A multi-country DSGE model with incomplete exchange rate pass-through: An application for the Euro-area

This paper develops an estimated multi-country open economy dynamic stochastic general equilibrium (DSGE) model with incomplete exchange rate pass-through (ERPT) for the Euro-area. It is designed to model global international linkages and to assess the international transmission of shocks under an endogenous framework and incomplete ERPT assumption. First, we use the global VAR model to estimate the steady state of observable endogenous variables of the multi-country DSGE model in order to take into account international linkages, possible cointegration relationships within domestic variables and between domestic and foreign variables, and the role of common unobserved and observed global factors such as oil prices. Second, using the estimated multi-country DSGE model for the Euro-area to conduct ERPT analysis yields the following results. On the one hand, exchange rate volatility contributes to a large part of the import price inflation variation of the Euro-area in contrast to foreign markup shocks. On the other hand, nominal rigidity induces a persistent but lower impact of the exchange rate changes on import inflation.