International Inflation Spillovers Through Input Linkages e 1 - - PowerPoint PPT Presentation

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International Inflation Spillovers Through Input Linkages e 1 - - PowerPoint PPT Presentation

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International Inflation Spillovers Through Input Linkages e 1 Raphael A. Auer Andrei A. Levchenko Philip Saur BIS, U Michigan, SNB September 30, 2016 1 The views expressed here are those of the authors and do not necessarily reflect those

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International Inflation Spillovers Through Input Linkages

Raphael A. Auer Andrei A. Levchenko Philip Saur´ e1

BIS, U Michigan, SNB

September 30, 2016

1The views expressed here are those of the authors and do not necessarily

reflect those of the BIS or the SNB.

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Motivation

Inflation is highly synchronized across countries Important to know why

Inflation forecasting Monetary policy and its international coordination Currency unions

Hypothesis: inflation comoves across countries due to input linkages.

Auer, Levchenko, and Saur´ e International Inflation Spillovers September 30, 2016 2/27

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This Paper

Assess empirically the role of cross-border input linkages in inflation synchronization Main idea:

  • PPI c = γc,e ×

PPI e + Cc A unique database that combines sectoral PPI inflation for 30 countries and 17 sectors with the World Input-Output matrix (WIOD)

Auer, Levchenko, and Saur´ e International Inflation Spillovers September 30, 2016 3/27

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Preview of Results

  • 1. Transmission of hypothetical shocks

A 1% global inflation shock raises average country PPI by 0.23% Shocks to large individual countries matter for their closest smaller trading partners E.g. Canada wrt USA, Hungary wrt Germany have an elasticity of around 0.1

  • 2. Tracking the Global Component of Inflation: input

linkages account for about half of observed inflation comovement.

A single common factor accounts for about 50% of the variance of PPI inflation, but less than 50% of the variance of the underlying cost shocks

Auer, Levchenko, and Saur´ e International Inflation Spillovers September 30, 2016 4/27

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Preview of Results (continued)

  • 3. Mechanisms:

Exchange rate movements do not contribute to global price comovment: β = 0.3 → linkages explain only about 15-20% of comovement Heterogeneity in input linkages matters somewhat, but most of the effect is driven by their average level Both the comovement of PPI, and the contribution of linkages to comovement, are driven by common sectoral shocks

  • 4. Distribution: inflation behavior exhibits fat tails (relative to a

normal distribution). Input linkages preserve fat-tailedness of underlying shocks, rather than average them out.

Auer, Levchenko, and Saur´ e International Inflation Spillovers September 30, 2016 5/27

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Literature

International inflation synchronization: Monacelli and Sala (2009), Burstein and Jaimovich (2012), Andrade and Zachariadis (2015), and Beck, Hubrich and Marcellino (2015); Ciccarelli and Mojon (2010), Mumtaz and Surico (2009, 2012) and Mumtaz, Simonelli and Surico (2011); Borio and Filardo (2007) and Bianchi and Civelli (2015); Input linkages and international relative prices: Bems and Johnson (2012, 2015) and Patel, Wang and Wei (2014) International business cycle comovement through input linkages: Kose and Yi (2006), Burstein, Kurz and Tesar (2008), di Giovanni and Levchenko (2010), Johnson (2014)

Auer, Levchenko, and Saur´ e International Inflation Spillovers September 30, 2016 6/27

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Cost Function and PPI

C countries, indexed by c and e, and S sectors, indexed by u and s. Sector u in country c cost function Wc,u,t = W (Cc,u,t, pc,u,t), with pc,u,t = (pc,u,e,s,t)e,s In changes:

  • Wc,u,t ≈ γC

c,u,t−1

Cc,u,t +

  • e,s

γI

c,u,e,s,t−1

pc,u,e,s,t Assumptions:

1. PPI c,u,t = Wc,u,t (constant markups)

  • 2. Imported input prices:

pc,u,e,s,t = βI

c,u,e,s

  • We,s,t +

Ec,e,t

  • Auer, Levchenko, and Saur´

e International Inflation Spillovers September 30, 2016 7/27

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Recovering the Cost Shocks

Cost shock recovered directly

  • Cc,u,t =

1 γC

c,u,t−1

  PPI c,u,t −

  • e∈C,s∈S

βI

c,u,e,sγI c,u,e,s,t−1

  • PPI e,s,t +

Ec,e,t

12-month changes (X = {PPI, C}):

  • X12c,u,t =

11

  • τ=0

(1 + Xc,u,t−τ) − 1 Aggregated:

  • X12c,t =
  • u∈S

ωc,u X12c,u,t

Auer, Levchenko, and Saur´ e International Inflation Spillovers September 30, 2016 8/27

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Data

PPI data: National statistical offices (Eurostat, BLS, StatCan, ...)

