Differences in Income Elasticities and Trends in Real Exchange Rates

39 Pages Posted: 11 Apr 2004 Last revised: 20 Jul 2010

See all articles by Paul R. Krugman

Paul R. Krugman

Princeton University - Woodrow Wilson School of Public and International Affairs; Centre for Economic Policy Research (CEPR); National Bureau of Economic Research (NBER)

Date Written: November 1988

Abstract

One might expect that differences in income elasticities in trade and/or differences in growth rates among countries would give rise to strong secular trends in real exchange rates; for example, fast-growing countries might need steady depreciation to get the world to accept their growing exports. In fact, however, income elasticities are systematically related to growth rates by the "45-degree rule", under which fast-growing countries appear to face high income elasticities of demand for their exports, while having low income elasticities of import demand. The net effect of this relationship between elasticities and growth rates is that secular trends in real exchange rates are much smaller than one might otherwise have expected: relative PPP holds fairly well. This paper documents the existence of a "45-degree rule", and suggests an explanation in terms of increasing returns and product differentiation.

Suggested Citation

Krugman, Paul R., Differences in Income Elasticities and Trends in Real Exchange Rates (November 1988). NBER Working Paper No. w2761. Available at SSRN: https://ssrn.com/abstract=447204

Paul R. Krugman (Contact Author)

Princeton University - Woodrow Wilson School of Public and International Affairs ( email )

Princeton University
Princeton, NJ 08544-1021
United States
609-258-4570 (Phone)
609-258-2809 (Fax)

Centre for Economic Policy Research (CEPR)

London
United Kingdom

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Register to save articles to
your library

Register

Paper statistics

Downloads
52
Abstract Views
969
rank
379,792
PlumX Metrics