Exchange Rate Pass-Through in Brazil: А Markov Switching DSGE Estimation for the Inflation Targeting Period

Fabrizio Almeida Marodin, University of California Irvine
Marcelo Savino Portugal, Universidade Federal do Rio Grande do Sul

Citation: Marodin, F. A. and Portugal, M. S. (2019). Exchange Rate Pass-Through in Brazil: А Markov Switching DSGE Estimation for the Inflation Targeting Period. Russian Journal of Money and Finance, 78(1), pp. 36–66.
doi: 10.31477/rjmf.201901.36

Abstract
This paper investigates the nonlinearity of exchange rate pass-through in the Brazilian economy during the inflation targeting period (2000–2018) using a Markov Switching new Keynesian DSGE model. We find evidence of two distinct regimes for exchange rate pass-through and for the volatility of shocks to inflation. Under the so-called ‘normal’ regime, the long-run pass-through to consumer prices inflation is estimated as almost zero, only 0.00057 of a percentage point given a 1% exchange rate shock. In comprasion, the expected pass-through to inflation under a ‘crisis’ regime is 0.1035 of a percentage point, for the same exchange rate shock. These results allow us to identify four distinct cycles for exchange rate pass-through during the inflation targeting period in Brazil, and suggest that higher central bank credibility and anchored inflation expectations may be related to lower levels of pass-through.

Keywords: exchange rate pass-through, new Keynesian model, DSGE, regime switching, Markov chain, central bank credibility
JEL Codes: E31, F31, C3

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