Inflation Dynamics in the Western Balkans
InflationDynamicsintheWesternBalkans GoharMinasyan,EzgiOzturk,MagaliPinat,MengxueWang,andZejuZhu WP/23/49 IMFWorkingPapersdescriberesearchinprogressbytheauthor(s)andarepublishedtoelicitcommentsandtoencouragedebate. TheviewsexpressedinIMFWorkingPapersarethoseoftheauthor(s)anddonotnecessarilyrepresenttheviewsoftheIMF,itsExecutiveBoard,orIMFmanagement. 2023 MAR ©2023InternationalMonetaryFundWP/23/49 IMFWorkingPaper EuropeanDepartment InflationDynamicsintheWesternBalkans PreparedbyGoharMinasyan,EzgiOzturk,MagaliPinat,MengxueWang,andZejuZhu* AuthorizedfordistributionbyYanSun March2023 IMFWorkingPapersdescriberesearchinprogressbytheauthor(s)andarepublishedtoelicitcommentsandtoencouragedebate.TheviewsexpressedinIMFWorkingPapersarethoseoftheauthor(s)anddonotnecessarilyrepresenttheviewsoftheIMF,itsExecutiveBoard,orIMFmanagement. ABSTRACT:AftertrailingEuroAreainflationcloselyintherecentpast,inflationintheWesternBalkanshasacceleratedfastersinceearly2022onthebackoftheshockstoglobalcommodityprices,strongrecoveryfromthepandemic,andlingeringsupplybottlenecks.ThispaperemploystwocomplementaryempiricalapproachesofanaugmentedPhillipscurveandstructuralVAR,adaptingthemtothedataavailabilityandcountryspecificitiesoftheWesternBalkans,toanalyzetheinflationdynamicsintheregion.Itfindsthatinternationalfoodpricesaffectnotonlyheadlinebutalsocoreinflationaswellasinflationexpectations.Further,inflationintheWesternBalkansisnotjustdeterminedbyforeignshocks,anddomesticfactors,aggregatedemandshocksinparticular,haveasignificantimpactoninflation.Thesefindingsimplyapossibleroleforpoliciestotemporarilylimitanimmediateandcompletepass-throughofinternationaltodomesticfoodpriceswhilealsostressingtheimportanceofanappropriatedomesticmacroeconomicpolicymixtokeepinflationexpectationsanchoredandsafeguardcredibilityinthefaceofhighinflationpersistence. RECOMMENDEDCITATION:Minasyan,G.,E.Ozturk,M.Pinat,M.Wang,Z.Zhu,2023.InflationDynamicsintheWesternBalkans.IMFWorkingPaperno.WP/23/49. JELClassificationNumbers: E31,E37 Keywords: Inflation;WesternBalkans;internationalfoodpriceshocks;commoditypriceshocks;Phillipscurve;paneldata;structuralVAR Author’sE-MailAddress: gminasyan@imf.org,eozturk@imf.org,mpinat@imf.org,mwang3@imf.org,zzhu2@imf.org * WORKINGPAPERS InflationDynamicsintheWesternBalkans PreparedbyGoharMinasyan,EzgiOzturk,MagaliPinat,MengxueWang,andZejuZhu1 1TheauthorswouldliketothankYanSunforoverallguidance,RomainDuval,JorgDecressin,JanKeesMartijn,participantsattheIMFEuropeandepartmentseminar,theseminarsattheBankofAlbania,theCentralBankofMontenegro,andtheCentralBankofKosovoforhelpfulcommentsandsuggestions. Contents 1.INTRODUCTION5 2.STYLIZEDFACTS7 3.LITERATUREREVIEW10 4.PANELREGRESSIONANALYSIS11 5.STRUCTURALVARANALYSIS16 6.CONCLUSIONS21REFERENCES36 FIGURES 1.InflationintheWesternBalkansandtheEuroArea7 2.InflationDevelopmentsintheWesternBalkans8 3.SVARResults:ForecastsErrorVarianceDecompositionforInflation 19 4.SVARResults:HistoricalDecompositionforInflation 20 TABLES1.Headline,CoreandTrimmed-meanInflationsDeterminants 13 2.ProcessedandUnprocessedFoodsandEnergyDomesticPrices 14 3.DeterminantsofInflationExpectations 15 4.IdentificationofStructuralShocksforCountrieswithIndependentMonetaryPolicy 17 5.IdentificationofStructuralShocksforCountrieswithoutIndependentMonetaryPolicy 17 APPENDICESI.StylizedFactsChartsandTables 22 II.DataDefinitionsandSources 30 III.AdditionalTablesonEmpiricalResults 32 1.Introduction Inflationhassurgedtolevelsnotseeninmultipledecadesinmanycountriesduetoastrongrecoveryofdemandafterthepandemic,supplychaindisruptions,andcommoditypriceincreases,exacerbatedbyRussia’swarinUkraine.Inflationhasalsobecomebroad-based,makingitapriorityforpolicymakerstoaccuratelydiagnosethedriversofthecurrentupswingininflation,assessitspersistence,anddesignappropriatepolicies.IntheWesternBalkanregion,1inflationincreasedto14.5percentinDecember2year-on-year,ascomparedto 9.2percentintheEuroArea. ThemotivationofthispaperistounderstandtheinflationdynamicsintheWesternBalkans(WB)anddiscusspolicyimplications.Whilemuchasintherestoftheworld,theshockstoglobalenergyandfoodpricesarethemaindriversofthecurrentsurgeininflationintheWB,weexplorehowthecharacteristicsoftheseeconomiesmayhaveinteractedwiththeglobalshocks.Weseektounderstandtowhatextentinflationmaybebecomingentrenched,andwhatroledomesticfactorsmayplay,asweseeheadlineinflationappearingtopeakinsomecountrieswhilecoreinflationremainselevated.Thesearerelevantquestionsforpolicymakersintheregion,whofacethedifficulttasksofcarefullycalibratingthemacroeconomicpolicymixtopreservepricestabilityandkeepinflationexpectationsanchored,whileprotectingvulnerablepopulationsfromsharpcommoditypriceshocksandsafeguardingtheeconomicrecovery. Ourempiricalstrategytotacklethesequestionsconsistsoftwocomplementaryapproaches.Wefirstemployareduced-formPhillipscurvemodel,augmentedwithinternationalfoodandenergypricesasexplanatoryvariables,which,asweshow,areparticularlyrelevantfortheWB.Weestimatethemodelfordifferentmeasuresofinflationonpanelquart
