Why are business cycles alike across exchange-rate regimes?

Since the adoption of flexible exchange rates in the early 1970s, real exchange rates have been much more volatile than they were under Bretton Woods. However, the literature showed that the volatilities of most other macroeconomic variables have not been affected by the change in exchange-rate regime. This poses a puzzle for standard international business cycle models. In this paper, the authors study this puzzle by developing a two-country, two-sector model with nominal rigidities featuring deviations from the law of one price because a fraction of firms set prices in buyers' currencies. The authors show that a model with such building blocks can improve the match between the model and the data across exchange-rate regimes. By partially insulating goods markets across countries and thus mitigating the international expenditure-switching effect, local currency pricing considerably dampens the responses of net exports to shocks hitting the economies therefore helping to account for the puzzle.Foreign exchange rates

The monetary transmission mechanism; evidence from the industries of five OECD countries

This paper presents new evidence on the monetary transmission mechanism based on the effects of unexpected monetary policy shocks on 21 manufacturing industries in 5 OECD countries (France, Germany, Italy, the UK and the US). The goal is twofold. First, to document the crossindustry heterogeneity of monetary policy effects. Second, to explain this heterogeneity in terms of microeconomic characteristics suggested by theory, using an original firmlevel database. The results highlight the following empirical regularities; (i) a significant crossindustry heterogeneity of policy effects; (ii) a similar crossindustry distribution of policy effects across countries. These patterns are systematically related to industry output durability and investmentintensity and to measures of firms' borrowing capacity, size and interest payment burden. Quantitatively, the "credit channel" variables are as significant as the traditional variables (durability, investment intensity) in explaining the differential impact of monetary policy.monetary policy transmission, balance sheet data

Money demand in the euro area: do national differences matter?

This paper assesses the relevance of national information in estimating the demand for euro-area M3 from three perspectives. First, we check whether aggregating national money demands is appropriate. Second, we compare time-series and panel methods to estimate aggregate long-run coefficients. Finally, we investigate the differences among national money demands. We find that the hypothesis of perfect aggregation is not rejected. Nevertheless, some estimates of area-wide long-run parameters are sensitive to the method used to combine national information. We also find that the main difference among individual countriesÂ’ money demands is their interest elasticity, as well as the existence of country-specific structural breaks.money demand, aggregation, European Central Bank

From the ERM to the euro: new evidence on economic and policy convergence among EU countries

Skeptic views on EMU are usually cast around three arguments. First, the EU does not satisfy 'Optimum Currency Area' (OCA) conditions. Second, heterogeneous economic and financial structures will produce differences in monetary transmission. Third, the shift from domestic to area-wide considerations may give rise to conflicts in the decision making of the European Central Bank (ECB). JEL Classification: E52, F02, E32economic and policy convergence

On exchange rate regimes, exchange rate fluctuations, and fundamentals

The authors develop a two-country, two-sector general equilibrium business cycle model with nominal rigidities featuring deviations from the law of one price. The paper shows that a model with these features can quantitatively account for the empirical fact that of the statistical properties of most macroeconomic variables, only the volatility of the real and nominal exchange rates has dramatically changed after the fall of the Bretton Woods system. In particular, the authors replicate some explicit nonstructural tests proposed in the literature with simulated data from their artificial economy. The authors find that while the variability of observed fundamentals (e.g., output, money supply, and interest rates) is barely affected by the exchange rate regime, that of the exchange rate increases substantially under flexible rates.Foreign exchange rates

Macroeconomics of international price discrimination

This paper builds a baseline two-country model of real and monetary transmission in the presence of optimal international price discrimination by firms. Distributing traded goods to consumers requires nontradables, intensive in local labor. Because of distributive trade the price elasticity of demand depends on country-specific shocks to productivity and the exchange rate. Hence, within limits dictated by the possibility of arbitrage, profit-maximizing monopolistic firms drive a wedge between prices across countries at both wholesale and retail level. Optimal pricing thus results in possibly large deviations from the law of one price and incomplete pass-through on import prices. Consistent with the received wisdom on international transmission, nominal and real depreciations worsens the terms of trade. In general, the nominal and real exchange rate are more volatile than fundamentals, and large movements in the international prices translate into small changes in consumption, employment and the price level. Finally, we provide an example showing that international policy cooperation may be redundant even when asset trading is ruled out, despite incomplete pass-through and less than optimal risk sharing.exchange rate pass-through, wholesale and retail prices, nominal rigidities, international cooperation

What does a technology shock do? A VAR analysis with model-based sign restrictions

This paper estimates the effects of technology shocks in VAR models of the U.S., identified by imposing restrictions on the sign of impulse responses. These restrictions are consistent with the implications of a popular class of DSGE models, with both real and nominal frictions, and with sufficiently wide ranges for their parameters. This identification strategy thus substitutes theoretically-motivated restrictions for the atheoretical assumptions on the time-series properties of the data that are key to long-run restrictions. Stochastic technology improvements persistently increase real wages, consumption, investment and output in the data; hours worked are very likely to increase, displaying a hump-shaped pattern. Contrary to most of the related VAR evidence, results are not sensitive to a number of specification assumptions, including those on the stationarity properties of variables.technology shocks, DSGE models, bayesian VAR methods, identification

Money Demand in theEuroArea: Do National Differences Matter?

This paper assesses the relevance of national information in estimating the demand for euro-area M3 from three perspectives. First, we check whether national money demands can legitimately be aggregated. Second, we compare time-series and panel methods to estimate aggregate long-run coefficients. Finally, we investigate the differences among national money demands. We find that the hypothesis of perfect aggregation is not rejected. Nevertheless, some estimates of area-wide long-run parameters are sensitive to the method used to combine national information. The main difference among individual countries’ money demands is their interest elasticity.money demand, aggregation, European Central Bank.

What does a technology shock do? A VAR analysis with model-based sign restrictions

This paper estimates the effects of technology shocks in VAR models of the U.S., identified by imposing restrictions on the sign of impulse responses. These restrictions are consistent with the implications of a popular class of DSGE models, with both real and nominal frictions, and with sufficiently wide ranges for their parameterers. This identification strategy thus substitutes theoretically-motivated restrictions for the atheoretical assumptions on the time-series properties of the data that are key to long-run restrictions. Stochastic technology improvements persistently increase real wages, consumption, investment and output in the data; hours worked are very likely to increase, displaying a hump-shaped pattern. Contrary to most of the related VAR evidence, results are not sensitive to a number of specification assumptions, including those on the stationarity properties of variables. JEL Classification: C3, E3Bayesian VAR methods, DSGE Models, Identification, Technology shocks