41 - Monetary Policy Transmission Mechanism in Zambia

Bank of Zambia
Working Paper
WP/01/2014
Monetary Policy Transmission

Mechanism in Zambia**
Patrick Chileshe, Francis Z. Mbao, Brenda Mwanza, Ladslous Mwansa, Tobias
Rasmussen, and Peter Zgambo
Abstract
This study seeks to determine the relevance and magnitude of the different channels of the
monetary transmission mechanism in Zambia. Autoregressive methods are used to
empirically identify the impact of monetary policy on macroeconomic outcomes. The results
indicate that the direct link from interest rates to output and inflation in Zambia has
historically been weak and that monetary aggregates have, at least until recently, had a
greater role in the monetary transmission mechanism.
Disclaimer: The views expressed in this paper are those of the authors and do not reflect the
official position of the Bank of Zambia.
** This paper done in collaboration with the International Monetary Fund (IMF) Resident
Office
Table of Contents
I. Introduction ........................................................................................................................... 3
II. Review of Theoretical Literature on the Monetary Transmission Mechanism .................... 4
A. Interest Rate Channel ....................................................................................................... 5
B. Exchange Rate Channel ................................................................................................... 5
C. Credit Channel.................................................................................................................. 6
D. Asset Price Channel ......................................................................................................... 7
E. Expectations Channel ....................................................................................................... 7
III. Review of Empirical Literature on the Monetary Transmission Mechanism ..................... 8
IV. Evolution of Monetary Policy and Economic Variables since 1964 .................................. 9
V. Model Estimations ............................................................................................................. 12
A. Links Between Interbank and Lending Rates ................................................................ 13
B. Broader Linkages between Variables in Monetary Policy Transmission ...................... 14
Granger Causality Tests .................................................................................................. 14
VAR Model Estimation .................................................................................................. 16
VI. Conclusions....................................................................................................................... 22
REFERENCES ....................................................................................................................... 24
APPENDIX 1: ......................................................................................................................... 29
APPENDIX 2 .......................................................................................................................... 31
Table A1: Lending Rates and Interbank Rate Estimations, Entire Sample Period ......... 31
Table A2: Lending Rates and Interbank Rate Estimations, High Volatility Era ............ 31
Table A3: Lending Rates and Interbank Rate Estimations, Low Volatility Era ............. 32
APPENDIX 3 .......................................................................................................................... 33
Table A4: Pairwise Granger Causality with Policy Rate, 2012M4-2013M9 ................. 33
Table A5: Granger Causality Tests, 1995M1-2013M9 .................................................. 33
APPENDIX 4 .......................................................................................................................... 36
Figure A1: Model 2-Impulse Response .......................................................................... 36
Table A6: Model 2-Variance Decomposition ................................................................. 37
Figure A2: Model 3-Impulse Responses......................................................................... 38
Table A10: Model 6-Variance Decomposition ............................................................... 45
Figure A6: Model 1 (Early Sub-period)-Impulse Responses ......................................... 46
Table A11: Model 1 (Early Sub-period)-Variance Decomposition ................................ 47
Figure A7: Model 1 (Late Sub-period)-Impulse Responses ........................................... 48
Table A12: Model 1 (Late Sub-period)-Variance Decomposition ................................. 49
3
I. INTRODUCTION
The aim of this study is to strengthen the understanding of how monetary policy, and in
particular interest rate setting, affects the Zambian economy. Effective monetary policy
depends on a central bank having a firm understanding of the link between its actions and its
objectives. The main objective of the Bank of Zambia (BoZ) is to ensure price and financial
system stability in Zambia. This objective has traditionally been pursued by targeting
monetary aggregates. In light of changes in the economy and to better anchor inflation
expectations, BoZ is now in the process of shifting its monetary policy framework to
targeting interest rates. A key step in this direction was the introduction of the BoZ Policy
Rate in April 2012. Uncovering how the Zambian economy responds to changes in interest
rates has accordingly gained importance.
The effect of interest rate setting on the broader economy works through what is termed the
monetary transmission mechanism (MTM): the process through which monetary policy
decisions are transmitted into economic activity and prices. This process is one that links
central banks operational targets (typically short term interest rates or reserve money) to its
intermediate targets (medium and long-term interest rates, broad money, credit, and exchange
rate) and eventually to its goal targets (inflation and output). The literature on the monetary
transmission mechanism identifies five main channels, which are discussed in detail in
Section III.
The aim of this study is to determine the relevance and magnitude of the different channels of
the MTM in Zambia. To do so, the analysis takes an empirical approach, building on earlier
work of, among others, Simatele (2004), Mutoti (2006), and Baldini et al. (2012. These
studies all support the presence of the credit and exchange rate channels in Zambia, with the
latter also identifying the presence of the interest rate channel. In addition to including more
recent data, this study builds on the previous litterature by evaluating differences in the
effectiveness of interest rates and monetary aggregates in the MTM, and it also seeks to
evaluate how these relationships may have changed over time.
While the ultimate aim of this research is to understand how a change in the BoZ policy rate
can be expected to influence the economy, a key challenge is that the policy rate has not been
in existence for very long. Up to now, the policy rate has only been changed a few times and
the scope for uncovering patterns in the way the economy has responded is correspondingly
limited. The analysis therefore looks at two other short-term interest rates, the interbank rate
and the 90 days T-bill yield rate, which can be seen as proxies for the policy rate. It then
examines how changes in these two interest rates have impacted on the central banks
intermediate and ultimate targets.
The main finding is that the direct link from interest rates to output and inflation in Zambia
has been weak and that monetary aggregates have, at least until recently, had a greater role in
4
the MTM. While the exchange rate channel is clearly present and there is also some evidence
to suggest that interest rates are gaining in importance compared to monetary aggregates, it is
therefore still too early to abandon the traditional policy focus on monetary aggregates.
Instead, an important objective should be to enhance the MTM to enhance to effectiveness of
monetary policy whether delivered via monetary aggregates or through the BoZ policy rate.
The rest of this paper is organized as follows. Sections II and III provide a review of the
theoretical and empirical literature. Section IV outlines the evolution of the Zambian
economy since the early 1960s. Section V presents a series of models and estimations.
Section VI concludes.
II. REVIEW OF THEORETICAL LITERATURE ON THE MONETARY TRANSMISSION
MECHANISM
The MTM determines how policy-induced changes in the nominal money stock or short-term
interest rates impact on output and inflation (Ireland, 2005). The neo-classical view of longrun neutrality of money is widely accepted. Nevertheless, monetary policy is in the short run
thought to influence economic activity through changes in interest rates or money supply,
either because of nominal price rigidities (Keynesian view) or owing to a number of wealth,
income, liquidity, and expectation effects (Dabla-Norris and Floerkemeier, 2006). Although
different classifications have been made and there is some overlap, the theoretical literature
identifies five main channels of the MTM. These are the interest rate, exchange rate, bank
lending, asset price, and expectations channels (Bank of England, 1999; Horvath et al., 2006;
Loayza et al., 2002; Mishkin, 1995; Obstfeld et al.,1995; Taylor, 1995). The transmission
channels are graphically illustrated in Figure 1 and described below.
Figure 1: Monetary Policy Transmission Channels
Interest rates
Credit
Monetary
policy
instrument
Total
demand
Asset prices
Expectations
Exchange
rates
Domestic
inflationary
pressure
Domestic
demand
External
demand
Source: Adapted from Loayza et al., (2002) and Bank of England (1999).
Source: Adapted from Loayza et al.(2002) and Bank of England (1999).
Inflation
Import
prices
5
A. Interest Rate Channel
The interest rate channel is considered the primary MTM in traditional models that operate
by altering the marginal cost of lending and borrowing and thereby produce changes in
investment, saving, and aggregate demand (Horvath at al., 2006). Key to the interest rate
channel is the notion that if prices are sticky then central bank actions that change nominal
short term interest rates also change real interest rates and ultimately output. In this setting,
an expansionary monetary policy leads to a fall in real interest rates, which in turn stimulates
investment due to a decline in the cost of borrowing. An increase in investment leads to an
increase in aggregate demand and output, which may in turn result in increased inflationary
pressures in the economy.
The basic functioning of the interest rate channel has remained relatively unchanged as the
literature on monetary transmission has evolved. The mechanism is still present in theories
that incorporate expectations (Butkiewicz and Ozgdogan, 2009; Clarida, Gali and Gertler,
1999; Rotemberg and Woodford, 1998). Moreover, other studies have extended the
Keynesian focus on business investment to include effects on spending on housing and other
consumer durables as well as substitution effects in consumption spending (Butkiewicz and
Ozgdogan, 2009; Els, Locarno, Morgan and Viletelle 2003; Taylor, 1995).
While changes in the central banks policy rate are expected to be immediately transmitted to
short-term money market rates, several factors influence the effectiveness of the interest rate
channel. These include the structure and competiveness of banking sector, the size of the
shadow informal sector, and the speed with which the policy rate is transmitted to
commercial lending rates (Bank of England, 1999; Tahir, 2012; Horvath et al., 2006; DablaNorris, 2012).
B. Exchange Rate Channel
The exchange rate channel works through the effect that monetary policy, via the exchange
rate, has on imports and exports (Horvath et al., 2006). Monetary policy can influence the
exchange rate through interest rates via the uncovered interest rate parity (UIP) condition,
through direct intervention in foreign exchange markets, or through inflationary expectations
(Dabla-Norris et al., 2006).
The link between monetary policy and exchange rate under the UIP condition was
popularized by the open macroeconomic models developed by Fleming (1962), Mundell
(1963), and Dornbusch (1976). Under the UIP, the difference between the domestic and
foreign interest rate is equal to the expected exchange rate change. Accordingly, monetary
policy induced changes in domestic interest rates therefore change exchange rate
expectations and hence the relative price of imports and exports, which in turn affects
aggregate demand and supply. On the demand side, monetary policy that lowers domestic
interest rates will cause the currency to depreciate, making exports cheaper and imports more
6
expensive increasing net exports and hence impacting positively on aggregate demand and
output (Obstfeld and Rogoff, 1995; Taylor, 1993; Mishkin, 1996, 2001). On the supply side,
however, the higher domestic price of imported goods increases inflationary pressure and
contracts output (Chipili, 2013; Ozdogan, 2009; Kara, Tuger, Ozlale, Tuger, Yavuz and
Yucel, 2005; Campa and Goldberg, 2004; Alper 2003; Loazya and Schmidt-Hebbel, 2002;
McCallum and Nelson, 2001).
The effectiveness of the exchange rate channel in the transmission mechanism depends on
the extent of the pass-through to domestic prices, which in turn depends on the import share
and other characteristics of the economy. In general, the larger the import share or the more
the economy is dollarized, the larger the exchange rate pass-through (Horvath et al., 2006).
C. Credit Channel
Benanke and Gertler (1995) propose the bank lending (credit) channel, which explains the
MTM as an outcome of credit market imperfections arising from asymmetric information and
costly enforcement of contracts in financial markets. The basic notion underlying this
channel is that monetary policy can have price and output effects through credit rationing that
arises from information asymmetries between financial institutions and the firms and
consumers to which they lend (Loayza et al., 2002). This occurs because monetary policy
affects the extent of adverse selection and moral hazard that constrain the provision of credit
in the economy. It is argued that monetary expansion reduces adverse selection and moral
hazard problems by increasing firms net worth, reducing perceived loan risks, improving
firms cash flow, and decreasing the burden of nominal debt contracts (Loayza et al., 2002).
The credit channel has two sub-channelsthe bank lending and the balance sheet channels.
The bank lending sub-channel works by influencing banks ability to make loans following
changes in the monetary base (Kishan and Opiela, 2000; Kashyap and Stein, 2000; Huang,
2003; Sichei, 2005). Here, a policy induced expansion of the monetary base increases the
amount of reserves (deposits) available to banks, which they can use to advance loans. An
expanded monetary base is thus likely to increase lending for investment and consumption
purposes, leading to a rise in investment and consumption spending. The increase in
domestic demand raises aggregate demand and, if aggregate demand exceeds aggregate
supply, also inflationary pressures in the economy.
The balance sheet sub-channel is premised on the prediction that the external finance
premium that a borrower faces depends on the borrowers net worth. In this regard, monetary
policy can have direct and indirect effects on borrowers balance sheets. A direct effect arises
when an increase in interest rates works to raise the payments a borrower must make to
service debts, while an indirect effect arises when interest rates reduce the capitalized value
of the borrowers assets (Ireland, 2006). As a result, an increase in interest rates arising from
tight monetary policy depresses spending through the traditional interest rate channel, but
7
also raises the borrowers cost of capital through the balance sheet channel. This reduces
investment, consumption, employment, and output, and puts downward pressure on prices.
Factors that strengthen the credit channel include the magnitude of bank capitalization, the
degree of development of the securities markets, and the size of firms in the economy
(Putkuri, 2003, and Tahir, 2012).
D. Asset Price Channel
The asset price channel is premised on the idea that monetary policy can have important
effects on prices of assets such as bonds, equity, and real estate (Bank of England, 1999;
Loayza et al., 2006). As noted by Horvath et al. (2006), the asset price channel operates
through changes in the market value of firms and the wealth of households. Here, changes in
monetary policy alter the relative price of new equipment, thereby affecting firms
investment spending and their market value. Changes in monetary policy also affect
households collateral for borrowing, thereby affecting consumption spending.
According to the theory of the asset price channel, expansionary monetary policy results in
higher equity prices because the expected future returns are discounted by a lower factor,
thereby raising the present value of any given future income stream. Higher equity prices
makes investment more attractive (e.g., through Tobins q), which raises aggregate demand.
Higher equity prices also entail increased household wealth, which raises consumption and
aggregate demand (Loayza et al., 2006). In turn, the changes in aggregate demand impact on
output and inflation.
Tahir (2012) highlights the following factors as key to the strength of the asset price channel:
the degree of household participation in the capital market; the prevalence of firms that raise
funds through issuance of shares; and the level of development of the national stock market.
This is confirmed by Kamin et al. (1998) and by Butkiewicz and Ozgdogan (2009) who note
that the asset price channel in developing and emerging markets is weak and more
unpredictable compared to developed economies due to shallower and less competitive
markets as well as more unstable macroeconomic environments.
E. Expectations Channel
The four monetary transmission channels noted above focus on money and asset markets.
However, the literature also identifies a fifth channel, which is based on the private sectors
expectations about the future stance of monetary policy and related variables (Loayza et al.,
2002). This reflects the notion that monetary policy changes can influence expectations about
the future course of real activity and the confidence with which those expectations are held.
Changes in perception will then affect the behaviour of participants in financial markets and
other sectors of the economy through, for instance, changes in expected future labour
income, unemployment, sales, and profits (Bank of England, 1999).
Although the importance of expectations is well established, the direction in which the effect
will work is not easy to predict. For example, the Bank of England (1999) notes that an
increase in the policy rate may lead economic agents to think that the monetary authorities
believe that the economy is likely to be growing faster than previously thought, giving
expectation of future growth and confidence in general. There is, however, also the
possibility that economic agents interpret a rate hike as signalling a perceived need by the
monetary authority to slow growth to achieve the inflation target, which would impact
negatively on growth expectations and confidence. Hence, depending on how expectations
are formed, the impact of monetary policy change could be very different.
In the following section, we review the empirical literature on the monetary transmission
mechanism, focusing on Africa and the Zambian economy in particular.
III. REVIEW OF EMPIRICAL LITERATURE ON THE MONETARY TRANSMISSION

