Pricing-to-market in business cycle models

Thu, 01 Jan 2026 00:00:00 +0000

This paper evaluates five microfounded pricing-to-market (PTM) mechanisms and one reduced-form aggregator in a two-country DSGE model with volatile exchange rates driven by financial shocks (following Gabaix and Maggiori 2015) and real productivity shocks. The central question is whether existing open-economy theories can jointly achieve three empirically mandated targets — low exchange-rate pass-through to import prices, muted expenditure switching (low short-run trade elasticity), and plausible producer markups — when exchange rates are volatile and act as a major independent source of fluctuations. The paper’s main contribution is to show analytically and quantitatively that no existing microfounded PTM model fully escapes a structural tension among these three targets, which the authors call the parameterization trilemma.

Lukasz A. Drozd | Macro Paper Warehouse

Pricing-to-market in business cycle models