Exchange rate pass-through to inflation in Egypt: evidence from an ARDL-ECM framework

Egypt experienced unprecedented inflationary pressures following successive currency devaluations under International Monetary Fund-supported reform programs, with the Egyptian pound depreciating by 68% in 2023. Key events such as the 2016 exchange rate liberalization, the COVID-19 pandemic and the 2022–2023 exchange rate adjustments have been a matter of discussion amongst economists and policymakers. This study investigated whether a shift to a flexible exchange rate regime (post-2022) significantly altered the magnitude and speed of exchange rate pass-through to core inflation in Egypt compared to the preceding managed period (2015–2021). The Autoregressive Distributed Lag bounds testing approach was employed to examine cointegration among core inflation, exchange rate, money supply, and domestic assets. Unit root tests, error correction modelling and comprehensive diagnostic tests validated model adequacy while Chow tests was applied for structural break analysis. Chow tests confirmed a significant break at 2022Q3 (F = 6.57, p = 0.0037) corresponding with Egypt’s shift to a flexible exchange rate regime. The post-2022 period demonstrated a doubling of the ERPT coefficient and accelerated adjustment speed, confirming that the flexible regime fundamentally altered inflation dynamics. Exchange rate changes demonstrated substantial pass-through effects with lagged responses at periods one and four, yielding coefficients of 2.187. This implies that a depreciation of the local currency will materially raise inflation immediately recommending the central bank to intervene in the foreign exchange market or adjust interest rates quickly to prevent currency depreciation. Regarding delayed structural impact (4th Lag, 1.782), exchange rate depreciation affects economy through contractual or structural channels such as imported raw materials that consume several months to impact final prices. Strong inflation inertia was observed, with the first lag coefficient reaching 2.02. The error correction term of −0.58 confirmed adjustment toward long-run equilibrium at 58% quarterly. Money supply exhibited delayed impacts at fourth and fifth lags, while domestic assets displayed mixed temporal effects. These findings underscore the necessity for vigilant monetary policy under flexible exchange rate regimes in emerging markets facing external shocks and currency volatility. It implies that monetary policy must respond more aggressively to exchange rate depreciations under the new regime.