Empirical Relationships: The Inflation Rate

In this section, we continue utilizing the same functional forms to estimate the relationship between the inflation rate and dependent variables utilized to explain the countries’ exchange rates relative to the US. Table 31.6 provides a summary of the number of significant coefficients for the different variables yielded by the different equations. For example, the inflation equations using only the growth in the monetary base and the real GDP growth produces only seven statistically significant coefficients for the monetary base and only three for the real GDP growth rate in the countries in question. Table 31.7 presents the individual equations for the 32 countries in the sample. Table 31.6 shows that replacing the monetary base with M3 yields much better results regarding the ability of the variables to explain the countries individual inflation rates. The significant coefficients for the monetary aggregates increase to 15, while the real GDP coefficient rises to 6. The data suggests that the M3 version of the equation has a much higher explanatory power and a greater degree of significance. A summary of the individual country equations using M3 can be found in Table 31.8.

Table 31.6

Summary of the Statistically Significant Coefficients in the Different Estimated Exchange Rate Equations
Constant 27 13 21 13 9 6

GROWTH IN
Monetary base 7 7 5
M3 15 15 13
GDP 3 6 3 7 5 7
US monetary base 4
US M3 4
US GDP 3 4
US inflation rate 20 16

Table 31.7

Inflation Rates, Growth in the Monetary Base, and Real GDP
Country R 2 P-value Constant MB GDP Constant
t-stat		 MB
t-stat		 GDP
t-stat
Australia 0.11 0.00 3.78 0.07 −0.04 6.67 1.82 −0.84
Brazil 0.90 0.01 1.32 0.90 0.16 0.17 16.53 0.47
Canada 0.12 0.00 3.87 −0.09 0.00 6.79 −1.86 0.03
Chile 0.02 0.00 7.20 0.01 0.10 4.05 0.29 0.71
China 0.13 0.00 3.67 0.19 0.00 2.02 1.84 0.03
Colombia 0.21 0.00 11.88 0.15 −0.23 6.58 2.33 −1.71
Czech Republic 0.39 0.30 2.30 −0.02 0.06 4.65 −1.99 1.51
Denmark 0.03 0.00 3.00 0.00 −0.03 8.15 −0.06 −0.87
Egypt 0.15 0.00 10.54 −0.11 0.06 11.40 −2.29 1.06
Hong Kong 0.67 0.11 −0.52 0.06 0.68 −0.66 2.19 4.28
Hungary 0.08 0.00 9.86 0.13 −0.12 4.66 1.14 −0.69
India 0.41 0.23 13.30 −0.47 0.29 5.09 −1.67 1.55
Indonesia 0.59 0.00 7.16 0.20 −0.22 2.57 1.66 −3.08
Israel 0.13 0.06 2.54 −0.01 0.05 3.05 −0.06 0.65
Japan 0.01 0.00 0.87 −0.01 0.00 2.98 −0.57 −0.05
Korea 0.03 0.00 4.82 −0.01 −0.04 6.92 −0.16 −0.68
Malaysia 0.00 0.00 2.92 0.00 −0.01 8.16 −0.13 −0.15
Mexico 0.61 0.00 0.39 0.81 −0.16 0.10 6.15 −0.89
New Zealand 0.00 0.00 4.86 −0.01 0.01 5.04 −0.19 0.19
Norway 0.34 0.55 2.28 −0.01 −0.04 9.23 −1.68 −1.25
Peru 0.14 0.00 64.19 −0.33 −1.88 3.72 −0.41 −1.63
Philippines 0.04 0.01 6.42 0.04 −0.08 6.60 0.71 −0.91
Poland 0.17 0.01 4.21 0.11 −0.13 3.45 1.28 −1.35
Russia 0.72 0.08 4.88 0.54 −0.40 1.43 4.47 −4.73
Singapore 0.21 0.01 1.33 0.04 0.05 3.12 1.39 1.11
South Africa 0.04 0.00 8.87 0.02 −0.06 7.00 0.18 −1.12
Sweden 0.07 0.00 3.44 0.02 −0.04 5.96 1.20 −0.85
Switzerland 0.05 0.00 1.57 −0.02 0.01 4.83 −1.17 0.29
Thailand 0.04 0.03 3.92 −0.01 −0.04 8.26 −0.34 −1.04
Turkey 0.13 0.00 20.86 0.33 −0.16 1.71 1.38 −0.51
United Kingdom 0.00 0.00 2.78 0.00 0.00 6.98 −0.16 −0.07

