This paper aims to decomposing output and inflation into supply and demandcomponents by applying Blanchard and Quah’s(1989) bivariate SVAR approachto the output growth and inflation rate. Here, the supply and demandcomponents are defined by the output or inflation fluctuations due to supplyand demand shocks that have, respectively, permanent and temporary effectson output. The results suggest that the output fluctuation due to demandshocks, or the output gap estimated by SVAR, turns out to be closelyassociated with the business cycle in Korea and has predictive content forfuture inflation rate as well. While the supply component in inflation appearsto be on the rise in a recession period, the demand component in inflation ismore persistent and tends to move procyclically. Hence the policy authoritiesneed to be more alert to the demand-driven inflation.