Inflation and Relative Price Variability in Brazil: A Time-Varying Parameter Approach

This paper aims at analyzing the relationship between inflation and relative price variability (RPV) in Brazil, for the period spanning from July 1999 to May 2017. State Space models, together with Kalman Filter, are used as main econometric methodology. As a benchmark exercise, ARDL-OLS and GMM estimations are applied, enabling to compare time-fixed and time-varying parameter approaches, and to examine the impact of potential endogeneity on the results. A GARCH-type model is also assessed to account for inflation variability. Results show that: i) the correlation between inflation and RPV is positive, but with statistical significance only in some months up to 2003 and from 2015 on; ii) the passthrough from inflation to RPV seems to increase when inflation increases, especially in the beginning of 2015; iii) the time-varying parameter approach proves to be relevant due to instabilities found in time-fixed estimations; iv) inflation variability is statistically significant and affects relative price variability throughout the whole period analyzed.