An Empirical Study On The Effect Of The RMB Exchange Rate Pass-Through To Domestic Prices

In July 2005, the RMB exchange rate system was reformed from the past exchange rate system of pegging single dollar to a managed floating exchange rate system of pegging a basket of currencies, which led to a strong appreciation expectations of RMB. According to the national bureau of statistics, the Yuan’s dollar exchange rate drops from 8.11 Yuan per dollar in 2005 to 6.10 Yuan per dollar in 2013, RMB appreciating by 32.05%. According to the traditional exchange rate decision theories such as the "law of one price", a country’s currency appreciation will be fully passed on to the domestic prices and make the domestic price level fall. However, since 2007, the CPI maintains the higher level every month, except that in 2009, the international financial crisis influence domestic price level and urged it fall. Therefore a phenomenon appeared that RMB appreciates with a high domestic inflation, departing from the traditional theory. As a result, more and more scholars begin to pay close attention to the cause of the deviation and focus on the effectiveness of exchange rate pass-through, which generated the theory of incomplete exchange rate pass-through. Besides, some scholars study exchange rate pass-through from the sight of its influence factors.Based on this, focusing on the transmission mechanism of RMB exchange rate on domestic price, this paper studies the RMB exchange rate pass-through on domestic price under different pathways. Then we select seven variables including the producer price index, the consumer price index, and the international price of crude oil, industrial added value, broad money supply, the RMB nominal effective exchange rate and exchange rate volatility, collect relevant data from 1996 to 2013 and use autoregressive distributed lag ARDL model to analysis the effects of other factors on CPI and PPI, especially the RMB exchange rate and exchange rate volatility pass-through on domestic price. In addition, we analysis the effect of the RMB exchange rate pass-through under different environment of inflation and exchange rate system to test the effect of inflation and exchange rate system on the RMB exchange rate pass-through. The empirical results show that there is a long-term co-integration relationship between variables selected in this paper, which tells us that the domestic price level is decided by many factors. The RMB exchange rate pass-through is not complete and the exchange rate pass-through on PPI is larger than that on CPI. Besides, inflation and exchange rate system are important influencing factors on the RMB exchange rate pass-through in that the RMB exchange rate pass-through is larger under the environment of high inflation rate and it is more apparent before the reform of exchange rate system. At last, this paper tries to put forward some policy suggestions based on the theoretical analysis and empirical results to control domestic price level.