Exchange rate pass-through to macroeconomic indicators using Vector Auto Regression: Empirical evidence from Pakistan

Abstract

This study aims to examine the exchange rate pass-through to oil prices, import prices, money supply, consumer prices and interest rate in the context of Pakistani economy. By using, monthly data from July 2005 to December 2015, unrestricted VAR model is employed as suggested by McCarthy (2000). This study looks at the degree and existence of causality or shock between variables/series. The major shock was seen in money supply by one unit point in exchange rate and less impact of impulse response was seen in discount rate, consumer prices and oil prices. It was also found that causality exists between exchange rate and money supply and discount rate. Furthermore variance decomposition results indicate that nominal exchange rate was explained mainly by money supply shocks which were contributing to 15.10% at a lag period of 12. For the Consumer price index variance decomposition was around 7.19%, for discount rate and oil prices it was 3.4% and 3% respectively at the optimal lags selected for 12 periods. This study helps policymakers to take steps according to the extent of shocks caused in different times.

Keywords

• exchange rate
• interest rate
• oil prices
• money supply