## _wp0941

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---

### Introduction and context
- High inflation has been one of the challenges facing European emerging economies since the start of the transition process.
- Even after the sharp disinflation of the 1990s, inflation rates remain significantly higher than in advanced economies.
- Inflation edged up in 2007, with some countries hitting double-digit inflation in 2008.
- Headline Inflation groups discussed: Baltics (Estonia, Latvia, Lithuania); Other New Member States (Czech Republic, Hungary, Poland, Slovak Republic, Bulgaria, Romania, Slovenia); CIS (Belarus, Moldova, Ukraine); SEE (Albania, Croatia, FYR Macedonia, Serbia, Turkey).
- Sources indicated: IMF, International Financial Statistics.

### Research questions and scope
- Near-term outlook given:
  - food prices ease,
  - oil prices reverse sharp gains,
  - economic activity slows after international financial crisis.
- Medium-term implications as the convergence process proceeds.
- Whether surging domestic energy and food prices have spilled over into core inflation and the risk of second-round effects.
- Sample: 18 European emerging economies (broader than most prior studies); VARs for 16 economies (monthly, mid-1990s–early 2008); panel for 18 economies (quarterly).

### Methods (VAR and panel)
- VAR approach:
  - Monthly VARs with world fuel and food price inflation, industrial production changes, headline inflation (or domestic energy, domestic food, core inflation), 3-month money market rate, nominal effective exchange rate.
  - International food and fuel prices treated as (near) exogenous (block-exogeneity tests).
  - Impulse responses via Cholesky decomposition.
- Panel approach:
  - Quarterly regressions for 18 countries (and NMS subgroup).
  - Regressors: country-specific lagged dependent variable, GDP gap, price level relative to EU-15, annual % change in per capita income, share of administrative price in CPI basket, index of competition, VAT/sales rate changes, annual % changes in NEER, money market rate, international oil and food price inflation, relative prices of non-tradeables to tradeables, trade openness (interacted with GDP gap). Food equation adds deviation of agriculture value added from trend and a food exports measure.
  - Asymmetry tests: positive/negative splits for commodity price changes and GDP gap.

