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Understanding the effect of productivity changes on international relative prices: the role of news shocks

Deokwoo Nam and Jian Wang ()

No 61, Globalization Institute Working Papers from Federal Reserve Bank of Dallas

Abstract: The terms of trade and the real exchange rate of the US appreciate when the US labor productivity increases relative to the rest of the world. This finding is at odds with predictions from standard international macroeconomic models. In this paper, we find that incorporating news shocks to total factor productivity (TFP) in an otherwise standard dynamic stochastic general equilibrium (DSGE) model with variable capital utilization can help the model replicate the above empirical finding. Labor productivity increases in our model after a positive news shock to TFP because of an increase in capital utilization. Under some plausible calibrations, the wealth effect of good news about future productivity can increase domestic demand strongly and induce an increase in home prices relative to foreign prices.

Keywords: Business cycles - Econometric models; International finance; International trade - Econometric models; Labor productivity (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-cba, nep-dge, nep-eff and nep-opm
Date: 2010
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Journal Article: Understanding the Effect of Productivity Changes on International Relative Prices: The Role of News Shocks (2018) Downloads
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