Long-run Real Exchange Rate Research Articles

Are Asian-Pacific real exchange rates (trend) stationary?

We apply the Range Unit-Root (RUR) test, a new nonparametric test advanced by Aparicio et al. (2006), to the exploration of stationarity for 19 Asian-Pacific currencies. The RUR test is exceptionally well suited to this analysis because it is robust against multiple structural breaks, parameter shifts and certain additive outliers, does not depend on the variance of any stationary alternative and thereby outperforms standard tests in terms of power on near-unit-root stationary time series. We find strikingly favourable results for trend-stationarity for most of the 19 Asian-Pacific currencies studied. Our results indicate that the long-run equilibrium Real Exchange Rate (RER) varies with changes in some real economic factors, hinting at some type of Balassa–Samuelson effects, which is particularly plausible for export-led, fast-growing economies such as many of the Asian-Pacific countries included in this study.

An alternative theory of real exchange rate determination: theory and empirical evidence for the Mexican economy, 1970-2004

The recent history of the Mexican economy has shown that its worst economic crises have been due to balance of payments problems, which eventually lead to foreign exchange rate crises (1976-1977, 1982, 1986-1988 and, 1994-1995). Although conventional exchange rate models hold that in the long-run real exchange rates will move in such a way as to make countries equally competitive, such an argument is far from being true because in reality countries are unequally competitive. In the case of Mexico (Mex), a clear and thorough assessment of real exchange rate determination and its relationship with the balance of payment, especially with the current account, which has been negative since the late forties despite currency devaluations, is necessary.

Equilibrium real exchange rate in Fiji: an empirical study

Given the fact that Fiji has a very narrow range of exportable commodities with a high degree of dependence on tourism earnings, maintenance of a competitive real exchange rate is of utmost importance. This paper undertakes an empirical analysis of Fiji's real exchange rate, by estimating long-run equilibrium real exchange rate and examining the short-run dynamics of real exchange rates and detection of possible misalignment. Empirical investigation shows that there has been no large, persistent instance of misalignment of Fiji's Real Effective Exchange Rate (REER).

Japan's inflation under the Bretton Woods system: How large was the Balassa–Samuelson effect?

Japan's real exchange rate appreciation during the post-WWII manufacturing-led growth period has been regarded as a classical example of the Balassa–Samuelson effect. We choose the most conspicuous sub-period—1956–1970—to confirm the effect. Japan was in a rapid growth period under the U.S. dollar peg (real GDP growth, 9.7% per annum). The nominal anchor was weak as Japan's inflation rate (GDP deflator-based, 5.4%) was markedly higher than the U.S. rate (2.6%) during the 15-year period. The decomposition of the annual 2.7% (geometric) Japan–U.S. inflation rate gap (real exchange rate appreciation of the Japanese yen) reveals that the Balassa–Samuelson effect accounted for 0.7%; most of the real exchange rate appreciation (1.7%) was attributed to greater price increases in Japan's tradables. Although Japan's tradable sector achieved high TFP growth, the joint effect of the tradable–nontradable TFP growth difference between the two economies was too small to generate a sizable Balassa–Samuelson effect. Japan's example may suggest that even in rapidly growing economies, the magnitude of the effect in long-run real exchange rate appreciation is generally modest.

Does PPP Hold Globally? Serial Correlation is More than You Think

Recent literature reports that in estimating the purchasing power parity, potential biases may significantly modify the half-life of means reverting of long-run real exchange rates. This paper considers three kinds of potential biases on which empirical researchers focused most. In addition, we accept Levin, Lin and Chu (2002) dynamic panel data estimation method which is alternative to the classical dynamic panel data estimating approach. Instead of using the same length of all regressors, this modification allows each time series to choose the number of lagged terms independently according to the time series data itself. In other words, we check the significance of regression coefficients to let each time series tell how many lagged terms it need to eliminate the serial-correlation which is common in most macro-economics data. We reexamine 77 world major countries and economies’ CPI based real exchange rates for post Bretton Wood period. With a bias adjusted half-life estimation of approximate 8 months, this paper illustrates an interesting phenomenon that serial-correlation could be an important resource of the PPP puzzle.

