Phillips, A. W. (1958). The relation between unemployment and the rate of change of money wage rates in the United Kingdom, 1861–1957. Economica, 25(100), 283–299. Retrieved from https://doi.org/10.1111/j.1468-0335.1958.tb00003.x.
Plakandaras, V., Gupta, R., Karmakar, S., & Wohar, M. E. (2023). Are real interest rates a monetary phenomenon? Evidence from 700 years of data. Research in International Business and Finance, 66, 102010. Retrieved from https://doi.org/10.1016/j.ribaf.2023.102010.
Romer, D. (2000). Keynesian macroeconomics without the LM curve. Journal of Economic Perspectives, 14(2), 149–169. Retrieved from https://doi.org/10.1257/jep.14.2.149.
Samuelson, P. A. (1948). Economics: An introductory analysis. New York: McGraw-Hill.
Stock, J. H., & Watson, M. W. (2007). Why has U.S. inflation become harder to forecast? Journal of Money, Credit and Banking, 39(1), 3–33. Retrieved from https://doi.org/10.1111/j.1538-4616.2007.00014.x.
Taylor, J. B. (1993). Discretion versus policy rules in practice. Carnegie-Rochester Conference Series on Public Policy, 39, 195–214. Retrieved from https://doi.org/10.1016/0167-2231(93)90009-L.
The American Economic Review. (1965). American Economic Association, 55(4). Retrieved from https://www.jstor.org/stable/1823934.
Tooke, T. (1844). An inquiry into the currency principle (2nd Ed.). London: Longman, Brown, Green, and Longmans (Reprinted in 1964 as Series of Reprints of Scarce Works on Political Economy, 15. London: London School of Economics and Political Science).
Wicksell, K. (1898). Interest and prices. (Originally published in Swedish as Geldzins und Güterpreise). Zurich: Gustav Fischer.
Woodford, M. (2003). Interest and prices: Foundations of a theory of monetary policy. New Jersey: Princeton University Press.

Files

History

  • Receive Date: 12 May 2026
  • Revise Date: 16 May 2026
  • Accept Date: 13 June 2026

Share

How to cite

Statistics