nep-opm New Economics Papers
on Open MacroEconomics
Issue of 2012‒09‒03
ten papers chosen by
Martin Berka
Victoria University of Wellington

  1. Real Exchange Rate Variations, Nontraded Goods and Disaggregated CPI Data By Marco A. Hernandez Vega
  2. Adjustment patterns to commodity terms of trade shocks: the role of exchange rate and international reserves policies By Aizenman, Joshua; Edwards, Sebastian; Riera-Crichton, Daniel
  3. Credit Constraints and Growth in a Global Economy By Coeurdacier, Nicolas; Guibaud, Stéphane; Jin, Keyu
  4. Reserve Accumulation, Growth and Financial Crises By Gianluca Benigno; Luca Fornaro
  5. Financial Sector Ups and Downs and the Real Sector: Up by the Stairs and Down by the Parachute By Aizenman, Joshua; Pinto, Brian; Sushko, Vladyslav
  6. Asymmetric exchange rate pass-through in the Euro area: New evidence from smooth transition models By Ben Cheikh, Nidhaleddine
  7. The Financial Trilemma in China and a Comparative Analysis with India By Aizenman, Joshua; Sengupta, Rajeswari
  8. Nonlinear exchange rate pass-through in timber products: the case of oriented strand board in Canada and the United States By Goodwin, Barry K.; Holt, Matthew T.; Prestemon, Jeffrey P.
  9. Quality pricing-to-market By Raphael A. Auer; Thomas Chaney; Philip Sauré
  10. Is Monetary Policy in an Open Economy Fundamentally Different? By Tommaso Monacelli

  1. By: Marco A. Hernandez Vega
    Abstract: The behavior of the real exchange rate, measuring movements in the relative consumer price indexes between countries, remains a prominent puzzle in international macroeconomics. Two key theories of the real exchange rate differ in the role played by goods not traded internationally. On one hand, the theory of Balassa-Samuelson, on the other hand, models with sticky prices. This study provides new empirical evidence on nontraded goods importance in real exchange volatility by using more highly disaggregated data than used in previous literature on prices and trade between the U.S. and Mexico for the period 2002-2009. The main results suggest that the nontraded component accounts for between 69 and up to 84 percent of the real exchange rate volatility. In addition, the results show that the nontraded component is negatively correlated with the traded component despite both countries being in a flexible exchange rate regime contradicting previous literature. These results generally support the Balassa-Samuelson theory.
    Keywords: Real exchange rates, Relative prices.
    JEL: F31
    Date: 2012–08
  2. By: Aizenman, Joshua; Edwards, Sebastian; Riera-Crichton, Daniel
    Abstract: We analyze the way in which Latin American countries have adjusted to commodityterms of trade (CTOT) shocks in the 1970-2007 period. Specifically, we investigate the degreeto which the active management of international reserves and exchange rates impacted thetransmission of international price shocks to real exchange rates. We find that active reservemanagement not only lowers the short-run impact of CTOT shocks significantly, but alsoaffects the long-run adjustment of REER, effectively lowering its volatility. We also show thatrelatively small increases in the average holdings of reserves by Latin American economies (tolevels still well below other emerging regions current averages) would provide a policy tool aseffective as a fixed exchange rate regime in insulating the economy from CTOT shocks.Reserve management could be an effective alternative to fiscal or currency policies forrelatively trade closed countries and economies with relatively poor institutions or highgovernment debt. Finally, we analyze the effects of active use of reserve accumulation aimedat smoothing REERs. The result support the view that “leaning against the wind†is potent, butmore effective when intervening to support weak currencies rather than intervening to slowdown the pace of real appreciation. The active reserve management reduces substantiallyREER volatility.
