Working Paper: CEPR ID: DP16198
Authors: Adrien Auclert; Matthew Rognlie; Martin Souchier; Ludwig Straub
Abstract: Introducing heterogeneous households to a New Keynesian small open economy model amplifies the real income channel of exchange rates: the rise in import prices from a depreciation lowers households’ real incomes, and leads them to cut back on spending. When the sum of import and export elasticities is one, this channel is offset by a larger Keynesian multiplier, heterogeneity is irrelevant, and expenditure switching drives the output response. With plausibly lower short-term elasticities, however, the real income channel dominates, and depreciation can be contractionary for output. This weakens monetary transmission and creates a dilemma for policymakers facing capital outflows. Endogenous portfolios and delayed import price pass- through weaken the real income channel, while heterogeneous consumption baskets can strengthen it.
Keywords: No keywords provided
JEL Codes: E52; F32; F41
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| depreciation (D25) | higher import prices (F14) |
| higher import prices (F14) | lower households' real incomes (H31) |
| lower households' real incomes (H31) | reduced consumption (E21) |
| reduced consumption (E21) | contractionary effect on output (E62) |
| sum of import and export elasticities < 1 (F14) | real income channel dominates (E25) |
| real income channel dominates (E25) | contraction in output (E23) |
| delayed import price passthrough (F16) | weakens real income channel (E25) |
| heterogeneous consumption baskets (D11) | strengthens real income channel (G59) |