### VAR analysis — key empirical findings
- Variance decomposition and drivers:
  - Output growth movements account on average for only 5.3 percent of inflation variability.
    - Poland, Romania and Turkey: growth explains a larger share of inflation variance.
  - An increase in real growth by 1 percentage point results in a surge in headline inflation of less than 0.5 percentage points in all sample countries.
  - World commodity prices typically explain on average about 19 percent of the variation in headline inflation; world fuel and food prices play similar roles.
  - Average contributions to headline inflation volatility:
    - Inflation inertia: about 50 percent.
    - Policy rates and exchange rates together: about 18 percent.
  - Country heterogeneity:
    - In Estonia, Lithuania, Poland, Serbia and Ukraine the contribution of world fuel price movements is larger than in other countries.
    - In the Baltics and Ukraine the contribution of world food price to inflation volatility is particularly high.
- Pass-through: international fuel → domestic energy (shock = 10 percentage point increase in world oil price inflation)
  - Selected country responses (percentage points):
    - Bulgaria: after 6 months 0.8; after 12 months 0.0; Peak response within 12 months 1.2
    - Croatia: 0.1; 0.0; 0.1
    - Czech rep.: 1.0; 0.0; 1.0
    - Estonia: 1.4; 0.0; 1.9
    - Latvia: 1.0; 0.0; 1.0
    - Lithuania: 1.2; 1.2; 1.2
    - Macedonia: 1.5; 1.3; 1.6
    - Poland: 0.6; 0.5; 0.6
    - Serbia: 1.6; 0.0; 1.6
    - Slovenia: 1.3; 0.9; 1.4
    - Slovak Rep.: 1.8; 0.0; 1.8
    - Turkey: 1.8; 0.0; 1.8
  - Averages and groups:
    - Average: Response after 6 months 1.2; Response after 12 months 0.3; Peak response within 12 months 1.3
    - Inflation targeters: 1.2; 0.1; 1.3
    - Pegged exchange rates: 1.1; 0.4; 1.3
  - Qualitative conclusions:
    - Pass-through is rapid: peak typically reached in six months (or less); impact generally dissipates within one year.
    - Exchange rate regime does not seem to have a significant impact on the maximum inflation response to world oil price shocks.
- Pass-through: international food → domestic food (shock = 10 percentage point increase in international food price inflation)
  - Selected country peak responses (percentage points, within 12 months):
    - Estonia: Response after 6 months 2.5; after 12 months 3.5; Peak 3.6
    - Hungary: 2.0; 2.6; 2.6
    - Latvia: 1.0; 2.2; 2.2
    - Lithuania: 1.9; 3.6; 3.6
    - Poland: 1.5; 2.5; 2.5
    - Slovak Rep.: 1.0; 0.0; 1.1
    - Turkey: 3.4; 3.9; 4.0
    - Ukraine: -; 6.0; 6.0
  - Averages and groups:
    - Average: Response after 6 months 1.9; Response after 12 months 3.0; Peak response within 12 months 3.2
    - Inflation targeters: 2.3; 3.0; 3.0
    - Pegged exchange rates: 1.6; 3.1; 3.3
  - Qualitative conclusions:
    - Food shocks can have persistent effects; in most cases impact does not dissipate within 12 months.
    - Peak response to world food price shocks is only slightly lower for inflation targeters than for pegged regimes.
- Domestic vs international contributions:
  - Historically, 30 percent of the variability of domestic fuel prices can be attributed to global price shocks.
  - Only 10 percent of the volatility in domestic food prices can be attributed to changes in international food prices.
  - Domestic factors (local weather, rising wages and transportation costs, increasing local demand for higher-value-added food items, trade integration) play an important role in local food prices.
- Second-round effects: domestic food/energy → core inflation (shock = 10 percentage points in domestic food and energy inflation)
  - Response of core inflation to domestic food shocks (selected countries, percentage points):
    - Bulgaria: after 6 months 0.3; after 12 months 0.2; Peak 0.6
    - Czech rep.: 1.4; 0.9; 1.4
    - Estonia: 0.9; 1.3; 1.3
    - Latvia: 1.2; 1.2; 1.2
    - Lithuania: 1.3; 2.4; 2.4
    - Macedonia: -; 1.2; 1.2
    - Romania: 2.6; 3.0; 3.0
    - Slovenia: 1.2; 2.5; 2.5
    - Average: after 6 months 1.3; after 12 months 1.6; Peak 1.7
  - Response of core inflation to domestic energy shocks (selected countries, percentage points):
    - Lithuania: 1.1; 1.1; 1.2
    - Macedonia: 0.5; 0.4; 0.5
    - Serbia: 0.7; 0.6; 0.7
    - Turkey: 2.3; -; 2.7
    - Ukraine: 1.0; 1.0; 1.0
    - Average: after 6 months 1.1; after 12 months 0.8; Peak 1.2
  - Qualitative conclusion:
    - Core inflation responds significantly to shocks to domestic energy and food inflation in several countries; impacts generally persist past 12 months except in Turkey.

### Panel estimation — key results and interpretation
- Long-run pass-throughs (long-term pass-through = coefficient /(1 − coefficient on lagged dependent variable)):
  - A 1 percentage point surge in oil price inflation leads to an increase in headline inflation by 0.02 percentage points in the long run.
  - A decline in oil price inflation by 1 percentage point results in a drop in headline inflation by 0.04 percentage points in the long run.
  - A 1 percentage point hike in food price inflation generates a 0.06 percentage point increase in headline inflation in the long run; declines in food price inflation do not have a significant impact on headline inflation.
- Lagged dependent variable (average of country-specific coefficients): 0.4 for headline, core, food, energy equations (alternative energy column: 0.2).
- GDP gap (lagged) and interactions:
  - Headline inflation: 0.01 (lagged GDP gap).
  - GDP gap positive (lagged): 0.02; GDP gap negative (lagged): 0.0004 (not significant).
  - Interaction GDP gap * Trade openness (lagged): -0.006; GDP gap positive * Trade openness (lagged): -0.01.
  - Interpretation: cyclical fluctuations significantly impact inflation; inflation-output sensitivity has fallen with higher trade integration.
- Price level relative to EU-15 (lagged): coefficient -0.001 (negative and significant).
  - Magnitude implication: a country whose price level is 50 percent relative to the EU-15 average is estimated to have annual headline inflation about 3.0 percentage points higher than a country at the EU-15 average price level.
- International oil and food price asymmetries (selected coefficients):
  - International oil price (single): 0.01
  - International oil price plus: 0.02
  - International oil price minus: -0.04
  - International food price (single): 0.04
  - International food price plus: 0.06
  - International food price minus: -0.01 (not significant)
- Domestic pass-throughs to core (lagged coefficients in core equation):
  - Domestic energy price (lagged): 0.074 (panel main summary).
  - Domestic food price (lagged): 0.189.
  - Interpretation: pass-through from food price shocks to core inflation higher than from energy price shocks.
- Other selected controls and coefficients:
  - VAT changes: 0.002.
  - NEER (lagged): -0.20 (interpretation: a one percent appreciation reduces headline inflation by about 0.2 percentage points in the following year).
  - Interest rate (lagged): around -0.0005 to -0.001.
  - Value added in agriculture (lagged) in food equation: -0.001.
  - Per capita income change in food equation: 0.3.
- Fit and sample:
  - Adj. R2 reported as 0.7 in multiple specifications.
  - Number of countries in main panels: 18, 17, 18, 18, 17 (varies by specification).
  - Number of observations in main panels: 531, 562, 599, 551, 449 (varies by specification).
  - NMS-only panel: No. of countries 10; No. of observations 381 (headline), 381 (headline), 314 (core), 335 (food), 314 (energy).
- Robustness and estimation notes:
  - Lagged dependent variable modeled as country-specific parameter; basic model estimated with OLS.
  - Instrumental Variables (lagged explanatory variables as instruments) used for robustness checks; IV results reported in Appendix II.
  - Coefficients in bold (in original tables) significant at least at 90 percent level; t-statistics computed with standard errors robust to residual cross-country contemporaneous correlation.

