A look at exchange rate and monetary policy in Malawi
A LOOK AT EXCHANGE RATE AND MONETARY POLICY IN MALAWI* Prepared by K Simwaka Research & Statistics Department Reserve Bank of Malawi Abstract The paper assesses whether the exchange rate is affected by monetary policy and whether these effects are permanent or transitory. The paper takes the position that monetary policy is very crucial to exchange rate management. A real effective exchange rate model is estimated to generate real effective exchange rate misalignment. Causality tests are performed between several measures of monetary shocks (consistent with other empirical works) and the real effective exchange rate misalignment. The results show that excess money supply predict real effective exchange rate misalignment with no feedback effects. In the second stage, a model of nominal exchange rate is estimated. Since we find co-integration, the model is estimated with first difference of the non-stationary variables, level variables and the co-integrating vector. Results indicate that nominal exchange rate over the period is determined by real income growth, rate of inflation, money supply growth and real effective exchange rate misalignment. The adjustment speed from the error correction term is consistent with a market-determined exchange rate responding to excess money supply. Keywords: Exchange Rate; Monetary Policy; Integration * The findings, interpretation and conclusions expressed in this paper are entirely those of the author. They don’t necessarily represent the views of the Reserve Bank of Malawi.
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