MECHANISM
Vast empirical work has been undertaken on the MTM in both developed and developing
countries. In developed economies, all the above-listed channels from the theoretical
literature have been found to play some role in the transmission of monetary policies. In
developing economies, however, empirical studies have found rather limited roles for some
of the channelsas could be expected from these countries relatively small banking
systems, shallow financial markets, and weak institutional frameworks (Mishra et al. 2010;
Al-Mashat et al., 2007; Bakradze et al., 2007; Dabla-Norris et al., 2006; Egert et al., 2006;
Smal et al., 2001; Montiel, 1990).
Studies looking at Africa suggest that, in this part of the world, the interest rate channel is
generally weak, and that the credit and exchange rate channels are more important although
not always very strong. In particular, Buigut (2009) found the interest rate channel to be of
relatively little importance in the transmission of monetary policy to output and prices in the
East African region. Al-Mashat et al. (2007) found similar results for Egypt.1 Chibber and
Sharik (1990) found that the credit channel was via money creation the main transmission
channel in Ghana. Caneti and Green (1991) analysed the impact of monetary growth and
exchange rate developments in ten African countries and found that though both factors were
important in the inflationary process in most of the countries examined, neither money nor
exchange rate developments had a dominant role.
For South Africa, a number of empirical studies have identified the interest rate channel as the dominant
channel (Aron et al., 2000; Smal et al., 2001), likely reflecting the more the advanced nature of the financial
sector compared to other African economies.
Studies looking specifically at Zambia point to a relatively important role for the exchange
rate channel. Using error correction and vector autoregression (VAR) methodologies,
Mwansa (1998) found the exchange rate to have a significant and much stronger impact on
inflation than money growth. Mutoti (2006), reached a similar conclusion by employing a
cointegrated structural vector autoregression methodology. This second study further
established that the impact of money supply shocks on Zambias output tended to be small
and temporary, and that such shocks have had little bearing on inflation dynamics,
particularly in the long-run. A third study by Simatele (2003) used a VAR methodology and
also found the exchange rate channel to be the most important and further concluded that
bank lending in Zambia is not driven by monetary policy but rather by demand. A forth and
more recent study by Baldini (2012), which used a dynamic stochastic general equilibrium
model, confirmed the presence of the exchange rate channel but also pointed to a role for the
credit channel.
IV. EVOLUTION OF MONETARY POLICY AND ECONOMIC VARIABLES SINCE 1964
The conduct of monetary policy in Zambia can be divided into two broadly distinct periods:
The pre-liberalization period spanning from 1964 to 1991 and the post-liberalization period
from 1992 on.
During the first period, prior to 1992, monetary policy had multiple and poorly defined
objectives and its implementation relied mainly on direct instruments. The latter included
controlled interest rates and directed credit allocation, as well ratios on core liquid assets and
statutory reserve requirement. The dependence on these direct instruments originated in the
realization by the newly independent central bank that it had little control over money
supply. As noted by Kalyalya (2001), despite the central bank being empowered through the
Bank of Zambia Act of 1965 to implement monetary policy, BoZ had little grip on the
growth of credit in the economy. The banking sector was dominated by foreign banks who
issued loans to mostly foreign owned companies with little regard to domestic economic and
financial conditions. Further, during much of this period, the financing of the government
budget relied heavily on borrowing from the central bank.
Macroeconomic conditions deteriorated steadily during this period. The persistent use of
central bank financing by government as well as failure of the monetary authority to control
money supply resulted in growing inflationary pressure (Bigstern and Mugerwa, 2000).
These problems were further compounded by internal and external imbalances as well as
structural and institutional deficiencies. Domestically, price controls on most food items,
widespread consumer subsidies, and the industrialization strategy of import substitution
coupled with weak public administration worsened the fiscal position and led to a highly
inefficient allocation of resources On the external front, the countrys balance of payment
position became unsustainable following the loss of international reserves due to growing
10
foreign debt servicing and dwindling export earnings resulting from falling prices and output
of copper.
The combined effect of the factors above pushed the economy to stagnation and near
hyperinflation (Table 1 and Figures 2-3). Annual economic growth fell from an average of
3.9 percent during 1961-65 to 1.1 percent during 1981-90. At the same time, external debt as
percentage of GDP rose from 49 to 119 percent of GDP. Inflation reached an average of 76.9
percent during the 1980s, and with negative real interest rates, the banking system started to
lose its intermediation role and credit to the private sector declined relative to GDP.
The second period, staring in 1992, began as a new government came into power with an
agenda to restore economic growth through market-based stabilization policies and
promotion of the private sector. Market forces were given greater role in the allocation of
resources as prices were decontrolled and most subsidies abolished.
Table 1: Evolution of Key Monetary and Economic Variables
Indicator Name
2011
2012
Real Per Capita GDP Growth (annual % growth)
1961-1970 1971-1980 1981-1990 1991-2000 2001-2010

0.8
-1.9
-1.8
-1.7
2.8
3.6
4.0
Real GDP Growth (annual % growth)
3.9
1.5
1.1
0.8
5.6
6.8
7.3
Average Annual Inflation Rate
11.1
76.9
68.1
15.5
6.4
6.6
External Debt Stocks (% of GNI)
75.3
206.1
214.3
89.9
27.4
27.6
19.0
External Debt(% of GDP)

Total Debt Service (% of exports )
Total Reserves (% of total external debt)
48.7
119.3
147.3
67.9
18.1
2.9
26.2
25.1
25.0
12.9
2.2
2.2
10.1
2.8
2.8
23.1
47.0
56.5
Total Reserves (% of GDP)
18.6
7.1
4.5
5.0
9.1
12.1
14.7
Broad Money (% of GDP)
19.3
29.0
30.9
18.2
21.3
23.4
24.1
Broad Money Growth (annual % growth)
27.2
10.5
41.5
49.9
22.7
21.7
17.9
0.8
-15.5
3.1
11.3
5.6
5.6
-0.3
41.9
63.9
59.6
28.2
18.1
18.5
8.5
17.1
14.0
7.5
9.6
12.3
15.1
0.9
-1.7
-6.9
-2.4
9.0
Real Interest Rate (%)

Domestic Credit (% of GDP)
Domestic Credit to Private Sector (% of GDP)
External Balance (% of GDP)
14.8
-
Source: World Bank Database, and BoZ database.

