Analyzing the Exchange Rate Pass-through in Mexico: Evidence Post Inflation Targeting Implementation

Abstract

This paper presents an analysis of the exchange rate pass-through mechanism for the Mexican economy after the formal adoption of inflation targeting policy. In particular, this research work analyzes how a change in the nominal exchange rate depreciation is transmitted to domestic prices along the distribution chain of pricing. The analysis is carried out using a recursive Structural Vector Autorregression with exogenous variables (recursive SVAR-X) model, which aims at the estimation of structural impulse-response-functions as a tool to analyze the degree and speed of the effect of exchange rate depreciation changes on domestic prices. Additionally, variance decompositions are computed to capture the relative importance of exchange rate depreciation shocks in explaining inflation fluctuations. Our results show that, for the period of analysis (after the formal adoption of inflation targeting in Mexico), the exchange rate pass-through to consumer prices is quite small and fast and exchange rate surprises are not relevant to explain consumer price inflation variation.

Industrial growth and consumer goods inflation in Mexico: An econometric analysis

“…Put differently, the inflationary impact of exchange-rate depreciation weakens as the stabilization process moves forward. In this context, several papers conclude that the Mexican pass-through effect declined from the 1990s to the 2000s (Capistrán, Ibarra and Ramos-Francia, 2012;Cortés, 2013;Guillermo and Rodríguez, 2014;Rodríguez, 2015). In particular, Rodríguez (2015) points out that the pass-through effect became so small after the implementation of inflation targeting in Mexico that sudden exchange-rate depreciations do not significantly change the trajectory of the price level.…”

“…To sum up, the recent empirical literature identifies the following variables as leading sources of inflation: budget deficits, money supply, the exchange rate and inflationary expectations. Furthermore, the econometric literature underlines the following aspects: (i) exchange-rate shocks were a powerful cause of price instability in high-inflation Latin American countries such as Argentina, Brazil and Mexico "in the 1980s" (Dornbusch, Sturzenegger and Wolf, 1990); (ii) more recently, fiscal and monetary expansion has become more inflationary than exchange-rate depreciation (Rogers and Wang, 1995); (iii) the pass-through effect decreases as the macroeconomic stabilization process moves forward (Baqueiro, Díaz de León and Torres, 2003;Capistrán, Ibarra and Ramos-Francia, 2012;Cortés, 2013;Guillermo and Rodríguez, 2014;Rodríguez, 2015); (iv) however, the pass-through effect from the exchange rate to prices, while smaller than before, has probably been underestimated (Hernández, 2015); and (v) inflation-targeting monetary policy has been useful in anchoring inflationary expectations in developing countries such as Brazil and Mexico (Carrasco and Ferreiro, 2011;Caldas, 2013). By the same token, economic activity responds to fiscal and real shocks and, to a lesser degree, to monetary and exchangerate shocks (Rogers and Wang, 1995).…”

Crecimiento industrial y aumento de los precios de los bienes de consumo en México: Un análisis econométrico

“…En otras palabras, el efecto inflacionario de la depreciación del tipo de cambio se debilita a medida que el proceso de estabilización se consolida. En este contexto, varios estudios concluyen que entre la década de 1990 y la década de 2000 el efecto traspaso en México se redujo (Capistrán, Ibarra y Ramos-Francia, 2012;Cortés, 2013;Guillermo y Rodríguez, 2014;Rodríguez, 2015). En particular, Rodríguez (2015) señala que, luego de la adopción del sistema de metas de inflación en México, el efecto traspaso disminuyó a tal grado que las depreciaciones súbitas de la moneda no modifican de manera apreciable la trayectoria del nivel de precios.…”

Inflation Targeting and the Pass-through Effect in Mongolia

“…The majority of subsequent studies supports the argument of Gagnon and Ihrig (2004) by providing the evidence of the decline in pass-through effect by the adoption of inflation targeting such as: Coulibaly and Kempf (2010) with the samples of 27 emerging market economies (15 inflation targeters and 12 inflation non-targeters), Dilla et al (2017) with 19 countries (8 high income countries and 11 middle income countries), Edward (2006) with 7 countries (Australia, Brazil, Canada, Chile, Israel, Korea and Mexico), Daboussi and Thameur (2014) with 6 emerging markets in Latin America and Asia (Thailand, Philippines, Peru, Mexico, Indonesia and Brazil), Siregar and Goo (2008) with Indonesia and Thailand, Odria et al (2012) with Peru, Guillermo and Brindis (2014) with Mexico, Oladipo (2017) with South Africa, and Karahan (2017) with Turkey. Some studies, however, identify the unchanged or lasting pass-through effects even after adopting inflation targeting such as: Nogueira (2007) with 8 countries (Canada, United Kingdom, Sweden, Czech Republic, South Korea, Mexico, Brazil, and South Africa), Kuncoro (2015) with Indonesia, and Dube 2016with South Africa.…”