An Analysis of Exchange Rate Pass-Through to Domestic Prices: Evidence from Turkey

Abstract

Assessing the impact of exchange rate shocks on domestic prices (Exchange Rate Pass-through) has a crucial role, particularly for the inflation targeting countries. This paper aims to clarify some aspects of ERPT to domestic prices in Turkey, an emerging country. Specifically, this study investigates if ERPT in Turkey is complete and how the behavior of ERPT has changed after the adoption of a flexible exchange rate regime in 2001. A Vector Auto Regression (VAR) framework is used to analyze the impact of exchange rate shocks on CPI Inflation. This study provides empirical evidence on the incompleteness and the pattern of ERPT on Turkey’s CPI inflation based on the VAR Model. The findings demonstrate that ERPT is not only incomplete but also has a different pattern during the floating exchange rate period. The pass-through has decreased from 2001 to 2017, and it has increased dramatically after 2017 to a large extent because of very high inflation and high exchange rate volatility in this period.