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Country Size and the Transfer Effect

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  • Vahagn Galstyan

Abstract

This paper studies how country size affects the role of the exchange rate in external adjustment. First, the impact of country size on the sensitivity of relative prices to external imbalances is explored in a standard two-country neoclassical model. Second, at the empirical level, a significant effect of external imbalances on relative prices is found. In particular, a trade surplus is associated with a deteriorating terms of trade and a declining relative price of non-traded goods, feeding into a depreciation of the real exchange rate. Estimation for G3 and non-G3 sub-samples reveals a systematic pattern in the sensitivity of relative prices to external imbalances, with the transfer effect stronger in larger countries.

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Bibliographic Info

Paper provided by IIIS in its series The Institute for International Integration Studies Discussion Paper Series with number iiisdp204.

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Date of creation: 19 Feb 2007
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Handle: RePEc:iis:dispap:iiisdp204

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Keywords: External imbalances; Relative prices; Transfer effect; Country size;

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References

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  1. Jordi Galí, 2008. "Introduction to Monetary Policy, Inflation, and the Business Cycle: An Introduction to the New Keynesian Framework
    [Monetary Policy, Inflation, and the Business Cycle: An Introduction to the New Ke
    ," Introductory Chapters, Princeton University Press.
  2. Nelson C. Mark & Donggyu Sul, 2003. "Cointegration Vector Estimation by Panel DOLS and Long-run Money Demand," Oxford Bulletin of Economics and Statistics, Department of Economics, University of Oxford, vol. 65(5), pages 655-680, December.
  3. Vahagn Galstyan & Philip R. Lane, 2009. "The Composition of Government Spending and the Real Exchange Rate," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 41(6), pages 1233-1249, 09.
  4. Lane, Philip R. & Gian Maria Milesi-Ferretti, 2002. "External Wealth, the Trade Balance, and the Real Exchange Rate," Royal Economic Society Annual Conference 2002 119, Royal Economic Society.
  5. Benigno, Gianluca & Christoph Thoenissen, 2002. "Equilibrium Exchange Rates and Supply Side Performance," Royal Economic Society Annual Conference 2002 19, Royal Economic Society.
  6. Pesaran, M Hashem, 1997. "The Role of Economic Theory in Modelling the Long Run," Economic Journal, Royal Economic Society, vol. 107(440), pages 178-91, January.
  7. Vahagn Galstyan and Philip R. Lane, 2008. "Fiscal Policy and International Competitiveness: Evidence from Ireland," The Institute for International Integration Studies Discussion Paper Series iiisdp274, IIIS.
  8. Philip R. Lane & Gian Maria Milesi-Ferretti, 2000. "The Transfer Problem Revisited: Net Foreign Assets and Real Exchange Rates," Working Papers 062000, Hong Kong Institute for Monetary Research.
  9. Bela Balassa, 1964. "The Purchasing-Power Parity Doctrine: A Reappraisal," Journal of Political Economy, University of Chicago Press, vol. 72, pages 584.
  10. Maurice Obstfeld & Kenneth S. Rogoff, 1996. "Foundations of International Macroeconomics," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262150476, December.
  11. Warnock, Francis E., 2003. "Exchange rate dynamics and the welfare effects of monetary policy in a two-country model with home-product bias," Journal of International Money and Finance, Elsevier, vol. 22(3), pages 343-363, June.
  12. R. Dornbusch & S. Fischer & P. A. Samuelson, 1976. "Comparative Advantage, Trade and Payments in a Ricardian Model With a Continuum of Goods," Working papers 178, Massachusetts Institute of Technology (MIT), Department of Economics.
  13. Kenneth L. Judd, 1998. "Numerical Methods in Economics," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262100711, December.
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Cited by:
  1. Dimitris K. Christopoulos & Karine Gente & Miguel A. Leon-Ledesma, 2008. "Net Foreign Assets, Productivity and Real Exchange Rates in Constrained Economies," Discussion Papers 2008-17, School of Economics, The University of New South Wales.
  2. Galstyan, Vahagn & Lane, Philip R., 2009. "Fiscal Policy and International Competitiveness: Evidence from Ireland," The Economic and Social Review, Economic and Social Studies, vol. 40(3), pages 299–315.
  3. Vahagn Galstyan, 2011. "Productivities, Trade, and Relative Prices in a Ricardian World," The Institute for International Integration Studies Discussion Paper Series iiisdp359, IIIS.
  4. Vahagn Galstyan & Philip R. Lane, 2009. "The Composition of Government Spending and the Real Exchange Rate," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 41(6), pages 1233-1249, 09.
  5. Lars Calmfors & Giancarlo Corsetti & Michael P. Devereux & Gilles Saint-Paul & Hans-Werner Sinn & Jan-Egbert Sturm & Xavier Vives, 2008. "Chapter 2: How much real dollar depreciation is needed to correct global imbalances?," EEAG Report on the European Economy, CESifo Group Munich, vol. 0, pages 61-70, 02.
  6. Vahagn Galstyan & Philip R. Lane, 2008. "External Imbalances and the Extensive Margin of Trade," Economic Notes, Banca Monte dei Paschi di Siena SpA, vol. 37(3), pages 241-257, November.

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