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Structural Breaks in the Real Exchange Rate and Real Interest Rate Relationship

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  • Joseph P. Byrne
  • Jun Nagayasu

Abstract

In this paper we empirically examine the relationship between the real exchange rate and real interest rate differentials using recent econometric methods robust to potential structural breaks. Generally, our study provides evidence of this relationship in the long-run context. More specifically, we first focus on the UK-US relationship, and interestingly find limited evidence of this long-run relationship using traditional methods. But when an approach robust to endogenously determined structural breaks is employed, we find evidence that the real interest rate differential is an important determinant of the real exchange rate. Secondly, in order to investigate the relevance of structural shifts in a more global context, we carry out multiple country analysis. While providing evidence of this long-run relationship, European data suggest that the presence of structural breaks is not very common across countries and is indeed country-specific.

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Bibliographic Info

Paper provided by Business School - Economics, University of Glasgow in its series Working Papers with number 2008_29.

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Date of creation: Oct 2008
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Handle: RePEc:gla:glaewp:2008_29

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Keywords: Real exchange rate; real interest rate differential; nonstationarity; endogenously determined structural breaks; trace tests;

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Cited by:
  1. Nagayasu, Jun, 2013. "Co-movements in Real Effective Exchange Rates: Evidence from the Dynamic Hierarchical Factor Model," SIRE Discussion Papers 2013-66, Scottish Institute for Research in Economics (SIRE).

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