Exchange Rate Pass Through to Domestic Prices: Evidence from Mauritius
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The study investigates the extent and degree of exchange rate pass through to prices at different distribution levels, namely from import prices, to producer prices up to consumer prices, for the small island economy of Mauritius which is highly dependent on external markets. Using quarterly data from 1999 to 2010 and a Structural Vector Autoregressive (SVAR) model, we also focus on the existence and degree of causality between exchange rate and domestic prices. Third, the impulse response functions are used to calculate exchange rate pass through elasticity. Lastly, forecast error variance decomposition is equally obtained from the SVAR to assess the importance of externals shocks in explaining fluctuations in import and domestic prices. Unlike previous studies, we find evidence that exchange rate pass through to consumer prices is the highest; followed by producer prices while exchange rate pass through to import prices is the lowest. Our findings also reveal the existence of bidirectional causality only for the case of the nominal effective exchange rate and producer prices. Further, the variance decomposition results indicate that the variance of import and producer prices is explained mainly by oil price shocks while the variance of consumer prices is largely accounted for by import price shocks.
Abstract
The study investigates the extent and degree of exchange rate pass through to prices at different distribution levels, namely from import prices, to producer prices up to consumer prices, for the small island economy of Mauritius which is highly dependent on external markets. Using quarterly data from 1999 to 2010 and a Structural Vector Autoregressive (SVAR) model, we also focus on the existence and degree of causality between exchange rate and domestic prices. Third, the impulse response functions are used to calculate exchange rate pass through elasticity. Lastly, forecast error variance decomposition is equally obtained from the SVAR to assess the importance of externals shocks in explaining fluctuations in import and domestic prices. Unlike previous studies, we find evidence that exchange rate pass through to consumer prices is the highest; followed by producer prices while exchange rate pass through to import prices is the lowest. Our findings also reveal the existence of bidirectional causality only for the case of the nominal effective exchange rate and producer prices. Further, the variance decomposition results indicate that the variance of import and producer prices is explained mainly by oil price shocks while the variance of consumer prices is largely accounted for by import price shocks.
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