Government Purchases and the Real Exchange Rate: A Comment
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The conventional international RBC model and also the traditional Keynesian model predict that an increase in government purchase results in an appreciation of the real exchange rate (Backus et al. 1994). Data show the opposite. Kolmann’s present paper addresses this government purchase-real exchange rate puzzle. He develops a series of micro based models to establish the central point that limited risk sharing is fundamental to resolve this puzzle. The main features of Kollmann’s static baseline model are as follows: (i) there is an extreme form of financial market incompleteness (trade balance is zero), (ii) all intermediate goods are internationally traded while the final good is not, (iii) the nontraded final good uses a mix of foreign and home produced intermediate goods with a local home bias in the technology, (iv) traded intermediate goods are produced with only labour using a CRS technology, (v) exogenous wasteful government purchases are financed by lump-sum taxes, (vi) wage...
KeywordsReal Exchange Rate Intermediate Good Wealth Effect Home Consumption Government Purchase
I would like to thank Robert Kollmann for useful discussion. The opinion expressed in this review and any possible errors in my argument are entirely mine.
- Backus D, Kehoe P, Kydland F (1994) Dynamics of the trade balance and the terms of trade: the J curve? Am Econ Rev 84:84–103Google Scholar