ISSN (Print) - 0012-9976 | ISSN (Online) - 2349-8846

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Exchange Rate Pass-through in India

Exchange rate pass-through measures the responsiveness of prices to exchange rate changes. In this paper, the ERPT is estimated with respect to different price indices, namely the import price index, core inflation index (WPI_MP), wholesale price index, and consumer price index. This paper uses structural vector autoregressive and autoregressive distributed lag models for analysis. The presence of incomplete ERPT is observed with variations across price indices. In the short run, the extent of ERPT is the highest on IPI, followed by WPI, CPI and lowest on WPI_MP. The impact of crude oil prices and interest rate on exchange rate and domestic prices is also analysed.

The author thanks Neeraj Hatekar for his valuable comments on a previous draft of this paper. Any errors are the author’s solely.

The exchange rate pass-through (ERPT) can be defined as the responsiveness of prices to changes in the exchange rate. Changes in the exchange rate can influence import prices and thereby the domestic price level in the country. The extent of ERPT could be complete, incomplete or zero. The ERPT is complete when price changes are almost proportional to exchange rate changes. In case of an incomplete ERPT, prices change less than proportionally to changes in exchange rate. The ERPT is zero when prices are non-responsive to changes in the exchange rate.

In the case of producer currency pricing, the price of imports is denominated in the exporter’s currency (foreign currency). So, any change in exchange rate will have repercussions on money paid by importers in terms of domestic currency; this could lead to a complete ERPT. Whereas, when the price of an imported commodity is expressed in domestic currency (local currency pricing), exchange rate changes will have no effect on the final price paid by importers in domestic currency. This is a case of zero ERPT. Besides these two extreme possibilities, the impact of exchange rate changes on effective price paid by the customers could be partial. This can be referred to as incomplete ERPT, where the pass-through coefficient lies between zero and one (Tunç 2017).

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Updated On : 5th Dec, 2022
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