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An equilibrium model of the international price system

Mukhin, Dmitry (2022) An equilibrium model of the international price system. American Economic Review, 112 (2). 650 - 688. ISSN 0002-8282

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Identification Number: 10.1257/aer.20181550

Abstract

What explains the central role of the dollar in world trade? Will the US currency retain its dominant status in the future? This paper develops a quantitative general equilibrium framework with endogenous currency choice that can address these questions. Complementarities in price setting and input-output linkages across firms generate complementarities in currency choice making exporters coordinate on the same currency of invoicing. The dollar is more likely to play this role because of the large size of the US economy, a widespread peg to the dollar, and the history dependence in currency choice. Calibrated using the world input-output tables and exchange rate moments, the model can successfully replicate the key empirical facts about the use of currencies at the global level, across countries, and over time. According to the counterfactual analysis, the peg to the dollar in other economies ensures that the US currency is unlikely to lose its global status because of the falling US share in the world economy, but can be replaced by the renminbi in case of a negative shock in the US economy. If the peg is abandoned, the world is likely to move to a new equilibrium with multiple regional currencies.

Item Type: Article
Official URL: https://www.aeaweb.org/journals/aer
Additional Information: © 2021 American Economic Association
Divisions: Economics
Subjects: H Social Sciences > HG Finance
H Social Sciences > HB Economic Theory
JEL classification: D - Microeconomics > D2 - Production and Organizations > D21 - Firm Behavior
E - Macroeconomics and Monetary Economics > E3 - Prices, Business Fluctuations, and Cycles > E31 - Price Level; Inflation; Deflation
E - Macroeconomics and Monetary Economics > E4 - Money and Interest Rates > E42 - Monetary Systems; Standards; Regimes; Government and the Monetary System
F - International Economics > F1 - Trade > F14 - Country and Industry Studies of Trade
F - International Economics > F3 - International Finance > F31 - Foreign Exchange
F - International Economics > F3 - International Finance > F33 - International Monetary Arrangements and Institutions
Date Deposited: 26 Oct 2021 12:09
Last Modified: 28 Feb 2022 09:03
URI: http://eprints.lse.ac.uk/id/eprint/112500

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