Oil currencies in the face of oil shocks: what can be learned from time-varying specifications?

While the oil currency property is clearly established from a theoretical viewpoint, its existence is less clear-cut in the empirical literature. We investigate the reasons for this apparent puzzle by studying the time-varying nature of the relationship between real effective exchange rates of five oil exporters and the real price of oil in the aftermath of the oil price shocks of the last two decades. Accordingly, we rely on a time-varying parameter VAR specification, which allows the responses of real exchange rates to different oil price shocks to evolve over time. We find that the reason of the mixed results obtained in the empirical literature is that oil currencies follow different hybrid models in the sense that oil countries’ real exchange rates may be driven by one or several sources of oil price shocks that furthermore can vary over time. In addition to structural changes affecting oil countries, structural changes arising from the oil market itself through the various, time-varying sources of oil price shocks are found to be crucial.     

Exchange rates of oil exporting countries and global oil price shocks: a nonlinear smooth-transition approach

This paper models logistic and exponential smooth transition adjustments of real exchange rates for six major oil-exporting countries in response to different shocks affecting oil prices. The logistic form captures asymmetric and the exponential form symmetric adjustments in regards to positive and negative oil price shocks. We chose oil-exporting countries that do not peg their exchange rates. For most countries, we detect no statistically significant non-linearities for the adjustment process of real exchange rate returns, be they asymmetric or symmetric, in response to oil supply shocks, idiosyncratic oil-market-specific shocks, and speculative oil-market shocks. Exceptions are oil supply shocks in the UK and possibly Brazil, where exchange rates respond nonlinearly, though the effects are symmetric for both countries. On the other hand, global aggregate demand shocks, which are shocks not originating directly in the oil market, have nonlinear asymmetric effects on real exchange rate returns for Canada, Mexico, Norway and Russia, and nonlinear symmetric effects for Brazil and the UK.     

Responses of Economic Activity to Global Oil Market Shocks: A Comparative Analysis of Major Net Oil‐Producing and ‐Consuming Countries

We argue that four channels drive oil price shocks during 1986M5–2013M1, namely the oil supply, aggregate demand, oil‐specific demand and real exchange rates. Our findings are that oil price shocks driven by oil supply positively affect net oil‐consumer countries faster than net oil‐producer countries. Oil price shocks driven by aggregate demand are largely country‐specific. Oil shocks driven by other demands influence net oil‐producers faster than net oil‐consumers negatively, and persistently mostly among net oil‐producers. Other shocks have large negative effects on the industrial production of all countries, with responses appearing very quickly and persisting for at least a year.     

PPP in the medium run: The case of Norway

Existing studies generally reject purchasing power parity (PPP) on data sets from countries that have been affected by large real shocks, including Norway. However, we offer strong evidence of PPP between Norway and its trading partners during the post-Bretton Woods period, in which the Norwegian economy has experienced numerous real shocks such as discoveries of large petroleum reserves and oil price shocks. In particular, the behavior of the Norwegian real and nominal exchange rates appears remarkably consistent with the PPP theory. Moreover, convergence towards PPP is relatively rapid; the half-life of a deviation from parity is just about 1.5 years. We show that such deviations are primarily eliminated by adjustments in the nominal exchange rate and we offer some explanations for the relatively rapid convergence towards PPP.     

Real exchange rate dynamics in sticky wage models

We investigate the role of sticky wages in accounting for real exchange rate dynamics. Unlike the sticky price economy, government spending shocks play a more important role than technology shocks in explaining the hump-shaped impulse responses of real exchange rates.     

Asymmetric responses of money demand to oil price shocks in Saudi Arabia: a non-linear ARDL approach

Saudi Arabia is an open oil-based economy with fixed exchange rates; therefore, it has limited monetary policy autonomy. Using non-linear autoregressive distributed lag approach, this article investigates the asymmetric effects of oil price shocks on the demand of money in Saudi Arabia over the period 1990:Q1–2014:Q4. The empirical results show evidence of positive long run but asymmetric effects of oil price shocks on the money demand. In particular, we find that the positive oil price shocks are more important than negative shocks. Therefore, two policy responses can be considered: either sustaining the fixed exchange rate regime and following an economic diversification policy or switching towards a flexible exchange rate regime to achieve price stability. In that case, the existence of a stable money demand function in Saudi Arabia is a necessary precondition for adopting a monetary policy strategy targeted to price stability using instruments like money targeting.     

