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The purpose of this paper is to investigate inflation convergence within the East African Community (EAC) as it aspires to become a currency union.
Abstract
Purpose
The purpose of this paper is to investigate inflation convergence within the East African Community (EAC) as it aspires to become a currency union.
Design/methodology/approach
An unobserved dynamic factor model was used to decompose the variation in inflation into a component that is common across the countries in the EAC region and a component that is country specific. Convergence was measured by the percentage of variation in inflation that is common across countries.
Findings
The estimated results from the dynamic factor model for the pre‐EAC Treaty (1981:3 to 2000:2) period and post‐EAC Treaty (2000:3 to 2009:1) period suggest that the percentage variation in inflation in the EAC that is explained by the common regional component increased significantly during the post‐Treaty period.
Research limitations/implications
One of the limitations of this paper is that it does not address the mechanism through which the convergence in a currency union is achieved. Future research should try to examine the link between convergence and different macroeconomic policies.
Practical implications
This paper suggests that the push towards forming a currency union in East Africa has led to a greater degree of inflation synchronization across different countries in the region.
Originality/value
The main contribution of this paper is to use an unobserved component model to estimate the degree of inflation synchronization in East African countries.
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The Maastricht inflation criterion has influenced the choice of disinflation strategies of prospective euro area member countries. Some historically high‐inflation countries chose…
Abstract
Purpose
The Maastricht inflation criterion has influenced the choice of disinflation strategies of prospective euro area member countries. Some historically high‐inflation countries chose the fiat disinflation strategy of “low inflation now, reforms later,” bringing inflation down quickly. Their inflation rates increased immediately after their euro applications were assessed positively and stayed significantly higher than inflation in France and Germany, two historically low‐inflation countries. The inflation differentials reflect both structural rigidities inherited from the past and higher inflation expectations stemming from the chosen disinflation strategy. This paper seeks to address these issues.
Design/methodology/approach
The paper highlights the inflation consequences of the choice of compliance policies with the Maastricht inflation criterion. To this end, the paper estimates costs of future disinflations in six high‐inflation countries for which well‐established stylized facts are held.
Findings
The Maastricht inflation criterion has been an influential nominal rule. While it swayed the public stance toward low inflation, it biased the choice of the disinflation strategy toward fiat measures. Inflation in these countries declined only temporarily, giving these countries a pronounced V‐shaped pattern of inflation. These countries tended to opt for “low inflation now, reforms later” approach, which yielded low inflation quickly at the cost of postponing long‐term structural reforms. While the ERM II process can be made relatively painless by fiat measures, such a strategy results in inefficient transmission mechanisms and costly disinflations.
Originality/value
The paper highlights the long‐run inflation consequences of the choice of compliance policies with the Maastricht inflation criterion. While inflation was low prior to the euro and stayed low afterward in inflation‐averse countries, a V‐shaped inflation path in high‐inflation countries is seen. The countries that expect to benefit the most from a fast adoption of the euro are likely to opt for fiat‐driven compliance. The choice of compliance policies has consequences for future disinflations – monetary transmission distortions and inefficiencies of fiat policies increase the cost of future disinflations and will complicate ECB policymaking for years to come.
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Gabriele Fiorentini, Alessandro Galesi and Enrique Sentana
We generalise the spectral EM algorithm for dynamic factor models in Fiorentini, Galesi, and Sentana (2014) to bifactor models with pervasive global factors complemented by…
Abstract
We generalise the spectral EM algorithm for dynamic factor models in Fiorentini, Galesi, and Sentana (2014) to bifactor models with pervasive global factors complemented by regional ones. We exploit the sparsity of the loading matrices so that researchers can estimate those models by maximum likelihood with many series from multiple regions. We also derive convenient expressions for the spectral scores and information matrix, which allows us to switch to the scoring algorithm near the optimum. We explore the ability of a model with a global factor and three regional ones to capture inflation dynamics across 25 European countries over 1999–2014.
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Davide Delle Monache, Ivan Petrella and Fabrizio Venditti
We analyze the interaction among the common and country-specific components for the inflation rates in 12 euro area countries through a factor model with time-varying parameters…
Abstract
We analyze the interaction among the common and country-specific components for the inflation rates in 12 euro area countries through a factor model with time-varying parameters. The variation of the model parameters is driven by the score of the predictive likelihood, so that, conditionally on past data, the model is Gaussian and the likelihood function can be evaluated using the Kalman filter. The empirical analysis uncovers significant variation over time in the model parameters. We find that, over an extended time period, inflation persistence has fallen and the importance of common shocks has increased relatively to that of idiosyncratic disturbances. According to the model, the fall in inflation observed since the sovereign debt crisis is broadly a common phenomenon since no significant cross-country inflation differentials have emerged. Stressed countries, however, have been hit by unusually large shocks.
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The purpose of this paper is to empirically examine the issue of convergence in the monthly returns, rental growth and yields for ten market segments in the UK direct real estate…
Abstract
Purpose
The purpose of this paper is to empirically examine the issue of convergence in the monthly returns, rental growth and yields for ten market segments in the UK direct real estate market, using monthly data over the period from January 1987 to December 2014.
Design/methodology/approach
The methodology used to determine convergence is principal component analysis as it provides an assessment of the extent to which the variance of the market segments can be represented by a single common factor, explaining their long-run behaviour, and the degree of independence between the market segments.
