Relative Prices, Hysteresis, and the Decline of American Manufacturing

• Published in: IDEAS Working Paper Series from RePEc
• Main Author: Campbell, Douglas L
• Format: Paper
• Language: English
• Published: St. Louis Federal Reserve Bank of St. Louis 01.01.2014
• Subjects: Employment; Foreign exchange rates; Manufacturing

This study uses new measures of real exchange rates to study the collapse of US manufacturing employment in the early 2000s in historical and international perspective. To identify a causal impact of RER movements on manufacturing, I compare the US experience in the early 2000s to the 1980s, when large US fiscal deficits led to a sharp appreciation of the dollar, and to Canada's experience in the mid-2000s, when high oil prices and a falling US dollar led to an equally sharp appreciation of the Canadian dollar. I use disaggregated sectoral data and a difference-in-difference methodology, finding that an appreciation in relative unit labor costs for the US lead to disproportionate declines in employment, output, investment, and productivity in relatively more open manufacturing sectors. In addition, I find that the impact of a temporary shock to real exchange rates is surprisingly long-lived. The appreciation of US relative unit labor costs can plausibly explain more than two-thirds of the decline in manufacturing employment in the early 2000s.