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Fractional cointegration and real exchange rates

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  • Guglielmo Maria Caporale
  • Luis A. Gil‐Alana

Abstract

This paper uses fractional integration and cointegration to model the DM–US dollar and the yen–US dollar real exchange rates in terms of both monetary and real factors, more specifically real interest rate and labour productivity differentials. We find that whilst the individual series may be integrated of order 1, their long‐run relationship might have a fractionally cointegrated structure. This means that mean reversion occurs, consistently with the findings of other studies. However, it also indicates, in contrast to such studies, that the cointegrating relationship possesses long memory. In other words, the error correction term responds slowly to shocks, implying that deviations from equilibrium are long‐lived. It appears that only a combination of real and monetary variables can accurately track down the movements of real exchange rates.

Suggested Citation

  • Guglielmo Maria Caporale & Luis A. Gil‐Alana, 2004. "Fractional cointegration and real exchange rates," Review of Financial Economics, John Wiley & Sons, vol. 13(4), pages 327-340.
  • Handle: RePEc:wly:revfec:v:13:y:2004:i:4:p:327-340
    DOI: 10.1016/j.rfe.2003.12.001
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    Cited by:

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    2. de Truchis, Gilles & Keddad, Benjamin, 2013. "Southeast Asian monetary integration: New evidences from fractional cointegration of real exchange rates," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 26(C), pages 394-412.
    3. Boubaker, Heni & Zorgati, Mouna Ben Saad & Bannour, Nawres, 2021. "Interdependence between exchange rates: Evidence from multivariate analysis since the financial crisis to the COVID-19 crisis," Economic Analysis and Policy, Elsevier, vol. 71(C), pages 592-608.
    4. Galeotti, Marzio & Manera, Matteo & Lanza, Alessandro, 2006. "On the Robustness of Robustness Checks of the Environmental Kuznets Curve," Climate Change Modelling and Policy Working Papers 12045, Fondazione Eni Enrico Mattei (FEEM).
    5. Carlos P. Barros & Luis A. Gil-Alana & Zhongfei Chen, 2016. "Exchange rate persistence of the Chinese yuan against the US dollar in the NDF market," Empirical Economics, Springer, vol. 51(4), pages 1399-1414, December.
    6. Carlos P. Barros & Guglielmo Maria Caporale & Luis A. Gil-Alana, 2014. "Long Memory in Angolan Macroeconomic Series: Mean Reversion versus Explosive Behaviour," African Development Review, African Development Bank, vol. 26(1), pages 59-73, March.
    7. Luis Alberiko Gil-Alaña & Guiglielmo Maria Caporale, 2012. "Testing the PPP Hypothesis in the Sub-Saharan Countries," NCID Working Papers 10/2012, Navarra Center for International Development, University of Navarra.
    8. Marcel Aloy & Mohamed Boutahar & Karine Gente & Anne P駵in-Feissolle, 2013. "Long-run relationships between international stock prices: further evidence from fractional cointegration tests," Applied Economics, Taylor & Francis Journals, vol. 45(7), pages 817-828, March.
    9. Caporale, Guglielmo Maria & Gil-Alana, Luis A. & You, Kefei, 2018. "Exchange rate linkages between the ASEAN currencies, the US dollar and the Chinese RMB," Research in International Business and Finance, Elsevier, vol. 44(C), pages 227-238.
    10. Carlos P. Barros & Luis Alberiko Gil-Alana & João Faria, 2015. "Mozambique Metical Exchange Rate Dynamics: Evidence of Fractional Co-Integration in the USA and South African Rates," South African Journal of Economics, Economic Society of South Africa, vol. 83(4), pages 569-575, December.
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    JEL classification:

    • C22 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes
    • C32 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes; State Space Models
    • F30 - International Economics - - International Finance - - - General
    • F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics

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