Table 31.8

Inflation Rates, Growth in M3, and Real GDP
Country R 2 P-value Constant M3 GDP Constant
t-stat		 M3
t-stat		 GDP
t-stat
Australia 0.24 0.00 0.97 0.35 −0.07 0.83 3.05 −1.45
Brazil 0.94 0.13 −8.90 1.01 0.19 −1.42 21.63 0.70
Canada 0.12 0.00 0.94 0.34 −0.05 0.81 2.01 −0.64
Chile 0.06 0.00 6.13 0.08 0.06 3.02 0.99 0.47
China 0.10 0.00 3.01 0.19 0.04 1.45 1.60 0.29
Colombia 0.76 0.00 0.24 0.73 −0.34 0.14 9.25 −4.50
Czech Republic 0.33 0.33 0.83 0.23 −0.03 0.94 1.69 −0.55
Denmark 0.15 0.00 2.43 0.09 −0.03 5.79 2.06 −1.02
Egypt 0.02 0.00 10.66 −0.06 0.03 10.50 −0.72 0.43
Hong Kong 0.50 0.02 0.87 −0.02 0.53 0.68 −0.15 2.35
Hungary 0.60 0.02 1.19 0.82 −0.18 0.55 5.44 −1.52
India 0.21 0.36 13.75 −0.31 0.05 3.04 −1.04 0.56
Indonesia 0.58 0.00 4.78 0.36 −0.18 1.12 1.59 −1.95
Israel 0.42 0.03 0.72 0.23 0.07 0.46 1.23 1.09
Japan 0.43 0.01 −0.17 0.26 −0.03 −0.62 4.73 −1.56
Korea 0.37 0.02 1.05 0.26 −0.08 0.99 4.04 −1.95
Malaysia 0.23 0.26 0.95 0.18 −0.04 1.30 2.97 −1.26
Mexico 0.78 0.00 −5.48 0.99 −0.10 −1.68 9.37 −0.74
New Zealand 0.47 0.00 −0.08 0.50 0.01 −0.07 5.14 0.27
Norway 0.05 0.28 2.23 −0.03 −0.02 5.11 −0.44 −0.57
Peru 0.14 0.00 62.72 0.19 −2.30 3.62 0.23 −1.85
Philippines 0.21 0.01 3.82 0.23 −0.12 2.67 2.42 −1.52
Poland 0.66 0.11 0.21 0.45 −0.15 0.17 4.87 −2.38
Russia 0.88 0.05 −6.48 0.91 −0.45 −2.02 8.14 −8.10
Singapore 0.18 0.03 0.85 0.09 0.06 1.16 1.00 1.29
South Africa 0.07 0.00 7.33 0.13 −0.06 3.73 0.94 −1.09
Sweden 0.06 0.00 2.82 0.11 −0.05 2.96 0.93 −1.13
Switzerland 0.10 0.00 2.27 −0.19 0.01 4.04 −1.69 0.42
Thailand 0.06 0.00 3.72 0.03 −0.06 7.50 0.94 −1.34
Turkey 0.60 0.00 5.73 0.73 −0.22 0.91 5.63 −1.14
United Kingdom 0.08 0.00 2.85 −0.03 0.02 8.20 −1.39 0.45

Adding the US Monetary aggregates and real GDP growth to the previous equations, see Table 31.6, shows only marginal improvements in the number of significant coefficients. Only four of the US monetary aggregates are statistically significant and either three and or four of the US real GDP growth rate are statistically significant. A summary of the individual equations can be found in Tables 31.9 and 31.10.

