Models of hysteresis in trade invoke permanent shifts in competitiveness to explain the real exchange rate reversal of the 1980s. These models predict an immediate and permanent response of competitiveness to exchange rate overshooting. In contrast, an extensive, empirically based 'J-curve' literature suggests a lagged response of competitiveness to real exchange rate movements. This paper shows that such trade balance elasticity dynamics offer an attractive alternative explanation of real exchange rate reversal. Copyright 1995 by Ohio State University Press.
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