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Catching-up and inflation differentials in a heterogeneous monetary union: Some implications for the euro area and new EU Member States

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  • MacDonald, Ronald
  • Wójcik, Cezary

Abstract

We propose an alternative explanation for the nature, sources and consequences of inflation rate differentials in a monetary union, such as the euro area. We build on the new neoclassical synthesis (NNS) framework, recently advanced by Goodfriend [Goodfriend, M. 2002. Monetary Policy in the New Neoclassical Synthesis: A Primer. Federal Reserve Bank of Richmond, Richmond, VA] and Goodfriend and King [Goodfriend, M., King, R., 2001. Case for price stability. NBER Working Paper 8423, Cambridge, MA]. Based on the NNS setup, we discuss the inflationary consequences of the catching-up process in a heterogeneous monetary union. In particular, we explore the interaction between catching-up and inflation differentials and offer an interpretation of the nature of this interaction. We demonstrate that divergent inflation rates between Member States do not necessarily have to be an equilibrium phenomenon, even if the original shock comes from the supply-side of the economy. Second, we show how such divergence of individual country's inflation rates may arise when countries differ in size and in trend productivity growth.

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Bibliographic Info

Article provided by Elsevier in its journal Economic Systems.

Volume (Year): 32 (2008)
Issue (Month): 1 (March)
Pages: 4-16

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Handle: RePEc:eee:ecosys:v:32:y:2008:i:1:p:4-16

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References

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  1. Marvin Goodfriend, 2004. "Monetary policy in the new neoclassical synthesis : a primer," Economic Quarterly, Federal Reserve Bank of Richmond, issue Sum, pages 21-45.
  2. Ken Froot & Kenneth Rogoff, . "Perspectives on PPP and Long-Run Real Exchange Rates," Working Paper 32027, Harvard University OpenScholar.
  3. Marvin Goodfriend & Robert G. King, 2001. "The Case for Price Stability," NBER Working Papers 8423, National Bureau of Economic Research, Inc.
  4. Holger C. Wolf & Alberto Giovannini & Jose De Gregorio, 1994. "International Evidence on Tradables and Nontradables Inflation," IMF Working Papers 94/33, International Monetary Fund.
  5. Alan M. Taylor & Paul Bergin & Reuven Glick, 2005. "Productivity, Tradability, and the Long-Run Price Puzzle," Working Papers 511, University of California, Davis, Department of Economics.
  6. Neary, Peter, 1988. "Determinants of the Equilibrium Real Exchange Rate," American Economic Review, American Economic Association, vol. 78(1), pages 210-15, March.
  7. De Grauwe, Paul, 1992. "Inflation Convergence During the Transition to EMU," CEPR Discussion Papers 658, C.E.P.R. Discussion Papers.
  8. Bela Balassa, 1964. "The Purchasing-Power Parity Doctrine: A Reappraisal," Journal of Political Economy, University of Chicago Press, vol. 72, pages 584.
  9. Philip R. Lane & Patrick Honohan, 2003. "Divergent Inflation Rates in EMU," Trinity Economics Papers 20034, Trinity College Dublin, Department of Economics.
  10. Bergstrand, Jeffrey H, 1991. "Structural Determinants of Real Exchange Rates and National Price Levels: Some Empirical Evidence," American Economic Review, American Economic Association, vol. 81(1), pages 325-34, March.
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Cited by:
  1. Katarína Danišková & Jarko Fidrmuc, 2011. "Inflation Convergence and the New Keynesian, Phillips Curve in the Czech Republic," Working Papers 292, Institut für Ost- und Südosteuropaforschung (Institute for East and South-East European Studies).
  2. Czudaj, Robert, 2011. "P-star in times of crisis - Forecasting inflation for the euro area," Economic Systems, Elsevier, vol. 35(3), pages 390-407, September.
  3. García-Solanes, José & Sancho-Portero, F. Israel & Torrejón-Flores, Fernando, 2008. "Beyond the Balassa-Samuelson effect in some new member states of the European Union," Economic Systems, Elsevier, vol. 32(1), pages 17-32, March.
  4. Marjan Senjur, 2012. "A competitive growth of a small midle-income country in the eurozone is far to be assured," International Economics and Economic Policy, Springer, vol. 9(3), pages 213-233, September.
  5. Jarko Fidrmuc & Roman Horváth, 2007. "Volatility of Exchange Rates in Selected New EU Members: Evidence from Daily Data," CESifo Working Paper Series 2107, CESifo Group Munich.
  6. Nagayasu, Jun, 2010. "Regional Inflation (Price) Behaviors: Heterogeneity and Convergence," MPRA Paper 25430, University Library of Munich, Germany.
  7. Hamza Bennani, 2013. "Does the ECB consider the persistence of inflation differentials?," Economics Bulletin, AccessEcon, vol. 33(3), pages 2129-2139.

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