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Openness, the Phillips Curve and the Cost of Relinquishing the Currency

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Author Info
Frank Barry (University College Dublin)
Abstract

For a given degree of wage stickiness, there is an inverse relationship between the price-level and employment effects of a nominal shock. Various contributors to the literature on optimal currency areas have extrapolated from this to argue that the real effects of exchange rate changes are smaller for more open economies, reducing the effectiveness of the exchange rate as a macroeconomic instrument. This would imply that more open economies face steeper Phillips curve trade-offs. This proposition has been challenged empirically however. This paper employs standard small-open-economy models to analyse these issues. The propositions are shown to be correct when the non-traded sector is monopolistically competitive. Whether they are true or false under competitive conditions depends on a simple condition that may or may not be satisfied in practice.

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File URL: http://www.ucd.ie/economics/research/papers/2001/WP01.05.pdf
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File Function: First version, 2001
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Publisher Info
Paper provided by School Of Economics, University College Dublin in its series Working Papers with number 200105.

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Length: 23 pages
Date of creation: 10 Mar 2001
Date of revision:
Handle: RePEc:ucn:wpaper:200105

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Related research
Keywords: Openness; Phillips curve; Optimal currency area;

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Find related papers by JEL classification:
F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics

References listed on IDEAS
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  1. Barry, Frank, 1998. "Exchange Rate Policy When the Labour Market Exhibits Hysteresis," The Manchester School of Economic & Social Studies, Blackwell Publishing, vol. 66(5), pages 532-49, December.
  2. Obstfeld, Maurice, 1998. " Open-Economy Macroeconomics: Developments in Theory and Policy," Scandinavian Journal of Economics, Blackwell Publishing, vol. 100(1), pages 247-75, March. [Downloadable!] (restricted)
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  3. Horn, Henrik & Persson, Torsten, 1988. "Exchange rate policy, wage formation and credibility," European Economic Review, Elsevier, vol. 32(8), pages 1621-1636, October. [Downloadable!] (restricted)
  4. Helpman, Elhanan, 1976. "Macroeconomic Policy in a Model of International Trade with a Wage Restriction," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 17(2), pages 262-77, June. [Downloadable!] (restricted)
  5. Obstfeld, Maurice & Rogoff, Kenneth, 1995. "Exchange Rate Dynamics Redux," Journal of Political Economy, University of Chicago Press, vol. 103(3), pages 624-60, June. [Downloadable!] (restricted)
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  6. Calmfors, Lars, 1993. "Lessons from the macroeconomic experience of Sweden," European Journal of Political Economy, Elsevier, vol. 9(1), pages 25-72, March. [Downloadable!] (restricted)
  7. Martin Prachowny, 1981. "Macroeconomic Analysis for Small Open Economies," Working Papers 445, Queen's University, Department of Economics.
  8. Dixon, H.D., 1992. "Imperfect Competition and Open Economy Macroeconomics," Economics Working Papers 1993-1, School of Economics and Management, University of Aarhus.
  9. Lane, Philip R., 1997. "Inflation in open economies," Journal of International Economics, Elsevier, vol. 42(3-4), pages 327-347, May. [Downloadable!] (restricted)
  10. Romer, David, 1993. "Openness and Inflation: Theory and Evidence," The Quarterly Journal of Economics, MIT Press, vol. 108(4), pages 869-903, November. [Downloadable!] (restricted)
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  11. Lawrence, Colin & Spiller, Pablo T, 1983. "Product Diversity, Economies of Scale, and International Trade," The Quarterly Journal of Economics, MIT Press, vol. 98(1), pages 63-83, February. [Downloadable!] (restricted)
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