Hostname: page-component-848d4c4894-2xdlg Total loading time: 0 Render date: 2024-06-21T11:04:13.608Z Has data issue: false hasContentIssue false
  • English
  • Français

INVESTMENT AND REAL EXCHANGE RATES IN STICKY PRICE MODELS

Published online by Cambridge University Press:  25 May 2012

Enrique Martínez-García  and
Jens Søndergaard
Enrique Martínez-García*
Affiliation:
Federal Reserve Bank of Dallas
Jens Søndergaard
Affiliation:
Nomura International plc
*
Address correspondence to: Enrique Martínez-García, Federal Reserve Bank of Dallas, 2200 N. Pearl Street, Dallas, TX 75201, USA; e-mail: enrique.martinez-garcia@dal.frb.org; URL: http://dallasfed.org/research/bios/martinez-garcia.html.
Get access Rights & Permissions [Opens in a new window]

Abstract

This paper investigates how the inclusion of capital in the workhorse new open economy macro model affects its ability to generate volatile and persistent real exchange rates. We show that capital accumulation facilitates intertemporal consumption smoothing and significantly reduces the volatility of the real exchange rate. Nonetheless, monetary and investment-specific technology (IST) shocks still induce more real exchange rate volatility and less consumption comovement than productivity shocks (with or without capital). We find that endogenous persistence is particularly sensitive to the inertia of the monetary policy rule even with persistent exogenous shocks. However, irrespective of whether capital is present, productivity and IST shocks trigger highly persistent real exchange rates, whereas monetary shocks do not. Moreover, we point out that IST shocks tend to generate countercyclical real exchange rates—unlike productivity or monetary shocks—but have the counterfactual effect of also producing excessive investment volatility and countercyclical consumption.

Keywords

Real Exchange RatesCapital AccumulationSticky PricesLocal-Currency Pricing
Type
Articles
Information
Macroeconomic Dynamics , Volume 17 , Issue 2 , March 2013 , pp. 195 - 234
Copyright
Copyright © Cambridge University Press 2012

Access options

Get access to the full version of this content by using one of the access options below. (Log in options will check for institutional or personal access. Content may require purchase if you do not have access.)

