Author(s): Nemushungwa Azwifaneli Innocentia, Lavhelani Vhulenda Patricia
The breakdown of the Bretton Woods fixed exchange system led some economies, including South Africa, to shift from fixed to floating exchange rate systems. Under a floating exchange rate and an open trade policy, a country becomes more vulnerable to external economic shocks, with the exchange rate acting as a key transmission channel. The degree to which exchange rate changes influence import prices and consumer prices is called exchange rate pass-through. Recent research highlights that ERPT is often asymmetrical and nonlinear, especially in emerging economies. Despite the importance of these dynamics, there is limited research on nonlinear and asymmetric ERPT in South Africa. This study aims to address that gap by examining the nonlinear and asymmetric ERPT effect on consumer prices in South Africa using the nonlinear autoregressive distributed lag approach and the Wald test. The NARDL tests indicate that exchange rate fluctuations impact consumer inflation in a nonlinear and asymmetric way, with currency depreciations having a stronger effect than appreciations. However, the Wald test results show no significant long-term nonlinear and asymmetric relationship between exchange rates and consumer inflation. This suggests that long-term inflation adjustments might be influenced by other factors beyond exchange rates, such as monetary policy and inflation targeting. Overall, this finding implies that mechanisms within the South African economy may reduce the long-term impact of exchange rate movements on inflation.