Empirical Study On The Effect Of Exchange Rate Fluctuations On The Domestic Price Level

Since the"exchange rate reform"in July of 2007,the exchange rate between RMB and dollar has kept appreciating ,and the fluctuation width of exchange rate is also augmenting ;until April of 2008,the exchange rate has broken through the ratio 7 to 1,and accumulative total appreciation proportion is up to 15%.In the other hand ,since the beginning of 2007,economy in China has faced a durative inflation ;until April of 2008 , in the last 12 months, monthly CPI has been consecutive above 3% that is the warning line of inflation, and the CPI has been as high as 8.3% in March of this year. After about a year and a half's appreciation of RMB, China is facing a significantly higher price level, is this phenomenon a coincidence, or the inevitable result of impact that exchange rate changes put on China's price level. Coincidentally, in the process of opening up its economy in the second half of the last century, Japan has also met with sharp rises of the domestic price level after the appreciations of the domestic currency. According to the general theory on exchange rate and domestic price level and the history facts related, we can make conclusion: exchange rate fluctuations in two countries have had a significant impact on the domestic price level. However, what is the mechanism that exchange rate fluctuations affect domestic price level and how about the effectiveness of the mechanism? Is the mechanism subject to the interference of specific factors in two county's different stage? Moreover, in the process of domestic currency appreciation, what is the mechanism that other external and internal factors affect domestic price level and how about the effectiveness of the mechanism? In other words, what are the similarities and differences between China and Japan in aspect that exchange rate fluctuations affect domestic price level? From the research related, what are the enlightenments on analysis and control of current inflation? All these questions need a particular comparative study on decades of experience of two countries to answer, and this is just a question that we want to study and answer.This paper mainly discusses the question that how the exchange rate fluctuations affect the internal prices level in two large-scale open economies of China and Japan. First of all, the author does a detailed review of exchange rate and price level in two countries'histories; illuminate the similar circumstances of two countries: the exchange rate fluctuation has had a significant impact on the domestic price level. Subsequently, in accordance with the historical facts of the two countries and relevant theories, we make a further analysis on the path that the exchange rates affect the domestic price level. After the historical and theoretical note, using time series analysis method, the authors selected years of historical quarterly data of two countries to make a comprehensive empirical comparison on influence of exchange rate and other factors, and draw major conclusions: external prices conduction caused by opening up a country's economy, foreign trade changes brought about by exchange rate fluctuations as well as the increase or decrease of domestic demand triggered by the changes in the money supply will have a obvious impact on domestic price level. Finally, in the light of the findings in this paper, as to the increasingly serious problem of inflation in our country, I do a simple analysis of the causes and countermeasures thinking, and pointed out that the paper's innovation points and the future research direction.