Table 31.9

Inflation Rates, Growth in M3, Real GDP, US Monetary Base, and Real GDP Growth
Country R 2 P-value Constant MB GDP US MB US GDP Constant
t-stat		 MB
t-stat		 GDP
t-stat		 US MB
t-stat		 US GDP
t-stat
Australia 0.12 0.00 4.36 0.07 −0.04 −0.02 −0.17 3.99 1.79 −0.81 −0.50 −0.57
Brazil 0.91 0.01 −12.44 0.91 0.18 0.61 3.13 −0.87 16.28 0.51 1.10 0.88
Canada 0.28 0.00 5.76 −0.10 0.03 −0.05 −0.61 5.63 −2.19 0.41 −1.26 −2.25
Chile 0.03 0.00 7.52 0.02 0.08 −0.04 0.07 2.11 0.33 0.54 −0.31 0.07
China 0.16 0.00 3.62 0.19 0.02 −0.06 0.27 1.17 1.77 0.18 −0.58 0.29
Colombia 0.24 0.00 13.13 0.15 −0.22 −0.11 −0.03 4.10 2.22 −1.62 −0.90 −0.04
Czech Republic 0.68 0.08 1.79 −0.02 0.05 0.04 −0.02 2.01 −2.34 1.27 1.29 −0.06
Denmark 0.03 0.00 2.84 0.00 −0.03 0.00 0.06 3.89 −0.12 −0.87 0.12 0.30
Egypt 0.17 0.00 9.38 −0.11 0.05 0.08 0.19 4.68 −2.08 0.81 0.92 0.33
Hong Kong 0.85 0.20 −0.77 0.02 0.63 0.06 −0.03 −0.37 0.53 4.72 1.94 −0.04
Hungary 0.12 0.00 11.84 0.13 −0.10 −0.12 −0.33 2.79 1.05 −0.55 −0.82 −0.24
India 0.90 0.13 14.74 −1.28 1.01 0.18 1.03 9.25 −4.27 4.06 3.21 2.51
Indonesia 0.61 0.00 5.21 0.18 −0.22 0.10 0.61 1.46 1.12 −2.86 0.92 0.51
Israel 0.93 0.61 4.69 −0.11 0.21 −0.09 −1.22 2.76 −0.89 1.56 −1.25 −2.08
Japan 0.02 0.00 0.74 −0.02 0.00 0.01 0.02 1.32 −0.68 −0.09 0.43 0.12
Korea 0.11 0.02 6.59 −0.01 −0.04 −0.06 −0.52 5.02 −0.12 −0.66 −1.14 −1.47
Malaysia 0.04 0.00 2.90 0.00 −0.01 0.02 −0.08 3.92 −0.22 −0.15 0.69 −0.40
Mexico 0.65 0.00 8.61 0.90 −0.13 −0.39 −3.13 1.33 6.06 −0.75 −1.54 −1.36
New Zealand 0.01 0.00 5.37 −0.01 0.02 −0.02 −0.18 2.82 −0.14 0.21 −0.17 −0.34
Norway 0.50 0.24 2.99 −0.01 −0.04 0.03 −0.29 4.17 −1.63 −1.34 0.44 −1.53
Peru 0.17 0.00 96.00 −0.37 −1.92 −1.40 −8.03 2.58 −0.45 −1.63 −0.90 −0.79
Philippines 0.05 0.01 7.17 0.05 −0.08 −0.02 −0.28 3.87 0.66 −0.83 −0.34 −0.48
Poland 0.39 0.04 0.75 0.12 −0.18 0.08 1.35 0.35 1.54 −1.86 1.16 2.05
Russia 0.85 0.35 −5.79 0.60 −0.37 0.37 2.30 −1.31 5.49 −5.42 3.11 2.01
Singapore 0.57 0.28 0.68 −0.02 0.11 0.08 −0.08 0.89 −0.69 2.87 2.83 −0.34
South Africa 0.05 0.00 9.12 0.03 −0.06 0.00 −0.19 5.09 0.31 −1.08 −0.01 −0.39
Sweden 0.13 0.00 4.84 0.04 −0.03 −0.09 −0.27 3.68 1.75 −0.62 −1.36 −0.76
Switzerland 0.16 0.00 2.35 −0.03 0.01 0.00 −0.34 3.23 −1.73 0.26 0.12 −1.54
Thailand 0.06 0.16 4.59 −0.01 −0.05 −0.02 −0.21 4.62 −0.42 −1.09 −0.45 −0.81
Turkey 0.28 0.00 18.16 0.27 −0.26 −0.21 4.12 1.29 1.16 −0.86 −0.57 1.32
United Kingdom 0.35 0.00 4.16 −0.03 0.07 0.01 −0.70 6.01 −1.32 1.57 0.20 −2.97