Findings
The results suggest that there is strong evidence of convergence over the entire sample period in relation to monthly returns and yields but less evidence of convergence in rental growth, which confirms the findings in previous studies in international markets.
Practical implications
The evidence also suggests that convergence has increased over the sample period and that convergence is period specific and was particularly strong during and after the period of the Global Financial Crisis, which implies that the UK direct real estate market is largely integrated and as a consequence the extent of diversification potential in the market is still severely limited.
Social implications
The convergence in returns has crucial implications for investors as it leaves investors exposed to the same structural shocks and so magnifies the importance of volatility spillover effects, limits their ability to create well-diversified portfolios and make it more difficult for fund managers to outperform the market.
Originality/value
This is the first paper to examine the convergence in the UK direct real estate market.
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Francis E. Warnock and Peter Debaere
A hedge-fund strategist had two decisions to make. First, what was the path of core euro zone long-term interest rates likely to be over the next year? Was the dramatic decline in…
Abstract
A hedge-fund strategist had two decisions to make. First, what was the path of core euro zone long-term interest rates likely to be over the next year? Was the dramatic decline in German long rates over the past few years an aberration that would soon be reversed, or was it part of the “new normal” that would persist for some time? Second, how would periphery long rates evolve relative to core rates? That is—the spread between long rates in the likes of Greece, Spain, and Ireland and those in Germany—how would they evolve over the next year? Was the dramatic divergence in euro zone long rates likely to persist, or would the coming year see a continuation of the modest reconvergence that has occurred since mid–2012? He knew many factors influenced long-term interest rates; he would have to use his entire toolkit to address this issue. The evidence was in no way clear-cut. Some factors pointed toward lower German rates, some toward higher, some toward a widening of euro zone spreads (even a dissolution of the euro zone as we know it?), and some toward reconvergence.
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Nidhaleddine Ben Cheikh and Waël Louhichi
This chapter analyzes the exchange rate pass-through (ERPT) into different prices for 12 euro area (EA) countries. We provide new up-to-date estimates of ERPT by paying attention…
Abstract
This chapter analyzes the exchange rate pass-through (ERPT) into different prices for 12 euro area (EA) countries. We provide new up-to-date estimates of ERPT by paying attention to either the time-series properties of data and variables endogeneity. Using VECM framework, we examine the pass-through at different stages along the distribution chain, that is, import prices, producer prices, and consumer prices. When carrying out impulse response functions analysis, we find a higher pass-through to import prices with a complete pass-through (after one year) detected for roughly half of EA countries. These estimates are relatively large compared to single-equation literature. We denote that the magnitude of the pass-through of exchange rate shocks declines along the distribution chain of pricing, with the modest effect recorded for consumer prices. When assessing for the determinant of cross-country differences in the ERPT, we find that inflation level, inflation volatility, and exchange rate persistence are the main macroeconomic factors influencing the pass-through almost along the pricing chain. Thereafter, we have tested for the decline of the response of consumer prices across EA countries. According to multivariate time-series Chow test, the stability of ERPT coefficients was rejected, and the impulse responses of consumer prices over 1990–2010 provide an evidence of general decline in rates of pass-through in most of the EA countries. Finally, using the historical decompositions, our results reveal that external factors, that is, exchange rate and import prices shocks, have had important inflationary impacts on inflation since 1999 compared to the pre-EMU period.
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The aim of this chapter is to explore whether price dynamics is homogenous across Emerging Europe. We employ dynamic panel estimation techniques (including the Pooled Mean Group…
Abstract
The aim of this chapter is to explore whether price dynamics is homogenous across Emerging Europe. We employ dynamic panel estimation techniques (including the Pooled Mean Group estimator of Pesaran, Smith, and Shin) over the 2003–2013 period and use Germany, and respectively, the European Union (EU) as the references. Results highlight some heterogeneity across the Emerging Europe members in terms of price convergence speed. Findings are robust across different specifications.
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Xuecheng Fan, Xinxin Wang, Zeshui Xu and Marinko Skare
The purpose of this paper is to investigate the food price inflation convergence across countries and regions. This study aims to identify the key drivers for food price inflation…
Abstract
Purpose
The purpose of this paper is to investigate the food price inflation convergence across countries and regions. This study aims to identify the key drivers for food price inflation across countries and regions.
Design/methodology/approach
We test whether the international food price inflations are converging over time using the log t convergence test and clustering analysis. These inflation data are collected from the Food and Agriculture Organization of the United Nations.
Findings
The test results suggest that there is little evidence of overall convergence. Then we utilize a clustering algorithm and the results support that there is strong evidence of multiple convergence clubs. In addition, we examine the transition path of the various convergence and find that social stability regulation together with economic conditions are important determinants of convergence club membership.
Research limitations/implications
First off, local conflict and economic environment result in food supply and prices, but this study is limited to the dynamics of prices.
Practical implications
Food prices inflations are not converging to single common price inflation, but there exist subgroups of countries or regions within which food price inflation tends to converge. These groupings tend to be related to the economic development and social stability of countries and regions.
Social implications
The authors believe that any analysis of food price inflations that does not consider the political environment and economic conditions dynamics will likely be omitting important components of food price dynamics.
Originality/value
This study uses a unique data set covering 198 countries and regions and provides a comprehensive analysis of international food price inflation convergence identifying the key drivers of convergence club membership.
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