Note: The real interest rate is the lending interest rate adjusted for inflation as measured by the GDP deflator.
Changes in the economic environment carried through to the conduct of monetary policy.
The amended Bank of Zambia Act No. 43 of 1996 narrowed down the central banks
objective to price and financial system stability. Consequently, monetary policy concentrated
on creating a stable macroeconomic environment to support sustainable economic growth.
Under the new framework, BoZ started to target monetary aggregates, an approach premised
on a strong relationship between the ultimate target (inflation) and money supply.
In its conduct of monetary policy, BoZ increasingly relied on indirect rather than direct
instruments. The indirect instruments included primary auctions of treasury bills and
government bonds, as well as auctions of short-term credit and term deposits to and from
commercial banks. In addition, the central banks purchases and sales of foreign exchange
were used as a tool of monetary policy. With these indirect instruments, the BoZ tried to
11
influence the behavior of financial institutions and other market players through market
mechanisms rather than relying on direct instruments, as it had before. This helped improve
control of money supply and inflation and also promoted a more efficient allocation of credit
and financial market development in general.
The change in the monetary policy framework and its implementation contributed to a
marked improvement in Zambias macroeconomic environment. Money growth and inflation
declined sharply, with the latter being held in the single digits since 2006. The liberalization
of lending and deposit rates initially caused real interest rates to spike but they subsequently
leveled off at about 7 percent. Moreover, since the late 1990s, real GDP growth steadily
increased, reaching an average of 7.2 percent a year during 2010-12.
Figure 2: Trends in Real Growth and Real Interest Rates since 1971
(Three-year moving averages, in percent)
8
20
Real GDP growth (LHS)
Real interest rate (RHS)
10
-10
-20
-2
-30
-4
-40
1971
1976
1981
1986
1991
1996
2001
2006
2011
Source: BoZ database and computations by authors.
The task of maintaining price stability as the economy evolved was not without challenges
for BoZ. In particular, the relationship between money growth and inflation has weakened as
the two have declined. In response, the BoZ started to move towards targeting inflation rather
than monetary aggregates. A key step in this direction was the introduction of the BoZ policy
rate in April 2012. This policy rate is reviewed each month with a view to price
developments, and BoZ has been intervening in the money market if the interbank rate
slipped out of a corridor set at +/-2 percent from the policy rate.
12
Figure 3: Trends in Broad Money Growth and Inflation since 1971
(in percent)
200
160
120
Pre-1995 Correlation=0.70
Post-1995 correlation=0.52
80
40
0
Annual Broad money growth
Annual CPI Inflation
-40
1975
1980
1985
1990
1995
2000
2005
2010
Source: BoZ database and computations by authors.
V. MODEL ESTIMATIONS
This section presents a number of estimations carried out to uncover the monetary
transmission mechanism in Zambia. First, we examine the interest rate channel by looking at
the link between interbank and lending ratesa key component of interest rate pass-through
to the wider economy. Next, we bring in a wider set of variables to examine the full set of
possible channels, using pair-wise Granger causality tests and VAR models to identify
linkages.
The estimations are carried out on monthly and quarterly data spanning January 1995 to
October 2013. For Zambia, the data series cover interest rates (interbank, average lending
and deposit, and 90-day T-bills), money supply, exchange rates, credit, consumer prices,
industrial production, and electricity generation. In addition, the US federal funds rate,
international oil prices, and an international commodity price index were used in some
specifications. Details on the data are provided in Appendix 1. In the absence of high
frequency data on real GDP, we use the monthly series on electricity generation and the
quarterly series on industrial production as proxies for overall economic output.
13
A. Links Between Interbank and Lending Rates
Even a quick glance at the data reveals that the link between interbank and lending rates in
Zambia has historically been weak, especially in the recent past. Figure 4 shows that
interbank rates during 1995-2006 were much more volatile than lending rates, although the
two were positively correlated. After 2006, the volatility of the interbank rate diminished,
and the level of both these interest rates has also been much lower, but the correlation
between the two series has been negative.
Figure 4: Lending and Interbank Rates, Jan. 1995 Oct. 2013
70
Period of high interest rates volatility:

stdv (lr) = 9.21
stdv (ibr) = 13.3
Positive correlation:
r = 0.66
Lending and Inter-bank Rates (%)
60
Low interest rates volatility era:

stdv (lr) = 4.42
stdv (ibr) = 3.60
Negative correlation:
r = - 0.24
50
40
30
20
10
Lending Rates (lr)
Inter-Bank Money Market Rates (ibr)
0
1996
1998
2000
2002
2004
2006
2008
2010
2012
Following Mishra et al. (2010) we investigate the relationship between the interbank and the
lending rate by adopting the following model:
where, lr is the lending rate and ibr is the interbank rate. Here the short-term is effect is given
by while the long term effect is given by (
The results of this estimation are summarized in Table 2 where they are also compared to the
findings for other groups of countries obtained from Mishra et al. (2010).2 While the
estimations for Zambia suggests the presence of positive long-run effects going beyond the
short-term impact, both the short-term and long-term effects are much smaller than in the
other country groupings. In Zambia, based on the full sample period, a one percentage point
2
See Appendix 2 for the detailed estimation results.
14
increase in the interbank causes the lending rate to increase by 2 basis points in the short run
and 13 basis points in the long run, much less than the corresponding 37 and 58 basis point
increases seen for emerging markets as a whole. Moreover, consistent with the correlations
identified in Figure 4, both the short and long-run effects in Zambia are found to have been
smaller in the period since 2006 than in the preceding period.
Table 2: Interest Rates Pass-through from Interbank Rates to Lending Rates
Description
Short Run
Long Run
R-Squared
Effects
Effects
Advanced Economies
0.20
0.36
0.41
Emerging Markets
0.37
0.58
0.65
LICs
0.10
0.30
0.16
Zambia: Jan 1995 Oct 2013
0.02
0.13
0.20
Jan 1995 Jan 2006
0.02
0.13
0.21
Feb 2006 Oct 2013
-0.01
0.04
0.16
Source: Mishra et al. (2010) and authors computations,
The results in Table 2 highlight the challenge in moving to a monetary policy framework
where the policy rate is via the interbank rate meant to influence the wider Zambian
economy. Based on this evidence, monetary policymakers should, even with full control over
the interbank rate, not expect to have much control over broader macroeconomic outcomes
unless the interbank rate becomes more effective at determining lending rates than has been
the case so far.
B. Broader Linkages between Variables in Monetary Policy Transmission
Granger Causality Tests
As a first step to uncovering the wider set of variables that may be important for the MTM in
Zambia we perform pair-wise Granger causality tests. The Granger (1969) approach to the
question of whether X causes Y is to see how much of the current value of Y can be
explained by past values of Y and then to see whether adding lagged values of X can
improve the explanation. Here, Y is said to be Granger-caused by X if X helps in the
prediction of Y, or equivalently if the coefficients on the lagged values of X are statistically
significant. Specifically, the null hypothesis is that X does not cause Y and if the null
hypothesis is rejected then it implies that X may cause Y.
The results for the Granger causality test are summarized in Tables 3 and 4, with the full
estimation details shown in Appendix 3. The following patterns in interrelationships emerge
in relation to interest rates and monetary aggregatesthe variables that are most closely
related to monetary policy:
15
Links between the policy rate and other interest rates. There is only weak evidence of
causality running from the policy rate to any of the other interest rates or from any of
these other rates to the policy rate. The results in Table 3 suggest possible causality
from the policy rate to the T-bill rate and from the interbank and deposit rates to the
policy rate, but these are all only significant at the 10 percent level. An important
limitation here, however, is that these tests are based on a very short sample size
starting in April 2012 when the policy rate was introduced.
Table 3: Pairwise Granger Causality Tests: Policy rate
Policy Rate
Y \ X
(X causes Y) (Y causes X)
T-Bill Rate
*
Interbank Rate
*
Lending Rate
Deposit Rate
*
Source: Author's calculations.
Note: "*", "**", and "***"indicate Granger Causality at significance level
of, respectively, 10, 5 and 1 percent.
Links from market interest rates to other variables. The results in Table 4 suggest that
the different market interest rates all influence each other, except the T-bill rate,
which does not seem to be influenced by any of the other interest rates, and the
interbank rate, which does not appear influenced by the deposit rate. Moreover, none
of the market interest rates appear to have a direct causal impact on reserve or broad
money, inflation, or output as proxied by electricity generation. In contrast, all the
market interest rates appear to have a significant impact on credit to the private
sector, and the T-bill and interbank rates also appear to influence the NEER.
Links to short-term interest rates from other variables. Evidence of causality running
to market interest rates depends on the interest rate in question. The interbank rate
appears to be influenced by all the other variables under consideration, but results for
the other interest rates are sporadic. However, the findings suggest that all the
different market interest rates are influenced by inflation as well as by credit to the
private sector, and also that broad money influences the T-bill as well as the interbank
rate.
Links from monetary aggregates to and from other variables. Broad money is found
to influence all variables except lending and deposit rates, while reserve money only
influences the interbank rate, inflation, and electricity generation. Reserve money is
influenced by broad money and output (as proxied by electricity generation), but
broad money is not influenced by any other variable.
16
Other links to inflation and output. Inflation is influenced by the NEER, credit to the
private sector, and output (as proxied by electricity generation). Moreover, output is
influenced by reserve and broad money as well as credit to the private sector.
Table 4: Pairwise Granger Causality Tests: Full Sample

(X Granger-Causes Y)
Y \ X
(1)
(2)
(3)
(4)
(5)
(6)
(7)
T-Bill Rate (1)
*
**
Interbank Rate (2)
***
**
*** *** ***
Lending Rate (3)
***
**
***
***
Deposit Rate (4)
*** *** ***
***
Reserve Money (5)
***
Broad Money (6)
Inflation (7)
**
***
NEER (8)
**
***
*
**
Credit to Private Sector (9)
**
*** *** ***
*
*
Electricity Generation (10)
*
***
(8)
***
(9)
*
***
*
***
(10)
**
*
**
-
***
**
**
Source: Author's calculations.

