Abstract
Relationships between the nominal exchange rate, the current account and the financial account of the balance of payments in the Czech Republic are investigated in this presented paper. The implemented cointegration analysis and vector error correction model suggest one pair of Granger causality. It has been discovered that change in the current account balance Granger-causes a change in financial account balance. This relationship has the nature of two-way Granger causality, which means that a reversed relationship holds as well. Other relationships implying Granger causality were not found. Error terms were significant only in regressions with both accounts as dependent variables, which imply that only these variables return to their long-term equilibria. Because an increase in financial account surplus leads to a decrease in current account surplus (or deepening the current account deficit), excessive liberalization of the Czech financial system can lead to a large capital inflow, jeopardizes current account sustainability and results in a currency crisis in the Czech economy.
Highlights
IntroductionSometimes known as balance of payments crises, are still a very real danger to market economies
Currency crises, sometimes known as balance of payments crises, are still a very real danger to market economies
The aim of this paper is to find out whether the development of a nominal exchange rate and financial account affect the development of the current account in the Czech Republic or not
Summary
Sometimes known as balance of payments crises, are still a very real danger to market economies. The aim of this paper is to find out whether the development of a nominal exchange rate and financial account affect the development of the current account in the Czech Republic or not. The proved existence of these relationships can be very important for the Czech monetary authority because a proper monetary policy can affect the development of the financial account and (or) nominal exchange rate, which can prevent an undesirable worsening of the current account (which can result in a currency crisis in the Czech Republic). The relationship between current and financial account proceeds from the balance of payments identity. According to the balance of payments identity, a country’s current and financial account have to be balanced ex post, meaning that trade deficits (surpluses) will have to be accompanied by net capital inflows (outflows) of the same magnitude. The direction of causality is not clear at first sight and usually depends on the sample of countries under study (whether countries are developed or developing), as well as on the length of the period
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