Study On China’s Inflation Dynamics

At present, the development of China’s economy is in a critical period oftransformation. Economic development has witnessed a transformation from astage of fast growth to a stage of quality and efficiency to make the marketplay a decisive role in the allocation of resources. Achieving economictransformation, it is necessary to make the economy run smoothly in areasonable interval, where the ceiling is protection against inflation and thethreshold is steady growth and jobs. Will Inflation break through the limit?What factors will make structural break? It is a problem to be solved. Due tothe conflicts and friction of double-track system, the economy in transition arelikely to have price system distorted and structural inflation. What kind ofshocks are due to regional and sectoral prices fluctuation? What kind ofspeeds do the regional and sectoral prices response? These are the keys toeffectiveness and efficiency of monetary policy.Based on transition of China as the background, this paper analyze theshocks which make structural break of inflation, shocks to inflation anddisaggregate prices and their response speed which would provide evidencefor effective policy options for the government. The main content isfollowing:First, we try to use Markov switching models family to describe andanalyze the dynamic properties in the inflation process. Compare the fitnessof the traditional single variable model with hidden information oftime-varying MS model (MSLI model), we find that hidden information ininflation is helpful to identify and predict China’s inflation cycle; then usemulti-chain Markov switching model with two variables of inflation andmoney supply, and find whether the regimes of money supply has affected theregimes of inflation; finally build MS-SVAR models to look for if the changeof monetary policy system also has affected the regimes of inflation.Second, we use share-shift analysis to decompose regional and sectoralprices fluctuation into common shocks and idiosyncratic shocks, reveal the relative importance of the shocks on regional and sectoral prices, find CPIfluctuations mostly source from idiosyncratic shocks, only food andhousehold electrical appliances prices are most from common shocks whosesectors take the largest proportion in disposable income in China.Third, to depict inflation persistence, we introduce productivity shock andmoney supply shock into two DSGE models with cash in advance constraint,one with exogenous money and another with endogenous money. We explorethe response of inflation persistence to shocks, and test if endogenous moneycan affect inflation inertia. This article uses the Bayesian method to estimatethe model, and the estimated and inferred are credible due to Markov chainreaching convergence. The results show that the CIA model with endogenousmoney is superior to the standard CIA model due to the existence of monetaryendogeneity in China. Further studies show that inflation persistence mainlycomes from the persistence of the money supply.Fourth, in order to capture sectoral prices stickiness, we use afactor-augmented vector autoregression (FAVAR) model and a theoreticalDSGE model under the assumption of money procedure and interest rateprocedure respectively. Our main findings are that disaggregated pricesappear sticky in response to macroeconomic and monetary disturbances, butflexible in response to sector-specific shocks, and disaggregated prices appearsticky and more heterogeneous under money procedure, but flexible and lessheterogeneous in interest rate procedure. The multi-sector sticky-price DSGEmodel with endogenous money, which can match facts about sectoral pricesestablished by FAVAR model, can endogenously deliver differentialresponses of prices to monetary, aggregate and sectoral shocks byinput-output production linkages, input-market segmentation at the sectorallevel and Money in Utility hypothesis.