Note: "*", "**", and "***"indicate Granger Causality at significance level of, respectively, 10, 5 and 1 percent.
The above findings enable some preliminary conclusions about the MTM channels in
Zambia. First, in as far as monetary policy works though interest rates, it appears to impact
the goal variables of inflation and output only via the exchange rate and credit to the private
sector. Second, where monetary policy works through reserve money, it appears to influence
inflation and output directly as well as indirectly via the interbank rate. The next section
looks further into these linkages and also examines their magnitudes.
VAR Model Estimation
Following widely used practice (Mishra et al., 2010;, Davoodi et al.,2013; Mishra and
Montiel, 2013), we assume that the impact of monetary policy on the wider economy van be
modeled in the following VAR structural form framework:
.
Here, is a n x 1 vector of endogenous variables, c is a n x 1 vector of constants,
is a
m x 1 vector of exogenous variables, and is a n x 1vector of error terms. A and B are n x n
and n x m matrices, which give the structure of the relationship among the endogenous and
exogenous variables in the model.
In our baseline model (Model 1), the endogenous variables are electricity production,
consumer price index (CPI), broad money (M3), interbank interest rate, and NEER. In
addition, following Sims (1992), the model includes a series of exogenous variables to
17
capture their direct impact on the economy as well as their possible influence on monetary
policy, namely the US federal funds rate, the oil price, and the index of international
commodity prices. We estimate the VAR on monthly data in log levels with 2 lags (as
determined by using lag selection criteria).
The VAR is used to investigate the impact of changes in monetary policy on the rest of the
economy by application of impulse-response and variance decomposition analysis. The
impulse response function traces the response of a variable to innovations in another variable,
and here we focus on shocks to monetary aggregates or short-term interest rates to discern
monetary policy action. The variance decomposition measures the amount of variation in a
given variable that is explained by variation in another variable at a given horizon. This gives
an indication of the degree that changes in variables closely tied to monetary policy influence
other macroeconomic variables.
The ordering of the endogenous variables in a VAR may have important bearing on the
results. We order electricity production first, on the assumption that real economic activity
responds sluggishly to policy and economic shocks. Next in the ordering is CPI, which is
assumed to respond contemporaneously to innovations in real economic activity but not in
the same period to innovations in the other variables. After that comes broad money to
indicate that it responds to prices and real economic activity. The interbank rate is ordered
after broad money to reflect that the central bank when intervening in the money market
looks to movements in broad money as well as inflation and real economic activity. The
NEER is ordered last, meaning that it responds contemporaneously to all the variables in the
model, reflecting the view that exchange rates respond more readily to changing economic
conditions than any other variable in the model. This ordering follows that used by Davoodi,
Dixit and Pinter (2013), Cheng (2006), and Buigut (2009).
To further identify the channels in the MTM and also to check the robustness of the results of
the baseline model, we examine a number of different variations to Model 1.
Model 2 uses reserve money instead of broad money, to better capture what is under
central bank control.
Model 3 includes private sector credit to evaluate the credit channel, placing it after
the short term interest rate and before the exchange rate in the variable ordering.
Model 4 retains the private credit variable but replaces broad money with reserve
money.
Model 5 includes the lending rate ordered after the T-bill rate to further investigate
the interest rate channel.
18
Model 6 uses quarterly instead of monthly data allowing us to replace electricity with
industrial production as a proxy for economic activity, albeit on a shorter sample size
spanning 2001Q1 to 2013Q3.
In addition to the different specifications above, we also re-estimate Model 1 over two
periods, 1995M1-2006M1 and 2006M2-2013M10 to investigate if the transmission
mechanism has changed over time.
Results
The impulse-response analysis for Model 1 is shown in Figure 5. The results indicate that a
positive shock to broad money has a statistically significant positive effect on output (as
proxied by electricity generation), consumer prices, and the NEER (meaning depreciation).
This is all as could be expected from expansionary monetary policy. There is with a short lag,
however, also a marginally significant positive impact on the interbank rate. This last effect
is not necessarily what could be expected but may reflect that greater money supply tends to
be followed by tightening of interest rate policy to counter pressure on the exchange rate and
consumer prices.
The impact of a positive shock to the interbank rate leads is much weaker than that of a shock
to money supply, with no significant impact on any of the other variables except for a
borderline significant appreciation of the NEER. This emphasizes the relative importance of
the exchange rate channel and is in line with the Granger causality results in Table 4, which
also did not uncover any significant impact of the interbank rate directly on output or
inflation.
The finding of a more powerful role for money supply than for interest rates in the MTM is
confirmed in the magnitude of the impulse responses. A one percent increase in M3 produces
within a time period of less than 6 months an approximately 0.6 percent depreciation, a 0.4
percent increase in output, and a 0.3 percentage point increase in the interbank rate, with the
impacts then fading out. The impact on CPI is more gradual and takes about 15 months to
reach 0.15 percent, but this effect persists. The impact of higher interest rates is much
weaker, with the effect of a one percentage point increase in the interbank rate on the NEER
peaking at about 0.15 percent within a few months.
Table 5 shows that shocks to broad money explain, respectively, 4 and 23 percent of the
forecast error variance of output and prices at the 36-month horizon. The corresponding
numbers for shocks to the interbank rate are 4 and 5 percent, respectively. This again
highlights how broad money is, or at least has been, far more important for inflation
outcomes in Zambia than is the interbank rate, and that neither has much bearing on changes
in output.
19
Figure 5: Model 1: Impulse Responses
Response to Cholesky One S.D. Innovations 2 S.E.
Response of LELECTRICITYG to LM3
Response of LELECTRICITYG to INTERBANKR
.03
.03
.02
.02
.01
.01
.00
.00
-.01
-.01
5
10
15
20
25
30
35
Response of LCPI to LM3
10
15
20
25
30
35
Response of LCPI to INTERBANKR
.012
.012
.008
.008
.004
.004
.000
.000
-.004
-.004
-.008
-.008
5
10
15
20
25
30
35
Response of LM3 to LM3
10
15
20
25
30
35
Response of LM3 to INTERBANKR
.04
.04
.03
.03
.02
.02
.01
.01
.00
.00
-.01
-.01
5
10
15
20
25
30
35
Response of INTERBANKR to LM3
10
15
20
25
30
35
Response of INTERBANKR to INTERBANKR
-2
-2
5
10
15
20
25
30
35
Response of LNEER to LM3
10
15
20
25
30
35
Response of LNEER to INTERBANKR
.03
.03
.02
.02
.01
.01
.00
.00
-.01
-.01
-.02
-.02
5
10
15
20
25
30
35
10
15
20
25
30
35
20
Table 5: Five Variables VAR-Variance Decomposition
Period
S.E.
1
6
12
24
36
0.064412
0.099237
0.106138
0.108353
0.108808
Period
S.E.
1
6
12
24
36
0.010230
0.029812
0.041149
0.055545
0.066424
Period
S.E.
1
6
12
24
36
0.035382
0.067265
0.082614
0.094499
0.100644
Period
S.E.
1
6
12
24
36
6.185883
7.119853
7.218255
7.323894
7.350374
Period
S.E.
1
6
12
24
36
0.037947
0.089239
0.100089
0.106470
0.109490
Variance Decomposition of LELECTRICITYG:

LELECTRICI
INTERBANK
TYG
LCPI
LM3
R
100.0000
92.07292
90.68329
89.81301
89.50973
0.000000
0.428047
0.518300
0.744872
0.928751
0.000000
4.327663
4.381233
4.306966
4.280761
0.000000
3.114020
4.055932
4.346807
4.401548
Variance Decomposition of LCPI:

LELECTRICI
INTERBANK
TYG
LCPI
LM3
R
3.204355
13.49318
15.59236
12.10843
9.302950
96.79564
78.96202
69.90031
64.70947
62.77269
0.000000
5.613721
10.52548
18.29044
23.13447
0.000000
1.663329
3.699704
4.676208
4.637126
Variance Decomposition of LM3:

LELECTRICI
INTERBANK
TYG
LCPI
LM3
R
0.065766
11.13501
21.93775
23.61895
21.42267
0.252632
3.958818
3.110156
6.758055
11.21952
99.68160
84.23527
73.94242
67.78651
65.28756
0.000000
0.417101
0.328075
0.301039
0.342444
Variance Decomposition of INTERBANKR:

LELECTRICI
INTERBANK
TYG
LCPI
LM3
R
3.718053
4.393583
4.601294
6.196782
6.596998
6.88E-07
4.878136
5.687775
5.953787
6.028257
0.142989
4.917510
5.748075
5.839788
5.802492
96.13896
85.51542
83.31346
81.06503
80.55466
Variance Decomposition of LNEER:

LELECTRICI
INTERBANK
TYG
LCPI
LM3
R
1.123474
5.363571
7.735939
10.78012
11.47546
1.058623
2.036543
1.809886
3.719197
6.021589
16.49691
16.61232
15.00787
14.00846
14.09785
0.165800
4.161282
5.213176
5.881308
6.060299
LNEER
0.000000
0.057350
0.361249
0.788348
0.879211
LNEER
0.000000
0.267751
0.282132
0.215450
0.152760
LNEER
0.000000
0.253797
0.681598
1.535446
1.727817
LNEER
0.000000
0.295346
0.649400
0.944613
1.017598
LNEER
81.15519
71.82629
70.23312
65.61091
62.34480
21
The estimations relating to the various model extensions and robustness checks are shown in
Appendix 4, with the main differences highlighted here3,4:
Model 2 (Figure A1, Table A6), where reserve money is used instead of broad
money, shows that shocks to money supply no longer have a significant impact on
any of the other variables. This supports the results from the Granger-causality tests
indicating that broad money has a much stronger bearing on the economy than
reserve money.
Model 3 (Figure A2, Table A7), which includes credit to the private sector, retains the
same general results as Model 1 but, in addition, shows that credit to the private
sector is impacted positively by an increase in money supply. There is, however, no
significant impact on credit from an increase in the interbank rate.
Model 4 (Figure A3, Table A8), which retains the credit variable but replaces broad
money with reserve money, shows similar results to Model 2, with no significant
impact from shocks to reserve money to any of the other variables.
Model 5 (Figure A4, Table A9), which includes the lending as well as the T-bill rate,
shows that while both these interest rates have a (marginally) significant impact on
the NEER, only lending rates have a significant (and negative) impact on credit. That
lending rates are found to be more important for credit than interbank rates suggests
that borrowing is price sensitive but also confirms the limited transmission from the
interbank rate seen in the other model specifications.
Model 6 (Figure A5 Table A10), which uses industrial production instead of

electricity as a proxy for output, shows similar results to Model 1, except that the
significance of the results is generally somewhat weaker. In particular, the impact of
the interbank rate on the NEER is no longer significant. Moreover, the part of the
forecast error variance explained by other variables in the model is also mostly lower
than with Model 1. However, M3 is found to have greater influence on the variance in
industrial production (13 percent at the 3-year horizon) than it did on electricity
production in Model 1.
To check robustness of the variable ordering, we also tried by placing CPI after M3 (i.e., electricity
generation, M3, CPI, interbank rate, and nominal effective exchange rate). The results were not significantly
different from those obtained with Model 1.
4
We also tried using copper prices instead of the broader international commodity price index. The results were
not significantly different from our main results except that the influence of the interbank rate fell slightly.
22
The results from estimating Model 1 over the two sub-periods (1995-2005 and 2006-2013)
are broadly similar to those for the whole sample period, with the main differences pointing
to a mostly diminishing role for broad money on the price level and a somewhat increasing
role for the interbank rate (Figures A6-7 and Tables A11-12). In particular, the variance
decomposition at the 36-month horizon shows that the influence of the interbank rate on the
other variables increased between the two sub-periods in all cases except for the output proxy
where the contribution of the interbank rate was essentially unchanged. Further, the
contribution of broad money to changes in other variables was in all cases higher in the
second period except for the price level where it reduced. The rising role of interest rates is
also visible in the impulse response of CPI to the interbank rate, which for the second subperiod shows an initialalbeit only borderline significantdecline in inflation.
VI. CONCLUSIONS
The evolving Zambian economy poses new challenges for the conduct of monetary policy. In
particular, as tighter control of money supply has helped bring inflation to single digits, the
previously strong link between consumer prices and reserve money has become less clear
cut. In response, the Bank of Zambiaalong with many other central banks in similar
situationsis moving to a policy framework that targets inflation via a policy rate instead of
focusing on maintaining a certain growth rate in money aggregates.
In any policy framework, ensuring stability requires a good understanding of the monetary
transmission mechanism. The empirical evidence presented in this paper suggests that the
monetary transmission mechanism in Zambia has been weak and more closely connected to
monetary aggregates than interest rates. On the whole, and in contrast to money supply,
market interest rates do not appear to have had much direct bearing on either output or
inflation. Market interest rates do appear, however, to have important bearing on the
exchange rate and to some extent also on credit to the private sector. This all points to a
dominant role of the exchange rate channel in Zambias MTM, with lesser roles for the
interest and credit channels.5
While there is evidence to suggest that interest rates are gaining in importance compared to
monetary aggregates in Zambias MTM, especially with regards to inflation, it still appears
too early to abandon the traditional policy focus on monetary aggregates. While interest rates
appear to have gained in importance, based on available data one cannot conclude that
interest rates have become more important towards influencing macroeconomic outcomes
than monetary aggregates. A key implication from this review of the empirical evidence is
therefore that monetary policy in Zambia should continue to consider developments in
5
The presence of the expectations and asset price channels are harder to assess given limited data availability,
but these are unlikely to be that important in Zambia considering the relatively small size and basic nature of the
countrys financial sector.
23
monetary aggregates while gradually transitioning to inflation targeting. At the same time,
efforts to enhance the MTM, by promoting financial deepening and economic development
more generally, would assist in ensuring that monetary policythrough monetary aggregates
or via the policy ratecan continue to be effective in securing the overriding objective of
macroeconomic stability.
24
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DC: International Monetary Fund).
Mundell, R. A., 1963, Capital Mobility and Stabilization Policy under Fixed and Flexible
Exchange Rates, Canadian Journal of Economics and Political Science, Vol. 29, pp. 475
485.
Mutoti Noah, 2006, Monetary Policy Transmission in Zambia, Bank of Zambia Working
Paper No. 06/2006 (Lusaka: Bank of Zambia).
Mwansa, L., 1998, Determinants of Inflation in Zambia, PhD Dissertation, University of
Gothenburg, Sweden.
Obstfeld, M. and K. Rogoff, 1995, Exchange Rate Dynamics Redux, Journal of Political
Economy, Vol. 103, pp. 624660.
Ozdogan, Z., 2009, Monetary Transmission Mechanism in Turkey, PhD Dissertation,
University of Delaware.
28
Putkuri, H., 2003, Cross-country Asymmetries in Euro Area Monetary Transmission: the
Role of National Financial Systems, Bank of Finland Discussion Paper No. 15 (Helsinki:
Bank of Finland).
Rotemberg J. J. and M. Woodford, 1998, An Optimization-Based Econometric
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Pretoria)
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Smal, M. M. and S. DeJager, 2001, The Monetary Transmission Mechanism in South
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Tahir, M. N., 2012, Relative Importance of Monetary Transmission Channels: A Structural
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Taylor, J. B., 1995, The Monetary Transmission Mechanism: An Empirical Framework,
Journal of Economic Perspectives, Vol.9, No.4, pp.11-26.
29
APPENDIX 1:
The study used the following data.
Policy rate
T-bill rate
Interbank rate
Deposit rate
Lending rate
Reserve money
Broad money
Consumer prices
Nominal effective
exchange rate
Credit to the
private sector
Electricity
production
Description
Bank of Zambia policy
rate, in percent
Monthly average of 91day Treasury Bill yield,
in percent
Monthly average
overnight interest rate at
which commercial
banks lend to each other
in the money market.
Monthly weighted
average of interest rates
on commercial bank
deposits.
Monthly weighted
average of interest rates
on commercial bank
loans
Monthly average of total
liquid assets of
commercial banks plus
currency in circulation.
Monthly average of
(M3) money supply
including foreign
currency deposits.
Consumer price index.
Frequency
Monthly
Source
Bank of
Zambia
Bank of
Zambia
Span
April 2012
October 2013
January 1994October 2013
Monthly
Bank of
Zambia
Monthly
Bank of
Zambia
Monthly
Bank of
Zambia
Monthly
Bank of
Zambia
Monthly
Bank of
Zambia
Monthly
Central
Statistical
Office
Bank of
Zambia
Monthly average
Kwacha/US dollar
exchange rate.
Total commercial bank
credit to the private
sector.
Total production of
electricity in kWh .
Monthly
Monthly
Bank of
Zambia
Monthly
ZESCO
Monthly
30
Industrial
production
Index of industrial
production.
Quarterly
Federal Funds
rate
US Federal Funds Rate.
Monthly
Oil price
US dollar price of crude

