Working Paper: CEPR ID: DP1464
Authors: Matthew B. Canzoneri; Robert E. Cumby; Behzad Diba
Abstract: The Balassa-Samuelson model, which explains real exchange rate movements in terms of sectoral productivities, rests on two components. First, the model implies that the relative price of non-traded goods in each country should reflect the relative productivity of labour in the traded and non-traded goods sectors. Second, the model assumes that purchasing power parity (PPP) holds for traded goods in the long run. We test each of these implications using data from a panel of OECD countries. Our results suggest that the first of these two fits the data quite well. The evidence on purchasing power parity in traded goods is considerably less favourable. When we look at US dollar exchange rates, PPP does not appear to hold for traded goods, even in the long run. When we look at Deutsche Mark exchange rates, PPP appears to be a somewhat better characterization of traded goods prices.
Keywords: real exchange rates
JEL Codes: F0; F3
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| relative price of nontraded goods (F16) | ratio of average labor productivity in traded and nontraded sectors (F16) |
| ratio of average labor productivity in traded and nontraded sectors (F16) | real exchange rates (F31) |
| purchasing power parity (PPP) does not hold for traded goods (F31) | real exchange rates (F31) |
| nominal exchange rates (F31) | purchasing power parity (PPP) exchange rates (F31) |