### Asymmetry and domestic supply findings
- Asymmetry:
  - Headline inflation response to oil shocks is asymmetric: upward oil shocks have a smaller headline inflation response than downward oil shocks (oil plus +0.02; oil minus -0.04).
  - Food shocks: upward food price shocks produce a headline inflation response (food plus 0.06), while food price declines do not have a significant impact on headline inflation.
- Domestic supply and convergence:
  - Deviation of agriculture value added from trend contributes to domestic food inflation; food exports measure not significant.
  - Income convergence (change in per capita income) is a significant determinant of food inflation (coefficient 0.3).
  - Coefficients on share of administrative prices and index of competition are not significant.
  - Relative price of non-tradeables to tradeables not significant.
  - Exchange rate regime does not have an important impact on the inflation response to price convergence; coefficient on price level relative to EU-15 is similar for hard peggers and inflation targeters.

### Conclusions, outlook, and policy-relevant implications
- Key empirical conclusions:
  - International commodity prices and domestic factors are significant drivers of inflation in emerging Europe.
  - Commodity price pass-throughs:
    - Rapid and mostly transitory pass-through from international fuel prices to domestic energy inflation (peak within six months; generally dissipates within one year).
    - More persistent and larger pass-through from international food prices to domestic food inflation, with substantial cross-country heterogeneity (peak responses up to 6.0 percentage points in Ukraine for a 10 percentage point international food inflation shock).
  - Core inflation is affected by shocks to domestic food and energy prices in several countries; food shocks have higher pass-through to core inflation than energy shocks.
  - Panel estimates confirm VAR results and document asymmetries: oil price increases have smaller long-run effect on headline inflation than oil price decreases of the same magnitude; food price increases raise headline inflation while food price decreases do not significantly lower headline inflation.
- Short-term outlook and risks:
  - Inflation is expected to fall in emerging Europe in the wake of the ongoing sharp reduction in world fuel prices, since drops in international fuel prices affect inflation significantly and rapidly.
  - The recent slowdown in international food prices may not have a quick effect on domestic inflation because:
    - The inflationary impact of world food price shocks is rather persistent.
    - The response to falls in international food prices is not very strong.
  - Possible second-round effects from the recent surge in domestic food and energy inflation remain a potential short-term concern, as spillovers from shocks to domestic food and energy inflation tend to be persistent.
  - The ongoing economic slowdown will moderate inflationary pressure, but the econometric analysis indicates that headline inflation response to downturns is not very large.
- Medium-term outlook:
  - International commodity price pressures may resurface in the medium term, as oil and food prices are expected to increase again in the next few years.
  - Convergence-related factors are likely to remain a source of price pressures in the medium term.
- Quantitative highlights reiterated:
  - International commodity price shocks explain on average about 19 percent of the variation in headline inflation.
  - Price convergence contribution: nearly 3 percentage points for an average country at ~50 percent of EU-15 price level.
  - Trade integration has reduced the sensitivity of inflation to the output gap (interaction GDP gap * trade openness negative and significant).

*Source: _wp0941 (IMF PDF)._

### References..............................................................................................................

