Nonlinear relationship between inflation and inflation uncertainty in Taiwan

Abstract

Using Taiwan data, the study employs Hamilton`s (2001) flexible regression model to investigate the relationship between inflation and inflation uncertainty. The results convincingly support Friedman`s hypothesis that a rise in the inflation rate increases inflation uncertainty. This result, however, holds only in a positive inflation regime. When the inflation rate is in a negative inflation regime, one clearly notes that a drop in the inflation rate also increases inflation uncertainty. Thus Friedman`s argument is complemented by advocating that a rise in the absolute inflation rate increases inflation uncertainty. Turning to Cukierman-Meltzer`s hypothesis, both linear and nonlinear inflation uncertainties affect the inflation rate, where the former has positive but the latter has negative effects.