Relative Price Of Nontraded Goods Research Articles

The Balassa-Samuelson Hypothesis and Oil Price Shocks in a Small Open Economy: Evidence from Cyprus

Focusing on a small open economy, this paper provides very supportive evidence for the Balassa-Samuelson productivity-bias proposition. Using a battery of tests we show that a positive and significant long run relationship exists between the relative price of nontraded goods and real income per capita. An implication of this result is that the prices of services in Cyprus will rise, if EU membership leads to income convergence with the rest of the EU. We have, furthermore, demonstrated that Rogoff's hypothesis, that real oil price changes negatively affect the price of nontradables, is supported by the empirical results.

Nominal and Real Convergence in Estonia: The Balassa-Samuelson (Dis)connection. Tradable Goods, Regulated Prices and Other Culprits

The objective of the paper is to analyse the nominal and real convergence process in Estonia drawing on the Balassa-Samuelson (B-S) framework. A 15-sectoral breakdown for GDP and a 5-digit level CPI data disaggregation with over 260 items is used for the period 1993:Q1 to 2002:Q1 to show that the productivity differential is related to the GDP-deflator relative price of non-tradable goods in the long run. Furthermore, the role of regulated prices in the CPI basket is also investigated - we show that excluding regulated prices makes it possible to detect a robust relationship between productivity and the relative price of market services in CPI. The B-S effect could have possibly contributed to CPI by a yearly average of 2-3% over the sample period, and more specifically 1-4% at the beginning of the period and 0.5-1% in 2000 and 2001. The potential long-run impact of the B-S effect in Estonia is estimated to amount to 1-2%. Analysis of the influence of the B-S effect on the inflation differential and the real appreciation of the exchange rate against Finland, Sweden, Germany and the UK, shows that, whereas the inflation differential attributable to the B-S effect seems to have been higher in the early 1990s, it better explains the real appreciation occurring in recent years.

Monetary policy in developing countries: lessons from Kenya

We estimate and then simulate a model of Kenyan economic development from 1965 to 1997 with two objectives in mind. The first is to demonstrate the degree of volatility of cyclical shocks that developing countries experience and to calculate the domestic nominal adjustments required by these shocks under both irrevocably fixed and free exchange rates.A comparison of these counterfactual nominal adjustments identifies the short-run implications for an economy of the choice of exchange rate regime. The second objective is to provide an estimate of the consequences for the economic development of Kenya of the lack of a coherent monetary order (excessive domestic credit expansion and overvalued exchange rate) throughout most of the period since 1965.A neoclassical convergence growth model based on Barro and Sala-i-Martin (1992) is employed and calibrated to represent the long-run growth path of real GDP in Kenya. A short-run four-sector CGE model is constructed that allows for cyclical movements of real GDP about the convergence growth path. The cyclical model focuses on the adjustment of the relative price of non-traded goods that is required to ensure short-run equilibrium in the non-traded goods sector. Given that terms of trade shocks dominated the macro environment of Kenya over the sample period, we find that a free exchange rate regime would have insulated the economy to a greater degree than an irrevocably fixed regime. In the growth decomposition exercise, we estimate that the two largest (and negative) influences on Kenyan economic growth were the decline in the external terms of trade from 100 in 1965 to an average of 79.5 over the 32-year time period, and the overvalued Kenyan shilling represented by a premium on the parallel market for foreign exchange. Overall, we estimate that the overvalued exchange rate reduced economic growth by an average of 0.47 per cent per annum over the 32 years.

The Relative Price of Nontraded Goods and Sectoral Total Factor Productivity: An Empirical Investigation

This paper examines the relationship between the relative price of nontraded goods and sectoral total factor productivities (TFPs) in the context of the Balassa-Samuelson model. With perfect capita...

