Exchange Rate Pass-Through to Inflation in Iraq: An Endogenous Structural Breaks-Based Dynamic ARDL Analysis

Abstract

This study examines the exchange rate pass-through (ERPT) to consumer prices in Iraq using monthly data for the period 2004-2023. Understanding the effect of exchange-rate fluctuations on the inflation rate is indispensable for macroeconomic stability in an economy characterized by a fixed exchange rate regime, high import dependence, and exposure to oil-price shocks. The analysis applies a sub-sample regime-based Dynamic ARDL (DynARDL) framework, complemented by tests for nonlinear dependence and structural investigations through multiple breaks. The results across different sub-sample regimes demonstrate that inflation dynamics are more characterized by inertia than by responses to the latest exchange rate movements. The ERPT was found to be generally weak and delayed, and sub-sample regime-dependent. The long-run effects are statistically insignificant for most periods. The evidence for cointegration between exchange rates and inflation is weak, suggesting there may be no long-term stable relationship between exchange rates and inflation. Dynamic simulations demonstrate that inflation responses to exchange rate shocks are short-lived, and in some sub-sample regimes even go against standard theoretical expectations. These findings suggest that the exchange rate management alone is not sufficient to control inflation in Iraq. Effective price stability demands focusing on domestic drivers, fiscal-monetary coordination, and the ability to isolate oil-related shocks.