Evolution of the exchange rate pass-throught into prices in Peru: an empirical application using TVP-VAR-SV models

Abstract

We use a set of VAR models with time-varying parameters and stochastic volatility (TVP-VARSV) to estimate the evolution of the exchange rate pass-through (ERPT) into prices for Peru over 1995Q2-2019Q4. According to two Bayesian selection criteria, the best-fitting models allow most parameters and the variances of shocks to evolve over time. The results are divided into two parts: (i) the ERPTs into import and producer prices decline significantly since the end of the 1990s until 2008. However, since 2014 both ERPTs resurge considerably due to exchange rate depreciation associated with the end of Quantitative Easing (QE), falling commodity prices, and global political events. These findings are in line with recent literature using TVP-VARSV and emphasizing ERTP resurgence after the Global Financial Crisis (GFC); (ii) the ERPT into consumer prices declined steadily throughout the sample. This is in line with the existing literature and is explained by a low-inflation context under an Inflation Targeting (IT) regime and by strong Central Bank credibility. Finally, the results are robust to a set of sensitivity exercises, including changes in the variables associated with the external shock and domestic economic activity, as well as in the values of the priors; and an estimation of the ERPT for Colombia.