engleski

Threshold Autoregressive Model of Exchange Rate Pass through Effect: The Case of Croatia

The paper applies a nonlinear econometric approach in modeling a possible explanation for the low Exchange Rate Pass through (ERPT) effect in a highly dollarized (euroized) economy such as Croatia. The nominal exchange rate has been the central anchor of country's monetary policy since the last stabilization process in October 1993, and there is consensus among economists that an almost complete pass-through effect is present in Croatia. Nevertheless, researchers had major difficulties in finding empirical evidence of ERPT effect during the post-stabilization float period (Billmeier and Bonato 2002 ; Kraft 2002 and Maodus 2006). Having in mind speculations about existence of a potential threshold in theoretical and in empirical papers (Taylor 2000 ; Carranza et. al. 2004 ; Campa and Goldberg 2004) a threshold regression approach is employed. During a grid search, 13013 regressions are estimated and a strong case of nonlinearity with the single threshold is proven. According to our estimation there is a threshold at 5.91% of the monthly growth rate of the nominal exchange rate of the German mark (Euro) with a 95% interval between 2.69% and 21.81%. The way in which the nominal exchange rate affects inflation is asymmetric around the threshold. Below the threshold, ERPT effect is weak or statistically insignificant and above the threshold the effect is strong and significant. Although mathematical techniques cannot replace economic reasoning and intuition, the results are consistent with the intuitive expectations and theoretical speculations of the authors that have already researched the ERPT effect in Croatia. Translated to the level of macroeconomic policy design findings of this research can be summed up in a single sentence: in order to keep inflationary expectations and prices low and stable, one of the rules of monetary authorities should be to avoid depreciation rates that are higher than 2.69% monthly (estimated threshold is 5.91%, but the lower boundary of 95% interval is 2.69% depreciation rate).

threshold regressive model; pass-through effect; exchange rate; inflation; nonlinear econometrics

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