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GTAP Resource #2349

"On the Benefits of Exchange Rate Flexibility under Endogenous Tradedness of Goods"
by Naknoi, Kanda, Michael Kumhof and Douglas Laxton

This paper develops a dynamic stochastic general equilibrium model that
analyzes how endogenously determined trade integration affects the welfare
gains from exchange rate flexibility. The share of trade in output results
from the interaction of comparative advantage patterns and trade frictions.
We build our model of comparative advantage on the set of tools developed by
Naknoi (2004), which is closely related to the classic work on a Ricardian
trade model by Dornbusch et al. (1977). The key novelty is that while in
principle all goods are exportable, the actual range of exports and
nontraded goods is endogenous, depending on production decisions that take
into account relative productivities and trading costs. The main difference
between our model and alternative models that fix trade shares exogenously
is that our approach is capable of generating a much higher long-run
elasticity of trade to shocks, because in order to model microeconomic
export decisions it becomes necessary to assume high elasticities of
substitution between exported varieties, so that both the volume and product
range of goods exported respond strongly to shocks. Our goal is to use this
model to answer two questions. First, what is the welfare gain of flexible
exchange rates over fixed rates, if any? Second, how do the benefits of
flexibility vary as we alter the degree of trade integration? Bringing
realistic aspects of trade integration into a monetary model to analyze
welfare gains from flexible exchange rates is our main contribution.

Resource Details (Export Citation) GTAP Keywords
Category: 2007 Conference Paper
Status: Published
By/In: Presented at the 10th Annual Conference on Global Economic Analysis, Purdue University, USA
Date: 2005
Created: Naknoi, K. (4/13/2007)
Updated: Batta, G. (9/4/2007)
Visits: 2,203
- Calibration and parameter estimation
- European Union

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