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Productivities, Trade, and Relative Prices in a Ricardian World

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  • Vahagn Galstyan

    ()
    (Institute for International Integration Studies, Trinity College Dublin)

Abstract

In an extended Ricardian model of trade, we study the effects of improving trade deficits on relative prices, and the relation between growth rates and real exchange rates. An improvement in the trade balance induces relative wages to overshoot their long-run value, placing downward pressure on the terms of trade of the same order of magnitude found in Armington type models. Once the pattern of specialization changes, some of the decline is reversed with a smaller value of long-run depreciation. We find that divergent growth rates do not cause distinct trends in the terms of trade. The result depends on the size of the non-tradable sector and the variability of industry-specific efficiencies. We also find that self-selection into export markets causes the relative price of non-traded goods to respond to demand re-balancing, giving birth to an endogenous Balassa-Samuelson effect. The model also suggests that in the long-run the stochastic variation of the real exchange rate is dominated by the volatility of the terms of trade.

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Bibliographic Info

Paper provided by IIIS in its series The Institute for International Integration Studies Discussion Paper Series with number iiisdp359.

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Length: 28 pages
Date of creation: 28 Feb 2011
Date of revision:
Handle: RePEc:iis:dispap:iiisdp359

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Related research

Keywords: Trade re-balancing; Relative prices; Ricardian trade; Growth;

References

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  1. David Weinstein & Christian Broda, 2004. "Globalization and the Gains from Variety," 2004 Meeting Papers 530, Society for Economic Dynamics.
  2. Acemoglu, Daron & Ventura, Jaume, 2001. "The World Income Distribution," CEPR Discussion Papers 2973, C.E.P.R. Discussion Papers.
  3. Corsetti, Giancarlo & Martin, Philippe & Pesenti, Paolo, 2013. "Varieties and the transfer problem," Journal of International Economics, Elsevier, vol. 89(1), pages 1-12.
  4. Fabio Ghironi & Marc J. Melitz, 2005. "International Trade and Macroeconomic Dynamics with Heterogeneous Firms," The Quarterly Journal of Economics, MIT Press, vol. 120(3), pages 865-915, August.
  5. 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.
  6. Vahagn Galstyan and Philip R. Lane, 2008. "External Imbalances and the Extensive Margin of Trade," The Institute for International Integration Studies Discussion Paper Series iiisdp259, IIIS.
  7. Paul R. Bergin, 2004. "How Well Can the New Open Economy Macroeconomics Explain the Exchange Rate and Current Account?," NBER Working Papers 10356, National Bureau of Economic Research, Inc.
  8. Gianluca Benigno & Christoph Thoenissen, 2003. "Equilibrium Exchange Rates and Supply-Side Performance," Economic Journal, Royal Economic Society, vol. 113(486), pages C103-C124, March.
  9. International Monetary Fund, 2005. "New Rates from New Weights," IMF Working Papers 05/99, International Monetary Fund.
  10. Vahagn Galstyan, 2007. "Country Size and the Transfer Effect," The Institute for International Integration Studies Discussion Paper Series iiisdp204, IIIS.
  11. Carlin, Wendy & Soskice, David, 2005. "Macroeconomics: Imperfections, Institutions, and Policies," OUP Catalogue, Oxford University Press, number 9780198776222.
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Cited by:
  1. Vahagn Galstyan, 2011. "Terms of Trade in the Medium-run," The Institute for International Integration Studies Discussion Paper Series iiisdp382, IIIS.

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