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1、CH15.Price Levels&the Exchange Rate in the Long Run(此部分在英文书P387-),Introduction,The model of long-run exchange rate behavior provides the framework that actors in asset markets use to forecast future exchange rates.Predictions about long-run movements in exchange rates are important even in the short
2、 run.In the long run,national price levels play a key role in determining both interest rates and the relative prices at which countries products are traded.The theory of purchasing power parity(PPP)explains movements in the exchange rate between two countries currencies by changes in the countries
3、price levels.,The Law of One Price,Law of one priceIdentical goods sold in different countries must sell for the same price when their prices are expressed in terms of the same currency.This law applies only in competitive markets free of transport costs and official barriers to trade.Example:If the
4、 dollar/pound exchange rate is$1.50 per pound,a sweater that sells for$45 in New York must sell for 30 in London.,It implies that the dollar price of good i is the same wherever it is sold:PiUS=(E$/)x(PiE)where:PiUS is the dollar price of good i when sold in the U.S.PiE is the corresponding euro pri
5、ce in Europe E$/is the dollar/euro exchange rate,The Law of One Price,Suppose The Economist magazine sells for 2.50 in the UK and$3.95 in the US.Arbitrage,therefore,should guarantee that the exchange rate between the dollar and the pound be s=3.95/2.50=1.580($/).In words,the dollar price of The Econ
6、omist in the UK should equal the dollar price of the Economist in the US(ignoring transportation costs).,The Law of One Price,Purchasing Power Parity,Theory of Purchasing Power Parity(PPP)The exchange rate between two counties currencies equals the ratio of the counties price levels.It compares aver
7、age prices across countries.It predicts a dollar/euro exchange rate of:E$/=PUS/PE(3-8)where:PUS is the dollar price of a reference commodity basket sold in the United States PE is the euro price of the same basket in Europe,Purchasing Power Parity,By rearranging Equation(3-1),one can obtain:PUS=(E$/
8、)x(PE)PPP asserts that all countries price levels are equal when measured in terms of the same currency.,The Relationship Between PPP and the Law of One PriceThe law of one price applies to individual commodities,while PPP applies to the general price level.If the law of one price holds true for eve
9、ry commodity,PPP must hold automatically for the same reference baskets across countries.Proponents of the PPP theory argue that its validity does not require the law of one price to hold exactly.,Purchasing Power Parity,Absolute PPP and Relative PPPAbsolute PPPIt states that exchange rates equal re
10、lative price levels.Relative PPPIt states that the percentage change in the exchange rate between two currencies over any period equals the difference between the percentage changes in national price levels.Relative PPP between the United States and Europe would be:(E$/,t-E$/,t 1)/E$/,t 1=US,t-E,t(3
11、-9)where:t=inflation rate,Purchasing Power Parity,Absolute PPP,Absolute PPP:the exchange rate between two countries currencies equals the ratio of the countries price levels.Absolute PPP is expressed as P=P*E,where P is the domestic price,P*is the foreign price,and E is the spot rate,expressed as do
12、mestic to foreign currency units.Often it is rearranged as:E=P/P*.,Absolute PPP-chinese version,E为汇率，以本币表示的单位外币，即直接标价法下的汇率值。P和 分别表示本国和外国的反映所有商品物价变动的综合物价水平。,The same commodity It costs$200 in U.S;It costs DM600 in Germany,Absolute PPPExample,Absolute PPP as a Guide to Exchange Values,Suppose the actu
13、al spot rate pertaining to the previous example is 1.480 whereas PPP says the rate should be 1.580.Only a slight difference exists,but we can conclude(for instructional purposes)that the pound is undervalued relative to the dollar.In percentage terms(1.580-1.480)/1.480 100=6.76 percent.,Absolute PPP
14、&Relative PPP,Development of the equations:Relative PPP:changesAbsolute PPP:levels,Requirements,Absolute PPP:international standardized basket of commoditiesRelative PPP:inflationary differences(differ in coverage and composition)Relative PPP:approximate percentage changes,Relative PPP-A Weaker Vers
15、ion,Rearrange APPP to E=P/P*.Divide one period equation by another period,e.g.,E1/E0=(Pa1/Pa0)/(P*b1/P*b0)Rearrange as:E1=E0(Pa1/Pa0)/(P*b1/P*b0)Can be used as a“model”of exchange rate movements.Note that the emphasis is on exchange rate movements,not levels,though it may appear otherwise.,公式：e1和e0分
16、别表示当期和基期的汇率，Pa1和Pa0分别表示A国当期和基期的物价水平，Pb1Pb0分别表示B国当期和基期的物价水平.,Relative PPP-chinese version,Relative PPP-Example,Suppose the exchange rate between the dollar and the pound was 1.58 in 1999 and is 1.60 today.Further,the UK CPI was 110 and is now 115,while the US CPI was 108 and is now111.Plugging this i
