Monetary Fundamentals and Exchange Rate Dynamics under Different Nominal Regimes
City University London - Sir John Cass Business School; Centre for Economic Policy Research (CEPR)
City University of Hong Kong (CityUHK) - Department of Economics & Finance
Mark E. Wohar
University of Nebraska at Omaha
CEPR Discussion Paper No. 3983
We investigate the dynamic relationship between the US dollar exchange rate and its fundamentals across different exchange rate regimes using data going back to the late 1800s or early 1900s for six industrialized countries. For these countries there is evidence of a long-run relation between the nominal exchange rate and monetary fundamentals consistent with conventional theories of exchange rate determination. We employ a Markov-switching vector equilibrium correction model that allows for regime shifts in the entire set of parameters and the variance-covariance matrix. Our results suggest that the relative importance of exchange rates and fundamentals in restoring the long-run equilibrium level implied by the exchange rate-monetary fundamentals model varies significantly over time and is affected by the nominal exchange rate regime in operation.
Number of Pages in PDF File: 39
Keywords: Foreign exchange, monetary fundamentals, non-linearity, regime switching
JEL Classification: F31working papers series
Date posted: September 10, 2003
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