Relative labor productivity and the real exchange rate in the long run: evidence for a panel of OECD countries

The Balassa-Samuelson model, which explains real exchange rate movements in terms of sectoral productivities, rests on two components. First, it impli es that the relative price of non-traded goods in each country should refle ct the relative productivity of labor in the traded and non-traded goods se ctors. Second, it assumes purchasing power parity holds for traded goods. W e test both of these using a panel of OECD countries. Our results suggest t hat relative prices generally reflect relative labor productivities in the long run. The evidence on purchasing power parity in traded goods is less f avorable, at least when ive look at US dollar exchange rates. (C) 1999 Else vier Science B.V. All rights reserved.