Abstract

This paper investigates the effects of fiscal expenditure shock on exchange rate behavior and the role of asymmetric pricing-to-market in the New Open Economy Macroeconomics. The findings of this paper indicated that if discriminatory pricing behavior is considered, and when a country faced with a fiscal expenditure shock, exchange rate fluctuation in the short run would be wider than in the long run with overshooting of exchange rate. Further, the increase of government expenditure will push up exchange rates. If the firms in both countries take pricing based on home (foreign) currency, an enlargement of the size of the home country will cause lesser (wider) range of exchange rate fluctuation with the change in government expenditure. In addition, the greater the effect of the elasticity of substitution among the products and marginal utility of the real money demand will trigger lesser range of exchange rate fluctuation with the change in government expenditure.

This work is licensed under a Creative Commons Attribution 4.0 License.