TESTING THE RELATIONSHIP BETWEEN MONEY SUPPLY AND GDP IN BAHRAIN

This paper uses the Cointegration, Error Correction Model, and Granger Causality techniques to determine the relationship between the real money supply and real Gross Domestic Product (GDP) in Bahrain economy, and the direction of the causality between the two variables in both short and long run. The study covers the period 2000 to 2013. ADF test shows that the two series are integrated of order one I(1). The Cointegration test indicates the existence of long run equilibrium between real GDP and real money supply based on Engle-Granger two steps test. The Eerror term and F-test indicate unidirectional causality running from real GDP to real money supply in the short run as well as in the long run. This result is consistent with Keynesian theory, Real Business Cycle theory and several empirical studies in different countries. The study concludes that real money supply had neutral effect on the real GDP growth in Bahrain during the study period.