Table 31.10

Inflation Rates, Growth in M3, Real GDP, US M3, and Real GDP Growth
Country R 2 P-value Constant M3 GDP US M3 US GDP Constant
t-stat		 M3
t-stat		 GDP
t-stat		 US M3
t-stat		 US GDP
t-stat
Australia 0.34 0.00 −0.30 0.28 −0.03 0.38 −0.17 −0.21 2.31 −0.64 1.91 −0.75
Brazil 0.94 0.12 −13.06 1.02 0.24 0.90 −1.09 −0.69 18.67 0.78 0.37 −0.43
Canada 0.29 0.00 −1.14 0.31 −0.02 0.42 −0.09 −0.68 1.80 −0.32 2.54 −0.40
Chile 0.06 0.00 6.90 0.08 0.04 −0.13 0.06 1.17 0.88 0.25 −0.16 0.08
China 0.48 0.13 13.10 0.20 0.02 −1.87 −0.16 3.81 2.17 0.22 −3.93 −0.27
Colombia 0.79 0.01 6.09 0.70 −0.44 −0.74 −0.21 1.81 8.66 −4.98 −1.96 −0.54
Czech Republic 0.52 0.05 1.78 0.23 −0.02 −0.07 −0.41 0.79 1.67 −0.30 −0.21 −1.47
Denmark 0.30 0.00 0.89 0.05 −0.03 0.31 −0.02 1.05 1.13 −0.95 2.34 −0.10
Egypt 0.03 0.00 11.90 −0.05 0.04 −0.10 −0.33 4.05 −0.56 0.50 −0.24 −0.60
Hong Kong 0.80 0.09 −0.57 −0.01 0.66 0.35 −0.67 −0.24 −0.10 3.47 0.94 −2.17
Hungary 0.74 0.08 11.69 0.66 −0.16 −1.48 −0.46 3.00 4.79 −1.59 −3.15 −0.78
India 0.84 0.42 28.33 −0.84 0.10 −0.94 −1.00 4.70 −2.80 1.22 −2.57 −2.13
Indonesia 0.65 0.03 −5.69 0.53 −0.09 1.05 0.86 −0.74 2.02 −0.87 1.57 1.14
Israel 0.92 0.07 3.77 0.85 −0.03 −1.08 −0.04 2.40 1.15 −0.41 −1.28 −0.08
Japan 0.43 0.01 0.12 0.27 −0.03 −0.04 −0.03 0.20 4.59 −1.52 −0.49 −0.31
Korea 0.42 0.10 2.64 0.26 −0.08 −0.16 −0.31 1.57 4.08 −1.80 −0.78 −1.21
Malaysia 0.25 0.33 0.84 0.19 −0.03 0.05 −0.13 0.62 2.92 −1.06 0.38 −0.86
Mexico 0.79 0.00 −5.73 0.97 −0.12 −0.21 0.87 −0.81 8.67 −0.83 −0.20 0.65
New Zealand 0.56 0.00 −1.46 0.47 0.04 0.43 −0.46 −0.88 4.65 0.90 1.71 −1.53
Norway 0.13 0.17 2.76 −0.01 −0.02 −0.05 −0.16 3.00 −0.20 −0.60 −0.43 −1.21
Peru 0.17 0.00 119.97 −0.02 −2.42 −7.83 −4.32 2.24 −0.03 −1.91 −1.05 −0.48
Philippines 0.37 0.11 9.97 0.16 −0.15 −0.78 −0.45 3.35 1.68 −2.05 −2.28 −1.13
Poland 0.70 0.24 −2.54 0.42 −0.13 0.33 0.47 −0.71 4.40 −1.92 0.70 1.25
Russia 0.89 0.08 −2.54 0.95 −0.48 −0.61 −0.56 −0.33 6.96 −6.65 −0.57 −0.61
Singapore 0.38 0.41 1.75 0.06 0.07 0.04 −0.46 0.95 0.67 1.41 0.17 −2.01
South Africa 0.09 0.00 6.55 0.16 −0.05 0.17 −0.24 2.34 1.04 −0.84 0.53 −0.61
Sweden 0.11 0.00 1.41 0.10 −0.04 0.30 −0.12 0.79 0.80 −0.86 1.20 −0.39
Switzerland 0.28 0.00 4.14 −0.14 0.01 −0.28 −0.26 4.51 −1.36 0.45 −2.13 −1.53
Thailand 0.15 0.05 5.87 0.04 −0.09 −0.29 −0.15 4.29 1.08 −1.88 −1.57 −0.67
Turkey 0.62 0.00 17.75 0.63 −0.28 −1.74 0.54 1.35 3.86 −1.35 −1.07 0.26
United Kingdom 0.51 0.00 5.73 −0.02 0.08 −0.31 −0.74 6.64 −1.17 2.06 −2.40 −3.99

