An Empirical Study of the Fisher Effect and the Dynamic Relation Between Nominal Interest Rate and Inflation in Singapore

The Fisher effect postulated that real interest rate is constant, and that nominal interest rate and expected inflation move one-for-one together. This paper employs Johansen’s method to investigate for the existence of a long-run Fisher effect in the Singapore economy over the period 1976 to 2006, and finds evidence of a positive relationship between nominal interest rate and inflation rate while rejecting the notion of a full Fisher Effect. The dynamic relationship between nominal interest rate and inflation rate is also examined from the error-correction models derived, and the analysis is extended to investigate the impulse response functions of inflation and nominal interest rates where we discover the presence of the Price Puzzle in the Singapore market.