Endogenous Tradability and Macroeconomic Implications

This paper advocates a new way of thinking about goods trade in an open economy macro model. It develops a simple method for analyzing trade costs that are heterogeneous among a continuum of goods, and it explores how these costs determine the endogenous decision by a seller of whether to trade a good internationally. This way of thinking offers new insights into international market integration and the behavior of international relative prices. As one example, it provides a natural explanation for a prominent and controversial puzzle in international macroeconomics regarding the surprisingly low degree of volatility in the relative price of nontraded goods. Because tradedness is an endogenous decision, the good on the margin forms a link holding together the prices of traded and nontraded goods. The paper goes on to find that endogenizing trade has implications for other basic macroeconomic issues.

A simple test for PPP among traded goods

The so-called Harrod–Balassa–Samuelson model implies that relative prices of non-traded goods may be nonstationary and, hence, that PPP should preferably be tested on real exchange rates based on prices of traded goods only. A simple test for PPP among traded goods is proposed that can be applied to real exchange rates based on prices of all (that is, both traded and non-traded) goods. The study shows through simulations that the test is reliable for a sample size commonly considered in practice. Upon applying the test to bilateral real exchange rates based on the general CPI among a group of industrialized countries during the post Bretton Woods period, we find little evidence in favour of PPP among traded goods. This does not change when we use real exchange rates based on various components of the CPI.

The Transfer Problem Revisited: Net Foreign Assets and Real Exchange Rates

The relationship between international payments and the real exchange rate--the transfer problem--is a classic question in international economics. We use new data on countries' net external positions together with real exchange rate data to shed light on this question. We present a model yielding testable implications on the long-run co-movements of real exchange rates, external positions, relative GDP and terms of trade, and cross-country and time-series evidence on the subject. Countries with net external liabilities are found to have more depreciated real exchange rates, with the main channel of transmission working through the relative price of nontraded goods.

A trade theoretic analysis of outward capital flows: with special reference to Hong Kong

This paper sets up a trade theoretic model to explain the output, price and welfare consequences of the outward investment from Hong Kong to the Pearl River Delta. A four-good trade theoretic model is set up to incorporate some special features of the Hong Kong Economy. We assume that the economy produces four goods: an exportable good, an importable good and two non-traded goods. A special feature of the model is that one of the non-traded goods (locally produced) is also consumed by foreigners and produced under the assumption of non-competitive market framework. As tourist or business-centre trade is of great significance to Hong Kong, this model allows us to capture this phenomenon. First, precise conditions are derived regarding the decline in manufacturing output in Hong Kong. Second, it is shown that, in spite of the supply side determination of the relative price of non-traded goods, income effects in this market are of great significance in both income (welfare) and output movements. These income effects cannot be captured in industrial organization type applied work. Third, it is shown how outflow of capital affects labour productivity. A surprising result obtained for this part of the analysis is that a fall in productivity (outflow of capital and de-industrialization) creates a favourable terms-of-trade effect in the monopolized sector. The welfare effect consists of four terms: (1) a terms-of trade effect via the price of non-traded goods consumed by tourists/foreigners; (2) the loss (gain) in productivity due to an outflow of capital; (3) repatriation payments; and (4) the gains from exporting from the Special Economic Zones as well as other Pearl River Delta cities. Our decomposition has two very important features in contrast to traditional models: a terms-of-trade effect from the consumption of services and productivity gains or losses. The last point is exceedingly important for policy makers specifically if outward flow of capital affects productivity negatively.

The Transfer Problem Revisited: Net Foreign Assets and Real Exchange Rates

The relationship between international payments and the real exchange rate—the “transfer problem”—is a classic question in international economics. We use new data on countries’ net external positions together with real exchange rate data to shed light on this question. We present a model yielding testable implications on the long-run co-movements of real exchange rates, external positions, relative GDP and terms of trade, and cross-country and time-series evidence on the subject. Countries with net external liabilities are found to have more depreciated real exchange rates, with the main channel of transmission working through the relative price of nontraded goods.

The Transfer Problem Revisited: Net Foreign Assets and Real Exchange Rates

The relationship between international payments and the real exchange rateiXthe transfer problem- is one of the classic questions in international economics. In this paper we use cross-country data on real exchange rates and a newly constructed data set on countries' net external positions to shed new light on this old question. We present a simple theoretical framework that leads to empirically testable implications for the long-run co-movements of real exchange rates, net foreign assets, relative GDP and the terms of trade, and cross-country and time-series evidence on the subject. We show that, on average, countries with net external liabilities have more depreciated real exchange rates, and that the main channel of transmission seems to work through the relative price of nontraded goods, rather than through the relative price of traded goods across countries.

