Transcript (BS) effect

PRICE CONVERGENCE
(BALASSA-SAMUELSON EFFECT)
Tomáš Holub
International Macroeconomics
8 March 2016
So far we have assumed:
• Single tradable good (real ER always equal to 1);
• Purchasing power parity (absolute version)
*
Pt
RERt  Et
1
Pt
• Based on simple arbitrage principle.
GDP in PPP vs. Price Level
(European country sample, 2014)
• An increase in relative GDP by 1 p.p.  an increase in relative price
level by  0.81-0.85 p.p.
• Note the large R2 (around 0.9).
GDP in PPP vs. Price Level
Price level of GDP (2009, US=100)
(global country sample, Penn World Table, 2009)
250
y = 0,4015x + 52,328
R2 = 0,3369
200
150
100
50
0
0
50
100
150
200
250
GDP per capita in PPP (2009, US=100)
• An increase in relative GDP by 1 p.p.  an increase in the price level
(relative to the US) by  0.40 p.p.
• R2 much smaller, but still statistically significant.
GDP in PPS vs. Price Level of GDP
(European Panel, 1997-2014)
Dependent Variable: PGDP
Method: Panel Two-Stage Least Squares
Sample (adjusted): 1997 2014
Cross-sections included: 36
Total panel (unbalanced) observations: 606
White cross-section standard errors & covariance (d.f. corrected)
Instrument specification: PGDP(-1) PGDP(-2) GDP(-1) PGDP(-2) C
Variable
Coefficient
Std. Error
t-Statistic
Prob.
C
GDP
AR(1)
14.45111
0.852651
0.866659
4.317039
0.056299
0.053779
3.347459
15.14497
16.11532
0.0009
0.0000
0.0000
R-squared
Adjusted R-squared
S.E. of regression
F-statistic
Prob(F-statistic)
Instrument rank
0.978780
0.978710
4.505493
18590.19
0.000000
4
Mean dependent var
S.D. dependent var
Sum squared resid
Durbin-Watson stat
Second-Stage SSR
Prob(J-statistic)
82.48855
30.87841
12240.58
1.956051
9206.230
0.363564
GDP in PPS vs. Price Level
of Consumption
(European Panel, 1997-2014)
Dependent Variable: PCONS
Method: Panel Two-Stage Least Squares
Sample (adjusted): 1997 2014
Cross-sections included: 36
Total panel (unbalanced) observations: 592
White cross-section standard errors & covariance (d.f. corrected)
Instrument specification: (PCONS(-1)) PCONS(-2) GDP(-1) GDP(-2) C
Variable
Coefficient
Std. Error
t-Statistic
Prob.
C
GDP
AR(1)
21.00184
0.810257
0.887796
6.238601
0.071631
0.035386
3.366434
11.31158
25.08856
0.0008
0.0000
0.0000
R-squared
Adjusted R-squared
S.E. of regression
F-statistic
Prob(F-statistic)
Instrument rank
0.977632
0.977557
4.459089
16090.27
0.000000
5
Mean dependent var
S.D. dependent var
Sum squared resid
Durbin-Watson stat
Second-Stage SSR
Prob(J-statistic)
86.64336
29.76467
11711.37
2.001098
9410.971
0.815100
Real Appreciation Trend
in CEECs
• Fast real appreciation trend (on HICP-basis) in all CEE countries
before the crisis, irrespective of the exchange rate regime;
• So the PPP holds neither in the cross-country, nor in the time
series perspective (and thus nor in its relative version);
• Partly explained by Balassa-Samuelson (B-S) effect.
B-S with One-Factor P.F.
YT  AT LT
YN  AN LN
pT  p  1
w
AT
pN 

AN AN
*
T
P   pT   p N 

1
 AT
 1 
 AN

1



 AT
 
 AN
1



LN
LT
GDPnom  AT
 p N AN
 AT
LT  LN
LT  LN
1
P  GDPnom 

 
*
* 
P  GDPnom 
 AN*

 AN
1



P  GDPPPP 

 *  
*
P  GDPPPP 
1

 AN*

 AN



1

B-S with Three-Factor P.F.
1 
T T
YT  A L


YN  AN L1N   K N H N
KT H T
 1   1 
1
pN  C1 h 
P
P*
 C1 
  * 
 C1 
1 
h
 *
h 
1  1   1 
1

1
GDPnom  C2 h 
P  C3 
  * 
*
P  C3 
1 
 GDPnom 


* 
 GDPnom 
1 
 prodNT 


 prodNT 
*
1 
Basic Convergence Scenario
100%
6%
90%
5%
80%
70%
4%
50%
40%
30%
20%
10%
100%
90%
80%
70%
60%
50%
40%
30%
20%
10%
0%
0%
3%
2%
1%
0%
1
3
5
7
9
11
13
15
17
19
21
23
25
Year-on-yeargrowth rate
60%
Time
h/h*
GDPnom/GDPnom*
GDPppp/GDPppp*
P/P*
h/h*
GDPnom/GDPnom*
GDPppp/GDPppp*
P/P*
• The right-hand chart shows the convergence of a country,
which starts with a GDP in PPP at 50 % of the steady state.
Some Problems
with the B-S Effect
• So far, we have argued that on the aggregate level,
the B-S model works quite well;
• But it has shortcomings related to:

