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A model of international cities: implications for real exchange rates

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  • Mario J. Crucini
  • Hakan Yilmazkuday

Abstract

We develop a model of cities each inhabited by two agents, one specializing in manufacturing, the other in retail distribution. The distribution sector represents the physical transformation of all internationally traded goods from the factory gate to the final consumer. Using a panel of micro-prices at the city level, we decompose the cross-sectional variance of long-run LOP deviations into the fraction due to distribution costs, trade costs and a residual. For the median good, trade costs account for 50 percent of the variance, distribution costs account for 10 percent with 40 percent of the variance unexplained. Since the sample of items in the data are heavily skewed toward traded goods, we also decompose the variance based on the median good on an expenditure-weighted basis. Now the tables turn, with distribution costs accounting for 43 percent, trade costs 36 percent and 21 percent of the variance unexplained.

Suggested Citation

  • Mario J. Crucini & Hakan Yilmazkuday, 2009. "A model of international cities: implications for real exchange rates," Globalization Institute Working Papers 38, Federal Reserve Bank of Dallas.
  • Handle: RePEc:fip:feddgw:38
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    References listed on IDEAS

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    1. Naknoi, Kanda, 2008. "Real exchange rate fluctuations, endogenous tradability and exchange rate regimes," Journal of Monetary Economics, Elsevier, vol. 55(3), pages 645-663, April.
    2. Mario J. Crucini & Chris I. Telmer & Marios Zachariadis, 2005. "Understanding European Real Exchange Rates," American Economic Review, American Economic Association, vol. 95(3), pages 724-738, June.
    3. Andrew Atkeson & Ariel Burstein, 2007. "Pricing-to-Market in a Ricardian Model of International Trade," American Economic Review, American Economic Association, vol. 97(2), pages 362-367, May.
    4. Crucini, Mario J. & Shintani, Mototsugu, 2008. "Persistence in law of one price deviations: Evidence from micro-data," Journal of Monetary Economics, Elsevier, vol. 55(3), pages 629-644, April.
    5. Burstein, Ariel T. & Neves, Joao C. & Rebelo, Sergio, 2003. "Distribution costs and real exchange rate dynamics during exchange-rate-based stabilizations," Journal of Monetary Economics, Elsevier, vol. 50(6), pages 1189-1214, September.
    6. Long, John B, Jr & Plosser, Charles I, 1983. "Real Business Cycles," Journal of Political Economy, University of Chicago Press, vol. 91(1), pages 39-69, February.
    7. Alvarez, Fernando & Lucas, Robert Jr., 2007. "General equilibrium analysis of the Eaton-Kortum model of international trade," Journal of Monetary Economics, Elsevier, vol. 54(6), pages 1726-1768, September.
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    Citations

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    Cited by:

    1. Simonovska, Ina & Waugh, Michael E., 2014. "The elasticity of trade: Estimates and evidence," Journal of International Economics, Elsevier, vol. 92(1), pages 34-50.
    2. Crucini, Mario J. & Shintani, Mototsugu & Tsuruga, Takayuki, 2010. "Accounting for persistence and volatility of good-level real exchange rates: The role of sticky information," Journal of International Economics, Elsevier, vol. 81(1), pages 48-60, May.
    3. Andrade, Philippe & Zachariadis, Marios, 2016. "Global versus local shocks in micro price dynamics," Journal of International Economics, Elsevier, vol. 98(C), pages 78-92.
    4. Giri, Rahul, 2012. "Local costs of distribution, international trade costs and micro evidence on the law of one price," Journal of International Economics, Elsevier, vol. 86(1), pages 82-100.
    5. Bekkers, Eddy & Simonovska, Ina, 2015. "The Balassa–Samuelson effect and pricing-to-market: The role of strategic complementarity," Economics Letters, Elsevier, vol. 126(C), pages 156-158.
    6. Mark A. Wynne, 2012. "Five Years of Research on Globalization and Monetary Policy: What Have We Learned?," Annual Report, Globalization and Monetary Policy Institute, Federal Reserve Bank of Dallas, pages 2-17.
    7. Hakan Yilmazkuday, 2012. "How wide is the border across U.S. states?," Letters in Spatial and Resource Sciences, Springer, vol. 5(1), pages 25-31, March.
    8. Crucini, Mario J. & Davis, J. Scott, 2016. "Distribution capital and the short- and long-run import demand elasticity," Journal of International Economics, Elsevier, vol. 100(C), pages 203-219.
    9. Sposi, Michael, 2015. "Trade barriers and the relative price of tradables," Journal of International Economics, Elsevier, vol. 96(2), pages 398-411.
    10. Chaban, Maxym, 2011. "Home bias, distribution services and determinants of real exchange rates," Journal of Macroeconomics, Elsevier, vol. 33(4), pages 793-806.
    11. Yilmazkuday, Hakan, 2009. "Is the Armington Elasticity Really Constant across Importers?," MPRA Paper 15954, University Library of Munich, Germany.
    12. Lein‐Lein Chen & Seungmook Choi & John Devereux, 2015. "Explaining price level differences: New evidence on the Balassa–Samuelson effect," Southern Economic Journal, John Wiley & Sons, vol. 82(1), pages 81-99, July.
    13. Patricia Sourdin & Richard Pomfret, 2012. "Trade Facilitation," Books, Edward Elgar Publishing, number 14596.
    14. Philippe Andrade & Marios Zachariadis, 2010. "Trends in International Prices," University of Cyprus Working Papers in Economics 02-2010, University of Cyprus Department of Economics.
    15. Crucini, Mario J. & Yilmazkuday, Hakan, 2014. "Understanding long-run price dispersion," Journal of Monetary Economics, Elsevier, vol. 66(C), pages 226-240.

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    More about this item

    Keywords

    Foreign exchange; Pricing;

    JEL classification:

    • F0 - International Economics - - General
    • F15 - International Economics - - Trade - - - Economic Integration

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