**5. Conclusions**

results show that inflation was mainly affected by changes in the nominal exchange rate, with a 1% depreciation leading to a 0.01 percentage increase in inflation rate. However, increases in output are found to have outweighed inflationary pressures as output led to a significant decline in inflation over the period, with a 1% increase in output leading to a 0.004% decline in inflation rate with a 3-month time lag. The long-run results in **Table A2** show that inflation rate was found to have mainly been influenced by import prices over the period, reflecting the removal of price controls and floatation of the exchange rate. Analysis results show that between 2012 and 2019, a 1% increase in import prices led to a 0.2% increase in inflation. While over the short-run, results show that inflation was mainly affected by changes in the nominal exchange rate, with a 1% depreciation leading to a 0.01% increase in inflation rate. However, increases in output are found to have outweighed inflationary pressures as output led to a significant decline in inflation over the period.

*Linear and Non-Linear Financial Econometrics - Theory and Practice*

Lastly, the analysis carried out earlier was used to provide the basis in providing

the answer to the main question asked in the title of this paper, "Will Malawi's inflation rate continue to decline? To answer this question, we use the model estimated for the results in **Table 3** to produce forecasts based on the fundamentals that have been driving inflation in Malawi over the period 2001–2019. The model is firstly evaluated for its suitability for forecasting and its predictability power using the Theil Inequality Coefficient. The results of the evaluation (in **Figure A2(a)**) show that the model's predictive power is good since the value of the Theil Inequality Coefficient is close to zero. We also employed the CUSUM and CUSUM square tests to validate the stability of the model, and the results show that the plot of the CUSUM statistics stay within the 5% significance level, meaning that the estimates from the model are stable over the period under consideration, and could produce reliable forecasts. The model performance is also further evaluated by comparing the actual and the fitted values from the model. **Figure A2(b)** shows that the simulated values track the actual values well, thereby justifying the model's suit-

The results from the forecasting process (**Figure 2**) reveal that inflation rate might not continue declining as has been the case over the past few years if the status quo stays as it is currently. Inflation rate may increase up to 19.4% by the end of 2020 mainly driven by exchange rate variability, import prices and money supply as they are projected to rise significantly in the short- to medium term. Monetary authorities should therefore continue to put in place measures that will continue controlling money supply growth, import prices and maintain exchange rate stability as these seem to be the main drivers of inflation in the short- to medium-term.

ability for forecasting.

**Figure 2.**

**262**

*Inflation forecasts, 2001Q1–2020Q4.*

In this paper we have tried to examine the main factors behind the country's inflation dynamics since 2001, putting emphasis on the factors behind its continuous decline since early 2013. We have also tried to assess if at all this decline will persist as per the performance of the underlying economic fundamentals both in the short- and long-run amidst the existing opposing forces.

The results of the study show that based on the full sample (2001–2019), money supply, fiscal deficits and output growth had a significant negative impact on inflation in the short-run, while exchange rate movements and interest rates exerted inflationary pressures in the economy over the period. However, results reveal that only output had a significant negative impact on inflation in the long-run over the same period, while money supply, interest rates and fiscal deficits exerted significant inflationary pressures in the economy.

Inflation dynamics in the period before the change in exchange rate regime are found to have been influenced mainly by money supply, interest rates, exchange rate movements and import prices in the short-run while in the long-run inflation was mainly influenced by changes in import prices. The results based on the subsample (2012–2019), capturing the period after the exchange rate regime change, the decline in inflation is found to have been mainly influenced by output growth in the short-run while exchange rate movements exerted inflationary pressures in the economy over the period. However, in the long-run, import prices continued to have significant positive effects on inflation.

The results from the forecasting process reveal that inflation rate might not continue declining as has been the case over the past few years if the status quo stays as it is currently. The forecasts show that inflation rate may increase up to 19.4% by the end of 2020. Monetary authorities should therefore continue to put in place measures that will control money supply growth, import prices and maintain exchange rate stability as these seem to be the main drivers of inflation in the shortto medium-term in the country.

The results seem to suggest that, while price stability remains the principal objective of monetary authorities in the country [7], they should not only place more emphasis on the objective of stabilization and achieving low inflation, but also focus on supporting strong, sustained and shared growth, as output seems to play a significant role in bringing down inflation in the country. As they continue to put money supply, fiscal deficits and exchange rates in check, they should ensure that the strategies being implemented and the associated transmission mechanisms aim at increasing the country's output growth. In line with the findings of Simwaka et al. [15], these results may be suggesting that the movement and relationship between inflation and money growth could be further suggesting that while monetary and fiscal policy tightening remain central to lowering inflation, structural measures to boost productivity and growth in the economy remain necessary in ensuring a more sustainable disinflation growth path.

Noting very well that cutting of interest rates that the country has undertaken recently could not bear fruits if the economy does not produce enough goods and services to meet the existing demand, lack of supply would lead to a rise in inflation, which force monetary authorities to raise interest rates again.

In line with the findings of Mangani [8] and Chavula [5], an increase in money supply seems to lead to a decline in inflation and the increase in interest rates seem to lead to a decline in prices. These results to some extent indicate that the quantity theory of money does not seem to hold in Malawi. To some extent suggesting the need for the continued use of reserve money and money supply to control inflation.
