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The author is grateful to Jean Le Dem, Catherine McAuliffe, Sean Nolan, Doris Ross, Sweta Saxena, Harry Snoek and participants at the seminar of the External Sector Network of the IMF-African department for the valuable comments and suggestions. Remaining errors are the author’s own.
Reports on Article IV consultations conducted by the International Monetary Fund with its members show that the exchange rate is broadly in line with macroeconomic fundamentals in most sub-Saharan African (SSA) countries, but some cases of misalignments are mentioned. Such misalignments are often related to an overvaluation of the currency.
The market structure and mechanisms differ across products (i.e. sectors or industries), leading to higher pass-through for some products and lower for others.
Reflecting data limitations, this analysis focuses on the pass-through to consumer prices, rather than import and export prices directly.
Those periods had the largest exchange rate depreciation rates in SSA as a region.
Data on CPI and NEER were taken from the database of the Institute of the International Monetary Fund.
There is no sub-Saharan African country under the other classifications, i.e. exchange arrangement with no separate legal tender, currency board arrangement, pegged exchange rate within horizontal bands, crawling peg, and crawling band.
Alternative approaches could include classifications by Obstfeld and Rogoff (1995) and methodologies by Habermeier et al. (2001).
Tests on individual coefficients and on the sum of the coefficients led to similar conclusions.
The VAR-based approach assumes that there is no-cointegration, i.e. no long-run relationship, among the variables. To assess the robustness of our findings, we also conduct the analysis using a Vector Error Correction model, which assumes the existence of a cointegration between CPI and NEER. The results are broadly similar to that based on VAR.
Some countries for which the data did not pass a set of model specification tests were dropped because the estimated elasticities might be misleading.
Data employed in this section were taken from the International Financial Statistics published by the International Monetary Fund, and the World Development Indicators and CPIA database published by the World Bank.
An endogeneity issue remains to be addressed as the choice of an exchange rate arrangement can also be determined by degree and speed of the exchange rate pass-through.
Taylor (2000) developed a microeconomic model and an economy-wide model illustrating the favorable effect of a low-inflation environment on the pricing power of firms and thus on the exchange rate pass-through.
The CPIA is an indicator developed by the World Bank to measure the quality of policy and institution, and to determine IDA allocations. The CPIA produces a score and a ranking for each country investigated. It is constructed from 16 criteria, including a criterion on the performance of macroeconomic management. The latter criterion is substantially based on IMF Article IV consultations with member countries.
The lower pass-through since the mid-1990s might have been partly caused also by other structural changes such as the declines in prices of imported goods due to higher productivity in producer countries or to shift of imports from more expensive countries to lower-cost countries, or rising distribution costs in the domestic price structure which increase domestic costs of imports in relation to import (producer) prices.