Journal Article Critique 1

How To Criticize The Journal Article

JOURNAL TITLE

 Inflation , openness , and exchange-rate regimes The quest for short-term commitment (Alfaro, L. 2005)

How do openness and exchange-rate regimes affect inflation (Ghosh, A. 2014)

Journal Article Critique

Alfaro, L. (2005). Inflation , openness , and exchange-rate regimes The quest for short-term commitment. Journal of Development Economics, 77, 229–249. doi:10.1016/j.jdeveco.2004.02.006

Ghosh, A. (2014). How do openness and exchange-rate regimes affect in fl ation ? International Review of Economics and Finance, 34, 190–202. doi:10.1016/j.iref.2014.08.008

Propose of study

The abstract for both of the study was made clear that is first study by (Alfaro, 2005) investigates the further tests Romer’s [Romer, D., 1993. Openness and inflation: theory and evidence. Quarterly Journal of Economics 58, 869–903] extension of Kydland and Prescott’s [Kydland, F., Prescott, E., 1977 Rules rather than discretion: the inconsistency of optimal plans. Journal of Political Economy 85, 473–491] predictions for dynamic inconsistency problems in open economies. Similarly, In the (Ghosh, 2014) study the abstract was made clear that is investigates the effect of openness and exchange rate regimes on inflation for 137 countries from 1999 to 2012.

However, the title of the study (Alfaro, 2005) is not completely clear. The purpose of authoring was not clearly show the inflation as the dependent variable in this study. Perhaps a better title would be How do openness and exchange rate regimes affect inflation for example (Ghosh, 2014) study similar topic but difference with difference approach.

In the introduction both (Alfaro, 2005) and (Ghosh, 2014) state that the study was further tests Romer’s [Romer, D., 1993. Openness and inflation: theory and evidence. Quarterly Journal of Economics 58, 869–903] extension of Kydland and Prescott’s (1977). (Alfaro, 2005) stated Romer argues that the negative openness–inflation relationship arises from the dynamic inconsistency of discretionary monetary policy and further explained by (Ghosh, 2014) greater openness acts as an implicit commitment mechanism by providing a disincentive for policymakers to engage in surprise monetary expansion, and leads to lower inflation (Romer, 1993).

The article was representative by a good extent the abstract and in the correct form. Who reads it can understand the overall purpose and method of the study. Hence, in the introduction the purpose of the study was made clearly both in (Alfaro, 2005) and (Ghosh, 2014).

Problem addressed by the study

According to (Alfaro, 2005) in referring to Romer’s (1993) that inflation and openness are negatively and significantly correlated. Similarly, (Ghosh, 2014) greater openness acts as an implicit commitment mechanism by providing a disincentive for policymakers to engage in surprise monetary expansion, and leads to lower inflation (Romer, 1993). However, (Alfaro, 2005) reported Romer’s empirical work, using cross-country averages spanning more than a decade (beginning in 1973), tests the long-run commitment effect of openness on restricting the usefulness of discretionary monetary policy. Furthermore, (Alfaro, 2005) add that whether openness or other mechanisms bind in a short-term horizon. Differ from (Alfaro, 2005), (Ghosh, 2014) add that the political economy literature. Known as the “compensation hypothesis,” it posits that more openness exposes a nation to greater social and economic inequalities. This generates a public outcry for social spending aimed at offsetting the social costs of international integration. To avoid economic and political crises, governments respond by providing more social spending to ensure more economic parity in the face of higher openness. This result and social compensation stimulates higher consumer spending and hence creates more inflation (Kaufman & Segura-Ubiergo, 2001). Both studies investigate possible ways of improving this situation.

Crystal clear question stated by the study to be answered. It aimed to explore the main research question: To take advantage of the time dimension of the data to analyze whether openness serves as a commitment mechanism for restraining inflation in the short run for (Alfaro, 2005). Meanwhile, (Ghosh, 2014) to examine the role of regimes within a framework disaggregated to economic development, extent of trade openness, capital controls or inflation levels.

The study deal with an objective which is important in the field of monetary economic which is monetary policy setting. Partially it is investigating how openness effecting inflation in short run and the robustness by adding another determinant into the model. This is an issue which is focused recently since the whole world is integrated. It also provide the information for future research as well the body of policy.

The design used in the study

The full sample covers 130 countries from 1973 to 1998 (Alfaro, 2005) provide 2000 over observation show the data can assume as normally distribute. Similarly, (Ghosh, 2014) The full dataset uses annual data encapsulating 137 countries from 1999 to 2012 as 1781 observation. The sample size was enough to conduct short run and long run analysis for these study to determine the exactly relationship between openness and inflation.

