Explain the concept of exchange rate pass-through.

Explain the concept of exchange rate pass-through.

Exchange rate pass-through refers to the extent to which changes in the exchange rate of a country's currency affect the prices of imported goods and services. It measures the degree to which changes in exchange rates are transmitted to domestic prices.

When a country's currency depreciates, it becomes more expensive to import goods and services from other countries. The extent to which this increase in import costs is passed on to consumers in the form of higher prices is known as exchange rate pass-through.

Exchange rate pass-through can vary depending on various factors such as the degree of competition in the domestic market, the pricing strategies of firms, the elasticity of demand for imported goods, and the presence of trade barriers.

A high pass-through indicates that a large proportion of the exchange rate change is reflected in higher prices, while a low pass-through suggests that changes in exchange rates have a limited impact on domestic prices.