Why Real Interest Rates, Cost of Capital and Price/Earnings Ratios Vary Across Countries
This paper examines how productivity changes affect real rates of return and price/earnings ratios in a small open economy. The model provides conditions under which increased productivity in a countryâ€™s traded goods sector causes prices of non-traded goods to increase relative to the price of traded goods. Under these conditions, real rates of interest decline and the production of certain non-traded durable goods (such as capital equipment and housing) immediately increase. This â€˜overconstructionâ€™ has two effects. First, the increase in capital relative to labor in these sectors increases the marginal product of labor and hence immediately causes an increase in wages and the prices of non-traded goods. Second, an â€˜oversupplyâ€™ of capital goods and housing depresses their rental rates in the current period, thereby increasing their price to rental ratios or equivalently, their price/earnings ratios.
|Date of creation:||01 Jan 1993|
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- Hsieh, David A., 1982. "The determination of the real exchange rate : The productivity approach," Journal of International Economics, Elsevier, vol. 12(3-4), pages 355-362, May.
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- French, Kenneth R. & Poterba, James M., 1991. "Were Japanese stock prices too high?," Journal of Financial Economics, Elsevier, vol. 29(2), pages 337-363, October.
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- Mussa, Michael, 1982. "A Model of Exchange Rate Dynamics," Journal of Political Economy, University of Chicago Press, vol. 90(1), pages 74-104, February.
- Uppal, Raman, 1993. " A General Equilibrium Model of International Portfolio Choice," Journal of Finance, American Finance Association, vol. 48(2), pages 529-553, June.
- Adler, Michael & Lehmann, Bruce, 1983. " Deviations from Purchasing Power Parity in the Long Run," Journal of Finance, American Finance Association, vol. 38(5), pages 1471-1487, December. Full references (including those not matched with items on IDEAS)
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