The continuing integration of the international economy requires that economic analysts take into account the potential effects on trade relationships of the various policies and incentives affecting production. Empirical research has shown that the goods produced by a country can be categorized by one of two groups. These are tradeable goods, which occupy a place in the international market, and nontradeable goods, which for many reasons, for example consumer taste or nontransportability, are sold only domestically. For instance, if the preferences of the consumers in a country do not include eating certain kinds of meats or dairy products, that country will not purchase them on the world market. To a country producing those goods, they are considered nontradeable. However, there might well be a spirited domestic market for the same goods in the producing country. Likewise goods like services, houses and buildings, scenic areas, and many other commodities cannot be traded amoung countries. This project examines the prices of traded goods relative to prices of nontraded goods and develops models of the international economy more detailed and informative than were heretofore available. Porfessor Leamer has developed the concept of a "real exchange rate" for goods. In essence this rate is the overall price of traded goods relative to the price of nontraded goods incorporating the effects of inflation. Variation in the real exchange rate can account for much of the international economic status of a country. For instance, if the real exchange rate declines, producers of exports and import- competing goods realize smaller and smaller profits, and are unable to compete with foreign producers. In a word, the country loses its "competitiveness" on the world market. This might be due to real events inherent in the economy, or it might be the undesireable consequences of government policy. This project makes an important contribution to the literature on international ecomomics by deriving statistically consistent measures of the real exchange rate. Professor Leamer applies these models to various government monetary and fiscal policies to test their effects.
