Exchange Rate Pass-Through and the Inflation Environment in Industrialized Countries: An Empirical Investigation

Abstract

This paper investigates the question of whether a transition to a low-inflation environment, induced by a shift in monetary policy, results in a decline in the degree of pass-through of exchange rate movements to consumer prices. It differs from previous empirical work in its focus on the identification of changes in the inflation environment and its use of a panel-data approach.Evidence from a panel-data set of 11 industrialized countries over the period from 1977 to 2001, supports the hypothesis that exchange rate pass-through declines with a shift to a low-inflation environment brought about by a change in the monetary policy regime. More specifically, the results suggest that pass-through to import, producer, and consumer price inflation declined following the inflation stabilization that occurred in many industrialized countries in the early 1990s but did not decline following a similar episode in the 1980s. Several potential explanations for this finding are discussed, including the possibility that changes in the monetary policy regimes implemented in the 1990s were perceived as more credible than those carried out in the 1980s, and the possibility that the credibility of the new monetary policy regimes was acquired over time.

Price Adjustment and Exchange Rate Pass-through

“…While this might seem surprisingly low, in fact it is close to recent estimates of exchange rate pass-through into the CPI in industrialized countries (e.g. Bailliu and Fujii 2004). What accounts for the small size of exchange rate pass-through?…”

Asymmetric Exchange Rate Pass-Through in the Euro Area: New Evidence from Smooth Transition Models

“…The markup is defined as µ i ≡ η i /(1 − η i ), where η i is the price elasticity of demand for the good i in the importing country. As in Bailliu and Fujii (2004), µ i is assumed to depend essentially on demand pressures in the destination market: µ i = µ(Y ), with Y is the income (expenditures) level in the importing country.…”

“…the so-called "first step pass-through", while our paper instead deals with the responsiveness of consumer prices. Thus, as recommended by Bailliu and Fujii (2004), typical pass-through equations (such as Equation (4)) could be adjusted in order to have all the elements of a backward-looking Phillips curve. Mainly, there are two issues which we consider here: first, the inertial behavior of inflation.…”

Exchange Rate Pass-Through and Inflation Dynamics in Tunisia: A Markov-Switching Approach

“…In a recent study, Ben Ali and Ben Mim (2012), present a survey on inflation and its determinants. The pass-through issue has been widely debated in the economic literature, as one of the main challenges for inflation targeting currently facing emerging economies is to assess the impact of exchange rate shocks on domestic prices and to forecast its determinants (Taylor, 2000;Bailliu and Fujii, 2004;and Gagnon and Ihrig, 2004 for developed economies, Hakura, 2006 andCa'Zorzi et al, 2007 for emerging markets).…”