A new approach to tests of pricing-to-market
This study proposes a new approach to tests of pricing-to-market, which defines the responsiveness of export prices to currency movements. Pricing-to-market parameters may be susceptible to time variation, and we account for this in a novel theoretical and empirical contribution to the literature. We extend the benchmark model of pricing-to-market to account for instability in the relationship between export prices and exchange rates. Moreover, using an empirical methodology robust to parameter instability, we examine the forecasting performance of a pricing-to-market model. In doing so we apply a selection of model mis-specification tests robust to varying degrees of parameter evolution to recent aggregate and disaggregate UK export data. Our estimation results provide strong evidence of pricing-to-market and the instability in the response of export prices to exchange rate fluctuations.
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