International Financial Integration and Real Exchange Rate Long-Run Dynamics in Emerging Countries

The aim of this paper is to provide new empirical evidence on the impact of international financial integration on the long-run Real Exchange Rate (RER) in 39 developing countries belonging to three different geographical regions (Latin America, Asia and MENA). It covers the period 1979-2004, and carries out second-generation tests for non-stationary panels. Several factors, including international financial integration, are shown to drive the long-run RER in emerging countries. It is found that the new financial environment characterised by international financial integration leads to a depreciation of the RER in the long run. Further, RER misalignments take the form of an under-valuation in most MENA countries and an over-valuation in most Latin American and Asian countries

International Financial Integration and Real Exchange Rate Long-Run Dynamics in Emerging Countries: Some Panel Evidence

The aim of this paper is to provide new empirical evidence on the impact of international financial integration on the long-run Real Exchange Rate (RER) in 39 developing countries belonging to three different geographical regions (Latin America, Asia and MENA). It covers the period 1979-2004, and carries out “second-generation” tests for non-stationary panels. Several factors, including international financial integration, are shown to drive the long-run RER in emerging countries. It is found that the new financial environment characterised by international financial integration leads to a depreciation of the RER in the long run. Further, RER misalignments take the form of an under-valuation in most MENA countries and an over-valuation in most Latin American and Asian countries.

International Financial Integration and Real Exchange Rate Long-Run Dynamics in Emerging Countries: Some Panel Evidence

The aim of this paper is to provide new empirical evidence on the impact of international financial integration on the long-run Real Exchange Rate (RER) in 39 developing countries belonging to three different geographical regions (Latin America, Asia and MENA). It covers the period 1979-2004, and carries out “second-generation” tests for non-stationary panels. Several factors, including international financial integration, are shown to drive the long-run RER in emerging countries. It is found that the new financial environment characterised by international financial integration leads to a depreciation of the RER in the long run. Further, RER misalignments take the form of an under-valuation in most MENA countries and an over-valuation in most Latin American and Asian countries.

Measuring The Real Exchange Rate Misalignment Of Ethiopia: A Dynamic Ols Approach

The paper tries to develop a model for the real exchange rate misalignment of Ethiopia. More specifically, the study attempts to examine whether Ethiopia\'s real exchange rate is misaligned with respect to its long run equilibrium level and answers such question as: (1) what are the constituent parts of the long run equilibrium RER? (2) Which variables set the movement of the equilibrium real exchange rate? (3) Based on the findings calculate the degree of misalignment and (4) what policy measures could be taken to realign the real exchange rate with its equilibrium level. The empirical estimation results conclude that, terms of trade (TOT), external aid inflows (ODA), commercial policy stance (CPS) and investment to GDP ratio were found to influence the long-run real exchange rate in the case of Ethiopia. However, variables such as nominal devaluation and real money supply found to have no effect on the real exchange rate. Ethiopian Journal of Economics Vol. 15 (2) 2006: pp. 29-50

Measuring the real exchange rate misalignment of Ethiopia

The paper tries to develop a model for the real exchange rate misalignment of Ethiopia. More specifically, the study attempts to examine whether Ethiopia's real exchange rate is misaligned with respect to its long run equilibrium level and answers such question as: (1) what are the constituent parts of the long run equilibrium RER? (2) Which variables set the movement of the equilibrium real exchange rate? (3) Based on the findings calculate the degree of misalignment and (4) what policy measures could be taken to realign the real exchange rate with its equilibrium level. The empirical estimation results conclude that, terms of trade (TOT), external aid inflows (ODA), commercial policy stance (CPS) and investment to GDP ratio were found to influence the long-run real exchange rate in the case of Ethiopia. However, variables such as nominal devaluation and real money supply found to have no effect on the real exchange rate.

