Rising exchange rates strengthen the dollar and lower prices on imported consumer goods. Lower import prices have two effects. (1) A substitution effect that shifts demand from domestically produced goods to imports. (2) An income effect that increases demand for imports even further. However, it also allows some income previously spent on imports, but no longer needed due to lower import prices, to be shifted to purchases of domestic goods. This paper finds that for the U.S., 1960 - 2000, the income effect overwhelmed the substitution effect. As a result, econometric results suggest declining import prices increased both import demand and demand for domestically produced consumer goods. The estimated increase in demand for domestically produced consumer goods and services was 3.4 times as large as the increase in demand for consumer imports. Also, because of the large increase in GDP resulting from growth in domestic demand, the trade deficit grew slower than domestic output of consumer goods. This finding suggests that while the trade deficit grows as a result of a strengthening dollar, the increase, as a percent of U.S. GDP, is small, about four tenths of a percent for a ten percent strengthening of the dollar.
Download Info
To download:
If you experience problems downloading a file, check if you have the
proper application to
view it first. Information about this may be contained
in the File-Format links below. In case of further problems read
the IDEAS help
file. Note that these files are not on the IDEAS
site. Please be patient as the files may be large.
For technical questions regarding this item, or to correct its listing, contact: (John Heim).
Related research
Keywords:
Find related papers by JEL classification: E00 - Macroeconomics and Monetary Economics - - General - - - General F40 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - General
This paper has been announced in the following NEP Reports: