Working Paper: NBER ID: w1769
Authors: Rudiger Dornbusch
Abstract: The appreciation of the U.S. dollar over the past five years opens important areas of research. The fact of a large and persistent real appreciation poses a challenge for equilibrium theorists to uncover the change in fundamentals and seems to support the role of long-term wage contracts in macroeconomic adjustment. This paper adopts the perspective of given wages and investigates in a partial equilibrium setting the determinants of relative price changes of different groups of goods. Specifically it advances hypotheses about those sectors where an exchange rate change should lead to large relative price changes and others where the relative price effects should be negligible.The general idea is to draw an models of industrial organization to explain price adjustments in terms of the degree of market concentration, the extent of product homogeneity and substitutability, and the relative market shares of domestic and foreign firms. The exchange rate movement and the less than fully flexible money wage interact to produce a cost shock for some firms in an industry -- foreign firms in the home market and home firms abroad -- and thus bring about the need for an industry-wide adjustment in prices.
Keywords: exchange rates; prices; macroeconomics
JEL Codes: F31; F41
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Exchange rate appreciation (F31) | cost shocks for firms (D22) |
| cost shocks for firms (D22) | necessary adjustments in industry prices (L11) |
| Exchange rate appreciation (F31) | relative prices across different sectors (P22) |
| Exchange rate changes (F31) | significant price adjustments in some sectors (L16) |
| Exchange rate changes (F31) | negligible effects in others (F69) |