Goods Prices and Exchange Rates: What Have We Learned?

This 1997 Journal of Economic Literature survey by Pinelopi Goldberg and Michael Knetter synthesizes nearly 700 articles on the relationship between exchange rates and goods prices, organizing the law-of-one-price, exchange-rate-pass-through, and pricing-to-market literatures around a single generic pricing regression. Its central empirical conclusion is that local-currency import prices do not move one-for-one with exchange rates – “a price response equal to one-half the exchange rate change would be near the middle of the distribution of estimated responses for shipments to the U.S.” – and that this incomplete pass-through is not primarily a statistical artifact of mismeasured costs or non-identical goods but reflects deliberate, destination-specific markup adjustment: third-degree price discrimination, or “pricing-to-market.” Reviewing studies that add quantity data to price data to measure the underlying degree of market power, the authors find the evidence consistent with meaningful departures from perfect competition, though available quantity data are typically too noisy to pin markup estimates down precisely. They also examine candidate explanations for why national goods markets stay segmented – transportation costs, nominal exchange-rate volatility combined with sticky local-currency prices, and trade barriers – and report that broad cross-industry studies tend to find a border effect driven by exchange-rate volatility rather than measured trade barriers, while detailed single-industry studies (autos, footwear) do find trade-policy effects, a discrepancy the authors say remains unresolved. The paper’s stated bottom line is that “national markets for goods are better viewed as segmented than integrated.”

Michael M. Knetter | Macro Paper Warehouse

Goods Prices and Exchange Rates: What Have We Learned?