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Can Firms’ Location Decisions Counteract the Balassa-Samuelson Effect?

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Isabelle Mejean

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Abstract

This paper studies determinants of relative price levels in a New Trade framework. The model combines a Balassa-Samuelson mechanism, explaining Purchasing Power Parity (PPP) deviations in the non-traded good sector, and an endogenous location of firms leading to PPP deviations in the traded good sector. Calibrating the model with OECD data, I show that PPP deviations in the traded good sector can either lessen or strengthen the Balassa-Samuelson effect, depending on the share of traded goods in consumption. Moreover, in general equilibrium, the real exchange rate also depends on the relative size of countries, through the Home Market Effect.

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Paper provided by CEPII research center in its series Working Papers with number 2006-12.

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Date of creation: Jul 2006
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Handle: RePEc:cii:cepidt:2006-12

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Related research
Keywords: Long-Run Real Exchange Rate; PPP deviations; Balassa-Samuelson effect; location decisions; relocation; international trade; new trade theory;

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Find related papers by JEL classification:
F1 - International Economics - - Trade
F2 - International Economics - - International Factor Movements and International Business
F4 - International Economics - - Macroeconomic Aspects of International Trade and Finance

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  1. Hummels, David, 2001. "Time as a Trade Barrier," GTAP Working Papers 1152, Center for Global Trade Analysis, Department of Agricultural Economics, Purdue University. [Downloadable!]
  2. Maurice Obstfeld & Kenneth Rogoff, 2000. "The Six Major Puzzles in International Macroeconomics: Is There a Common Cause?," NBER Working Papers 7777, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  3. Corsetti, Giancarlo & Martin, Philippe & Pesenti, Paolo, 2005. "Productivity Spillovers, Terms of Trade and the 'Home Market Effect'," CEPR Discussion Papers 4964, C.E.P.R. Discussion Papers. [Downloadable!] (restricted)
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  4. Fabio Ghironi & Marc Melitz, 2004. "International Trade and Macroeconomic Dynamics with Heterogeneous Firms," 2004 Meeting Papers 451, Society for Economic Dynamics. [Downloadable!]
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  5. Paul Bergin & Reuven Glick & Alan M. Taylor, 2004. "Productivity, Tradability, and the Long-Run Price Puzzle," NBER Working Papers 10569, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  6. Charles Engel, 1999. "Accounting for U.S. Real Exchange Rate Changes," Journal of Political Economy, University of Chicago Press, vol. 107(3), pages 507-538, June. [Downloadable!] (restricted)
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  7. Bela Balassa, 1964. "The Purchasing-Power Parity Doctrine: A Reappraisal," Journal of Political Economy, University of Chicago Press, vol. 72, pages 584. [Downloadable!] (restricted)
  8. Mario J. Crucini & Chris I. Telmer & Marios Zachariadis, 2005. "Understanding European Real Exchange Rates," American Economic Review, American Economic Association, vol. 95(3), pages 724-738, June. [Downloadable!]
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  9. Jose De Gregorio & Holger C. Wolf & Alberto Giovannini, 1994. "International Evidence on Tradables and Nontradables Inflation," IMF Working Papers 94/33, International Monetary Fund.
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  10. Dixit, Avinash K & Stiglitz, Joseph E, 1977. "Monopolistic Competition and Optimum Product Diversity," American Economic Review, American Economic Association, vol. 67(3), pages 297-308, June. [Downloadable!] (restricted)
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  11. Behrens, Kristian & Lamorgese, Andrea & Ottaviano, Gianmarco Ireo Paolo & Tabuchi, Takatoshi, 2004. "Testing the Home Market Effect in a Multi-Country World: The Theory," CEPR Discussion Papers 4468, C.E.P.R. Discussion Papers. [Downloadable!] (restricted)
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  12. MacDonald, Ronald & Ricci, Luca Antonio, 2007. "Real exchange rates, imperfect substitutability, and imperfect competition," Journal of Macroeconomics, Elsevier, vol. 29(4), pages 639-664, December. [Downloadable!] (restricted)
  13. Venables, Anthony J, 1996. "Equilibrium Locations of Vertically Linked Industries," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 37(2), pages 341-59, May.
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