We investigate the effects of exchange rate uncertainty on exports in the context of a multivariate framework in which a structural open economy vector autoregression is modified to accommodate multivariate GARCH-in-Mean errors, as detailed in Elder (2004). Our measure of exchange rate uncertainty is the conditional standard deviation of the forecast error of the change in the exchange rate. We isolate the effects of exchange rate uncertainty on exports and also analyze how accounting for exchange rate uncertainty affects the response of exports to exchange rate shocks. We estimate the model using aggregate monthly data for the United States, over the flexible exchange rate period (since 1973). We use full information maximum likelihood estimation procedures and find that exchange rate uncertainty has a negative and significant effect on U.S. exports. We also find that accounting for exchange rate uncertainty tends to strengthen the dynamic response of exports to shocks in the exchange rate and that exports respond asymmetrically to positive and negative exchange rate shocks of equal magnitude.
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Paper provided by Department of Economics, University of Calgary in its series Working Papers with number
2008-37.