Investigation of the relationship between real exchange rate uncertainty and private investment in Iran: An application of bivariate generalized autoregressive conditional heteroskedasticity (GARCH)-M Model with BEKK approach

Abstract

This paper investigates the relationship between real exchange rate uncertainty and private investment in Iran for the period of 1988 to 2008 by using quarterly data and applying bivariate generalized autoregressive conditional heteroskedasticity (Bivariate GARCH) model in the Iranian economy. We employ this model to examine in a unified empirical framework the interactions between the variables: first, we are interested to know whether there are bidirectional mean spillovers between real exchange rate and private investment. Second, we want to test if real exchange rate uncertainty has a negative impact on investment as predicted by Dixit and Pindyck (1994). Third, we are going to test if private investment uncertainty reduces the level of private investment. The main findings are that there are bidirectional mean spillovers between real exchange rate and private investment. Real exchange rate uncertainty significantly influences private investment and has a negative effect on it. And finally, our empirical evidence shows that private investment uncertainty affects the level of private investment, negatively. Key words: Real exchange rate uncertainty, private investment, bivariate generalized autoregressive conditional heteroskedasticity (Bivariate GARCH) model, Iran.