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Exchange rates, money, and relative prices: The dollar-pound in the 1920s

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  • Clements, Kenneth W.
  • Frenkel, Jacob A.

Abstract

This paper applies the analytical framework of the monetary approach to exchange rate determination to the analysis of the Dollar/Pound exchange rate during the first part of the 1920's. The analysis uses monthly data up to the return of Britain to gold in 1925. The equilibrium exchange rate is shown to be influenced by both real and monetary factors which operate through their influence on the relative demands and supplies of monies. Special attention is given to examination of the relationship between exchange rates and the relative price of traded to non-traded goods. In the empirical work the prices of traded goods are proxied by the wholesale price indices and the prices of non-traded are proxied by wages. One of the key findings of the paper is the estimate of the elasticity of the exchange rate with respect to the relative price of traded to non-traded goods. This elasticity is estimated with high precision and is shown to be .415 which provides an independent measure of the relative share of spending on non-traded goods. This estimate is consistent with other estimates obtained in studies of expenditure shares. The paper concluded with a dynamic simulation which indicates the satisfactory quality of the predictive ability of the model.
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  • Clements, Kenneth W. & Frenkel, Jacob A., 1980. "Exchange rates, money, and relative prices: The dollar-pound in the 1920s," Journal of International Economics, Elsevier, vol. 10(2), pages 249-262, May.
  • Handle: RePEc:eee:inecon:v:10:y:1980:i:2:p:249-262
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    References listed on IDEAS

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    1. Kouri, Pentti J K, 1976. " The Exchange Rate and the Balance of Payments in the Short Run and in the Long Run: A Monetary Approach," Scandinavian Journal of Economics, Wiley Blackwell, vol. 78(2), pages 280-304.
    2. Bilson, John F O, 1978. "The Current Experience with Floating Exchange Rates: An Appraisal of the Monetary Approach," American Economic Review, American Economic Association, vol. 68(2), pages 392-397, May.
    3. Calvo, Guillermo A & Rodriguez, Carlos Alfredo, 1977. "A Model of Exchange Rate Determination under Currency Substitution and Rational Expectations," Journal of Political Economy, University of Chicago Press, vol. 85(3), pages 617-625, June.
    4. Clements, Kenneth W., 1978. "The demand for traded and non-traded goods in the U.S," Economics Letters, Elsevier, vol. 1(4), pages 361-364.
    5. Abel, Andrew & Dornbusch, Rudiger & Huizinga, John & Marcus, Alan, 1979. "Money demand during hyperinflation," Journal of Monetary Economics, Elsevier, vol. 5(1), pages 97-104, January.
    6. Rodriguez, Carlos Alfredo, 1976. "The Terms of Trade and the Balance of Payments in the Short Run," American Economic Review, American Economic Association, vol. 66(4), pages 710-716, September.
    7. Krugman, Paul R., 1978. "Purchasing power parity and exchange rates : Another look at the evidence," Journal of International Economics, Elsevier, vol. 8(3), pages 397-407, August.
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    Cited by:

