Trade Costs and Real Exchange Rate Volatility: The Role of Ricardian Comparative Advantage

44 Pages Posted: 10 Jan 2006

See all articles by Claudio Bravo-Ortega

Claudio Bravo-Ortega

School of Business, Universidad Adolfo Ibañez

Julian di Giovanni

Federal Reserve Banks - Federal Reserve Bank of New York; Universitat Pompeu Fabra - Department of Economics and Business; Barcelona Graduate School of Economics (Barcelona GSE); CREI and Universitat Pompeu Fabra; Centre for Economic Policy Research (CEPR)

Date Written: January 2005

Abstract

This paper examines the impact of trade costs on real exchange rate volatility. We incorporate a multi-country Ricardian model of trade, based on the work of Eaton and Kortum (2002), into a macroeconomic model to show how bilateral real exchange rate volatility depends on relative technological differences and trade costs. These differences highlight a new channel, in which the similarity of a pair of countries' set of suppliers of traded goods affects bilateral exchange rate volatility. We then test the importance of this channel using a large panel of cross-country data over 1970-97, and find strong evidence supporting the channel.

Keywords: Real exchange rate volatility, trade costs, comparative advantage

JEL Classification: F30, F40

Suggested Citation

Bravo-Ortega, Claudio and di Giovanni, Julian, Trade Costs and Real Exchange Rate Volatility: The Role of Ricardian Comparative Advantage (January 2005). IMF Working Paper No. 05/5, Available at SSRN: https://ssrn.com/abstract=874226

Claudio Bravo-Ortega (Contact Author)

School of Business, Universidad Adolfo Ibañez ( email )

DIAGONAL LAS TORRES 2640 PEÑALOLÉN
EDIFICIO POST GRADO
Santiago
Chile

Julian Di Giovanni

Federal Reserve Banks - Federal Reserve Bank of New York ( email )

33 Liberty Street
New York, NY 10045
United States

HOME PAGE: http://julian.digiovanni.ca

Universitat Pompeu Fabra - Department of Economics and Business ( email )

Barcelona
Spain

HOME PAGE: http://julian.digiovanni.ca

Barcelona Graduate School of Economics (Barcelona GSE) ( email )

Ramon Trias Fargas, 25-27
Barcelona, Barcelona 08005
Spain

HOME PAGE: http://julian.digiovanni.ca

CREI and Universitat Pompeu Fabra ( email )

HOME PAGE: http://julian.digiovanni.ca

Centre for Economic Policy Research (CEPR) ( email )

London
United Kingdom

HOME PAGE: http://julian.digiovanni.ca

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