Exchange rates,and fundamental variables: a semi-parametric analysis of binary choice

This study is motivated by the dearth of models that provide good out-of-sample fit for exchange rates. That is, current models of exchange rate behaviour are poor predictors of subsequent currency movements. An attempt is made to determine if the relationship between exchange rates and fundamental variables can help explain the more extreme exchange rate movements (distributional switches). Models are developed that relate fundamental economic variables to the resulting estimates based on the mixture of normal probability distributions. Parametric estimation procedures (Logit and Probit) are compared with a semi-parametric technique, maximum score estimation (MSCORE), which is relatively untested in the field of finance. The fundamental variables of these models include information on trade balances, money supply changes, interest rate changes, real economic growth, relative inflation rates and changes in stock market indexes. Classification results favour MSCORE. Implications of results and improvements in methodology are discussed.     

European monetary union, adjustment, and exchange rate variability

This paper uses a three-country, three-good, factor-specific model of trade with wage rigidities to investigate how European Monetary Union is likely to affect exchange rate variability. Focusing on international macroeconomic adjustment under both exogenous and optimizing monetary policies, it shows that the relative variability (against external currencies) of the euro and a basket of predecessor currencies depends on the relative sizes and specialization patterns of countries and the relative importance of different shocks. Monetary union is likely to decrease (increase) aggregate European exchange rate variability for shocks to industries in which large (small) euro area countries specialize.     

Export and import composition as determinants of bilateral trade in goods: evidence from Russia

Conventional theory and several empirical studies state that incomes and exchange rates are the key determinants of the trade balance. Here, we argue that export and import composition are also key explanatory variables because some goods are inelastic and/or with a high added value, directly and indirectly affecting income and price elasticities and trade balance. Thus, if exports and/or imports significantly consist of price inelastic products, then, a positive and a negative effect, respectively, should be expected on the trade balance. Using bilateral trade data and dynamic panel models, we found that the ratio of exports of crude petroleum and natural gas (price inelastic goods) to total exports is significantly and positively associated with the Russian trade balance in goods. For its part, Russian imports of high-tech goods (income elastic and price inelastic with a high added value) show a negative association. The goods balance of Russia also responded to changes in relative income, but there is only weak evidence of reactions to changes in the exchange rate. These findings partially explain the persistent surplus in the Russian trade balance and current account.     

Trade flows,relative prices,and effective exchange rates: a VAR on Ethiopian data

The dynamic response of trade flows to price and effective exchange rate changes is examined via VAR using quarerly data from Ethiopia for the period 1973(i)–1985(iv). The results show one-way Granger-causality running from prices and exchange rates to imports and exports without significant feedback. Imports and exports exhibit similar response patterns to unexpected changes in relative prices and exchange rates. The responses of imports and exports are larger and the adjustment takes longer when relative prices rather than exchange rates caused a change in international prices. In the long-run, changes in prices account for a larger percentage of the forecast error variances in imports and exports than exchange rate changes. It is shown that devaluation may have an initial adverse effect on the trade balance.     

中美贸易不平衡中的东亚转移效应

本文构建了一个理论框架研究中美贸易不平衡中的东亚转移效应以及东亚转移效应在不同技术分类下的不同表现。在理论分析的基础上,选取中国对东亚的投资开放度和加权实际汇率两个指标来度量东亚转移效应,并进行回归分析。实证结果发现:东亚转移效应是中美贸易顺差扩大的重要因素;东亚转移效应显著存在于高技术和中技术产品上,低技术产品和初级产品则不存在显著的东亚转移效应;高技术产品上的东亚转移效应要明显大于中技术产品;人民币对美元升值有助于减少中、低技术产品顺差,但对高技术产品顺差几乎没有影响。为有效缓解中美贸易不平衡,中国须审慎对待人民币升值,稳步、有序地推进汇率制度改革,鼓励企业海外投资,加快产业结构升级,并坚持走出口多元化道路。     

Terms of trade and the exchange rates of New Zealand and Australia

Effects of the terms of trade on the bilateral exchange rate of New Zealand and Australia and of each of these countries with the USA are evaluated. There is strong evidence of cointegration of the exchange rates and a ration of the respective national price levels when the relative terms of trade of the countries are included in dynamic models. While evidence that the long-run equilibrium relationships satisfy purchasing power parity is mixed, relative improvement of a country's terms of trade results in real appreciation of its currency in all cases. The terms of trade are also found to be exogenous for the parameters of the long-run New Zealand–Australia exchange-rate equilibrium.     

