Real Exchange Rate Fluctuations, Wage Stickiness and Tradability

Yothin Jinjarak, Nanyang Technology University

Kanda Naknoi, Purdue University

June 2009

Abstract

Motivated by empirical evidence on the role of wage stickiness in inflation dynamics, this paper studies the relationship between tradability and distribution of industry-specific real exchange rate fluctuations. We first offer a simple model where labor is the only input for the nontraded intermediate good, and the final good in each industry is produced from the nontraded input and an imported intermediate good. Using the monthly data from the U.S. and Canada, we decompose movements of industry-specific real exchange rates into relative wage adjustments and markup adjustments. The decomposition highlights the importance of wage stickiness and also sectoral heterogeneity of tradability of goods as the determinants of sector-specific real exchange rates.