Inability to fully explain the price convergence in CEECs

Significance of other factors in the cross-country comparisons

Inability to clearly distinguish T and NT goods

Appreciation also on PPI basis, T-o-T improvements
• Modern literature thus focuses more on convergence
in T prices, investment into quality, endogenous tradability
of goods, etc.
Structure of Czech Inflation
• The „internal B-S effect“ has been apparent in the Czech
inflation, even though its strenght has declined (and Flek, et al.,
2003; or Égert, et al., 2003 questioned that it was strong enough
even in the past to generate an „external B-S effect“);
• The chart also shows the importance of price deregulations.
Real Convergence – Regional
Comparison
• In CZ and SK, real
appreciation by far
exceeded the
GDP growth
differential.
• The PL case
reflects the period
since 2007
(ongoing GDP
convergence with
slight real ER
depreciation).
• SI has been
traditionally
different (very little
convergence).
Extended Regression (Panel)
(1-)/ * logGDPPPP/empl
(1-)/ * logprodNT
log(wagremp)
exp6_8
exp6_8*logGDPPPP/empl% 
log (govrev)
Constant
R-squared (unweighted)
No. of countries
No. of observations
Dependent Variable #1:
Log (Price Level of GDP)
0.17*
(0.01)
-0.32*
(0.02)
0.009*
(0.003)
-5.90*
(0.08)
1.26*
(0.02)
0.23*
(0.01)
3.62*
(0.03)
0.83*
(0.16)
22
128
Dependent Variable #2:
Log (Price Level of Consumption)
0.09*
(0.02)
-0.17*
(0.02)
0.031*
(0.005)
-5.54*
(0.12)
1.19*
(0.03)
0.34*
(0.01)
3.33*
(0.06)
0.84*
(0.15)
22
128
• Low coefficients of the B-S factors, significance of other variables.
Commodity Groups‘ Prices
and GDP
1,0
0,8
R2
0,6
0,4
0,2
0,0
-0,2
0,0
0,2
0,4
0,6
0,8
Slope
1,0
1,2
1,4
1,6
• Empirically, hard to
indentify clearly
tradable commodity
groups;
• Relationship of prices
to the GDP level
significant for most
groups;
• Could be used as an
empirical measure
of the „degree
of tradability“.
Appreciation on CPI and PPI
Basis
• Appreciation trend of CZK before the crisis was apparent both
on the CPI and PPI basis.
Brůha, Podpiera, Polák (2010)
• Used a calibrated DGE model with: external borrowing;
transfer of technology and productivity (FDI); self-selection
into the export market; and investment in quality.
Conclusions (i)
• PPP does not hold in a cross-country and time series
comparison (i.e. it holds neither in its absolute nor in
the relative version);
• B-S based on strictly differentiating between T and NT
goods;
• Can be linked with the open economy growth model
with human capital accumulation;
• The B-S model consistent with the cross-country
and panel data comparisons at the aggregate level;
• Benchmark scenario: 1 p.p. real growth differential; real
exchange rate appreciation of about 0.8 p.p (But!…).
Conclusions (ii)
• But some empirical studies question the importance
of the B-S effect;
• Structure of foreign trade and other factors have an
important influence on the price level, too (e.g. ToT);
• Empirically, hard to differentiate T and NT goods;
• Modern literature thus focuses more on convergence
in T prices, investment into quality, endogenous
tradability of goods, etc.
References
•
•
•
•
•
•
•
•
•
•
Balassa, B. (1964) The Purchasing Power Parity Doctrine: A Reappraisal, Journal of Political
Economy, vol. 72, pp. 584–96.
Brůha, J., Podpiera, J. and S. Polák (2010): The Convergence Dynamics of a Transition Economy:
The Case of Czech Republic, Economic Modelling, pp. 116-124
(http://www.sciencedirect.com/science/article/B6VB1-4X4XGNY-2/2/fd439bdb3cf437585e2dc4a9f79e3503).
Čihák, M., and T. Holub (2001a) Convergence of Relative Prices and Inflation in the CEE Countries.
Washington, D.C.: IMF Working Paper, no. 01/124.
Čihák, M., and T. Holub (2005) Price Convergence in EU-Accession Countries: Evidence from the
International Comparison, Économie Internationale, 2005 (2e trimester), no. 102, pp. 61–84.
Égert, B., I. Drine, K. Lommatzsch and C. Rault (2003) The Balassa–Samuelson effect in Central
and Eastern Europe: myth or reality? Journal of Comparative Economics, vol. 31, iss. 3, pp. 552572.
Flek, V., L. Marková, and J. Podpiera (2003) Sectoral Productivity and Real Exchange Rate
Appreciation: Much Ado about Nothing? Czech Journal of Economics and Finance, 2003, vol. 53,
iss. 3-4, pp. 130-53.
Kulhavá, K. and L. Matějková (eds.) Analyses of the Czech Republic's current economic alignment
with the euro area 2015. Prague, Czech National Bank, 2015.
Holub, T., and M. Čihák (2003) Price Convergence: What Can the Balassa-Samuelson Model Tell
Us? Czech Journal of Economics and Finance, vol. 53, iss. 7-8, pp. 334-55.
Komárek, L., K. Koprnická and P. Král (2010) Dlouhodobá reálná apreciace jako fenomén
ekonomické konvergence, Politická ekonomie, no. 1.
Samuelson, P.A. (1964) Theoretical Notes on Trade Problems, Review of Economics and
Statistics, vol. 46 (May), pp. 145–154.