Exchange rates and U.S. external adjustment in the short run and the long run
AbstractThe objective of this paper attempts to reconcile PPP-based views are model-based views about prospects for V.S. external adjustment in the medium term. Projections based on conventional models of the current account do not fully capture ongoing adjustments to exchange rate changes that are implicit in long-run PPP theory. In particular, the model-based projections fail to capture longer-run shifts in relative output capacity in response to sustained cost differentials (or deviations from absolute purchasing power parity) across countries. Such supply-side adjustments appear to have been quantitatively important in the past. With V.S. labor costs in manufacturing now noticeably below those in some other major industrial countries, these supply-side adjustments are potentially important in the period ahead. Nevertheless, when the model extrapolations are revised to factor in such longer-run adjustments, the projected deficit remains sizable.
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Bibliographic InfoPaper provided by Board of Governors of the Federal Reserve System (U.S.) in its series International Finance Discussion Papers with number 346.
Date of creation: 1989
Date of revision:
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National Bureau of Economic Research, Inc.
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