Inflation and Inflation Differentials in Core Eurozone Countries

Abstract

Abstract The paper analyzes the convergence of inflation rates in the group of more developed members of the Eurozone (core countries). What are the characteristics and is the inflation process in these countries sufficiently homogeneous? Are the analysed inflation rates converging, so that there is an indication that these countries tend to form the optimal currency area. We used a unit root test to check the stationarity of a series of average inflationary differentials. They are calculated as the difference between inflation rate in a given country and the inflation rate in EMU. If the convergence process took place, the inflationary differentials will decrease and tend to zero. The variance of differentials will also decrease, so the series of average inflationary differentials will be stationary. The analysis showed that there is a unit root in the series, thus it is not stationary, and we cannot conclude that the process of convergence of inflation rates in the core countries happened. The paper also analyzes the autocorrelation functions of inflation rates, to determine the persistence of inflation, i.e. how long it takes for the shock that caused the inflation growth of 1%, to die off. The values of the first autocorrelation coefficients are high, while the next ones fall slowly, so it takes a long time for the impact of the inflation shock to disappear. In addition, the correlograms of inflation rates are quite heterogeneous, which indicates that inflationary processes differ.