EconPapers    
Economics at your fingertips  
 

Mussa Puzzle Redux

Oleg Itskhoki and Dmitry Mukhin
Additional contact information
Dmitry Mukhin: Yale University

No 1434, 2019 Meeting Papers from Society for Economic Dynamics

Abstract: The Mussa (1986) puzzle - a sharp and simultaneous increase in the volatility of both nominal and real exchange rates after the end of the Bretton Woods System of pegged exchange rates in early 1970s - is commonly viewed as a central piece of evidence in favor of monetary non-neutrality. Indeed, a change in the monetary regime has caused a dramatic change in the equilibrium behavior of a real variable - the real exchange rate. The Mussa fact is further interpreted as direct evidence in favor of models with nominal rigidities in price setting (sticky prices). We show that this last conclusion is not supported by the data, as there was no simultaneous change in the properties of the other macro variables - neither nominal like inflation, nor real like consumption, output or net exports. We show that the extended set of Mussa facts equally falsifies both flexible-price RBC models and sticky-price New Keynesian models. We present a resolution to this broader puzzle based on a model of segmented financial market - a particular type of financial friction by which the bulk of the nominal exchange rate risk is held by a small group of financial intermediaries and not shared smoothly throughout the economy. We argue that rather than discriminating between models with sticky versus flexible prices, and monetary versus productivity shocks, the Mussa puzzle provides sharp evidence in favor of models with monetary non-neutrality arising due to financial market segmentation. Sticky prices are neither necessary, nor sufficient for the qualitative success of the model.

Date: 2019
New Economics Papers: this item is included in nep-cba, nep-dge, nep-ifn, nep-mon and nep-opm
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (9)

Downloads: (external link)
https://red-files-public.s3.amazonaws.com/meetpapers/2019/paper_1434.pdf (application/pdf)

Related works:
Working Paper: Mussa Puzzle Redux (2021) Downloads
Working Paper: Mussa Puzzle Redux (2021) Downloads
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:red:sed019:1434

Access Statistics for this paper

More papers in 2019 Meeting Papers from Society for Economic Dynamics Society for Economic Dynamics Marina Azzimonti Department of Economics Stonybrook University 10 Nicolls Road Stonybrook NY 11790 USA. Contact information at EDIRC.
Bibliographic data for series maintained by Christian Zimmermann ().

 
Page updated 2025-03-19
Handle: RePEc:red:sed019:1434