### References

### Introduction
- High inflation has been one of the challenges facing European emerging economies since the start of the transition process.
- Even after the sharp disinflation of the 1990s, inflation rates remain significantly higher than in advanced economies.
- Inflation edged up in 2007, with some countries hitting double-digit inflation in 2008.
- Figure 1: Headline Inflation (12-month percent change) is presented and groups countries as:
  - Baltics: Estonia, Latvia, and Lithuania
  - Other New Member States: the Czech Republic, Hungary, Poland, the Slovak Republic, Bulgaria, Romania, and Slovenia
  - CIS: Belarus, Moldova, and Ukraine
  - SEE: Albania, Croatia, FYR Macedonia, Serbia, and Turkey
- Sources: IMF, International Financial Statistics.

### Recent commodity and cyclical contributions to inflation
- During 2007Q2-2008Q2:
  - Food price inflation had led to an increase in headline inflation of almost 6 percentage points, on average.
  - Oil price inflation had added about 2 percentage points to headline inflation, on average.
- Robust economic growth over the past years is likely to have intensified price pressure.
- Other forces influencing inflation include:
  - price deregulation,
  - subsidy reduction,
  - rising demand due to higher income,
  - Balassa-Samuelson effects,
  - catching up and transition related factors.

### Research questions addressed
- Near-term outlook for inflation as:
  - food prices ease,
  - oil prices reverse the sharp gains of the past year,
  - economic activity slows down in the wake of the international financial crisis.
- Medium-term implications for inflation as the convergence process proceeds.
- Whether surging domestic energy and food prices have spilled over into core inflation and the risk of second-round effects.

### Data, figures, and tables included in the unit
- Tables
  - 1. Response of Domestic Energy Inflation to International Oil Price Inflation Shocks
  - 2. Response of Domestic Food Inflation to International Food Price Inflation Shocks
  - 3. Response of Core Inflation to Shcokcs to Domestic Food and Energy Price Inflation
  - 4. Panel Regression Results
- Figures
  - 1. Headline Inflation
  - 2. Variance Decomposition of Headline Inflation
- Appendixes
  - 1. Variable Definition and Data Sources
  - 2. Other Panel Results

### Methodology
- Sample covers 18 European emerging economies (broader than most prior studies focused on single countries or the New Member States).
- Two empirical approaches:
  - Vector autoregressive (VAR) model:
    - Examines dynamic response of inflation to shocks in world fuel and food prices and domestic output growth.
    - Controls for endogenous movements in policy rates and exchange rates.
    - Provides insights on transmission timing and dissipation of shocks.
  - Panel model:
    - Allows introduction of additional control variables beyond the VAR (e.g., changes in consumption tax rates, variables capturing price and income level convergence).

### Key empirical findings
- International commodity price movements have a significant impact on domestic inflation.
- The inflation response is asymmetric for positive and negative shocks.
- Cyclical fluctuations, while contributing to inflation, explain a relative small share of inflation variability.
- The inflation response is asymmetric during upturns and downturns.
- Price convergence is estimated to add nearly 3 percentage points to headline inflation for the average country whose price level is about 50 percent relative to the EU-15 average.

### Organization of the remainder of the paper
- Section II presents the VAR analysis.

*Source: _wp0941 - References (IMF PDF).*

### section III discusses the panel estimates, and section IV concludes.

### _wp0941 - section III discusses the panel estimates, and section IV concludes.

### II. VAR analysis (summary of methods and results)
- Sample and models
  - Monthly frequency VAR models for 16 European emerging economies over the period mid 1990s-early 2008.
  - First VAR variables: world fuel and food price inflation, changes in the industrial production index, headline inflation, the 3-month money market rate, and changes in the nominal effective exchange rate.
  - Second VAR replaces headline inflation with domestic energy inflation, domestic food inflation, and core inflation.
  - Models are “near” VARs: international food and fuel prices depend only on their lagged values; block-exogeneity tests validate this assumption.
  - Impulse responses obtained via Cholesky decomposition with variables ordered as listed above.
  - Ukraine energy equation includes a dummy to account for the spike in energy import price from Russia in 2006-07.

- Variance decomposition and inflation drivers
  - Output growth movements account on average for only 5.3 percent of inflation variability.
    - Poland, Romania and Turkey: growth explains a larger share of inflation variance.
  - An increase in real growth by 1 percentage point results in a surge in headline inflation of less than 0.5 percentage points in all sample countries.
  - World commodity prices typically explain on average about 19 percent of the variation in headline inflation, with world fuel and food prices playing a similar role.
  - Average contributions to headline inflation volatility:
    - Inflation inertia: about 50 percent.
    - Policy rates and exchange rates together: about 18 percent.
  - Country heterogeneity:
    - In Estonia, Lithuania, Poland, Serbia and Ukraine the contribution of world fuel price movements is larger than in other countries.
    - In the Baltics and Ukraine the contribution of world food price to inflation volatility is particularly high.

