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Exchange Rate Pass-Through and the Welfare Effects of the Euro

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  • Michael B. Devereux
  • Charles Engel
  • Cedric Tille

Abstract

This paper explores the implications of the European single currency within a simple sticky price intertemporal model. The main issue we focus on is how the euro may alter the responsiveness of consumer prices to exchange rate changes. Our central conjectures is that the acceptance of the euro will lead European prices to become more insulated from exchange-rate volatility, much the way U.S. consumer prices already are. We show that this has profound consequences for both the volatility and levels of macroeconomic aggregates in both the U.S. and Europe. We find that European welfare is enhanced, and, more surprisingly U.S. shares in Europe's good fortune. Alternative assumptions about how pricing behavior will change lead to different conclusions, but in all cases we can derive specific implications for expected levels and volatility of macroeconomic varialbes.

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Bibliographic Info

Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 7382.

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Date of creation: Oct 1999
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Publication status: published as Devereux, Michael B., Charles Engel and Cedric Tille. "Exchange Rate Pass-Through And The Welfare Effects Of The Euro," International Economic Review, 2003, v44(1,Feb), 223-242.
Handle: RePEc:nbr:nberwo:7382

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  1. Kenneth Rogoff, 1996. "The Purchasing Power Parity Puzzle," Journal of Economic Literature, American Economic Association, American Economic Association, vol. 34(2), pages 647-668, June.
  2. Maurice Obstfeld and Giovanni Peri., 1998. "Regional Nonadjustment and Fiscal Policy: Lessons for EMU," Center for International and Development Economics Research (CIDER) Working Papers, University of California at Berkeley C98-096, University of California at Berkeley.
  3. Helpman, Elhanan, 1981. "An Exploration in the Theory of Exchange-Rate Regimes," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 89(5), pages 865-90, October.
  4. Maurice Obstfeld and Kenneth Rogoff., 1999. "New Directions for Stochastic Open Economy Models," Center for International and Development Economics Research (CIDER) Working Papers, University of California at Berkeley C99-107, University of California at Berkeley.
  5. G Alogoskoufis & R Portes & H Rey, 1998. "The Emergence of the Euro as an International Currency," CEP Discussion Papers, Centre for Economic Performance, LSE dp0388, Centre for Economic Performance, LSE.
  6. Giancarlo Corsetti & Paolo Pesenti, 2001. "Welfare And Macroeconomic Interdependence," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 116(2), pages 421-445, May.
  7. Maurice Obstfeld & Kenneth Rogoff, 1998. "Risk and Exchange Rates," NBER Working Papers 6694, National Bureau of Economic Research, Inc.
  8. Tamim Bayoumi & Barry Eichengreen, 1992. "Shocking Aspects of European Monetary Unification," NBER Working Papers 3949, National Bureau of Economic Research, Inc.
  9. Eichengreen, Barry, 1990. "Is Europe an Optimum Currency Area?," Department of Economics, Working Paper Series, Department of Economics, Institute for Business and Economic Research, UC Berkeley qt40m5g6pp, Department of Economics, Institute for Business and Economic Research, UC Berkeley.
  10. Philippe Bacchetta & Eric van Wincoop, 1998. "Does exchange rate stability increase trade and capital flows?," Research Paper, Federal Reserve Bank of New York 9818, Federal Reserve Bank of New York.
  11. Engel, C. & Rogers, J.H., 1995. "How Wide is the Border?," Papers, Pennsylvania State - Department of Economics 4-95-16, Pennsylvania State - Department of Economics.
  12. Michael B. Devereux & Charles Engel, 1998. "Fixed vs. Floating Exchange Rates: How Price Setting Affects the Optimal Choice of Exchange-Rate Regime," NBER Working Papers 6867, National Bureau of Economic Research, Inc.
  13. Haskel, Jonathan & Wolf, Holger C, 1999. "Why Does the 'Law of One Price' Fail? A Case Study," CEPR Discussion Papers, C.E.P.R. Discussion Papers 2187, C.E.P.R. Discussion Papers.
  14. Giovannini, Alberto, 1988. "Exchange rates and traded goods prices," Journal of International Economics, Elsevier, Elsevier, vol. 24(1-2), pages 45-68, February.
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