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Europe Without Borders? The Effect of the EMU on Relative Prices

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  • Hisham Foad

    ()
    (Department of Economics, San Diego State University)

Abstract

Has the formation of the European Monetary Union reduced the impact of national borders on cross-border market convergence? This paper extends Engel and Rogers (1996) well known work on border effects to cities across Western Europe over the period 1995 oe 2002 and finds two key results. First, cross-border relative prices tend to be more volatile than prices between locations not separated by a border. This result is robust to a variety of potential explanations for border effects, such as uneven sampling bias, idiosyncratic price shocks, and incomplete exchange rate-pass through. Turning our attention to cross-border price volatility before and after the formation of the EMU, the effects vary by country size. Within the EMU, cross-border price volatility has not changed between the —small“ countries, but has fallen significantly between the large EMU countries. Between the EMU and the UK, cross-border volatility has increased between the UK and the small EMU countries, but there has been no significant change between the UK and the large EMU countries. These results are consistent with the fact that exchange rates are more likely to adjust to price differentials between small countries than between large countries.

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File URL: http://www-rohan.sdsu.edu/dept/econ/WPSeries/07_01.pdf
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Bibliographic Info

Paper provided by San Diego State University, Department of Economics in its series Working Papers with number 0017.

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Length: 33 pages
Date of creation: Mar 2005
Date of revision:
Handle: RePEc:sds:wpaper:0017

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  1. Giovannini, Alberto, 1988. "Exchange rates and traded goods prices," Journal of International Economics, Elsevier, vol. 24(1-2), pages 45-68, February.
  2. Charles Engel & John H. Rogers, 1994. "How Wide is the Border?," NBER Working Papers 4829, National Bureau of Economic Research, Inc.
  3. McCallum, John, 1995. "National Borders Matter: Canada-U.S. Regional Trade Patterns," American Economic Review, American Economic Association, vol. 85(3), pages 615-23, June.
  4. John H. Rogers, 2001. "Price level convergence, relative prices, and inflation in Europe," International Finance Discussion Papers 699, Board of Governors of the Federal Reserve System (U.S.).
  5. Charles Engle & John Rogers, 1998. "Relative price volatility: what role does the border play?," International Finance Discussion Papers 623, Board of Governors of the Federal Reserve System (U.S.).
  6. Davis, D.R., 1997. "The Home Market, Trade, and Industrial Structure," Papers 597, Harvard - Institute for International Development.
  7. Isard, Peter, 1977. "How Far Can We Push the "Law of One Price"?," American Economic Review, American Economic Association, vol. 67(5), pages 942-48, December.
  8. Jenkins, Michael A, 1997. "Cities, Borders, Distances, Non-traded Goods and Purchasing Power Parity," Oxford Bulletin of Economics and Statistics, Department of Economics, University of Oxford, vol. 59(2), pages 203-13, May.
  9. Rogers, John H. & Jenkins, Michael, 1995. "Haircuts or hysteresis? Sources of movements in real exchange rates," Journal of International Economics, Elsevier, vol. 38(3-4), pages 339-360, May.
  10. Graham Elliott & Thomas J. Rothenberg & James H. Stock, 1992. "Efficient Tests for an Autoregressive Unit Root," NBER Technical Working Papers 0130, National Bureau of Economic Research, Inc.
  11. Bergstrand, Jeffrey H, 1985. "The Gravity Equation in International Trade: Some Microeconomic Foundations and Empirical Evidence," The Review of Economics and Statistics, MIT Press, vol. 67(3), pages 474-81, August.
  12. Pesavento, Elena, 2004. "Analytical evaluation of the power of tests for the absence of cointegration," Journal of Econometrics, Elsevier, vol. 122(2), pages 349-384, October.
  13. Taylor, Alan M, 2001. "Potential Pitfalls for the Purchasing-Power-Parity Puzzle? Sampling and Specification Biases in Mean-Reversion Tests of the Law of One Price," Econometrica, Econometric Society, vol. 69(2), pages 473-98, March.
  14. Engel, Charles & Rogers, John H., 2001. "Deviations from purchasing power parity: causes and welfare costs," Journal of International Economics, Elsevier, vol. 55(1), pages 29-57, October.
  15. Michael Devereux & Charles Engel & Cedric Tille, 1999. "Exchange-Rate Pass-Through and the Welfare Effects of the Euro," Working Papers 0034, University of Washington, Department of Economics.
  16. Knetter, Michael M, 1989. "Price Discrimination by U.S. and German Exporters," American Economic Review, American Economic Association, vol. 79(1), pages 198-210, March.
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Cited by:
  1. Peter Huber & Michael Pfaffermayr & Yvonne Wolfmayr, 2006. "Are there Border Effects in the EU Wage Function?," CESifo Working Paper Series 1880, CESifo Group Munich.
  2. Sascha S. Becker, 2011. "What Drives the Relationship Between Inflation and Price Dispersion? Market Power vs. Price Rigidity," SFB 649 Discussion Papers SFB649DP2011-019, Sonderforschungsbereich 649, Humboldt University, Berlin, Germany.
  3. Andrén, Niclas & Oxelheim, Lars, 2006. "Producer Prices in the Transition to a Common Currency," Working Paper Series 668, Research Institute of Industrial Economics.

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