An experimental test of trade hysteresis: market exit and entry decisions in the presence of sunk costs and exchange rate uncertainty
AbstractIn the 1980's, the unresponsiveness of trade flows to exchange rate swings inspired models in which sunk costs in combination with exchange rate instability generate trade hysteresis, meaning that temporary exchange rate misalignments have a persistent effect on trade. This paper furnishes an empirical complement to the theoretical literature. First, it describes a computerised experiment in which 100 subjects generated over 1,000 decisions on market entry and exit under conditions congruent with a model of trade hysteresis developed by Paul Krugman. Secondly, this data is used to test the main predictions arising from the model. Our experiment bears out the main qualitative predictions of Krugman's model: in particular, that firms' trading policy is unresponsive to exchange rate movements over a wide range of values. Moreover, in the repeated-decision setting of the experiment, we find evidence that the stochastic behaviour of subjects' entry- and exit-price decisions tend towards consensus as they gain experience, even though they do not interact with one another during the experiment. This effect, which is not predicted in Krugman's model, supports the supposition that behaviour at the firm level in the presence of sunk costs and exchange rate uncertainty is a plausible microeconomic foundation for otherwise puzzling macroeconomic phenomena.
Download InfoTo our knowledge, this item is not available for download. To find whether it is available, there are three options:
1. Check below under "Related research" whether another version of this item is available online.
2. Check on the provider's web page whether it is in fact available.
3. Perform a search for a similarly titled item that would be available.
Bibliographic InfoPaper provided by Staffordshire University, Business School in its series Working Papers with number 002.
Date of creation:
Date of revision:
Contact details of provider:
Exchange rate instability; decision making under uncertainty; trade hysteresis;
Find related papers by JEL classification:
- C91 - Mathematical and Quantitative Methods - - Design of Experiments - - - Laboratory, Individual Behavior
- F31 - International Economics - - International Finance - - - Foreign Exchange
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Richard Baldwin, 1988. "Some Empirical Evidence on Hysteresis in Aggregate US Import Prices," NBER Working Papers 2483, National Bureau of Economic Research, Inc.
- Smith, Vernon L, 1982. "Microeconomic Systems as an Experimental Science," American Economic Review, American Economic Association, vol. 72(5), pages 923-55, December.
- Ansic, David & Keasey, Kevin, 1994. "Repeated decisions and attitudes to risk," Economics Letters, Elsevier, vol. 45(2), pages 185-189, June.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (WoPEc Project).
If references are entirely missing, you can add them using this form.