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International Investment Positions and Exchange Rate Dynamics: A Dynamic Panel Analysis

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  • Michael Binder
  • Christian J. Offermanns

Abstract

In this paper we revisit medium- to long-run exchange rate determination, focusing on the role of international investment positions. To do so, we develop a new econometric framework accounting for conditional long-run homogeneity in heterogeneous dynamic panel data models. In particular, in our model the long-run relationship between effective exchange rates and domestic as well as weighted foreign prices is a homogeneous function of a country’s international investment position. We find rather strong support for purchasing power parity in environments of limited negative net foreign asset to GDP positions, but not outside such environments. We thus argue that the purchasing power parity hypothesis holds conditionally, but not unconditionally, and that international investment positions are an essential component to characterizing this conditionality. Finally, we adduce evidence that whether deterioration of a country’s net foreign asset to GDP position leads to a depreciation of that country’s effective exchange rate depends on its rate of inflation relative to the rate of inflation abroad as well as its exposure to global shocks.

Suggested Citation

  • Michael Binder & Christian J. Offermanns, 2007. "International Investment Positions and Exchange Rate Dynamics: A Dynamic Panel Analysis," CESifo Working Paper Series 2095, CESifo.
  • Handle: RePEc:ces:ceswps:_2095
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    File URL: https://www.cesifo.org/DocDL/cesifo1_wp2095.pdf
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    References listed on IDEAS

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    3. Markus Eberhardt & Francis Teal, 2010. "Aggregation versus Heterogeneity in Cross-Country Growth Empirics," CSAE Working Paper Series 2010-32, Centre for the Study of African Economies, University of Oxford.
    4. Asongu, Simplice & El Montasser, Ghassen & Toumi, Hassen, 2015. "Testing the Relationships between Energy Consumption, CO2 emissions and Economic Growth in 24 African Countries: a Panel ARDL Approach," MPRA Paper 69442, University Library of Munich, Germany.
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    6. Georgiadis, Georgios, 2014. "Towards an explanation of cross-country asymmetries in monetary transmission," Journal of Macroeconomics, Elsevier, vol. 39(PA), pages 66-84.
    7. Coudert, Virginie & Couharde, Cécile & Grekou, Carl & Mignon, Valérie, 2020. "Heterogeneity within the euro area: New insights into an old story," Economic Modelling, Elsevier, vol. 90(C), pages 428-444.
    8. Albuquerque Bruno & Baumann Ursel & Krustev Georgi, 2015. "US household deleveraging following the Great Recession – a model-based estimate of equilibrium debt," The B.E. Journal of Macroeconomics, De Gruyter, vol. 15(1), pages 1-53, January.
    9. Nabila Asghar & Awais Anwar & Hafeez Ur Rehman & Saba Javed, 2020. "Industrial practices and quality of environment: evidence for Asian economies," Environment, Development and Sustainability: A Multidisciplinary Approach to the Theory and Practice of Sustainable Development, Springer, vol. 22(8), pages 7807-7829, December.
    10. Sinha, Apra & Kumar, Abhishek & Gopalakrishnan, Badri Narayanan, 2020. "Environmental Kuznets Curve and Pollution Haven Hypothesis," MPRA Paper 98930, University Library of Munich, Germany.
    11. Sascha S. Becker, 2011. "What Drives the Relationship Between Inflation and Price Dispersion? Market Power vs. Price Rigidity," SFB 649 Discussion Papers SFB649DP2011-019, Sonderforschungsbereich 649, Humboldt University, Berlin, Germany.

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