Now including the US inflation rate in lieu of the US monetary aggregates and real GDP leaves the number of statistically significant coefficients for the individual countries monetary aggregates and real GDP unaffected. What the equations show is that the US inflation has a statistically significant coefficient in 20 countries when the monetary base is explanatory monetary variable for the countries in question, see column 5 in Table 31.6. In contrast when M3 is used, the number of countries for whom the US inflation rate produces a statistically significant coefficient drops to 16. A summary of the individual countries estimated equation suing the US inflation rates and individual countries monetary aggregates can be found in Table 31.11, for the Monetary Base and Table 31.12 for the equation using M3.

Table 31.11

Inflation Rates, Growth in the Monetary Base, Real GDP, and US Inflation Rate
Country R 2 P-value Constant MB GDP US inflation Constant
t-stat		 MB
t-stat		 GDP
t-stat		 US inflation
t-stat
Australia 0.43 0.00 0.93 0.04 −0.03 0.97 1.10 1.24 −0.80 4.02
Brazil 0.90 0.01 −3.95 0.89 0.15 1.94 −0.31 15.39 0.43 0.51
Canada 0.74 0.00 −1.40 0.01 0.00 1.39 −1.83 0.34 −0.05 7.57
Chile 0.17 0.00 1.51 0.00 0.01 2.32 0.47 0.10 0.11 2.08
China 0.13 0.00 3.24 0.18 0.01 0.16 0.78 1.38 0.07 0.11
Colombia 0.41 0.00 5.49 0.11 −0.20 2.26 2.11 1.78 −1.64 3.11
Czech Republic 0.46 0.37 0.97 −0.02 0.00 0.67 0.68 −1.22 0.03 1.00
Denmark 0.42 0.00 0.25 0.00 −0.03 0.94 0.37 −0.42 −1.01 4.37
Egypt 0.22 0.00 7.87 −0.10 0.07 0.83 4.08 −2.16 1.18 1.57
Hong Kong 0.71 0.15 −1.78 0.07 0.65 0.50 −1.17 2.39 4.05 0.97
Hungary 0.20 0.00 2.39 0.04 −0.20 3.46 0.50 0.29 −1.12 1.73
India 0.53 0.03 12.58 −0.22 0.11 −0.64 4.47 −0.55 0.41 −0.88
Indonesia 0.59 0.00 6.80 0.20 −0.22 0.14 1.53 1.62 −2.98 0.11
Israel 0.19 0.08 1.99 0.03 0.01 0.34 1.20 0.21 0.09 0.41
Japan 0.63 0.00 −1.32 0.00 0.01 0.66 −3.63 0.16 0.35 6.94
Korea 0.67 0.10 0.04 −0.02 −0.06 1.58 0.06 −0.63 −1.66 7.48
Malaysia 0.52 0.02 0.48 −0.02 0.01 0.81 0.95 −1.80 0.26 5.56
Mexico 0.72 0.00 −17.79 0.79 −0.38 7.03 −2.60 6.91 −2.21 3.08
New Zealand 0.37 0.00 −0.46 −0.01 0.06 1.62 −0.29 −0.43 0.97 3.86
Norway 0.37 0.41 1.76 −0.01 −0.04 0.21 1.89 −1.49 −1.33 0.58
Peru 0.28 0.00 −9.17 0.01 −1.87 22.66 −0.26 0.02 −1.74 2.38
Philippines 0.42 0.01 1.07 0.03 −0.11 2.01 0.68 0.67 −1.54 3.86
Poland 0.23 0.00 1.62 0.10 −0.23 1.34 0.59 1.17 −1.70 1.04
Russia 0.85 0.10 −6.69 0.46 −0.57 6.32 −1.50 4.83 −6.72 3.21
Singapore 0.28 0.02 0.13 0.04 0.03 0.54 0.13 1.44 0.66 1.34
South Africa 0.26 0.00 5.53 −0.02 −0.03 1.17 3.44 −0.20 −0.62 2.92
Sweden 0.62 0.00 −1.34 0.00 0.00 1.52 −1.61 0.34 0.09 6.47
Switzerland 0.60 0.00 −1.36 −0.02 0.00 1.06 −2.51 −1.60 0.08 5.88
Thailand 0.50 0.03 0.86 0.00 −0.05 0.97 1.26 −0.04 −1.68 5.19
Turkey 0.28 0.00 −2.76 0.38 −0.30 7.95 −0.17 1.68 −0.98 2.13
United Kingdom 0.40 0.00 0.21 0.00 −0.03 0.95 0.28 0.13 −0.86 3.72

