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Optimal Exchange-Rate Policy in a Model of Local-Currency Pricing with Vertical Production and Trade

Author

Listed:
  • Liutang Gong

    (Peking University)

  • Chan Wang

    (Peking University)

  • Heng-fu Zou

    (Central University of Finance and Economics
    Wuhan University
    Shenzhen University)

Abstract

In this paper, we examine optimal exchange-rate flexibility in a model of local-currency pricing with vertical production and trade. Following a large body of empirical evidence, we assume that final-goods prices are sticky, but intermediate-goods prices are flexible. We find that, unlike what is found in the literature, optimal nominal exchange rate is flexible under local-currency pricing. The key element in deriving our conclusion is the difference in expenditure shares between home and foreign households. The conclusion holds even if the degrees of home bias in production are identical between home and foreign final-goods producers, which contrasts with the findings in the literature.

Suggested Citation

  • Liutang Gong & Chan Wang & Heng-fu Zou, 2017. "Optimal Exchange-Rate Policy in a Model of Local-Currency Pricing with Vertical Production and Trade," Open Economies Review, Springer, vol. 28(1), pages 125-147, February.
    • Handle: RePEc:kap:openec:v:28:y:2017:i:1:d:10.1007_s11079-016-9415-y
    DOI: 10.1007/s11079-016-9415-y
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    Cited by:

    1. Gong Liutang & Wang Chan & Zou Heng-Fu, 2020. "Optimal monetary policy in a model of vertical production and trade with reference currency," The B.E. Journal of Macroeconomics, De Gruyter, vol. 20(1), pages 1-21, January.
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    3. Liutang Gong & Chan Wang & Heng-fu Zou, 2017. "Optimal Exchange-Rate Policy in a Model of Local-Currency Pricing with Vertical Production and Trade," Open Economies Review, Springer, vol. 28(1), pages 125-147, February.
    4. William D. Craighead, 2020. "Intermediate Goods and Exchange Rate Disconnect," Open Economies Review, Springer, vol. 31(1), pages 113-129, February.

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    More about this item

    Keywords

    Optimal monetary policy; Local-currency pricing; Vertical production and trade; Exchange-rate policy;
    All these keywords.

    JEL classification:

    • E5 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit
    • F3 - International Economics - - International Finance
    • F4 - International Economics - - Macroeconomic Aspects of International Trade and Finance

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