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Exchange Rate Pass-Through: A Competitive Search Approach

Author

Listed:
  • Beverly Lapham
  • Ayman Mnasri

    (Qatar University)

Abstract

We develop an open economy monetary model with heterogeneous households which is characterized by incomplete pass-through of exchange rate movements to import prices. Partial pass-through arises in our environment due to the presence of competitive search in international goods' markets. Under competitive search, agents choose a sub-market in which to exchange goods, where different sub-markets are characterized by different price and trading probability combinations. Preference and policy shocks which induce exchange rate movements cause households to choose a different sub-market for their purchases of traded goods--an extensive margin response. These responses mitigate the direct effect of nominal exchange rate changes on equilibrium traded goods' prices, thereby generating incomplete exchange rate pass-through to goods' prices. In the calibrated model, exchange rate pass-through due to foreign shocks ranges between 19% and 62%, which is in the range of import price pass-through estimates for developed economies. Due to risk aversion by households, the magnitude of pass-through depends on the size and direction of the initial shock, making the model consistent with the observed phenomenon of asymmetric pass-through. Importantly, by incorporating household heterogeneity, we are able to examine the role of precautionary savings in affecting pass-through, characterize how pass-through varies across different types of households, and examine the distributional effects of exchange rate movements.

Suggested Citation

  • Beverly Lapham & Ayman Mnasri, 2019. "Exchange Rate Pass-Through: A Competitive Search Approach," Working Paper 1418, Economics Department, Queen's University.
  • Handle: RePEc:qed:wpaper:1418
    as

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    File URL: https://www.econ.queensu.ca/sites/econ.queensu.ca/files/wpaper/qed_wp_1418.pdf
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    References listed on IDEAS

    as
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    1. Exchange Rate Pass-Through: A Competitive Search Approach
      by Christian Zimmermann in NEP-DGE blog on 2019-09-22 22:01:28

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    More about this item

    Keywords

    Exchange Rate Pass-Through; Competitive Search; Monetary Policy;
    All these keywords.

    JEL classification:

    • F31 - International Economics - - International Finance - - - Foreign Exchange
    • O24 - Economic Development, Innovation, Technological Change, and Growth - - Development Planning and Policy - - - Trade Policy; Factor Movement; Foreign Exchange Policy
    • E58 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Central Banks and Their Policies

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