EXTENDED ABSTRACT
INTRODUCTION
One of the main problems that Iran's economy has been facing in recent decades, which has caused a decrease in economic security and led cash flow to speculative activities instead of productive economic activities, is the extreme fluctuations in the exchange rate and inflation. In this regard, one of the significant factors in increasing inflation rate fluctuations in recent decades in Iran is exchange rate fluctuations. An increase (decrease) in the exchange rate can increase (decrease) inflation in various ways. An increase in the exchange rate can increase the production cost of products whose raw materials are procured from abroad. It also increases nominal wages and inflation through affecting the expected inflation. On the other hand, inflation causes changes in the exchange rate in two ways. An increase in inflation causes an increase in the price of domestic goods in international and domestic markets, which leads to a decrease in the competitiveness of domestic economic enterprises in international markets. The decrease in the competitiveness of domestic producers causes a decrease in exports, an increase in imports, a decrease in foreign exchange reserves and a decrease in the value of the national currency. Considering the negative effects of exchange rate fluctuations and inflation on the economy due to the mutual effects of exchange rate and inflation on each other, in this study, an attempt has been made to evaluate the mutual effects of exchange rate fluctuations and the deviation of the inflation rate from the core inflation in Iran; Because the existence of exchange rate fluctuations and the deviation of inflation from the  core inflation causes an increase in economic uncertainty and the growth of speculative activities instead of productive activities in the economy. In addition, based on Mandel-Fleming's stochastic model, shock and fluctuations can affect some variables in the steady state, the reason for which is the assumption of a stochastic situation in the economy. Considering the effect of nominal variables and their fluctuations in this model, another goal of this study is to evaluate the impact of exchange rate fluctuations on core inflation based on this approach.
 
METHODOLOGY
To investigate the mutual relationship between exchange rate fluctuations and inflationary deviations, the difference between the realized inflation rate and the core inflation is first used to obtain the variable of inflationary deviations. The core inflation values are obtained using the wavelet transforms. Then, exchange rate fluctuations are calculated by the standard deviation of the threshold generalized autoregressive heteroskedasticity variance model (TGARCH). After obtaining the variables mentioned above, the mutual relationship between these variables is evaluated using the Granger causality and the Toda and Yamamoto causality during the monthly period from May 2004 to February 2023. Also, the impact of exchange rate fluctuations on base inflation is evaluated using a model introduced by the Mandel-Fleming stochastic model and the autoregressive distributed lag (ARDL) method during 1974-2022.
 
FINDINGS
After preliminary tests and identifying the appropriate regression model to investigate the mutual relationship between exchange rate fluctuations and inflationary deviations, the mutual effects of these two variables were identified using the Granger causality method, the final result of which is shown in the table below.
 
Table 1.The estimation results of equations (21) and (22)
Source: Research results 




H0 Hypothesis


Test statistics


Probability




 does not affect


4.24


0.00




 does not affect


7.35


0.00




 
 
 
 
 
 
Table 2.Toda and Yamamoto causality test results
Source: Research results 




H0 Hypothesis


Test statistics


Probability




 does not affect


356.05


0.00




 does not affect


28.09


0.00




 
According to the results obtained from the table above, there is a mutual relationship between the investigated variables with a probability of 99% and more. Therefore, exchange rate fluctuations are a factor in the gap between realized inflation and core inflation. Inflationary deviations also cause exchange rate fluctuations in Iran's economy.
Also, Mandel-Fleming's stochastic model and ARDL method have been used to evaluate exchange rate fluctuations on core inflation, and the results of the long-run relationship of the proposed model are shown in the table below.
 
Table 3.The results of estimating the long-run relationship of equation (23)
Source: Research results 




Variables


Coefficients


Test statistics (Probability)



 

0.56


4.74 (0.00)



 

-0.69


-6.18 (0.00)



 

0.27


3.15 (0.00)



 

0.27


2.52 (0.01)




Constant


13.16


5.89 (0.00)




 
According to the results of the above table, all the estimated coefficients are statistically significant at the confidence level of 95% and more, and their signs are also in line with expectations. The obtained coefficient for liquidity is positive in the studied model. Since this variable is a stochastic variable, in addition to its short-run effect on inflation, it can increase inflation in a steady state. The impact of the exchange rate on core inflation is also positive, which is the reason for the reaction of inflation to the exchange rate in the short and long term. Therefore, the depreciation of the national currency in the long run causes an increase in core inflation. However, the coefficient of GDP on core inflation is negative. Since an increase in the supply of goods and services in the long term leads to a decrease in inflation, this negative relationship indicates that improving economic growth is a factor in reducing core inflation. Based on the results obtained from the coefficient of exchange rate fluctuations in the studied model, it is also positive and statistically significant. Thus, the impact of exchange rate fluctuations on core inflation is confirmed, which indicates that the deviation of the exchange rate from its steady value causes a change in core inflation. In this regard, increasing the exchange rate (decreasing the value of the national currency) from its stable value can increase inflation in the short and long run.
 
CONCLUSION
Based on the results of this study, there is a significant difference in most of the investigated times between the rates of the core inflation and the realized inflation, which has caused large inflationary deviations from the core inflation. Also, there is a mutual and significant relationship between the variables of exchange rate fluctuations and inflationary deviations, which confirms the influence of these variables on each other. The results obtained from the estimation of the core inflation model show that the impacts of liquidity and exchange rate on core inflation are positive and statistically significant. Nonetheless, the GDP coefficient was negative and statistically significant in the studied model, which confirms the decrease in core inflation with the increase in production. The results obtained from the coefficient of exchange rate fluctuations in this model also show the positive impact of this variable on core inflation. According to the coefficient of this variable in this model and the model in which the mutual effects of exchange rate fluctuations and inflation deviations were confirmed, the increase of exchange rate fluctuations has a short-run and long-run impact on the inflation rate.