oil on the international
market.
Index of world
commodity prices.
Commodity price
2001Q12013Q2
Monthly
Central
Statistical
Office
Federal
Reserve Bank
of New York
Website
IMF
Monthly
IMF
31
APPENDIX 2
Detailed estimation results behind Table 2.
Table A1: Lending Rates and Interbank Rate Estimations, Entire Sample Period
Dependent Variable: D(LR)
Method: Least Squares
Sample (adjusted): 1995M04 2013M10
Included observations: 223 after adjustments
Variable
Coefficient
Std. Error
t-Statistic
Prob.
D(LR(-1))
D(LR(-2))
D(IBR)
D(IBR(-1))
D(IBR(-2))
0.337854
0.107462
0.016010
0.025599
0.031131
0.065645
0.065492
0.011059
0.012479
0.011041
5.146715
1.640839
1.447650
2.051421
2.819574
0.0000
0.1023
0.1492
0.0414
0.0053
R-squared
Adjusted R-squared
S.E. of regression
Sum squared resid
Log likelihood
Durbin-Watson stat
0.201289
0.186633
1.175240
301.0993
-349.9032
2.038584
Mean dependent var

S.D. dependent var
Akaike info criterion
Schwarz criterion
Hannan-Quinn criter.
-0.153687
1.303117
3.182988
3.259382
3.213828
Table A2: Lending Rates and Interbank Rate Estimations, High Interest Rate Volatility
Era
Method: Least Squares
Sample (adjusted): 1995M04 2006M01
Included observations: 130 after adjustments
Variable
Coefficient
Std. Error
t-Statistic
Prob.
D(LR(-1))
D(LR(-2))
D(IBR)
D(IBR(-1))
D(IBR(-2))
0.332858
0.103943
0.016925
0.026715
0.031654
0.086523
0.086335
0.014052
0.015984
0.014084
3.847063
1.203954
1.204453
1.671389
2.247509
0.0002
0.2309
0.2307
0.0971
0.0264
0.206912
0.181533
1.468695
269.6333
-231.8814
2.044697
Mean dependent var

S.D. dependent var
Schwarz criterion
R-squared
Adjusted R-squared
S.E. of regression
Sum squared resid
Log likelihood
Durbin-Watson stat
-0.135385
1.623421
3.644329
3.754618
3.689143
32
Table A3: Lending Rates and Interbank Rate Estimations, Low Interest Rate Volatility
Era

Sample: 2006M02 2013M10
Included observations: 93
Variable
Coefficient
Std. Error
t-Statistic
Prob.
D(LR(-1))
D(LR(-2))
D(IBR)
D(IBR(-1))
D(IBR(-2))
0.380517
0.134533
-0.013500
0.011658
0.019300
0.104752
0.104473
0.039666
0.032003
0.030885
3.632572
1.287737
-0.340343
0.364265
0.624896
0.0005
0.2012
0.7344
0.7165
0.5337
R-squared
Adjusted R-squared
S.E. of regression
Sum squared resid
Log likelihood
Durbin-Watson stat
0.158837
0.120602
0.593881
31.03714
-80.93149
1.979202
Mean dependent var

S.D. dependent var
Schwarz criterion
-0.179271
0.633296
1.847989
1.984150
1.902967
33
APPENDIX 3
Detailed estimation results behind Tables 3 and 4.
Table A4: Pairwise Granger Causality with Policy Rate, 2012M4-2013M9
Lags: 2
Null Hypothesis:
Obs
F-Statistic
Prob.
TB91 does not Granger Cause POLICYR

POLICYR does not Granger Cause TB91
19
0.85324
2.86591
0.4470
0.0905
INTERBANKR does not Granger Cause POLICYR

POLICYR does not Granger Cause INTERBANKR
19
3.36170
0.10697
0.0642
0.8993
LENDINGR does not Granger Cause POLICYR

POLICYR does not Granger Cause LENDINGR
19
0.52247
1.17497
0.6042
0.3375
DEPR does not Granger Cause POLICYR

POLICYR does not Granger Cause DEPR
19
3.58998
0.02850
0.0551
0.9720
INTERBANKR does not Granger Cause TB91

TB91 does not Granger Cause INTERBANKR
19
0.50126
5.39090
0.6162
0.0184
LENDINGR does not Granger Cause TB91

TB91 does not Granger Cause LENDINGR
19
0.73673
0.04928
0.4963
0.9521
DEPR does not Granger Cause TB91

TB91 does not Granger Cause DEPR
19
0.57896
2.46116
0.5734
0.1214
LENDINGR does not Granger Cause INTERBANKR

INTERBANKR does not Granger Cause LENDINGR
19
2.34996
1.59251
0.1318
0.2381
DEPR does not Granger Cause INTERBANKR

INTERBANKR does not Granger Cause DEPR
19
8.67888
1.00094
0.0035
0.3924
DEPR does not Granger Cause LENDINGR

LENDINGR does not Granger Cause DEPR
19
0.65180
0.33832
0.5362
0.7186
Table A5: Granger Causality Tests, 1995M1-2013M9

Lags: 2
Null Hypothesis:
Obs
F-Statistic
Prob.
INTERBANKR does not Granger Cause TB91

TB91 does not Granger Cause INTERBANKR
200
1.83770
7.87630
0.1619
0.0005
LENDINGR does not Granger Cause TB91

TB91 does not Granger Cause LENDINGR
200
0.20735
16.9509
0.8129
2.E-07
DEPR does not Granger Cause TB91

TB91 does not Granger Cause DEPR
200
1.03844
20.2004
0.3560
1.E-08
LM0 does not Granger Cause TB91

TB91 does not Granger Cause LM0
200
2.13922
0.00335
0.1205
0.9967
34
LM3 does not Granger Cause TB91

TB91 does not Granger Cause LM3
200
2.44641
1.54630
0.0893
0.2156
D12LCPI does not Granger Cause TB91

TB91 does not Granger Cause D12LCPI
200
4.43377
0.22374
0.0131
0.7997
LNEER does not Granger Cause TB91

TB91 does not Granger Cause LNEER
200
0.74370
3.48584
0.4767
0.0326
LCREDIT does not Granger Cause TB91

TB91 does not Granger Cause LCREDIT
200
2.66062
3.14474
0.0724
0.0453
LELECTRICITYG does not Granger Cause TB91

TB91 does not Granger Cause LELECTRICITYG
200
1.17989
0.97604
0.3095
0.3786
LENDINGR does not Granger Cause INTERBANKR

INTERBANKR does not Granger Cause LENDINGR
200
4.62804
4.66070
0.0109
0.0105
DEPR does not Granger Cause INTERBANKR

INTERBANKR does not Granger Cause DEPR
200
2.22152
9.08061
0.1112
0.0002
LM0 does not Granger Cause INTERBANKR

INTERBANKR does not Granger Cause LM0
200
6.00062
1.63258
0.0030
0.1981
LM3 does not Granger Cause INTERBANKR

INTERBANKR does not Granger Cause LM3
200
6.75087
0.88630
0.0015
0.4138
D12LCPI does not Granger Cause INTERBANKR

INTERBANKR does not Granger Cause D12LCPI
200
18.1865
0.10245
6.E-08
0.9027
LNEER does not Granger Cause INTERBANKR

INTERBANKR does not Granger Cause LNEER
200
6.96489
5.42582
0.0012
0.0051
LCREDIT does not Granger Cause INTERBANKR

INTERBANKR does not Granger Cause LCREDIT
200
5.63106
5.36935
0.0042
0.0054
LELECTRICITYG does not Granger Cause INTERBANKR

INTERBANKR does not Granger Cause LELECTRICITYG
200
4.34134
0.97724
0.0143
0.3782
DEPR does not Granger Cause LENDINGR

LENDINGR does not Granger Cause DEPR
200
5.81248
8.71049
0.0035
0.0002
LM0 does not Granger Cause LENDINGR

LENDINGR does not Granger Cause LM0
200
1.40454
1.71107
0.2480
0.1834
LM3 does not Granger Cause LENDINGR

LENDINGR does not Granger Cause LM3
200
1.61511
0.30946
0.2015
0.7342
D12LCPI does not Granger Cause LENDINGR

LENDINGR does not Granger Cause D12LCPI
200
13.5274
0.10460
3.E-06
0.9007
LNEER does not Granger Cause LENDINGR

LENDINGR does not Granger Cause LNEER
200
0.11923
0.94607
0.8877
0.3900
LCREDIT does not Granger Cause LENDINGR

LENDINGR does not Granger Cause LCREDIT
200
2.38002
7.07877
0.0952
0.0011
LELECTRICITYG does not Granger Cause LENDINGR

LENDINGR does not Granger Cause LELECTRICITYG
200
0.34649
1.73800
0.7076
0.1786
LM0 does not Granger Cause DEPR

DEPR does not Granger Cause LM0
200
1.97469
0.32438
0.1416
0.7234
35
LM3 does not Granger Cause DEPR

DEPR does not Granger Cause LM3
200
2.22851
0.11840
0.1104
0.8884
D12LCPI does not Granger Cause DEPR

DEPR does not Granger Cause D12LCPI
200
8.33866
0.92552
0.0003
0.3981
LNEER does not Granger Cause DEPR

DEPR does not Granger Cause LNEER
200
0.38329
0.86006
0.6821
0.4247
LCREDIT does not Granger Cause DEPR

DEPR does not Granger Cause LCREDIT
200
5.15130
10.2099
0.0066
6.E-05
LELECTRICITYG does not Granger Cause DEPR

DEPR does not Granger Cause LELECTRICITYG
200
0.47772
1.72442
0.6209
0.1810
LM3 does not Granger Cause LM0

LM0 does not Granger Cause LM3
200
15.1341
0.39356
8.E-07
0.6752
D12LCPI does not Granger Cause LM0

LM0 does not Granger Cause D12LCPI
200
0.51302
4.40372
0.5995
0.0135
LNEER does not Granger Cause LM0

LM0 does not Granger Cause LNEER
200
1.37782
1.97352
0.2546
0.1417
LCREDIT does not Granger Cause LM0

