Flexible Rate Period Research Articles

Cointegration test of a long-run relation between the trade balance and the terms of trade in sixteen countries

This paper examines the impact of the terms of trade on the trade balance in 16 countries over the present flexible rate period, 1973:2 through 1992:4. The cointegration tests employed are those suggested by Stock and Watson (1993),'Johansen and Juselius (1990) and Engle and Granger (1987). The results indicate that, for a majority of the countries, there exists a positive and significant long-run “statistical equilibrium” between the trade balance and the terms of trade. The approach adopted in this study is found to be an acceptable substitute for testing the Marshall-Lerner condition of stability.

Money, income, and exchange rate regimes: Evidence from the U.K.

This study examines the money-income correlation in the U.K. using monthly data over both fixed and flexible exchange rate regimes. Most previous studies find unidirectional causality running from income to money. The results presented here indicate that money and income are independent over the fixed rate period, while unidirectional causality runs from money to income over the flexible rate period. There are two major reasons for the difference between the results reported here and those provided by other studies. First, unlike the current study, previous studies employing U.K. data have tested for Granger causality using bivariate or trivariate tests which suffer from an omitted variables bias. Second, unlike many previous studies, the current study does not mix data from different exchange rate regimes.

Sources of Fluctuations in Real and Nominal Exchange Rates

This paper attempts to distinguish empirically real versus nominal sources of fluctuations in real and nominal exchange rates. The distinction is obtained by imposing the following restriction on the bivariate vector autoregression of real and nominal exchange rates over the current flexible rate period: nominal shocks are required to have no permanent effect on the level of the real exchange rate. Given this identification scheme, the author analyzes the dynamic effects and relative importance of real and nominal shocks with regards to exchange rates. The findings indicate that real shocks dominate nominal shocks for both exchange rate series over short and long frequencies. Copyright 1992 by MIT Press.

Monetary interdependence between the United States and United Kingdom under alternative exchange rate regimes

The issue of monetary interdependence between the reserve-currency country (US) and the non-reserve-currency country (UK) is investigated under fixed and flexible exchange rate periods. For the fixed rate period, our investigations show that there existed monetary interdependence between the US and UK. For the flexible rate period, the results are sensitive to the definition of money used in the model. Some of our results indicate that US monetary action has no impact on UK money and income, whereas the others confirm the currency substitution argument that significant monetary interdependence is found between the US and UK. The empirical results do not show the striking contrast between fixed and flexible rate regimes which one might expect from the theory. The most striking result is that there was substantial and consistent causal influence from British incomes and money to US incomes and money in both time periods, while the influence in the opposite direction was consistently smaller.

Real Exchange Rate Volatility and U.S. Bilateral Trade: A Var Approach

This paper uses VAR models to investigate the impact of real exchange rate volatility on U.S. bilateral imports from the United Kingdom, France, Germany, Japan and Canada. The VAR systems include U.S. and foreign macro variables, and are estimated separately for each country. The major results suggest that the effect of volatility on imports is weak, although permanent shocks to volatility do have a negative impact on this measure of trade, and those effects are relatively more important over the flexible rate period. Copyright 1989 by MIT Press.

Arima and Cointegration Tests of PPP under Fixed and Flexible Exchange Rate Regimes

