Commented by Jose Ricardo da Costa e Silva Central Bank of Brazil

Strategies for Implementing Monetary Policy in the Americas: The Role of Inflation Targeting

Federal Reserve Bank – Atlanta, October 2004

Inflation Dynamics’ Micro Foundations: How Important is Imperfect Competition

Sara Castellanos and Jose Murillo

Commented by

Jose Ricardo da Costa e Silva

Central Bank of Brazil



Disclaim

“The views expressed here are mine and do not reflect those of the Central Bank of Brazil or of its members”



Inflation Dynamic's Micro foundations

• Literature suggest imperfect competitions prices are those of interest for policy.

• How does Imperfect competitions prices affect price formation and dynamics.

• Uses method proposed by Panzar and Rosse (1987) to help build consumer price indexes of goods manufactured by perfectly and imperfectly competitive industries.



Lead Lag

First Difference of Competitive Manufacture

Inflation in t and Imperfect Competitive in t-i1995.1-2004.6

0.30

0.35

0.40

0.45

0.50

0.55

0.60

0.65

0.70

0.75

t-4 t-3 t-2 t-1 t t+1 t+2 t+3 t+4



Price Formation and Error Correction

c2 c3 c4 LambdaW LambdaE AdjR2CPI Coef 0.0318 0.0144 -0.0727 0.43 0.57 0.900

t-stud 4.63 6.98 -6.53Perfectly Coef -0.0010 0.0474 -0.0500 -0.02 0.95 0.821

t-stud -0.26 3.29 -2.95Imperfectly Coef 0.0135 0.0360 -0.0524 0.26 0.69 0.910

t-stud 3.37 4.94 -5.29



Conclusions

• Inflation of perfectly competitive manufactures precedes that of imperfectly competitive manufactures. Hence, monitoring the first is useful to identify future prices pressures.

• Perfect competition presents high exchange rate coefficient (with strong long term exchange rate pass through) and low wages coefficients.

• Higher industry competition in the future may translate into a diminished role for monetary policy stimulus.



Comments

• Estimates of imperfect competition brings some surprises: Pharmaceutical products, batteries, cars and trucks appear as perfectly competitive sectors while bakery and pastry as imperfectly.

• High long term pass-through of perfect competitive sector (0.95) may be peculiar to Mexican economy.



CPI x Comp x Oligopolies - Brazil12 Month Variations

-4.00

-2.00

0.00

2.00

4.00

6.00

8.00

10.00

set/9

4

jan/

95

mai

/95

set/9

5

jan/

96

mai

/96

set/9

6

jan/

97

mai

/97

set/9

7

jan/

98

mai

/98

set/9

8

jan/

99

mai

/99

set/9

9

jan/

00

mai

/00

set/0

0

jan/

01

mai

/01

set/0

1

jan/

02

mai

/02

set/0

2

jan/

03

mai

/03

set/0

3

jan/

04

mai

/04

IPCA Competitive Non-competitive

Weight comp 16%Weight Olig 20%

IPCA AV=8.6, SD= 5.1Com AV=9.8, SD =10.6Olig AV= 10.2, SD = 9.6



Lag Lead of Comp PricesBrazil

First Difference of Competitive Manufacture

Inflation in t and Imperfect Competitive in t-i1995.1-2004.6

0

0.2

0.4

0.6

0.8

t-4 t-3 t-2 t-1 t t+1 t+2 t+3 t+4



Price Formation and Error CorrectionBrazil

c2 c3 c4 LambdaW LambdaE AdjR2IPCA Coef 0.0133 0.0111 -0.0574 0.23 0.19 0.697

t-stud 3.64 8.07 -8.22IPCACom Coef 0.0196 0.0168 -0.0536 0.37 0.31 0.422

t-stud 1.41 4.80 -4.11IPCAOlig Coef 0.0326 0.0263 -0.0900 0.36 0.29 0.579

t-stud 3.01 6.70 -6.70



Conclusions and Comments • Conclusions:

– It seems that in Brazil, perfectly competitive prices do not precedes imperfectly competitive prices.

– Perfect competitive prices present almost the same wages and exchange rate pass-through.

– It does not seem that there will be a diminished role for monetary policy stimulus in the case of Brazil.

• Comments:– In the case of Brazil a relevant price is the regulated prices (energy,

communications, transport and others). They present a stronger exchange rate pass-through and higher inertia component due to contracts. It represents around 30% of IPCA. They are not sensible to monetary policy (they depend on oil price, exchange rate, contracts and regional political decisions).

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Commented by Jose Ricardo da Costa e Silva Central Bank of Brazil