Deep habits and exchange rate pass-through

Punnoose Jacob and Lenno Uusküla

No wp2016-4, Bank of Estonia Working Papers from Bank of Estonia

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 standard New Keynesian two-country model with deep habits, we obtain low exchange rate pass-through to import prices even when local currency prices are relatively flexible. As prices become more rigid, the presence of deep habits further reduces the pass-through of exchange rate fluctuations. Without deep habits, the model requires implausibly high degrees of price stickiness to match the pass-through dynamics triggered by an exchange rate shock in a vector autoregression

Keywords: Exchange Rate Pass-through; Deep Habits; Sticky Prices; Price Markups; Local Currency Pricing (search for similar items in EconPapers)
JEL-codes: E31 F41 (search for similar items in EconPapers)
Date: 2016-07-19, Revised 2016-07-19
New Economics Papers: this item is included in nep-mac and nep-opm
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Citations: View citations in EconPapers (3)

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Related works:
Journal Article: Deep habits and exchange rate pass-through (2019)
Working Paper: Deep habits and exchange rate pass-through (2016)
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