Estimating the elasticity of consumer prices to the exchange rate: An accounting approach

Abstract

We analyze the elasticity of the household consumption expenditure (HCE) deflator to the exchange rate, using world input–output tables (WIOTs) from 1995 to 2019. In line with the existing literature, we find a modest output-weighted elasticity of around 0.1. This elasticity is stable over time but heterogeneous across countries, ranging from 0.05 to 0.22. Such heterogeneity mainly reflects differences in the foreign product content of consumption and intermediate products. Direct effects through imported consumption and intermediate products entering domestic production explain most of the transmission of exchange rate appreciation to domestic prices. By contrast, indirect effects linked to participation in global value chains play a limited role. Our results are robust to using four different WIOT datasets. As WIOTs are data-demanding and available with a lag of several years, we extrapolate a reliable year- and country-specific estimate of HCE deflator’s elasticity from 2015 onwards, using trade data and GDP statistics.