- Pass-through from international fuel prices to domestic energy inflation (Table 1; shock = 10 percentage point increase in world oil price inflation)
  - Country-level selected responses (percentage points):
    - Bulgaria: Response after 6 months 0.8; after 12 months 0.0; Peak response within 12 months 1.2
    - Croatia: 0.1; 0.0; 0.1
    - Czech rep.: 1.0; 0.0; 1.0
    - Estonia: 1.4; 0.0; 1.9
    - Latvia: 1.0; 0.0; 1.0
    - Lithuania: 1.2; 1.2; 1.2
    - Macedonia: 1.5; 1.3; 1.6
    - Poland: 0.6; 0.5; 0.6
    - Serbia: 1.6; 0.0; 1.6
    - Slovenia: 1.3; 0.9; 1.4
    - Slovak Rep.: 1.8; 0.0; 1.8
    - Turkey: 1.8; 0.0; 1.8
  - Averages and groups:
    - Average: Response after 6 months 1.2; Response after 12 months 0.3; Peak response within 12 months 1.3
    - Inflation targeters: 1.2; 0.1; 1.3
    - Pegged exchange rates: 1.1; 0.4; 1.3
  - Qualitative conclusions:
    - The pass-through is rapid: peak typically reached in six months (or less); impact generally dissipates within one year.
    - Exchange rate regime does not seem to have a significant impact on the maximum inflation response to world oil price shocks.

- Pass-through from international food prices to domestic food inflation (Table 2; shock = 10 percentage point increase in international food price inflation)
  - Country-level selected peak responses (percentage points, within 12 months):
    - Estonia: Response after 6 months 2.5; after 12 months 3.5; Peak 3.6
    - Hungary: 2.0; 2.6; 2.6
    - Latvia: 1.0; 2.2; 2.2
    - Lithuania: 1.9; 3.6; 3.6
    - Poland: 1.5; 2.5; 2.5
    - Slovak Rep.: 1.0; 0.0; 1.1
    - Turkey: 3.4; 3.9; 4.0
    - Ukraine: -; 6.0; 6.0
  - Averages and groups:
    - Average: Response after 6 months 1.9; Response after 12 months 3.0; Peak response within 12 months 3.2
    - Inflation targeters: 2.3; 3.0; 3.0
    - Pegged exchange rates: 1.6; 3.1; 3.3
  - Qualitative conclusions:
    - Food shocks can have persistent effects; in most cases impact does not dissipate within 12 months.
    - Peak response to world food price shocks is only slightly lower for inflation targeters than for pegged regimes.

- Domestic versus international contributions to food and fuel volatility
  - Historically, 30 percent of the variability of domestic fuel prices can be attributed to global price shocks.
  - Only 10 percent of the volatility in domestic food prices can be attributed to changes in international food prices.
  - Domestic factors (local weather, rising wages and transportation costs, increasing local demand for higher-value-added food items, trade integration) play an important role in local food prices.

- Second-round effects: impact of domestic food and fuel prices on core inflation (Table 3; shock = 10 percentage points in domestic food and energy inflation)
  - Response of core inflation to shocks to domestic food price inflation (selected countries, percentage points):
    - Bulgaria: after 6 months 0.3; after 12 months 0.2; Peak 0.6
    - Czech rep.: 1.4; 0.9; 1.4
    - Estonia: 0.9; 1.3; 1.3
    - Latvia: 1.2; 1.2; 1.2
    - Lithuania: 1.3; 2.4; 2.4
    - Macedonia: -; 1.2; 1.2
    - Romania: 2.6; 3.0; 3.0
    - Slovenia: 1.2; 2.5; 2.5
    - Average: after 6 months 1.3; after 12 months 1.6; Peak 1.7
  - Response of core inflation to shocks to domestic energy price inflation (selected countries, percentage points):
    - Lithuania: 1.1; 1.1; 1.2
    - Macedonia: 0.5; 0.4; 0.5
    - Serbia: 0.7; 0.6; 0.7
    - Turkey: 2.3; -; 2.7
    - Ukraine: 1.0; 1.0; 1.0
    - Average: after 6 months 1.1; after 12 months 0.8; Peak 1.2
  - Qualitative conclusion:
    - Core inflation responds significantly to shocks to domestic energy and food inflation in several countries; impacts generally persist past 12 months except in Turkey.