Alfaro, (2005) follow Romer’s estimation strategy by regressing inflation on a constant, the degree of openness, other control variables, and an error term. Meanwhile, (Ghosh, 2014) was use pairwise correlation in order to determine the relationship  between inflation and it determinant. The study by (Alfaro, 2005) does not  conducting unit root test before ordinary least square analysis running. These cause the spurious regression which high r-square show there strong relationship but most of the variable insignificant short the model was has spurious regression and the unit root test should be conduct to solve the problem on non-stationary. For some of the indicator in the

Fix effect model solved the omitted variable which the cross-section analysis might by driven by time-invariant omitted variables, such as institutional variables, that often are difficult to measure. The wide perspective with included in the model (Alfaro, 2005). Contrarily, to (Ghosh, 2014) which is does not include the omitted variable in model.

Unit root test (Adf) test should address before run other test in order to avoid the spurious regression in the model and for better understanding short run relation the co-intergation analysis and as well vector error correction model can use to satisfy the objection of the study which to determine the short run relationship between openness and inflation. Ghosh, (2014) not clearly mentioned the method use in the study.

Result

According to study the negative correlation persists even after adding more than a decade of observations over Romer’s work (Alfaro, 2005). The average inflation in fixed regimes to be higher than in floating regimes for both the de jure and de facto classifications(Alfaro, 2005). The coefficient on openness is negative and highly significant(Alfaro, 2005). The income per capita estimate, however, is not significant. Column (4) shows the results to be robust to using exports as a share of GDP as the openness measure (Alfaro, 2005). The openness coefficient, however, remains negative and significant even when controlling for regional differences, the development level, and fiscal deficits. Similar results, not reported due to space considerations, are obtained using exports as a share of GDP(Alfaro, 2005). (Ghosh, 2014) find higher capital account openness as well as a movement towards a fixed regime to lower inflation. However, there is no clear evidence of a significant negative effect of trade openness on inflation, except for nations with low trade openness and high inflation rates. This suggests that important country-specific effects might be driving these results (Alfaro, 2005). The model has the additional appeal that it captures the effect of several unobserved factors (like political and institutional events) on inflation, that are available for only a sub- set of countries and for a limited time period (Ghosh, 2014). Alfaro, (2005) found cannot reject the hypothesis that the GDP per capita variable has a unit root. Hence this model has a spurious regression.

The pooled OLS regression in Reg 2 shows the regime dummy and trade openness to be negative and significant in influencing inflation much like the earlier empirical literature on the inverse relationship (Ghosh, 2014). Openness loses its statistical significance while the other variables hold the same sign and significance. However, the RE model assumes that the error terms are uncorrelated with the independent variables. Assumption relax by using a fixed effect (FE) model with both country and time-fixed effects (Ghosh, 2014). Alfaro, (2005) found that openness does not play a role in restricting inflation in the short run. On the other hand, a fixed exchange-rate regime plays a significant role. The results are robust to controlling for other variables that determine inflation, performing sensitivity analysis, and using a de facto exchange rate regime classification

Majors Conclusion

According to the researcher, (Alfaro, 2005) found empirically the non-significant role openness seems to play as a commitment mechanism in the short term. Meanwhile, (Ghosh, 2014)found higher capital account openness as well as a movement towards a fixed regime to lower inflation. In Alfaro, (2005) Pegged exchange-rate regimes, however, have been associated with significantly better inflation performance. Ghosh, (2014) found there is no clear evidence of a significant effect of trade openness to lower inflation, except for nations with low levels of trade openness and high inflation rates.

According to Alfaro, (2005) the negative and strong relationship between inflation and a fixed exchange-rate regime is consistent with the classical literature, which argues that fixed exchange-rate regimes impose discipline on individual countries, reflecting the greater observability, accountability, and transparency of the exchange rate over openness.

Alfaro, (2005) argue there being a stronger link between the exchange rate and inflation than between inflation and openness in the short term, inflation might be more effectively restrained through economic cooperation and by integrating the design of macroeconomic policies consistent with maintaining fixed exchange rates. These consistent to the second researcher Ghosh, (2014) who found increasing degree of regime flexibility may lead to higher inflation, the concomitant use of inflation targeting regime would provide a cushion in fighting against inflation.

(Alfaro, 2005) in stated this paper is not to advocate a specific type of exchange rate regime or a certain extent of trade or financial openness over another but, acknowledged that such external policy choices are country-specific. Rather the empirical evidence provided here should be treated more as a policy guide in choosing a nation's external orientation (Alfaro, 2005). Meanwhile (Ghosh, 2014) stated the message of the paper is not that a peg inconsistent with fiscal and monetary policies can achieve low, long-term, sustainable inflation. Rather, it argues that, in the short run, a fixed exchange rate has served as a commitment mechanism and thereby limited inflation.

Recommendation

In the overall, the both study we are concerned about openness affected inflation. It offer to the monetary policy maker to create right policy in short term (Alfaro, 2005) and also the exchange rate regime how does it affected our inflation with (Ghosh, 2014) add capital as determinant of inflation these will provide the more wide perspective on inflation cause.

Unit root test (Adf) test should address before run other test in order to avoid the spurious regression in the model and for better understanding short run relation the co-integration analysis and as well vector error correction model can use to satisfy the objection of the study which to determine the short run relationship between openness and inflation.

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