What Drives Inflation and How: Evidence from Additive Mixed Models Selected by cAIC

TL;DR

This paper compares traditional economic models and a gradient boosting algorithm to identify key drivers of inflation across 122 countries, highlighting the importance of non-linear effects and demographic factors.

Contribution

It introduces a new approach using gradient boosting for inflation analysis, demonstrating its superiority over theory-based models and emphasizing non-linear interactions.

Findings

Energy prices and their non-linear interaction with energy rents are crucial for inflation.

Demographic developments significantly influence inflation.

Traditional models may lead to misleading policy conclusions.

Abstract

We analyze the forces that explain inflation using a panel of 122 countries from 1997 to 2015 with 37 regressors. 98 models motivated by economic theory are compared to a gradient boosting algorithm, non-linearities and structural breaks are considered. We show that the typical estimation methods are likely to lead to fallacious policy conclusions which motivates the use of a new approach that we propose in this paper. The boosting algorithm outperforms theory-based models. We confirm that energy prices are important but what really matters for inflation is their non-linear interplay with energy rents. Demographic developments also make a difference. Globalization and technology, public debt, central bank independence and political characteristics are less relevant. GDP per capita is more relevant than the output gap, credit growth more than M2 growth.