Globalization and inflation: Evidence from a time-varying VAR

• A time-varying VAR model is used to study the Globalization Hypothesis for inflation.
• Global slack affects inflation, but its influence didn't grow over time.
• A panel analysis shows that the effects of global slack on inflation increase in openness.
• Significant brakes inflation dynamics would require additional integration.

According to the Globalization Hypothesis, global economic slack should progressively replace the domestic output gap in driving inflation as globalization increases. We investigate the empirical evidence in favor of this prediction by using a time-varying VAR. Two main results emerge from the analysis: First, global slack is found to affect the dynamics of inflation in many countries, yet its influence did not become stronger over time. Second, a panel analysis that exploits the cross-sections characteristics of our dataset shows that globalization, measured in terms of trade and financial openness, is positively related to the effects of global slack on inflation. We conclude that integration in the global economy is in fact important, but globalization has not yet induced changes in openness large enough to justify significant brakes in inflation dynamics.