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Oil price, exchange rate and consumer price co-movement: A continuous-wavelet analysis

Habimana, Olivier (2016): Oil price, exchange rate and consumer price co-movement: A continuous-wavelet analysis.

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Abstract

Using the cross-wavelet coherency, partial-wavelet coherency and wavelet phase-difference, this paper investigates the time-frequency co-movement among crude oil price, Rwandan Franc/USD exchange rate and consumer price index. The time-frequency analysis unveils the strong dependency between oil prices and exchange rate; the two series are in phase at a short cycle of three to four months. This co-movement intesnfied and expanded to intermediate scales of four to sixteen months beginning late 2007, the onset of global financial crisis. There is evidence that oil prices might have significantly contributed to the depreciation of the Rwandan Franc that depreciated by 446% in only 21 years. This effect varies in time and frequency. Our findings suggest that there is no singificant time-frequency relationship between, on one side oil prices and consumer prices, and exchange rate and consumer prices on the other side. This implies that oil prices are not inflationary, which provides greater freedom for pursuing an independent monetary policy, and makes it easier for the Central Bank to possibly implement inflation targeting in the future. However, fiscal and monetary authorities need to devise policies to attenuate the effect of oil shocks on macroeconomic stability, including the effect of continuous depreciation of the Rwandan Francs on the balance of trade, and on external debt servicing since debt is denominated in foreign currencies.

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