Flexible Exchange Rates and Traded Goods Prices: A Theory of the Short-Run

Jayant Menon

No 266368, Center of Policy Studies (COPS) Impact Project Papers from Monash University Center of Policy Studies

Abstract: The volatility displayed by floating exchange rates has revived interest in the relationship between exchange rates and traded goods prices. This paper aims to provide a theory of exchange rates and traded goods prices in the short-run. In particular, it examines how various factors can cause exchange rate pass-through to be incomplete in the short-run but not in the long-run. These include: (i) menu costs, (ii) the costs of changing supply, (iii) the dynamics of demand response to price changes, (iv) orderdelivery lags, (v) forward exchange cover, and (vi) the currency denomination of trade contracts. From a policy perspective, the presence of these factors could account for the often prolonged adjustment of trade balances to exchange rate changes, and the failure of exchange rate volatility to perceptibly affect the volume of international trade flows.

Keywords: Demand and Price Analysis; International Relations/Trade (search for similar items in EconPapers)
Pages: 18
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Persistent link: https://EconPapers.repec.org/RePEc:ags:copspp:266368

DOI: 10.22004/ag.econ.266368

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