Transmission of Exchange-Rate Variations in an Estimated, Small Open-Economy Model

Abstract

This paper addresses the transmission of exchange-rate variations in an estimated, small open-economy model. In contrast to the standard set-up of New Open Economy Macroeconomics models, imported goods are treated here as material inputs to production. The resulting model structure is transparent and tractable while also able to account for imperfect pass through of exchange-rate shocks. The model is estimated with Bayesian methods on German data and the key finding is that a substantial depreciation of the nominal exchange rate leads to only modest e ects on CPI-inflation. An extended version of the model reveals that relatively small weight is placed on foreign consumption.