Equilibrium real exchange rates: Closed-form theoretical solutions and some empirical evidence

This paper generates closed-form theoretical solutions for the relationships among the real exchange rate, relative per capita consumption, and relative wealth in a stochastic dynamic general equilibrium model of two countries' representative consumers. The solutions offer insight into the robust cross-sectional relationship between relative per capita GDPs and relative national price levels established in Kravis and Lipsey (1983, 1987, 1988) in a manner consistent with equilibrium exchange rate theories and the productivity-differentials model of Balassa (1964) and Samuelson (1964). Application of panel data from Summers and Heston (1988) to the model's structural equations yields economically-plausible estimates of the elasticity of intertemporal substitution, the relative importance of non-tradables in consumption, and the rate of time preference in several OECD countries relative to that in the United States. (JEL F31). (C) 1997 Elsevier Science Ltd.