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Do Sticky Prices Increase Real Exchange Rate Volatility at the Sector Level?

  • Mario J. Crucini

    ()

    (Department of Economics, Vanderbilt University)

  • Mototsugu Shintani

    ()

    (Department of Economics, Vanderbilt University)

  • Takayuki Tsuruga

    ()

    (Graduate School of Economics, Kyoto University)

We introduce the real exchange rate volatility curve as a useful device to understand the relationship between price stickiness and the fluctuations in Law of One Price deviations. In the presence of both nominal and real shocks, the theory predicts that the real exchange rate volatility curve is a U-shaped function of the degree of price stickiness. Using sector-level US-European real exchange rate data and frequency of price changes, we estimate the volatility curve and find the predominance of real effects over nominal effects. Good-by-good variance decompositions show that the relative contribution of nominal shocks is smaller at the sector level than what previous studies have found at the aggregate level. We conjecture that this is due to significant averaging out of good-specific real microeconomic shocks in the process of aggregation.

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Paper provided by Vanderbilt University Department of Economics in its series Vanderbilt University Department of Economics Working Papers with number 1120.

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Date of creation: Jun 2010
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Handle: RePEc:van:wpaper:1120
Contact details of provider: Web page: http://www.vanderbilt.edu/econ/wparchive/index.html

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  1. Laurent Baudry & Hervé Le Bihan & Patrick Sevestre & Sylvie Tarrieu, 2007. "What do Thirteen Million Price Records have to Say about Consumer Price Rigidity?," Oxford Bulletin of Economics and Statistics, Department of Economics, University of Oxford, vol. 69(2), pages 139-183, 04.
  2. John H. Rogers, 1998. "Monetary shocks and real exchange rates," International Finance Discussion Papers 612, Board of Governors of the Federal Reserve System (U.S.).
  3. Jón Steinsson, 2008. "The Dynamic Behavior of the Real Exchange Rate in Sticky Price Models," NBER Working Papers 13910, National Bureau of Economic Research, Inc.
  4. Alan C. Stockman, 1978. "A Theory of Exchange Rate Determination," UCLA Economics Working Papers 113, UCLA Department of Economics.
  5. Luis J. Álvarez & Ignacio Hernando, 2004. "Price setting behaviour in Spain: stylised facts using consumer price micro data," Banco de Espa�a Working Papers 0422, Banco de Espa�a.
  6. Josef Baumgartner & Ernst Glatzer & Fabio Rumler & Alfred Stiglbauer, 2005. "How Frequently Do Consumer Prices Change in Austria? Evidence from Micro CPI Data," Working Papers 101, Oesterreichische Nationalbank (Austrian Central Bank).
  7. V.V. Chari & Patrick J. Kehoe & Ellen R. McGrattan, 2002. "Can sticky price models generate volatile and persistent real exchange rates?," Staff Report 277, Federal Reserve Bank of Minneapolis.
  8. Clarida, Richard & Gali, Jordi, 1994. "Sources of real exchange-rate fluctuations: How important are nominal shocks?," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 41(1), pages 1-56, December.
  9. Carlos Carvalho & Fernanda Nechio, 2011. "Aggregation and the PPP Puzzle in a Sticky-Price Model," American Economic Review, American Economic Association, vol. 101(6), pages 2391-2424, October.
  10. Patrick J. Kehoe & Virgiliu Midrigan, 2007. "Sticky prices and sectoral real exchange rates," Working Papers 656, Federal Reserve Bank of Minneapolis.
  11. Mark Bils & Peter J. Klenow, 2004. "Some Evidence on the Importance of Sticky Prices," Journal of Political Economy, University of Chicago Press, vol. 112(5), pages 947-985, October.
  12. Christian Broda & David E. Weinstein, 2008. "Understanding International Price Differences Using Barcode Data," NBER Working Papers 14017, National Bureau of Economic Research, Inc.
  13. anonymous, 2004. "The macroeconomics of fiscal policy," Conference Series ; [Proceedings], Federal Reserve Bank of Boston, vol. 49(Jun).
  14. MarioJ. Crucini & Mototsugu Shintani & Takayuki Tsuruga, 2010. "The Law of One Price without the Border: The Role of Distance versus Sticky Prices," Economic Journal, Royal Economic Society, vol. 120(544), pages 462-480, 05.
  15. Alvarez, Luis J. & Hernando, Ignacio, 2006. "Price setting behaviour in Spain: Evidence from consumer price micro-data," Economic Modelling, Elsevier, vol. 23(4), pages 699-716, July.
  16. Paul R. Bergin & Reuven Glick & Jyh-Lin Wu, 2009. "The Micro-Macro Disconnect of Purchasing Power Parity," NBER Working Papers 15624, National Bureau of Economic Research, Inc.
  17. Luc Aucremanne & Emmanuel Dhyne, 2004. "How frequently do prices change? Evidence based on the micro data underlying the Belgian CPI," Working Paper Research 44, National Bank of Belgium.
  18. Mario J. Crucini & Christopher I. Telmer, 2012. "Microeconomic Sources of Real Exchange Rate Variability," NBER Working Papers 17978, National Bureau of Economic Research, Inc.
  19. Eichenbaum, Martin & Evans, Charles L, 1995. "Some Empirical Evidence on the Effects of Shocks to Monetary Policy on Exchange Rates," The Quarterly Journal of Economics, MIT Press, vol. 110(4), pages 975-1009, November.
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