LM0 does not Granger Cause LCREDIT
200
1.41836
1.42810
0.2446
0.2423
LELECTRICITYG does not Granger Cause LM0

LM0 does not Granger Cause LELECTRICITYG
200
2.87420
3.03905
0.0589
0.0502
D12LCPI does not Granger Cause LM3

LM3 does not Granger Cause D12LCPI
200
1.81721
6.37195
0.1652
0.0021
LNEER does not Granger Cause LM3

LM3 does not Granger Cause LNEER
200
0.36440
2.64480
0.6951
0.0736
LCREDIT does not Granger Cause LM3

LM3 does not Granger Cause LCREDIT
200
0.81167
2.54533
0.4456
0.0811
LELECTRICITYG does not Granger Cause LM3

LM3 does not Granger Cause LELECTRICITYG
200
1.36814
8.97522
0.2570
0.0002
LNEER does not Granger Cause D12LCPI

D12LCPI does not Granger Cause LNEER
200
4.63597
3.57211
0.0108
0.0299
LCREDIT does not Granger Cause D12LCPI

D12LCPI does not Granger Cause LCREDIT
200
5.52004
2.65899
0.0047
0.0726
LELECTRICITYG does not Granger Cause D12LCPI

D12LCPI does not Granger Cause LELECTRICITYG
200
3.05637
1.08788
0.0493
0.3390
LCREDIT does not Granger Cause LNEER

LNEER does not Granger Cause LCREDIT
200
1.57634
0.60151
0.2094
0.5490
LELECTRICITYG does not Granger Cause LNEER

LNEER does not Granger Cause LELECTRICITYG
200
1.49458
1.91825
0.2269
0.1496
LELECTRICITYG does not Granger Cause LCREDIT

LCREDIT does not Granger Cause LELECTRICITYG
200
0.80622
4.65824
0.4480
0.0106
36
APPENDIX 4
Figure A1: Model 2-Impulse Response
.03
.03
.02
.02
.01
.01
.00
.00
-.01
-.01
-.02
-.02
5
10
15
20
25
30
35
10
15
20
25
30
35
.008
.008
.004
.004
.000
.000
-.004
-.004
-.008
-.008
5
10
15
20
25
30
35
10
15
20
25
30
35
.06
.06
.04
.04
.02
.02
.00
.00
-.02
-.02
5
10
15
20
25
30
35
10
15
20
25
30
35
-2
-2
5
10
15
20
25
30
35
10
15
20
25
30
35
.02
.02
.01
.01
.00
.00
-.01
-.01
-.02
-.02
5
10
15
20
25
30
35
10
15
20
25
30
35
37
Table A6: Model 2-Variance Decomposition
Period
S.E.
1
6
12
24
36
0.065838
0.106766
0.111482
0.111859
0.111886
Period
S.E.
1
6
12
24
36
0.010273
0.031235
0.043176
0.058750
0.070068
Period
S.E.
1
6
12
24
36
0.051764
0.083497
0.095676
0.106063
0.117061
Period
S.E.
1
6
12
24
36
6.139427
7.591180
7.648964
7.656275
7.657535
Period
S.E.
1
6
12
24
36
0.038568
0.089753
0.100709
0.104390
0.105983

LELECTRICI
INTERBANK
TYG
LCPI
LM0
R
100.0000
95.37550
93.75026
93.26764
93.22426
0.000000
1.586901
1.484071
1.528887
1.551616
0.000000
1.665285
1.750769
1.747562
1.747402
0.000000
1.122957
2.495974
2.674353
2.673858

LELECTRICI
INTERBANK
TYG
LCPI
LM0
R
2.182492
8.845017
9.149851
7.352357
6.577456
97.81751
83.85221
82.88137
84.42271
85.31866
0.000000
1.840590
2.479994
2.613020
2.597971
0.000000
0.765237
1.844373
2.797673
3.071335

LELECTRICI
INTERBANK
TYG
LCPI
LM0
R
3.579816
27.95309
38.47934
32.97108
27.59987
0.461511
1.580535
3.217174
17.42498
30.37561
95.95867
65.14438
52.39854
43.80502
36.51068
0.000000
3.078041
2.841492
2.466062
2.504209

LELECTRICI
INTERBANK
TYG
LCPI
LM0
R
2.427775
2.092713
2.249487
2.250872
2.251128
0.122274
9.181387
9.055498
9.043050
9.057789
0.161415
0.463995
0.505905
0.508756
0.511620
97.28854
86.44598
85.90830
85.74873
85.72113

LELECTRICI
INTERBANK
TYG
LCPI
LM0
R
0.850065
7.082571
7.829391
7.419784
7.226656
1.949324
1.523902
1.223303
1.838048
3.978741
0.000642
0.217908
1.111199
1.855521
2.023404
0.154880
3.106110
2.670841
2.539219
2.512895
LNEER
0.000000
0.249360
0.518930
0.781558
0.802869
LNEER
0.000000
4.696945
3.644407
2.814238
2.434577
LNEER
0.000000
2.243956
3.063451
3.332866
3.009622
LNEER
0.000000
1.815923
2.280810
2.448592
2.458333
LNEER
97.04509
88.06951
87.16526
86.34743
84.25830
38
Figure A2: Model 3-Impulse Responses

Varian
ce
DecomResponse of LELECTRICITYG to LM3
positio
.03
.03
.012
n of
.008
.02
.02
LELEC
.004
TRICIT
.01
.01
YG:
.000
LELECTRICI
INTERBANK
.00
.00
-.004LNEER
Period
S.E.
TYG
LCPI
LM0
R
-.01
1
2
3
.012
4
.008 5
6
.004
7
.000 8
9
-.004
10
-.008
11
12
13
8 14
15
6
16
4 17
18
2
19
0
20
-2 21
22
23
24
.03
25
.02 26
27
.01
28
.00
29
-.01 30
31
-.02
32
33
34
35
36
10
15
20
25
30
35
0.065838
100.0000
0.077955
98.22581
0.092096
97.29975
0.098800
96.39196
0.103850
96.01205
0.106766
95.37550
0.108678
95.06579
0.109854
94.62357
0.110590
94.33276
0.111035
94.07707
0.111311
93.89408
5
10
15
20
25
30
35
0.111482
93.75026
0.111593
93.64010
Response
of INTERBANKR
to LM3
0.111667
93.55424
0.111718
93.48810
0.111753
93.43682
0.111780
93.39689
0.111800
93.36527
0.111815
93.33989
0.111828
93.31928
0.111838
93.30242
5
10
15
20
25
30
35
0.111846
93.28855
0.111853
93.27711
Response of LCREDIT to INTERBANKR
0.111859
93.26764
0.111863
93.25977
0.111867
93.25321
0.111871
93.24773
0.111874
93.24313
0.111876
93.23926
0.111878
93.23600
0.111880
93.23322
0.111881
93.23086
5
10
15
20
25
30
35
0.111883
93.22884
0.111884
93.22709
0.111885
93.22558
0.111886
93.22426
5
-.01
5
10 0.000000
15
20
25 0.000000
30
35
0.000000
0.000151
0.900692
0.733174
of LM3 to LM3
0.833300 Response
1.201505
0.528895
.04
1.352841
1.386524
0.743687
1.501022
1.579924
0.731402
.03
1.586901
1.665285
1.122957
.02
1.546634
1.710644
1.361845
.01
1.526527
1.732184
1.758637
1.506698
1.742027
2.020587
.00
1.495266
1.747703
2.244757
-.01
1.487925
1.749879
2.391804
5
10
15
20
25
30
35
1.484071
1.750769
2.495974
1.483341
2.565014
Response of1.750610
INTERBANKR to INTERBANKR
1.485183
1.750131
2.610708
8
1.488718
1.749572
2.639359
6
1.493224
1.749071
2.656634
4
1.498151
1.748664
2.666306
1.503170
1.748343
2.671418
2
1.508130
1.748096
2.673826
0
1.512891
1.747909
2.674786
1.517392
1.747771
2.674996
-2
5
10
15
20
25
30
35
1.521568
1.747673
2.674868
1.525401
1.747606
2.674616
1.528887
1.747562
2.674353
.03
1.532042
1.747535
2.674126
.02
1.534887
1.747519
2.673952
1.537448
1.747509
2.673829
.01
1.539752
1.747501
2.673752
.00
1.541822
1.747494
2.673710
1.543685
1.747486
2.673696
-.01
1.545361
1.747476
2.673701
-.02
1.546872
5
10 1.747464
15
20
25 2.673720
30
35
1.548237
1.747451
2.673749
1.549473
1.747436
2.673783
1.550595
1.747419
2.673820
1.551616
1.747402
2.673858
-.008
5
10
15
20
25
30
0.000000
0.140170
0.136548
.04
0.124990
0.175606
.03
0.249360
.02
0.315089
.01
0.359080
0.397927
.00
0.435208
-.01
0.476314
5
10
15
20
25
30
0.518930
0.560939
Response of LCREDIT to LM3
0.599739
.03
0.634252
.02
0.664254
.01
0.689988
0.711800
.00
0.730059
-.01
0.745135
0.757426
-.02
5
10
15
20
25
30
0.767339
0.775264
0.781558
.03
0.786528
.02
0.790433
0.793487
.01
0.795866
.00
0.797711
0.799138
-.01
0.800237
-.02
0.801080
5
10
15
20
25
30
0.801725
0.802216
0.802588
0.802869
Varian
ce
Decom
positio
n of
LCPI:
Period
S.E.
LELECTRICI
TYG
LCPI
LM0
INTERBANK
R
LNEER
1
2
3
4
5
6
7
8
9
10
0.010273
0.016460
0.021590
0.025646
0.028622
0.031235
0.033552
0.035735
0.037785
0.039700
2.182492
4.376240
5.535173
6.858251
8.073755
8.845017
9.340385
9.524377
9.544320
9.458079
97.81751
93.72254
89.44129
86.88916
84.96283
83.85221
83.17597
82.87313
82.75760
82.75287
0.000000
0.240243
1.019561
1.341634
1.624543
1.840590
2.011319
2.154826
2.268088
2.359355
0.000000
0.403406
1.107971
0.817464
0.663475
0.765237
0.949274
1.157393
1.349109
1.520845
0.000000
1.257576
2.896001
4.093490
4.675399
4.696945
4.523049
4.290277
4.080885
3.908848
35
35
35
35
39
Period
S.E.
1
12
24
36
0.063668
0.102840
0.104465
0.104926

LELECTRICI
INTERBANK
TYG
LCPI
LM3
R
LCREDIT
100.0000
90.00095
87.45839
86.71333
S.E.
1
12
24
36
0.010229
0.041989
0.057176
0.068202
2.985471
12.59992
8.085301
5.945797
Period
S.E.
LELECTRICI
TYG
1
12
24
36
0.035379
0.079255
0.087744
0.094157
0.060887
20.23934
19.23896
16.71729
S.E.
1
12
24
36
6.199045
7.218353
7.294285
7.312868
Period
S.E.
1
12
24
36
0.044118
0.094317
0.109463
0.120062
Period
S.E.
1
12
24
36
0.037635
0.093392
0.099375
0.102446
0.000000
3.036357
2.963742
2.946649
0.000000
2.686366
2.637146
2.614179

LELECTRICI
INTERBANK
TYG
LCPI
LM3
R
Period
Period
0.000000
1.233696
1.891811
2.067232
97.01453
71.85664
67.49934
65.70682
0.000000
12.28289
20.22998
24.20480
0.000000
2.479145
2.903362
2.929889

INTERBANK
LCPI
LM3
R
0.312519
3.130735
6.405034
11.74576
99.62659
74.18332
69.34201
65.60569
0.000000
0.533857
0.651213
1.012393