Table 31.12

Inflation Rates, Growth in M3, Real GDP, and the US Inflation Rate
Country R 2 P-value Constant M3 GDP US inflation Constant
t-stat		 M3
t-stat		 GDP
t-stat		 US inflation
t-stat
Australia 0.49 0.00 −0.64 0.23 −0.05 0.87 −0.60 2.26 −1.30 3.71
Brazil 0.94 0.13 −9.16 1.01 0.19 0.10 −0.90 20.08 0.69 0.03
Canada 0.77 0.00 −0.18 −0.18 0.01 1.41 −0.30 −1.67 0.35 9.06
Chile 0.18 0.00 1.36 0.04 0.01 2.18 0.43 0.44 0.04 1.89
China 0.11 0.00 1.16 0.16 0.05 0.70 0.30 1.23 0.42 0.58
Colombia 0.76 0.00 −0.28 0.69 −0.33 0.43 −0.15 7.17 −4.21 0.80
Czech Republic 0.45 0.63 −0.32 0.16 −0.07 0.80 −0.25 1.13 −1.11 1.26
Denmark 0.51 0.00 −0.17 0.08 −0.03 0.90 −0.26 2.34 −1.08 4.56
Egypt 0.11 0.00 7.57 −0.06 0.04 0.97 3.68 −0.76 0.63 1.71
Hong Kong 0.50 0.02 0.76 −0.02 0.53 0.05 0.40 −0.14 2.10 0.08
Hungary 0.61 0.01 0.44 0.79 −0.18 0.45 0.13 4.42 −1.51 0.31
India 0.51 0.03 12.70 −0.12 −0.01 −0.82 3.02 −0.37 −0.12 −1.34
Indonesia 0.59 0.00 5.56 0.38 −0.17 −0.47 1.12 1.59 −1.69 −0.33
Israel 0.42 0.03 0.72 0.23 0.07 0.00 0.37 0.91 0.61 0.00
Japan 0.66 0.00 −1.24 0.10 −0.01 0.53 −3.84 1.72 −0.44 4.49
Korea 0.69 0.08 −0.56 0.08 −0.08 1.36 −0.69 1.46 −2.73 5.42
Malaysia 0.52 0.13 −0.11 0.10 −0.03 0.63 −0.17 1.90 −1.35 4.23
Mexico 0.78 0.00 −5.35 0.99 −0.10 −0.06 −0.93 8.27 −0.62 −0.03
New Zealand 0.55 0.00 −1.80 0.36 0.04 0.93 −1.44 3.34 0.84 2.35
Norway 0.17 0.29 1.47 −0.05 −0.04 0.44 2.26 −0.81 −1.37 1.53
Peru 0.29 0.00 −11.80 0.39 −2.21 23.14 −0.35 0.50 −1.92 2.47
Philippines 0.49 0.00 −0.13 0.16 −0.13 1.79 −0.08 2.02 −2.05 3.58
Poland 0.66 0.09 −0.59 0.43 −0.18 0.48 −0.31 4.44 −2.06 0.55
Russia 0.90 0.17 −9.68 0.81 −0.52 2.72 −2.61 6.59 −7.47 1.53
Singapore 0.24 0.02 −0.28 0.09 0.04 0.52 −0.24 0.99 0.88 1.25
Svouth Africa 0.26 0.00 5.61 −0.03 −0.03 1.19 2.97 −0.19 −0.67 2.74
Sweden 0.65 0.00 −1.08 −0.12 0.02 1.68 −1.32 −1.45 0.47 6.93
Switzerland 0.59 0.00 −0.88 −0.11 0.00 1.02 −1.28 −1.38 0.06 5.49
Thailand 0.54 0.00 0.65 0.03 −0.07 0.98 0.98 1.43 −2.13 5.42
Turkey 0.62 0.00 −1.57 0.68 −0.30 3.41 −0.18 5.13 −1.49 1.22
