Exchange rate pass-through in the Netherlands: has it changed?

Abstract

This study assesses whether the degree of exchange rate pass-through in the Netherlands has changed during the run-up to Economic and Monetary Union. VAR models are estimated on rolling sample periods to show that the pass-through of changes in the guilder-mark exchange rate has increased, while the pass-through of changes in the guilder-pound and guilder-dollar have remained more or less stable. This supports the view that the Netherlands and Germany have become increasingly integrated. This is in contrast to Taylor's (Economic Review 44, 1384–408, 2000) claim that the decline in inflation has been associated with a significant decline in the degree to which firms pass-through changes in costs.

Notes

¹ All pre-testing results are available upon request.

² In contrast, Corsetti and Pesenti (2002) argue that in a currency union zero pass-through is optimal in terms of welfare. Basically, Corsetti and Pesenti assume that the nominal exchange rate always moves to equalize relative prices, à la Friedman. This implies that if there is zero pass-through, monetary authorities in both countries will pursue similar policies, rendering these countries a currency union in practice. This normative view is not supported by the empirical analysis.