    Keywords: Economics, Terms of trade, the real exchange rate, international reserves, commodity price shocks, volatility,, exchange rate regime
    Date: 2012–01–10
  3. By: Coeurdacier, Nicolas; Guibaud, Stéphane; Jin, Keyu
    Abstract: In a period of rapid integration and accelerated growth in emerging markets, three striking trends have been (1) a divergence in the private saving rates of emerging markets and advanced economies, (2) large net capital outflows from emerging markets, and (3) a sustained decline in the world interest rate. This paper shows that in a multi-period OLG model, the interaction between growth and household credit constraints --- more severe in emerging markets --- is able to account for all of the above facts. We provide micro-level evidence that corroborates our mechanism: saving behaviors across age groups in the U.S. and China are broadly supportive of the predictions of the model.
    Keywords: capital flows; credit constraints; Globalization; life-cycle household savings; saving and current account imbalances
    JEL: F21 F32 F41
    Date: 2012–08
  4. By: Gianluca Benigno; Luca Fornaro
    Abstract: We present a model that reproduces two salient facts characterizing the international monetary system: i) Faster growing countries are associated with lower net capital inflows and ii) Countries that grow faster accumulate more international reserves and receive more net private inflows. We study a two-sector, tradable and non-tradable, small open economy. There is a growth externality in the tradable sector and agents have imperfect access to international financial markets. By accumulating foreign reserves, the government induces a real exchange rate depreciation and a reallocation of production towards the tradable sector that boosts growth. Financial frictions generate imperfect substitutability between private and public debt flows so that private agents do not perfectly offset the government policy. The possibility of using reserves to provide liquidity during crises amplifies the positive impact of reserve accumulation on growth. We use the model to compare the laissez-faire equilibrium and the optimal reserve policy in an economy that is opening to international capital flows. We find that the optimal reserve management entails a fast rate of reserve accumulation, as well as higher growth and larger current account surpluses compared to the economy with no policy intervention. We also find that the welfare gains of reserve policy are large, in the order of 1 percent of permanent consumption equivalent.
    Keywords: foreign reserve accumulation, gross capital flows, growth, financial crises
    JEL: F31 F32 F41 F43
    Date: 2012–08
  5. By: Aizenman, Joshua; Pinto, Brian; Sushko, Vladyslav
    Abstract: This paper examines how financial expansion and contraction cycles affect the broader economy throughtheir impact on eight real economic sectors in a panel of 28 countries over 1960-2005, paying particularattention to large, or sharp, contractions and magnifying and mitigating factors. We find that abruptfinancial contractions are more likely to follow periods of accelerated growth, indicative of ‘up by thestairs, down by the parachute’ dynamics. Sharp fluctuations in the financial sector have asymmetriceffects, with the majority of real sectors adversely affected by contractions but not helped by expansions.The adverse effects of financial contractions are transmitted almost exclusively by the financial opennesschannel with foreign reserves mitigating these effects with a sizeable (10 to 15 times greater) impactduring sharp financial contractions. Both effects are magnified during particularly large financialcontractions (with coefficients on interaction terms two to three times greater than when all contractionsare considered). Consequent upon a financial contraction, the most severe real sector contractions occur incountries with high financial openness; relative predominance of construction, manufacturing, andwholesale and retail sectors; and low international reserves.
    Keywords: Economics, financial cycles, financial and trade openness, real transmission of financial shocks, reserves
    Date: 2012–05–10
  6. By: Ben Cheikh, Nidhaleddine
    Abstract: This paper examines the presence of asymmetric behavior in exchange rate pass-through (ERPT) to CPI inflation in 12 euro area (EA) countries. Using a class of nonlinear smooth transition models, we test for asymmetry with respect to the direction and the magnitude of exchange rate changes. On the one hand, we find only 5 out of 12 EA countries showing asymmetric pass-through to exchange rate appreciations and depreciations. Results are somewhat mixed with no clear evidence about the direction of asymmetry. On the other hand, we report strong evidence that ERPT responds asymmetrically to the size of exchange rate changes as a result of presence of menu costs. The degree of ERPT is found to be higher for large exchange rate changes than for small ones in 9 out of 12 EA countries. --
    Keywords: exchange rate pass-through,inflation,smooth transition regression models,euro area
    JEL: C22 E31 F31 F41
    Date: 2012
  7. By: Aizenman, Joshua; Sengupta, Rajeswari
    Abstract: A key challenge facing most emerging market economies today is how to simultaneouslymaintain monetary independence, exchange rate stability and financial integration subjectto the constraints imposed by the Trilemma, in an era of widespread globalization. In thispaper we overview and contrast the Trilemma policy choices and tradeoffs faced by thetwo key drivers of global economic growth-China and India. China’s Trilemmaconfigurations are unique relative to other emerging markets in the predominance ofexchange rate stability, and in the failure of the Trilemma regression to capture aconsistently significant role for financial integration. In contrast, the Trilemmaconfigurations of India are in line with choices made by other emerging countries. Indialike other emerging economies has overtime converged towards a middle ground betweenthe three policy objectives, and has achieved comparable levels of exchange rate stabilityand financial integration buffered by sizeable international reserves
    Keywords: Economics, Financial Trilemma, International reserves, Foreign exchange intervention, Monetary policy, Capital account openness