United Kingdom 0.42 0.00 0.43 −0.02 −0.02 0.89 0.58 −0.96 −0.41 3.53

The results reported in Tables 31.11 and 31.12 show that the coefficient for the United States is more often than not positive and statistically significant. The question is why that is the case? We can come with two different interpretations as to why the US inflation would impact the monetary equilibrium in the rest of the world. One possibility has to do with currency substitutions on the demand for the different currencies. Under this scenario, the changes in relative inflation across the individual countries and the United States will alter the relative attractiveness of the dollar vis-a-vis the local currency. When the local inflation rises relative to the United States, the demand for dollars increases and as the people substitute out of the local currency, the local excess money supply increases, leading to a higher domestic inflation rate. But that is not the only way. There are also some supply side effects. As we have already mentioned, there is the predominant view that a currency appreciation leads to a deterioration of the terms of trade. This has led to countries focusing on the management of their currencies and limiting its appreciation. Hence, if the United States experiences a rising inflation rate that would lead to an appreciation of the local currency, the local central bank may be prompted to increase its money supply to prevent the local currency appreciation. The local monetary authorities have a shield, they can collect an additional inflation tax as the inflation rate increases.

Reference

[1] Canto VA, Nickelsburg G. Currency substitution: theory and evidence from Latin America. Boston, Massachusetts: Kluwer Academic Publishing; 1987. Miles Marc A. Currency substitution: perspective, implications and empirical evidence. In: Putnam B, Wilford DS, eds. The monetary approach to international adjustment. New York: Praeger; 1978.

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