Macroeconomic Drivers of Inflation in South Asia amid Global Oil Price Shocks, Exchange Rate Volatility, and Geopolitical Tensions
This study analyzes 1990–2024 data from seven South Asian nations to reveal that exchange rate depreciation is the primary driver of inflation during global oil shocks and geopolitical tensions, while foreign exchange reserves and current account balances play only limited mitigating roles, suggesting central banks should prioritize exchange rate stability over reserve accumulation to control inflation.
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In the bustling economies of South Asia, where millions of people navigate daily life, the price of a loaf of bread or a liter of fuel is rarely just a local matter. These prices are often pulled by invisible tides rising from the rest of the world. When the cost of crude oil spikes on the global market, or when the value of a country's currency shifts against the US dollar, the ripples can reach the local marketplace with surprising force. For decades, economists have debated how these external shocks travel through a nation's financial system to become inflation—the steady rise in prices that erodes purchasing power. The prevailing assumption has often been that when oil prices jump, domestic prices must follow immediately, as if the two were locked in a direct, unbreakable chain. However, the path money takes through an economy is rarely a straight line; it winds through exchange rates, government reserves, and the money sent home by workers abroad, creating a complex web of cause and effect that is difficult to untangle.
A team of researchers set out to map this web specifically for South Asia, a region comprising seven nations including Bangladesh, India, and Pakistan, all of which rely heavily on imported oil. They wanted to know which force truly drives the price of goods higher: the direct cost of oil itself, or the way a country's currency loses value when global tensions rise. To find the answer, they gathered a vast collection of economic data spanning thirty-five years, from 1990 to 2024. This dataset covered the entire region, capturing the unique economic rhythms of each country while looking for patterns that held true across the board. They examined how changes in oil prices, the value of local currencies, the size of national savings held in foreign money, and the flow of money from workers abroad all interacted with the rate of inflation.
The researchers approached this challenge with a sophisticated method designed to handle the fact that these seven countries are deeply connected. They knew that a shock in one nation often affects its neighbors, so they used statistical tools that could account for these cross-border links and the different ways each country responds to economic pressure. Their analysis revealed a clear and somewhat surprising hierarchy of influence. The study found that the most powerful driver of inflation in the region is not the price of oil itself, but the value of the local currency. When a country's currency becomes weaker against the US dollar, the cost of importing everything—from fuel to food—rises in local terms, and this pressure pushes domestic prices up. The data showed that for every one percent the exchange rate drops, inflation rises by about 0.2 percent. This relationship was strong and consistent across the countries studied.
In contrast, the direct impact of rising global oil prices on local inflation was found to be much weaker than expected. While high oil prices certainly create pressure, the study suggests that in South Asia, this pressure does not automatically translate into higher consumer prices in the same direct way many assume. Instead, oil prices seem to work indirectly, often by causing the local currency to weaken, which then triggers the rise in prices. This distinction is crucial because it means that simply blaming global oil spikes for local price hikes might be missing the real mechanism at play. The researchers also looked at whether countries could protect themselves using their foreign exchange reserves—the savings held in foreign currencies—or by relying on money sent home by workers abroad. They found that while having more foreign reserves can help lower inflation slightly, this effect is modest and depends heavily on how the data is analyzed. Similarly, the steady stream of remittances from workers did not appear to cause significant price increases, nor did it act as a powerful shield against inflation.
The study also considered the role of the United States, whose interest rates often influence global financial flows. The researchers found that changes in US interest rates did not have a strong, direct spillover effect on inflation in South Asia, suggesting that local economic conditions and regional dynamics play a more dominant role than global monetary shifts. These findings challenge the traditional view that oil shocks are the primary culprit behind inflation in oil-importing regions. Instead, the evidence points to the stability of the exchange rate as the critical factor. If a country can keep its currency stable, it can better insulate its citizens from the volatility of global oil markets. The researchers conclude that for policymakers in South Asia, the most effective strategy for controlling inflation is not necessarily to focus solely on fuel subsidies or to wait for global oil prices to settle, but to prioritize the management of their exchange rates. By maintaining a stable currency, these nations can break the chain that turns global energy shocks into local price hikes, offering a more reliable path to economic stability for their people.
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