Deep habits and exchange rate pass-through

Punnoose Jacob and Lenno Uusküla

Journal of Economic Dynamics and Control, 2019, vol. 105, issue C, 67-89

Abstract: Habit persistence at the level of individual goods varieties can explain incomplete exchange rate pass-through to international prices. Deep habits give rise to a dynamic import demand function that leads to import price markup adjustments, independently of nominal pricing frictions. Augmenting a two-country DSGE model with deep habits, we obtain low exchange rate pass-through to import prices even when nominal local currency price rigidities are negligibly low. As nominal pricing frictions become more important, the presence of deep habits further impedes the pass-through of exchange rate fluctuations. Estimating model variants with limited information as well as full information methods, we find that the deep habits model requires much lower degrees of nominal price rigidities to match empirical measures of the pass-through of exchange rate fluctuations to US import prices.

Keywords: Exchange rate pass-through; Deep habits; Customer markets; Local currency pricing; Impulse response matching; Bayesian estimation (search for similar items in EconPapers)
JEL-codes: E31 F41 (search for similar items in EconPapers)
Date: 2019
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Citations: View citations in EconPapers (6)

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Related works:
Working Paper: Deep habits and exchange rate pass-through (2016)
Working Paper: Deep habits and exchange rate pass-through (2016)
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Persistent link: https://EconPapers.repec.org/RePEc:eee:dyncon:v:105:y:2019:i:c:p:67-89

DOI: 10.1016/j.jedc.2019.05.011

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