Country-specific product classification Frequency: monthly

Cross-border trade and output data: World Input-Output database (WIOD) Final sample: 17 sectors, 30 countries + ROW; 1995m1-2011m12

Auer, Levchenko, and Saur´ e International Inflation Spillovers September 30, 2016 9/27

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Countries and Sectors

Country Code Sector Australia AUS Agriculture, Hunting, Forestry, and Fishing Austria AUT Basic Metals and Fabricated Metal Belgium BEL Chemicals and Chemical Products Bulgaria BGR Coke, Refined Petroleum and Nuclear F.. Canada CAN Electrical and Optical Equipment China CHN Electricity, Gas and Water Supply Czech Republic CZE Food, Beverages and Tobacco Denmark DNK Leather, Leather and Footwear Finland FIN Machinery, Nec France FRA Manufacturing, Nec; Recycling Germany DEU Mining and Quarrying Greece GRC Other Non-Metallic Mineral Hungary HUN Pulp, Paper, Paper , Printing and Pub.. Ireland IRL Rubber and Plastics Italy ITA Textiles and Textile Products Japan JPN Transport Equipment Korea KOR Wood and Products of Wood and Cork Lithuania LTU Mexico MEX Netherlands NLD Poland POL Portugal PRT Rest of the World ROW Romania ROM Russian Federation RUS Slovenia SVN Spain ESP Sweden SWE Taiwan, POC TWN United Kingdom GBR United States USA Auer, Levchenko, and Saur´ e International Inflation Spillovers September 30, 2016 10/27

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Imported Input Use by Country

.2 .4 .6 .8 Share BEL NLD HUN SVN LTU IRL DNK AUT TWN CZE SWE DEU BGR PRT CAN GRC MEX POL GBR FRA FIN ESP ITA ROM KOR AUS USA ROW JPN CHN RUS

Auer, Levchenko, and Saur´ e International Inflation Spillovers September 30, 2016 11/27

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Result 1. Transmission of Hypothetical Shocks Through IO Matrix

Equilibrium PPI:

  • PPI = (I − Γ′)−1

C Hypothetical shock to an individual country:

  • C =
  • 0 · · · 0
  • Cs,1 · · ·

Cs,J 0 · · · 0 ′

Auer, Levchenko, and Saur´ e International Inflation Spillovers September 30, 2016 12/27

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1% US Inflation

.2 .4 .6 .8 1 %points ∆PPI

RUS LTU GRC ROM ITA POL PRT DNK BGR ESP FIN SWE AUS AUT SVN CZE FRA GBR JPN DEU HUN NLD BEL CHN IRL KOR TWN CAN MEX USA Auer, Levchenko, and Saur´ e International Inflation Spillovers September 30, 2016 13/27

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Each Country on Each Country

LTU GRC SVN BGR PRT IRL ROM MEX HUN FIN DNK TWN CZE AUS SWE KOR CAN AUT POL ESP BEL JPN GBR ITA NLD FRA USA RUS CHN DEU BEL HUN CZE SVN TWN LTU AUT BGR SWE NLD KOR POL DEU PRT FIN DNK IRL MEX FRA ROM CAN ESP GRC GBR ITA CHN USA JPN AUS RUS 0.02 0.04 0.06 0.08 0.1 0.12 0.14 destination source impact (destination shock/source shock)

Auer, Levchenko, and Saur´ e International Inflation Spillovers September 30, 2016 14/27

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1% Worldwide Inflation

.1 .2 .3 .4 %points ∆PPI

RUS AUS JPN USA CHN ITA GBR GRC ESP CAN ROM FRA MEX IRL DNK FIN PRT DEU POL KOR NLD SWE BGR AUT LTU TWN SVN CZE HUN BEL Auer, Levchenko, and Saur´ e International Inflation Spillovers September 30, 2016 15/27

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10% Change in Energy Prices

1 2 3 4 %points ∆PPI

SVN IRL GBR DNK AUT PRT CHN CZE SWE ITA AUS DEU ESP MEX ROM POL CAN FRA USA FIN JPN KOR NLD BEL HUN TWN GRC BGR RUS LTU Auer, Levchenko, and Saur´ e International Inflation Spillovers September 30, 2016 16/27

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Decomposition Direct and Indirect Effects

10% PPI Inflation Shock in China

8

Auer, Levchenko, and Saur´ e International Inflation Spillovers September 30, 2016 17/27

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Result 2. Tracking the Global Component of Inflation

Metrics of synchronization

  • 1. R2 of the country’s

PPI( C) on world average PPI( C) (Ciccarelli-Mojon, 2010) Share of the variance explained by a world factor: Xc,t = λcFt + ǫc,t Var(λcFt) Var(Xc,t)

  • 2. Static factor
  • 3. Dynamic factor

Auer, Levchenko, and Saur´ e International Inflation Spillovers September 30, 2016 18/27

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Result 2: Synchronization, Country-Level, β = 1

Input linkages account for at least half of observed inflation comovement.

