The aim of this paper is to construct a quarterly inflation model for Croatia. In order to model inflation dynamics se use the general-to-specific approach. The advantage of this approach is its ability to deliver results based on underlying economic theories of inflation, which are also consistent with the properties of the data. A two step procedure is followed. In the first step, the long-run sectoral analysis of inflation sources is conducted, yielding long-run determinants of inflation (mark-up, excess money, nominal effective exchange rate and the output gap). In the second step, we estimate an equilibrium error correction model of inflation deploying, among other variables of interest, long-run solutions derived in the first step. The derived model of inflation suggests that mark-up and excess money relationships are very important for explaining the short-run behaviour of inflation, as well as the output gap and nominal effective exchange rate, import prices, interest rates and narrow money. Comparing the results of the model suggests that short-run inflation is more responsive to supply side and exchange rate changes than to monetary conditions.
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Paper provided by The Institute of Economics, Zagreb in its series Working Papers with number
0703.
Find related papers by JEL classification: C51 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Model Construction and Estimation C53 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Forecasting and Other Model Applications E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation E37 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Forecasting and Simulation
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