Monetary policy credibility, exchange rate pass through and inflation in South Africa

The South African Reserve Bank (SARB) implemented inflation targeting as a monetary policy framework in 2000 with the aim of achieving low and stable price associated with economic growth. However, the period in which the framework was implemented is characterised by periods of price instability and low economic growth. This contradicts the view of different views in the literature that indicates that inflation targeting ensures low inflation rates. The purpose of the current study was to investigate the nexus between monetary policy credibility, exchange rate pass-through and inflation in South Africa. The study employed the Johansen co-integration test, Vector error correction modelling (VECM) techniques, impulse response and variance decomposition for the period from 2000 to 2017 using quarterly data. The Johansen cointegration indicated that there was a long-term relationship between the variables of interest. The VECM was estimated together with the impulse response and variance decomposition. The empirical results indicated that the variables utilised in the study are positively related. Impulse response functions also proved that in the long run, changes in consumer prices are a result of fluctuations in oil prices and the repo rate. It is evident that consumer prices (inflation) are positively related to changes in exchange rates and monetary policy credibility. Thus, the study recommends that changes in the exchange rate must be considered when implementing the monetary policy as the prices move in the same direction as changes in the NEER. Further, the lack of monetary policy credibility seems to be an issue for monetary authorities as there is supposed to be an inverse relationship among the CPI and MPCRED, which is opposed by the study. Additionally, the results also indicate that the repo rate is positively related to the consumer price and this opposes previous literature. Thus, recommending that the SARB needs to evaluate the monetary policy or the inflation targeting framework to ensure they achieve credibilit