Inflation dynamics in central and eastern European countries

Economic and Monetary Union (EMU) raises important questions about policy context and design within member states. As EMU membership rises, so it embraces an increasingly diverse range of countries notwithstanding, the qualifying convergence criteria. Given the importance of convergent inflation to the sustainability of EMU with a common monetary policy, understanding the dynamics of inflation is of particular policy importance. This study uses fractional integration methods to analyse inflation dynamics in 12 Central and Eastern European countries. We find evidence of mean-reversion in only seven countries, with different speeds of reversion across countries. Furthermore, employing a recently developed time-series approach, we uncover the existence of multiple statistically distinct I(0)/I(1) regime states in almost all the countries. This raises the possibility that, as and when these countries join EMU, ECB monetary policy aimed at euro wide price stability could potentially transmit quite differently through these economies, resulting in heterogeneous and diverging inflation outcomes.