Forecasting Chilean inflation with international factors

In this paper we build forecasts for Chilean year-on-year inflation using both multivariate and univariate time series models augmented with different measures of international inflation. We consider two versions of international inflation factors. The first version is built using year-on-year inflation of 18 Latin American countries (excluding Chile). The second version is built using year-on-year inflation of 30 OECD countries (excluding Chile). We show sound in-sample and pseudo out-of-sample evidence indicating that these international factors do help forecast Chilean inflation at several horizons by reducing the root-mean squared prediction error of our benchmarks models. Our results are robust to a number of sensitivity analyses. Several transmission channels from international to domestic inflation are also discussed. Finally, we provide some comments about the implications of our findings for the conduction of domestic monetary policy.