Exchange rate pass-through in small, open, commodity-exporting economies: Lessons from Canada

Abstract

This paper analyses the exchange rate pass-through in small, open, commodity-exporting economies, taking Canada as a case study. I estimate it as being conditional on commodity shocks and compare the results with those of a standard approach, showing that the pass-through sign changes drastically across frameworks for consumer prices. My approach leads to a positive pass-through, thus implying a positive co-movement between exchange rate appreciation and consumer price inflation, conditional on the shocks. Conversely, standard models find a negative pass-through. I explain my findings by using the commodity-exporter characteristic of Canada and the nature of the shocks, which raise the demand for commodities. This, in turn, causes a currency appreciation and has inflationary effects domestically through higher commodity prices.