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U.S. Real Exchange Rate Fluctuations and Relative Price Fluctuations

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  • Caroline M. Betts
  • Timothy J. Kehoe

Abstract

This paper studies the relation between the United States’ bilateral real exchange rate and the associated bilateral relative price of nontraded goods for five of its most important trade relationships. Traditional theory attributes fluctuations in real exchange rates to changes in the relative price of nontraded goods. We find that this relation depends crucially on the choice of price series used to measure relative prices and on the choice of trade partner. The relation is stronger when we measure relative prices using producer prices rather than consumer prices. The relation is stronger the more important is the trade relationship between the United States and a trade partner. Even in cases where there is a strong relation between the real exchange rate and the relative price of nontraded goods, however, a large fraction of real exchange rate fluctuations is due to deviations from the law of one price for traded goods.

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File URL: http://www.usc.edu/dept/LAS/economics/IEPR/Working%20Papers/IEPR_05.16_%5BBetts,Kehoe%5D.pdf
File Function: First version, 2005
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Bibliographic Info

Paper provided by Institute of Economic Policy Research (IEPR) in its series IEPR Working Papers with number 05.16.

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Length: 52 pages
Date of creation: Mar 2005
Date of revision:
Handle: RePEc:scp:wpaper:05-16

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Keywords: Risk management; correlated defaults; credit loss distributions; heterogeneity; diversification;

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  1. Irving B. Kravis & Robert E. Lipsey, 1977. "Price Behavior in the Light of Balance of Payments Theories," NBER Working Papers 0181, National Bureau of Economic Research, Inc.
  2. Charles Engel & John H. Rogers, 1995. "How wide is the border?," International Finance Discussion Papers, Board of Governors of the Federal Reserve System (U.S.) 498, Board of Governors of the Federal Reserve System (U.S.).
  3. Charles Engel, 1995. "Accounting for U.S. Real Exchange Rate Changes," NBER Working Papers 5394, National Bureau of Economic Research, Inc.
  4. Mario J. Crucini & Chris I. Telmer & Marios Zachariadis, 2005. "Understanding European Real Exchange Rates," American Economic Review, American Economic Association, vol. 95(3), pages 724-738, June.
  5. Imbs, Jean & Mumtaz, Haroon & Ravn, Morten O. & Rey, Hélène, 2003. "PPP Strikes Back: Aggregation and the Real Exchange Rate," CEPR Discussion Papers 3715, C.E.P.R. Discussion Papers.
  6. Rebelo, S. & Vegh, C.A., 1995. "Real Effects of Exchange-Rate-Based Stabilization: An Analysis of Competing Theories," RCER Working Papers 405, University of Rochester - Center for Economic Research (RCER).
  7. Charles Engel, 1992. "Real Exchange Rates and Relative Prices: An Empirical Investigation," NBER Working Papers 4231, National Bureau of Economic Research, Inc.
  8. V.V. Chari & Patrick J. Kehoe & Ellen R. McGrattan, 1998. "Can sticky price models generate volatile and persistent real exchange rates?," Staff Report, Federal Reserve Bank of Minneapolis 223, Federal Reserve Bank of Minneapolis.
  9. Bela Balassa, 1964. "The Purchasing-Power Parity Doctrine: A Reappraisal," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 72, pages 584.
  10. Caroline M. Betts & Timothy J. Kehoe, 2008. "Real Exchange Rate Movements and the Relative Price of Non-traded Goods," NBER Working Papers 14437, National Bureau of Economic Research, Inc.
  11. Maurice Obstfeld., 2001. "International Macroeconomics: Beyond the Mundell-Fleming Model," Center for International and Development Economics Research (CIDER) Working Papers, University of California at Berkeley C01-121, University of California at Berkeley.
  12. Burstein, Ariel Tomas & Eichenbaum, Martin & Rebelo, Sérgio, 2002. "Why Are Rates of Inflation So Low After large Devaluations," CEPR Discussion Papers 3178, C.E.P.R. Discussion Papers.
  13. Lapham, Beverly J., 1995. "A dynamic general equilibrium analysis of deviations from the laws of one price," Journal of Economic Dynamics and Control, Elsevier, Elsevier, vol. 19(8), pages 1355-1389, November.
  14. de Cordoba, Gonzalo Fernandez & Kehoe, Timothy J., 2000. "Capital flows and real exchange rate fluctuations following Spain's entry into the European Community," Journal of International Economics, Elsevier, vol. 51(1), pages 49-78, June.
  15. Stockman, Alan C & Tesar, Linda L, 1995. "Tastes and Technology in a Two-Country Model of the Business Cycle: Explaining International Comovements," American Economic Review, American Economic Association, vol. 85(1), pages 168-85, March.
  16. Rogers, J.H. & Jenkins, M.A., 1993. "Haircuts or Hysteresis? Sources of Movements in Real Exchange Rates," Papers, Pennsylvania State - Department of Economics 4-93-6, Pennsylvania State - Department of Economics.
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  1. Is Inflation in Argentina Above 100%?
    by Nicolas Cachanosky in Punto de Vista Economico on 2013-04-25 03:10:38
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