17、nto the formula we havest=(1.58)(111/108)/(115/110)=1.55Hence the is overvalued(3.125%).,In words,domestic inflation less foreign inflation should equal the change in the spot rate.Implies that the higher inflation country should see its currency depreciate.,Relative PPP,当本国的价格水平相对上升时，本币购买力相对下降，即本币贬
18、值，则汇率下跌。相反，当本国的价格水平相对下降时，本币购买力相对上升，即本币升值，则汇率上升。这就是购买力平价所揭示的汇率与货币相对购买力或相对价格水平之间的经济关系。,Chinese version-对购买平价说的评论缺陷：忽视了非贸易品的存在及其影响。忽略了贸易成本和贸易壁垒对国际商品套购所产生的制约。在计算购买力平价时，编制各国物价指数在方法、范围、基期选择等方面存在着诸多技术性困难。它忽略了国际资本流动的存在及其对汇率的影响。,优点：揭示了汇率长期变动的根本原因。在分析汇率的长期变动上，仍然有很强的生命力。估计均衡汇率的最简便方法。,Long run is important!,Lon
19、g-run factors are important for the short run because of the central role expectations about the future play in the day-to-day determination of exchange rates.The long-run exchange model will provide the anchor for market expectations.,Monetary approach to the exchange rateA theory of how exchange r
20、ates and monetary factors interact in the long run.The Fundamental Equation of the Monetary ApproachPrice levels can be expressed in terms of domestic money demand and supplies:In the United States:PUS=MsUS/L(R$,YUS)(3-10)In Europe:PE=MsE/L(R,YE)(3-11),A Long-Run Exchange Rate Model Based on PPP（略）,
21、The monetary approach makes a number of specific predictions about the long-run effects on the exchange rate of changes in:Money suppliesAn increase in the U.S.(European)money supply causes a proportional long-run depreciation(appreciation)of the dollar against the euro.Interest ratesA rise in the i
22、nterest rate on dollar(euro)denominated assets causes a depreciation(appreciation)of the dollar against the euro.Output levelsA rise in U.S.(European)output causes an appreciation(depreciation)of the dollar against the euro.,A Long-Run Exchange Rate Model Based on PPP（略）,Ongoing Inflation,Interest P
23、arity,and PPPMoney supply growth at a constant rate eventually results in ongoing inflation(i.e.,continuing rise in the price level)at the same rate.Changes in this long-run inflation rate do not affect the full-employment output level or the long-run relative prices of goods and services.The intere
24、st rate is not independent of the money supply growth rate in the long run.,A Long-Run Exchange Rate Model Based on PPP（略）,The international interest rate difference is the difference between expected national inflation rates:R$-R=eUS-e(3-12),A Long-Run Exchange Rate Model Based on PPP（略）,The Fisher
25、 EffectA rise(fall)in a countrys expected inflation rate will eventually cause an equal rise(fall)in the interest rate that deposits of its currency offer.Figure 3-29 illustrates an example,where at time t0 the Federal Reserve unexpectedly increases the growth rate of the U.S.money supply to a highe
26、r level.,A Long-Run Exchange Rate Model Based on PPP（略）,Figure 3-29:Long-Run Time Paths of U.S.Economic Variables after a Permanent Increase in the Growth Rate of the U.S.Money Supply,A Long-Run Exchange Rate Model Based on PPP（略）,In this example,the dollar interest rate rises because people expect
27、more rapid future money supply growth and dollar depreciation.The interest rate increase is associated with higher expected inflation and an immediate currency depreciation.Figure 3-20 confirms the main long-run prediction of the Fisher effect.,A Long-Run Exchange Rate Model Based on PPP（略）,Figure 3
28、-20:Inflation and Interest Rates in Switzerland,the United States,and Italy,1970-2000,A Long-Run Exchange Rate Model Based on PPP（略）,Figure 3-20:Continued,A Long-Run Exchange Rate Model Based on PPP（略）,A Long-Run Exchange Rate Model Based on PPP（略）,Figure 3-20:Continued,The empirical support for PPP
29、 and the law of one price is weak in recent data.The prices of identical commodity baskets,when converted to a single currency,differ substantially across countries.Relative PPP is sometimes a reasonable approximation to the data,but it performs poorly.,Empirical Evidence on PPP and the Law of One P
30、rice,The hamburger standard,Big Mac Prices,The U.S.price was nearly 89 percent higher than the Chinas Price,Empirical Evidence on PPP and the Law of One Price,Figure 3-21:The Dollar/DM Exchange Rate and Relative U.S./German Price Levels,1964-2000,The actual mark-dollar exchange rate and the PPP-impl
31、ied exchange rate,The failure of the empirical evidence to support the PPP and the law of one price is related to:Trade barriers and nontradablesDepartures from free competitionInternational differences in price level measurement,Explaining the Problems with PPP,Trade Barriers and NontradablesTransp
32、ort costs and governmental trade restrictions make trade expensive and in some cases create nontradable goods.The greater the transport costs,the greater the range over which the exchange rate can move.,Explaining the Problems with PPP,Departures from Free CompetitionWhen trade barriers and imperfec
33、tly competitive market structures occur together,linkages between national price levels are weakened further.Pricing to marketWhen a firm sells the same product for different prices in different markets.It reflects different demand conditions in different countries.Example:Countries where demand is
