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Trends in European Productivity: Implications for Real Exchange Rates, Real Interest Rates and Inflation Differentials

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The price of home goods relative to traded goods has risen faster in countries like Belgium, Italy, and Spain than it has in Germany. The observed relative-price trends are in line with sectoral trends in relative labor productivity. A neoclassical model with marginal-cost pricing, long run labor mobility within each country, and long-run PPP in the traded sector can account for the observed trends. As long as the productivity trends continue, countries like Belgium, Italy and Spain will experience equilibrium real appreciations against Germany and will have lower equilibrium real interest rates compared to Germany. Convergence in national inflation rates would require nominal appreciations against the DM to avoid competitiveness problems. In a monetary union, the equilibrium real appreciations and real interest-rate differentials can only come out in inflation differentials. The implied inflation differentials are five to ten times larger than those implied by differences in productivity trends across US regions.

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Paper provided by Oesterreichische Nationalbank (Austrian Central Bank) in its series Working Papers with number 27.

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Date of creation: 06 Jun 1998
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Handle: RePEc:onb:oenbwp:27

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Cited by:
  1. Enrique Alberola & José Manuel Maqués, . "On the revelance and nature of regional inflation differentials: The case of Spain," Studies on the Spanish Economy 35, FEDEA.
  2. António Portugal Duarte, 2005. "Purchasing power parity: an empirical study of three EMU countries," International Trade 0505005, EconWPA.
  3. Mark, Nelson C. & Sonora, Robert & Cecchetti, Stephen, 1998. "Price Level Convergence Among United States Cities: Lessons for the European Central Bank," Working Papers 32, Oesterreichische Nationalbank (Austrian Central Bank).
  4. Just, Christian, 2004. "The International Financial Architecture: Official Proposals on Crisis Resolution," Monetary Policy & the Economy, Oesterreichische Nationalbank (Austrian Central Bank), issue 1, pages 73–89.
  5. John H. Rogers, 2002. "Monetary union, price level convergence, and inflation: how close is Europe to the United States?," International Finance Discussion Papers 740, Board of Governors of the Federal Reserve System (U.S.).
  6. Vladislav Flek & Lenka Marková & Jiøí Podpiera, 2003. "Sectoral Productivity and Real Exchange Rate Appreciation: Much Ado about Nothing?," Czech Journal of Economics and Finance (Finance a uver), Charles University Prague, Faculty of Social Sciences, vol. 53(3-4), pages 130-153, March.
  7. Alberola, Enrique & Tyrväinen, Timo, 1998. "Is There Scope for Inflation Differentials in EMU? An Empirical Evaluation of the Balassa-Samuelson Model in EMU Countries," Research Discussion Papers 15/1998, Bank of Finland.
  8. Nils Björksten, 2000. "Economic Catching up in the Enlarged Euro Area: Implications for the Common Monetary Policy," EUI-RSCAS Working Papers 52, European University Institute (EUI), Robert Schuman Centre of Advanced Studies (RSCAS).
  9. M. Katsimi, 2004. "Inflation divergence in the euro area: the Balassa-Samuelson effect," Applied Economics Letters, Taylor & Francis Journals, vol. 11(5), pages 329-332.
  10. Kirsten Lommatzsch & Silke Tober, 2004. "The Inflation Target of the ECB: Does the Balassa-Samuelson Effect Matter?," EUI-RSCAS Working Papers 19, European University Institute (EUI), Robert Schuman Centre of Advanced Studies (RSCAS).

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