### III. Panel estimation (methods, specification, and key results)
- Motivation and sample
  - VAR approach limitations: does not control for price and income convergence, changes in taxation, and price liberalization.
  - Complementary panel model estimated for 18 European emerging economies with quarterly data; also estimated for NMS subgroup.
  - Regressors include: lags of dependent variable (country-specific lagged coefficient), GDP gap, price level relative to EU-15 (comparative price levels via PPPs and nominal exchange rates), annual percent change in per capita income, share of administrative price in CPI basket, index of competition, annual changes in VAT and sales rate, annual percent changes in nominal effective exchange rate, money market rate, annual international oil and food price inflation, relative prices of non-tradeables to tradeables, and trade openness (interacted with GDP gap).
  - Food equation also includes deviation of agriculture value added from trend and a measure of food exports.

- Asymmetry testing
  - International food and fuel prices sometimes replaced by separate positive and negative change variables to test asymmetry.
  - GDP gap also split into positive and negative output gaps in some specifications to test asymmetry across cyclical phases.

- Estimation approach
  - Lagged dependent variable modeled as country-specific parameter; basic model estimated with Ordinary Least Squares (OLS).
  - Instrumental Variables (IV) used for robustness checks (lagged explanatory variables as instruments); results reported in Appendix II.

- Main panel results (preferred specification; Table 4)
  - Long-run pass-throughs (long-term pass-through defined as coefficient /(1 − coefficient on lagged dependent variable)):
    - A 1 percentage point surge in oil price inflation leads to an increase in headline inflation by 0.02 percentage points in the long run.
    - A decline in oil price inflation by 1 percentage point results in a drop in headline inflation by 0.04 percentage points in the long run.
    - A 1 percentage point hike in food price inflation generates a 0.06 percentage point increase in headline inflation in the long run; declines in food price inflation do not have a significant impact on headline inflation.
  - Lagged dependent variable (average of country-specific coefficients):
    - Headline inflation equations: 0.4 (t-statistics reported; significant)
    - Core inflation: 0.4
    - Food inflation: 0.4
    - Energy inflation: 0.4
    - Energy inflation (alternative column): 0.2
    - Note: reported coefficient is average of country-specific coefficients; t-statistics computed using robust standard errors.
  - GDP gap (lagged):
    - Headline inflation: 0.01 (t-statistics in parentheses)
    - In alternative specifications: GDP gap positive (lagged) 0.02; GDP gap negative (lagged) 0.0004 (not significant)
    - Interaction GDP gap * Trade openness (lagged): -0.006
    - GDP gap positive * Trade openness (lagged): -0.01
    - Interpretation: cyclical fluctuations significantly impact inflation; inflation-output sensitivity has fallen with higher trade integration.
  - Price level relative to EU15 (lagged): coefficient -0.001 (negative and significant)
    - Interpretation: countries with low price levels relative to EU-15 tend to have higher inflation rates.
    - Magnitude implication: a country whose price level is 50 percent relative to the EU-15 average is estimated to have annual headline inflation about 3.0 percentage points higher than a country at the EU-15 average price level.
  - International oil and food price (selected coefficients and asymmetry):
    - International oil price (single): 0.01
    - International oil price plus: 0.02
    - International oil price minus: -0.04
    - International food price (single): 0.04
    - International food price plus: 0.06
    - International food price minus: -0.01 (not significant)
  - Domestic pass-throughs to core:
    - Domestic energy price (lagged) coefficient in core equation: 0.074
    - Domestic food price (lagged) coefficient in core equation: 0.189
    - Interpretation: pass-through from food price shocks to core inflation higher than from energy price shocks.
  - Other controls (selected coefficients):
    - VAT changes: 0.002
    - NEER (lagged): -0.20 (interpretation: a one percent appreciation reduces headline inflation by about 0.2 percentage points in the following year)
    - Interest rate (lagged): around -0.0005 to -0.001
    - Value added in agriculture (lagged) in food equation: -0.001
    - Per capita income change in food equation: 0.3
  - Goodness of fit, sample, and observations:
    - Adjusted R-squared (Adj. R2) across equations: 0.7, 0.7, 0.7, 0.5, 0.7 (depending on equation)
    - Number of countries: 18 (headline columns), 17 (food and energy columns)
    - Number of observations: 599, 599, 479, 474, 517 (varies by equation specification)
  - Statistical notes:
    - Coefficients in bold are significant at at least 90 percent significance level.
    - t-statistics calculated using standard errors robust to residual cross-country contemporaneous correlation.

