Purchasing Power Parity and New Trade Theory

Author/Editor:

Luca A Ricci ; Ronald MacDonald

Publication Date:

February 1, 2002

Electronic Access:

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Summary:

This paper theoretically derives and empirically tests the implications of a new trade theory framework for the systematic movements in the real exchange rate. It focuses on the effect of imperfect substitutability of tradables and on the importance of competitiveness, for which we construct an original proxy. Using a panel dynamic OLS estimation of nine bilateral US dollar real exchange rates, we derive long-run coefficients for relative productivity and competitiveness in the tradable and non-tradable sectors, controlling for standard macroeconomic variables. The implications of imperfect substitutability of tradables fit the data better than the standard neoclassical assumption of price equalization. Our new measure of competitiveness is statistically significant in explaining deviations from PPP.

Series:

Working Paper No. 2002/032

Subject:

Competition Financial markets Financial services Foreign exchange Labor Production Productivity Real exchange rates Real interest rates Wages

English

Publication Date:

February 1, 2002

ISBN/ISSN:

9781451845129/1018-5941

Stock No:

WPIEA0322002

Pages:

35

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