Prospects for enhanced exchange rate cooperation in East Asia: some preliminary findings from generalized PPP theory1

The Asian financial crisis increased economic disparities in the East Asian (EA) region, thus making monetary integration more difficult, but rekindled political interest in Asian monetary and exchange rate cooperation. This article applies the theory of Generalized Purchasing Power Parity (G-PPP), which looks at the behaviour of long-run real exchange rates, to assess the potential for an optimum currency area (OCA) among a subset of EA countries based on five of the more advanced members of the Association of Southeast Asian Nations (ASEAN5). Our findings suggest little support for an OCA for ASEAN5 as a bloc prior to the Asian financial crisis and mixed results in the post-crisis period. In particular, asymmetries in the way countries adjust to shocks and low or insignificant speeds of adjustment were found. Thus, although the application of single OCA criteria is notoriously demanding and our tests apply to only one of the many criteria for the successful formation of an OCA, we cannot find persuasive evidence that ASEAN5 as a group constitute a potential currency area with either the USA or Japan, even when the ‘noisy’ period of the Asian financial crisis is omitted. 1 A first draft of this article was presented at the Western Economic Association International Pacific Rim Conference, Taipei in January 2003. We would also like to thank the Staff of the Regional Economic Monitoring Unit (REMU) at the Asian Development Bank (ADB) in Manila for their helpful comments on an earlier draft.

Long-run real exchange rate determinants: Evidence from eight new EU member states, 1993–2003

In this paper, we estimate bilateral equilibrium real exchange rates for a group of eight new EU member states against the euro, using new and sophisticated panel-cointegration techniques. We document a stable significant positive link between productivity levels and the corresponding real exchange rate levels and a stable significant and negative link between openness and the real exchange rate. We find real exchange rate misalignments to be small and weakly mean-reverting. In the context of entry into ERM-II and EMU for most of these countries over time, the results stress the importance of allowing countries to adjust to inflation pressure and real exchange rate appreciation, either through nominal appreciation or temporarily higher domestic inflation. Journal of Comparative Economics 35 (1) (2007) 87–107.

Can the Balassa-Samuelson theory explain long-run real exchange rate movements in OECD countries?

This study tests empirically the Balassa-Samuelson (BS) hypothesis using annual data for 12 OECD countries. New panel data cointegration techniques recently developed by Pedroni (2000) are applied and the results are compared with those obtained with conventional Johansen (1995)'s time series cointegration tests. Whereas standard time series approach turns out to be unable to put in evidence a significant long-run relationship is largely accepted for all countries using recent advances in the econometrics of non-stationary dynamic panels methods. This result doesn’t mean however that the BS is uniformly supported by data for all OECD countries, since actually four of them (Australia, Belgium, Canada and the USA) are proved not to follow the BS path. Closer examinations of the three key components of the BS hypothesis enable one to identify clearly the causes of this empirical failure. It is found that the absence of a positive long-run relationship between real exchange rate and the relative prices of non...

Commodity currencies and the real exchange rate

This paper examines whether the real exchange rates of commodity-exporting countries and the real prices of their commodity exports move together over time. Using International Monetary Fund (IMF) data on the world prices of 44 commodities and national commodity export shares, we construct new monthly indices of national commodity export prices for 58 commodity-exporting countries over 1980–2002. Evidence of a long-run relationship between national real exchange rate and real commodity prices is found for about one-third of the commodity-exporting countries. The long-run real exchange rate of these ‘commodity currencies’ is not constant (as would be implied by purchasing power parity-based models) but is time varying, being dependent on movements in the real price of commodity exports.

