The Time-Variant Sources of Inflation and Inflation Volatility and Their Interrelations and Effects on Macroeconomic Fluctuations: Evidence from Indonesia and Thailand

Indonesia and Thailand, two major open economies in Southeast Asia which operate under ‘managed-float’ exchange rate systems, have remained susceptible to both the external and domestic shocks since the East-Asian financial crisis of the late 1990s. Unlike the standard monetary-policy literature, these countries have introduced ‘flexible inflation targeting’ as the monetary policy strategy under managed-float exchange rate systems. Although these countries have managed to keep inflation low on average in a low-inflation environment, inflation has however remained highly volatile. This paper attempts to answer how significant are external shocks, relative to domestic shocks, as the drivers of inflation and inflation volatility for these countries? The paper uses a Structural Vector Autoregression (SVAR) modelling framework and monthly macroeconomic data over the period 2000M1-2015M12. The empirical results suggest that in both countries, (i) inflation is more sensitive to external shocks relative to domestic shocks, which is consistent with the inflation globalization hypothesis; (ii) Inflation volatility however remains sensitive to both the external and domestic shocks; (iii) As expected, inflation and inflation volatility exhibit a feedback relation between them, which is consistent with the Friedman‐Ball and Cukierman‐Meltzer propositions. The paper also highlights that inflation and inflation volatility affect the real interest and exchange rates, which affect real output and asset prices. The paper concludes that Indonesia and Thailand can make monetary policy more effective for maintaining price stability if they make the exchange rates more flexible to ameliorate the effects of external shocks on these economies

Causes of Current Account Fluctuations in West African Monetary Union

This study analyzes the sources of current account fluctuations in the West African Monetary Union (WAEMU) economies over the period from 1980 to 2017. It is part of the inter-temporal approach which considers that the dynamics of the current account of a country is influenced by global shocks and transient or permanent domestic shocks. Thus, we developed a three-variable structural autoregressive vector model. This is the international real interest rate that represents the aggregate shock, the ratio of current account to gross domestic product which is the proxy for transient domestic shocks, and the ratio of net output to gross domestic product to measure impact of permanent shocks to the current account. From the theoretical model, structural shocks are identified by applying the long-term restrictions imposed by the inter-temporal approach in the analysis of current account dynamics. The study leads to three major results: 1) current account fluctuations within WAEMU are explained by transient domestic shocks, 2) net product fluctuations are due to permanent domestic shocks, 3) Global or exogenous shocks have a modest contribution to current account fluctuations, but their effects on net income are still significant, especially in the long run.

A Three-Country Macroeconomic Model for Portugal

This paper outlines a simple three-country macroeconomic model designed to focus on the transmission of external shocks to Portugal. Building on the framework developed by Berg et al (2006), this model differentiates between shocks originating from both inside and outside the euro area, as well as domestic shocks, each of which have different implications for Portugal. This framework is also used to consider the dynamics of the Portuguese economy over recent decades. The model, which is designed to guide forecasts and undertake simulations, can easily be modified for use in other small euro area countries.

Diversification Through Trade*

A widely held view is that openness to international trade leads to higher income volatility, as trade increases specialization and hence exposure to sector-specific shocks. Contrary to this common wisdom, we argue that when country-wide shocks are important, openness to international trade can lower income volatility by reducing exposure to domestic shocks and allowing countries to diversify the sources of demand and supply across countries. Using a quantitative model of trade, we assess the importance of the two mechanisms (sectoral specialization and cross-country diversification) and show that in recent decades international trade has reduced economic volatility for most countries.

Ghana

Ghana’s macroeconomic performance has been mixed, as over the years recurrent policy slippages have amplified the impact of external and domestic shocks, created persistent imbalances, and contributed to high inflation, exchange rate volatility, and unfavorable debt dynamics. The new government thus faces significant challenges, including a large fiscal slippage that occurred in 2016. Addressing these challenges calls for an ambitious adjustment and reform agenda.

International Trade and Risk Sharing in the Global Rice Market: The Impact of Foreign and Domestic Supply Shocks

In the first decade of this millennium, rising food prices returned as a concern for policy makers, especially in developing economies. This paper examines how supply shocks, both domestic and foreign, impacted imports and consumption in the world rice market between 1960 and 2010. Such an investigation is important in assessing the role of trade in compensating for domestic shocks. If shortages lead economies to impose trade restrictions, then trade may not be allowed to play an important role in stabilizing consumption. The existing literature has highlighted the importance of these policy shocks in the world rice market and how they have worked to increase the volatility of prices and trade flows. Although trade cannot be expected to play a strong role when the major producing and consuming economies are simultaneously hit by negative yield shocks, such a scenario has occurred in only about 3% of all observed cases. We also find that consumption fails to stabilize even when domestic shocks are negative and foreign shocks are positive; however, imports do peak. Thus, while trade does help in coping with domestic risks, it is unable to achieve full risk sharing. Therefore, no matter the nature of foreign shocks, the principal concern is to stabilize consumption when an economy is hit by negative domestic yield shocks. The frequency of such shocks is about 12% in all observed cases, highlighting the importance of domestic responses. We find that domestic rice stocks have been important in stabilizing consumption. The reliance on domestic policies has, in turn, kept the rice market thin.