- Additional qualitative findings from the panel
  - Asymmetry:
    - Headline inflation response to oil shocks is asymmetric: upward oil shocks have a smaller headline inflation response than downward oil shocks (oil plus +0.02; oil minus -0.04).
    - Food shocks: upward food price shocks produce a headline inflation response (food plus 0.06), while food price declines do not have a significant impact on headline inflation.
    - For the NMS group alone, headline inflation response to commodity price shocks is also asymmetric (consistent with Appendix II).
  - Domestic supply factors:
    - In the food equation, deviation of value added in agriculture from trend contributes to domestic food inflation.
    - Food exports measure is not found to have a significant impact on food prices.
    - Income convergence (change in per capita income) is a significant determinant of food inflation (coefficient 0.3).
  - Price liberalization and competition:
    - Coefficients on the share of administrative price in CPI and on the EBRD index of competition policy are not significant.
  - Balassa-Samuelson relative prices:
    - Relative price of non-tradeables to tradeables not significant in these regressions.
  - Exchange rate regime and price convergence:
    - Coefficient on price level relative to EU-15 is of similar size for hard peggers and inflation targeters; exchange rate regime does not have an important impact on the inflation response to price convergence in emerging Europe.

### IV. Conclusions (as reported in the text)
- International commodity prices and domestic factors are significant drivers of inflation in emerging Europe.
- Commodity price pass-throughs exhibit:
  - Rapid and mostly transitory pass-through from international fuel prices to domestic energy inflation (peak within six months and generally dissipates within one year).
  - More persistent and larger pass-through from international food prices to domestic food inflation, with substantial cross-country heterogeneity (peak responses up to 6.0 percentage points in Ukraine for a 10 percentage point international food inflation shock).
- Core inflation is affected by shocks to domestic food and energy prices in several countries; food shocks have higher pass-through to core inflation than energy shocks.
- Panel estimates confirm VAR results and reveal asymmetries:
  - Oil price increases have a smaller long-run effect on headline inflation than oil price decreases of the same magnitude.
  - Food price increases raise headline inflation; food price decreases do not significantly lower headline inflation.
- Other determinants of inflation in emerging Europe include cyclical conditions (GDP gap), price level convergence toward EU-15, nominal effective exchange rate movements, interest rates, VAT changes, and income convergence for food prices.
- Trade integration has reduced the sensitivity of inflation to the output gap (interaction GDP gap * trade openness negative and significant).

*Source: _wp0941 - section III discusses the panel estimates, and section IV concludes.*

### CONCLUSION: WHAT IS AHEAD FOR INFLATION IN EMERGING EUROPE?

### CONCLUSION: WHAT IS AHEAD FOR INFLATION IN EMERGING EUROPE?

### Key empirical findings
- International food and oil price shocks have a significant impact on domestic inflation and explain on average about 19 percent of the variation in headline inflation.
- Cyclical fluctuations contribute to inflation but explain a relatively small share of inflation variability.
- Significant determinants of inflation identified in the analysis include:
  - Inflation inertia (lagged inflation)
  - Changes in consumption tax rates (VAT changes)
  - Nominal effective exchange rate (NEER) movements
  - Interest rates
  - Price convergence
- Price convergence is estimated to add nearly 3 percentage points to headline inflation for the average country whose price level is about 50 percent relative to the EU-15 average.

### Short-term outlook and risks
- Inflation is expected to fall in emerging Europe in the wake of the ongoing sharp reduction in world fuel prices, since drops in international fuel prices affect inflation significantly and rapidly.
- The recent slowdown in international food prices may not have a quick effect on domestic inflation because:
  - The inflationary impact of world food price shocks is rather persistent.
  - The response to falls in international food prices is not very strong.
- Possible second-round effects from the recent surge in domestic food and energy inflation remain a potential source of concern in the short-term, as spillovers from shocks to domestic food and energy inflation tend to be persistent in emerging Europe.
- The ongoing economic slowdown will moderate inflationary pressure, but the econometric analysis indicates that headline inflation response to downturns is not very large.

### Medium-term outlook
- International commodity price pressures may resurface in the medium term, as oil and food prices are expected to increase again in the next few years.
- Convergence-related factors are likely to remain a source of price pressures in the medium term.

