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Accounting for the source of exchange rate movements: new evidence

  • Katie Farrant
  • Gert Peersman

This paper analyses the role of the real exchange rate in a structural vector autoregression framework for the United Kingdom, euro area, Japan and Canada versus the United States. A new identification strategy is proposed building on sign restrictions. The results are compared to the benchmark conventional approach of Clarida and Gali based on long-run zero restrictions. Although the restrictions are derived from the same theoretical model, the results are strikingly different. In contrast to the benchmark model, an important role for nominal shocks in explaining real exchange rate fluctuations is found.

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File URL: http://www.bankofengland.co.uk/research/Documents/workingpapers/2005/WP269.pdf
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Paper provided by Bank of England in its series Bank of England working papers with number 269.

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Date of creation: Aug 2005
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Handle: RePEc:boe:boeewp:269
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  1. Jordi Galí & Richard Clarida, 1993. "Sources of real exchage rate fluctuations: How important are nominal shocks?," Economics Working Papers 66, Department of Economics and Business, Universitat Pompeu Fabra, revised Jan 1994.
  2. Detken, Carsten & Dieppe, Alistair & Henry, Jérôme & Marin, Carmen & Smets, Frank, 2002. "Model uncertainty and the equilibrium value of the real effective euro exchange rate," Working Paper Series 0160, European Central Bank.
  3. Faust, Jon & Rogers, John H., 2003. "Monetary policy's role in exchange rate behavior," Journal of Monetary Economics, Elsevier, vol. 50(7), pages 1403-1424, October.
  4. Maurice Obstfeld, 1985. "Floating Exchange Rates: Experience and Prospects," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 16(2), pages 369-464.
  5. Michael Funke, 2000. "Macroeconomic Shocks in Euroland vs. the UK: Supply, Demand, or Nominal?," EUI-RSCAS Working Papers 37, European University Institute (EUI), Robert Schuman Centre of Advanced Studies (RSCAS).
  6. Gert Peersman, 2005. "What caused the early millennium slowdown? Evidence based on vector autoregressions," Journal of Applied Econometrics, John Wiley & Sons, Ltd., vol. 20(2), pages 185-207.
  7. Jon Faust & Eric M. Leeper, 1994. "When do long-run identifying restrictions give reliable results?," Working Paper 94-2, Federal Reserve Bank of Atlanta.
  8. Tamim Bayoumi & Barry Eichengreen, 1992. "Macroeconomic Adjustment Under Bretton Woods and the Post-Bretton Woods Float: An Impulse-Response Analysis," NBER Working Papers 4169, National Bureau of Economic Research, Inc.
  9. King, Robert G. & Plosser, Charles I. & Stock, James H. & Watson, Mark W., 1991. "Stochastic Trends and Economic Fluctuations," American Economic Review, American Economic Association, vol. 81(4), pages 819-40, September.
  10. Artis, Michael & Ehrmann, Michael, 2006. "The exchange rate - A shock-absorber or source of shocks? A study of four open economies," Journal of International Money and Finance, Elsevier, vol. 25(6), pages 874-893, October.
  11. Fabio Canova & Gianni De Nicolo, 2000. "Monetary disturbances matter for business fluctuations in the G-7," International Finance Discussion Papers 660, Board of Governors of the Federal Reserve System (U.S.).
  12. Canova, Fabio & Pina, Joaquim Pivis, 1999. "Monetary Policy Misspecification in VAR Models," CEPR Discussion Papers 2333, C.E.P.R. Discussion Papers.
  13. Matthew B. Canzoneri & Javier Vallés & José Viñals, 1996. "Do Exchange Rate Move to Address International Macroeconomic Imbalances?," Banco de Espa�a Working Papers 9626, Banco de Espa�a.
  14. Olivier Jean Blanchard & Danny Quah, 1988. "The Dynamic Effects of Aggregate Demand and Supply Disturbances," NBER Working Papers 2737, National Bureau of Economic Research, Inc.
  15. Eswar Prasad & Bankim Chadha, 1996. "Real Exchange Rate Fluctuations and the Business Cycle; Evidence From Japan," IMF Working Papers 96/132, International Monetary Fund.
  16. Jon Faust, 1998. "The robustness of identified VAR conclusions about money," International Finance Discussion Papers 610, Board of Governors of the Federal Reserve System (U.S.).
  17. Tao Wang, 2004. "China; Sources of Real Exchange Rate Fluctuations," IMF Working Papers 04/18, International Monetary Fund.
  18. Ronald Mac Donald, 1998. "What Do We Really Know About Real Exchange Rates?," Working Papers 28, Oesterreichische Nationalbank (Austrian Central Bank).
  19. Faust, Jon, 1998. "The robustness of identified VAR conclusions about money," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 49(1), pages 207-244, December.
  20. Jan Gottschalk & Ashok Bhundia, 2003. "Sources of Nominal Exchange Rate Fluctuations in South Africa," IMF Working Papers 03/252, International Monetary Fund.
  21. Peersman, Gert & Smets, Frank, 2001. "The monetary transmission mechanism in the euro area: more evidence from VAR analysis," Working Paper Series 0091, European Central Bank.
  22. Dornbusch, Rudiger, 1976. "Expectations and Exchange Rate Dynamics," Journal of Political Economy, University of Chicago Press, vol. 84(6), pages 1161-76, December.
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