Real Exchange Rates Determination: Purchasing Power Parity (PPP), and Balassa-Samuelson Hypothesis

• Main Author: Boris T Petkov
• Format: Article
• Language: English
• Published: IEECA 2017-04-01
• Series: Journal of Eastern European and Central Asian Research
• Subjects: Central Asia; economic development
• Online Access: https://ieeca.org/journal/index.php/JEECAR/article/view/147

The Balassa and Samuelson hypothesis -- BS -- (Balassa, 1964, Samuelson, 1964), which natural point of departure is the Salter-Swan (dependent economy) model is analysed. It offers general theoretical justification of the long-run trends in real exchange rates in relation to productivities and prices. This is to say, that taking into consideration the important real world feature of having both tradable and non-tradable goods BS states that if a given country’s productivity in producing tradable goods compared to its productivity in making non-tradable goods and services rises more rapidly than in a (certain) foreign country, then the home country real exchange rate will experience appreciation. Thus if productivity of factors of production grows faster in the home country tradable sector, then relative price in the non-tradable sector should rise. Furthermore, we provide supporting illustrative evidence by empirically assessing the BS effect for Azerbaijan.