Three essays on imperfect competition and exchange rate pass-through in the presence of multiple exchange rates

Byoung-Ky Chang

ISU General Staff Papers from Iowa State University, Department of Economics

Abstract: This dissertation consists of three essays on exchange rates and prices. The first two essays are devoted to theoretical study, and the other is an empirical study. This research analyzes the strategic interactions between international firms. The first essay (chapter II) explores the relationship between price leadership and exchange rate uncertainty. The research investigates the incentives to lead and follow in a model in which exporting firms have the different degrees of exchange rate uncertainty. As exchange rate uncertainty increases, firms will take a flexible strategy as a dominant strategy. Over certain ranges of exchange rate variability, only one firm has a flexible strategy as its dominant strategy, and the other firm is induced to be a price leader, resulting in a dominant strategy Nash-equilibrium. Which firm will be the price leader depends on the mark-up and substitutability of products. The particular attention of this research is also given to the implication of exchange rate variability for exchange rate pass-through;The second essay (chapter III) focuses more on brand loyalty. In many markets, consumers who have previously purchased from one firm have (or perceive) costs of switching to a competitor's product, even when the two firm's products are functionally identical. I explicitly analyze the effect of rival exchange rate for diverse cases (perfect foresight for exchange rates, imperfect foresight for exchange rates, perfect capital mobility, and imperfect capital mobility). In the case of the imperfect foresight, the exchange rate pass-through is affected by the exchange rate uncertainty. Due to the brand loyalty, current price decisions will affect future profits through market shares. The expected future profit is affected by expected competition situations that depend on the interactive movement of future exchange rates;In the last essay (chapter IV), I test the strategic behaviors between exporting firms with simultaneous estimation techniques (three stage least squares). Exchange rate pass-through is estimated, and the effect of the rival exchange rate is emphasized. Also, I demonstrate the problem associated with tests which use trade-weighted exchange rate. Most importantly, this research highlights the importance of market structure in exchange rate pass-through studies.

Date: 1999-01-01
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