On Cross-Country Differences in the Contribution of Nontraded Goods to Real Exchange Rate Fluctuations

We propose a new Quantity Dual Approach (QDA) to estimate the contribution of nontraded goods to Real Exchange Rate (RER) fluctuations. This method is immune to the bias resulting from the non-inclusion of some goods in CPI calculations and can be applied even in a stringent data environment where Engel’s (1999, JPE) approaches would not be possible to implement. The QDA requires only national income accounts data and traded good price indices, which are more reasonably available for many countries. The estimated contributions of nontraded goods to RER fluctuations using both our proposed new approach and Engel’s approaches yield negative correlations with income level, government expenditure, exchange rate volatility, and political stability but positive correlations with inflation and private consumption expenditures.