11 Claudio Borio and Andrew Filardo Bank for International Settlements Globalisation and inflation:...
Transcript of 11 Claudio Borio and Andrew Filardo Bank for International Settlements Globalisation and inflation:...
11
Claudio Borio and Andrew FilardoBank for International Settlements
Globalisation and inflation:
New cross-country evidence on the global determinants of domestic inflation
13th Dubrovnik Economic Conference29 June, 2007
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Road map
Do we need new theories of inflation?
“Theory”
Empirical evidence
Policy implications and conclusions
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Motivation
“Over the past two decades, inflation has fallen notably, virtually worldwide, as has economic volatility. Although a complete understanding of the reasons remains elusive, globalisation and innovation would appear essential elements of any paradigm capable of explaining the events of the past ten years”.
Alan Greenspan (2005)
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Do we need new theories?
No & Yes
• No:
Still, inflation is always and everywhere a monetary phenomenon!
• Yes:
Evidence is accumulating that the inflation process is changing in various ways.
Today, we focus on the channels influencing goods and services markets, from a top-down perspective.
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Stylised facts about global inflation
Also see, Ciccarelli and Mojon (2005), Mumtaz and Surico (2006).
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Some stylised facts about globalisation
Direct and indirect channels important!
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Some stylised facts – G10 wage shares
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Inflation trend (BIS 2006)
Globalisation has…
… lowered the cost of disinflation
… helped moderate business cycles
… rewarded good policy frameworks
… reduced downward rigidities
… boosted central bank credibility
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Inflation trend
Globalisation has…
… lowered the cost of disinflation
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Inflation trend
Globalisation has…
… lowered the cost of disinflation
… helped moderate business cycles
… rewarded good policy frameworks
… reduced downward rigidities
… boosted central bank credibility
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The cyclical component
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The cyclical component
• What is the role of global factors in the domestic inflation process?
• We know that the inflation process has changed
• To many central banks, domestic developments might seem sufficient to explain the changes. But are the domestic changes symptoms or are they truly the causal factors?
• At this point, we are only starting to explore the key implications – many daunting puzzles remain.
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The “theory”
Country-centric vs globe-centric views
Country-centric view
Traditional view
- Phillips curve
- Domestic measures of slack matter
- Monetary policymakers have tight control of the inflation process
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Country-centric view
Key assumptions:
1. Textbook flexible exchange rates or
2. Fairly closed economy
- Limited substitutability (across products and factor inputs)
- To the extent that the tradable sector matters, import prices are sufficient statistics
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Globe-centric view
Globe-centric view
Newer view
- Traditional Phillips curve not well specified
- Global measures of slack matter
- Monetary policymakers have much looser control of the inflation process
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Globe-centric view
Key assumptions:
1. Deviations from ideal flexible exchange rate regime (though not necessarily a fixed regime)
2. Globalised economy
- high substitutability across products and/or factor inputs (Chen, Imbs and Scott (2004))
- Global capacity constraints for goods and factor inputs key
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Exploring global output gaps
Several Key Findings!
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Top-down methodology
Augmented Phillips curve approach
What measure of slack is relevant?
