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Dual inflation and real exchange rate in new open economy macroeconomics

Author

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  • Balázs Világi

    (Magyar Nemzeti Bank)

Abstract
This paper studies how the models of the new open economy macroeconomics, which usually focuses on the relationship between the nominal exchange rate and the external real exchange rate, can explain the coexistence of permanent dual inflation, i.e. diverging inflation rates for tradable and non-tradable goods, and real appreciation in emerging market economies. It is shown that the impact of asymmetric sectoral productivity growth on the real exchange rate heavily depends on the market structure, and that the models of new open economy macroeconomics can be reconciled with the Balassa - Samuelson effect only if pricing to market is added to models. It is demonstrated that in the presence of nominal rigidities and investments adjustment costs firms’ marginal cost is influenced by demand factors even if technology exhibits constant returns to scale. As a consequence, the effect of asymmetric productivity growth becomes weaker. Furthermore, in this case alternative factors can influence dual inflation as well. But according to the numerical simulations, these factors hardly explain the empirically observable dual inflation and real appreciation by themselves without asymmetric productivity growth. Keywords: dual inflation, real exchange rate, new open economy macroeconomics, Balassa - Samuelson effect.

Suggested Citation

  • Balázs Világi, 2004. "Dual inflation and real exchange rate in new open economy macroeconomics," MNB Working Papers 2004/5, Magyar Nemzeti Bank (Central Bank of Hungary).
    • Handle: RePEc:mnb:wpaper:2004/5
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    File URL: http://www.mnb.hu/letoltes/wp2004-5.pdf
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    References listed on IDEAS

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    2. Balázs Égert & László Halpern & Ronald MacDonald, 2006. "Equilibrium Exchange Rates in Transition Economies: Taking Stock of the Issues," Journal of Economic Surveys, Wiley Blackwell, vol. 20(2), pages 257-324, April.

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    More about this item

    Keywords

    dual inflation; real exchange rate; new open economy macroeconomics; Balassa - Samuelson effect.;
    All these keywords.

    JEL classification:

    • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation
    • F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics

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