Accounting for U.S. Real Exchange Rate Changes

This study measures the proportion of U.S. real exchange rate movements that can be accounted for by movements in the relative prices of nontraded goods. The decomposition is done at all possible horizons that the data allow‐from one month up to 30 years. The accounting is performed with five different measures of non‐traded‐goods prices and real exchange rates, for exchange rates of the United States relative to a number of other high‐income countries in each case. The outcome is surprising: relative prices of movement of U.S. real exchange rate with Japan. The possibility of mismeasurement of traded‐goods prices is explored.

Relative labor productivity and the real exchange rate in the long run: evidence for a panel of OECD countries

The Balassa-Samuelson model, which explains real exchange rate movements in terms of sectoral productivities, rests on two components. First, it implies that the relative price of non-traded goods in each country should reflect the relative productivity of labor in the traded and non-traded goods sectors. Second, it assumes purchasing power parity holds for traded goods. We test both of these using a panel of OECD countries. Our results suggest that relative prices generally reflect relative labor productivities in the long run. The evidence on purchasing power parity in traded goods is less favorable, at least when we look at US dollar exchange rates.

Accounting for U.S. Real Exchange Rate Changes

This study measures the proportion of U.S. real exchange rate movements that can be accounted for by movements in the relative prices of non-traded goods. The decomposition is done at all possible horizons that the data allow -- from one month up to thirty years. The accounting is performed with five different measures of non-traded goods prices and real exchange rates, for exchange rates of the U.S. relative to a number of other high income countries in each case. The outcome is surprising -- relative prices of non-traded goods appear to account for essentially none of the movement of U.S. real exchange rates at any horizon. Only for one crude measure, which uses the aggregate producer price index as an index of traded goods prices, do non-traded goods prices seem to account for more than a tiny portion of real exchange rate changes. This pattern appears to be true even during fixed nominal exchange rate episodes. Special attention is paid to the U.S. real exchange rate with Japan. The possibility of mismeasurement of traded goods prices is explored.

Endogenizing labor–leisure choice: investment and the relative price of non-traded goods

In a Dutch-disease model, we endogenize the capital stock and labor–leisure choice offering more flexibility on the supply side than previous studies which endogenize the capital stock only. Our conclusions differ significantly from earlier models in that even when the non-traded goods sector is capital intensive the capital stock in the new steady state does not necessarily increase.

Do Relative Prices of Non-Traded Goods Determine Long-Run Real Exchange Rates?

In this paper, the long-run assumptions of so-called equilibrium models of real exchange rates are investigated. The assumption of purchasing power parity for tradable goods, common to this class of models, implies that the real exchange rate is a function of the relative prices of nontraded goods in the two countries. While purchasing power parity for tradable goods is not directly testable, exploitation of wholesale and consumer prices allows for direct estimation of the reduced form. Cointegration tests are performed for twenty-one bilateral relationships. While much of the evidence is consistent with the predictions of equilibrium models, results are far from conclusive.

Cointegration tests of purchasing power parity: the impact of non-traded goods

This paper explores the relationship between non-traded goods relative prices and the real exchange rate. We apply the Johansen maximum likelihood procedure to two different data sets of traded and non-traded prices. First, we develop a model which highlights the importance of non-traded relative price movements in causing deviations in the real exchange rate away from PPP. We find a strong association. A rise (fall) in the domestic relative price of non-traded goods is associated with an appreciation (depreciation) in the real exchange rate while the opposite is true for the foreign relative price. We conclude that non-traded goods relative price movements are an important determinant of real exchange rate behavior.