References

REFERENCES

Adolfson, Malin, Laséen, Stefan, Lindé, Jesper, and Villani, Mattias (2007) Bayesian estimation of an open economy DSGE model with incomplete pass-through. Journal of International Economics 72 (2), 481–511.CrossRefGoogle Scholar
Backus, David K., Kehoe, Patrick J., and Kydland, Finn E. (1992) International real business cycles. Journal of Political Economy 100 (4), 745–775.CrossRefGoogle Scholar
Backus, David K., Kehoe, Patrick J., and Kydland, Finn E. (1995) International business cycles: Theory and evidence. In Cooley, Thomas F. (ed.), Frontiers of Business Cycle Research, 331–356. Princeton, NJ: Princeton University Press.CrossRefGoogle Scholar
Basu, Susanto (1996) Procyclical productivity: Increasing returns or cyclical utilization? Quarterly Journal of Economics 111 (3), 719–751.CrossRefGoogle Scholar
Baxter, Marianne and Crucini, Mario J. (1995) Business cycles and the asset structure of foreign trade. International Economic Review 36 (4), 821–854.CrossRefGoogle Scholar
Benigno, Gianluca (2004) Real exchange rate persistence and monetary policy rules. Journal of Monetary Economics 51 (3), 473–502.CrossRefGoogle Scholar
Benigno, Gianluca and Thoenissen, Christoph (2008) Consumption and real exchange rates with incomplete markets and non-traded goods. Journal of International Money and Finance 27 (6), 926–948.CrossRefGoogle Scholar
Benigno, Pierpaolo (2009) Price stability with imperfect financial integration. Journal of Money, Credit and Banking 41 (s1), 121–149.CrossRefGoogle Scholar
Bergin, Paul R. and Feenstra, Robert C. (2001) Pricing-to-market, staggered contracts, and real exchange rate persistence. Journal of International Economics 54 (2), 333–359.CrossRefGoogle Scholar
Betts, Caroline and Devereux, Michael B. (2000) Exchange rate dynamics in a model of pricing-to-market. Journal of International Economics 50 (1), 215–244.CrossRefGoogle Scholar
Blundell, Richard and MaCurdy, Thomas E. (1999) Labor supply: A review of alternative approaches. In Ashenfelter, Orley and Card, David (eds.), Handbook of Labor Economics 3, 1559–1665. Amsterdam: Elsevier Science B.V., North Holland.Google Scholar
Boldrin, Michele, Christiano, Lawrence J., and Fisher, Jonas D. M. (2001) Habit persistence, asset returns, and the business cycle. American Economic Review 91 (1), 149–166.CrossRefGoogle Scholar
Bouakez, Hafedh (2005) Nominal rigidity, desired markup variations, and real exchange rate persistence. Journal of International Economics 66 (1), 49–74.CrossRefGoogle Scholar
Browning, Martin, Peter Hansen, Lars, and Heckman, James J. (1999) Micro data and general equilibrium models. In Taylor, John B. and Woodford, Michael (eds.), Handbook of Macroeconomics 1, 543–633. Amsterdam: Elsevier Science B.V., North Holland.CrossRefGoogle Scholar
Calvo, Guillermo A. (1983) Staggered prices in a utility-maximizing framework. Journal of Monetary Economics 12 (3), 383–398.CrossRefGoogle Scholar
Chari, V.V., Patrick, J. Kehoe, and McGrattan, Ellen R. (2002) Can sticky price models generate volatile and persistent real exchange rates? Review of Economic Studies 69 (3), 533–563.CrossRefGoogle Scholar
Christiano, Lawrence J., Eichenbaum, Martin, and Evans, Charles L. (2005) Nominal rigidities and the dynamic effects of a shock to monetary policy. Journal of Political Economy 113 (1), 1–45.CrossRefGoogle Scholar
Cole, Harold L. and Obstfeld, Maurice (1991) Commodity trade and international risk sharing: How much do financial markets matter? Journal of Monetary Economics 28 (1), 3–24.CrossRefGoogle Scholar
Corsetti, Giancarlo, Dedola, Luca, and Leduc, Silvain (2008) International risk sharing and the transmission of productivity shocks. Review of Economic Studies 75 (2), 443–473.CrossRefGoogle Scholar
De Paoli, Bianca, Scott, Alastair, and Weeken, Olaf (2010) Asset pricing implications of a New Keynesian model. Journal of Economic Dynamics and Control 34 (10), 2056–2073.CrossRefGoogle Scholar
Dornbusch, Rudiger (1976) Expectations and exchange rate dynamics. Journal of Political Economy 84 (6), 1161–1176.CrossRefGoogle Scholar
Edge, Rochelle M. (2007) Time-to-build, time-to-plan, habit-persistence, and the liquidity effect. Journal of Monetary Economics 54 (6), 1644–1669.CrossRefGoogle Scholar
