Volatility transmissions between shocks to the oil price and inflation: evidence from a bivariate GARCH approach

Abstract

This paper examines the effects of oil price volatilities on inflation using a bivariate GARCH model. We supplement the second moment dependencies, oil price volatilities and cluster and spillover effects on inflation by taking into account the growing body of evidence that suggests that oil prices have a nonlinear impact on inflation. The results reveal the following. First, the oil price volatilities are found to strongly Granger-cause inflation. This is in accordance with previous studies which suggest that the oil price has a significant effect on inflation in the U.S., Japan, and Europe. Second, the bivariate GARCH model shows that although the persistent volatility spills over from the oil price to inflation unidirectionally, past innovations originating with the oil price have a bi-directionally significant effect on the present volatility of inflation. These findings may provide insights into the volatility transmission between the oil price and inflation.