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Explaining the border effect: the role of exchange rate variability, shipping costs, and geography

  • Parsley, David C.
  • Wei, Shang-Jin

This paper exploits a three-dimensional panel data set of prices on 27 traded goods, over 88 quarters, across 96 cities in the U.S. and Japan. We show that a simple average of good-level real exchange rates tracks the nominal exchange rate well, suggesting strong evidence of sticky prices. Focusing on dispersion in prices between city-pairs, we find that crossing the U.S.-Japan Border' is equivalent to adding as much as 43,000 trillion miles to the cross-country volatility of relative prices. We turn next to economic explanations for this so-called border effect and to its dynamics. Distance, unit-shipping costs, and exchange rate variability, collectively, explain a substantial portion of the observed international market segmentation. Relative wage variability, on the other hand, has little independent impact on segmentation.

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Article provided by Elsevier in its journal Journal of International Economics.

Volume (Year): 55 (2001)
Issue (Month): 1 (October)
Pages: 87-105

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Handle: RePEc:eee:inecon:v:55:y:2001:i:1:p:87-105
Contact details of provider: Web page: http://www.elsevier.com/locate/inca/505552

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  1. Frankel, Jeffrey A & Rose, Andrew K, 1995. "A Panel Project on Purchasing Power Parity: Mean Reversion Within and Between Countries," CEPR Discussion Papers 1128, C.E.P.R. Discussion Papers.
  2. Bela Balassa, 1964. "The Purchasing-Power Parity Doctrine: A Reappraisal," Journal of Political Economy, University of Chicago Press, vol. 72, pages 584.
  3. 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.
  4. David C. Parsley & Shang-Jin Wei, 2000. "Explaining the Border Effect: The Role of Exchange Rate Variability, Shipping Costs, and Geography," NBER Working Papers 7836, National Bureau of Economic Research, Inc.
  5. Engel, Charles, 1993. "Real exchange rates and relative prices : An empirical investigation," Journal of Monetary Economics, Elsevier, vol. 32(1), pages 35-50, August.
  6. Ken Froot & Kenneth Rogoff, . "Perspectives on PPP and Long-Run Real Exchange Rates," Working Paper 32027, Harvard University OpenScholar.
  7. David C. Parsley & Shang-Jin Wei, 1996. "Convergence to the Law of One Price Without Trade Barriers or Currency Fluctuations," NBER Working Papers 5654, National Bureau of Economic Research, Inc.
  8. Mario J. Crucini & Chris I. Telmer & Marios Zachariadis, 2000. "Dispersion in Real Exchange Rates," Vanderbilt University Department of Economics Working Papers 0013, Vanderbilt University Department of Economics.
  9. Shang-Jin Wei, 1996. "Intra-National versus International Trade: How Stubborn are Nations in Global Integration?," NBER Working Papers 5531, National Bureau of Economic Research, Inc.
  10. 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.
  11. Engel, Charles & Rogers, John H, 1996. "How Wide Is the Border?," American Economic Review, American Economic Association, vol. 86(5), pages 1112-25, December.
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