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Forecasting Industry-Level CPI and PPI Inflation: Does Exchange Rate Pass-Through Matter?

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Author Info
Prasad S. Bhattacharya () (Deakin University)
Dimitrios D. Thomakos () (University of Peloponnese Tripolis Campus 22100)

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Abstract

We examine whether industry-level forecasts of CPI and PPI inflation can be improved when we use the “exchange rate pass-through” effect, that is, when we account for the variability of the exchange rate and import prices. We build a forecasting model based on a two or three equation system involving CPI and PPI inflation where the effects of the exchange rate and import prices are explicitly taken into account. This setup also incorporates their dynamics, lagged correlations and appropriate restrictions suggested by economic theory. We compare the forecasting performance of our model with a variety of unrestricted univariate, multivariate time series models with and without standard control variables for inflation, like interest rates and unemployment. Our results suggest that improvements on the forecast accuracy can be effected when one takes into account the possible pass-through effects of exchange rates and import prices on CPI and PPI inflation.

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File URL: http://www.deakin.edu.au/buslaw/aef/workingpapers/papers/2006-10eco.pdf
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Publisher Info
Paper provided by Deakin University, Faculty of Business and Law, School of Accounting, Economics and Finance in its series Economics Series with number 2006_10.

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Length: 49 pages
Date of creation: 23 Oct 2006
Date of revision:
Handle: RePEc:dkn:econwp:eco_2006_10

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Related research
Keywords: Exchange rates; Pass-through; Inflation; Forecasting;

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References listed on IDEAS
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  2. Obstfeld, Maurice & Rogoff, Kenneth, 2000. "New directions for stochastic open economy models," Journal of International Economics, Elsevier, vol. 50(1), pages 117-153, February. [Downloadable!] (restricted)
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  3. Pecchenino, R. A., 1992. "Commodity prices and the CPI: Cointegration, information, and signal extraction," International Journal of Forecasting, Elsevier, vol. 7(4), pages 493-500, March. [Downloadable!] (restricted)
  4. Maurice Obstfeld, 2001. "International Macroeconomics: Beyond the Mundell-Fleming Model," Center for International and Development Economics Research, Working Paper Series 1000, Center for International and Development Economics Research, Institute for Business and Economic Research, UC Berkeley. [Downloadable!]
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  5. Diebold, Francis X & Mariano, Roberto S, 2002. "Comparing Predictive Accuracy," Journal of Business & Economic Statistics, American Statistical Association, vol. 20(1), pages 134-44, January.
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  6. Evan F. Koenig, 1998. "What's new about the new economy? : some lessons from the current expansion," The Southwest Economy, Federal Reserve Bank of Dallas, issue Jul, pages 7-11. [Downloadable!]
  7. Pinelopi Koujianou Goldberg & Michael M. Knetter, 1997. "Goods Prices and Exchange Rates: What Have We Learned?," Journal of Economic Literature, American Economic Association, vol. 35(3), pages 1243-1272, September. [Downloadable!] (restricted)
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  8. Jonathan McCarthy, 2000. "Pass-through of exchange rates and import prices to domestic inflation in some industrialized economies," Staff Reports 111, Federal Reserve Bank of New York. [Downloadable!]
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  9. repec:bep:sndecm:2:1997:1:1-14 is not listed on IDEAS
  10. Taylor, John B., 2000. "Low inflation, pass-through, and the pricing power of firms," European Economic Review, Elsevier, vol. 44(7), pages 1389-1408, June. [Downloadable!] (restricted)
  11. Swanson, Norman R. & White, Halbert, 1997. "Forecasting economic time series using flexible versus fixed specification and linear versus nonlinear econometric models," International Journal of Forecasting, Elsevier, vol. 13(4), pages 439-461, December. [Downloadable!] (restricted)
  12. Clements, Michael P & Smith, Jeremy, 1996. "A Monte Carlo Study of the Forecasting Performance of Empirical Setar Models," The Warwick Economics Research Paper Series (TWERPS) 464, University of Warwick, Department of Economics.
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