Essays on Trade, Growth and Exchange Rates

Abstract: In the first chapter we test if Purchasing Power Parity, PPP, is empirically valid and when that is not the case we test if productivity growth differences can account for the deviations from PPP by co-integration analysis. Interestingly, the results lend support in favour of PPP in several cases and when PPP is rejected GDP per capita growth rate differences seem to explain the long-run deviations from PPP. This suggests that the empirical failure of PPP is not only a statistical problem, but in fact has a reasonable economic explanation. In the second chapter we analyse if the terms of trade are stable even if countries' growth rates differ in the long-run as implied by the concept of balanced growth and Krugman's 45-degree-rule. Using quarterly data for the G-5 countries, covering the period 1960:1-1989:4, the general conclusion from the study in this chapter is that terms of trade tend to be non-stationary or trend- stationary when countries' long-run growth rates differ. In particular we find that countries with higher growth rates tend have improving terms of trade. In the third chapter we analyse the effects of productivity growth on terms of trade and real exchange rates, in a model of monopolistic competition with non-tradable goods where we eventually include trade costs. In general, the terms of trade and the real exchange rate will change in response to productivity growth. In the presence of trade costs the terms of trade improve at the same time as the increased productivity increases the wage rate thereby creating an appreciating pressure on the real exchange rate which is a result that corresponds to the actual observed behaviour of terms of trade and real exchange rates between industrial countries. The fourth chapter examines the influence of demand on the pattern of net trade. First, it is found that demand differences are important as a cause of international trade. In fact, for the majority of countries, demand factors explain more of the net trade pattern than do factor proportions. Second, the evidence offers some support for the modern theories: high domestic demand in an industry leads to a net export for the majority of cases. The evidence is however not clear-cut. Third, a demand bias in favour of domestic varieties seems to lead to a net export. All in all, therefore the results are favourable to the geography-type of trade models. Finally, in the last chapter we ask if there is a trade-off between the variability in the nominal exchange rate and the variability in the interest rate differential. The data is divided into two samples the period 1983-1991 when the SEK was tied by a target zone against a basket of major currencies, and the period 1993-1995 when the SEK floated freely or was implicitly managed through the central bank's low inflation target. The answer is that, yes there is a trade-off. The higher exchange rate variability in the floating period 1993-1995 is mirrored by reduced variability in the interest rate difference.