EXCHANGE-RATE REGIMES AND TRADE PRICES - DOES THE EMS MATTER

The paper investigates the role of exchange rate regimes on the proces s of trade adjustment. A two-period model of a duopoly with consumer s witching costs is constructed. The perception of economic agents regar ding exchange rate stability is explicitly introduced. The model is te sted using bilateral trade prices data for flows inside and outside th e European Monetary System (EMS). Results suggest that a system of peg ged rates, like the EMS, although helpful, is not necessary to achieve a smooth process of trade adjustment. Rather than the type of exchang e rate regime, it appears that misalignment is the crucial factor.