Academic journal article Journal of Economic Development

The Impact of Globalization on Inflation in Developing Countries

Academic journal article Journal of Economic Development

The Impact of Globalization on Inflation in Developing Countries

Article excerpt

1. INTRODUCTION

Over the past two decades there has been significant evidence that the inflation process has been changing in various countries across the world. Inflation has become much lower and more stable, and some even argue that inflation has gradually become less responsive to measures of economic activity. Several potential explanations for this phenomenon have been conjectured by researchers in the field: perhaps monetary policy has become more effective, which is further supported by institutional reforms such as central bank independence, or perhaps central bankers have become more antiinflationary in their policy motives? Furthermore, it is possible that greater transparency of monetary policy communications and improved monetary control capabilities have also contributed to the stabilization of global inflation.

While some or maybe all of these hypotheses may partially explain the improvement in inflation performance in countries around the world, a recent literature has emerged that argues that traditional models of inflation are too "country-centric" as Borio and Filardo (2007) phrase it. In other words, most current models of inflation do not take sufficient account of the role that global factors may play in the inflation process, particularly in a world where we have seen a significant increase in international trade and international economic integration, also known as "globalization."

There are several definitions of globalization such as the increase of financial integration between different nations of the world, as well as the simple definition of the increase in the degree of international trade between countries over time. Either way the data clearly show that globalization has surged in the past few decades, which suggests that examination of globalization's effect on inflation has become an increasingly crucial area of research. Indeed, this is something that has even been fiercely debated by key central bankers in recent years: Greenspan (2005) said that globalization "would appear to be (an) essential element of any paradigm of explaining the events of the past ten years," while Bernanke (2007) said "there seems to be little basis for concluding that globalization overall has significantly reduced inflation in the United States in recent years; indeed, the opposite may be true." The jury is clearly still out on what impact globalization has had on worldwide inflation.

To that end, several scholars have researched whether globalization has truly had an impact on domestic countries' inflation processes in recent years. In a primarily non-technical survey of the data, Rogoff (2003) argues that globalization has lowered trend inflation in various countries around the world by reducing price levels as well as making prices more flexible. However econometric examination of the evidence by Ball (2006) instead finds that globalization has had little impact on inflation in the advanced countries of the world, a claim that is further supported by Ihrig et al. (2007). That being said, others have expanded the set of industrial countries that are examined, such as Borio and Filardo (2007) and Eijffinger and Qian (2010), and find that foreign measures of economic activity actually have considerable explanatory power towards domestic inflation, which suggests that globalization has significantly affected the output-inflation tradeoff in these nations.

While this current literature has several interesting debates and insights as to how globalization has impacted inflation, there is one striking area that has been surprisingly ignored by existing researchers. That is, how has globalization affected inflation in the developing countries of the world? Out of the key papers in the prevailing literature, we find no focus on the emerging and developing economies, but instead research on this topic is heavily centered around the advanced and industrialized countries of the world. However, globalization has had an equally large impact on developing countries as it has on advanced economies, which makes the lack of attention paid to these economies an alarming feature that has been omitted by the literature. …

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