The Global Slack Hypothesis: New Evidence from China*

This paper evaluates the global slack hypothesis that economic globalization has increased the role of global factors in the inflation process in China. Towards that end, we augment and estimate conventional Phillips curve inflation equations by incorporating global economic slack that is obtained through China's eighteen major trading partners in the world. Empirical results with quarterly data spanning from 1995 to 2012 provide evidence in favor of altering the domestic Phillips curve to include global slack as an additional driving variable for inflation. The findings indicate that the Chinese central bank needs to react to developments in global economic slack.