Can Sticky Price Models Generate Volatile and Persistent Real Exchange Rates?

53 Pages Posted: 6 Feb 2001 Last revised: 18 Oct 2010

See all articles by Varadarajan V. Chari

Varadarajan V. Chari

University of Minnesota - Twin Cities - Department of Economics; Federal Reserve Bank of Minneapolis; National Bureau of Economic Research (NBER)

Patrick J. Kehoe

Federal Reserve Bank of Minneapolis - Research Department; University of Minnesota - Twin Cities - Department of Economics; National Bureau of Economic Research (NBER)

Ellen R. McGrattan

Federal Reserve Bank of Minneapolis - Research Department; University of Minnesota - Twin Cities; National Bureau of Economic Research (NBER)

Date Written: September 2000

Abstract

The central puzzle in international business cycles is that real exchange rates are volatile and persistent. The most popular story for real exchange rate fluctuations is that they are generated by monetary shocks interacting with sticky goods prices. We quantify this story and find that it can account for some of the observed properties of real exchange rates. When prices are held fixed for at least one year, risk aversion is high and preferences are separable in leisure, the model generates real exchange rates that are as volatile as in the data. The model also generates real exchange rates that are persistent, but less so than in the data. If monetary shocks are correlated across countries, then the comovements in aggregates across countries are broadly consistent with those in the data. Making asset markets incomplete or introducing sticky wages does not measurably change the results.

Suggested Citation

Chari, Varadarajan V. and Kehoe, Patrick J. and McGrattan, Ellen R., Can Sticky Price Models Generate Volatile and Persistent Real Exchange Rates? (September 2000). NBER Working Paper No. w7869. Available at SSRN: https://ssrn.com/abstract=259000

Varadarajan V. Chari (Contact Author)

University of Minnesota - Twin Cities - Department of Economics ( email )

271 19th Avenue South
1108 Management & Economics
Minneapolis, MN 55455
United States
612-626-7151 (Phone)

Federal Reserve Bank of Minneapolis ( email )

90 Hennepin Avenue
Minneapolis, MN 55480
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Patrick J. Kehoe

Federal Reserve Bank of Minneapolis - Research Department ( email )

90 Hennepin Avenue
Minneapolis, MN 55480
United States
612-204-5525 (Phone)
612-204-5515 (Fax)

University of Minnesota - Twin Cities - Department of Economics ( email )

271 19th Avenue South
Minneapolis, MN 55455
United States

National Bureau of Economic Research (NBER) ( email )

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Ellen R. McGrattan

Federal Reserve Bank of Minneapolis - Research Department ( email )

90 Hennepin Avenue
Minneapolis, MN 55480
United States
612-340-2587 (Phone)
612-340-2356 (Fax)

University of Minnesota - Twin Cities

420 Delaware St. SE
Minneapolis, MN 55455
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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