A currency can fall substantially without consumer prices rising by anything close to the same amount. Economists call the relationship pass-through, and it is consistently incomplete.
Most trade is not invoiced in the local currency
A large share of international trade is priced in a small number of major currencies regardless of who is buying or selling. The exporter's own currency often plays no part.
This means a country's import prices respond to its exchange rate against the invoicing currency rather than against its actual trading partners. The relevant rate is not the obvious one.
It also means exporters selling in a major currency see no immediate price change abroad when their own currency moves. Their margin changes instead of their price.
Firms absorb movements to protect market share
An exporter that has spent years building distribution is reluctant to raise prices for a movement that may reverse. Holding the price and accepting a thinner margin preserves the position.
This behaviour is asymmetric in practice. Firms are quicker to raise prices on a sustained adverse move than to cut them on a favourable one.
Only when a movement appears durable do list prices change. The threshold is judgement rather than arithmetic.
Hedging postpones the arithmetic
Importers commonly hedge currency exposure for a period ahead, locking costs at earlier rates. Their actual cost changes when hedges expire rather than when the market moves.
Larger firms hedge further ahead than smaller ones, so the same currency move reaches competitors at different times. Prices in a category then adjust unevenly.
The delay can extend well beyond a year in industries with long production cycles. Consumers see the effect long after the news has moved on.
Distribution costs dilute what remains
Retail prices include domestic transport, labour and rent that no exchange rate touches. Even complete pass-through at the border produces a diluted effect at the till.
Categories with thin domestic value added, such as fuel, show much higher pass-through. The dilution is smaller because the imported component dominates.
This is why fuel prices are the most visible currency indicator for most households. They are the closest thing to an unprocessed import.
Why central banks watch it closely
The degree of pass-through determines how much a currency movement contributes to inflation and therefore whether policy needs to respond. Misjudging it leads to over-reaction or delay.
Estimated pass-through has declined in many economies as trade has become dominated by a few invoicing currencies. Estimates differ by country and are revised as data accumulates.
The relationship is also state-dependent, tending to be stronger when inflation is already high. Households notice price rises more readily in such periods, and firms find them easier to make.