Evolution Of Monetary Policy Transmission Mechanism In Malawi: A Tvp-Var Approach

Abstract

This paper investigates the evolution of monetary transmission mechanism in Malawi between 1981 and 2010 using a time varying parameter vector autoregressive (TVP-VAR) model with stochastic volatility. We evaluate how the responses of real output and general price level to bank rate, exchange rate and credit shocks have changed over time since Malawi adopted financial reforms in 1980s. It is becoming clear from literature that financial reforms can change the monetary transmission by changing the overall impact of the policy or by altering the transmission channels overtime. Therefore, the impact of monetary policy on price stability and output growth can vary and portray delayed effects overtime. The paper finds that inflation and real output responses to monetary policy shocks changed over the period under the review. Importantly, beginning mid-2000s, the monetary transmission performed consistently with predictions of economic theory partly due to stable macroeconomic conditions and positive structural changes in the economy. However, the statistical significance of the private credit supply remains weak and this calls for more financial reforms targeting the credit market which can contribute to monetary transmission and promote further economic growth in Malawi.