What Determines Real Exchange Rates? The Nordic Countries

The model derived in this paper yields testable implications concerning the long‐run co‐movements of real exchange rates, relative labor productivity, the trade balance and terms of trade. Countries with relatively higher output growth, trade deficits or improved terms of trade are found to have more appreciated real exchange rates, with the main channel of transmission working through the relative price of nontraded goods. Exogenous terms‐of‐trade shocks are found to be the most important determinant of long‐run movements in the real exchange rate for Denmark and Norway, while demand shocks account for most of the long‐run variance in the real exchange rate for Finland and Sweden.     

ASIAN FINANCIAL CRISIS AND KOREAN TRADE DYNAMICS

Since the Asian financial crisis in 1997, Korean international trade has gone up substantially in both volume and trade balances. The improvement is largely due to an expansion of international markets through various bilateral trade agreements and the structural changes in Korean exchange rates. This article investigates the exchange rate–trade balance dynamics, popularly known as the J‐Curve phenomenon. Employing the bounds‐testing approach to cointegration and error‐correction modeling on Korean bilateral trade for the pre‐ and post‐Asian crisis periods, the study finds that support for the strict version of the J‐Curves has been fading after the crisis. While the weaker version of J‐Curve is generally supported in both pre‐ and post‐crisis sample periods, we also notice patterns such as M, N, or W‐Curves. There exists a long‐run relationship among the Korean exchange rates, domestic income, foreign income, and Korean trading balances. (JEL F14, F32)     

Real Exchange Rate Variability: An Empirical Analysis of the Developing Countries Case

The purpose of this paper is to investigate the potential role of monetary and real factors in explaining real exchange rate variability in developing countries. For this purpose two indexes of real effective exchange rate variability that measure short-term and long-term variability were constructed for 30 countries. The results obtained, using a generalized least squares procedures on cross section data, indicate that real exchange rate variability has been affected both by real and monetary factors. In particular it was found that more unstable nominal exchange rate policies were reflected in higher real exchange rate instability in the short-run; more unstable domestic credit policies resulted in higher short-term real exchange rate variability; and more unstable external terms of trade also affected positively the degree of real exchange rate instability. [420]     

The Malaysian Real Trade Balance and the Real Exchange Rate

The cointegration technique is used to examine the long‐run and short‐run relationships between the real Malaysian trade balance with the real exchange rate, domestic and world incomes. The results suggest that a real ringgit exchange rate depreciation improves the trade balance in the long run. World and domestic incomes are also found to be important determinants of trade balance. The significance of world income on trade balance indicates that Malaysia is prone to external shocks. An error‐correction model is then estimated to study the short‐run dynamics of the effects of exchange rate. The impulse response analysis shows that the effect of exchange rate on the trade balance lasts for about three years. A devaluation of ringgit will initially improve the trade balance, albeit small, after which the trade balance starts to deteriorate, and then improves again suggesting that there exists a delayed J‐curve.     

Nexus between economic sanctions and inflation: a case study in Iran

Conventional studies have applied dummy variables to analyse the relationship between economic sanctions and inflation while we construct an index which is called Trade-Financial Sanctions (TF index). TF Index is a liner combination of indices which includes trade openness and foreign investment by applying the principal component model. Through the TF index and market exchange rate the impact of economic sanctions on inflation is analysed in the three phases of sanctions; free sanctions, heavy sanctions, and light sanctions. The results illustrate that the TF index decreases inflation when the Iran’s economy experiences free sanctions or light sanctions relative to when the economy is in heavy sanctions. Heavy sanctions create instability in the market exchange rates and widening the gap between the market and the official exchange rates. Furthermore, economic sanctions increase expected inflation among the people and drive higher inflation. Therefore, these results suggest that the government should work more seriously to solve the main obstacles of trade and investment inflows imposed by the economic sanctions.     

Cross‐country Relative Price Volatility: Effects of Market Structure*

Using annual data on nine manufacturing sectors of 18 OECD countries, the article studies the implications of market structure for cross‐country relative price variability. It is found that, in accordance with predictions from a standard markup pricing model, reductions in market competition, along with increased nominal exchange rate volatility, are associated with greater variability of cross‐country relative prices. The market structure also has similar effects on components of cross‐country relative price variability. The empirical findings are robust to the inclusion of various control variables and alternative sample specifications.     

Flexible exchange rates as shock absorbers

In this paper we analyze empirically the effect of terms of trade shocks on economic performance under alternative exchange rate regimes. We are particularly interested in investigating whether terms of trade disturbances have a smaller effect on growth in countries with a flexible exchange rate arrangement. We also analyze whether negative and positive terms of trade shocks have asymmetric effects on growth, and whether the magnitude of these asymmetries depends on the exchange rate regime. We find evidence suggesting that terms of trade shocks get amplified in countries that have more rigid exchange rate regimes. We also find evidence of an asymmetric response to terms of trade shocks: the output response is larger for negative than for positive shocks. Finally, we find evidence supporting the view that, after controlling for other factors, countries with more flexible exchange rate regimes grow faster than countries with fixed exchange rates.     