Oil Prices, Terms of Trade Shocks, and Macroeconomic Fluctuations in Saudi Arabia

The article investigates the sources of macroeconomic fluctuations in Saudi Arabia using structural vector autoregression methods and pays particular attention to oil prices and changes in terms of trade. Using a macroeconomic model tailored to the Saudi Arabian economy, the authors identify terms of trade, supply, balance of payments, aggregate demand, and monetary shocks. The results show that the Saudi Arabian price level, real exchange rate, and to a lesser extent output is vulnerable to terms of trade shocks. Moreover, Saudi Arabian terms of trade are driven by output, trade balance, and aggregate demand shocks. To stabilize output and the real exchange rate, Saudi Arabia ought to continue diversifying its production base and aim for a stable nominal oil price. (JEL E32 , Q43 , C22 )     

A Test of Long-run Purchasing Power Parity Allowing for Structural Breaks*

If exchange rates and prices are integrated processes, standard econometric tests of the purchasing power parity (PPP) hypothesis may be biased towards rejection. This paper avoids this problem by using the Engle and Granger (1987) theory of cointegrated processes. If the absolute version of purchasing power parity is true, and nominal exchange rates and prices are integrated processes, inter-commodity arbitrage should ensure that the real exchange rate is stationary. The stationarity hypothesis is tested using Australian real exchange rate data for the 1890–1984 period We find that the effective real exchange rate cannot be modelled as a stationary process and therefore reject the absolute version of PPP. We also employ a test for structural breaks due to, for instance, the oil price shock and find mixed results. Another interpretation of our results is that the real exchange rate was affected by a series of permanent, real shocks during the sample period     

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.     

Impact of oil price shocks on output,inflation and the real exchange rate: evidence from selected ASEAN countries

This article analyses the impact of oil price shocks on real output, inflation and the real exchange rate in Thailand, Malaysia, Singapore, the Philippines and Indonesia (ASEAN-5) using a Structural VAR model. The cointegration tests indicate that the macroeconomic variables of these countries are cointegrated and share common trends in the long run. The impulse response functions reveal that oil price fluctuations do not impact the ASEAN-5 economies in the long run and much of its effect is absorbed within five to six quarters. The variance decomposition results further assert that with a few exceptions oil price shocks do not explain a significant variation in any of the variables under consideration. We also identify a very unique pattern of response to oil price fluctuations between Malaysia and Singapore and between the Philippines and Thailand. The pairs exhibit a high degree of similarity in their responses; they do not share any commonalities across the group.     

Insulation properties of separating exchange markets

Insulation properties play an important role for countries in favour of separating rates for separating transactions. Such properties insulate the open economy from monetary and real shocks, of domestic and foreign origins. Through theoretical and numerical analyses, we find that in a unified flexible exchange rate system, portfolio holders' expectations drive the price adjustment, leading to expectations of exchange rate changes. In separating exchange markets, the financial rate reflects the instability of portfolio holders' expectations and capital flows; however, the real exchange rate and hence the macroeconomy is stable. Uncertainty of shocks ceases to affect the real sector of the economy.     

Structural oil price shocks and policy uncertainty

Increases in the real price of oil not explained by changes in global oil production or by global real demand for commodities are associated with significant increases in economic policy uncertainty and its four components (the volume of newspaper coverage of policy uncertainty, CPI forecast interquartile range, tax legislation expiration, and federal expenditures forecast interquartile range). Oil-market specific demand shocks account for 31% of conditional variation in economic policy uncertainty and 22.9% of conditional variation in CPI forecast interquartile range after 24 months. Positive oil shocks due to global real aggregate demand for commodities significantly reduce economic policy uncertainty. Structural oil price shocks appear to have long-term consequences for economic policy uncertainty, and to the extent that the latter has impact on real activity the policy connection provides an additional channel by which oil price shocks have influence on the economy. As a robustness check, structural oil price shocks are significantly associated with economic policy uncertainty in Europe and energy-exporting Canada.     

Do sticky prices increase real exchange rate volatility at the sector level?

