Exchange rate and wage-price dynamics. A theoretical analysis and an econometric investigation

Abstract

This paper is an attempt to analyze inflation dynamics in a small open economy as the result of the interaction between wage and price determination behaviors and the interest rate-exchange rate feedback in the context of Dornbusch's model. An extended version of this model is specified and analyzed formally. Then the model is estimated for five OECD countries using a full information maximum likelihood technique. Finally, simulations of the effect of monetary shocks are presented for four countries. © 1986.