Bond risk premia, macroeconomic fundamentals and the exchange rate

We propose a two-country no-arbitrage term-structure model to analyze the joint dynamics of bond yields, macroeconomic variables and the exchange rate. The model allows to understand how exogenous shocks to the exchange rate affect the yield curves, how bond yields co-move in different countries and how the exchange rate is influenced by interest rates, macro-economic variables and time-varying bond risk premia.Estimating the model with US and German data, we find that time-varying bond risk premia account for a significant portion of the variability of the exchange rate: apparently, a currency tends to appreciate when investors expect large capital gains on long-term bonds denominated in that currency. A number of other novel empirical findings emerge.     

Bond risk premia,macroeconomic fundamentals and the exchange rate

We propose a two-country no-arbitrage term-structure model to analyze the joint dynamics of bond yields, macroeconomic variables and the exchange rate. The model allows to understand how exogenous shocks to the exchange rate affect the yield curves, how bond yields co-move in different countries and how the exchange rate is influenced by interest rates, macro-economic variables and time-varying bond risk premia.Estimating the model with US and German data, we find that time-varying bond risk premia account for a significant portion of the variability of the exchange rate: apparently, a currency tends to appreciate when investors expect large capital gains on long-term bonds denominated in that currency. A number of other novel empirical findings emerge.     

Real exchange rates,asset prices and terms of trade: A theoretical analysis

This paper develops a continuous-time two-country dynamic equilibrium model, in which the real exchange rates, asset prices, and terms of trade are jointly determined in the presence of nontradable goods. The model determines the relation between the financial markets and real goods markets in the world economy and their responses to various shocks under the home bias assumption. A positive domestic supply shock induces a positive return on the domestic asset markets and a deterioration of terms of trade that improves the foreign output and boosts the foreign asset markets. Demand shocks act in the opposite way. This model also analyses the impact of change in the relative price of nontradable to tradable goods on the terms of trade and asset markets. A higher productivity growth in tradable goods than in nontradable goods leads to a higher relative price of nontradable to tradable goods, which appreciates the real exchange rate, deteriorates the terms of trade, and depresses the domestic and foreign asset markets. A lower relative price of nontradable goods depreciates the real exchange rate, improves the terms of trade, and lifts both the domestic and foreign asset markets.     

On the trade impact of nominal exchange rate volatility

What is the effect of nominal exchange rate variability on trade? I argue that the methods conventionally used to answer this perennial question are plagued by a variety of sources of systematic bias. I propose a novel approach that simultaneously addresses all of these biases, and present new estimates from a broad sample of countries from 1970 to 1997. The estimates indicate that nominal exchange rate variability has no significant impact on trade flows.     

Central bank intervention,the current account,and exchange rates

This paper seeks to explain exchange rate and current account or net foreign assets behavior under central bank foreign exchange rate intervention. To analyze central bank intervention we use the current account-net foreign assets identity, as well as the long-run monetary exchange rate model. The intervention function is one where exchange rate deviations from equilibrium are governed by nonlinear adjustments. That is, exchange rate deviations from their long-run equilibrium are such that the degree of reversion towards equilibrium increases with the size of the deviation from equilibrium. In this type of nonlinear function exchange rates determine the current account, and the current account in turn determines exchange rates. This iterative duality contrasts with several portfolio balance models where exchange rates are a function of trade, but trade is not a function of exchange rates. This two way causality is slightly more complex, but is also analytically richer than assuming that exchange rates change solely in a one step process as targeted by central banks. Managing exchange rates is posited to be an active iterative feedback process where intervention changes the current account, which may in turn make further intervention necessary.     

External wealth, the trade balance, and the real exchange rate

We examine the link between the net foreign asset position, the trade balance and the real exchange rate. In particular, we decompose the impact of a country's net foreign asset position (‘external wealth’) on its long-run real exchange rate into two mechanisms: the relation between external wealth and the trade balance; and, holding fixed other determinants, a negative relation between the trade balance and the real exchange rate. We also provide additional evidence that the relative price of nontradables is an important channel linking the trade balance and the real exchange rate.     

News sentiment and overshooting of exchange rates

In a globalized world, the volume of international trade is based on both import and export prices, thereby making a country’s economy highly dependent on exchange rates. In order to study exchange rate movements, one frequently exploits the so-called Dornbusch overshooting model. However, the model is controversial from a theoretical point of view: it explains exchange rate movements by a number of fundamental variables but ignores how novel information in the form of news can enter the market. As a remedy, this article adjusts for information dissemination by performing a multivariate analysis to compare the classical overshooting model with an extended variant that includes news sentiment. Our results show that news sentiment has a substantial explanatory power of 11% of the exchange rate forecasting error variance. In addition, we also find statistical evidence that a shock in news sentiment may lead to overshooting.