Monetary Policy and Exchange Rate Pass-Through

35 Pages Posted: 20 Aug 2001

See all articles by Joseph Gagnon

Joseph Gagnon

Peterson Institute

Jane E. Ihrig

Federal Reserve Board - International Financial Transactions

Date Written: July 2001

Abstract

Recent research suggests that the pass-through of exchange rate changes into domestic inflation has declined in many countries since the 1980s. We develop a theoretical model that attributes the change in pass-through (defined as the correlation of inflation with exchange rate changes) to increased emphasis on inflation stabilization by many central banks. This hypothesis is tested on eleven industrial countries between 1971 and 2000. We find widespread evidence of both a decline in pass-through and a decline in the variability of inflation in the 1990s. We also find a statistically significant link between measured pass-through and inflation variability. However, our efforts to correlate the decline in pass-through with estimated changes in monetary policy behavior are inconclusive due to poor estimates of policy behavior.

Keywords: Inflation targeting, Taylor rule

JEL Classification: E42, E52, E58, F41

Suggested Citation

Gagnon, Joseph and Ihrig, Jane E., Monetary Policy and Exchange Rate Pass-Through (July 2001). FRB International Finance Discussion Paper No. 704. Available at SSRN: https://ssrn.com/abstract=280667 or http://dx.doi.org/10.2139/ssrn.280667

Joseph Gagnon (Contact Author)

Peterson Institute ( email )

1750 Massachusetts Avenue, NW
Washington, DC 20036
United States

HOME PAGE: http://www.piie.com

Jane E. Ihrig

Federal Reserve Board - International Financial Transactions ( email )

20th and C Streets, NW
Washington, DC 20551
United States
202-452-3372 (Phone)
202-736-5638 (Fax)

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