    1. Bordo, Michael D., 1986. "Explorations in monetary history: A survey of the literature," Explorations in Economic History, Elsevier, vol. 23(4), pages 339-415, October.
    2. Égert, Balázs & Kočenda, Evžen, 2014. "The impact of macro news and central bank communication on emerging European forex markets," Economic Systems, Elsevier, vol. 38(1), pages 73-88.
    3. Hunter, John & Menla Ali, Faek, 2014. "Money demand instability and real exchange rate persistence in the monetary model of USD–JPY exchange rate," Economic Modelling, Elsevier, vol. 40(C), pages 42-51.
    4. Balázs Égert & Carol S. Leonard, 2006. "The Dutch Disease in Kazakhstan: An Empirical Investigation," Focus on European Economic Integration, Oesterreichische Nationalbank (Austrian Central Bank), issue 2, pages 85-108.
    5. Cheung, Yin-Wong & Chinn, Menzie D. & Pascual, Antonio Garcia, 2005. "Empirical exchange rate models of the nineties: Are any fit to survive?," Journal of International Money and Finance, Elsevier, vol. 24(7), pages 1150-1175, November.
    6. Ong, Li Lian, 1997. "Burgernomics: the economics of the Big Mac standard," Journal of International Money and Finance, Elsevier, vol. 16(6), pages 865-878, December.
    7. Wei Sun, "undated". "Why Do Floating Exchange Rates Float? Evidence From Capital Flows in a Structural VAR Model," EcoMod2006 272100092, EcoMod.
    8. Frenkel, Jacob A. & Mussa, Michael L., 1985. "Asset markets, exchange rates and the balance of payments," Handbook of International Economics,in: R. W. Jones & P. B. Kenen (ed.), Handbook of International Economics, edition 1, volume 2, chapter 14, pages 679-747 Elsevier.
    9. R. Scott Hacker & Hyunjoo Kim Karlsson & Kristofer Månsson, 2012. "The Relationship between Exchange Rates and Interest Rate Differentials: A Wavelet Approach," The World Economy, Wiley Blackwell, vol. 35(9), pages 1162-1185, September.
    10. Menzie D. Chinn, 2010. "Comment on "Can Parameter Instability Explain the Meese-Rogoff Puzzle?"," NBER Chapters,in: NBER International Seminar on Macroeconomics 2009, pages 174-179 National Bureau of Economic Research, Inc.
    11. Jesus Crespo Cuaresma & Jarko Fidrmuc & Maria Antoinette Silgoner, 2004. "Exchange Rate Developments and Fundamentals in Four EU Accession and Candidate Countries: Bulgaria, Croatia, Romania and Turkey," Focus on European Economic Integration, Oesterreichische Nationalbank (Austrian Central Bank), issue 2, pages 119-137.
    12. Gerlach, Stefan & Kugler, Peter, 2015. "Back to gold: Sterling in 1925," CFS Working Paper Series 515, Center for Financial Studies (CFS).
    13. M. Manzur, 1990. "Key Issues in Exchange Rate Economics," Economics Discussion / Working Papers 90-07, The University of Western Australia, Department of Economics.
    14. Kenneth Clements, 1981. "The monetary approach to exchange rate determination: A geometric analysis," Review of World Economics (Weltwirtschaftliches Archiv), Springer;Institut für Weltwirtschaft (Kiel Institute for the World Economy), vol. 117(1), pages 20-29, March.
    15. M. Manzur, 1988. "Purchasing Power Parity and Relative Price Variability: The missing link?," Economics Discussion / Working Papers 88-11, The University of Western Australia, Department of Economics.
    16. Chinn, Menzie David, 1997. "Paper pushers or paper money? Empirical assessment of fiscal and monetary models of exchange rate determination," Journal of Policy Modeling, Elsevier, vol. 19(1), pages 51-78, February.
    17. Gerlach, Stefan & Kugler, Peter, 2015. "Back to Gold: Sterling in 1925," CEPR Discussion Papers 10761, C.E.P.R. Discussion Papers.
    18. Jacqueline Dwyer & Philip Lowe, 1993. "Alternative Concepts of the Real Exchange Rate: A Reconciliation," RBA Research Discussion Papers rdp9309, Reserve Bank of Australia.
    19. Balazs Egert, 2012. "Nominal and Real Exchange Rate Models in South Africa: How Robust are they?," CESifo Working Paper Series 3853, CESifo Group Munich.
    20. Ndung'u, N.S., 1999. "Monetary and Exchange Rate Policy in Kenya," Papers 94, African Economic Research Consortium.
    21. Chinn, Menzie D. & Meese, Richard A., 1995. "Banking on currency forecasts: How predictable is change in money?," Journal of International Economics, Elsevier, vol. 38(1-2), pages 161-178, February.

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