Price formation, nominal anchors, and stabilization policies in Hungary: an empirical analysis

Andres Solimano, David E. Yuravlivker and Dec

No 1234, Policy Research Working Paper Series from The World Bank

Abstract: The authors empirically explore the inflationary process in Hungary. Using monthly data, they provide econometric estimates of the determinants of inflation for 1990-92. Empirical estimates of price equations - both consumer price index (CPI) and producer price index (PPI) - show the exchange rate's quantitative importance and statistical significance in price formation in Hungary during the period of intensified reform as the economy became more open to international trade in both inputs and final goods. Their estimates show that the money supply affects consumer and producer prices with several lags; its impact on prices is small in the short run. Nominal wages have a more significant effect on the CPI than on the PPI. The authors present policy simulations of alternative rules for the exchange rate and the money supply and their effect on the rate of inflation and the level of the real exchange rate. They find that a rule of fixing the exchange rate entails a lower level of CPI inflation - 5 percentage points less of CPI inflation a year - than if the rule is based only on reducing the rate of money growth (to 1 percent a month). But a fixed exchange rate policy is associated with greater appreciation of the real exchange rate than is the policy of money-based disinflation - nearly 4 percentage points more real appreciation a year. A PPI-based exchange rate rule stabilizes the real exchange rate at the cost of a substantial acceleration in inflation. These exercises illustate the nature and magnitude of the tradeoffs between faster disinflation and the level of external competitiveness in an open economy such as Hungary that uses the exchange rate as a nominal anchor in disinflation.

Keywords: Economic Theory&Research; Environmental Economics&Policies; Economic Stabilization; Macroeconomic Management; Markets and Market Access (search for similar items in EconPapers)
Date: 1993-12-31
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