LELECTRICI
INTERBANK
TYG
LCPI
LM3
R
3.598411
4.510600
5.466997
5.508069
0.000212
5.769138
6.227668
6.381936
0.141802
5.474883
5.470454
5.457550
96.25957
83.54386
81.84549
81.43705
Variance Decomposition of LCREDIT:

LELECTRICI
INTERBANK
TYG
LCPI
LM3
R
0.003896
0.363528
0.722504
0.630955
2.275127
4.357148
5.921535
10.88319
11.98183
17.42004
20.25419
23.14046
0.249993
1.569477
1.813760
2.055305

LELECTRICI
INTERBANK
TYG
LCPI
LM3
R
0.725985
5.405879
5.075162
4.900054
0.943117
2.352226
5.892687
8.672392
17.35665
22.37297
22.18473
22.07453
0.171309
3.778363
3.610213
3.497746
LNEER
0.000000
2.606213
4.374780
4.805109
0.000000
0.436414
0.674132
0.853502
LCREDIT
LNEER
0.000000
0.724951
1.246314
1.187285
0.000000
0.056453
0.035698
0.025412
LCREDIT
LNEER
0.000000
1.705376
3.862212
4.043797
0.000000
0.207369
0.500574
0.875070
LCREDIT
LNEER
0.000000
0.063325
0.289707
0.482003
0.000000
0.638192
0.699687
0.733391
LCREDIT
LNEER
85.48916
70.45658
62.40246
54.34060
0.000000
5.833227
8.885549
8.949486
LCREDIT
LNEER
1.030492
1.999686
4.354132
5.083608
79.77244
64.09088
58.88308
55.77167
40
.03
.03
.008
.02
.02
.004
.01
.01
.000
.00
.00
-.004
-.01
-.01
-.008
-.02
-.02
5
10
15
20
25
30
35
-.012
5
10
15
20
25
30
35
.008
.004
10
15
20
25
30
35
.06
.06
.04
.04
.02
.02
.00
.00
.000
-.004
-.008
-.012
-.02
5
10
15
20
25
30
35
-.02
5
10
15
20
25
30
35

8
.010
.005
.000
-.005
-.010
-2
5
10
15
20
25
30
35
10
15
20
25
30
35

.02
.005
.01
.01
.000
.00
.00
-.005
-.01
-.01
-.010
-.02
-.02
-.03
10
15
20
25
30
35
25
30
35
10
15
20
25
30
35
.02
20
-.015
5
.010
-.015
15
-2
10
-.03
5
10
15
20
25
30
35
10
15
20
25
30
35
41
LELECTRICI
INTERBANK
TYG
LCPI
LM0
R
Period
S.E.
1
12
24
36
0.064372
0.106888
0.108279
0.108691
100.0000
87.86076
85.73080
85.08643
Period
S.E.
LELECTRICI
TYG
1
12
24
36
0.010076
0.042303
0.059439
0.072262
1.415596
7.640716
5.821457
5.203844
Period
S.E.
LELECTRICI
TYG
1
12
24
36
0.051979
0.096554
0.105292
0.115553
4.006111
38.43356
33.56149
28.26048
Period
S.E.
1
12
24
36
6.132121
7.483428
7.494481
7.499448
Period
S.E.
1
12
24
36
0.042195
0.088172
0.105619
0.119595
Period
S.E.
1
12
24
36
0.038177
0.092804
0.098044
0.101922
0.000000
4.145198
5.018709
5.229278
0.000000
0.897948
0.878524
0.876956
0.000000
3.116831
3.316413
3.319644

INTERBANK
LCPI
LM0
R
98.58440
82.64464
83.32036
83.63174
0.000000
1.724736
1.629383
1.579125
0.000000
5.230246
7.297183
7.960814

INTERBANK
LCPI
LM0
R
0.338825
2.673692
13.57404
25.69776
95.65506
52.05427
45.09824
37.84067
0.000000
2.891471
2.831387
3.691704

LELECTRICI
INTERBANK
TYG
LCPI
LM0
R
2.833814
3.427567
3.424403
3.419965
0.006092
9.463756
9.524393
9.550414
0.246265
0.626266
0.627380
0.628932
96.91383
83.37109
83.12898
83.02151

LELECTRICI
INTERBANK
TYG
LCPI
LM0
R
0.170913
0.426880
1.555222
2.551661
2.096540
1.964297
8.814889
19.06966
0.087613
0.048618
0.091965
0.175363
0.193065
0.257528
1.168058
2.501684

LELECTRICI
INTERBANK
TYG
LCPI
LM0
R
0.878195
3.589143
3.218453
3.017768
2.302585
2.441774
7.778689
12.74537
0.032691
0.453706
0.976777
1.129242
0.190511
3.456765
3.419000
3.611641
LCREDIT
LNEER
0.000000
3.738909
4.723910
5.091651
0.000000
0.240358
0.331648
0.396041
LCREDIT
LNEER
0.000000
0.587167
0.350751
0.270613
0.000000
2.172499
1.580863
1.353866
LCREDIT
LNEER
0.000000
2.013972
2.656154
2.432557
0.000000
1.933037
2.278691
2.076832
LCREDIT
LNEER
0.000000
2.060269
2.170704
2.237656
0.000000
1.051048
1.124137
1.141522
LCREDIT
LNEER
97.45187
96.32677
86.62964
74.04335
0.000000
0.975905
1.740223
1.658280
LCREDIT
LNEER
11.22919
13.48391
12.71720
12.38706
85.36683
76.57470
71.88988
67.10892
42
Response of LELECTRICITYG to LENDINGR
.03
.03
.03
.02
.02
.02
.01
.01
.01
.00
.00
.00
-.01
-.01
5
10
15
20
25
30
35
-.01
5
10
15
20
25
30
35

.012
.012
.008
.008
.008
.004
.004
.004
.000
.000
.000
-.004
-.004
-.004
-.008
5
10
15
20
25
30
35
10
15
20
25
30
35

.04
.03
.03
.03
.02
.02
.02
.01
.01
.01
.00
.00
.00
-.01
-.01
-.01
-.02
10
15
20
25
30
35
10
15
20
25
30
35

8
-2
-2
-2
10
15
20
25
30
35
Response of LENDINGR to LM3
10
15
20
25
30
35
Response of LENDINGR to INTERBANKR

1.6
1.6
1.2
1.2
1.2
0.8
0.8
0.8
0.4
0.4
0.4
0.0
0.0
0.0
-0.4
-0.4
-0.4
10
15
20
25
30
35
10
15
20
25
30
35

.03
.03
.02
.02
.02
.01
.01
.01
.00
.00
.00
-.01
-.01
-.01
-.02
-.03
10
15
20
25
30
35
10
15
20
25
30
35

.03
.03
.02
.02
.02
.01
.01
.01
.00
.00
.00
-.01
-.01
-.01
-.02
5
10
15
20
25
30
35
30
35
10
15
20
25
30
35
10
15
20
25
30
35
10
15
20
25
30
35
10
15
20
25
30
35
Response of LNEER to LENDINGR
.03
-.02
25
-.03
5
20
-.02
-.03
5
15
Response of LCREDIT to LENDINGR
.03
-.02
10
Response of LENDINGR to LENDINGR
1.6
35
Response of INTERBANKR to LENDINGR
30
-.02
5
25
Response of LM3 to LENDINGR
.04
20
-.008
5
.04
-.02
15
Response of LCPI to LENDINGR
.012
-.008
10
-.02
5
10
15
20
25
30
35
10
15
20
25
30
35
43
Period
S.E.
LELECTRICITYG
1
12
24
36
0.063711
0.103626
0.105436
0.106126
100.0000
87.96071
85.27063
84.20201
Period
S.E.
LELECTRICITYG
1
12
24
36
0.010222
0.041688
0.056233
0.066403
2.906689
11.92060
7.795253
5.792218
Period
S.E.
LELECTRICITY
1
12
24
36
0.035402
0.078523
0.085514
0.090546
0.115754
22.02056
21.90609
19.55601
Period
S.E.
LELECTRICITY
1
12
24
36
6.225507
7.246456
7.322204
7.341111
3.463474
4.291544
5.263072
5.313268
Period
S.E.
LELECTRICITY
1
12
24
36
1.086073
3.583920
3.664095
3.674143
0.719543
3.017202
2.951975
2.945524
Period
S.E.
LELECTRICITY
1
12
24
36
0.041793
0.088008
0.103560
0.109317
0.160008
0.464687
1.234029
1.256576
Period
S.E.
LELECTRICITY
1
12
24
36
0.037696
0.092986
0.099470
0.103096
0.640038
5.245591
4.964324
4.797367

LCPI
LM3
INTERBANK LENDINGR
LCREDIT
LNEER
0.000000
3.366253
4.514494
4.519997
0.000000
0.669616
1.088392
1.460218
LCREDIT
LNEER
0.000000
2.087408
3.575342
3.681309
0.000000
0.165368
0.155361
0.111572
LCREDIT
LNEER
0.000000
0.781473
1.211214
1.148017
0.000000
0.211058
0.849354
1.550270
LCREDIT
LNEER
0.000000
0.039389
0.173023
0.260283
0.000000
0.674630
0.768193
0.810595
Variance Decomposition of LENDINGR:

LCPI
LM3
INTERBANK LENDINGR
LCREDIT
LNEER
1.280791
8.787854
8.621733
8.915851
0.000000
1.822737
2.695478
2.742246
0.000000
3.739704
3.972819
3.993384
LCREDIT
LNEER
84.13336
46.28008
33.78411
30.37337
0.000000
12.42747
18.47426
18.46762
LCREDIT
LNEER
1.404415
1.854563
3.044487
3.202655
79.30331
61.74586
56.47595
53.09052
0.000000
0.846682
1.668271
1.990547
0.000000
3.510709
3.452482
3.481658
0.000000
2.493506
2.522163
2.493350
0.000000
1.152527
1.483565
1.852216

LCPI
LM3
INTERBANK LENDINGR
97.09331
71.46125
65.85306
64.31078
0.000000
11.14731
17.99588
21.51845
0.000000
2.059707
2.930757
2.998992
0.000000
1.158359
1.694348
1.586678

LCPI
LM3
INTERBANK LENDINGR
0.326668
3.537140
5.886052
9.699240
99.55758
71.46321
66.89420
62.95236
0.000000
0.430019
0.542423
0.978919
0.000000
1.556548
2.710657
4.115187

LCPI
LM3
INTERBANK LENDINGR
0.000748
5.868128
6.390036
6.588120
0.124069
5.494850
5.456660
5.469305
0.846894
0.677376
0.685851
0.751944
96.41171
83.48290
81.78968
81.37864
0.050676
4.414551
4.749248
4.729901
0.000000
0.148563
0.159341
0.179786
97.10210
77.54058
76.32290
75.92115

LCPI
LM3
INTERBANK LENDINGR
3.258819
8.236450
6.461705
8.416763
11.60079
11.21258
9.715930
10.60117
0.389594
0.972612
1.904318
2.274419
0.457434
20.40611
28.42565
28.61008

LCPI
LM3
INTERBANK LENDINGR
1.065227
2.667503
7.257297
10.64690
17.05032
20.57474
20.70110
20.96312
0.173354
4.049148
3.910843
3.716871
0.363336
3.862605
3.645999
3.582567
44
Response of LIIP to LM3
Response of LIIP to INTERBANKR
.012
.012
.008
.008
.004
.004
.000
.000
-.004
-.004
-.008
-.008
1
10
11
12
10
11
12
11
12
11
12
.016
.016
.012
.012
.008
.008
.004
.004
.000
.000
-.004
-.004
1
10
11
12
10
.08
.08
.06
.06
.04
.04
.02
.02
.00
.00
-.02
-.02
1
10
11
12
10
-2
-2
1
10
11
12
10
11
12
.04
.04
.02
.02
.00
.00
-.02
-.02
-.04
-.04
1
10
11
12
10
11
12
45
Period
S.E.
1
2
4
8
12
0.030223
0.032417
0.033813
0.036357
0.038270
Period
S.E.
1
2
4
8
12
0.016132
0.024260
0.035135
0.045808
0.051455
Variance Decomposition of LIIP:

