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Exchange Rate Pass-Through to Consumer Prices and the Role of Energy Prices

Hyeongwoo Kim () and Ying Lin

No auwp2018-05, Auburn Economics Working Paper Series from Department of Economics, Auburn University

Abstract: A group of researchers has asserted that the rate of exchange rate pass-through (ERPT) to domestic prices has declined substantially over the last few decades. We revisit this claim of a downward trend in the rate of ERPT to the Consumer Price Index (CPI) by employing the vector autoregressive (VAR) model for the U.S. macroeconomic data under the current floating exchange rate regime. Our VAR approach that nests the conventional single equation method reveals very weak evidence of ERPT during the pre-1990 era. On the other hand, we observe statistically significant evidence of ERPT during the post-1990 era, which sharply contrasts with previous findings. After statistically confirming a structural break in ERPT to the total CPI via Hansen's (2001) test procedure, we seek the source of the structural break using the disaggregate level CPIs, which pinned down a key role of energy prices in explaining the emergence of the break. The dependency of the U.S. energy consumption on imports has increased since the 1990s. This change magnifies the effects of the exchange rate shock on domestic energy prices, resulting in greater responses of the total CPI via this energy price channel.

Keywords: Exchange Rate Pass Through; Disaggregated CPI; Structural Break; Oil Price Shock (search for similar items in EconPapers)
JEL-codes: E31 F31 F41 (search for similar items in EconPapers)
Date: 2018-09
New Economics Papers: this item is included in nep-ene, nep-mac, nep-mon and nep-opm
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