Oil Price and Exchange Rate in Malaysia: A Time-Frequency Analysis

The study analyzed the Granger-causal relationship in the time-frequency framework between return series of real oil price (ROP) and real effective exchange rate (REER) for Malaysia. In doing so, study relied on time-frequency framework of the Granger-causality, which is based on continuous wavelet approach. We found that the causal and reverse causal relations between oil price and real exchange rate vary across scale and period viz., during late 1989, in the time scale of 8~10 months, both variables were in phase and ROP was leading and both variables were out of phase and ROP was leading (a) in 1990-1991, in the time scale of 12~16 months, (b) in 1997 -1998 in the time scale of 10~16 months, (c) in 2001-2003, in time scale of 9~15 months, and (d) in 2005 and early 2006, in the time scale of 2~7 months. Further, evidence shows that during 1989-1998, in 32~48 months scales, variable were in phase and ROP was lagging and throughout the study period, in 60~64 months scale, variables were in phase and ROP was leading. Hence, our evidence show that there is evidence of both cyclical and anti-cyclical relationship between ROP and REER at shorter time scales however, throughout study for higher scales REER was lagging and receiving cyclical effects of ROP shocks. Findings obtained in the study have implications for central monetary authority of Malaysia in the formulations of appropriate monetary and exchange rate policies and for traders in the formulations of effective risk management.