The Impact of Interest Rate on Private Consumption: A Case Study of Jordan, 1976-2004

S. M. Al-Tayeb, S. Al-Hajaya, M. I. Shahateet

Abstract


This study explained the impact of interest rate on time deposits on private consumption in Jordan during 1976-2004, by using Vector Auto Regression, VAR, model. The VAR model has directly been applied since there is no co-integration. The main variables of the study are private consumption, which is one of the most important components of GDP, and interest rate of time deposits; both expressed in real terms. The study applies Augmented Dickey Fuller's test to check whether the variables are stationary or not. This test revealed that the interest rate on time deposits was stationary while private consumption was not at the first level but it became stationary after taking the first difference. Granger's causality test is applied to provide evidence on the direction of causality. This test revealed that there was a causal relationship between the variables of the model. The Johansson's test for co-integration is also applied, which revealed no co-integration between the variables of the model which was the main reason for adopting the VAR model. For empirical analysis, two tools were employed: the first involved analysis of variance decomposition, which shows the explanatory power of interest rate of private consumption while the second dealt with the response function of the reaction. The latter gives evidence of the negative impact of real interest rate on time deposits on real private consumption though not statistically significant at the 5% level. To gain more credibility of the results, the study used two approaches: the reordering of variables in the model and adding a third basic variable, which is real income per capita.

Keywords


Interest Rate, Private Consumption, Jordan.

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