DP2511 | The Transfer Problem Revisited: Net Foreign Assets and Real Exchange Rates

Publication Date

25/07/2000

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Abstract

The relationship between international payments and the real exchange rate - the ?transfer problem? - is one of the classic questions in international economics. In this paper we use cross-country data on real exchange rates and a newly constructed data set on countries? net external positions to shed new light on this old question. We present a simple theoretical framework that leads to empirically testable implications on the long-run co-movements of real exchange rates, net foreign assets, relative GDP and terms of trade, and cross-country and time-series evidence on the subject. We show that on average countries with net external liabilities have more depreciated real exchange rates, and that the main channel of transmission seems to work through the relative price of nontraded goods, rather than through the relative price of traded goods across countries.