The choice of the exchange-rate regime has always been an area of great controversy and debate. The discussion has once again taken center stage in the developing world. The sequence of currency crises in the 1990's, the success of culTency-board arrangements, the dollarization plan of Ecuador, and the apparent swing toward flexible regimes of many emerging economies has revived interest in this debate. Milton Friedman (1953) argued that one of the most important advantages of flexible regimes over fixed regimes is that they can smooth adjustment to real shocks even in the presence of nominal rigidities. Ever since, this has been one of the least disputed benefits attributed to fully flexible exchange-rate regimes. Subsequent to Friedman, many theories of the international transmission of real shocks have confirmed the original intuition that the shortrun responses to terms-of-trade shocks should be different across exchange-rate regimes. Here I look at a post-Bretton Woods sample of 74 developing countries to test whether flexible regimes can buffer terms-of-trade shocks better than fixed regimes.

This paper describes the extent of product creation and destruction in a large sector of the US economy. We find four times more entry and exit in product markets than is found in labor markets because most product turnover happens within firms. Net product creation is strongly procyclical and primarily driven by creation rather than destruction. We find that a cost-of-living index that takes product turnover into account is 0.8 percentage points per year lower than a “fixed goods” price index like the CPI. The procyclicality of the bias implies that business cycles are more volatile than indicated by official statistics. (JEL E31, E32, L11, O31)

Economists since John Richard Hicks have known that one of the principal means, if not the principal means, through which countries benefit from international trade is by the expansion of varieties. The seminal work of Paul R. Krugman (1979) brought the study of varieties into sharp focus by presenting a simple generalequilibrium model in which countries gain from trade through the import of new varieties. Since then, economists have been hampered in their ability to quantify the impact of new varieties on national welfare by the econometric and data hurdles that need to be surmounted. In this paper, we document some stylized facts about the growth in global varieties which suggest that there may have been substantial welfare gains through the import of new varieties. Moreover, we calculate the impact of increased variety on import prices and find that conventional measures of import price inflation may be dramatically biased upward. Classical international-trade theory postulates that the elimination of trade barriers improves welfare by reducing the wedge between domestic and import prices as well as the ensuing deadweight loss. An entirely different reason for the gains from trade arises from models of monopolistic competition. If consumers value variety and countries cannot produce all varieties due to a fixed cost in the production of each variety, countries stand to gain from trade because it expands the set of available varieties. In these models, the gains hinge crucially on a number of parameters and variables. The first is the elasticity of substitution among varieties. If varieties are highly substitutable, as might be true for varieties of gasoline, then increasing the number of varieties is unlikely to have much of an effect on prices and welfare. Second, quality variation across varieties may matter. Presumably, most Americans care more about having access to French red wine than to Japanese red wine. Finally, import quantities matter as, ceteris paribus, one cares more about variety growth in big sectors than in small sectors. In Broda and Weinstein (2004), we carefully estimate the impact of increased variety in the United States over the period from 1972 to 2001. Using the most disaggregated import data available, we document that the number of varieties imported by the United States, defined as the number of import categories multiplied by the average number of source countries for each category, quadrupled. About half of this increase was due to increases in the number of categories and half due to a doubling of the number of countries from which the United States imported each good. Measuring the impact of this increase on U.S. import prices and welfare is a complex process that we will only discuss briefly here. Essentially, we used Robert C. Feenstra’s (1994) methodology to estimate 30,000 elasticities and then construct an aggregate price index that is robust to common changes in quality variation, the arbitrary splitting of categories, the introduction of new goods, and a host of other data problems. After reconstructing the U.S. import price index, we found that the price of U.S. imports has been falling at a rate 1.2 percent per year faster than one would have thought without taking new varieties into account. To get some sense of the enormity of this bias, consider that the impact of quality adjustments on the consumer price index is estimated to be 0.6 percent per year. Using this adjusted import price index, we estimate the impact of new imported varieties on * Broda: Research Department, Federal Reserve Bank of New York, 33 Liberty Street, New York, NY 10045; Weinstein: Economics Department, Columbia University, 420 W. 118th Street, New York, NY 10027, and NBER. We thank Joshua Greenfield for excellent research assistance. We thank Robert Feenstra and Peter Klenow for excellent comments. 1 “The extension of trade does not primarily imply more goods ... the variety of goods available is (also) increased, with all the widening of life that that entails. There can be little doubt that the main advantage that will accrue to those with whom our merchants are trading is a gain of precisely this kind ... . This is a gain which ‘quantitative economic history,’ which works with index numbers of real income, is ill-fitted to measure, or even to describe” (Hicks, 1969 p. 56).

We find that prior to World Trade Organization membership, countries set import tariffs 9 percentage points higher on inelastically supplied imports relative to those supplied elastically. The magnitude of this effect is similar to the size of average tariffs in these countries, and market power explains more of the tariff variation than a commonly used political economy variable. Moreover, US trade restrictions not covered by the WTO are significantly higher on goods where the United States has more market power. We find strong evidence that these importers have market power and use it in setting noncooperative trade policy. (JEL F12, F13)