Openness and inflation volatility: Panel data evidence

Abstract

Trade openness can reduce inflation volatility through limiting recourse to seigniorage during periods of temporary fiscal deficits, and by shifting consumption and production towards goods for which the terms of trade are relatively stable. This paper provides evidence for a negative effect of openness on inflation volatility using a dynamic panel model that controls for the endogeneity of openness and the effects of both average inflation and the exchange rate regime. The relationship is found to be strongest amongst developing and emerging market economies. We show that openness reduces the volatility of reserve money growth and terms of trade growth and that these effects contribute to the relationship between openness and inflation volatility.

Monetary policy and trade openness in Ghana

“…Also, given the fact that large quantities of domestically consumed goods in Ghana are imported, a highly open economy implies more of these goods would be available in the economy with very little room for shortages, contributing to reduction in the rate of inflation. This result is consistent with the findings of Bowdler and Malik (2005), Muellbauer (2007) and Romer (1993). As expected, the effect of real monetary policy rate (R) was found to have negative and significant effect on long run inflation rate.…”

Inflation control around the world: why are some countries more successful than others?

“…Third, the VSOEs and EMEs tend to be much more open to trade than the larger and more developed countries, but unlike the results from Romer (1993) and Bowdler and Malik (2005), openness is not found to be signi…cantly correlated with in ‡ation performance. The results in both these papers, however, suggest that the negative relation is mainly con…ned to the poorer and less developed countries in their large country samples, most of which are not included in the country sample used here.…”

“…Seventh, both exchange rate indicators suggest less favourable conditions for in- ‡ation control in the VSOEs and EMEs: both country groups have a more volatile exchange rate risk premium and a higher degree of exchange rate pass-through and both indicators are found to be signi…cantly positively correlated with in ‡ation volatility. 10 Eigth, monetary policy shocks are found to be slightly greater in the VSOEs than in the larger and more developed countries, but the di¤erence between the EMEs and other country groups is much larger, suggesting that monetary policy is much less predictable in the EMEs than in the other country groups. 11 This could imply that monetary policy is less systematic in the EMEs or that the in ‡ation goal of the monetary authorities is more likely to be changed in the face of adverse in ‡ationary developments.…”

“…As both these e¤ects are likely to be more pronounced in more open economies, the incentive to in ‡ate should be smaller compared to less open economies. Romer's results have also been extended to the relationship between in ‡ation volatility and openness by Bowdler and Malik (2005). These papers therefore suggest that countries more open to international trade have a lower and more stable in ‡ation rates, with openness measured here as the sum of imports and exports of goods and services over GDP (constant prices, average for the period 2000-2005) (OPEN).…”

Inflation: Concepts, Evolution, and Correlates

“…8 Borio and Filardo (2007), Iakova (2007), Kohn (2006), Razîn and Binyamini (2007), and Yellen (2006) argue for flattening Phillips curves; Sbordone (2007) and Benigno and Faia (2016) argue for steepening Phillips curves. 9 Granato, Lo, and Wong (2006); Bowdler and Malik (2005).…”