Borio and Filardo (2007): “Globalisation and inflation: new cross country evidence on the global determinants of domestic inflation”
slack) f(economic Inflation
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Key findings
Country-centric benchmark specification shifting
tDttt Gapc 11
inflation constant lagged inflation
domestic output
gap
Estimated country by country, for sub-samples (1980:Q1-92:Q4 and 1993:Q1-2005:Q3); CPI inflation; OECD output gaps
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Declining importance of domestic gap
Sensitivity of inflation to domestic output gaps has fallen
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Specification issue
1 1iGU D
t t t ttc Gap Gap
De-trended inflation
constant global output
gap
domestic output
gap
Far from perfect, but instructive and illustrative
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Global gaps – measurement issues
5 different alternatives
,
,
i i
k
G G Dj j k
k K
Gap w Gap
Weighted averageof domestic output gapsVarious versions eg tradeweighted FX weighted
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Global gaps
Trade-weighted version – W1
j
kjkjWkjw exports and imports total
exportimport ,,1,
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Global gaps
Import-weighted version – W2
j
,2, imports total
import kjWkjw
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Global gaps
Exchange rate-weighted version – W3
kj
kjWkj f
fw
,
,3, where
m
mf
kj
kj
kj 1exp1
1exp
*2,
,
,
k) and j countriesfor rate exchange bilateralUS(, ncorrelatiokj
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Global gaps
Exchange rate adjusted trade-weighted version – W4
)(
exportimport total
exportimport,
kj,kj,
4, numerators
fw
kjWkj
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Global gaps
GDP-weighted version – WG
GDP World
GDP jWGjw
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Pooled regression evidence:Scatter plot with global gap
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WtGap
D tU t
tGap
c1
1985-2005Now
1972-1992
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WtGap
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Rising importance of the global gap
Coefficient on global gap
Pooled 16 OECD Countries
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Rising importance of the global gapAverage of 16 OECD country-specific regressions
( )
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Robustness to control variablesAccounts for traditional and non-traditional control variables
tUtt variablescontrol...
Supply/cost shocksDomestic variables
Import price growth Oil price growth ULC growth
Global variablesGlobal unit labour costsGlobal WPI
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Global input prices and inflation – tight correlation
Inflation gap: de-trended CPI inflation, 16 OECD economies. Input prices: Composite JPMorgan Chase input price index covering purchases of goods for manufacturing industries, and goods and staff costs for service industries; values above (below) 50 indicate an increase (decrease).
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Goods and services marketsSome evidence on sectoral markets:The correlation of global measures of slack with manufacturing is generally stronger than with services … as might be expected!
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Tentative conclusions
Prima facie evidence that we may need to think in a less country-centric, ie more globe-
centric, way about the key determinants of domestic inflation – direct and indirect channels of influence important
This may help to explain the deterioration of domestic output gap estimates of late, and to suggest ways to “fix” existing models
And, globalisation may be making domestic monetary policy less effective!
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Policy implications
1. Globalisation has altered traditional policy guideposts
Domestic slack has become less reliable
Global slack has become more important determinant of domestic inflation
Other dimensions of globalisation exacerbate these changes – NAIRU, natural rate of interest
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Policy implications
Policy challenge:
- relying too heavily on domestic slack can lead policymakers astray
- Looking forward – key risk is global spare capacity and price stability. So far a safety valve.
- But what next?
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Policy implications
2. Financial globalisation complicates this
- Financial globalisation has weakened the link between policy rates and market rates
- Room for manoeuvre may be shrinking
- At the current policy juncture, this tendency may have implications for financial imbalances
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Current policy implicationsSmooth sailing or impending crisis?
Money, Credit and Asset Prices
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Mitigating the global implications
1. Globalisation has altered traditional policy guideposts - improved monitoring of external developments
2. Renewed interest in boosting analytic efforts to understand the many facets of globalisation
i. International business cycle models• Spillovers across national borders• Trade linkages as well as contestability
ii. Top-down approaches rather than bottom up
iii. Global dimensions of the monetary policy transmission mechanism
3. Multilateral policy implications
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Important puzzles – top-down approach
Specification issue & robustness
1 1 1iGD
t t t ttc Gap Gap
1 1iGU D
t t t ttc Gap Gap (BF)
(AR)
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- - - “true” value conventional AR specification B-F specification
0
5
10
15
20
-0.1 0.1 0.3 0.5 0.7 0.9
0
5
10
15
20
-0.3 -0.1 0.1 0.3 0.5 0.7
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Conventional AR model severely bias!
,AR BF AR
Small-sample probability density function
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Thank you
Think globally! Act locally!
more
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References
Borio and Filardo (2007): “Globalisation and inflation: new cross country evidence on the global determinants of domestic inflation” and references therein; BIS Annual Report (2006).
Recent speeches: Weber (June 2007); Kohn (March 2007), Bernanke (March 2007)
Recent papers:
Pain, Koske and Sollie (2006)
Castelnuovo (2006)
Ihrig, Kamin, Lindner and Marquez (2007)
Razin and Binyamini (2007)