LIIP
LCPI
LM3
INTERBANK
100.0000
97.94881
90.70843
79.15002
72.14648
0.000000
0.537716
2.460562
6.145453
8.706446
0.000000
1.056736
5.052804
10.47808
13.21633
0.000000
0.279472
0.694639
1.151846
1.451757

LIIP
LCPI
LM3
INTERBANK
7.704930
22.47478
33.38500
33.96631
31.35929
92.29507
75.22263
59.32010
50.98780
48.12663
0.000000
1.813450
6.359173
12.92985
16.86560
LNEER
0.000000
0.177264
1.083567
3.074601
4.478986
LNEER
0.000000
0.451113
0.674898
0.932554
1.224887
0.000000
0.038030
0.260834
1.183490
2.423598

Period
S.E.
LIIP
LCPI
LM3
INTERBANK
R
LNEER
1
2
4
8
12
0.062962
0.077631
0.090101
0.099997
0.105853
0.807199
2.424628
5.817103
5.897622
5.315222
11.49054
10.31911
8.094749
7.869938
9.473446
87.70226
86.90776
83.96447
79.57771
75.70593
0.000000
0.000652
0.159197
0.873017
1.385673
0.000000
0.347853
1.964481
5.781707
8.119723
Period
S.E.
1
2
4
8
12
3.878656
4.277638
4.463651
4.660149
4.711434
Period
S.E.
1
2
4
8
12
0.059333
0.078745
0.095729
0.105925
0.109182

INTERBANK
LIIP
LCPI
LM3
R
3.142882
10.12765
10.37427
14.77753
15.89258
0.509665
1.750902
4.725123
6.260820
6.600407
0.106607
4.526980
6.826352
6.403762
6.337924
96.24085
82.91268
76.28626
70.02386
68.51657

INTERBANK
LIIP
LCPI
LM3
R
5.477425
12.71528
19.09332
23.96220
25.43968
1.406491
0.938251
0.734699
1.756551
2.947095
13.40050
14.81570
15.35068
15.66269
16.09229
1.694152
3.034847
3.770202
3.619439
3.422189
LNEER
0.000000
0.681792
1.787998
2.534030
2.652520
LNEER
78.02143
68.49593
61.05109
54.99912
52.09875
46
Figure A6: Model 1 (Early Sub-period)-Impulse Responses
.03
.03
.02
.02
.01
.01
.00
.00
-.01
-.01
5
10
15
20
25
30
35
10
15
20
25
30
35
.015
.015
.010
.010
.005
.005
.000
.000
-.005
-.005
-.010
-.010
5
10
15
20
25
30
35
10
15
20
25
30
35
.04
.04
.03
.03
.02
.02
.01
.01
.00
.00
-.01
-.01
-.02
-.02
5
10
15
20
25
30
35
10
15
20
25
30
35
12
12
-4
-4
5
10
15
20
25
30
35
10
15
20
25
30
35
.04
.04
.02
.02
.00
.00
-.02
-.02
-.04
-.04
5
10
15
20
25
30
35
10
15
20
25
30
35
47
Table A11: Model 1 (Early Sub-period)-Variance Decomposition
Period
S.E.
1
6
12
24
36
0.067389
0.091186
0.091795
0.091905
0.091951
Period
S.E.
1
6
12
24
36
0.012997
0.036453
0.047845
0.061833
0.072292
Period
S.E.
1
6
12
24
36
0.033033
0.057927
0.064688
0.077017
0.085492
Period
S.E.
1
6
12
24
36
8.256222
10.31929
10.60529
10.80790
10.84213
Period
S.E.
1
6
12
24
36
0.033016
0.103433
0.120284
0.125281
0.126408

LELECTRICI
INTERBANK
TYG
LCPI
LM3
R
100.0000
89.14950
88.26864
88.17544
88.10836
0.000000
0.596761
0.617707
0.646213
0.681738
0.000000
4.948038
4.923171
4.973148
5.008754
0.000000
3.842311
4.216745
4.215692
4.212434

LELECTRICI
INTERBANK
TYG
LCPI
LM3
R
6.627666
21.50396
21.10092
15.88347
14.26663
93.37233
58.93311
48.69218
44.24913
42.45834
0.000000
17.06117
28.47831
38.40068
41.85690
0.000000
0.499019
0.441715
0.614461
0.667821

LELECTRICI
INTERBANK
TYG
LCPI
LM3
R
0.016576
1.229646
2.372226
8.232901
8.737074
1.689973
5.193407
10.26998
17.70496
21.45855
98.29345
84.49278
75.88407
64.65733
61.90978
0.000000
6.611557
7.488587
5.619300
4.741235

LELECTRICI
INTERBANK
TYG
LCPI
LM3
R
3.318481
5.638300
6.757267
9.174853
9.187662
0.011402
4.189172
4.610646
4.885468
5.093221
1.210666
5.867300
5.624558
5.522236
5.796370
95.45945
82.46691
78.40160
75.52749
75.06177

LELECTRICI
INTERBANK
TYG
LCPI
LM3
R
6.785622
23.29695
33.57374
36.31227
35.91944
0.051006
4.905508
4.407003
5.247732
5.821188
8.183236
9.559549
7.463301
7.198647
7.890113
0.432430
6.725378
7.554147
7.283403
7.182047
LNEER
0.000000
1.463394
1.973734
1.989511
1.988716
LNEER
0.000000
2.002742
1.286875
0.852251
0.750313
LNEER
0.000000
2.472612
3.985134
3.785513
3.153354
LNEER
0.000000
1.838316
4.605929
4.889957
4.860975
LNEER
84.54771
55.51261
47.00181
43.95795
43.18721
48
Figure A7: Model 1 (Late Sub-period)-Impulse Responses
.03
.03
.02
.02
.01
.01
.00
.00
-.01
-.01
-.02
-.02
5
10
15
20
25
30
35
10
15
20
25
30
35
.006
.006
.004
.004
.002
.002
.000
.000
-.002
-.002
-.004
-.004
5
10
15
20
25
30
35

.05
.04
.04
.03
.03
.02
.02
.01
.01
.00
.00
-.01
-.01
10
15
20
25
15
20
25
30
35
.05
10
30
35
10
15
20
25
30
35
2.5
2.5
2.0
2.0
1.5
1.5
1.0
1.0
0.5
0.5
0.0
0.0
-0.5
-0.5
5
10
15
20
25
30
35
10
15
20
25
30
35
.03
.03
.02
.02
.01
.01
.00
.00
-.01
-.01
-.02
-.02
-.03
-.03
5
10
15
20
25
30
35
10
15
20
25
30
35
49
Table A12: Model 1 (Late Sub-period)-Variance Decomposition
Period
S.E.
1
6
12
24
36
0.053413
0.064722
0.067719
0.068379
0.068831
Period
S.E.
1
6
12
24
36
0.004626
0.012630
0.016775
0.022182
0.025943
Period
S.E.
1
6
12
24
36
0.037058
0.057507
0.066456
0.079263
0.088019
Period
S.E.
1
6
12
24
36
1.779050
2.826802
3.119280
3.247627
3.282186
Period
S.E.
1
6
12
24
36
0.037790
0.065027
0.070384
0.072679
0.073100

LELECTRICI
INTERBANK
TYG
LCPI
LM3
R
100.0000
80.78515
74.88460
73.49546
72.55685
0.000000
3.166141
6.204323
6.902888
7.257348
0.000000
11.52032
11.99993
12.51177
12.77234
0.000000
2.206490
4.087288
4.176754
4.197256

LELECTRICI
INTERBANK
TYG
LCPI
LM3
R
0.695063
1.065435
2.170026
2.109474
2.031403
99.30494
68.29798
54.70273
45.19374
39.61957
0.000000
25.18740
33.89597
33.09918
32.26722
0.000000
3.187178
2.122552
4.087012
6.704868

LELECTRICI
INTERBANK
TYG
LCPI
LM3
R
0.002104
8.861625
7.731988
5.887722
5.106101
0.106649
1.269961
6.925594
11.73096
13.48256
99.89125
81.06279
66.51803
55.24283
50.17374
0.000000
6.249064
8.759854
10.82226
12.13565

LELECTRICI
INTERBANK
TYG
LCPI
LM3
R
3.332834
1.867688
2.358400
2.215931
2.192596
0.042419
1.761539
2.281098
2.123772
2.162924
0.658032
11.43881
11.30331
10.87368
10.97871
95.96672
83.81961
80.99366
79.71311
79.02880

LELECTRICI
TYG
LCPI
LM3
INTERBANK
0.304184
1.450357
1.959881
1.843867
1.840102
3.609009
2.928089
4.119569
5.851848
6.376911
20.57147
20.13947
17.82619
16.94342
17.06958
5.458392
23.02868
28.93300
30.96937
30.73555
LNEER
0.000000
2.321902
2.823854
2.913130
3.216205
LNEER
0.000000
2.262011
7.108717
15.51059
19.37694
LNEER
0.000000
2.556561
10.06454
16.31623
19.10194
LNEER
0.000000
1.112356
3.063525
5.073508
5.636974
LNEER
70.05694
52.45341
47.16136
44.39149
43.97786

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41 - Monetary Policy Transmission Mechanism in Zambia

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Bank of Zambia

Monetary Policy Transmission

III. REVIEW OF EMPIRICAL LITERATURE ON THE MONETARY TRANSMISSION

Real Per Capita GDP Growth (annual % growth)

1961-1970 1971-1980 1981-1990 1991-2000 2001-2010

Real GDP Growth (annual % growth)

Average Annual Inflation Rate

External Debt Stocks (% of GNI)

External Debt(% of GDP)

Total Reserves (% of GDP)

Broad Money (% of GDP)

Broad Money Growth (annual % growth)

Real Interest Rate (%)

Source: World Bank Database, and BoZ database.

Source: BoZ database and computations by authors.

Source: BoZ database and computations by authors.

Period of high interest rates volatility:

Lending and Inter-bank Rates (%)

Low interest rates volatility era:

See Appendix 2 for the detailed estimation results.

Table 4: Pairwise Granger Causality Tests: Full Sample

Source: Author's calculations.

Response of LELECTRICITYG to INTERBANKR

Response of LCPI to LM3

Response of LCPI to INTERBANKR

Response of LM3 to LM3

Response of LM3 to INTERBANKR

Response of INTERBANKR to LM3

Response of INTERBANKR to INTERBANKR

Response of LNEER to LM3

Response of LNEER to INTERBANKR

Table 5: Five Variables VAR-Variance Decomposition

Variance Decomposition of LELECTRICITYG:

Variance Decomposition of LCPI:

Variance Decomposition of LM3:

Variance Decomposition of INTERBANKR:

Variance Decomposition of LNEER:

Model 6 (Figure A5 Table A10), which uses industrial production instead of

January 1994October 2013

January 1994October 2013

January 1994October 2013

January 1994October 2013

January 1994October 2013

January 1994October 2013

January 1994October 2013

January 1994October 2013

January 1994October 2013

US Federal Funds Rate.

US dollar price of crude

January 1994October 2013

January 1994October 2013

January 1994October 2013

Mean dependent var

Mean dependent var

Dependent Variable: D(LR)

Mean dependent var

TB91 does not Granger Cause POLICYR

INTERBANKR does not Granger Cause POLICYR

LENDINGR does not Granger Cause POLICYR

DEPR does not Granger Cause POLICYR

INTERBANKR does not Granger Cause TB91

LENDINGR does not Granger Cause TB91

DEPR does not Granger Cause TB91