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Relative price risk in the open economy-the case of fixed exchange rates

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Author Info
Jurgen von Hagen
Manfred J.M. Neumann

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Abstract

The impact of aggregate nominal and real shocks on the variance of relative prices is studied in the case of an open economy with fixed exchange rates where agents have limited information about aggregate shocks and the price level. In the first part of the paper it is shown that the limited information problem causes an excess variance of relative prices. Increasing the variance of all aggregate shocks lowers the quality of the information conveyed by the domestic price level. The second part of the paper compares fixed and flexible exchange rate regimes under a variance of relative prices criterion. Conditions for the superiority of either regime are identified.

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Paper provided by Federal Reserve Bank of St. Louis in its series Working Papers with number 1987-001.

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Date of creation: 1987
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Handle: RePEc:fip:fedlwp:1987-001

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Keywords: Foreign exchange rates ; Monetary policy;

References listed on IDEAS
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  1. King, Robert G., 1981. "Monetary information and monetary neutrality," Journal of Monetary Economics, Elsevier, vol. 7(2), pages 195-206. [Downloadable!] (restricted)
  2. Cukierman, Alex, 1983. "Relative price variability and inflation: A survey and further results," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 19(1), pages 103-157, January. [Downloadable!] (restricted)
  3. Neumann,Manfred & von Hagen,Juergen, 1987. "Relative price risk in an open economy with flexible exchange rates," Discussion Paper Serie A 97, University of Bonn, Germany.
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