Bangladesh Bank Training Academy Journal

Abstract

The paper examines the dynamic linkage between the budget deficit and interest rate in Bangladesh over a long period of time (1974-2014) by applying standard techniques of time series analysis, i.e. cointegration, error correction models and Granger causality tests. It is evident that the data series are integrated of order one, i.e. they are non stationary at their levels and first difference makes them stationary. Then Johansen Juselius technique established that the considered variables are cointegrated, implying that there is a stable long run relationship between the two. However, to take care for the short run disequilibrating relationship, we have estimated the error correction model, which shows that the impact of budget deficit on interest rate is not instantaneous. The error correction model also shows bidirectional causality between the variables, which is also supported by the Granger causality test.