The Relationship between Inflation and Real Exchange Rate: Comparative Study between ASEAN+3, the EU and North America

Abstract

Inflation has always been one of the most important macroeconomic issues. Due to this importance, a study concerning the factors associated with the behavior of inflation needs to be done. This paper will be devoted to analyze the relevance of inflation with the exchange rates. The research will try to compare the response or sensitivity of inflation to the changes in real exchange rates in Asia (ASEAN +3) and compare the result with those of the EU and North America. Using explorative statistical analysis and Granger-causality test, we found that there is a strong correlation between the movements of inflation with real exchange rate in most countries to be analyzed. For Asia, there is a significant one-way causal relationship, where the nominal and real exchange rates have a significant impact on the rate of inflation. On the other hand, in the Non-Asian regions, the causal relationship seems to be in the opposite direction. Furthermore, using panel data model with fixed effects, we found that the response or sensitivity of inflation to the changes in exchange rates in Asia is higher in compare to those in the EU and North America.

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