A Dynamic Model of Inflation in Kenya

Abstract

This paper analyses the dynamics of inflation in Kenya during 1974 –1996, a period characterised by external shocks and internal disequilibria. By developing a parsimonious and empirically constant model we find that the exchange rate, foreign prices, and terms of trade have long-run effects on inflation, while money supply and interest rate only have short run effects. Inertia is found to be important up until 1993, when about 40% of the current inflation was carried over to the next quarter. After 1993, inertia drops to about 10%. Moreover, inflation is also influenced by changes in maize-grain prices, indicating a non-negligible role for agricultural supply constraints in the inflation process.