Introduction

This study explores the determinants of per person real output growth, exchange-rate volatility, and price inflation — and their interactions and implications for economic development — as well as the roles of money and interest rates in price and output determination in Ghana. The interrelated problems of inflation, exchange-rate instabilities and unstable output (or economic) growth afflict many countries. In the less developed countries (LDCs), high inflation is induced in part by excessive money-supply growth often resulting from easy fiscal policy, with uncertain effects on real output growth. Inflation is a problem because, ceteris paribus, it lowers real incomes, discourages savings, makes productive inputs more expensive — and may act as a disincentive to hard work, thereby leading to sub-optimal per person real output growth (or economic development).

Unstable exchange rates disrupt international trade and investment (on which many LDCs depend for essential capital inputs and consumer goods) because agents are uncertain about the specific exchange rates to use for transactions (Hodrick, 1989: 433–459). LDCs with overvalued fixed exchange rates (and thriving black markets) may use periodic devaluations to realign their currencies, contributing in part to unstable output growth. Other LDCs (e.g., Ghana, Nigeria) which have shifted to flexible exchange-rate regimes experience asymmetric exchange-rate volatility (reflected by continuous currency weakness). Hence, exchange-rate policy would be expected to influence a developing country's trade balance, net capital inflows, prices and output growth.