    Date: 2012–03–18
  8. By: Goodwin, Barry K.; Holt, Matthew T.; Prestemon, Jeffrey P.
    Abstract: We assess exchange rate pass–through (ERPT) for U.S. and Canadian prices for oriented strand board (OSB), a wood panel product used extensively in U.S. residential construction. Because of its prominence in construction and international trade, OSB markets are likely sensitive to general economic conditions. In keeping with recent research (e.g., Al-Abri and Goodwin, 2009; Larue et al., 2010), we examine regime–specific ERPT effects; we use a smooth transition vector error correction model. We also build on work by Nogueira, Jr. and Leon-Ledesma (2011) and Chew et al. (2011) in considering ERPT asymmetries associated with a measure of general macroeconomic activity. Our results indicate that during expansionary periods ERPT is modest, at least initially, but during the recent financial crises ERPT effects were quite large.
    Keywords: Exchange rate pass–through; oriented strand board; smooth transition model; unemployment
    JEL: E32 F10 F30
    Date: 2012–08–22
  9. By: Raphael A. Auer; Thomas Chaney; Philip Sauré
    Abstract: We document that in the European car industry, exchange rate pass-through is larger for low than for high quality cars. To rationalize this pattern, we develop a model of quality pricing and international trade based on the preferences of Mussa and Rosen (1978). Firms sell goods of heterogeneous quality to consumers that differ in their willingness to pay for quality. Each firm produces a unique quality of the good and enjoys local market power, which depends on the prices and qualities of its closest competitors. The market power of a firm depends on the prices and qualities of its direct competitors in the quality dimension. The top quality firm, being exposed to just one direct competitor, enjoys the highest market power and equilibrium markup. Because higher quality exporters are closer to the technological leader, markups are generally increasing in quality, exporting is relatively more profitable for high quality than for low quality firms, and the degree of exchange rate pass-through is decreasing in quality.
    Keywords: Price levels ; International trade
    Date: 2012
  10. By: Tommaso Monacelli
    Abstract: Openness per se requires optimal monetary policy to deviate from the canonical closed-economy principle of domestic price stability, even if domestic prices are the only ones to be sticky. I review this argument using a simple partial equilibrium analysis in an economy that trades in ?nal consumption goods. I then extend the standard open economy New Keynesian model to include imported inputs of production. Production openness strengthens even further the incentive for the policymaker to deviate from strict domestic price stability. With both consumption and production openness variations in the world price of food and in the world price of imported oil act as exogenous cost-push factors. Keywords: openness, trade, imported inputs, consumption imports, exchange rate, monetary policy. JEL Classi?cation Numbers: E52, F41.
    Date: 2012

This nep-opm issue is ©2012 by Martin Berka. It is provided as is without any express or implied warranty. It may be freely redistributed in whole or in part for any purpose. If distributed in part, please include this notice.
General information on the NEP project can be found at For comments please write to the director of NEP, Marco Novarese at <>. Put “NEP” in the subject, otherwise your mail may be rejected.
NEP’s infrastructure is sponsored by the School of Economics and Finance of Massey University in New Zealand.