Nonlinear impact of inflation on economic growth in South Africa: A smooth transition regression (STR) analysis

In this paper, we challenge the notion of a monotonic relationship between inflation and economic growth in South Africa. In particular, we establish threshold effects in the inflation-growth relationship using a smooth transition regression (STR) model which is applied on data collected between 1994:Q1 and 2016:Q2. Our empirical results confirm a threshold of 5.4 percent in which the effects of inflation on economic growth are positive below this threshold whereas inflation exerts adverse effect on economic growth at inflation levels above this level. In a nutshell, our study offers support in favour of the optimal level of inflation lying between the current 3-6 percent inflation target and more specifically suggests that the monetary authorities should slightly lower the upper level of this target to about 5.4 percent as a means creating a more conducive financial environment for promoting higher economic growth.