Real exchange rates between the United States and its major trading partners were calculated for the Bretton Woods and flexible exchange rate periods. Unit root tests indicate that Purchasing Power Parity performed poorly in both periods. Tests for cointegration reveal limited instances in which it is possible to estimate the deviations from PPP as an error correcting model. The estimated error correcting models indicate that foreign, but not U.S., prices responded to deviations from PPP. Frenkel's (1981b) finding that Purchasing Power Parity (PPP) worked better during the 1920s than the 1970s caused considerable controversy. For example, Davutyan and Pippenger (1985) contend that the socalled collapse of PPP is a result of an increase in the relative importance of real versus monetary shocks. They argue that the 1970s, as opposed to the 1920s, was characterized by real supply shocks and the international coordination of monetary policies. The argument is that PPP did not fail; rather, there was an increase in the volatility of those factors giving rise to deviations from PPP. Hakkio (1984) reestimated PPP over the 1920s and 1970s; using cross-country tests (i.e., SURE estimates) to improve the efficiency of his estimates, he was able to support the hypothesis that PPP worked better in the 1970s than in the 1920s. On the other hand, papers by Adler and Lehman (1983), Dornbusch (1980), Frenkel (1981a), Junge (1985), and Krugman (1978) report findings contrary to the PPP hypothesis. Moreover, Kenen and Rodrik (1986) find that the volatility of real exchange rates has increased throughout the flexible rate period. This paper tries to shed some light on the importance and persistence of the observed deviations from Purchasing Power Parity under alternative exchange rate systems. While it is interesting to compare PPP in the 1920s versus the 1970s, it is equally useful to compare the 1960s versus the 1970s and 1980s. If real supply shocks and lack of monetary coordination are characteristic of the latter period, PPP should perform better in the 1960s. To illustrate the issues involved, consider the following econometric model of (Relative) Purchasing Power

A test for structural change in U.S. real trade and trade prices: Fixed exchange rate period vs. flexible exchange rate period

Critics of the flexible exchange rate system charge that exchange rate variability has a negative effect on international trade. In this study a simultaneous model of real trade, trade prices, and the exchange rate is consistently estimated with instrumental variables methods, using data on U.S. trade with nine major industrial countries. The real trade and trade price equations are tested for structural change between the fixed and flexible rate with a X2 test. The demand for U.S. real imports shifted significantly, and further tests indicate a significant negative effect during the flexible rate period. U.S. real exports and trade prices were stable throughout. The estimates of the model for the flexible rate period indicate that the exchange rate has a strong, lagged impact on trade, and vice versa. These strong, but slow, cross-effects result in long explosive cycles of dollar appreciation, worsening U.S. trade balance, and dollar depreciation.

The impact of exchange-rate volatility on export growth: Some theoretical considerations and empirical results

This paper (i) examines the theoretical relationship between exchange-rate volatility and export growth and (ii) tests for the empirical impact of such volatility on real export growth of 11 OECD countries. We argue that, theoretically, exchange-rate volatility can have an impact on trade in either a positive or negative direction. Empirical results are provided for the managed-rate and flexible-rate periods. Both nominal and real measures of exchange rates are used in two specifications of volatility: absolute percentage changes and standard deviations. Of 33 regressions presented, only three support the hypothesis that exchange-rate volatility impedes export performance.

Deviations from Purchasing Power Parity in the Long Run

ABSTRACTThis paper demonstrates that deviations from purchasing power parity reveal a remarkable and possibly startling consistency with martingale behavior during both fixed and flexible rate periods, for a wide variety of countries, and in both monthly and annual data. Since this pattern appears to be much more general than one would expect on the basis of models founded on international commodity arbitrage, the paper proposes an alternative explanation which instead relies on financial arbitrage in bonds as the underlying mechanism.

The transmission of inflation between the United States and Canada: An empirical analysis

This paper investigates the causal patterns, in the sense of Granger, which characterize the relationships between U.S. and Canadian inflation rates under different exchange rate regimes. Both bivariate and multivariate models are considered. The results suggest that the flexible exchange rate period of the 1950s exhibits no insulating effects with causal inferences similar to those from the fixed rate era of the 1960s. For the flexible rate period of the 1970s the bivariate model indicates that U.S. and Canadian inflation are independent but when the model is expanded to include money growth rates in each country, evidence of a direct, nonmonetary causal link from U.S. inflation to Canadian inflation is found.

Fluctuations in the dollar: A model of nominal and real exchange rate determination

This paper develops a model of exchange rate determination that extends the Dornbusch-Frankel model to allow for large and sustained changes in real exchange rates. Real exchange rate changes are related to movements in the current account, both through changes in expectations about the long-run equilibrium real exchange rate and through changes in the risk premium. The model is estimated empirically for the dollar's weighted average exchange rate over the flexible rate period of the 1970s. The results indicate that innovations to the current account have been a significant determinant of the exchange rate, predominantly through changes in expectations.