This paper constructs a dynamic general equilibrium model aimed at exploring the link between money shocks and the real exchange rate. The key ingredient of the model is the presence of increasing returns to scale in technology. This allows for an equilibrium in a monopolistic competitive price setting in which prices are endogenously sticky. The combination of increasing returns and very short term price stickiness leads to significant monetary non-neutralities. Under a floating exchange rate, a monetary shock leads to an immediate and persistent real and nominal depreciation. A monetary shock generates persistent positive effects on output, consumption, and investment. Finally, the behavior of the real exchange rate in the model is consistent with the broad empirical characteristics of real exchange rates.
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