Assessing Interdependence Among Countries' Fundamentals and Its Implications for Exchange Rate Misalignment Estimates: An Empirical Exercise Based on GVAR

24 Pages Posted: 8 Dec 2013 Last revised: 11 Jul 2014

Emerson Fernandes Marçal

Sao Paulo School of Economics - FGV

Beatrice Zimmermann

Getulio Vargas Foundation (FGV), Sao Paulo School of Economics, Students

Diogo de Prince

Getulio Vargas Foundation (FGV) - Sao Paulo School of Economics

Giovanni Tondin Merlin

Getulio Vargas Foundation (FGV), Sao Paulo School of Economics, Students

Date Written: July 10, 2014

Abstract

Exchange rates are important macroeconomic prices and changes in these rates affect economic activity, prices, interest rates, and trade flows. Methodologies have been developed in empirical exchange rate misalignment studies to evaluate whether a real effective exchange is overvalued or undervalued. There is a vast body of literature on the determinants of long-term real exchange rates and on empirical strategies to implement the equilibrium norms obtained from the theoretical models. This study seeks to contribute to this literature by showing that the global vector autoregressions model (GVAR) proposed by Pesaran and co-authors can add relevant information to the literature on measuring exchange rate misalignment. Our empirical exercise suggests that the estimative exchange rate misalignment obtained from GVAR can be quite different to that using the traditional cointegrated time series techniques, which treat countries as detached entities. The differences between the two approaches are more pronounced for small and developing countries. Our results also suggest a strong interdependence among eurozone countries, as expected.

Suggested Citation

Marçal, Emerson Fernandes and Zimmermann, Beatrice and de Prince, Diogo and Merlin, Giovanni Tondin, Assessing Interdependence Among Countries' Fundamentals and Its Implications for Exchange Rate Misalignment Estimates: An Empirical Exercise Based on GVAR (July 10, 2014). Available at SSRN: https://ssrn.com/abstract=2364508 or http://dx.doi.org/10.2139/ssrn.2364508

Emerson Fernandes Marçal (Contact Author)

Sao Paulo School of Economics - FGV ( email )

Rua Itapeva 286 10 andar
São Paulo, São Paulo 01332-000
Brazil
551137993382 (Phone)

HOME PAGE: http://cemap.fgv.br/en/emerson-marcal-en

Beatrice Zimmermann

Getulio Vargas Foundation (FGV), Sao Paulo School of Economics, Students ( email )

Rua Itapeva 474 s.1202
São Paulo
Brazil

Diogo De Prince

Getulio Vargas Foundation (FGV) - Sao Paulo School of Economics ( email )

Brazil

Giovanni Tondin Merlin

Getulio Vargas Foundation (FGV), Sao Paulo School of Economics, Students ( email )

Rua Itapeva 474 s.1202
São Paulo
Brazil

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