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Non-Stationary Interest Rate Differentials and the Role of Monetary Policy

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  • Philipp Matros

    ()
    (Universität Regensburg)

  • Enzo Weber

    ()
    (Osteuropa-Institut, Regensburg (Institut for East European Studies))

Abstract

The present work deals with a frequently detected failure of the uncovered interest rate parity (UIP) - the absence of bivariate cointegration between domestic and foreign interest rates. We explain non-stationarity of the interest differential via central bank reactions to exchange rate variations. Thereby, the exchange rate in levels introduces an additional stochastic trend into the system. Trivariate cointegration between the interest rates and the exchange rate accounts for the missing stationarity property of the interest differential. We apply the concept to the case of Turkey and Europe,where we can validate the theoretical considerations by multivariate time series techniques.

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Bibliographic Info

Paper provided by Institut für Ost- und Südosteuropaforschung (Institute for East and South-East European Studies) in its series Working Papers with number 293.

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Length: 22
Date of creation: Jan 2011
Date of revision:
Handle: RePEc:ost:wpaper:293

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Related research

Keywords: Uncovered Interest Rate Parity; Monetary Policy Rules; Cointegration; Vector-Error Correction Model;

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