Abstract

The objective of this paper is to examine the effects of oil price shock on inflation in Malaysia, using monthly data from 2005 to 2011. VAR-VECM and Granger Causality model were employed to analyze the data. The cointegration between all variables are existence also at 5% significant level in the long run. But in the short run, only oil crude price affected the inflation. For granger causality test, we found that the inflation does not granger cause to the exchange rate but it does granger cause to the oil price. The oil price does granger cause to the inflation but it does not granger cause to the exchange rate. The exchange rate does not granger cause to both of the variables (Inflation and Oil Price). So, the oil crude price can give an effect on inflation. If the rate of oil crude price changes, the inflation also changes. This finding will contribute to Malaysian government in making policy to control the petrol price to avoid from the inflation.

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