6/2010 Karsten Staehr. Inflation in the new EU countries from Central and Eastern Europe: Theories and panel data estimations

Working Papers of Eesti Pank. No. 6/2010. Karsten Staehr1

This paper seeks to identify factors driving consumer price inflation in the new EU member countries from Central and Eastern Europe. Different theories are discussed, including some of particular importance to economies experiencing high economic growth and rapid structural change. The explanatory power of the theories is tested using panel data estimations based on annual data from 1997 to 2007. Convergence- related factors, including the Balassa-Samuelson and the Bhagwati capital-deepening effects, are important drivers of inflation. Import inflation and, by implication, exchange rate developments have an important impact, while the exchange rate regime is unimportant. Higher government debt and larger revenues are associated with higher inflation. The cyclical position as measured by unemployment, employment changes or the current account balance is found to affect inflation. Food price shocks have large but short-lived effects, while energy price shocks have longer-lasting effects on the inflation rate. Multicollinearity across the explanatory variables makes it difficult to identify the effect of each individual factor.
JEL Code: E31, E42, E63, P24
Key words: inflation, inflation theories, real and nominal convergence, inflation determinants

1 Karsten Staehr is a professor at Tallinn University of Technology and a research supervisor at Eesti Pank. The paper has previously been published as Staehr (2009) and is based on earlier joint work with John Beirne presented at the ECFIN workshop "What Drives Inflation in the New EU Member States?". The author would like to thank the discussants Reiner Martin and Tatiana Fic as well as other workshop participants for useful comments. Aurelijus Dabušinskas, Martin Lindpere, Martti Randveer, Krista Talvis, Lenno Uusküla and Lena Vogel have also contributed to the paper through discussions, comments or other forms of inputs. Any errors remain the responsibility of the author.

Author's e-mail addresses: karsten.staehr [at] tseba.ttu.ee, karsten.staehr [at] eestipank.ee

The views expressed are those of the author and do not necessarily represent the official views of Eesti Pank.

Contents

1. Introduction
2. Theories of inflation and empirical results for the CEE countries
2.1. Explaining inflation
2.2. Some empirical results for the CEE countries
3. Data and empirical methodology
3.1. Inflation theories and variables
3.2. Methodological issues
4. Separate testing of explanatory factors
5. More explanatory variables
5.1. Full sample
5.2. Different subsamples
6. Final comments
References
Appendix 1. Variables and summary statistics

Inflation in the New EU Countries from Central and Eastern Europe: Theories and Panel Data Estimations, Working Papers of Eesti Pank No 6/2010 (PDF*)

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