34、more price-inelastic will tend to be charged higher markups over a monopolistic sellers production cost.,Explaining the Problems with PPP,International Differences in Price Level MeasurementGovernment measures of the price level differ from country to country because people living in different count
35、ies spend their income in different ways.PPP in the Short Run and in the Long RunDepartures from PPP may be even greater in the short-run than in the long run.Example:An abrupt depreciation of the dollar against foreign currencies causes the price of farm equipment in the U.S.to differ from that of
36、foreigns until markets adjust to the exchange rate change.,Explaining the Problems with PPP,Explaining the Problems with PPP,Figure 3-22:Price Levels and Real Incomes,1992,The Real Exchange RateIt is a broad summary measure of the prices of one countrys goods and services relative to the others.It i
37、s defined in terms of nominal exchange rates and price levels.The real dollar/euro exchange rate is the dollar price of the European basket relative to that of the American:q$/=(E$/x PE)/PUS(3-13),Beyond Purchasing Power Parity:A General Model of Long-Run Exchange Rates（略）,Example:If the European re
38、ference commodity basket costs 100,the U.S.basket costs$120,and the nominal exchange rate is$1.20 per euro,then the real dollar/euro exchange rate is 1 U.S.basket per European basket.,Real depreciation of the dollar against the euroA rise in the real dollar/euro exchange rateThat is,a fall in the pu
39、rchasing power of a dollar within Europes borders relative to its purchasing power within the United StatesOr alternatively,a fall in the purchasing power of Americas products in general over Europes.A real appreciation of the dollar against the euro is the opposite of a real depreciation.,Beyond Pu
40、rchasing Power Parity:A General Model of Long-Run Exchange Rates（略）,Demand,Supply,and the Long-Run Real Exchange RateIn a world where PPP does not hold,the long-run values of real exchange rates depend on demand and supply conditions.,Beyond Purchasing Power Parity:A General Model of Long-Run Exchan
41、ge Rates（略）,There are two specific causes that explain why the long-run values of real exchange rates can change:A change in world relative demand for American productsAn increase(fall)in world relative demand for U.S.output causes a long-run real appreciation(depreciation)of the dollar against the
42、euro.A change in relative output supplyA relative expansion of U.S(European)output causes a long-run real depreciation(appreciation)of the dollar against the euro.,Beyond Purchasing Power Parity:A General Model of Long-Run Exchange Rates（略）,Nominal and Real Exchange Rates in Long-Run EquilibriumChan
43、ges in national money supplies and demands give rise to the proportional long-run movements in nominal exchange rates and international price level ratios predicted by the relative PPP theory.From Equation(3-13),one can obtain the nominal dollar/euro exchange rate,which is the real dollar/euro excha
44、nge rate times the U.S.-Europe price level ratio:E$/=q$/x(PUS/PE)(3-14),Beyond Purchasing Power Parity:A General Model of Long-Run Exchange Rates（略）,Equation(3-14)implies that for a given real dollar/euro exchange rate,changes in money demand or supply in Europe or the U.S.affect the long-run nomina
45、l dollar/euro exchange rate as in the monetary approach.Changes in the long-run real exchange rate,however,also affect the long-run nominal exchange rate.,Beyond Purchasing Power Parity:A General Model of Long-Run Exchange Rates（略）,The most important determinants of long-run swings in nominal exchan
46、ge rates(assuming that all variables start out at their long-run levels):A shift in relative money supply levelsA shift in relative money supply growth ratesA change in relative output demandA change in relative output supply,Beyond Purchasing Power Parity:A General Model of Long-Run Exchange Rates（
47、略）,When all disturbances are monetary in nature,exchange rates obey relative PPP in the long run.In the long run,a monetary disturbance affects only the general purchasing power of a currency.This change in purchasing power changes equally the currencys value in terms of domestic and foreign goods.W
48、hen disturbances occur in output markets,the exchange rate is unlikely to obey relative PPP,even in the long run.,Beyond Purchasing Power Parity:A General Model of Long-Run Exchange Rates（略）,Beyond Purchasing Power Parity:A General Model of Long-Run Exchange Rates（略）,Table 3-3:Effects of Money Marke
49、t and Output Market Changes on the Long-Run Nominal Dollar/Euro Exchange Rate,E$/,Beyond Purchasing Power Parity:A General Model of Long-Run Exchange Rates（略）,Figure 3-23:The Real Dollar/Yen Exchange Rate,1950-2000,Figure 3-24:Sectoral Productivity Growth Differences and the Change in the Relative Price of Nontraded Goods,1970-1985,Beyond Purchasing Power Parity:A General Model of Long-Run Exchange Rates（略）,
