Sectorial Price Shock Propagation via Input-Output Linkages

This paper presents an input-output framework, which also incorporates novel elements inspired by network literature along with Monte Carlo simulation techniques to analyse the propagation process of diverse sectorial cost shocks in the economy as well as to evaluate the risks associated to these sectorial inflationary pressures. In the static perspective over the impact of shocks on consumer inflation, the paper calculates sector specific first-round direct and cumulated sensitivities, showing evidence for the importance of indirect linkages within the economy. The sensitivity analysis also finds that a handful of economic sectors might exert particularly large influence on final consumer prices. Beside the static examination, the study introduces a network (or graph) representation of the input-output table that provides a flexible framework for analysing the diffusion phenomena of shocks in a dynamic manner. The price pressure indicators generated by the dynamic approach is able to explain a large share of the annual variation in Romania’s headline and core inflation measures. Combining the diffusion model with Monte Carlo simulation techniques, the study shows that the magnitude of recent price shocks - determined mainly by global factors - corresponds to a fat tail event, with no any similar episode since the introduction (2005) of inflation targeting in Romania.