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Inflation Adjustment in the Open Economy: An I(2) Analysis of UK Prices

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  • Heino Bohn Nielsen

    ()
    (University of Copenhagen, Denmark)

  • Christopher Bowdler

    ()
    (Nuffield College, Oxford University)

Abstract

We analyse a cointegrated VAR comprising UK data on consumer prices, unit labour costs, import prices and real consumption growth. The nominal variables, treated as I(2) here, form a linearly homogeneous relation, suggesting a transformation of the system to one comprising inflation and relative prices. This is then estimated in I(1) space. An impulse response analysis using the results suggests that higher real import prices reduce real wages, such that the impact of an external shock on domestic inflation is moderated. This explains why the depreciation of sterling in 1992 left inflation unchanged. In contrast, high real import prices in 1974 increased inflation because wage accommodation effects were absent.

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File URL: http://www.nuff.ox.ac.uk/economics/papers/2003/W5/UKI(2).pdf
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Bibliographic Info

Paper provided by Economics Group, Nuffield College, University of Oxford in its series Economics Papers with number 2003-W05.

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Length: 22 pages
Date of creation: 13 Mar 2003
Date of revision:
Handle: RePEc:nuf:econwp:0305

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Web page: http://www.nuff.ox.ac.uk/economics/

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Keywords: I(2); Impulse response analysis; Inflation; Import price shock;

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References

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  1. Anindya Banerjee & Lynne Cockerell & Bill Russell, 2000. "An I(2) Analysis of Inflation and the Markup," Dundee Discussion Papers in Economics, Economic Studies, University of Dundee 120, Economic Studies, University of Dundee.
  2. Anindya Banerjee & Bill Russell, 2000. "The Relationship between the Markup and Inflation in the G7 Economies and Australia," Dundee Discussion Papers in Economics, Economic Studies, University of Dundee 119, Economic Studies, University of Dundee.
  3. Heino Bohn Nielsen, 2004. "Cointegration analysis in the presence of outliers," Econometrics Journal, Royal Economic Society, Royal Economic Society, vol. 7(1), pages 249-271, 06.
  4. Batini, Nicoletta & Jackson, Brian & Nickell, Stephen, 2005. "An open-economy new Keynesian Phillips curve for the U.K," Journal of Monetary Economics, Elsevier, Elsevier, vol. 52(6), pages 1061-1071, September.
  5. Rahbek, Anders & Christian Kongsted, Hans & Jorgensen, Clara, 1999. "Trend stationarity in the I(2) cointegration model," Journal of Econometrics, Elsevier, Elsevier, vol. 90(2), pages 265-289, June.
  6. Nielsen, Heino Bohn & Rahbek, Anders, 2007. "The Likelihood Ratio Test For Cointegration Ranks In The I(2) Model," Econometric Theory, Cambridge University Press, Cambridge University Press, vol. 23(04), pages 615-637, August.
  7. Li, Hongyi & Maddala, G. S., 1997. "Bootstrapping cointegrating regressions," Journal of Econometrics, Elsevier, Elsevier, vol. 80(2), pages 297-318, October.
  8. Gredenhoff, Mikael & Jacobson, Tor, 2001. "Bootstrap Testing Linear Restrictions on Cointegrating Vectors," Journal of Business & Economic Statistics, American Statistical Association, American Statistical Association, vol. 19(1), pages 63-72, January.
  9. Nielsen, Bent & Rahbek, Anders, 2000. " Similarity Issues in Cointegration Analysis," Oxford Bulletin of Economics and Statistics, Department of Economics, University of Oxford, Department of Economics, University of Oxford, vol. 62(1), pages 5-22, February.
  10. Jacobson, Tor & Vredin, Anders & Warne, Anders, 1994. "Are Real Wages and Unemployment Related?," Working Paper Series in Economics and Finance, Stockholm School of Economics 8, Stockholm School of Economics.
  11. repec:cup:etheor:v:23:y:2007:i:04:p:615-637 is not listed on IDEAS
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Cited by:
  1. Takamitsu Kurita & Heino Bohn Nielsen & Anders Rahbek, 2009. "An I(2) Cointegration Model with Piecewise Linear Trends: Likelihood Analysis and Application," CREATES Research Papers 2009-28, School of Economics and Management, University of Aarhus.
  2. Christopher Bowdler & Luca Nunziata, 2004. "Labour Markets Institutions and Inflation Performance: Evidence from OECD panel data," Money Macro and Finance (MMF) Research Group Conference 2004, Money Macro and Finance Research Group 29, Money Macro and Finance Research Group.
  3. Christopher Bowdler, 2005. "Openness, exchange rate regimes and the Phillips curve," Economics Papers, Economics Group, Nuffield College, University of Oxford 2005-W25, Economics Group, Nuffield College, University of Oxford.
  4. Francesca DI IORIO & Stefano FACHIN & Riccardo LUCCHETTI, 2013. "Can you do the wrong thing and still be right? Hypothesis Testing in I(2) and near-I(2) cointegrated VARs," Working Papers, Universita' Politecnica delle Marche (I), Dipartimento di Scienze Economiche e Sociali 395, Universita' Politecnica delle Marche (I), Dipartimento di Scienze Economiche e Sociali.
  5. Christopher Bowdler, 2005. "Openness, exchange rate regimes and the Phillips curve," Economics Series Working Papers, University of Oxford, Department of Economics 2005-W25, University of Oxford, Department of Economics.

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