Nonlinear and Asymmetric Exchange Rate Pass-Through to Consumer Prices in South Africa

Abstract

After the breakdown of the Bretton Woods fixed exchange rate system, some economies, including South Africa, abandoned fixed exchange rate regimes in favour of floating exchange rate systems. When a country adopts a floating exchange rate and an open trade policy, it loses the ability to shield its economy from external economic shocks. One possible channel for the transmission of these shocks is the exchange rate. The extent to which exchange rate fluctuations are transmitted to import prices and subsequently, to final consumer prices is referred to as exchange rate pass-through. Recent literature suggests that exchange rate pass-through is asymmetric and nonlinear, particularly in emerging nations. Despite the relevance or prominence of these issues, there seems to be a dearth of studies analyzing nonlinear and asymmetric exchange rate pass-through (ERPT) to consumer prices in South Africa. The current study, therefore, aims to deepen the literature on this topic by examining the asymmetric and nonlinear exchange rate pass-through on consumer prices in South Africa using the nonlinear autoregressive distributed lag approach and quarterly data spanning from January 2015 to July 2023. The outcome of this study is that there is a nonlinear and asymmetric exchange rate pass-through in South Africa. The nonlinear autoregressive distributive lag (NARDL) model results reveal the nonexistence of a significant nonlinear asymmetric long-run correlation between exchange rate and consumer inflation. This is portrayed by the Wald test results, which suggest the absence of a nonlinear asymmetric correlation between inflation and exchange rate. This is supported by a significant p-value (0.0000), less than 0.05. The policy suggestion is that the South African monetary authorities should not duly worry about exchange rate depreciations as they don’t have a significant impact on consumer prices