Real and nominal determinants of real exchange rates in Latin America: Short-run dynamics and long-run equilibrium

This article analyses the factors that determine the long-run real exchange rate in Argentina, Colombia and Mexico, distinguishing between real and nominal determinants. Cointegration analysis is utilised to establish that the real exchange rate has an equilibrium relationship with real variables (the terms of trade, capital flows, productivity, and government share of GDP) which excludes nominal variables (nominal exchange rate, money) and central bank intervention. Variance decompositions reveal that among the real variables that determine the real exchange rate, the terms of trade and productivity explain much of the variation in the real exchange rates. When nominal variables are included in the model, the nominal exchange rate accounts for most of the variation in the real exchange rates of all three countries. The impulse response functions are broadly consistent with theoretical predictions and shocks to the nominal variables have only transitory effects on the real exchange rate.

On the Long-Run Determinants of Real Exchange Rates for Developing Countries: Evidence from Africa, Latin America and Asia

The main goal of this paper is to tackle the empirical issues of the real exchange rate literature by applying recently developed panel cointegration techniques to a structural long-run real exchange rate equation. We consider here a sample of 45 developing countries, divided into three groups according to geographical criteria: Africa, Latin America and Asia. Our investigations confirm that having a reference to assess the degree of distortion of real exchange rate is not as simple as it can be thought with the PPP concept. The real exchange rate is effectively at the centre of an economic spiral and its value depends on the economic specificities of each country. In other words, we don't have a fixed and general norm but, for each economy, the real exchange rate trajectory depends on its development level, on the way economic policy is conducted, and on its position on the international market.

Exchange rate and long run equilibrium in transition economies

The purpose of this paper is to calculate pruchasing power parity rates and the real exchange rate using several methods of calculation to estimate long-run equilibrium real exchange rates in transition economies, mainly in Eastern European countries considered in transition, such as Poland. The authors calculate different measures of exchange rate misalignment (absolute and relative deviations from long-run equilibrium). Each measure is calculated using different price indices, which include consumer price indices, GDP deflactor, and unit labor cost. The expected values of these variables are used. To calculate the long-run equilibrium, different methods such as an error correction equation and a forward-looking model are utilized, and again, the expected values of the variables are introduced along with new variables. The estimation of the long-run cointegration equation of the equilibrium real exchange rate and the corresponding dynamic error correction specification strongly corroborates the model and produced fairly consistent results across the countries under study. Using appropriated proxies, the estimated long run equations were used to derive indices of the equilibrium real exchange rate.

Modelling the Long-Run Real Effective Exchange Rate of the New Zealand Dollar

The usefulness of the concept of an equilibrium exchange rate has been brought into sharp focus by the dramatic depreciation of the euro since its inception in 1999. Does this movement reflect a movement of the actual exchange rate relative to its equilibrium or has the equilibrium shifted relative to the perception of where the euro was in 1999? Similar kinds of questions have been asked about the behaviour of the New Zealand dollar since the latter part of 1999. To answer these kinds of questions it is necessary to have some measure of an equilibrium exchange rate and there are a plethora of alternative approaches available in the literature. In this paper we use the behavioural equilibrium exchange rate (BEER) approach of Clark and MacDonald (1999) to produce long-run equilibrium exchange rates for the effective real exchange rates of the New Zealand dollar. We demonstrate that a well founded measure of the equilibrium value of the dollar may be recovered from a relatively small set of fundamental variables and that this can be used to produce an assessment of the dollar in terms of periods of misalignment.

Long-run determinants of the Irish real exchange rate

Smooth adjustment to real exchange rate shifts is one of the major challenges facing the Irish economy under EMU. Rather than assume purchasing power parity, the long-run real exchange rate is modelled as time-varying, being determined by relative output levels, the terms of trade and the net foreign asset position. It is shown that these factors account for a large proportion of the long-run movement in the Irish real exchange rate.

External wealth, the trade balance, and the real exchange rate

We examine the link between the net foreign asset position, the trade balance and the real exchange rate. In particular, we decompose the impact of a country's net foreign asset position (‘external wealth’) on its long-run real exchange rate into two mechanisms: the relation between external wealth and the trade balance; and, holding fixed other determinants, a negative relation between the trade balance and the real exchange rate. We also provide additional evidence that the relative price of nontradables is an important channel linking the trade balance and the real exchange rate.