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9.1. THE REDUX MODEL 285and associated beggar thy neighbor policies identiÞed in the Mundell-Fleming model are unimportant in the Redux model environment.It is possible, but unlikely for reasonable parameter values, that thedomestic monetary expansion can lower welfare abroad through its effectson foreign real cash balances. The analysis of this aspect of foreignwelfare is treated in the end-of-chapter problems.Summary of Redux Predictions. The law-of-one price holds for all goodsand as a consequence PPP holds as well. A permanent domestic monetaryshock raise domestic and foreign consumption. Domestic outputincreases and it is likely that foreign output increases but by a lesseramount. The presumption is that home and foreign consumption exhibita higher degree of co-movement than home and foreign output.Both home and foreign households experience the identical positivewelfare effect from changes in consumption and leisure. The monetaryexpansion moves production closer to the efficient level, which is distortedin equilibrium by imperfect competition. There is no exchangerate overshooting. The nominal exchange rate jumps immediately toits long-run value. The exchange rate also exhibits less volatility thanthe money supply.Many of these predictions are violated in the data. For example,Knetter [86] and Feenstra et. al. [52] Þnd that pass through of theexchange rate onto the domestic prices of imports is far from completewhereas there is complete pass-through in Redux. 8 Also, we saw inChapter 7 that deviations from PPP and deviations from the law-ofoneprice are persistent and can be quite large. Also, Redux does notexplain why international consumption displays lower degrees of comovementsthan output as we saw in Chapter 5.We now turn to a reÞnement of the Redux model in which theprice-setting rule is altered. The change in this one aspect of the modeloverturns many of the redux model predictions and brings us backtowards the Mundell—Fleming model.8 Pass-through is the extent to which the dollar price of US imports rise in responseto a 1-percent depreciation in the dollar currency.