### Quantitative highlights from panel regressions (select coefficients and statistics preserved exactly as reported)
- Average contribution of international commodity shocks: about 19 percent of headline inflation variation.
- Price convergence contribution: nearly 3 percentage points for an average country at ~50 percent of EU-15 price level.
- Panel regression summary (selected coefficients; t-statistics not reproduced here):
  - Lagged dependent variable: 0.4, 0.4, 0.4, 0.4, 0.5 (reported across specifications)
  - GDP gap (lagged): 0.008, 0.010, 0.009, 0.011, 0.002
  - Price level relative to EU15 (lagged): -0.001, -0.001, -0.001, -0.001, -0.0004
  - International oil price plus: 0.03, 0.02, 0.02, 0.02
  - International oil price minus: -0.03, -0.04, -0.04, -0.06
  - International food price plus: 0.06, 0.02, 0.06, 0.06
  - International food price minus: -0.009, 0.006, -0.01, -0.05
  - Domestic energy price (lagged): 0.063 (in one specification); 0.070 (NMS panel energy)
  - Domestic food price (lagged): 0.193 (in one specification); 0.200 (NMS panel food)
  - VAT changes: 0.002, 0.002, 0.002, 0.002, 0.003 (across specifications); 0.001 (NMS)
  - NEER (lagged): -0.21, -0.20, -0.21, -0.19, -0.06 (across specifications); NMS: -0.15, -0.16, -0.03, -0.20, -0.33 (by inflation type)
  - Interest rate (lagged): -0.0009, -0.0010, -0.0006, -0.001, -0.0003 (across specifications); NMS: -0.0002, -0.0003, 0.0000, 0.000
  - GDP gap*Trade openness (lagged): -0.005, -0.006, -0.006, -0.007 (in various specifications)
- Regression fit and sample:
  - Adj. R2 reported as 0.7 in multiple specifications (panel results).
  - Number of countries in main panels: 18, 17, 18, 18, 17 (varies by specification).
  - Number of observations in main panels: 531, 562, 599, 551, 449 (varies by specification).
  - NMS-only panel: No. of countries 10; No. of observations 381 (headline), 381 (headline), 314 (core), 335 (food), 314 (energy) across specifications.

### Data and variable definitions (selected)
- World food price inflation: log difference in the Commodity Food Price Index (includes Cereal, Vegetable Oils, Meat, Seafood, Sugar, Bananas, and Oranges Price Indices). Source: IMF.
- World fuel price inflation: log difference in the Crude Oil (petroleum), Price index (simple average of Dated Brent, West Texas Intermediate, and the Dubai Fateh). Source: IMF.
- Growth: log difference in the Industrial production index. Source: IMF, Haver, national authorities.
- 3-month money market rate: IMF, Haver, national authorities.
- Nominal effective exchange rate: log difference in the nominal effective exchange rate. Source: IMF.
- Headline inflation: log difference in the Consumer Price Index. Source: Eurostat, national authorities.
- Core inflation: for NMS and Turkey log difference in the HICP Overall index excluding energy, food, alcohol and tobacco. For other countries, a measure as consistent as possible with that definition was constructed using national authorities data.
- Domestic energy inflation: for NMS and Turkey log difference in the HICP Energy component; analogous constructed measures for other countries.
- Domestic food inflation: for NMS and Turkey log difference in the HICP food component; analogous constructed measures for other countries.
- GDP gap: actual real GDP minus trend GDP (obtained through the HP filter) in percent of trend GDP.
- Price level relative to EU-15 countries: relative prices calculated using comparative price levels as ratios between purchasing power parities (PPPs) and nominal exchange rates. Source: IMF.
- Per capita income: log difference in per capita income. Source: IMF.
- Administrative prices: share of administrative price in the CPI basket (in per cent) or number of goods with administered prices in EBRD-15 basket. Source: EBRD.
- Index of competition. Source: EBRD.
- VAT and sales rates. Source: EU Commission, national authorities.
- Relative prices of non-tradeables to tradeables. Source: Eurostat, National authorities.
- Trade openness: Exports plus imports (percent of GDP). Source: IMF.
- Deviation of agriculture value added from trend: actual agriculture real value added minus trend value added, obtained through the HP filter (percent of trend value added). Source: Haver, Dx.

*Source: CONCLUSION: WHAT IS AHEAD FOR INFLATION IN EMERGING EUROPE?*

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_Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/wp/2009/_wp0941.pdf_