The Dollar and Real Interest Rates
In this paper, we investigate the link between the real foreign exchange value of the dollar and real interest rates since 1979. We argue that it is important to consider the possibility that real exchange rate movements reflect movements of the long-run equilibrium exchange rate as well as real interest differentials. We use a state-space approach to estimate the importance of shifts in the long-run equilibrium exchange rate, the persistence of the ex ante short-term real interest differential, and the effect of this differential on the exchange rate. Using U.S., Canadian, British, German and Japanese data from October 1979 to March 1986, we find that movements in the dollar real exchange rate have been dominated by unanticipated shifts in the expected long-run real exchange rate. Ex ante real interest differentials have not been persistent or variable enough to account for a major part of exchange rate variation. We use Mussa's (1984) rational expectations model of the real exchange rate and the current account to interpret our results.
|Date of creation:||1987|
|Publication status:||Published in Carnegie-Rochester Conference Series on Public Policy|
|Contact details of provider:|| Postal: Littauer Center, Cambridge, MA 02138|
Web page: http://www.economics.harvard.edu/
More information through EDIRC
References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Hamilton, James D, 1985. "Uncovering Financial Market Expectations of Inflation," Journal of Political Economy, University of Chicago Press, vol. 93(6), pages 1224-1241, December.
- Robert E. Cumby & Maurice Obstfeld, 1984.
"International Interest Rate and Price Level Linkages under Flexible Exchange Rates: A Review of Recent Evidence,"
in: Exchange Rate Theory and Practice, pages 121-152
National Bureau of Economic Research, Inc.
- Robert E. Cumby & Maurice Obstfeld, 1982. "International Interest-Rate and Price-Level Linkages Under Flexible Exchange Rates: A Review of Recent Evidence," NBER Working Papers 0921, National Bureau of Economic Research, Inc.
- Jeffrey Sachs, 1985. "The Dollar and the Policy Mix: 1985," NBER Working Papers 1636, National Bureau of Economic Research, Inc.
- Shiller, Robert J. & Huston McCulloch, J., 1990. "The term structure of interest rates," Handbook of Monetary Economics, in: B. M. Friedman & F. H. Hahn (ed.), Handbook of Monetary Economics, edition 1, volume 1, chapter 13, pages 627-722 Elsevier.
- Robert J. Shiller & J. Huston McCulloch, 1987. "The Term Structure of Interest Rates," NBER Working Papers 2341, National Bureau of Economic Research, Inc.
- Fama, Eugene F. & Gibbons, Michael R., 1982. "Inflation, real returns and capital investment," Journal of Monetary Economics, Elsevier, vol. 9(3), pages 297-323.
- 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.
- Dornbusch, Rudiger, 1976. "Expectations and Exchange Rate Dynamics," Journal of Political Economy, University of Chicago Press, vol. 84(6), pages 1161-1176, December.
- Olivier J. Blanchard & Lawrence H. Summers, 1984. "Perspectives on High World Real Interest Rates," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 15(2), pages 273-334.
- Frenkel, Jacob A. & Mussa, Michael L., 1985. "Asset markets, exchange rates and the balance of payments," Handbook of International Economics, in: R. W. Jones & P. B. Kenen (ed.), Handbook of International Economics, edition 1, volume 2, chapter 14, pages 679-747 Elsevier.
- Jacob A. Frenkel & Michael L. Mussa, 1984. "Asset Markets, Exchange Rates and the Balance of Payments," NBER Working Papers 1287, National Bureau of Economic Research, Inc.
- Mussa, Michael, 1986. "Nominal exchange rate regimes and the behavior of real exchange rates: Evidence and implications," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 25(1), pages 117-214, January.
- Fama, Eugene F., 1984. "Forward and spot exchange rates," Journal of Monetary Economics, Elsevier, vol. 14(3), pages 319-338, November.
- William H. Branson, 1985. "Causes of appreciation and volatility of the dollar," Proceedings - Economic Policy Symposium - Jackson Hole, Federal Reserve Bank of Kansas City, pages 33-63.
- Jeffrey A. Frankel, 1985. "The Dazzling Dollar," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 16(1), pages 199-217. Full references (including those not matched with items on IDEAS)
When requesting a correction, please mention this item's handle: RePEc:hrv:faseco:3221495. See general information about how to correct material in RePEc.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Office for Scholarly Communication)
If references are entirely missing, you can add them using this form.