We introduce the real exchange rate volatility curve as a useful device to understand the relationship between price stickiness and the fluctuations in Law of One Price deviations. In the presence of both nominal and real shocks, the theory predicts that the real exchange rate volatility curve is a U-shaped function of the degree of price stickiness. Using sector-level US–European real exchange rate data and frequency of price changes, we estimate the volatility curve and find the predominance of real effects over nominal effects. Good-by-good variance decompositions show that the relative contribution of nominal shocks is smaller at the sector level than what previous studies have found at the aggregate level, consistent with significant averaging out of good-specific real microeconomic shocks.     

Fractionalization and long-run economic growth: webs and direction of association between the economic and the social -- South Africa as a time series case study

In this paper it is considered that the relationship between nominal exchange rate and prices depends on the nature of the shocks impacting the economy. In order to identify the sources of nominal exchange rate and relative price fluctuations we impose long-run restrictions on the dynamics of these variables through a 2-variable and 3-variable SVAR, respectively. This methodology is applied to data on the Spanish economy and find that supply and real demand shocks move nominal exchange rates and relative prices in opposite directions. Nominal shocks, however, move both variables in the same direction. Thus, in this case, only under nominal shocks may exchange rate depreciations fuel inflation.     

International macroeconomic interdependence and imports of oil in a small open economy

To the extent that oil imports may be relevant to the international dimension of policy, we study the transmission of shocks to open economies dependent on oil within a NOEM framework through a DSGE model of a small open economy with flexible prices, staggered price setting and local currency pricing. For this purpose we introduce imports of oil as a new intermediate good needed to produce the final good and, apart from the usual exogenous shocks when a small open economy is being modeled, we consider an uncovered interest-rate parity shock, a technology shock and an oil price shock. A second-order accurate solution method is used to solve numerically a calibrated model for Portugal and Spain and the simulation results are compared with historical data, showing similar volatilities and expected dynamic responses to exogenous shocks. The model is computed with an optimized Taylor-style interest rate rule that includes real exchange targeting, thus arguing in favour of an international dimension of monetary policy.     

THE IMPACT OF OIL PRICE SHOCKS ON THE U.S. STOCK MARKET*

It is shown that the reaction of U.S. real stock returns to an oil price shock differs greatly depending on whether the change in the price of oil is driven by demand or supply shocks in the oil market. The demand and supply shocks driving the global crude oil market jointly account for 22% of the long‐run variation in U.S. real stock returns. The responses of industry‐specific U.S. stock returns to demand and supply shocks in the crude oil market are consistent with accounts of the transmission of oil price shocks that emphasize the reduction in domestic final demand.     

Liquidity and crude oil prices: China's influence over 1996–2011

Movement in China's money supply is shown to drive the movement in world money supply over the last fifteen years. Structural shocks to G3 (U.S., Eurozone and Japan) real M2 and to China's real M2 are both large over 1996:1–2011:12. The cumulative impact of real G3 M2 shocks on real oil prices is small and statistically insignificant. In contrast, the cumulative impact of China's real M2 on the real price of crude oil is large and statistically significant. Following a sharp fall in real oil price in the last half of 2008, the cumulative impact of China's real M2 on the real price of crude oil is particularly substantial in the recovery of oil price during 2009 from a low of $41.68 for January 2009. The analysis sheds light on the causes of movement in oil prices over the last fifteen years and in assessing the relative importance of China in the upsurge of the real price of crude oil.     

Exchange rate,price, and output inter-relationships in Ghana: evidence from vector autoregressions

This paper explores the dynamic inter-relationships among the currency exchange rate, consumer price inflation, and real output growth, as well as the roles of money and interest rates in output and price determination. Time series data and vector autoregression models are used. Results suggest that there are significant inter-relationships between the exchange rate and inflation, monetary shocks matter only when explaining money itself and the price level, and interest rate-dependent monetary policies in the absence of financial modernization are ineffective     

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.     

DELAYED OVERSHOOTING AND REAL EXCHANGE RATE PERSISTENCE IN AN IMPERFECT INFORMATION MODEL

Recent studies have pointed out that monetary shocks in sticky price models cannot generate real exchange rates that exhibit delayed overshooting and are highly persistent. This paper demonstrates that such exchange rate dynamics can be generated by incorporating incomplete information about the true nature of the monetary shock into a standard New Keynesian model of a small open economy.