The Role of Nontraded and Traded Wages in the Productivity Differential Model

Purchasing power parity (PPP) remains the benchmark model for long-run nominal exchange rate determination since Cassel's pioneering work [3] despite weak empirical support [6; 7; 12; 14]. Seminal work by Balassa [1] and Samuelson [15] explains that movements in real exchange rates are due to changing real factors in the economy. Balassa and Samuelson show that differing productivity rates between traded and nontraded sectors can explain deviations in PPP; Hsieh [10] has empirically supported the importance of productivity differentials in explaining real exchange rate movements. Although the Balassa-Samuelson productivity differential model is commonly cited by international textbooks as an explanation of PPP failure [4; 11], several assumptions have not been explicitly tested. This paper examines four critical assumptions of the Balassa model for fourteen OECD economies and demonstrates that some are weak and deserve additional study. Real exchange rate movements affect the competitiveness of a nation's tradable goods sector and represent deviations from purchasing power parity. Seminal work by Balassa on real exchange rates and PPP violations relies on several underlying premises: (1) the traded sector possesses higher productivity growth and larger intercountry differences than the nontraded sector; (2) intracountry wage rates are equalized between traded and nontraded sectors due to labor mobility; (3) wages in the traded good sector are linked to productivity in that sector; (4) innovations in unit labor cost (wage compensation adjusted for productivity) cause corresponding movements in the relative price of nontraded goods. This paper examines general patterns and interrelationships among traded and nontraded productivity, real wages and relative prices for 14 OECD economies and extends the work of Strauss and Ferris [16]. We construct GDP price indices, productivity measures and real wage compensation rates for the traded and nontraded sectors for the years 1970-1990. The key finding is that differences in intersectoral wage growth appear to influence the relative price of nontradables more than differences in productivity growth. The results support the proposition that produc-

International Transfers, the Relative Price of Non-Traded Goods, and the Current Account

This paper considers the role of the relative price of non-traded goods and the current account in the adjustment of a small open economy to the receipt of an international transfer. The paper shows that the economy's macroeconomic adjustment to the transfer depends upon the relative capital intensities of the traded and non-traded sectors of the economy as well as on the duration of the transfer. The paper provides a new interpretation of France's current account surplus in the 1870s that accompanied the payment of reparations to Germany following the Franco-Prussian War, and of Germany's trade deficit in the 1920s that accompanied reparations payments associated with the First World War.

The Behavior of Nontradable‐Goods Prices In Europe: Evidence and Interpretation*

AbstractThis paper examines the evolution of the relative price between tradable and nontradable goods in a group of European countries. A model of an open economy is used to analyze different factors that can account for an increase in the relative price of nontradable goods. These factors are (a) faster technological progress in the tradable goods sector, (b) demand shifts toward nontradable goods, and (c) real wage pressures. the relevance of these factors is analyzed empirically for France, Germany, Italy, Spain, and the United Kingdom.

The Effects of Government Spending on Non-Traded Goods

It is widely believed that fluctuations in government spending influence economic variables such as output, consumption, investment, and real interest rates. Recent business cycle models have reemphasized that government purchases have a substantial business cycle role. Works of Barro [8] and Hall [15] have inspired a great deal of research in identifying and quantifying the effects of government purchases during business cycle episodes. This paper pursues this line of research. In particular, it studies theoretically and empirically the role of government purchases in the cyclical behavior of the relative price of non-traded goods in terms of traded goods and output of non-traded goods in a two-country world. Following Barro [8], it emphasizes the distinction between temporary and permanent government spending since these two components have different implications for wealth and consequently have different effects on the economy. This paper illustrates that temporary foreign government spending reduces the home relative price of non-traded goods and output of home non-traded goods. Temporary home government spending raises output of home non-traded goods. The effects of home temporary government spending on the home relative price of non-traded goods are, in general, ambiguous. The empirical implementation of the model employs Canadian and U.S. quarterly data for the period 1968:1-1987:111.' We treat Canada as the home country and the U.S. as the foreign country and estimate the model by nonlinear least squares. The results indicate that temporary U.S. government spending reduces the Canadian relative price of non-traded goods and output of non-traded goods. The results also suggest that temporary Canadian government spending raises output of Canadian non-traded goods and reduces the Canadian relative price of non-traded