Pass-through Effects of Global Commodity Prices on China's Inflation: An Empirical Investigation

The present paper uses a two-step approach to estimate the pass-through effects of changes in international commodity prices and the RMB exchange rate on domestic consumer price inflation in China. We first estimate the pass-through effects of international commodity prices on producer prices and then estimate the pass-through effects of producer price inflation on consumer price inflation. We find that a 10-percent increase in international commodity prices would lead to China's producer prices increasing by 1.2 percent 3 months later, which in turn would increase China's domestic inflation by 0.24 percent over the same period. However, a 10-percent appreciation of the RMB exchange rate against the US dollar would help to reduce increases in producer prices by 4.4 percent over the following 3 months, which in turn would lead to a 0.89-percent decline in consumer price inflation over the same period. Our findings suggest that appreciation of the RMB in an environment of rising global commodity prices and a weak US dollar could be an effective instrument to help contain inflation in China.