Exchange Rate Pass-Through in the Euro Area

Abstract

Exchange rate pass-through in a set of euro area prices along the pricing chain is examined in this paper. First, a vector autoregression (VAR) approach is used to analyze the joint time-series behavior of the euro exchange rate and a system of area-wide prices in response to an exchange rate shock. Second, the impulse response functions from the VAR estimates are used to identify-in a "new openeconomy macroeconomics model"-the key behavioral parameters that best replicate the pattern of exchange rate pass-through in the euro area. A key finding is that traded goods-both extra-area exports and imports-behave as though they are predominately priced in euros. The area-wide findings are compared with those for other major industrial economies. Copyright 2006, International Monetary Fund