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Inflation Convergence in Central and Eastern Europe with a View to Adopting the Euro

  • Juan Carlos Cuestas

    ()

    (Department of Economics, The University of Sheffield)

  • Luis A. Gil-Alana

    (University of Navarra, Spain)

  • Karl Taylor

    (Department of Economics, The University of Sheffield)

In this paper we consider inflation rate differentials between seven Central and Eastern Countries (CEECs) and the Eurozone. We focus explicitly upon a group of CEECs given that although they are already member states, they are currently not part of the Economic and Monetary Union (EMU) and must fulfil the Maastricht convergence criteria before being able to adopt the euro. However, this group of countries does not have an opt-out clause and so must eventually adopt the single currency. Hence, considering divergence in inflation rates between each country and the Eurozone is important in that evidence of persistent differences may increase the chance of asymmetric inflationary shocks. Furthermore, once a country joins the Eurozone the operation of a country specific monetary policy is no longer an option. We explicitly test for convergence in the inflation rate differentials, incorporating non-linearities in the autoregressive parameters, fractional integration with endogenous structural changes, and also consider club convergence analysis for the CEECs over the period 1997 to 2011 based on monthly data. Our empirical findings suggest that the majority of countries experience non-linearities in the inflation rate differential, however there is only evidence of a persistent difference in three out of the seven countries. Complementary to this analysis we apply the Phillips and Sul (2007) test for club convergence and find that there is evidence that most of the CEECs converge to a common steady state.

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File URL: http://www.shef.ac.uk/economics/research/serps/articles/2012_005.html
File Function: First version, 2012
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Paper provided by The University of Sheffield, Department of Economics in its series Working Papers with number 2012005.

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Length: 34 pages
Date of creation: Jan 2012
Date of revision:
Handle: RePEc:shf:wpaper:2012005
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  1. Lopez, Claude & Papell, David, 2010. "Are euro area inflation rates misaligned?," MPRA Paper 27929, University Library of Munich, Germany.
  2. Barro, R.J. & Sala-I-Martin, X., 1991. "Convergence Across States and Regions," Papers 629, Yale - Economic Growth Center.
  3. Mark Holmes, 2002. "Panel data evidence on inflation convergence in the European Union," Applied Economics Letters, Taylor & Francis Journals, vol. 9(3), pages 155-158.
  4. Abadir, Karim M. & Distaso, Walter & Giraitis, Liudas, 2007. "Nonstationarity-extended local Whittle estimation," Journal of Econometrics, Elsevier, vol. 141(2), pages 1353-1384, December.
  5. Peter C. B. Phillips & Donggyu Sul, 2007. "Transition Modeling and Econometric Convergence Tests," Econometrica, Econometric Society, vol. 75(6), pages 1771-1855, November.
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  7. Lehmann, Hartmut & Muravyev, Alexander, 2009. "How Important Are Labor Market Institutions for Labor Market Performance in Transition Countries?," IZA Discussion Papers 4673, Institute for the Study of Labor (IZA).
  8. Karsten Staehr, 2010. "Income convergence and inflation in Central and Eastern Europe : does the sun always rise in the East," Bank of Estonia Working Papers wp2010-04, Bank of Estonia, revised 22 Mar 2010.
  9. Thomas Mikosch & Cătălin Stărică, 2004. "Nonstationarities in Financial Time Series, the Long-Range Dependence, and the IGARCH Effects," The Review of Economics and Statistics, MIT Press, vol. 86(1), pages 378-390, February.
  10. Thomas Mikosch & Catalin Starica, 2004. "Non-stationarities in financial time series, the long range dependence and the IGARCH effects," Econometrics 0412005, EconWPA.
  11. Granger, Clive W. J. & Hyung, Namwon, 2004. "Occasional structural breaks and long memory with an application to the S&P 500 absolute stock returns," Journal of Empirical Finance, Elsevier, vol. 11(3), pages 399-421, June.
  12. Busetti, Fabio & Forni, Lorenzo & Harvey, Andrew & Venditti, Fabrizio, 2006. "Inflation convergence and divergence within the European Monetary Union," Working Paper Series 0574, European Central Bank.
  13. Diebold, Francis X. & Inoue, Atsushi, 2001. "Long memory and regime switching," Journal of Econometrics, Elsevier, vol. 105(1), pages 131-159, November.
  14. Cuestas, Juan Carlos & Harrison, Barry, 2010. "Inflation persistence and nonlinearities in Central and Eastern European countries," Economics Letters, Elsevier, vol. 106(2), pages 81-83, February.
  15. Juan Carlos Cuestas & Mercedes Monfort & Javier Ordóñez, 2011. "How big is the 'German locomotive'? A perpective from Central and Eastern Europen countries' unemployment rates," Working Papers 2011008, The University of Sheffield, Department of Economics, revised Apr 2011.
  16. Kocenda, Evzen & Papell, David H, 1997. "Inflation Convergence within the European Union: A Panel Data Analysis," International Journal of Finance & Economics, John Wiley & Sons, Ltd., vol. 2(3), pages 189-98, July.
  17. Kapetanios, George & Shin, Yongcheol & Snell, Andy, 2003. "Testing for a unit root in the nonlinear STAR framework," Journal of Econometrics, Elsevier, vol. 112(2), pages 359-379, February.
  18. Kocenda, Evzen, 2001. "Macroeconomic Convergence in Transition Countries," Journal of Comparative Economics, Elsevier, vol. 29(1), pages 1-23, March.
  19. Luis A. Gil-Alana, 2008. "Fractional integration and structural breaks at unknown periods of time," Journal of Time Series Analysis, Wiley Blackwell, vol. 29(1), pages 163-185, 01.
  20. Sollis, Robert, 2009. "A simple unit root test against asymmetric STAR nonlinearity with an application to real exchange rates in Nordic countries," Economic Modelling, Elsevier, vol. 26(1), pages 118-125, January.
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