Inflation Dynamics and the Role of Oil Shocks: How Different Were the 1970s?

Abstract

This paper presents evidence on why inflation pass-through from oil shocks in the 21st century relative to the 1970s has dampened. First, results suggest global business cycle demand driven oil shocks are not inflationary. Second, there has been a reduction in inflation pass-through from oil supply and speculative oil demand shocks. Movements in oil inventories and production suggest oil supply and speculative oil demand shocks in the 1970s were different. Oil market participants expect higher oil prices to persist into the future. The analysis highlights the importance of modelling inventories as a means of capturing expectations in the oil market.

Keywords: Oil Shocks, Time-Varying Parameters, Inflation Pass-through

JEL Classification: C11, C32, E31, Q43