Panel A: R2 Panel B: Static Factor Panel C: Dynamic Factor

  • PPI12c,t
  • C12c,t
  • PPI12c,t
  • C12c,t
  • PPI12c,t
  • C12c,t

Mean 0.385 0.172 0.455 0.268 0.444 0.235 Median 0.365 0.110 0.506 0.286 0.500 0.181 Min 0.006 0.000 0.000 0.002 0.002 0.002 Max 0.776 0.527 0.931 0.812 0.916 0.761

Recall:

  • PPI c = β × γc,s ×

PPI s + Cc

Auer, Levchenko, and Saur´ e International Inflation Spillovers September 30, 2016 19/27

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Variance Shares: Cross-Country Heterogeneities

.2 .4 .6 .8 1 Var(λcFt)/Var(Xct)

ESP DEU ITA NLD BEL JPN FRA LTU FIN CHN CAN AUS AUT USA GBR PRT SWE TWN BGR CZE DNK RUS POL GRC IRL HUN MEX KOR SVN ROM PPI C

Auer, Levchenko, and Saur´ e International Inflation Spillovers September 30, 2016 20/27

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Result 3: Mechanisms

  • 1. Exchange rate movements
  • 2. Heterogeneity in linkages
  • 3. Sectoral vs. global shocks

Auer, Levchenko, and Saur´ e International Inflation Spillovers September 30, 2016 21/27

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Exchange Rate Movements and Unbalanced Linkages

Static Dynamic R2 Factor Factor Baseline

  • PPI12c,t

mean 0.385 0.455 0.444 median 0.365 0.506 0.500

  • C12c,t

mean 0.172 0.268 0.235 median 0.110 0.286 0.181

  • Alt. cost shocks: No

Ec,e,t

  • C12c,t

mean 0.169 0.297 0.269 median 0.086 0.256 0.225 Alternative input linkages Balanced 1 (sectors), PPI12

counter c,t

mean 0.266 0.364 0.350 median 0.210 0.387 0.359 Balanced 2 (countries+sectors), PPI12

counter c,t

mean 0.318 0.405 0.394 median 0.284 0.446 0.435

  • PPI c,u = β × γc,u,e,s ×

PPI e,s + Cc,u

Auer, Levchenko, and Saur´ e International Inflation Spillovers September 30, 2016 22/27

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Sectoral vs. Global Shocks

Factor model at sector level (X = {PPI, C}): Xc,u,t = αc,u + λw

c,uF w t + λc c,uF c t + λu c,uF u t + ǫc,u,t

Bayesian estimation procedure following Jackson, Kose, Otrok, and Owyang (2015)

Auer, Levchenko, and Saur´ e International Inflation Spillovers September 30, 2016 23/27

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Sectoral vs. Global Shocks

Comovement of PPI and the contribution of linkages to comovement are driven by common sectoral shocks.

  • PPI12c,u,t
  • C12c,u,t

World Sector Country World Sector Country Mean 0.072 0.421 0.343 0.096 0.234 0.356 Median 0.028 0.485 0.292 0.050 0.169 0.295 Min 0.001 0.006 0.023 0.000 0.001 0.000 Max 0.398 0.849 0.945 0.505 0.713 0.902

Auer, Levchenko, and Saur´ e International Inflation Spillovers September 30, 2016 24/27

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Fat Tails in PPI and Cost Shocks

The concentration of input linkages matters for the transmission of shocks

From Acemoglu et al. 2012

Auer, Levchenko, and Saur´ e International Inflation Spillovers September 30, 2016 25/27

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PPI vs. Cost Shocks

−4 −2 2 4 6 Standardized PPI −4 −2 2 4 6 Standardized Cost Shock

Auer, Levchenko, and Saur´ e International Inflation Spillovers September 30, 2016 26/27

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Conclusion

Inflation is synchronized across countries and it important to know why. Input linkages matter for inflation transmission

Explain half of observed PPI comovement in our sample

Machanisms:

Cross-border pass-through key Linkage heterogeneity less important Global component primarily consists of sector-specific shocks

Auer, Levchenko, and Saur´ e International Inflation Spillovers September 30, 2016 27/27