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Endogenous norms in wage and price setting and hysteresis in the real exchange rate
Author(s) -
Libman Emiliano
Publication year - 2018
Publication title -
metroeconomica
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 1.256
H-Index - 29
eISSN - 1467-999X
pISSN - 0026-1386
DOI - 10.1111/meca.12200
Subject(s) - economics , exchange rate , inflation (cosmology) , pace , wage , open economy , real interest rate , small open economy , monetary economics , hysteresis , keynesian economics , macroeconomics , econometrics , monetary policy , labour economics , physics , geodesy , quantum mechanics , theoretical physics , geography
Real exchange rates are often ‘disconnected’ from fundamentals. Mean reversion toward equilibrium operates at a slow pace (if it operates at all), and when inflation is low the real exchange rate tracks closely the nominal exchange rate for prolonged periods of time. Using a simple open economy model, we show that including endogenous norms in wage and price setting in an open economy set‐up can lead to hysteresis in the real exchange rate. For a given set of fundamentals, the real exchange rate may settle down at different equilibria and exchange rate policies are not necessarily neutral in the long‐run.