EXCHANGE RATE OVERSHOOTING AND PATH-DEPENDENCE IN INTERNATIONAL TRADE

Trond-Arne Borgersen and Matthias Göcke ()

Macroeconomic Dynamics, 2007, vol. 11, issue 3, 295-317

Abstract: This paper integrates a traditional Dornbusch overshooting model with a macro-economic model of hysteresis in foreign trade. We apply an approach which allows an aggregation of heterogeneous agents and which results in a continuous macroeconomic hysteresis-loop. In our model, short-run exchange rate overshooting generates a persistent current account effect, which feeds back into the exchange rate process and ultimately results in changes of the long-run equilibrium exchange rate. Monetary shocks can lead to hysteresis in both foreign trade and exchange rate processes, invalidating the long-run neutrality of money hypothesis and the purchasing power parity assumption of the conventional overshooting model.

Date: 2007
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Persistent link: https://EconPapers.repec.org/RePEc:cup:macdyn:v:11:y:2007:i:03:p:295-317_06

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