Engel, Charles M. (1999) Accounting for U.S. real exchange rate changes. Journal of Political Economy 107 (3), 507–538.CrossRefGoogle Scholar
Fisher, Jonas D.M. (2006) The dynamic effects of neutral and investment-specific technology shocks. Journal of Political Economy 114 (3), 413–451.CrossRefGoogle Scholar
Galí, Jordi and Monacelli, Tommaso (2005) Monetary policy and exchange rate volatility in a small open economy. Review of Economic Studies 72 (3), 707–734.CrossRefGoogle Scholar
Greenwood, Jeremy, Hercowitz, Zvi, and Huffman, Gregory W. (1988) Investment, capacity utilization, and the real business cycle. American Economic Review 78 (3), 402–417.Google Scholar
Hayashi, Fumio (1982) Tobin's marginal q and average q: A neoclassical interpretation. Econometrica 50 (1), 213–224.CrossRefGoogle Scholar
Heathcote, Jonathan and Perri, Fabrizio (2002) Financial autarky and international business cycles. Journal of Monetary Economics 49 (3), 601–627.CrossRefGoogle Scholar
Jermann, Urban (1998) Asset pricing in production economies. Journal of Monetary Economics 41 (2), 257–275.CrossRefGoogle Scholar
Justiniano, Alejandro and Primiceri, Giorgio E. (2008) The time-varying volatility of macroeconomic fluctuations. American Economic Review 98 (3), 604–641.CrossRefGoogle Scholar
Justiniano, Alejandro, Primiceri, Giorgio E., and Tambalotti, Andrea (2010) Investment shocks and business cycles. Journal of Monetary Economics 57 (2), 132–145.CrossRefGoogle Scholar
King, Robert G. and Rebelo, Sergio T. (1999) Resuscitating real business cycles. In Taylor, John B. and Woodford, Michael (eds.), Handbook of Macroeconomics 1(2), 927–1007. Amsterdam: Elsevier Science B.V., North Holland.CrossRefGoogle Scholar
Kollmann, Robert (2001) The exchange rate in a dynamic-optimizing business cycle model with nominal rigidities: A quantitative investigation. Journal of International Economics 55 (2), 243–262.CrossRefGoogle Scholar
Lane, Phillip R. and Milesi-Ferretti, Gian Maria (2007) The external wealth of nations mark II: Revised and extended estimates of foreign assets and liabilities, 1970–2004. Journal of International Economics 73 (2), 223–250.CrossRefGoogle Scholar
Lettau, Martin (2003) Inspecting the mechanism: Closed-form solutions for asset prices in real business cycle models. Economic Journal 113 (489), 550–575.CrossRefGoogle Scholar
Lucas, Robert E. Jr., (1967) Adjustment costs and the theory of supply. Journal of Political Economy 75 (4, part 1), 321–334.CrossRefGoogle Scholar
Lucca, David O. (2007) Resuscitating Time-to-Build. Mimeo, Board of Governors of the Federal Reserve.Google Scholar
Martínez-García, Enrique (2010) A model of the exchange rate with informational frictions. B.E. Journal of Macroeconomics (Contributions) 10 (1), art. 2.Google Scholar
Martínez-García, Enrique (2011) A Redux of the Workhorse NOEM Model with Capital Accumulation and Incomplete Asset Markets. GMPI working paper no. 74, FRB of Dallas.CrossRefGoogle Scholar
Martínez-García, Enrique and Søndergaard, Jens (2008) Technical Note on “The Real Exchange Rate in Sticky Price Models: Does Investment Matter? GMPI working paper no. 16, FRB of Dallas.CrossRefGoogle Scholar
Raffo, Andrea (2010) Technology Shocks: Novel Implications for International Business Cycles. International finance discussion papers 992, Board of Governors of the Federal Reserve System.CrossRefGoogle Scholar
Rogoff, Kenneth (1996) The purchasing power parity puzzle. Journal of Economic Literature 34 (2), 647–668.Google Scholar
Smets, Frank and Wouters, Rafael (2003) An estimated dynamic stochastic general equilibrium model of the euro area. Journal of the European Economic Association 1 (5), 1123–1175.CrossRefGoogle Scholar
Steinsson, Jón (2008) The dynamic behavior of the real exchange rate in sticky price models. American Economic Review 98 (1), 519–533.CrossRefGoogle Scholar
Taylor, John B. (1993) Discretion versus policy rules in practice. Carnegie–Rochester Conference Series 39, 195–214.CrossRefGoogle Scholar
Uzawa, Hirofumi (1969) Time preference and the Penrose effect in a two-class model of economic growth. Journal of Political Economy 77 (4s), 628–652.CrossRefGoogle Scholar
Warnock, Frank E. (2003) Exchange rate dynamics and the welfare effects of monetary policy in a two-country model with home-product bias. Journal of International Money and Finance 22 (3), 343–363.CrossRefGoogle Scholar