Consumption and real exchange rates with incomplete markets and non-traded goods

This paper addresses the consumption–real exchange rate anomaly.International real business cycle models based on complete financialmarkets predict a unitary correlation between the realexchange rate and the ratio of home to foreign consumptionwhen subjected to supply-side shocks. In the data, this correlationis usually small and often negative. This paper shows that thisanomaly can be successfully addressed by models that have an incompletefinancial market structure and a non-traded as well astraded goods production sector.[...]