Monetary Fundamentals and Exchange Rate Dynamics Under Different Nominal Regimes

39 Pages Posted: 10 Sep 2003

See all articles by Lucio Sarno

Lucio Sarno

City University London - Sir John Cass Business School; Centre for Economic Policy Research (CEPR)

Giorgio Valente

Hong Kong Institute for Monetary and Financial Research (HKIMR)

Mark E. Wohar

University of Nebraska at Omaha

Date Written: July 2003

Abstract

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.

Keywords: Foreign exchange, monetary fundamentals, non-linearity, regime switching

JEL Classification: F31

Suggested Citation

Sarno, Lucio and Valente, Giorgio and Wohar, Mark E., Monetary Fundamentals and Exchange Rate Dynamics Under Different Nominal Regimes (July 2003). CEPR Discussion Paper No. 3983. Available at SSRN: https://ssrn.com/abstract=442722

Lucio Sarno (Contact Author)

City University London - Sir John Cass Business School ( email )

106 Bunhill Row
London, EC1Y 8TZ
United Kingdom

Centre for Economic Policy Research (CEPR)

London
United Kingdom

Giorgio Valente

Hong Kong Institute for Monetary and Financial Research (HKIMR) ( email )

One Pacific Place, 10th Floor
88 Queensway
Hong Kong
China

Mark E. Wohar

University of Nebraska at Omaha ( email )

Department of Economics
6708 Pine Street MH 332S
Omaha, NE 68182
United States
402-554-3712 (Phone)
402-554-2853 (Fax)

HOME PAGE: http://cba.unomaha.edu/faculty/mwohar/WEB/homepage.html

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