Estimation of the Long Run Relationship between Nominal Interest Rates and Inflation Rate in Iran

The Bank Profit Rates Reduction Law is enacted and put into action, while the main rationale of its designers is that putting this law into action will result in lower inflation rate. On the other hand, the critics of this law believe that the main condition for reducing bank profit rates is the reduction of inflation rate and hence adjusting inflationary expectations which will provide reduction in profit rates. Implicit assumption under the critic's rationale is the veracity of "fisher effect" theory referred to "Irving Fisher". According to this theory, in the long run, a reduction in inflation rate will result in a reduction in nominal profit rates. The main purpose of the this article is to examine two hypotheses of research, and test the veracity of this rationale that in the long run, the lower inflation rate is the reason of parallel decline in nominal profit rates. This research is faced with the limitation of appropriate data for nominal profit rates in Iran. As a result, in order to reach this goal, "Johansen" Cointegration test and "Granger " causality test are used in five scenarios with different substitutive variables for nominal profit rates. The results confirm the hypotheses of research and illustrate that in case of Iran's economy like many other developed or under- developing countries, long run changes in nominal profit rates can be explained by changes in inflation rate. Finally, according to these results, appropriate policy implications are proposed in response to research questions.