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Explaining Real Exchange Rates Fluctuations

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    This paper attempts to explain the sources of real exchange rate fluctuations for a set of advanced economies and Central and Eastern European transition economies. To address this, firstly, we compute two measures of the share of the variance in the real exchange rate accounting for movements in the relative prices of traded goods between countries. Secondly, we estimate structural (identified) vector autoregression (SVAR) models, and decompose real and nominal exchange rate movements into those caused by real and nominal shocks. Thirdly, we complete the previous steps with an impulse-response analysis. The results suggest that: (1) for transition economies, under regimes of managed nominal exchange rates, the relative price of non-traded goods explains a large percentage of the variance in the real exchange rate; (2) there is evidence of instability in the variance decomposition of real exchange rates for advanced economies across samples; and (3) as result of diverse fiscal and monetary policies in transition economies, real exchange rates in some economies are driven mostly by real shocks while in others they are driven mostly by nominal shocks.

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    File URL: http://public.centrodeestudiosandaluces.es/pdfs/E200423.pdf
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    Paper provided by Centro de Estudios Andaluces in its series Economic Working Papers at Centro de Estudios Andaluces with number E2004/23.

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    Length: 22 pages
    Date of creation: 2004
    Handle: RePEc:cea:doctra:e2004_23
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    1. Engel, Charles, 1993. "Real exchange rates and relative prices : An empirical investigation," Journal of Monetary Economics, Elsevier, vol. 32(1), pages 35-50, August.
    2. Blanchard, Olivier Jean & Quah, Danny, 1989. "The Dynamic Effects of Aggregate Demand and Supply Disturbances," American Economic Review, American Economic Association, vol. 79(4), pages 655-673, September.
    3. Charles Engel, 1999. "Accounting for U.S. Real Exchange Rate Changes," Journal of Political Economy, University of Chicago Press, vol. 107(3), pages 507-538, June.
    4. Lastrapes, William D, 1992. "Sources of Fluctuations in Real and Nominal Exchange Rates," The Review of Economics and Statistics, MIT Press, vol. 74(3), pages 530-539, August.
    5. Dibooglu, Selahattin & Kutan, Ali M., 2001. "Sources of Real Exchange Rate Fluctuations in Transition Economies: The Case of Poland and Hungary," Journal of Comparative Economics, Elsevier, vol. 29(2), pages 257-275, June.
    6. Engel, Charles & Rogers, John H, 2001. "Violating the Law of One Price: Should We Make a Federal Case Out of It?," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 33(1), pages 1-15, February.
    7. László Halpern & Charles Wyplosz, 1997. "Equilibrium Exchange Rates in Transition Economies," IMF Staff Papers, Palgrave Macmillan, vol. 44(4), pages 430-461, December.
    8. Dornbusch, Rudiger, 1976. "Expectations and Exchange Rate Dynamics," Journal of Political Economy, University of Chicago Press, vol. 84(6), pages 1161-1176, December.
    9. De Broeck, Mark & Slok, Torsten, 2006. "Interpreting real exchange rate movements in transition countries," Journal of International Economics, Elsevier, vol. 68(2), pages 368-383, March.
    10. Rogers, John H. & Jenkins, Michael, 1995. "Haircuts or hysteresis? Sources of movements in real exchange rates," Journal of International Economics, Elsevier, vol. 38(3-4), pages 339-360, May.
    11. Johansen, Soren, 1991. "Estimation and Hypothesis Testing of Cointegration Vectors in Gaussian Vector Autoregressive Models," Econometrica, Econometric Society, vol. 59(6), pages 1551-1580, November.
    12. Enders, Walter & Lee, Bong-Soo, 1997. "Accounting for real and nominal exchange rate movements in the post-Bretton Woods period," Journal of International Money and Finance, Elsevier, vol. 16(2), pages 233-254, April.
    13. Johansen, Soren, 1988. "Statistical analysis of cointegration vectors," Journal of Economic Dynamics and Control, Elsevier, vol. 12(2-3), pages 231-254.
    14. Brada, Josef C., 1998. "Introduction: Exchange Rates, Capital Flows, and Commercial Policies in Transition Economies," Journal of Comparative Economics, Elsevier, vol. 26(4), pages 613-620, December.
    15. Desai, Padma, 1998. "Macroeconomic Fragility and Exchange Rate Vulnerability: A Cautionary Record of Transition Economies," Journal of Comparative Economics, Elsevier, vol. 26(4), pages 621-641, December.
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